Foot Locker Inc (FL) 2007 Q2 法說會逐字稿

Good morning, ladies and gentlemen.

Welcome to the second quarter 2007 earnings release conference call.

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

Later we will conduct a question and answer session.

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

These forward-looking statements are based on many assumptions and factors, including the effects of currency fluctuations, customer preferences, economic and market conditions worldwide, and other risks and uncertainties described in the Company's press releases and SEC filings.

We refer you to Foot Locker Inc.'s most recently filed form 10-K or form 10-Q for a complete description of these factors.

Any changes in such assumptions or factors could produce significantly different results, and actual results may differ materially from those contained in the forward-looking statements.

If you have not received yesterday's release, it is available on the internet at www.prnewswire.com or www.footlocker-inc.com.

Please note that this conference is being recorded.

I will now turn the call over to Mr.

Peter Brown, Senior Vice President, Chief Information Officer, and Investor Relations.

Mr.

Brown, you may begin.

Good morning.

Welcome to our second quarter conference call.

After the market closed yesterday, we reported our financial results for the second quarter.

Net loss of $0.12 per share was favorable to our updated guidance that we provided on July 30th, primarily due to a lower markdown rate than forecasted at that time.

Bob McHugh, our Senior Vice President and Chief Financial Officer, will begin the call with a discussion of our second quarter financial results and provide some details on the key factors that led to our disappointing results.

Matt Serra, our Chairman and CEO will follow with an operational review and provide an update on our strategic priorities.

We will answer your questions after our prepared remarks.

Overall, our second quarter results were negatively impacted by a challenging athletic retail environment in the U.S.

and our strategic decision to aggressively liquidate slow-moving inventory.

We believe that this proactive decision, along with other initiatives that we are taking, will strengthen our position in the athletic marketplace for the future.

The following is a recap of our second quarter results.

Total sales decreased 1.5%.

Comp store sales decreased 7.3%.

Our gross margin rate decreased by 420 basis points.

Our SG&A expense rate increased 130 basis points.

Interest expense was $0.

Our net loss was $18 million, and our cash position net of debt increased by $86 million from the same time last year.

I will now turn the call over to Bob McHugh.

Good morning.

We are clearly disappointed with our second quarter financial performance, but encouraged that our merchandise inventory is better positioned for the fall season.

In fact, the aging of our inventory is more current than it has been in a few years.

Our financial results fell short of our expectations at the start of the quarter, primarily due to a weak sales performance and higher than planned markdowns at our U.S.

stores.

The difficult athletic sales environment in the U.S.

was a continuation of a trend that we experienced during the first quarter of this year.

During our first quarter conference call, we highlighted that we would take a cautious approach in managing our business for the balance of 2007.

We also stated that we expected to take higher markdowns than last year in our U.S.

stores to sell through some slow-selling goods and to reduce inventory levels.

Based on our May results, we concluded that we needed to significantly increase the intensity of liquidating slow-moving merchandise in our U.S.

stores during the balance of the second quarter, in order to achieve our objective of entering the fall season with our inventory level below and significantly more current than last year.

This objective was accomplished, but it obviously came at a price.

We believe that it was the right strategy that better positions our business for the second half of the year.

Our inventory aging is much improved, with the amount of our total U.S.

inventory older than twelve months reduced by approximately 40% versus the same time last year.

This inventory reduction strategy impacted each of our U.S.

divisions, although the most significant effect was on our largest division, Foot Locker.

On a positive note, our combined international profits increased double-digits led by strong gains at Foot Locker Europe.

We ended the quarter in a strong financial position with our cash position net of debt improved by $86 million versus the same time last year.

In total, our ending inventory was 1.6% lower than at the end of the second quarter last year.

On a constant currency basis, our inventories were 3.2% lower than last year.

Second quarter comparable store sales of our major U.S.

divisions were as follows: our U.S.

Foot Locker business, comprising Foot Locker, Kids Foot Locker and Lady Foot Locker decreased high single digits.

Foot Action declined high single digits.

Champs declined high single digits.

FootLocker.com sales declined midsingle digits.

Our international comp store sales declined midsingle digits with the weakest results being in Europe.

