Foot Locker Inc (FL) 2003 Q2 法說會逐字稿

Good morning and welcome to the Foot Locker Inc. second quarter 2003 earnings release conference call.

At this time all participants are in a listen-only mode.

Later we will conduct a question and answer session.

At the request of Foot Locker, this conference is being recorded.

If there are any objections, please disconnect at this time.

This conference may contain forward-looking statements that reflect management current views of future events and financial performance.

These forward-looking statements are based on assumptions and factors including effects of currency fluctuations, consumer performance and economic conditions worldwide and risks and uncertainties described in company's press release and SEC filings.

Any changes in such assumptions and factors could present significantly different results.

If you haven't received today's release it is available on the Internet at www.prnewswire.com or www footlockerinc.com.

I would like to turn the call over to Peter Brown, VP, Treasurer, & Director of Investor Relations.

Mr. Brown you may begin.

Good morning, welcome to our second quarter conference call.

We are pleased to report to you today that we earned 25 cents per share from continuing operations for the second quarter of 2003.

During the call we will discuss our reported results from continuing operations on a GAAP basis.

In keeping with our normal process, Bruce Hartman, our EVP and CFO, will begin the call with a discussion of our second quarter financial results.

Matt Serra, our President and CEO, will follow with a business review and provide an update on our strategic priorities.

After our prepared remarks, we will answer your questions.

Several of the key highlights of the second quarter are as follows.

Income from continuing operations increased to $37 million from $33 million last year.

Earnings per share increased 14% to 25 cents per share from 22 cents last year.

Total company sales increased 3.5%.

Our gross margin rate increased 70 basis points and debt net of cash declined by $63 million from the same period last year.

We continue to be optimistic in our ability to grow earnings per share for the balance of this year and into 2004.

We currently expect our third quarter earnings to be in line with analysts' earnings estimates of 31 to 33 cents per share.

I will now turn the call over to Bruce Hartman and he will review these highlights in greater detail.

Good morning.

Once again, our entire organization contributed to generating a healthy earnings improvement versus a comparable period of the prior year.

As most of you know under the current management team, our company has developed a very consistent track record of generating quarter over quarter earnings growth.

The second quarter continued to be filled with external challenges including weak consumer confidence and subdued retail spending.

We are beginning to see some signs, however, that lead us to believe that the worst is over in terms of weak consumer confidence and that a recovery may finally be underway.

We believe that the child credit, the child credit tax rebate checks and lower withholding rates on income are helping to spur increased consumer spending.

In fact, we have seen a significant pickup in our United States sales trend beginning in late July that has continued in August.

Therefore, we are more encouraged that we will have the successful back to school period with some wind in our sails as we enter the December holiday season.

Therefore, as Peter already mentioned, we currently expect our earnings to be within the range of current analysts' estimates for the third quarter of 2003.

As reported two weeks ago, our second quarter sales increased 3.5%, reflecting the benefits of our more productive store base as the stores that we have opened are generating sales well in excess of the stores that we are closing.

Sales also benefited from the strengthening of foreign exchange rates and the international markets where we continue to expand.

The most exciting component of our real estate strategy is the aggressive opening of new stores in Europe, where we continue to enjoy our highest sales per square foot and operating profit margins.

Foot Locker in Europe continues to grow in terms of both size and sales and now constitutes a very meaningful percentage of our overall profits.

In turn, this helps drive the overall returns of our total company.

We ended the second quarter with almost 400 stores in this market.

We're also benefiting from the strengthening of the foreign exchange rates as the sales and profits of international businesses are translated into U.S. dollars at a higher rate than last year.

We expect this to continue, we expect to continue to benefit from this trend for the balance of 2003.

In the United States, our direct to customer business achieved sales of $73 million and operating profit of $8 million or 11% of sales during the second quarter.

This business continues to lead our domestic sales and profit growth being propelled by the very strong performance of our Internet channels.

By division, our second quarter comparable sales gains breaks out as follows:

Our U.S.

Foot Locker business including Foot Locker U.S.

Kids and Lady reflected a high single digit decline.

Comp store sales declined low single digits.

During the past three weeks we have seen a very positive shift in our sales trend in each of our U.S. store divisions.

Foot Locker in Europe produced a mid single digit increase and Footlocker.com also had a mid single digit increase, again driven by our highly profitable Internet channel.

Our adjusted gross margin rate improved by 70 basis points during the second quarter, reflecting a higher rate on our product margins.

