LandBridge Co LLC (LB) 2006 Q2 法說會逐字稿

Welcome to the Limited Brands Incorporated second quarter earnings release conference call. [OPERATOR INSTRUCTIONS] Today's conference is being recorded. If you have any objections you may disconnect at this time. I'll turn the meeting over to Mr. Tom Katzenmeyer, Senior Vice President of Investor, Media, and Community Relations. Sir, you may begin.

Thank you, and good morning, everyone. Welcome to the Limited Brands second quarter earnings conference call for the period ending Saturday, July 29, 2006. As a matter of formality I need to remind you that any forward-looking statements that we may make today are subject to our Safe Harbor statements found in our SEC filings. Our second quarter earnings release and related financial information are available on our website Limitedbrands.com. This call is being taped and can be replayed by dialing 1 -800-337-6551 followed by the pass code 583. You can also listen to an audio replay from our website.

Martyn Redgrave, EVP CAO, and CFO; Grace Nichols, Victoria 's Secret Stores; Neil Fiske, CEO Bath & Body Works; and Jay Margolis, President, Apparel are all joining me today. Amy Preston, VP of Investor Relations is also with us. As always after our prepared comments we will be available to take your questions for as long as time permits. We expect the call to run until about 10:00. So tha we can speak with as many callers as possible, it is important that you limit your self to one question. With that I'll turn the call over to Martyn.

Thanks, Tom and good morning, everyone. We're very pleased with our Second Quarter results. As you know, earnings per share increased 40% to $0.28 per share. Our comps increased by 5% and our total sales also increased 7% to $2.454 billion. Gross margin increased by 230 basis points to 34.8%, primarily driven by an improvement in merchandise margin at Express. In addition we also leveraged our buying and occupancy costs.

Our total SG&A dollar spending increased by 11% which was a slight deleverage by 90 basis points. Our incremental spending was driven primarily by the following--First, about half of the SG&A increase was driven by an increase in marketing expenses, primarily at Victoria's Secret to support new product launches and Grace will talk more about that. Second, an increase in our incentive compensation expense year-over-year which was driven by improved performance. Third, an increase in store payroll costs which were leveraged as a percentage of sales but were necessary to support our increased sales levels. Fourth, we made incremental investments in technology and infrastructure as we've discussed in prior calls. And finally, we recognized incremental stock option expense related to our adoption of FAS 123R.

Our second quarter operating income increased by $43.4 million and by segment, the results were Victoria's Secret operating income increased by 5.8 million, Bath & Body Works increased by 18.8 million, Apparel results improved by $27.6 million and our other segment net expense increased by $8.7 million. Our inventories ended the quarter up 19% per square foot at cost. This was primarily driven by a planned increase at Bath & Body Works. We were deliberately building up our safety stock inventory at BBW in advance of the start of our conversion to knew supply chain systems which we cut over to on the July 4th weekend. Victoria's Secret was also up to last year which was driven by increased inventory to support all of the new product launches in the second quarter.

Apparel inventories ended the quarter down 5% per square foot at cost. During the quarter, we also repurchased approximately 1.9 million shares for $49.9 million. While current program is nearly complete, we will continue to repurchase shares in the fourth quarter and beyond under our new new 100 million program which was recently approved our Board in June.

Now turning to our outlook in the third quarter. In the third quarter we're projecting earnings per share to be roughly flat compared to last year's breakeven result. This estimate, is predicated on high single digit comps, an increase in the gross margin rate, and a significant increase in the SG&A rate. It also includes an estimated cost of approximately $0.02 per share for stock option expense. Our third quarter forecast reflects the following factors--First, the third quarter does not include a major holiday or semiannual sales as you all know and therefore is historically our lowest volume quarter for Victoria's Secret And BBW. We also incur expenses related to preparing for the holiday in the third quarter which are more difficult to leverage against our lower sales volumes. Second, our forecast includes significant increase in marketing expense which is primarily a reflection of our brand expansion strategy at Victoria's Secrets Stores and Grace will explain further in her remarks.

Third, as I mentioned on our first quarter call, we are investing in new systems and process management capabilities. This multiyear project is impacting our finance supply chain and customer relationship management systems across all of our brands and as I mentioned earlier, BBW converted to the new supply chain systems just this past month in July. The remainder of our brands will be implementing these new systems over the next two years. And lastly, we are investing in a new distribution center and new distribution center capabilities and front end technology capabilities to support the substantial growth at Victoria's Secret Direct. We expect inventories in the third quarter on a cost of goods sold, cost of goods available for sale basis will be up in the low 20s versus last year. This increase reflects the safety stock build up at Bath & Body Works that I just referred to and the increases at Victoria's Secret to support the fall product launches that I mentioned earlier.