Our Canadian sales were flat while Foot Locker Australia increased low double-digits.

By month, comp store sales decreased mid to high single digits in May, decreased midsingle digits in June, and decreased very low double-digits in July.

Due to back-to-school shifts in certain states like Florida and Texas, we do not believe that the tone of business changed as much as the numbers indicate between June and July.

Our second quarter gross margin rate decreased by 420 basis points from last year, reflecting a 320 basis point decline in our merchandise margin rate and a 100 basis point deleveraging of our buying and occupancy expense rate caused by lower sales.

The decline in our merchandise margin rate included a 620 basis point decrease at our domestic stores, reflecting approximately $50 million of higher markdowns at cost, or $0.20 per share, taken to reduce inventories and clear slow-moving goods.

Our merchandise margin rate at our international stores improved by 300 basis points, primarily reflecting lower markdown levels at Foot Locker Europe as our inventory is on plan and well positioned with current customer demand.

Our total second quarter occupancy costs were slightly better than our plan, but increased by 100 basis points as a percentage of sales due to our comp store sales decline.

Our occupancy rate increased 150 basis points in the U.S.

and 70 basis points in our international stores.

Our second quarter SG&A expenses increased $13 million or 4.8% versus last year.

This increase includes $4 million as a result of stronger foreign exchange rates.

Our net interest expense during the second quarter was $0, $1 million favorable to last year.

At the end of the second quarter, our cash position net of debt was $133 million.

Our total cash and short-term investments totaled $363 million, while our long-term debt stood at $230 million.

This cash position, net of debt was $86 million favorable to this time last year.

Additionally, our pension plan remained fully funded on a GAAP basis, which provides additional financial flexibility.

We repurchased an additional 1.1 million shares of our common stock in the open market during the second quarter for $24 million.

This brings the year-to-date share repurchase program up to 2.3 million shares for a total of $50 million.

As I already mentioned, our merchandise inventory at the end of the second quarter was 3.2% below last year on a constant currency basis.

Our inventory level in the U.S.

is approximately 4% below last year, while our international inventory stated in constant currency was essentially flat with last year.

Our primary focus for the balance of this year is to work closely with our key suppliers to receive a steady flow of hot-selling marquee goods and in the right quantities.

Our promotional posture for the fall season will be dictated by the overall athletic marketplace and actions that we feel are necessary to keep our inventories current and in line with expected sales trends.

In summary, while we are disappointed with our financial results for the second quarter of 2007, we believe our business is better positioned for the fall season.

As we have previously announced, we plan to implement an accelerated store closing program during the balance of this year.

During the upcoming fall season, we expect to incur one-time costs that may total up to $20 million to close under-performing stores.

Matt will provide an update on the status of this program during his prepared remarks.

Current accounting regulations require that lease termination costs be recorded at the time of store closing.

Additionally, we may be required to conduct an [apparate] review of our U.S.

store base before the end of the year, in compliance with FAS 144.

The P&L impact of this potential review would not be known until later this year.

Given these factors as well as the current challenging athletic retail environment in the United States, we do not believe it is appropriate to provide specific earnings per share guidance for the fall season at this time.

However, we will provide some insights to our planning assumptions that will assist you in updating your financial models.

Built into these assumptions are several external factors such as economic uncertainties that may impact our sales during the balance of this year.

Therefore, we are currently planning our business more conservatively for the third and fourth quarters of this year than we had at the beginning of the year.

These forecasting assumptions include flat comp store sales, gross margin and SG&A rates slightly unfavorable with last year reflecting the conservative sales assumption, depreciation expense relatively flat with last year, interest expense of approximately $2 million for the fall season, and income tax rate of approximately 35%, reflecting an expected higher percentage of our income being earned in international countries where we benefit from lower tax rates.

In closing, I would like to emphasize that even though we -- our financial position is currently strong, we have to further tighten our controls over capital spending, working capital, and expenses.

We took some important steps during the second quarter that we believe have improved our competitive position, strengthened our financial position, and enhanced our ability to generate strong earnings during the fall season.

With a strong balance sheet, improved inventory position, and the closing of additional under-performing stores, we believe that we are better positioned for a meaningful earnings increase in 2008.