We continue to benefit from better merchandise purchasing while running fewer promotion days versus last year.

Our merchants continue to do an excellent job in selecting the most fashion-right products and demonstrate why we believe that they are the best in the athletic retail industry.

We also continue to aggressively work on several real estate initiatives during the second quarter.

To date in 2003, we have completed 365 real estate transactions resulting in a 8.3% improvement in annualized penalty costs for those stores.

These savings help maintain our gross margin rate during the second quarter and we expect it will enhance our rate going forward as comp store sales are now returning to positive trends.

Our inventory levels at the end of the second quarter were 6.9% above last year.

This inventory increased primarily reflects the stronger foreign exchange rates in Europe, Canada and Australia and higher inventory levels, primarily in Europe to support our planned third quarter store opening program.

Inventory excluding the impact of foreign exchange rate changes, was 4.7% higher than last year at the end of the second quarter, and adequate to drive sales for the back to school period.

Additionally, our inventory remains well within our region standards.

Our second quarter SG&A expense rate increased by 40 basis points versus last year.

Comparable SG&A expenses adjusted for foreign exchange was significantly below plan and below last year.

As you can see, we are continuing the process of structural transforming our company by lowering our expense through a more efficient infrastructure.

This allowed our company to better compete in this more competitive marketplace and to continual grow our earnings in the current weak consumer environment.

We are accomplishing this transition to a more efficient structure through a lot of hard work and participation from all levels of our organization.

Our associates have enthusiastically embraced this objective and continue to develop many innovative initiatives.

Interest expense for the second quarter declined by $3 million from last year and as we mentioned on last quarter's conference call, our declining interest rate reflects our improved cash position, the retirement of $39 million of long-term debt, and the benefits of interest rates swaps related to $100 million of the company's 8 1/2% bonds.

These swaps affectively convert the 8 1/2% coupon into a floating rate instrument based on the Libor index.

On July 30th, we amended our revolving credit agreement with our bank group providing a lower pricing structure, increased covenant flexibility and extended the maturity date to July 2006 This credit facility was also increased by $10 to $200 million.

While we have not borrowed under this facility during the past two years, we believe it is prudent to maintain the agreement as an additional source of liquidity.

We also believe that maintaining an adequate credit facility with strong financial institutions is an important ingredient in regaining our investment-grade credit status.

You will note from our income statement and continuing operations we recorded a $1 million reconstruction charge related to a disposed business during the second quarter, versus a $1 million credit that was recorded last year.

Additionally, last year we had $3 million of other income related to real estate transactions.

In regards to our tax rate, the lower rate versus last year reflects a shift in business from our domestic operations to foreign operations, as well as some state tax planning that we engaged in the second quarter.

On a year-to-date basis our tax rate is 35% TY versus 34.2% LY.

Our financial position continued to strengthen with our debt net cash, $63 million lower than at the end of the second quarter of last year.

As we previously discussed, our strengthened balance sheet puts us in a position to capitalize on several opportunities.

These opportunities may include purchasing some of our bonds, increasing our shareholder dividend, repurchasing our common stock, acquisitions or reinvesting additional capital in our business.

All of which we believe would add to shareholder value.

I will now turn the program over to Matt Serra.

Thanks, Bruce.

Good morning.

As Bruce commented, we're encouraged by our second quarter profit performance, especially given the continued weak retail environment in the United States.

We're very pleased that we were able to grow our earnings per share by 14% given our disappointing second quarter comp sales performance.

This profit increase reflects a modest overall top-line sales performance and improving gross margin rate and continued aggressive work on our expense structure.

By month, our sales declined mid single digits in both May and June followed by an improving trend in July, particularly late in the month.

This improving trend has continued into August with comp-store sales to date in the third quarter positive in all of our major divisions.

Geographically, our sales growth remains strongest in our international markets, particularly in Europe and Australia.

In the United States, our private label and licensed apparel sales continue to show very healthy sales increases.

The demand for high priced (inaudible) and replica NBA and NFL jerseys continues to gain momentum.

Footwear sales trends in the U.S. continue to be led by the classic category and cuts across most of our key suppliers.

For the third consecutive quarter, our average price points declined due to the high demand for these classic shoes, typically sell below $80.

Year-to-date Paris sales in our domestic stores are essentially flat with last year.

We expect that our quarter-over-quarter average price points will level off later this quarter as we anniversary against the current lower price fashion trend.

We continue to see a developing trend for brown colored sneakers, even above our previous expectations.