For the full year 2006 we are projecting earnings per share of $1.55 to $1.65 which represents a fall forecast which is consistent with our previous projections. Excluding estimated stock option expense of $0.05 per share this year, and the 2005 significant items of $0.29 per share which are detailed in our press release, this projection represents a 20 to 28% earnings growth over 2005. Now this estimate is predicated on high to -- mid to high single digit comps, an increase in our gross margin rate, and an increase in our SG&A rate. It also includes an estimated costs of $0.05 per share for stock option expense. Now, we estimate capital expenditures will be approximately $650 million for the full year versus 2005 expenditures of $480 million. Roughly $100 million of that increase relates to our investments to support the growth of our Direct business including the technology and new distribution center that I referred to.

Now, before I turn the discussion over to Grace, I'd like to make some comments about Victoria's Secret Beauty and Direct. Victoria's Secret Beauty results exceeded expectations during the quarter driven by the continued success of our new Beauty Rush subbrand of lip glosses and eye shadows, the restage of our top selling Dream Angels fragrance, subbrand and the launch of several new lines in the body care category. Looking ahead to the third quarter, we'll be launching the new very sexy makeup line in September in over 600 Stores which will be supported with National Media. Earlier this month, we successfully launched the line in 22 stores in Los Angeles in advance of the September rollout. Additionally, in October we will be launching the fourth scent in the Dream Angels fragrance subbrand.

At Victoria's Secret Direct, they had another exceptional performance in the quarter. Sales increased 14% and operating income increased commensurately. Internet sales continue to experience a strong growth. This performance was above our expectations and was driven by the strength in both intimate apparel and sleepwear. Beauty also achieved strong sales growth at Victoria's Secret Direct over last year as we continued to invest and grow this category. So now, I'll turn it over to Grace to talk more specifically about Victoria's Secret Stores.

Thanks, Martyn and good morning, everyone. Victoria's Secret Stores second quarter sales comps were plus 11% and we're pleased with the top line momentum in the business, especially because all segments of the business are performing. Operating income was flat to last year in dollars and down as a percent of sales. First, I'm going to talk about the sales portion and then I will discuss the operating income rate.

Sales growth during the quarter was achieved in all categories. Bras, panties, sleepwear, PINK, and Beauty. In our core lingerie business, growth in bras was driven by our Angels subbrand with successful launches in both May and July and with the continued strong response to our Secret Embrace technology. Our panty business exceeded our modest expectations as we rolled out a new cotton panty assortment in June and introduced a new line of Sexy Little Things panties. PINK had a very strong quarter, driven by positive customer response to the lounge wear assortment and strength in the panty category. In Intimates, we added the product line to seven stores during the quarter for a total of 66 stores and are pleased with the results. And as Martyn said, Beauty also achieved especially strong sales growth over last year as we continued to invest in and grow this important category. So we enjoyed strong sales in the top line across all our business categories. However, as I mentioned, our operating income rate was flat to -- or income rate was down to last year and flat in dollars. The majority of the operating income rate decline was due to an unplanned decline in the merchandise margin rate driven by the following--First, core lingerie and PINK clearance marked merchandise entering the semiannual sale did not perform as expected necessitating additional markdowns.

Second, in Beauty, we exited our current makeup line during the semiannual sale to make way for our exciting launch of the new Very Sexy makeup in September. The remainder of the operating income rate decline was attributable to an increase in marketing expenses. While the majority of these campaigns successfully drove traffic to the store and drove profitable transactions in line with our strategy, we did not receive the anticipated response from the Sexy Sport, Direct Mail and Redemptive Print campaigns or the strapless bra media in early June, and a portion of the PINK's media. For the fall season we will remain focused on our best of bra strategy with continued new style introductions through major bra launches.

PINK's will highlight a strong fashion offering supported by marketing and redemptive print. Stores are currently featuring the new Body by Victoria, The Body, which features our Secret Embrace technology, and as Martyn mentioned, we will continue to place a deliberate focus on expanding the brand through aggressive marketing and traffic driving strategies. This will include introductory offers that are designed to grow our customer base in areas where we want to expand market share and increase loyalty. We are also introducing new and existing customers to our products and subbrands through sampling. We have been steadily increasing our database and we're going to continue to contact these new clients. We are also adding events to our calendar in order to continue the momentum of the business. Thanks and now we'll turn things over to Neil.

Thank you, Grace and good morning, everyone. Bath & Body Works comps increased 11% in the second quarter against a 9% increase last year. Operating income for the quarter increased by 18.8 million or 25% which represents a 170 basis point improvement as a percentage of sales versus last year. Overall, sales and operating income for the quarter were above our expectations. Our gross margin rate improved as leverage on buying and occupancy expense more than offset a slight decline in merchandise margin rates. As mentioned on the last call, we continue our proactive steps to manage discretionary expenses very tightly. These actions contributed to modest SG&A expense leverage over last year.