I will now turn the program over to Matt Serra.

Good morning.

Second quarter of 2007 was far more challenging than we expected going into the quarter.

As a result, our financial results were disappointing and fell short of our expectations.

The short fall in our profits was primarily a result of our sales short fall versus the initial expectations and significantly higher markdowns than last year in our U.S.

stores to clear inventory.

This combination of disappointing sales and strategic decision to clear goods led to a loss in our U.S.

store business.

On the positive side, a significant lower promotional posture in our international business went to a division profit increase of approximately 20%.

As Bob mentioned, our merchandise inventory in our U.S.

stores is approximately 4% lower than at the same time last year.

Additionally, and just as important, the amount of our aged inventory in our U.S.

stores at the end of the quarter, inventory that is twelve months or older, was approximately 40% lower than the same level at the same time last year.

The percentage of our aged goods was at the high end of our international standard at this time last year.

Today we are comfortably in good shape with the same standard.

Going forward, we have already intensified our focus on inventory management and plan to be more conservative with our open to buy process.

Overall, our combined U.S.

stores posted a high single digit comp store sales decline during the second quarter with footwear sales decreasing approximately 7.5% and apparel and accessory sales decreasing 9%.

Due to our decision to aggressively liquidate slower-selling and aged goods, our domestic average selling prices decreased nearly 10%.

The number of pairs of footwear that we sold in our U.S.

stores during the second quarter increased by 3% versus the same period last year.

This liquidation strategy was successful and enhances our ability to receive fresh and more compelling goods in the fall season.

The required markdowns, however, contributed to our comp store sales decline and division profit loss.

There were also a number of external factors that contributed to our disappointing second quarter results, including the summer fashion trend of sandals, slides and flip flops, a continuing fashion shift to brown shoes, lack of newness in the athletic category, the back-to-school shift from July to August in certain important states like Florida and Texas, and while steps that we took in June and July adversely impacted our profits for the second quarter, our cash flow was strong, and I believe positions our business better for the back half of this year.

From a merchandising standpoint, the story for the quarter was mostly about clearance.

With that said, the marquee category led by brand Jordan, Shox running, some Nike Max air products, Adidas Bounce, New Balance Zip, and the high-end of Asics continues to be a very important part of our business.

During the third quarter, each of our U.S.

divisions are scheduled to receive from our key supplier anywhere from 15 to 30% additional marquise products than the same period last year.

During the second quarter, our strongest sales percentage increase same in the sandal, canvas and brown shoe categories.

The classic footwear categories mix with premium styles such as Air Force 1, Nike Prestige and Cortez are continuing to sell well.

We're also seeing some encouraging results and a revival of the women's technical running category.

Apparel sales were led by private label polos and as well as cargo and plaid shorts.

We're also very encouraged with our apparel program that we introduced from Nike under the Nike Pro in the box label.

It is doing extremely well.

In Europe, we continue to scale back our promotional cadence, a strategy that is working and contributing to much higher profits.

In the near term we're trading sales dollars for higher profit dollars by running this business significantly lower markdown rates.

On the footwear side of the business, we continue to see encouraging signs in Europe that the higher priced technical running footwear is coming back into fashion.

Last year at this time, we were clearing a lot of slow-selling technical running shoes in Europe which was pressuring our gross margin rate.

Today with our inventory better positioned, we have the opportunity to increase our receipt of new high-priced technical running footwear during the third quarter.

In fact, we expect to receive twice the amount of new technical running shoes in Europe during the third quarter than we received at the same time last year.

Other footwear categories in Europe that were strong during the second quarter include running, court shoes, sandals, and slides.

We believe that the fusion category has clearly peaked, as certain shoes have already lost their appeal while other newer styles are selling through at a good pace.

Again, the strong profit gain at our European business resulted from an effective trade-off between lower sales being significantly offset by improving gross margins and tight inventory management.

Our Canadian division's profit was in line with last year and continues to run at a double-digit division margin rate.

We generated our highest sales and profit percentage increase at our Asia Pacific division.

FootLocker.com East Bay sales declined by approximately 4% during the second quarter with profits off slightly from last year.

For the full year, we're expecting this division to post a low single digit sales increase and a solid profit gain.