The back to school we have seen strong sell-throughs of these sneakers as our merchants continue to be ahead of our competition in regards to emerging fashion trends in the athletic marketplace.

We ended the second quarter with inventories current and well positioned for the current fashion trends.

Our current sales trend in the early back to school markets appears to justify our merchandising selections.

Our organization continued to do a commendable job with expense management led by Bruce's efforts developing many new initiatives that makes Foot Locker one of the most efficient businesses in the retail industry.

Overall, we're encouraged with our second quarter and spring season results and remain committed to continuing to grow our earnings for the balance of 2003 and beyond.

I would now like to provide with you some of the individual results from our business units.

Our U.S. results continue to be led by our footlocker.com, East Bay business, which produced another strong quarter led by our Internet channel.

This business continues to contribute a higher percentage of our company's sales and profits.

Direct to customer sales increased 5.8% during the second quarter with operating results increasing 33%.

For the first six months of 2003, this division is now generated $17 million of EBITDA reaching margin rate of 10.6%.

Champs generated the strongest results of our U.S. retail sale operations.

Champs largest stores allow us a wider selection of apparel offerings which performed very well during the quarter.

Comp-store sales in our Foot Locker divisions including Lady Foot Locker, Kids Foot Locker, declined high single digits for the second quarter.

Of these three formats, our Lady division produced the best performance.

Again, we're encouraged that sales in each division are now running low to mid single digit range during the month of August.

Our growth in Europe continued to be unabated during the second quarter.

Comp-store sales increased at the mid single digit level and most importantly, Foot Locker Europe's operating profit margins remain well into the double-digit level.

Foot Locker Europe's back to school sales continue to be very solid and we're very pleased with the job that's being done by our new management team over there.

We added a additional 20 stores during the spring season ending with 397 stores.

We plan to continue to aggressively expand in this market with an additional 34 stores scheduled to open before the holiday season.

Therefore, we expect to end 2003 with approximately 430 stores across 12 western European countries.

In total, our 2003 new store expansion program remains on schedule with approximately 115 new stores planned for the year.

Approximately one-half of the new Foot Locker stores are planned in Western Europe including our recent entrance into Portugal.

We're planning to enter Central Europe in 2004 with new stores in the Czech Republic and Hungary on the drawing board for 2004.

During the second quarter we also opened our first two stores in New Zealand.

We're currently planning to have 15 stores opened by the end of 2004, a market that is highly concentrated with a population totaling almost $4 million.

As we discussed during our March conference call, we're spending a higher percentage of our capital dollars this year and next to enhance the appearance of our U.S. store base through the extensive model program and relocation program.

These projects include remodeling Lady Foot Locker stores in addition to updating the entire chain with an enhanced visual presentation.

We also continue to right size certain stores that may be too large or too small.

We're not configured properly with the appropriate selling space.

As a result, total selling square footage is growing at a higher rate than our gross square footage.

We also plan to continue to close low-volume stores that lose money or expected future returns do not justify the required incremental capital investment.

In many cases, sales from these closed stores may transfer to another, one of our stores that may be located in the same mall.

We completed 156 major real estate projects during the second quarter 2003, opening 38 new stores while remodeling and relocating 118. 30 stores were closed during the quarter.

In total, we expect our total store count to remain substantially unchanged in 2003.

However, we expect that our store base will be far more efficient as we continue to open stores in market that's typically generate higher sales per square foot and close low volume stores.

We are improving efficiency of our store base which is visible through two financial measurements.

Total sales excluding impact of foreign exchange rates, our performed out comp store rate by 3.5% during the second quarter.

This is a continuation of the trend that has been expanding for several quarters.

Sales per foot continue to increase during 2002.

We achieved $316 per foot up from $306 the prior year.

We expect to achieve a similar increase again this year.

Our roll out of our new point of sales system to the Champs division continues on schedule with almost all stores now operational.

Foot Locker is scheduled for implementation in 2004.

We expect the system to significantly enhance our customer service and inventory management system to improve our in-stock positions.

As a reminder, this system was implemented in Foot Locker Europe in 2001 and has contributed to that business's continued success.

Overall, we're encouraged by our second quarter profit performance given that our comp-store sales have returned to positive trends.

We believe that we are well poised to continue to meaningfully grow our earnings for the balance of 2003.

Our inventory position is strong and we believe we have the right products on order for the fall season.

