諾德斯特龍百貨 (JWN) 2004 Q2 法說會逐字稿

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  • Operator

  • Hello and welcome to the Nordstrom second quarter 2004 earnings release conference call.

  • All lines will be in listen-only mode until the formal question and answer session.

  • If you'd like to ask a question, please press star, 1.

  • At the request of Nordstrom today's conference call is being recorded.

  • I would like to introduce Ms. Stephanie Allen, Manager of Investor Relations for Nordstrom.

  • Ms. Allen, you may begin.

  • - Manager Investor Relations

  • Thank you.

  • Good afternoon, everyone, and thank you for joining us on the call today.

  • With me in Seattle is Mike Koppel, our Executive Vice President and Chief Financial Officer, and joining us from a remote location is Blake Nordstrom, President of Nordstrom, Inc.

  • Pete Nordstrom, the President of our full length stores, is out of the country and unable to attend the call this afternoon.

  • Mike is going to lead off with a review of our second quarter results, Blake will make a few concluding remarks and then we will open it up for questions.

  • Please note that any forward-looking statements we make in our remarks this afternoon should be considered in conjunction with the cautionary statements contained in our SEC filings.

  • Now I'll turn it over to Mike.

  • - EVP & CFO

  • Thanks, Stephanie and good afternoon, everyone.

  • The 2004 second quarter was another very strong performance for Nordstrom and we are pleased to see a continuation in fundamental improvement that began five quarters ago.

  • Earnings per share came in at 75 cents which is above the 70 to 74 cent range that we guided.

  • This is an increase of 56% from year ago levels driven by a pretax earnings flow through at 40% which reflects year-over- year improvement across all major P&L components.

  • Sales trends were robust throughout the quarter with all of our geographic regions and major merchandise categories posting same store sales increases for the quarter.

  • Total sales grew 9.4% to $2 billion and same store sales increased 6.8% slightly ahead of our 4 to 6% comp plan.

  • We experienced healthy regular priced selling throughout the quarter as customers continue to response to color and fresh new fashion across every price point and category.

  • In addition we had a very successful anniversary sale at the end of July.

  • This event focuses on new fall merchandise and provides valuable insight into fall trends.

  • Regionally the strongest same store sales performances were in the southwest and the southern states.

  • Sales in the majority of our merchandise categories were in line with the full-line average of 6.6%.

  • The strongest performances by category were in accessories and junior women's apparel both of which exceeded the full-line average.

  • Gross profit increased 180 basis points or $92 million compared to last year, primarily as a result of strong sales and lower markdowns.

  • We have seen significant gross margin expansion in each of the past four quarters with the biggest driver being continued improvement in inventory management.

  • Not only are we demonstrating better discipline with our inventory planning but we are also much more nimble about reacting to sales trends and reinvesting inventory capital productively.

  • The positive impact of better inventory management on both sales and gross margin is clearly visible in a number of metrics including regular price sell through, inventory turn and GM ROI, all of which are showing meaningful year over year improvement.

  • Turning to SG&A, operating expenses for the quarter improved 20 basis points on a percent of sales basis which is less than the 40 to 50 basis points that we planned.

  • The primary reason for the shortfall is that we lost about 30 basis points of leverage due to a higher than expected incentive compensation expense, specifically the incentive components that are tied to stock performance.

  • Aside from that one area overall expense performance was good.

  • All of our controllable operating expenses -- expense components such as labor, advertising and supply chain generated 85 basis points of leverage relative to the prior year.

  • All in all we continue to make progress managing our expenses.

  • Credit card revenue, the service charge and other income line of the P&L, increased $7 million for the quarter primarily due to higher total receivables.

  • Bad debt expense is lower than last year due in part to lower proprietary receivable balances but bad debt levels also reflect improving delinquency and write-off trends.

  • We monitor both closely and make adjustments to our reserve as needed.

  • Net interest expense was 14.1 million for the quarter, in line with expectations.

  • This level of interest expense reflects our anticipated quarterly run rate for the remainder of the year.

  • The interest expense reduction from one year ago reflects lower overall debt levels as well as the fact that we incurred 6.4 million in additional interest expense during the second quarter last year related to debt retirement.

  • Speaking of debt, at quarter end we have just over 1 billion in debt on our balance sheet.

  • With total capital of just under 3 billion, our debt to total cap is currently 36%, down from 47% this time last year.

