Levi Strauss & Co (LEVI) 2004 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Levi Strauss & Co.'s second-quarter 2004 conference call. (OPERATOR INSTRUCTIONS). I would now like to turn the call over to Jeff Beckman with Levi Strauss & Co.'s Worldwide Communications Department.

Good morning, and welcome to our conference call. I am pleased to introduce the Levi Strauss & Co. management team. With us here today are Phil Marineau, our President and CEO; Jim Fogarty, our Chief Financial Officer; Robert Hanson, President of the U.S. Levi's brand; Bobbi Silten, President of the U.S. Dockers brand; Scott LaPorta, President of the U.S. Levi Strauss Signature brand; Paul Mason, President of our European business, and John Anderson, President of our Asia-Pacific business.

This call is being recorded, and a replay will be available through August 13 by calling 800-642-1687 in the United States or Canada. From outside these countries, call 706-645-9291. For either number, please input the ID code of 819-2807 followed by the # sign. This conference call also is being broadcast over the Internet, and a replay of the Web cast will be accessible on our Web site at LeviStrauss.com.

Before we begin, let me remind you that our discussion today may include forward-looking statements, including in particular statements about our plans, prospects, targets and expectations. These statements are based on management's current data, assumptions, expectations and projections about future events. These forward-looking statements are subject to risks and uncertainties. Those risks and uncertainties and other factors could cause our actual results to differ materially from management's expectations. They are described in our annual report on Form 10-K, our registration statements and our other filings with the Securities and Exchange Commission. Our actual results may differ materially from historical performance, current expectations (technical difficulty) forward-looking statements because of the factors described in those filings or otherwise.

During the call, you'll hear us talk about sell-through numbers or trends. We talk about sell-through -- when we talk about sell-through, we are referring to retail over-the-counter dollar sales of our nonlicensed products. We use sell-through data internally as an indicator of consumer demand for our products at retail. We compile sell-through data based on information received from a group of seven key U.S. retail accounts. Sell-through dollars do not exclude taxes and may not be consistently calculated from retailer to retailer, including, for example, the treatment of markdowns, coupons and discounts. Other companies may discuss sell-through and could obtain data or compute it differently from us.

We also use average weekly rate of sale as a performance measure for our Levi Strauss Signature business. Average weekly rate of sale measures a retailer's weekly sales as a percentage of their average unit inventory on-hand during that week. Both sell-through and average weekly rate of sale data are intended to be illustrative only and are not necessarily predictive of future volumes, sales or other operating results.

In view of SEC Regulation FD, we request and strongly encourage you to ask all of your questions during the Q&A portion of this call.

Now I would like to turn the call over to Phil Marineau.

Good morning, everyone. As I said in this morning's news release, so far, so good. Overall I'm pleased with the second-quarter performance and the progress that LS&CO. is making this year.

Sales for the second quarter were up 3 percent on a reported basis and were down 1 percent from constant currency. So for the first half of the year, revenues are up 6 percent on a reported basis and up 1 percent from constant currency.

A key goal in 2004 is to generate higher profits and become much more competitive. I think our second-quarter results are certainly in line with these objectives. The actions that we took in the second half of 2003 are paying off. You may recall that in that period of time, first of all we introduced Levi Strauss Signature in the mass channel, a major strategic initiative for the Company. We also pursued the closure of our remaining North American (inaudible), and simultaneously we restructured our U.S. and European businesses with the notion of designing faster, more responsive organizations and go-to-market processes and also contributing and giving us greater control in terms of reducing sales allowances and markdowns.

In addition, in the first half of this year, our work with the consulting firm of Alvarez & Marsal has resulted in a number of added cost savings and debt reduction actions. Reflecting this, this quarter we continued to rationalize our product lines. We streamlined corporate functions in the United States and Europe, and we are exploring the sale of the Dockers brand. We have also announced the proposed closure of our two Spanish plants. All these actions will make us leaner and more competitive. Jim Fogarty will walk you through the specifics of our financial results and the work plan progress for the quarter.

We still face marketplace challenges, but all of our businesses are making good progress. Consumer sell-through trends in our key first-quality accounts on U.S. Levi's and Dockers, the sell-through trends there are really improving. This suggests that our core businesses, our first-quality products are starting to stabilize as we enter the second half of the year.