We expect that our current trends of classic and brown colored footwear as well as licensed apparel, would continue to be strong throughout the balance of 2003.

We continue to work with all of our key merchandise suppliers on new and innovative product offerings.

While our business with Nike has declined in the United States this year, we have recently had more encouraging discussions with them.

We hope it will lead to a stronger partnership to benefit both companies going forward.

Both organizations are working together to get back on track with the goal of over time getting Foot Locker again back into the Nike market business in the U.S.

We worked closely together and plan to launch a new Nike product line to be sold exclusively in the U.S. stores this Christmas.

This new collection is called 20-pack and includes new retro look styles that are very exciting dating back to 1984 with price points expected to be $80- to $100-.

This line will include basketball, running, cross-training categories in the footwear area.

We also continue to strengthen our assortment of the Jordan brand in the $100 price point range.

These styles include Jordan team Elite, Jordan Puro and Jordan team FBI.

Nike is also recently increased our allocation of Air force one beginning in the fourth quarter of this year.

In our 2002 10K, we estimated that Nike would represent between 32- and -38% of our total 2003 merchandise purchases.

With the recent adjustments to our product assortment, now appears that this will increase to fashionably 38- to -40% of our 2003 purchases.

We also continue to work very closely on many new merchandising issues with other key suppliers.

These include classics and retro looks from various suppliers such as K-Swiss, Adidas, Puma, Converse and Logs.

Additionally, we're very pleased with our relationship with Reebok and the way our business has grown.

The brand is doing extremely well with us.

We recently launched the JC shoes which has a tie into the music industry.

They did extremely well.

They're exclusive with us in the mall and in October we're launching 50-cent, which will also be another exclusive.

As I mentioned earlier, back to school business is off to a good start, strong sell-throughs of classic and brown-colored footwear.

The trend we jumped on earlier and is helping drive our recent uptick in sales.

Apparel sales also continue to be strong led by the NFL and NBA licensed products and our private label offerings.

Finally, as Bruce mentioned, we continue to explore opportunities put some our access cash to work to further increase shareholder value.

We plan to capitalize on these opportunities cautiously as the market conditions dictate.

Our first priority is to maintain a strong financial structure with adequate liquidity to allow our company to aggressively implement our strategic plan.

Obtaining and investment grade credit rating continues to be an important objective for our company.

Before answering your questions I would like to recognize our valued associates who did a terrific job working together to minimize any disruptions to our business during last week's electrical blackout.

Our business was below plan Thursday and Friday.

Sales bounced back nicely over the next couple of days and we basically made it up.

As such, we do not expect this situation to have an impact on our third quarter results.

I will now be happy to answer your questions.

Thank you.

Thank you.

We will now begin the question and answer session.

If you have a question, you will need to push star, 1 our touch-tone phone.

You will hear an acknowledgment that you have been placed in queue.

If your question has been answered and you wish to be removed from the queue, please press the "#" sign.

Your questions will be queued in the order they are receive.

You will be using a speakerphone, please pick up your hand set before pressing the numbers.

One again, if there are any questions please press star 1 on your touch-tone phone, Thank you.

Our question comes from Robbie Ohmes from Banc of America Securities.

Please state your question.

Thanks.

Two quick questions Matt.

Hay, can you give us a little more insight into with your comps picking up, is both footwear and apparel clomping positively?

And also, you know, which one is stronger than the other, sort of some guidance on what's going on there?

And then a second question would be, can we get some guidance on how much foreign exchange helped in the quarter and how much you think it's going to help earnings for the back-half?

Thanks.

OK.

Apparel still is stronger than footwear.

The footwear business clearly is coming back.

This brown shoe category, actually the color brown in the athletic zone, it's not your typical, you know, boot-type category, is doing extremely well.

Rick Mena and his team have done an exemplary job of identifying that, buying massive quantities.

We have in excess of over $100 million of merchandise to begin the back to school selling period.

So that's what's, you know, kind of driving, it's a major differentiator currently between ourselves and our competitors.

In terms of the FX rated, it contributed nicely to, two points, yes. two cents.

Just to clarify, are you guys comping positively in your U.S. footwear business now?

In general, yes.

Great.

Thank you.

You're welcome.

Thank you.

Our next question comes from Virginia Genereux from Merrill Lynch.

Please state your question.

Thanks and very nice job.

May I ask first, I think you all said that Champs had go ahead comped down in the quarter;

I think Pete broke that out earlier when you report comps.

In the licensed business, how are you guys thinking about that?