The quarter began with our best Mother's Day performance ever, a theme which focused on gifts for mom and signature collection fragrances launched in April. The relaunch of the true Blue Spa line during the summer theme was very successful demonstrating our ability to create renewed customer interest in an existing subbrand. Also during the summer theme, we introduced Temptations, a new collection of tropical skin care pampering treats. This fun collection was very well received by our customers and performed above expectations. We saw a very strong start and strong finish to the semiannual sale through more effectively managed promotional activity. Throughout the quarter we continued to emphasize the Signature collection, formerly known as Daily Beauty Rituals. Most significantly, in July, we launched the Signature Collection hair care line reflecting our strategy to grow the Bath & Body Works brand and build new incremental product categories.

As we enter the critical fall season, we will continue to focus on themes with fewer bigger statements and balancing newness with the strength of our Signature Collection. Currently, stores are focused on the back to Beauty theme which consistent with our second quarter strategy features three big in store statements of our annual handset event, a fragrance extension within the Signature Collection and new items within the American Girl subbrand. Early fall themes offer incremental fragrance extensions in Signature Collection and the reintroduction of our popular Perfect Autumn collection comprised of seasonal fragrances. Lastly, we continue to be very pleased with the performance of our Direct business. We view the catalog and web channels as primary marketing vehicles that we will continue to exploit in the fall season. With that I'll turn the discussion over to Jay.

Thanks, Neil Fiske and good morning everyone. Express comps declined 11% in the second quarter which was disappointing. A large driver in this decline was the anniversarying of significant promotional and clearance activity last year. Despite the lower sales we were able to achieve significant bottom line improvement as a result of better acceptance of our new assortment, continued focus on inventory management, and cost improvements. Therefore we were able to reduce last year's loss by more than half. Transactions declined in the quarter and versus the first quarter trend as we believe we did not deliver enough newness in the quarter to attract and convert customers. Additionally, as I said earlier, we were up against significant promotional activity last year.

Fall will reflect a constant flow of newness and wear now merchandise. Our back-to-school denim launch which includes new fits watches and back logos has been on our plan. We believe our denim lab umbrella for all X2 denim, Wicked West, Denim Lab, and Third Party denim brands is gaining traction. Denim along with Sexy Basics, synthetic party tops and early reads on sweaters have been very positive. We are set for September launches in Sexy Suitings, playing off our continued success in wear-to-work and Editor iterations. Editor continues to be a base business that has captured our consumer from Basic Editor to City Shorts to Crops, we have built this category which builds loyal consumers. Launches in new fits, fabrics and styles have tested very well and September is a very big wear-to-work month. We're supporting all launches with Direct mail campaigns and in store events.

Our speed to market initiative has paid off nicely. We're learning how fast we can be to hit trends. Skinny, skinny jeans, leggings, short shorts, city shorts, and synthetic knits are all examples of being ahead of the market. For example, our jacket business in spring was the biggest in Express history. Recognizing this trend and chasing it really paid off.

Limited Stores second quarter results were disappointing as well. Comps decreased 4% and the operating loss increased versus last year. The third quarter will focus on a wear-to-work theme with the perfect travel suit, a washable wool suit debuting this month. Fall and holiday look great. [Aubrey Meyers] our new CMM working with our design, merchandising, manufacturing, planning, and visual teams has really made a significant difference. I'm confident that we can get this division moving towards profitability. There's a void for great going out, party and wear-to-work clothes for a very young working professional woman. Thank you, Tom?

Jay, thanks. That concludes our prepared remarks. For the next 40 minutes we would like to take your questions. I want to remind everyone please one question per person so we can get to as many callers as possible. Operator, we are ready for the first question.

Thank you. [OPERATOR INSTRUCTIONS] Our first question comes from Lorraine Maikis. You may ask your question, and please state your company name.

Thank you. Merrill Lynch. Good morning. It sounded like the Sexy Sport ad campaign slightly underperformed your expectations. Can you just talk about the acceptance of this new product line and how you plan on marketing it going forward?

Hi, this is Grace. The Sexy Sport campaign was something that we really had not tested the marketing elements of that campaign and that was kind of a break with our tradition, so we took a calculated risk against some other bra category models and that didn't play out in this niche category; however an additional factor was that our inventories were actually broken on the key style that we featured in the campaign so that affected our conversion rates as well. In terms of Sexy Sport, we're actually taking a go slow to go fast view of the category, and Les has assembled a creative team which is really looking at the repositioning of the sport category in the way that the work was done on PINK about three years ago. So I hope that answers your question.

Thank you.

Next question, please?

Next question comes from Kimberly Greenberger. You may ask your question and please state your Company name.