This month is also the one-year anniversary of our introduction of Levi Strauss Signature. The brand has performed very well in its first year. Levi Strauss Signature products continue to roll out worldwide with new countries and new retail customers. Our Asia-Pacific business is delivering double-digit revenue growth, supported by new products and marketing campaigns. In Europe, we are working toward stabilization of the Levi's brand. This fall we are introducing a new collection of upgraded Levi's products supported with new marketing. Our brand and regional presidents will give you more details about these very specific businesses and our initiatives in this call.

So overall for the first half of the year things have gone well. I believe we still face a very uncertain environment, particularly in the U.S. and Europe. We have planned our businesses accordingly, and so I remain cautiously optimistic for the balance of the year.

Let me turn it over now to Jim Fogarty, who will take you through the financial results for the second quarter.

Thanks, Phil, and good morning, everyone. At a consolidated level, Q2 2004 net revenues were 959 million compared to 932 million in the prior year. Revenue increased 27 million, a 3 percent increase on a reported basis and a 1 percent decrease on a constant currency basis. Continuing strength in our Asia-Pacific business and the launch of the Signature brand more than offset the decreases in our Levi's and Dockers brands in the U.S. and in Europe. While we experienced these selling declines in our Levi's and Dockers brands in the quarter, these declines were indicative of our strategies to drive a much healthier base of business. I will speak to you in a moment about the strong improvements in operating profit these strategies are driving.

Our consolidated gross profit for the quarter was 413 million or 43 percent of net revenue compared to 393 million or 42.2 percent of net revenue in the same period of 2003. Gross profit dollars thus increased 19 million, and the gross margin rate increased 80 basis points. The year-over-year increase in gross profit dollars reflected increased sales; stronger foreign currencies; improved dilution management, which is our control of markdowns and allowances given to customers; lower sourcing costs; somewhat offset by the wholesale price reductions taken in mid-2003.

As we have previously indicated, performance of our product at retail and management of our dilution are key elements for gross margin rate success in 2004. We are thus far encouraged by our progress in these areas.

Consolidated operating income for the quarter was 77 million or 8.1 percent of revenue compared to 63 million or 6.7 percent of revenue for the same period in 2003. Operating income thus increased 15 million and operating margin increased 1.4 points.

When considering our earning margin, it is important to note the following. Operating income reflected restructuring charges of 26 million in Q2 2004, and net restructuring reversals of 5 million in Q2 2003. The Q2 2004 restructuring charges were associated with our plan to exit two Spanish manufacturing facilities, as well as our staff reductions in North America.

Operating income in Q2 2004 also reflected retiree medical income of 11 million compared to Q2 2003 retiree medical expense of 16 million. This $27 million improvement reflected the retiree medical caps put in place in Q1 2004, as well as the benefit of a retiree medical curtailment gain in the second quarter.

Finally, operating income included depreciation and amortization of 15 million in Q2 2004 and 16 million in Q2 2003. The bottom line for the quarter increased to net income of 6 million compared to a net loss of 42 million for the same period in 2003. The $48 million improvement reflected increased gross profit of 19 million; lower SG&A expense of 26 million; lower nonoperating expense of 16 million; lower tax expense of 19 million, somewhat offset by the increased restructuring charges of 31 million.

Our SG&A declined 26 million, reflecting cost containment, lower advertising and lower retiree medical expense, somewhat offset by currency and higher incentive costs. Our nonoperating expenses declined 16 million, reflecting reduced losses on foreign exchange contracts and favorable remeasurement of our FX foreign exchange denominated balance sheets. Tax expense is 3 million for the second quarter compared to 21 million for the same period of 2003. It reflects our latest financial forecast for 2004, incorporating the joint LS&CO-A&M work plan. The new estimated annual effective tax rate is -215 percent. The effective tax rate for the six months ended May 2004 is -42 percent and differs from that annual rate mainly due to losses in certain foreign jurisdictions for which no tax benefit can be recognized.

What we have at work here in the percentages are the laws of both small and strange numbers. In other words, pretax year-to-date income is 2 million, which is multiplied by -42 percent to yield a total tax benefit of 1 million.