It's been so strong and so hot.

As you look into sort of the back half and preliminarily for spring '04, do you worry a little bit that it's so hot and so many guys are chasing it that it will slow?

Can you give us any of your thoughts there?

Yeah, I think that that business will continue to do well.

It's not back to the levels that, you know, it was performing at in '95, '96 and most of '97.

So I think there's still, you know, a tremendous upside opportunity there.

You know, the Champs comp decline, to clarify, you know, in the quarter was a very low single digit decline.

So, you know, in looking at that business it's a very complicated business.

Getting the right teams into the right markets actually, even the right colors, we talk about our brown story.

The color brown is very hot and we have got a lot of brown merchandise hanging on our floor in that category and I don't see that in any of our competitors'.

Rick identified that color very quickly and we were able to execute it.

So going forward I think it certainly has a lot of upside potential.

You know, it's who does it better?

Who has got, you know, the information, the tracking system, to understand, you know, by market what other teams, what are the most important teams.

So, you know, I see it through 2004 continuing.

We're still nowhere near where we were, as I said, in '96, '97.

OK.

And you don't see this, you know, this brown athletic sort of pushing against that fashion wise?

Seems like there's been a match with licensed shoe helped white shoe a lot?

You don't see those at issue with one another so to speak?

No.

O.K.

And then second question may be for Bruce, I think you said you got, you're doing 8.8% better on your re negotiated real estate deals so far this year, something like that.

That's correct.

If we look into '04 when you all start to be able to close some of this, these 190 big box under performers, you know, I'm trying to think about that Matt, Bruce.

It's really not '04.

We have stated for a long time that it's several years out.

Those big boxes really shut down and most of them in '6, we start in '7 we should be out of the lion's share of them.

But that does, you know, give us another 200 basis points by just getting rid of those.

But we will get out of some of them next year, you know, could be three, could be six, but it's not going to be significant.

OK.

So that's my question.

I shouldn't expect, if I'm thinking about -- I know what you're spending on rent.

I shouldn't expect a big acceleration from this down 9% or something?

No.

You know what I mean, in your real estate deals.

OK.

Thank you.

Then last question, on the SG&A side, I mean your SG&A was up less in absolute dollars in July than in April.

It was up $13 million versus $21 million year over year and you had more, and currencies were a bigger portion of that, you know, you had more of a currency translation effect on the SG&A side.

So that's impressive and I guess I'm wondering, Bruce, as you guys look out, I mean are you getting to the end of some of this SG&A control?

You know what I mean?

Or do you feel like you can keep coming up with stuff?

We have a remarkable organization and it's throughout this organization in terms of their ability to come up with ways to save money.

We recently ---- we recently changed over a lot of our signs, this doesn't sound like a big idea but it will save us a million a year, from neon lights to LED lights, that itself save us a million dollars.

That was a technology that didn't exist a year ago, wasn't in our radar.

So we have a great system and a great program for coming up with new ideas and I have every faith that this company will continue to do this.

Not only next year but the years after that as well.

OK, great.

Thank you all.

You're welcome.

Thank you.

Our next question comes from Bob Drbul (ph) from Lehman Brothers.

Good morning.

Couple of questions first, Matt, on the Nike relationship do you expect to get any product above the $100 mark as you look at holiday and into spring?

And I guess a lot of noise in the marketplace about the upcoming LeBron launches, et cetera.

Can you give us an idea where that stands from your standpoint?

Well, first of all, we do sell a lot of the Jordan product.

I would assume we probably, probably still the largest, not assume, I know the largest Jordan count.

A lot of those shoes are $110, so we continue to get, you know, those $110 products.

As far as LeBron James goes, we're not really clear on the launch date and I'm not sure Nike is clear at this point on the launch date.

Knowing Nike and the way they operate, they're very consistent.

At the beginning of the year they said that we would not be a marquee account.

Since that initial announcement we feel that we're on track to become a marquee account.

So if the shoes get launched this year, I don't know what the prices are yet on them, I assume they will be pretty high-priced, I would assume we wouldn't get them.

If they're launched next year and we continue to, our positive relationship together and as we added a lot of orders into the fourth quarter in particular for this year on, you know, a lot of obviously Jordan product and the up tempo basketball product, I think that, you know, eventually we'll get it.

As you look at your positioning within the stores with the various brands, where do you see the under performers coming, like where is Nike going to get the shelf space from?

I really don't want to, you know, identify, you know, which suppliers will, you know, we'll do less business with.