Great. Thank you. Citigroup. A question for Neil. In terms of the resurgence of your Signature Collection here in the second quarter can you just talk about the trend there? I think this has been a category you haven't focused on for awhile so I'm just wanting to understand how you're thinking about it in the future and then with Jay, just a real quick question for you. On the lack of newness in the second quarter, it would seem that that would be a bit contrary to your strategic direction in terms of trying to get back to your Fast Passion roots so I'm just wondering if you could talk about what happened there. Thanks.

Thanks Kimberly. We'll go on to Neil Fiske first for the first part of your question about Signature Collection.

Okay, so a couple parts to the answer on this, Kimberly. First, in general, our strategy with the Signature Collection has really been to elevate the quality and the sophistication of the line in every aspect. The most important of which is the quality and sophistication and trend appropriateness of the fragrances themselves, and this really started early in the year as you may recall with the launch of Japanese Cherry Blossom, which is sort of a exotic sensual scent, very fashion forward, very trend right, and the success of that really validated to us that our customer has an appetite for more sophisticated fragrances, and that we can invest economically, we can invest more in the quality of the fragrances and get paid back for that with the customer.

We ave also begun part two of the evolution which is sort of the gradual upgrading of the packaging which you'll continue to see play out really over the next couple of years and the response to changes in packaging that we've done have been favorably received, and obviously to the extent that we can reinvent this core product line, it builds the base of the business and allows us to add performance categories on top of it. So we see our growth very much hand in hand with the growth of the signature collection believe that we've figured out a model to do that and I think that you should expect to see continued acceleration of new scents, the pace of innovation and the upgrading of the line in the coming months.

Thanks, Neil, we'll go back to Jay Margolis for the second part of Kimberly's question.

Kimberly, good question. Coming off of a really nice turnaround, January, February, March, first quarter and consumer really coming in, enjoying what the stores look like and us chasing into best sellers, we felt that going into the May/June time period we had enough ammunition to really keep this consumer excited. Truth is we didn't bring enough newness in. We kind of shortened the flow of newness knowing that we had summer sale, we moved that up a little earlier, we moved the fall floor set, an early fall transition earlier and in both cases because of that we didn't want to buy inventory that we felt had short shelf life at that time. It was a mistake because the truth is the consumers liked the newness we were bringing month by month by month. We now recognize that you can't stop that. You have to keep flowing new ideas in percentage to understanding that there's weeks of supply -- inventory concerns as you go forward. It's a terrific learning, it did I think just -- while margins improved it cut the newness back to the consumer and I think we could have grown our business a lot more, it's a big question but one we will not make that mistake again.

Thanks, Jay. Next question, please?

Brian Tunick, you may ask your question and please state your company name.

Yes, JP Morgan. I guess a question for Neil. On the merchandise margin side, have you reduced third party shelf space or was it your private label products going out at better margins? Maybe you can give us the mix of third party this year versus last year and sort of what you're planning going forward in the back half?

Sure. So year-over-year, the mix of third quart it brands are particularly in our flagship business, has grown modestly, but we believe that we are at a percentage mix of the business that's sort of a good equilibrium state for us. We think that third party brands in flagship stores should be around 20% of the volume. And that's the level that we're at so we don't expect that penetration to go up further and this is really a factor that only affects the flagship part of our brand which is 10 to 15% of the volume. So the overall impact on margin one way or the other from third party brands is relatively modest. Did that answer your question?

Sort of. So your private label business obviously went out at better margins?

I think some things are up and some things are not up as much. As we've talked to you all before over the course of the last two or three years, we've brought a lot of new brands to market and in the early stages of bringing those brands to market, you have to invest a lot in trial and promotional activities to build the brand. As those brands mature, we have to do less of that and so that has a beneficial effect, and then there are factors that just play out somewhat differently season on season like how big is the sale and is that above expectations or below expectations? This particular season, our sales volume exceeded our expectation, so that actually had some negative pressure on the margin rate, but positive on total margin generated. So unfortunately, it's a little bit of a complex answer of some things plus, some things minus, but I do believe that our merchandise margin rate is beginning to stabilize.

Thanks.

I think we're ready for the fourth question.

Stacy Pak you may ask your question and please state your company name.

Thanks it's Prudential. Grace, I was wondering if you could give us a little more detail. First of all just kind of gross margin versus SG&A, and then coming back to what you talked about lingerie and PINK, markdowns, the makeup and the marketing, can you sort of give us an idea of how much each one was and I'm assuming the marketing impact continues so what we should be expecting there in terms of Q3 and Q4's impact? Thanks.