  • While there was no share repurchase activity during the quarter we continue to evaluate the possibility of resuming our share repurchase program.

  • We are pleased with our overall inventory position.

  • As I mentioned earlier inventory productivity is much improved and from a content perspective our inventory is current.

  • At quarter end total inventory was about flat with last year.

  • Total inventory per square foot was down 3% on top of an 8% decline in the second quarter last year.

  • In our comp stores inventory was down about 1.5% on both an absolute and per square foot basis.

  • Our goal for the remainder of the year is for inventory per square foot to be flat with last year.

  • Preliminary capital expenditures for the quarter, net of developer reimbursements, totaled approximately 50 million.

  • Depreciation and amortization for the quarter was 65 million.

  • We finished the quarter with approximately 485 million in cash.

  • Inventory and total on balance sheet receivables were just over 1 billion each at quarter end.

  • Now with regard to our outlook for the third quarter we are forecasting earnings in a range of 35 to 40 cents per share based on the following assumptions: Same store sales are expected to increase 1 to 3%.

  • Gross profit is expected to improve 20 to 30 basis points for the quarter.

  • As you may recall, last year we experienced favorable shrink results from our midyear inventory.

  • This adjustment benefited third quarter gross margin last year.

  • Our forecast for the quarter is on plan since we have not yet completed the mid year inventory.

  • So while we are planning markdown improvement in the quarter we expect the currently planned unfavorable shrinkage comparison to partially offset the gross margin improvement we would otherwise expect in the third quarter of this year.

  • SG&A is planned flat on a percent to sales basis as we continue to recognize higher incentive compensation expense relative to last year.

  • Based on our current sales plan, this is offsetting leverage across our other expense components.

  • These increased costs, recognized through the first three quarters, will be offset in the fourth quarter where we recognize a significant portion of last year's total incentive costs.

  • As a result we expect our expense to grow approximately 3 to 3.5% in third quarter and be flat to down 1% in the fourth quarter.

  • Of course, if we exceed our sales plan we would expect incremental expense leverage.

  • For the full year we are raising our previous guidance of $2.42 to $2.46, to an updated range of $2.46 to $2.50.

  • This represents over 40% growth in earnings per share over 2003 earnings of $1.76 per share.

  • On a full year basis we are assuming a 4 to 6% same store sales increase, 100 to 130 basis points of gross profit expansion and 70 to 90 basis points of expense improvement.

  • Now I will turn the call over to Blake for some closing remarks.

  • - President

  • Thanks, Mike, and good afternoon, everyone.

  • Before opening it up for questions I wanted to make a few comments about our outlook for the year and how we are thinking about the years ahead.

  • We just completed another good quarter and we are on our way to another year of strong performance.

  • We expect to end this year delivering over 40% net income growth, a pretax margin in the neighborhood of 8.5%, the best expanse performance in over five years and the best gross margin results in the Company's history.

  • Our progress the past few quarters has been notable but our expectations for the next two quarters and the coming years is for a more moderate level of steady ongoing improvement.

  • For Nordstrom success starts and ends with the experience each customer has in our stores, which is why we work so hard to stay close to our customers and provide a compelling reason through product and our folks at point-of-sale for them to choose us over one of our competitors.

  • Over the past four years we have also been intently focused on improving our merchandise execution as well as our inventory and expense disciplines in an effort to bring the Company back to more historic levels of operating performance.

  • We are beginning to see that as our results the past few quarters demonstrate.

  • Our people deserve all the credit for the progress to date but we are careful not to get too comfortable or spend too much time dwelling on the past.

  • We are keenly aware that ours is a highly competitive industry and to be a successful fashion leader we must always move forward.

  • So while we have been successful achieving our shorter term goals the next step for us is working to achieve all time best performances.

  • As we look ahead we see many opportunities for further improvement.

  • We will require good execution and intense focus on driving continuous progress cross every dimension of our business even though there is, we consider, core competencies.

  • Two such areas of strength within our Company are selecting great product and servicing our customers.

  • Yet neither is self sustaining, meaning we could never take them for granted.

  • We must work hard every day to maintain and ultimately enhance these competitive strengths.

  • At the same time we must continue to layer on new core competencies.

  • In terms of our merchandising capabilities Pete Nordstrom, the corporate merchants and the rest of the merchandising team have been doing a great job refining our merchandising efforts and it shows in our monthly sales results.

  • But we know there is room for improvement.

  • While much progress has already been made our replenishment and markdown capabilities have yet to be fully optimized.