In the Middle East, the Alshaya Group, our well established franchisee is currently operating seven Foot Locker stores.

The initial results continue to be very encouraging.

While franchising is still a new business for us, the initial results indicate the average sales volume in these middle eastern stores has the potential to exceed the productivity of our stores in the U.S.

Based on the initial success with this new venture, we reached an agreement with an additional franchisee to open an approximately 20 stores in south Korea.

This franchisee opened its first store in Korea earlier this month and is doing fairly well.

During our first quarter conference call, we outlined several key priorities for the balance of 2007.

These priorities include improving working capital management in our U.S.

stores, increase the receipt of hot-selling marquee shoes in the all important back-to-school season, continue to enhance the profits of Foot Locker Europe, identify additional expense reduction opportunities, take a more conservative approach in regard to capital expenditures, close additional under-producing stores, launch our new Foot Quarters business, develop plans to more rapidly expand our European operations.

Since I already updated our progress in regard to the first four priorities, I will move onto our current real estate and capital plans.

With regard to our store closing plans for this year, we are reasonably confident that at least 200 stores will be closed that are currently on a month to month basis having natural lease expirations this year or will close due to mall closures.

This is an increase of 80 stores versus our original 120-store closing plan.

These stores are expected to be closed at a very minimal cost and with very positive implications for cash flow and elimination of store losses.

A group of 69 additional stores has been identified for closure or natural lease termination.

We are hopeful we can reach an agreement with our landlords to close at least 50 of these locations before the end of this year.

From a profit perspective, we expect the expense impact of closing a total of approximately 250 stores this year to be up to $20 million.

The costs associated with closing these stores are expected to be incurred during the fall season as the deals are completed.

These costs include both negotiated landlord settlements and write offs of the remaining book value of 50 to 69 stores slated for the early closure.

From a cash flow standpoint, we do not expect the impact to be material.

The landlord settlement costs associated with the 50 to 69 stores are expected to be offset by recapturing the working capital on the total 250 closed stores.

Looking towards 2008, we expect the impact of closing all 250 stores to improve the division profit by approximately $20 million or $0.13 per share.

After the close of the second quarter, we converted our Foot Quarters stores to Foot Locker outlet stores.

A few stores were also converted to Champs Outlets.

We were not satisfied with the initial results of the Foot Quarters operation, and we're not willing to invest additional capital or time in this business.

At the same time, we are moving ahead with making plans to more aggressively open new stores in the European market.

Currently plans call for opening up to 30 stores in this market next year versus twelve in 2007.

The internal rate of return in ROIC we have been generating on our new stores in this market have well exceeded our internal projections and capital investment hurdle rates.

We plan to end the year with approximately 513 Foot Locker stores in Europe.

We believe that over the longer-term, our Foot Locker Europe infrastructure will be able to support an operation totaling up to 1,000 stores, including western and eastern Europe and other potential markets such as Turkey and Russia.

We will open our first store this September in Turkey.

As previously announced, we also made several management changes during the second quarter.

Keith Dailey was promoted to President and COO of Foot Locker U.S, reporting to Rick Mina.

Keith will have responsibility for our Foot Locker, Foot Action, and Kids Foot Locker stores in the U.S., most recently Keith headed up our Foot Locker Europe operation doing a commendable job in stabilizing the profits of that business.

Replacing Keith as President and COO of Foot Locker Europe will be Dick Johnson, formerly President and COO of Foot Locker.com.

Dick, who is a proven merchant and experienced business man has managed the rapid growth of our direct-to-customers division over the past decade.

He will report to Ron Holz.

We also promoted Dow Timmon to Executive Vice President of FootLocker.com.

Dow will also continue in his role of COO of that division.

We're currently undergoing a search for a new President and COO for Foot Locker.com.

I feel very good about each of these promotions.

They are well deserved, and I believe positions us for the future.

Today Foot Locker's financial position is a strong as it has been in many years.

There is no doubt that the athletic industry in the U.S.

was very challenging during the spring and summer season due to fashion trends towards brown shoes, casual footwear and sandals.

We are already beginning to see some signs that the market is improving, particularly in those states that have begun their back-to-school season.