Well, that's a good question or a series of questions, pretty complex. So let me see if I can hit them all, Stacy and if I don't you can come back and I'll give you a chance to come back and reclarify. I would say that in terms of the weighting of the issues that I talked about, the impact on markdowns was a little bit higher than the impact on marketing, so -- but let me talk about the marketing first. So as I said before, the categories that we were advertising in that time period were niche categories, so sport is a pretty small market share category and strapless bras are also pretty low market share category, so this is a very -- it was a departure from the kinds of things that we've been focusing on in the past which are big market share broad appeal categories, so I think that we over played in our marketing spend the viability of niche products in terms of it's ability to optimally impact the box, and we're really relooking at how we would strategize the second quarter next year and remixing our product offerings so that we're focusing on more -- on categories that have broader, everyday and fashion appeal.

So I don't really see the marketing thing as a continuing thing; however, we are aggressive, going to be aggressive about bringing traffic in because when we bring traffic in, we find out that customers really do like our assortment and we're getting decent sell-throughs. The other thing is that in our marketing strategy, because a big piece of it is sampling basics, when we can get somebody to come in and buy once, one of our basic products that we're sampling in, we know that we're building traffic for the future, and we're building royalties into those categories and that those customers like those products and the levels of loyalty begin to really escalate. The question is balancing that so that we can make it work quarter by quarter, but we're really trying to find a sweet spot.

In terms of the issues about margin, particularly markups and markdowns, I think that the lion's share of this was driven by the fact that we ought to really study the best practices in terms of Bath & Body Works and their approach to their semiannual sale. We've been running the same kind of semiannual sale for basically the last eight years without any kind of change in the formula, and we thought that we could get an 11 to 12% growth off of our semiannual sale clearance products, based on the momentum that we were seeing on our regular price products, pre-semiannual sale and what really happened in the semiannual sale was kind of good news is our regular priced goods continued to get strong growth and we really need to figure out some new ways to have a higher level of energy on the sale products, so big opportunity for us to continue to grow our business. I really think that that was the essence of it. So hopefully that -- oh, I think you asked a question about SG&A and that that was also, that was actually leveraged as a result of our top line sales.

Just one follow-up, Grace. How do you know or what's your gut say that the marketing was just on these niche things that you didn't get the pay back on? I mean, how do you know that it's not just sort of getting saturated and there's too many catalogs out there and that you're going to get the right payback on those things in Q3 and Q4? And what's your gut say on why the lingerie and PINK didn't sell on sale?

In terms of the detail on the lingerie and PINK on sale was we were pretty aggressive in terms of the amount of basics that we set up to liquidate in the semiannual sale. Two issues for us, we might be more careful about that or we might apply some of the best practices that Bath & Body Works applied in their very successful semiannual sale, so I think we can reenergize the marketing of our sale goods during the semiannual sale to pay more attention to that. In terms of your answer on the marketing, we're not really that aggressive in terms of our customer contact strategy. There is 52 weeks in a year and our current point of contact really is we only hit our clients six times out of the 52 a week year period so I'm not really that concerned about saturation at this point and there is a percentage of customers that are shared customers between Stores and the Direct channel but there's -- and we are careful about looking at that contact strategy, but there's a very high percentage of customers that are Stores only customers, so we don't equate it out.

Thanks, Grace.

Let's move on to another question.

Paul Lejuez, you may ask your question and please state your company name.

Thanks, Credit Suisse. This one is for Neil. Seems like over the past few years you've really been targeting top line, sometimes at the expense of margin, not this quarter but sometimes. Wondering if you see a point in the future where you shift that focus more toward driving operating margins higher or is there, is this always going to be a top line driven business, and then also just wondering what the supply system changes allow you to do that you could not do before. Thanks.

Okay. So two parts to that. First, taking kind of the P&L architecture question, if you will. I think at the end of the day, what we're focused on is delivering as an objective consistent bottom line growth, and I think that we have tinkered with the formula over the past couple years and sometimes we've driven that with expense leverage and top line growth with some change in margin that has been negative to merchandise margin rate, but positive to the bottom line, and so I think the short answer is we'll continue to kind of tweak that formula, but in a way that really delivers consistent bottom line operating income growth.

Last year, I think was a bit of a unique year for us in as much as we invested an enormous amount in brand building activities and had I think some one-time costs that hit us adversely last year, so the outlook, I would think, would be continued efforts to stabilize the merchandise margin rate. I don't think it's completely stable yet, but I think that we are comfortable with the formula that we have got. We might experience some slight erosion here and there depending on what events we're running in store, what mix we're pushing in any given month, so for example, this month, we're running our annual hand soap event which it obviously focuses primarily on our anti bacterial and aromatherapy hand soaps which have a different margin mix than the Signature Collection, so depending on what we're pushing in the that theme, you might see some fluctuations month to month, but I again, would reiterate that we see the long term outlook as stabilizing margins with top line growth and expensed leverage leading to a formula of consistent double digit operating income growth.