  • And we are just beginning to develop a more sophisticated approach to allocations and assortment planning.

  • By improving our proficiency in these areas we expect to drive sales and margin gains in the coming years.

  • On the expense side a couple of things are happening which will drive ongoing benefits.

  • First, our people are thinking about expenses with a renewed point of view, thinking about how to spend differently or more wisely, and making better choices about how to leverage limited resources.

  • Second, we are doing a lot of work developing and implementing best practices, resulting in better decision making and more efficient processes across the Company.

  • Third, we are continuing to develop better expense reporting which is allowing us to evaluate and monitor our costs much more effectively than in the past.

  • We have more information today than any time in the Company's history and we are working hard to gather as many objective measurements as we can to help us gauge our progress and highlight areas of opportunity.

  • All of our efforts and increased discipline over the past few years have been intended to put the Company in a position of strength so we can take full advantage of our competitive position and have the flexibility to make the most of future opportunities.

  • In our view there is no finish line because there will always be room for improvement.

  • We believe that the opportunity before us is significant and we are committed to ongoing steady improvement to not only deliver best performance but to lead the industry.

  • Now Mike and I would like to open it up for any questions you may have.

  • Operator

  • Thank you. (Caller Instructions) Our first question comes from Daniel Barry with Merrill Lynch

  • - Analyst

  • Congratulations on a great quarter.

  • - President

  • Thanks, Daniel.

  • - EVP & CFO

  • Thanks, Dan.

  • - Analyst

  • You used to have a goal of 7.5 to 8.5% pretax as you just said, do you think you're going to hit that high-end of the goal this year.

  • Can you give us another three-year goal.

  • - EVP & CFO

  • Well, Dan, thanks, this is Mike.

  • At this point in time, no, we haven't updated that.

  • Our plan is to update that as we turn the year and talk about 2005 in February.

  • But certainly if you look at the results and the guidance we are giving it would suggest that we are going to hit that 8.5% this year.

  • - Analyst

  • Did you say you might give us another three-year goal early next year.

  • - EVP & CFO

  • Yes.

  • - Analyst

  • Okay.

  • And then you also, heading toward the 350 number on sales per square foot, your peak is 395.

  • Do you think you can get back there and if so when?

  • - President

  • This is, Dan, this is Blake.

  • The thing that we've been talking about the last four years is that it's important for our business model to see continuous improvement in sales per square foot and as you mentioned 394 was our peak.

  • We think with the plans that we have that we will get there.

  • We haven't specifically given a timetable but we don't see anything that limits us from getting there or for continuing to move forward from that.

  • - Analyst

  • Great.

  • Congratulations again.

  • - EVP & CFO

  • Thanks, Dan..

  • Operator

  • Our next question comes from Adrianne Shapira with Goldman Sachs.

  • - Analyst

  • Thank you.

  • Mike, you -- you talked about -- can we talk about expenses a little bit.

  • I understand, obviously, this quarter and the next few quarters we are going to see some impact because of that higher incentive expenses but can you update us on the progress on the expense reductions in terms of price look up and some of the IT efforts and maybe update what sort of comp we need to see to get some leverage going forward?

  • - EVP & CFO

  • Sure.

  • Well, thanks for the question Adrienne.

  • In terms of progress, you know, I would just state overall the progress we are going to make this year we've stated that our expense on a rate basis is going to improve 70 to 90 basis points and that's off of last year's where we had a pretty good year but we improved 30 basis points.

  • So we continue to make some good progress.

  • In terms of some of those initiatives, point-of-sale because -- the roll-out will be complete at the end of the third quarter this year.

  • We've already started testing the benefits we are going to get from that which includes the price look up capability and cross docking which is being tested in selected areas right now.

  • So when the chain is fully rolled out we should be able to leverage that as we get into '05.

  • We have this year been continuing to streamline and sunset some of the old legacy processes in IT as well as adopt best practices so we can be more streamlined in our back office functions.

  • So I would say we are -- we are on plan and continue to make progress relative to the initiatives that we've set out.

  • - Analyst

  • Great.

  • And, Blake, you had mentioned that you are looking at expenses differently and this seems like there's more of a focused approach in terms of reporting and best practices.

  • Any change in terms of compensation to get people even more focused on expenses?

  • - President

  • Adrienne, we continue to look at that and I think we are sensitive to, you know, wholesale changes but -- and a lot of things we are doing we are just continuing to evolve and make appropriate adjustments, compensation included.