Until we see more tangible evidence that the athletic trend has improved, we will remain cautious and even more focused on generating stronger cash flow.

We believe that if we maintain a strong financial position, when sales return to more normal growth levels, our shareholders will be rewarded.

Before we answer your questions, I will make a few comments regarding our involvement with Lehman Brothers in reviewing strategic alternatives.

As you are aware, we engaged Lehman Brothers several months ago when we were pursuing the purchase of Genesco.

Sometime after Genesco accepted a competing purchase offer from another suitor we engaged Lehman Brothers as an adviser to work with the Company to evaluate strategic alternatives including inquiries from several private equity firms.

I appreciate your understanding that we're not in a position to provide any additional details on this subject at this time.

In closing, I would like to emphasize we believe that Foot Locker remains well situated as a leader in the athletic retail industry and as a result of the actions that we've taken this year will better position us to generate increased shareholder value in the future.

Clearly, the athletic industry continues to evolve, with fashion changing with every new season.

Therefore, to compete most effectively in this marketplace requires more proactive adaptation to change.

Again, we believe that we are taking the right steps and are they enthused for our near term and longer term future.

I will now be very happy to answer your questions.

Thank you.

(OPERATOR INSTRUCTIONS).

Our first question is from Jeff Edelman from UBS.

Please go ahead.

Thank you.

Good morning.

A couple of questions the domestic side, Matt.

One, how will merchandising decisions change with Keith in charge, and as part of that, many of us attended the Adidas analyst meeting yesterday, where they reaffirmed the fact that mall stores were clearly under performing sporting goods stores, and they felt they had some pretty good ideas on how to help the mall stores reverse that trend and in fact indicated they're meeting with your people on Friday.

Could you share some insight as to your ideas, how to kind of change the flow of traffic in here and ultimately reverse the sales and to the extent you're starting to go bring in some other types of brown shoes, how does that fit into this?

Yes.

First of all, Keith is a very strong merchant.

I think we have, as an organization, have to come down to earth.

We have been chasing unrealistic sales numbers, and we are going to focus more on profit and receipt management.

Keith is very, very disciplined, and I think will add a lot to the process.

We really have had a tendency the last several years, after we experienced some pretty good growth in the U.S.

to, in plain English, overbuy with certain suppliers, and that ends.

It is ended now and going forth, we're going to have the checks and balances in place that that doesn't happen, and that's what led to that huge earnings hit.

I mean, we did have a sales decline, but if we didn't have to take that $50 million, we would have made $0.08 in the quarter versus $0.09 last year, but, looking at the business, it was the right thing to do.

Mall traffic is clearly down a little, and I think that we need to do a better job of diversifying our product mix to compete with some of the other mall players that sell more casual athletic footwear as well as brown shoes.

As you know, we have put brown shoes into our Foot Locker division and into our Champs division, and the initial response is somewhat encouraging, and these are casual brown shoes.

We're not going after the dress shoe business, and quite frankly, I don't think it is going to be a huge piece of the business, but it could add some significant volume in the U.S.

base.

We studied long and hard, made many, many trips around -- particularly around New York, and you see a lot of the independence where they have as much as 40, 50% of their offerings in casual brown footwear, and we're not headed in that direction, but there is clearly a market for it, and if you have the right product, I think it will enhance our offering even though we want to remain an athletic footwear and apparel chain, but the casual piece of the business, a la Timberland, Timberland boots.

They're not athletic, but as you know in the heyday they were a very important piece of our business.

Okay.

And as far as working closer with some of the major vendors, they seem to have some pretty explicit ideas on how some of the parts of your store should be merchandised.

Yes.

I think there is some good feedback from our key suppliers, and that one of the most important ingredients that has to materialize, not only for us but for the whole industry, there has got to be more at-once goods, EDI product, where you put in, obviously for us it is significant opening order, but you just feed off, the reorders.

One of our most profitable suppliers and the fastest-growing is Asics, where I think, I may be mistaken, but I think every single shoe they offer is on EDI including the $135 marquee running product, and I think we're going to begin to see some of that, more of that, from a lot of our suppliers, and I think that is the key to getting the inventories down and getting the turns up.

Okay.