We will, you know, we will figure out where to get the money from.

But in general, we are pleased with most of the relationships that we have.

There are some relationships that we have that we're not as pleased and we will at the time, we you know, again we're catching up very quickly with Nike as I mentioned.

We're looking at receipts now.

We initially said we would do 32- to -38% this year and now we're looking at 38- to -40%.

Last year was 44%, so there are a couple of supplies which I'm not going to identify, which are not performing as well and we'll get the money from there.

OK, great.

Two quick questions for you, Bruce, on a tax rate, which should we assume going forward in our estimates?

And can you give us a little commentary around the payables line what's happening there?

On the tax rate I would say consistent, I think Peter and I have stated in the past that 37% is the rate that we plan on and as you can tell from the last eight quarters we have consistently beaten it and the second question on accounts payable, most of that is a timing, I looked at that over the last couple days, anticipation of that question, as we get in to the numbers a lot of that is the shift of inventory when you receive it throughout the quarter.

So a lot of is that timing and it doesn't have any reflection on cash or any change in cash payouts going forward in the future.

OK, great.

Thank you.

Thank you.

Thank you.

Our next question comes from George Lusch from Fulcrum Global Partners.

Please state your question.

Hi, Bruce.

Could I follow up quickly on the SG&A in dollar terms?

Your comparisons in the second half of the year seem to be a little easier than they were in the first half.

Could I assume that you know that the plus-13 you saw in the second quarter could be beat moving out to the second half of the year?

And then Matt, just in terms of the program you talk about with Nike for the holiday season, is that the same program that I think you may have eluded to in the recent footwear news our account?

Yes, it is.

OK.

It's the same program, it's could be a very meaningful program, have some potential being a million minimum to 2 plus million pair of shoes a year.

OK.

It going forward George, It going looks a little bit easier for in Q3, Q4.

OK.

In terms of SG&A.

OK, thank you.

Thank you.

Thank you.

Our next question comes from Lee Backus from Buckingham Research.

Please state your question.

First, Matt, guys, good quarter in a tough environment.

Thank you.

Second, you mentioned the press release, somewhat tempered posture in the United States, could you' elaborate (inaudible) great?

And also talk about the inventories you see, inventory levels in the industry in general from inventory levels from your competitors?

Do you think they're in line as much as yours are?

And do you think that will, will that create a more promotional environment or do you think that's pretty much under control?

I think in general there is less promoting going on right now.

Had that continues, you know, I'm not an (inaudible) Oracle so I can't answer that.

I think that our inventory is clearly in line, we're very clean.

We had a major clearance event in June, which really, you know, sometimes you have to take your medicine and we took a lot of market-downs to clear out aged and slow-selling product which is just old fashioned, you know, 101 merchandising, but really positioned us for the back to school with fresh, new receipts.

In looking at our competitors, you know, one of them is promoting, it appears, a lot more than the other when you look at the two mall competitors, when you look at, you know, the one that's in Indianapolis seems to, you know, promote very aggressively without saying that he does.

But I think in general the tempo out there is a little, it's less than last year at this point.

Based on the Q3 guidance you have given, EPS guidance, what does that assume in comp store sales?

Kind of flat to low, very low single digits.

OK.

Also you talked about brown, brown shoes or brown sneakers.

What about the brown shoe category?

Is that something you're increasing or decreasing?

There are many pieces of that -- that we're increasing.

You know, if you walk through our stores you will see these very salient presentations of brown product and you'll see a lot of lugs in there, you'll see some interesting Timberland products but in general it's gated in the sneaker category and it's a very hot fashion color right now.

How long that's going to last, I don't know.

But it certainly is performing very well right now.

And that could, you know, that could just drop like cold turkey November, December.

But I think it's something that we, you know, as I said, we identified, jumped on it and it's producing some very nice sales numbers.

OK, thank you.

Thank you.

Thank you.

Our next question comes from Jeffrey Edelman from UBS Warburg.

Please state your question.

Good morning, nice job and I'm glad the brown shoes are working.

Matt, could you talk a little more about the promotional activity?

One, give us a sense in terms of gross margin, how much of the improvement reflects the cutback there relative to the first quarter?

And then secondly, as you look further out, I believe its Q1 when you start anniversary the cutback in promotion.

Do you look to continue to cut it back?

Or do you think it starts to stabilize then?

I think it's going to be stabilized and, you know, I think you have to identify what's promotion and what's clearance.