Going into further detail on revenues, first on the North American segment, our North America Q2 2004 revenues declined 2 percent to 543 million. This decrease is primarily due to decreases in sales of our U.S. Levi's brand, which was down 7 percent; our U.S. Dockers brand, which was down 26 percent; somewhat offset by sales of our Signature brand in the U.S., which provided 62 million of incremental revenue in the quarter, and strength in our Canadian and Mexican business units. While we experienced these selling declines in our Levi's and Dockers brands in the quarter, the declines were consistent with strategies to focus our brands and drive a healthier base of business.

Robert will tell you later about the healthier base of U.S. Levi's business as we reduce warehouse club volumes and improve our mix of regular price business. Bobbi will tell you about prior year Dockers revenue, which included an overhaul of two major product programs. You will also hear importantly that out of retail while we experienced a difficult June retail environment, the consumer sell-through continues to reflect stability in our U.S. Levi's and Dockers brands.

So on to Europe. Our Europe Q2 2004 revenues increased 2 percent to 252 million, which was an 8 percent decline on a constant currency basis. Our European business was negatively impacted by weak economic environments and order fulfillment issues which we experienced. These issues were somewhat offset by the introduction of the Signature brand. As Paul will discuss later, we are focused on both improving our European profitability and on stabilizing our European Levi's and Dockers businesses.

And ending with our Asia segment, our Asia-Pacific Q2 2004 revenues increased 26 percent to 163 million, which was a 17 percent increase on a constant currency basis. Our strength in Asia reflects the impact of new products, the opening of additional franchise retail locations and improved retail presentations, as well as improving retail conditions.

Now on to operating income. We experienced improvements in operating income in all three regions, with North America increasing 31 million, Europe increasing 11 million and Asia-Pacific increasing 15 million. Thus, consolidated operating income before corporate expense increased 57 million to 180 million or 19 percent of sales, which compared quite favorably to 123 million or 13 percent of sales in the prior year.

Details of our corporate expenses are provided in our 10-Q. Excluding the previously discussed restructuring charges, our corporate expenses increased 12 million to 77 million. This increase reflects incentive compensation expense this year versus reversals of incentive compensation expense in the prior year, thus driving an increase in expense of 33 million. This was somewhat offset by lower corporate department expense, which was favorable by 14 million reflecting cost initiatives and the retiree medical curtailment gain, which was a favorable $7 million.

And now for the balance sheet. Our debt net of cash was just under $2 billion at 1,962,000,000, declining 150 million from our year-end 2003 position. Our inventory declined a further 93 million in the quarter. Our inventory was 519 million at the end of the second quarter, reflecting a total 160 million reduction from year-end. Our inventory turns improved from 3.3 turns at year-end to 4.5 turns at the end of the second quarter. Inventory improvements reflect our moves to full package production, improved planning and improvements in the health of our inventory. Tight inventory management and aggressive disposition plans have been a key focus for us, and we were able to reduce our ownership of excess and obsolete finished goods by 34 million in the quarter.

Regarding tax liabilities, our total tax liability, including both current and long-term components, was 145.8 million at the end of the quarter versus 173 million at year-end 2003, reflecting payments we made and ongoing assessments of our reserve requirements. These ongoing assessments included the recent technical advice memo we received from the IRS, which outcome was as we had expected. We are projecting 103 million in tax payments over the next twelve months, reflecting our ongoing requirements, as well as $35 million in payments we have allocated to settle on open tax issues we have reserved for.

And now for our liquidity. Sources of cash for us in 2004 include our earnings, improvements in our inventory turns and our liquidity resources. Our principal uses of cash include payments for restructuring actions we have taken and payments of interest on our debt. Estimates for these amounts are included in the 10-Q, so I won’t go through them here. As of July 11, 2004, we had available liquidity resources of approximately 550 million, consisting of approximately 290 million in excess cash and 270 million in net available borrowing capacity under our revolving credit facility. We continue to believe we will have sufficient liquidity to operate our business and to meet our cash requirements over the next twelve months, and we also believe we will maintain compliance with all of our covenants over the next twelve months.

So now I would like to give you a quick update on the LS&CO-Alvarez & Marsal work plan. As we reported on our last call, we believe that the culmination of actions that LS&CO. and A&M have jointly identified will deliver SG&A as a percentage of revenues and operating margins that will make us more competitive in fiscal 2005. We further indicated that we will provide additional information on specific initiatives as they unfold throughout the balance of the year. In this light, we continue to focus on product rationalization and working capital initiatives in the quarter, and we announced during the quarter the North American headcount reductions totaling approximately 175, our intention to close our two owned manufacturing facilities in Spain, as well as our exploration of the sale of the worldwide Dockers business.