Great.

Thank you.

Thank you, Jeff.

Our next question comes from John Shanley from Susquehanna.

Please go ahead.

Thank you and good morning.

Matt, following up on your comment about more at-once business, generally the brands get a higher product margin from the sale of that once versus future for order business.

Is this going to impact your product margins to any degree at all if you are going more like Reebok announced recently they're going going to sell you at-once basis in terms of their product line, and I don't know whether any other vendors are doing the same thing, but will that impact both your product and gross margin levels?

No.

It won't impact our more -- the margin, the markups will be the same.

The only difference is I believe we will carry less inventory and turn it faster.

Does it limit the selection of the product since I don't think all vendors keep everything on that --

It won't be everything, John.

It will be obviously key, basic commodities, New Balance as you know does a terrific job with that product as does K Swiss.

As far as the Reebok comment I saw traveling last week, I am not clear that I understand what that really meant, but that's neither here nor there.

Okay.

Turning to Europe for a second, the replacement of Keith Dailey with Dick Johnson, does Dick have any either brick and mortar or European experience in terms of background?

No, no, no, but a very, very strong merchant, one of our top guys, clearly I have not moved him into a division because of the complexity of building the East Bay business and the the profitability of that business.

This is from my judgment a guy with a lot of growth potential and extraordinary people skills and a very good merchant.

I would be remiss in not saying he is like one of the greatest sports enthusiasts I have ever met and is really into the product and has excellent vendor relationships and has a real nose on profitability, and working with Ron Holz who is -- oversees Europe, who is an outstanding store merchant I think the combination of the two will really create a very strong management team over there.

You're not anticipating any kind of issues that you had when you put Tom Slover from East Bay over to Europe a number of years ago?

No.

Great.

The other question I had is on the retail stores.

Can you give us an idea of the timing or the anticipated timing of the closing of the 135 to 150 stores that will be shuttered before the lease expiration?

Will most of those be closed down this year and next year, or is this a longer term proposition?

Most of them will go this year.

Now, there is two pieces to that.

We originally had 120 in the original plan.

Then we made a decision to close an additional 80 that in many cases are on month to month deals where we're kind of in the mall because our competition is in the mall.

At the end of the day, John, we're losing money, and they're probably losing money, and we've come to a mind set where there really no longer is an efficient way to use our capital.

Then we've identified -- that brings us to 200 stores which we expect to get done this fall with no significant financial impact.

The inventory goes, and working capital kind of gets a little enhanced.

Then we've identified 69 stores that we're losing some big bucks in, and we expect to get at least 50 of those this fall.

I am hopeful that we can get more as you know , on a GAAP basis you can no longer take the one-time charge.

You have to take it as you go along.

We're hopeful that we'll get at least 50 done this fall and so far our landlords have been pretty receptive and working with

Are any of these 50 the residue of the triplex units?

A few of them, yes.

Should that help your bottom line considerably getting those things off the balance sheet?

Yes.

I think we said that the whole addition of the 69 added $0.13 to next year.

Okay.

Great.

Last question I have is for you, Bob.

What caused the better than anticipated results of loss of $0.12 versus the guidance you gave us only a couple weeks earlier of a loss of $0.15 to $0.20?

Was there something in terms of currency or some other thing that wasn't factored in that came in better than you expected?

No.

It was lower markdowns than we anticipated to clear the slow-moving inventory.

But no -- didn't have anything to do with currency, benefits in Europe?

No.

All right.

Thanks.

Appreciate it.

Thank you.

Our next question comes from Robert Ohmes from Banc of America.

Please go ahead.

Thanks.

Good morning.

Two quick questions.

Matt, can you give us some detail on how you brought the aged inventory down 40% versus last year in terms of just generally clearing it through outlets versus clearing it through your full line stores versus giving stuff back to vendors, and the other question is, can you -- it sounds like you're making a nice change for back-to-school in your footwear strategy, more brown shoes, more marquee.

Can you walk us through if there is going to be any sort of significant change to the apparel strategy that aligns with that?

Thanks.

I think with regard to the inventory reduction, it was kind of a three-pronged process, but we really identified the aged inventory, hit it hard, we hit it hard in the stores, and we hit it very hard in the outlet locations, and just liquidated it very, very aggressively.