  • We believe strongly in -- in keeping it simple so our folks can understand it but I think with the enhanced measurements and metrics we are able to link that to the incentives better and we are very fortunate to have a group of people with a high degree of ownership that then, you know, take the ball and run with it.

  • So we are encouraged about where that's leading and I think our folks -- what I was trying to share, is that --again, what we are proud of their ownership feeling but they are looking at the 100 cents on the dollar and what's the best way to spend that that's most impactful to the customer?

  • And so things that are facing the customer we are very protective and sensitive and we want to either maintain or enhance those experiences but everything else that the customer doesn't see is fair game, is on the table and we are asking a lot of tough questions and the key is its bubbling up to the organization and to get the best ideas and the best gains you need everyone on board and that's getting better and better.

  • - EVP & CFO

  • Adrienne I would also add one other item to Blake's comments and that is the majority of our leader in the company is incented on company profitability so it is a balanced measure for the leadership which is -- which is helping make more balanced decisions not only in driving sales and getting margin but also delivering flow through to the bottom line.

  • And if you look at the flow through we've had for a number of quarters now this year -- this quarter was 40%.

  • I think that's reflective of a more balanced approach to how we drive the business.

  • - Analyst

  • Great.

  • Thank you.

  • - President

  • Thank you.

  • Operator

  • Our next question comes from Deborah Weinswig with Smith Barney.

  • - Analyst

  • Good evening, two questions.

  • Can you update us in terms of the point-of-sale and personal book initiative and when you roll-outs will be complete?

  • And secondly, Blake, you mentioned that markdown capabilities have yet to be fully optimized.

  • Can you also discuss that a little bit here as well.

  • - President

  • Sure.

  • Mike, you want to take the first part.

  • - EVP & CFO

  • Sure.

  • In terms of point-of-sale and personal book we will have that roll-out completed by the end of the third quarter.

  • This year we've been catching up on the personal book because that didn't go live until the beginning of this year.

  • But we should have everything implemented and rolled out by the end of October prior to the holiday selling season.

  • - President

  • So, Deborah, this is Blake.

  • On the markdown capabilities, we really believe we are at the early stages of this and we recognize there's lots of opportunities to improve in that area and it's a big number.

  • And markdowns obviously are part of being in a fashion business.

  • But the thing that's benefited us the most to date is the most simple thing that is really absent of technology and that's just having your inventories in line and not getting over bought and working on some of the allocation.

  • And so what encourages this is to use these tools from perpetual inventory to work on the allocation subject and the result from that is, you know, reduced and more efficient markdowns.

  • But there are just a number of initiatives, you know, whether it's replenishment or allocation or knowing by SKU what's taking place in each of our divisions and stores to really tailor the buy correctly has a pretty dramatic effect on the markdowns.

  • And so we should -- we fully expect that to continue to improve for multiple years.

  • Mike, is there anything you want to add on that?

  • - EVP & CFO

  • Well, I would just say that the fine-tuning of -- of the -- of the replenishment piece and the markdown piece is just beginning.

  • You know, the last two years has really been about understanding the core tools and capabilities of our perpetual inventory system.

  • And so now as the basis, you know, the basis for all that is there, our teams are getting more into replenishment, more focused.

  • Starting -- we are doing some testing with markdown optimization as we speak.

  • And then of course the whole planning and allocation piece is something that -- that we really haven't begun to really tackle yet and that is an opportunity for us in the next several years.

  • - Analyst

  • So on the technology side you've obviously completed a lot of initiatives successfully.

  • Seems like there's still a lot ahead.

  • What inning would you say we are in?

  • - President

  • I'm laughing, Deborah, because we are all sports nuts and so awhile back we used that as inning analogy and now every time we run into people, it's what inning -- what inning you're in and sometimes someone might say we are in the bottom of one inning or some in the top and so we want to make sure we are on the same page.

  • But I think what we have been trying to say is that we are in early stages and we've got some initial success, we are very encouraged by it.

  • But, you know, we are students of this, we are on a steep learning curve, and we are very optimistic and confident over multiple years to see numerous gains from it.

  • And, so, given that this is new territory for us it's hard to be real absolute on it.

  • But I think it's in the more earlier stages, is fair to phrase it.

  • - Analyst

  • Top of the third, bottom of the fourth.

  • All right.

  • Thank you guys so much.

  • - President

  • Thanks.