So now a few words on the Dockers transaction. As we previously reported, we retained Citigroup to assist us in our exploration of the sale of the worldwide Dockers business. We also previously noted that we will be seeking consents from our senior secured term loan and asset-backed revolving credit lenders. That consent process will begin very soon. We won't have comment today on our Dockers process, other than to say that our exploration continues. We also will not comment on the details of our Dockers or our non-Dockers earning power, other than the info we typically make available to you at a brand level, which is our revenues.

With that, I would like to turn it over to Robert Hanson, President of the U.S. Levi's branch.

Good morning, everyone. The Levi's brand is maintaining momentum through the second quarter of 2004. As Jim said, although our net sales are down 7 percent to $256 million, sales to our first-quality channels and our core customers were up 5 percent, offset by a planned decline in sales of 27 percent to off-price channels. The growth in first-quality channels was particularly encouraging to us because it was delivered despite the 5 percent wholesale price reduction we took to improve our retailers’ profitability.

The sales decline in the second quarter also reflects several non-recurring events focused on improving our product productivity and profitability, such as rationalizing our product offerings and exiting underperforming product lines, which we will now license. Because of this stronger strategic and operational performance, the brand is driving improved earnings by selling appealing, first-quality products to our core channels, driving a more profitable product mix, improving our gross margins and reducing closeouts and SG&A.

As we have discussed in the past our five core strategies, we are encouraged that these strategies are right and that they are driving this performance. We are sharply focused on our first priority, and that is increasing sales and profits in our jeans businesses. Retail sell-through in our largest segments -- men's and young men's -- was flat in the second quarter, which was an improvement over the first quarter as well as past years. In young men's, we posted sell-through increases of 13 percent in our jeans programs and, though on a very small base, 87 percent in our work wear program.

In women's we continued to drive strong sell-through performance with misses and junior's sell-through up 19 percent and 34 percent respectively due to the strong product performance in our low-rise, stretch, boot-cut and flare programs. And we are happy to report that share is now up in both juniors and misses. In boy’s 8 to 20, core jeans and work wear sell-through is also up.

Most importantly, we are driving these sales with a more profitable product mix, resulting in less discounts and markdowns, improving both our and our customer's gross margins. We remain committed to the core product innovation that we have focused on, recently previewing new fits such as straights and skinnies, new finishes, color and technical innovations at Market Week.

Our second priority, improving customer profit through strategic promotional programs, we believe has helped to improve our customers’ margins year on year, especially when combined with the wholesale price reduction of 5 percent that I just mentioned.

Our third priority is to drive demand by our “style for every store” advertising campaign. The campaign has been well-received by consumers and customers alike. The TV campaign breaks on July 19th. We believe this advertising will be effective, and we have significantly increased our media investment versus prior year in the back half of this year. In TV, we are highlighting our key men's programs, importantly, our flagship original 501 jean, as well as the 569 loose straight jean; and in prints, we will be focusing on our category leading range of fits for all segments.

Our fourth priority is to make sure that we ensure it is easy to find and buy Levi's jeans at retail. This program is now in the process of being implemented and will be completed in our top eight customers for back-to-school. The program is based in our owned and operated Levi's stores, which have achieved comp store sales increases for 18 consecutive months now. You can see this program as of the beginning of next week in our Levi's store in SoHo, New York, as well as in the men's and most women's departments at May Company, Dillard's, JC Penney, Sears, Goody's and Mervyn's.

Finally, our shortened leadtimes, reduced cost of goods, our cut to order supply model, these have all resulted in reduced inventories, improved gross margins and greater customer responsiveness. We do anticipate the strategic and operational performance improvements I have just mentioned to continue into Q3 and Q4, affecting the performance results in these quarters.

There is one challenge that we will face, and that is supply constraints. With improving sales trends and the market's significant shift of production back to Mexico, Central and South America, quick replenishment supply is extremely tight for the balance of the year.

With that, let me turn it over to Bobbi Silten, President of the Dockers brand in the United States.