We also as we do move a significant amount of merchandise into those locations, which now totals a little over probably about 120 stores around the country in the U.S.

We liquidated a lot of it in the stores which was a little disruptive, but to not make the trucking industry a lot wealthier, we chose to really liquidate that merchandise where it was located and got rid of it that way.

In terms of RTVs, we have many arrangements with our key suppliers, and they were very supportive in getting us back on track: as far as the apparel strategy goes, it has been a very tough apparel strategy in the specialty zone, certainly not in the big box zone, and I think what we're doing is we're enhancing in the fall some of the branded product but more importantly, Robbie, I think you will see more in the spring of '08 of the kind of merchandise I think we missed, and should have, ala Under Armour.

Terrific.

Thanks a lot, Matt.

Thank you.

Our next question comes from Virginia Genereux from Merrill Lynch.

Please go ahead.

Thank you.

Matt, on the door closures, you're talking about sort of 250 to 270 in total?

Yes, it is in the U.S., Virginia, in the U.S.

All in the U.S.

Is there a reason you wouldn't do even more?

Maybe it is the accounting treatment?

I think that it is a good question, that next year we'll probably through natural lease expiration, probably hit as many as 80 to 120, and when you look at the profit implications, it is better to do it over that time frame and not take that asset right off hit all at one time and the liquidation of that inventory, so by natural lease expirations getting out of those doors, and slimming that Foot Locker division down to around 1,100 doors in the U.S.

Okay.

And if you did that, Matt, would that sort of going back to some of your communication from a couple of years ago where you guys I think said you had 200 of these under performers, some of which were quite 10,000, 11,000 square feet --

Right.

Does that basically get you out of all those stores?

Gets you out of most of them.

Quite frankly, now that a lot of them are fully depreciated and making money, so it gets us out of a lion's share of them, though, yeah.

Sort of a related question.

On the apparel side, some industry folks say we've got stores that are too big, that the specialty format still has too much square footage devoted to apparel that maybe the branded athletic apparel business just isn't going to come back.

What's your view on that?

Well, that comment has been said, been here almost nine years next month, and that comment has been said twice, and it has come back twice since I have been here.

I think one of our key strategies going forward is differentiation.

I think we need to do a better job of differentiating Foot Locker from Champs in particular and Foot Action to a degree, and we have plans to begin initiating that this fall.

Obviously as you know, Champs has a much stronger greater apparel business than Foot Locker, and I think we've got to step back a little in Foot Locker and have a two prong strategy.

We have some very large stores in Foot Locker that sell a lot of apparel, and then we have some stores -- and it is a good point, Virginia.

I think sometimes we just put it in to put it in to say we have it there, and we have to do a much more thoughtful job of allocating that product to some of the stores that are really shoe doors, and also in Foot Action, we need to re-examine our thrust in urban apparel in those doors, and we have not aggressively gone after it.

In many cases some of those urban brands are -- I don't want to use low gross margin, but they're not the greatest gross margin, and I think that we can develop some partnerships to integrate a nice presence of urban apparel in that Foot Action location.

Okay.

Thank you.

Then maybe on the inventory front, at first, Bob, when you say that you took markdowns of $50 million at cost.

Right, additional 50.

Okay.

That basically means you're selling inventory for $50 million below cost, below your cost.

Is that what that means, Matt?

No, at cost.

Okay.

At cost.

At cost.

So sort of two questions.

You said the aged inventory was down the twelve-month plus was down 40%, but can you tell us either what the aging standards are or how much more you think you need to go, you should go to be in the sort of --

We have never given out our aging standards.

I will tell you that they're very requiring and probably the most stringent in the industry, having worked obviously the lion's share of my career in the department store, they're very aggressive on aging of inventory and our standards are far below those, and we see and hear in our marketplace -- we're very aggressive at the high-end of that twelve-month range, and I think that we need to be a little more aggressive in clearing that goods and spending more of our markdown dollars to clear the older inventory instead of promoting newer inventory.