With respect to the second question on the supply chain systems, it's a very complex undertaking. It really takes our total set of systems from product conceptualization through replenishment and links them in one integrated demand chain, and my expectation is it will take us a couple more months before we kind of work out all of the kings of that. It's a pretty massive system cut over as you can imagine and we'll clearly experience some hiccups along the way, as is natural with any project of this scope. The upside to us is enormous. It will allow us to do things that we haven't been able to do in the past. For example, segment our stores and our base of 1,600 stores varies widely in footprint and volume with the systems that we've got, we've been really forced and constrained to get every store with the exception of our flagship stores pretty much the same inventory, and we haven't been able to reduce our assortments in the lower volume stores, expand them in the higher volume stores, and store segmentation really is a powerful capability for us that the new systems will unlock.

The second big one that we're excited about is really being able to move to consumer demand driven total system where all of our demand chain is driven from the store back and what is pulled off the shelf by the consumers which should give us, over time as we get through this transition better inventory turns, faster response to in store selling patterns, and overall higher customer satisfaction and product velocity. And there are a lot more that we don't really have time to go into right now, but just two examples I think have very powerful capabilities that will come as a result of this new system platform.

Thanks.

Thank you.

Thank you. Evelyn Greenwald, you may ask your question and please state your company name.

It's actually Tom Filandro, nice quarter and Martyn happy to see your responsibilities are expanding.

Thank you, Tom.

I have two questions. One question is for Martyn. You guys outlined a conservative third quarter view, following out performance in both the first and second quarter. Does that view at all reflect in any way a more challenging trend in early fall business and my second question is for Jay. Seems like the biggest hurdle rate for the brand, Jay, is to show a meaningful turn as traffic so can you just sort of speak to your efforts to drive traffic, direct mail, GWP's and any cross marketing opportunities with your--. Thank you.

Thanks, Tom. We'll go to Martyn first.

Good morning, Tom, and thanks for your congratulations, I guess. Let me try to address third quarter because I think that is an obvious question in terms of our guidance. First of all, it's important to understand that from our perspective, our outlook for the fall season has not really changed at all. We have increased our full year projection to kind of reflect our second quarter upside. Of course this is the first time we've really talked about third quarter guidance and that is potentially a concern from your point of view. Our third quarter guidance though does not reflect any disappointment with our early sales results in August. In fact, we remain very comfortable with our office to comp store sales projections in the mid to high single digit comp range. I think you all know that our third quarter has been a challenging one from kind of a sales volume and profitability perspective, and it's particularly challenging because of the investments that we're making, particularly in the systems and strategic initiatives that we've described in the last couple of calls.

It's also challenging because we do make significant investments in the third quarter to prepare for holiday and we expect the flow through and benefit to show up in the fourth quarter but things like sales training, floor set expenses, marketing expenses, all incremental to prepare for the holiday, and then as I said, the investment spending that is flowing through this year's numbers in terms of systems distribution center capacity and then investment in additional marketing expenses is really the driver of that flat earnings projection. And of course we also have the stock option expense that's about $0.02 per share, $0.02 for the quarter that affects us year-over-year and all these investments are really driving our projections with a significant increase in SG&A rate in the third quarter. But we are looking for continued profit improvement year-over-year from each of our brands across-the-board in third quarter and obviously into the fourth quarter.

Thank you.

I'll go to Jay for the traffic driver question.

Hi, Tom. Our marketing plans for Q3 include selective offers that focus on increasing business of our best customers and include these kinds of things. Various bounce backs and direct marketing opportunities, best customer events to preview and be the first to buy new merchandise offerings, redemptive print to continue growth and build the customer base back and selective transaction drivers to capitalize on high traffic opportunities, such as denim offerings during back-to-school.

For instance, we're doing a big event an integrated event with In Style magazine where we will actually be doing a gift with purchase and tie in visuals, tie in our windows with an in style event, we're very excited about that. We think it's going to get a great response from our consumer. But from a number of event or an activity point of view, there will be 72 different events this year versus 43 last year. The number of circulation difference is up 64% and we believe the sales impact is going to be great. Again this has to tie back to Kimberly's question of the newness factor, hitting trends, chasing it to the business but we think the combination of the two is going to set us up for a good fall holiday season.

Thank you. Best of luck.

Thanks, Tom.

Thank you . Lauren Levitan, you may ask your question and please state your company name.

Thanks. Cowen & Co. Good morning. My question is for Grace. I wanted to follow-up and get a little better understanding of the marketing plans for the back half. Last year, I recall that some of the timing in terms of when you were investing those dollars was shifted. Curious how that will or will not be anniversaried this year and then if you could also just drill down a little bit further in terms of CRM initiatives for Victoria's Secret, I know you commented earlier about the significant number of Stores only customers. Does this limit your use of e-mail as a driver to store traffic? We've seen BBW using that quite effectively and we're just curious if we should be expecting that fairly inexpensive tool as a driver going forward? And then I just had one clarification for Martyn. You just said that you look for profitability improvements in all brands in the back half. Is that both in terms of dollars and rate or just dollars? Thanks very much.