  • - EVP & CFO

  • Thanks, Deborah.

  • Operator

  • Your next question comes from Linda Christensen with UBS.

  • - Analyst

  • Good afternoon.

  • I was just looking at your comp guidance for the third quarter and 1 to 3%.

  • You've talked about having a -- a strong anniversary sale and I recognize you have a little bit tougher comparisons coming up but it's quite a slow down in momentum.

  • So, A., my first question would be, are you seeing anything that at all concerns you on the sales front?

  • And secondly, could you just talk in a little more detail about what you learned from the anniversary sale with respect to the outlook for fall selling?

  • - President

  • Well, Linda, this is Blake.

  • I will try to answer both.

  • First of all I think it's important to reiterate that we've learned that it's very important that we plan our business appropriately.

  • What I mean by that, as we approach this year and have had some success we've had, if you will , more conservative plans and as sales have surpassed that it's that extra performance that's gone to the bottom line.

  • We've had pretty good flow through.

  • And so the minute we get a little agressive or goal oriented with our plans, both internally and even, you know, as we -- we try to share sales numbers with you, we've in the past gotten in trouble.

  • So, I don't think our trend in terms of guidance is any different.

  • We haven't seen anything and from a sales trend that's considerably different.

  • I mean, obviously, first quarter was really good from those comparisons and toward the second quarter it was still good but it was a little bit less than the beginning and the anniversary sale we were very pleased with.

  • It was roughly a 6.2% increase off last year's 6.5 so it certainly exceeded our plans and what anniversary told us was a continuation of what we've been experiencing all spring is how the consumer is responding to color and fashion and freshness and so our ability to keep our inventories clean is really helping drive our sales.

  • And so we are going to continue with that plan and that plan is in motion and there will be some minor adjustments coming off anniversary but there's nothing that gives us anything that we would share with you that's deviating from that at this time.

  • - Analyst

  • Okay.

  • Thank you.

  • Operator

  • Our next question comes from Emme Kozloff with Sanford Bernstein.

  • - Analyst

  • Hi, questions are for both Blake and Mike, I think.

  • First thing is what criteria are you using in making a go, no go decision on share buyback just so we can get a sense of what you mean when you say you are continuing to look at it?

  • And then secondly, how strategic do you view your credit operations?

  • Obviously, you know, a lot of retailers are finding value in selling them and what would stop you from selling it?

  • Thanks.

  • - EVP & CFO

  • Hi,Emme, this is Mike.

  • I will answer those questions.

  • In terms of the share repurchase, you know, it really has been a reevaluation within the company and with our board as our view as to how we want to return capital to our shareholders.

  • So, you know, we had gone through a period back in the late 90s and into like, I think, early 2001 where we repurchased almost $1 billion worth of stock and -- and actually put about the same amount of debt on our books.

  • And so, you know, there's a -- there's a -- there's a sensitivity that as we move forward that we are doing this in a balanced way.

  • And so we are just currently having those discussions.

  • But I think if you look at the health of the company and the free cash flow that we are generating we are certainly a lot more confident about our ability to do that and maintain a healthy balance sheet than we have been in the past.

  • The second part in terms of the credit business.

  • You know, I would say -- we -- we've had several questions on that especially in light of the growth of our -- of our Visa card which is, in the last couple of years the balances have grown and have used some of our working capital.

  • But you know we continue to run a very healthy profitable business in credit.

  • It is not -- it has not had a negative impact on our ability to drive our core business.

  • And, you know -- and -- and we continue to maintain a healthy relationship with our customer in terms of being able to understand what our customer wants, what her shopping patterns are and we are improving our ability to connect.

  • So, you know, at this point in time it still is a strategic weapon for us and we look at it that way and, you know, we will always evaluate it in the sense that it does use the resources of the company but as of right now we have no plans for any change there.

  • - Analyst

  • Okay.

  • Thanks.

  • - EVP & CFO

  • You're welcome, Emme.

  • Operator

  • Our next question comes from Dana Cohen with Banc of America Securities.

  • - Analyst

  • Hi, guys.

  • - President

  • Hi, Dana.

  • - Analyst

  • Couple of questions.

  • I sort of had something going on with my phone here and I missed the comment that SG&A, the issue in the quarter, can you just clarify that again?

  • - EVP & CFO

  • Yeah, sure, Dana.

  • This is Mike.

  • We-- we lost about 30 basis points in the quarter because of incentive related costs that was primarily related to our stock related incentive.