Maybe in absolute terms, this is the last one, I am sorry, if your inventory levels are kind of $1 billion, $1.450 billion, that still looks to me like a couple hundred million, maybe 250 plus higher than where you were on a similar sales base a couple years ago?

Yeah, but don't forget you had Foot Action.

We picked up 500 doors with Foot Action three years ago, and that's whether we really got the lion's share of that jolt, and you made a very, very clear analysis probably nine months ago that our increase in inventories far out paced our inventory in sales and you're correct, and we've stepped back, and I don't think it is 250 higher, but I think there is more to come, and it is really gated in the U.S.

Our inventory at the end of this past quarter was in the 40 to $50 million level below last year in the U.S.

The international operations have been doing well, and we have fed some of the inventory into that area, but I don't believe there is 250 million.

Okay.

I think there is somewhere in between.

Okay.

Bob McHugh, what's wrong, if I am trying to forecast cash flow and I see inventory net of payables coming down, when is tax affected EBITDA a good proxy for cash flow?

Is it next year?

I think this year we expect working capital to be flat with last year, so -- yeah.

Could next year -- should next year it be a source?

You're tailing down inventory this is year, though, Bob?

Do you know what I mean?

Yes, but I would think maybe next year you'll see it go further down.

Okay.

Thank you, guys, very much.

Good job.

You're welcome.

Thank you.

(OPERATOR INSTRUCTIONS).

Our next question comes from Kate McShane from Citigroup.

Please go ahead.

Hi.

Good morning.

Can you talk a little bit more about your Foot Quarter decision and why you decided to give occupy that con September after only a few months and how was the Foot Quarter inventory being liquidated, and then just a kind of related question to that is what are Foot Locker's thoughts now or what are the Company's thoughts of possibly diversifying more into the brown shoe category going forward whether it be through a new store concept or more brown shoe within your existing stores?

Obviously with the tough athletic business this year and our real -- you have to call it like it is.

We were not doing well and certainly not meeting our expectations in foot quarters.

There is an old-fashioned saying, the first markdown is the best markdown, so instead of prolonging something that we knew that we could have additional difficulties in, we transformed the Foot Quarters stores into Foot Lockers, Outlets and some Champs outlets, and that inventory that's in there, there is not a lot of inventory in there.

That will be gone in a month or so just through normal promotional activity that you do have in a slash clearance outlet operation.

As far as the brown shoe business goes, it is clearly something we're very interested in getting into.

We're still on a lookout for something out there, but I think right now we've got to focus on our core business and get our house in order and get a decent fall season and get set up properly for 2008 and bring things back to nor mall.

Thank you.

I think we have time for one more question.

Our last question is from Brad Cragin from Goldman Sachs.

Please go ahead.

Good morning.

I was wondering if you can talk about your SG&A costs a bit.

Do you still think there is room for payroll perhaps to come down further or where might there be some other opportunities to reduce those costs?

Yes, Brad, this is Bob.

We always focus on SG&A.

We spend a lot of time trying to flex the expenses with the business, and we're going to continue to do that.

I mean, we don't normally look at store wages.

We look at general SG&A for the Company.

We have quite a big group of people that focus on particular expense areas and try to manage them down in the current business environment, so we're going to continue to push for that.

Okay.

And as you think about the variance between your latest guidance and your end result, can you talk a little bit about the calendar shift and what type of impact that had I think earlier you you had said that it would result in about a $40 million shift from Q3 to Q2.

Is that still consistent with your experience?

Yeah, but we're looking at back-to-school now which Florida and Texas we operate approximately 500 stores in those two states alone, and there is a shift in the back-to-school in those states.

There is also a tax holiday shift, and as we're getting closer to book to school openings, we're experiencing some good lifts, and we're expecting a fairly strong August.

August, -- one month does not make a season and does not make a quarter, but the initial results are very encouraging in the U.S., so as these stores kick in, it will be interesting to see how we come out, and with the cleansing of the inventory and selling a lot of new fresh merchandise at full price, it price, it crenel is a gross margin enhancer.

Okay.

Thank you very much.

Thank you.

Okay.

We thank everybody for participating today.

We look forward to the third quarter.

Thank you.

Thank you, ladies and gentlemen.

This concludes today's conference.

Thank you for participating.

You may all disconnect.