We'll go to Grace first and then to Martyn.

Okay, thanks. If I don't get all of these we'll come back for some clarification. Our approach to the third quarter this year versus last year is we're planning to have six major floor sets versus four last year, and they're a combination of anniversarying the timing of last year's major bra launch events. I'd remind you that last year, our launches were not that strong so we are up against soft comp sales during that time period, but we are adding two new events to the calendar. So principally by shortening some four week events to three week events we were able to get in more pace and energy and excitement. All of these have been tested in the spring and summer season, so we understand what the customer demand is for these products and obviously as a result of that, we've increased our media support behind those both in terms of a television investment as well as expanded customer reach.

The customer reach is really driven by the fact that we've been very aggressive in getting telephone capture which expands our database, and we're not changing our rules of engagement necessarily on a client for client basis but we are reaching to a broader database. We are piloting one e-mail event in the season. We haven't really -- we have to learn how to capture both phone numbers as well as e-mail numbers and run them back through the direct channel that is really managing the e-mail for us, so it's been -- I think it will be a very exciting learning for us.

We'll go back to Martyn for the clarification about profitability by segment.

So Lauren, in terms of our expectations for the balance of the year, we are expecting dollar improvement in terms of operating income in each of our brands and of course, at Express, a substantial increase in the percentage operating income as well.

Thank you.

Thanks Lauren. Operator we have about ten minutes left in our hour long call so I'd like to try to get about three more questions in if we can?

Thank you. Margaret Mager you may ask your question and please state your company name.

Hi. Goldman Sachs. I just would like to know in terms of a 53rd week how much of an impact is that in EPS terms if you can clarify it like that as well as impact on revenue? And then on Victoria's Secret, it's hard to say that your marketing didn't do well in terms of driving the top line, but to have your profitability erode like that is definitely disappointing. How much was your marketing spend up in the quarter and was the elimination of the cosmetics line unplanned? That seemed like a little strange. And then looking into the third quarter, can you talk about the what you're doing in the color cosmetics and how is the margin structure of that business? Will it be promoted aggressively in the third quarter and could it also have a dampening effect on profitability in the third quarter? Thanks.

Margaret first we'll go to Martyn for the impact of the 53rd week.

Yes, specifically on the 53rd week, for we're estimating that the 53rd week will be about a $0.02 to $0.04 per share income item for us. It will obviously affect sales probably 125 to 150 million.

And Margaret, just to, I'll take part of Grace's question. This is Amy. Martyn, I think said in our prepared remarks that of our total SG&A increase in the quarter, about half of that was due an increase in marketing expenses and that was mostly alt Victoria's Secret so that helps to dimension that for you a little bit.

In terms of the question about Victoria's Secret, I want to reiterate in the quarter that I would share your concerns. We're happy about the top line and happy the customers are responding and we're disappointed in what happened on the bottom line. The weighting was something like 60% of this was markdown related, not marketing related to help dimensionalize that for you.

And then the color cosmetics? What's the story with that and by the way, Grace, congrats on your retirement decision.

Thank you. The color cosmetics are being tested right now out in the Los Angeles area, we're seeing some pretty exciting results. Actually, there's -- Christine was out in the Los Angeles area and they're currently going back and refining some of their watch strategies based on some of the things that they've seen favorable in terms of the campaign.

Margin impact?

Nothing significant in terms of the weighting of it.

And you'll be missed, Grace.

Well, my husband will be glad to see me.

Still have him?

Yes, after 35 years.

That's great. Let's try to get a couple more questions in real quick before we have to finish up here.

Thank you. Our next question comes from Richard Jaffe, you may ask your question and please state your company name.

Thanks very much, guys. Just a thought about the inventory and inventory plan for the third and fourth quarter, particularly regarding the Apparel division with incremental improvement and visibility, do you see opportunity to invest in the jewelry to help drive the top line in third and fourth quarter? And then similarly comments on VS and BBW?

We'll go to Martyn.

Yes. I don't know if Jay wants to comment, but in inventory levels overall, principal increases that we're planning for as I mentioned my comments are at VSS, Victoria's Secret Stores and Bath & Body Works, and the Victoria's Secret Stores is to support the launches, also a focus that's AR driving on never out of stock positions in basics, so it kind of has a different architecture versus some of our past investments and obviously our investment in basics was a riskless investment over time. BBW, it's quite a different story because as I mentioned, we did front end load a lot of inventory in advance of this systems cut over which carried through the end of the quarter and we expect that to stabilize a little bit as we go through the balance of the year, but we're going to be carrying more inventories there just to make sure that if our systems are not completely stabilized that we'll continue to be in stock in the store.