  • And as you recall last year this happened in the fourth quarter, it's our performance share units.

  • We had about a 23% increase in our share price during the quarter and that caused an additional expense that we did not project going into the quarter.

  • - Analyst

  • Okay.

  • And then as you look at the -- as I look at your projections here and I'm just sort of backing into Q4, it sounds like you are expecting gross -- gross margins to be flattish in Q4 and then on SG&A can you just talk a little bit because to get to the flat to down and I'm sort of adjusting for the 30 million of last year, it would seem like SG&A has to be up a little bit more on an underlying basis in Q4 and I'm just wondering what's going on there?

  • - EVP & CFO

  • No.

  • The way -- the way we see it is we are seeing, currently, moderate expansion in the gross profit for the fourth quarter.

  • We didn't detail that out but -- but we see moderate expansion there.

  • And I called out expenses in the fourth quarter to be flat to slightly down.

  • And I think that fits -- fits the overall guidance that we are giving, Dana.

  • - Analyst

  • No, no, no,I understand that.

  • I'm saying -- I'm assuming what we need to adjust for is the 30 to get to the flat to down, that's the right number?

  • - EVP & CFO

  • That's -- well, it's -- it's that offset by some other increase but it's approximately that number.

  • - Analyst

  • Great.

  • Thank you.

  • - EVP & CFO

  • Okay.

  • You're welcome.

  • Operator

  • Our next question comes from Bob Drbul with Lehman Brothers.

  • - Analyst

  • Hi, good afternoon.

  • Just one quick question on -- in terms of the sales volume.

  • When you look at, you know, what really drove your business in the first half of the year, do you think that you will get the same drivers in the back half of the year in terms of leadership of the business, the hand bags, accessories, et cetera?

  • - President

  • This is Blake.

  • Again, though, and I mentioned earlier those numbers might be a little bit different in terms of the comparisons, in terms of those divisions that have been successful all year long we see nothing that changes that at this point so your example with hand bags and hand bags and the accessory division is a very strong business for us and continues to be so and so we see that going through third and fourth quarter.

  • - Analyst

  • Okay.

  • Thank you.

  • You bet.

  • Operator

  • Dorothy Lakner with CIBC World Markets, you may ask your question..

  • - Analyst

  • Thanks, just a follow up on that question, if you could just give us a little bit more color on -- on anniversary and what -- what those trends were telling you for -- for results in the -- in the fall season and in the third quarter, in particular which businesses were really out in front and I realize you said that things have been strong across the board but if you just put a little color on that that would be helpful.

  • Thank you.

  • - President

  • Okay.

  • Hi Dorothy.

  • This is Blake.

  • I -- I'm filling in for Pete so I am probably not as specific as he would be and I know he even hesitates a little bit to try to take general broad sweeps about what's going on with our business.

  • But, you know, this tweed jacket look, that kind of Channel look, at all price points and divisions and where it was very successful, ponchos, scarves, wraps, continues to be good.

  • Color, just across the board and I know it's a general thing, the consumers really responding to color.

  • Fashion and fashion can be interpreted in so many different ways, but our vendors are just doing a super job with innovative product and as our buyers have opened a buy or are able to react quicker, you know, we've got some timely product and good flow.

  • So there's some skirts and sweaters that have a real femininity to them, they've been good.

  • Denim across the board continues to be strong and there's apparel and footwear that's athletic inspired and people aren't working out in this traditional athletic brand but it has almost a street wear look and that's been successful as well.

  • So, you know, we mentioned the accessory division has been good.

  • Our Brass Plum TVD area for young women has been very healthy for us and a number of other areas as well.

  • Women's shoes has been having a good year and had a good second quarter and it's good to have our shoe division really contributing as well.

  • - Analyst

  • Are you seeing also the pick up on the men's side of the business, this whole dress up trend filtering over to men's as well as women?

  • - President

  • Yeah, there's been some discussion in different mediums about that.

  • Our men's business, you know, was in the tank years ago and our team got it back on track and has made just great strides and it's been healthy and consistent now for many quarters.

  • And so it's not in the top three but it's definitely contributing and it's above average.

  • So we haven't seen a spike because of the so-called, you know, dressing up for careers and changes but our career business both for men and women is strong and we think we play in that area well.

  • - Analyst

  • Okay.

  • Great.

  • Thank you.

  • Operator

  • Our next question comes from Shari Eberts with JP Morgan.