There's a normal clearance period, which we will continue to participate in.

You know, you've got really like six times a year where you really have to, you know, after Washington's birthday, after back to school, after Easter, after Christmas, you have these normal clearance periods and you have to aggressively clean out your inventories.

I just see us going forward, particularly with us now really getting a lot of exclusive merchandise and a lot of differentiation.

We won't have to promote as much and hopefully, you know, we'll get reengaged with Nike over the appropriate period of time and get some of the very hot products that we haven't had this year, you know, you sell at full price right out the door.

So, you know, some of those products that we haven't had in the U.S., which obviously we have in all our international division, do extremely well and, you know, really allow you not to have to promote as much as, you know, as we have in the last few years.

So, you know, I think the middle market will continue to promote very aggressively and, you know, that's their business.

But we still sell more shoes, let's keep in mind, we sell 1,200,000 pairs of shoes a week around here and we sell more regular priced shoes than sale shoes.

Our objective is to continue to sell more and more and more regular priced merchandise.

OK, good.

Secondly, could you give us some sense of what kind of kick you're getting to the remodeled stores versus the base domestically?

Yeah, generally the remodels and re loss, you know outperform anywhere from 3% to, you know, 10%, 12%.

OK.

Will that accelerate next year, the remodel program?

I think we'll keep it on track with this year's quantity.

I mean there's only, you know, I mean we're very, very mindful of preserving a very strong cash balance in our company and we have got over 60% of our fleet, you know, globally remodeled and we're hopeful, you know, by the end of this year we'll be headed towards 70% and hit another 10% next year.

We touched 400 stores a year in our company, either remodel, new or relocate and some closings, obviously.

So when you have 3600 change, you know, you can hit at least 10% of the fleet per year and our goal, you know, we have our new exciting store down in Sojo (ph), which is just another extension of our new look, which opened last Saturday and did extremely well.

So we're going to continue to keep updating the look of our stores without diverting from the, you know, the look that we put in place four, five years ago.

We just keep refining it.

That store down in Sojo (ph), it's got the look, the feel of our store in coven gardens in London, it's something we're very proud of, we think that it really gives even a fresher look to the merchandise.

Great, thank you.

Thank you.

Thank you.

Our next question comes from Dave Turner (ph) from BBMP Capital (ph).

Please state your question.

Thanks, good morning.

Just wanted to clarify, get behind the increase in August thus far.

Is it safe to say that it's the improvement has come from average prices, average units, traffic?

Before you start to anniversary the quote unquote easy comparisons, are you already seeing average selling prices increase?

No, I think average selling prices are running slightly lower than last year now.

So the brown -

The retro thing really started kicking in, you know, last year big time.

So those shoes, a lot of them are $50 to $75.

And so the brown shoes that are selling through so well now, are there not much of an improvement?

I guess they're equivalent to average prices on the classic trend or the retro?

Yeah, I would say that's a fair statement.

OK.

And is there any chance or capacity to expand the pro license business in the big box Foot Locker stores, particularly while the trend is so hot and before you get out of these leases?

Well, no, that wouldn't make sense because those are unproductive stores.

We have got this group of stores that they're just too big and they're in the wrong locations and quite frankly the merchandise very gingerly.

We don't want to put a lot of goods in there because there's not traffic.

OK.

One last question on the --- I guess the dynamic of the international real estate.

You've been aggressively growing that, those units for a couple quarters now.

Is it similar, is the dynamic similar to the domestic market where there's A locations, B locations, C, et cetera, and if it is, are you still in the A segment of that market?

Maybe you could explain.

We're clearly trying to stay, you know, in the A location of business over there.

Don't forget in Western Europe in the countries we operate in there's, you know, 335 million people.

The athletic business is less than half, the athletic footwear business is less than half that of the United States.

So there's still enormous potential to grow and as I said, we're going to be opening stores in Budapest and Prague in 2004, we're looking at other markets over there.

We just opened two stores in Portugal.

It could be, you know, six-store market, 7-store market, opened one in Porto and one in list done and they're off to a good start.

We're not in Switzerland, we're not in Greece and we're hopeful in the next few years I would be covering all those markets.

So look at have a very big show in Europe down the road.

You know, we're looking at 650 to as many as 750 stores.

Great.

Thank you.

Thank you.

Thank you.

Once again, if there are any questions or comments, please press star, 1 our touchtone phone.

We have time for one more question.

Thank you.