Secondly, they also are really looking at their basics and are making a larger investment into the fall and making sure that we are in stock in our basics. The Apparel business, our investment for the fall will increase, but it is still more in line with the types of year-over-year investments that we've had in the last couple of years. Jay, do you want to add a comment about that?

Well, Q2, our May, June, July we were pretty conservative and we had double digit declines in both dollars and units and I think we recognized -- we're flat, really flat inventory levels going into the fall season, but we really are studying our unit density by classification and making sure that we're not distorting one place and taking out of another and making sure that the Stores are stocked to do business. So I think we're comfortable with the inventory levels, we're comfortable with how we spent our money, and feel better about it. As I said I think in the second quarter we may have been short some opportunities.

Thank you. I think we can get in two more questions.

Thank you. Dana Cohen you may ask your question and please state your company name.

Great. Questions on expenses and I guess Martyn I'm not sure if it's condolences or congratulations here, but just looking forward to working with you. Just in terms of the question on SG&A, the half that it's marketing, is that dollars so something like 30 million is marketing?

You talking about Q2?

Correct. You said half of the increase was marketing. I just want to make sure that you were talking dollars, not rate.

Yes, we are, in fact I can give you a little bit more on that because I know this is kind of a theme based question, but in terms of Q2, as Amy said, about half of the increase is driven by our increase in marketing investment and principally at VS in connection with the brand strategies that Grace has described, about 20% of the increase year-over-year is driven by increased incentive comp and we had a disappointing spring last year, did not pay out, very much incentive comp. The remaining 30% is driven by increases in selling expenses really to support the incremental sales, so that's leveraged actually, on a percentage of sales basis but dollars are up. Stock option expenses is a year-over-year thing that I think everybody understands and then finally, this year-over-year and increase in investment for the technology initiatives that I've commented on.

And what is inside costing for the year?

It's over $100 million of capital expense and approximately the same in terms of P&L expense.

And incremental? Is that incremental to last year because you were spending on it last year too.

Hold on just a minute. That's the total amount hitting our P&L this year and in terms of explaining the overall SG&A. I'm not exactly sure what the incremental one is. Incremental effect is I don't see that in my notes here. We can get back to you on that though.

Great. Thank you very much.

Let's try to get one more question and we'll finish on that.

Neely Tamminga, you may ask your question and please state your company name.

Piper Jaffray, saved the best for last. All right. Here is the question I have for Neil and that is first and foremost on the hair care launch, albeit very small, but could you characterize for us what's different about the organization today than what you tried to do three years ago or four years ago when you guys launched Bio, what are some of the -- like if we were to really say the top three things that are different about how the organization today is approaching a hair care launch which of course is not something that you guys would necessarily be known for, how is that different today than where you would have been let's say three or four years ago with the Bio launch?

Sure. So the first issue I think is understanding where we have authority and where we don't have authority with our customer, and historically we have not had authority in hair care, and so for us to launch Bio which was really a performance positioned line, while we got some good sales out of it, it was pretty minor in the scheme of things and I don't think she ever really believed in our authority and expertise to deliver a top of the line performance hair care product.

The launch of Signature Collection comes from a different positioning and therefore a different authority, and the authority is really around fragrance, and it's specifically targeted to that segment of our customers which is quite large, that will be driven primarily by the luxurious experience and the scent of the product, and give us credit for having a good formula, but it's not positioned as sort of a salon hair care line competitor. So I think the first thing that's different is just understanding what segment we're hitting, what's the basis of our authority and credibility and what's the reason to buy, and the reason to buy with this hair line is very much about the fragrance experience. The second thing though that's different is that may be the reason to buy but she doesn't want to trade off product quality to get it and compared to past product lines that we've developed, we feel very good about the quality of this product. We have a partnership with Proctor and Gamble and they have helped us develop the base formulas that take those great fragrance experience and obviously they are a world leader in hair care and so we feel good on the technical platform and then what we bring to it is our experience in fragrance.

So I think that's the primary difference and obviously as we try to grow the business we'll be continuing to look for areas where we can take our primary competency which is things that our fragrance and pampering and experiential and identify new categories to apply those against, whether it's home fragrance or hair care or hand care, and so this is I think very much part of our road map for finding incremental categories and exploiting what we do best in those categories.

That is very helpful, Neil, thank you and good luck.

Thanks, Neely, thanks, Neil. We appreciate all the time that everyone has spent with us this morning and I hope you have a great rest of the week.

Thank you. This concludes today's conference call. Thank you for your participation. You may disconnect at this time.