  • Hi, everybody.

  • Couple questions.

  • - Analyst

  • First on the gross margin for Q3 can you give us a sense of, I guess, why you are expecting unfavorable shrink and what the magnitude of that is?

  • - EVP & CFO

  • Hi, Shari, this is Mike.

  • What we are saying is that last year we benefited from a shrink adjustment in the third quarter that we are currently not anticipating this year.

  • So the -- so it's not that we have negative results this year it's that we had some excess positive results last year.

  • The impact of that last year was about 30 to 40 basis points.

  • So, you know, we are in the process right now of going through physical inventory and, you know, we should know soon how we fair there but, you know, we're -- we're keeping the gross profit projection including our current plan for shrink.

  • - Analyst

  • Okay.

  • - EVP & CFO

  • Okay?

  • - Analyst

  • Then secondly just on the expenses, I understand the stock price is something that you can't control but is there a way to accrue or sort of smooth for this type of issue going forward.

  • - EVP & CFO

  • Yeah, that's -- that's a great question.

  • And -- and what-- what we've looked at in guiding our expenses going forward is we try to be more prudent in -- in recognizing that the opportunity exists, that there could be some expense there.

  • And to the extent that it doesn't, you know, we'll -- we'll benefit from that.

  • But I think we learned a little bit last quarter that it probably makes sense to take a closer look at that.

  • - President

  • And, again this is Blake.

  • The tough thing with the accounting on that is mark-to-mark and so it can move monthly on you and so it's a tough thing to project out.

  • - Analyst

  • Okay.

  • And then my last question is is obviously it looks like the expenses are coming in a little high relative to plan for the year but the guidance is going up.

  • So I'm wondering what the -- the offset is there.

  • - President

  • Mike, you want to take that?

  • - EVP & CFO

  • Yeah, sure.

  • Shari, when you say they are coming in high relative to plan for the year, you're -- you're -- we called out to 70 to 90 basis points improvement.

  • - Analyst

  • Right.

  • I mean, I think -- I think last quarter you mentioned it would be 100 to 130 basis points of improvement for the year.

  • - EVP & CFO

  • Right.

  • - Analyst

  • So, I mean, obviously the change in the -- in the year, the expenses for this quarter were above plan and that (inaudible-two speakers) that you mentioned so what's the offset?

  • - EVP & CFO

  • Well, most of that difference is a result of some of these anticipated incentive charges but in terms of the offset it was primarily, you know, in what we see in gross profit.

  • - Analyst

  • Okay.

  • Great, thank you.

  • Operator

  • Our next question comes from Jennifer Black with Jennifer Black and Associates.

  • - Analyst

  • Good afternoon.

  • I have a couple of questions.

  • My first question I wanted to know if you're happy with your loyalty program and I wondered if customers are redeeming certificates at a faster pace?

  • - President

  • Hi, Jennifer, it's Blake.

  • - Analyst

  • Hi, Blake.

  • - President

  • The loyalty program and you are on the receiving end of this as well, too, and so I know you are a -- a beneficiary and same with some of the other callers on here, it's been excellent and it's been accelerating as people, most importantly our folks understand the program, it's been consistent now over the years and there's a -- a loyal following from our customers on our rewards program and it's been very successful for us and we've done things like for the anniversary sale the first couple of days there's additional points.

  • We've done things like getting those reward certificates out in a timely way so like on the back half of anniversary they've been in the mail and they are in the customers hands and hopefully give them a reason to come back in the stores.

  • So to date we are pleased with how the loyalty program is being executed and most importantly received from our customers.

  • - Analyst

  • Okay.

  • Do you have any further plans to change it in any way?

  • - President

  • At this point we have no plans to change it.

  • You know, Mike talked about our credit and it's use of capital so we look at it that way to make sure that we are efficient and appropriate there but at this point we are happy with our loyalty program.

  • I think the opportunity is in with the databases and knowing more about our customer, and so, whether it's in multichannel and some of our marketing, whether it's just a number of things we can be more targeted with the customer and get more laser like with these resources and hopefully get a better return.

  • - Analyst

  • Okay.

  • And then how quickly can you -- could you alter your buys for holiday versus last year with your new systems based on what you learned from anniversary?

  • - President

  • You know, I actually think it has more to do with -- and there's some to that, Jennifer, but I think it has more to do with the fact of having inventory open to buy.