Our next question comes from John Shanley from Wells Fargo.

Please state your question.

Good morning and let me add my congratulations to a very impressive quarter, guys in a tough market environment.

Matt, you mentioned that your anniversary in the classic beginning that we had in the early part of the fall selling season of last year.

Do you see your gross margin continuing to improve?

It was up nicely, some 70 basis points in the last quarter.

As you saw it bringing in some of these other mark keys products from Reebok and Nike and so on, will your margins able maintain obtain the growth level achieve demonstrated in the last couple quarters?

Yes, we feel very confident about that.

We have built very strong partnerships with most of our suppliers and we believe that there's plenty of room to increase our margin for the rest of this year and then going forward.

I mean, you know, it's not just the markup going in.

It's the markup going out and part of our increase in margin is selling more goods at regular price, so that's a very important key.

And a lot of these retro shoes that are in the 50-, -60, -$65 range, you know, the kids find that very appealing and, you know, they're not looking for 5-, -10 box off and they, you know, they buy them at regular price.

So, you know, we feel very good about continuation of increasing our gross margin, our product margin.

Super.

Bruce, on the comments that you had about the currency, can you give me an indication of the 7% increase in inventory that you had in the quarter?

How much of that was currency related?

And can you go and drill down a little more in terms of whatever factors may have had an effect on inventory build?

John, the answer, 3% is what the currency, that's the impact on inventory.

A lot of that was in Europe because we really, we had loaded up with a major back to school.

So the 3 of the 7% were Europe?

Yes.

Then, John, we also had to build inventory for back to school, like Matt said, in Europe and Texas and Florida as well.

OK.

That's understandable.

Matt, you announced that you're going in to New Zealand pretty aggressively with 15 stores eventually, you're already strong contender in the Australian market.

Can we see other Pacific Rim countries in terms of Foot Locker expansion?

And what would be the time frame that you may consider doing that?

I'm making a trip at the end of September to mainland China and we're looking at, you know, the potential of doing a joint venture over there in, you know, Hong Kong, China, Taiwan, you know, all the countries around there.

We think that we could have a very large business over there.

It's still a very small business, particularly in China.

But we view Asia as a major opportunity, obviously, you know, I was supposed to be over there in April or May and with the SARS outbreak I made a health decision and in not making the trip.

But we think that there's a huge market.

You know, you look at China, there's 275 million people play some form of organized basketball in China, whether it be professional, amateur, high school, college or just organized leagues.

So it's an enormous opportunity, one that I think that eventually we need to be there and we have a long history of operating businesses in far away places.

Right.

We operate, you know, three stores in Guam out of New York here.

You know, Australia, we have done extremely well.

That company is headed to a very nice profit this year.

And New Zealand, you know, 15 stores, you know, we opened two in Auckland, they're off to a very good start, capital city of Wellington is next and you know, while there's only four million people, it can support 15 stores and can be a $8 million, $10 million U.S. dollar market.

So -

Would you go back in to Japan again?

Yes, yes, yes.

OK.

Last question I had -

But the thing is, we have to get the right deals.

You know, in Japan we just had terrible real estate deals and we only had five stores, we were losing a lot of money and, you know, we're committed not to making any more missteps in real estate.

That doesn't mean that, you know, occasionally you make a mistake, you know, it just doesn't work.

But we had very few of those in the last 3 1/2, 4 years around here.

Great.

The announcement about going into Czech Republic and Hungary, how big do you think the eastern European market could be for Foot Locker?

Is that potentially a major growth vehicle?

Or is it too early to tell at this stage?

It's a little too early to tell, but, you know, I was there in April and there's a lot of action over there.

There's lot of people.

It's not really served well yet with athletic footwear.

I also went to Poland and, you know, was not overly impressed but in talking to a lot of our suppliers, they're shipping in a lot of merchandise into Poland and it could be a significant business.

But that will be part of the, you know, the European operation and will be run out of Amsterdam.

But we could eventually have over there in that marketplace up to 100 doors, you know, and quite frankly Russia is not, you know, off the radar screen.

St. Petersburg, very vibrant, exciting city.

There's a lot of expendable income and it's something Tom Slovas will be making a strip very shortly over there and there's opportunity there.

Great, thanks a lot, appreciate it.

Thank you. .

We would like to thank everyone for their participation today and we look forward to the third quarter.

Thank you.

Thank you.

Ladies and gentlemen, this concludes today's conference for today, you may all disconnect at this time.

Thank you for participating.