  • So, we've enjoyed first quarter, second quarter were pretty good but even last year at this time inventories were starting to come down because the first half of '03 they were heavy but there were still pockets where we were a little choked up and I think we are more uniform, if you will, in our inventory management that arms our buyers again with this flexibility, this open to buy and the fact that they have this data which is factual and they are working side by side with the vendor in partnership.

  • It enhances that flexibility.

  • And so, you know, there are a lot of dollars committed in plans made for the fourth quarter but there is flexibility to that and that flexibility is helping our business.

  • - Analyst

  • Okay.

  • And then lastly I wondered if you measured what percent of your business was full price versus sale merchandise at the sale?

  • - President

  • We measured that but I don't believe, Mike and correct me if I'm wrong, that we've ever shared that publicly, have we?

  • - EVP & CFO

  • No, no, we haven't but, you know, we can say that it did improve over last year.

  • - Analyst

  • Okay, thank you.

  • - President

  • So we have a -- we have a robust regular priced business and as Mike said it is improving.

  • So that has to do with, you know, picking the right stuff and managing the inventory better and I think we saw a little bit of that in June, you know, when our clearance sales were a little softer because we had less clearance.

  • - Analyst

  • Yeah.

  • Okay, thank you very much and good luck and congratulations.

  • - EVP & CFO

  • Thanks, Jennifer.

  • - President

  • Thanks, Jennifer.

  • Operator

  • Our next question comes from Theresa Donahue with Neuberger Berman.

  • - Analyst

  • Hi, guys.

  • - President

  • Hi.

  • - EVP & CFO

  • Hi, Theresa

  • - Analyst

  • Hi.

  • I had two questions.

  • First of all your comp leverage points at this stage and secondly I was a little confused by the intra quarter guidance you gave us on gross margins in terms of the shrink,you know, the shrink provision.

  • I didn't quite get all that.

  • - EVP & CFO

  • Sure.

  • All right, Theresa, this is Mike.

  • You know, in terms of the leverage we've said, I think, pretty consistently for awhile that we believe low single-digit comps is going to allow us to lever our expense and we still believe that.

  • The second part of your question relative to the gross profit, the impact is that last year in fiscal 2003 we got a benefit because our shrink results were better than what we had been accruing at for the first half of last year.

  • This year we are not projecting to get the same benefit because at this point we don't know.

  • - Analyst

  • So the shrink accrual benefit came into the third quarter last year?

  • - EVP & CFO

  • That's correct.

  • - Analyst

  • Okay.

  • Thanks.

  • - EVP & CFO

  • That's correct.

  • Thank you.

  • Operator

  • Our next question comes from Christine Augustine with Bear Stearns.

  • - Analyst

  • Thank you.

  • Mike, is there an update to the free cash flow projections, I believe it was 70 to 100 million?

  • It looks like it might come in a little north of that.

  • That's my first question.

  • And then the second one is on the SG&A.

  • If you planned to improve 40 to 50 basis points, you came in at 20, 30 basis point offset from the unanticipated move in the stock price, but then I thought you said there was 85 basis points of improvement on labor, advertising and supply chain.

  • So I'm just trying to reconcile all that.

  • - EVP & CFO

  • Sure.

  • Thank you.

  • Let me answer that part of the question first.

  • The difference there is the fact that our cash related incentives are higher in the first half of this year than they were last year.

  • If -- if you look at last year we earned over 91% of our earnings increase in the back half of the year.

  • So -- so in the front half of last year our incent --our cash related incentive expense was significantly lower than it is this year versus -- because of the first half this year our earnings were up almost 89% in the first two quarters.

  • So what's happened there is -- is we just have a timing and a recognition of incentive costs between the two years.

  • We believe by the end of the year that that is all going to even itself out and that's reflected in the 70 - 90 basis point improvement in SG&A.

  • In terms of the free cash flow, you know, year-to-date our free cash flow is almost $100 million at this point.

  • So I haven't gone back and updated what I think the year is going to look like but I think that would suggest that we are going to come in better than what we had been talking about earlier, Christine.

  • - Analyst

  • Okay, great.

  • Thank you.

  • - Manager Investor Relations

  • Thanks for the question. (Caller Instructions) And I think we are going to go ahead and wrap it up at this point.

  • So, thank you for all participating in our conference call this afternoon.

  • If you have additional questions or need further information I can be reached at 206-303-3262, the replay number for this call is (866)499-4574.

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  • Thank you for your interest in Nordstrom.