Thanks, Robert. Good morning, everyone. In the second quarter, we continued to experience improving sell-through trends at retail for the Dockers brand driven by the reintroduction of advertising and resetting of our encore presentation. However, during Q2, our revenues were down 26 percent, as Jim mentioned versus, prior year, driven primarily by several non-recurring events, which I will cover here. The biggest contributor to the shortfall was a major core pant program that we completely upgraded at retail during second quarter last year, which drove significant fixture fill volume. The program was the men's original khaki that was upgraded with the individual fit waistband.

The second factor is that we are annualizing wholesale price reductions taken last June that continued to impact our revenues this quarter.

And finally, another key driver of our Q2 revenue decrease is our product rationalization efforts. We are exiting core performing business and licensing other businesses this year such as women's tops, resulting in lower volume and revenue versus 2003. These events accounted for the substantial majority of the revenue shortfall for the quarter.

Despite the decline in year-over-year net revenue, we did experience a 4 percent increase during Q2 in sell-through from our continuing businesses. So this is excluding the product lines that we are now licensing or exiting.

Retail sales in the second quarter were driven by a number of factors. First of all, we reset our floor at retail and went back on air with radio advertising in February, followed by a television campaign that began in March, thereby driving increase in sell-through rates. Both proStyle and the original khaki with the individual fit waistband are the key product initiatives in men's, and they are being supported by a new advertising campaign called Innovations, which focuses on the performance benefits of these products.

Our men's shorts business was strong in Q2, as well as our men's tops business, which continues to deliver good results as well.

In women's, our key spring seasonal offerings performed well, especially our capri program, which was up substantially in sell-through versus last year. Overall in Q2, sell-through at retail for our men's continuing businesses was up 5 percent, and for our women's business, we were roughly flat versus last year.

Our licensing products continued to perform well at retail, and our Q2 licensing income increased 2 percent over the previous year. We saw increases in several new licensing categories, such as kid's and home.

Looking ahead, we do expect a slowdown in sell-through in the third quarter compared to the prior year, and we did see evidence of this in June with a soft Father's Day performance in men's pants. In Q3 2003, we were exiting a major core pant program, as I had mentioned earlier. So in Q3 2004, we are comparing our performance against year-ago sales that included heavy volume driven by clearance prices. Since this event won't be repeated, we anticipate a decline in sell-through for the third quarter. However, going forward, we are expecting good performance from a number of key innovations that we will launch in the coming months.

So speaking of innovation, we recently introduced our proStyle khaki, the more casual counterpart to the proStyle pant, into selected doors. This product features the individual fit waistband, stain defender and all motion comfort stretch, and early indications are that this will be a strong performer for us.

We are excited also about several new proprietary product innovations that we're launching in the upcoming season, which we believe will strengthen our position as the innovation leader in the category. In particular, we think our new Never-iron cotton khaki represents a significant technological breakthrough that will deliver a truly iron-free product that has a dry cleaned look. The Dockers brand has a one-year exclusive on this technology in the pant category.

In women's we have received good retailer reception to our Metro pant that features the individual fit waistband and stain defender in a stretch fabrication. Based on the success of the metro capri this spring, we anticipate this product will be a strong seller.

As we move into fall '04, we continue to drive the business forward. We are working internally and with our customers to ensure that fall '04 and spring '05 are well executed as we explore the potential sale of the business, and we are confident that we can do so.

Now I would like to turn the floor over to Scott LaPorta, President of the Levi Strauss Signature brand.

I am pleased to report today that Levi Strauss Signature had a successful spring season, delivering incremental profits to the Company in the second quarter. In addition to operating at all Wal-Mart and Target stores, we successfully test launched into a handful of Myer, ShopKo and Pamida stores during the month of May, and that was in all consumer segments, positioning us for full launches for back-to-school in Q3 in these chains.

Throughout the second quarter of 2004, our average weekly rates of sale exceeded seasonal expectations on five-pocket long-bottom jeanswear, and our seasonal spring products sold through well as well. And our sell-through remains relatively balanced across men's, women's and kid's as we continue reaching the entire family. Our brand awareness increased during the period with the consumer to the mid-20 percent range.

Our marketing efforts during the quarter focused primarily on our NASCAR and Jimmie Johnson sponsorships and the Levi Strauss Signature Fit Pit which brought our brand to NASCAR fans at the Dallas, Charlotte and Michigan speedways. Our presence in publicity efforts also continued to drive awareness in purchase as Levi Strauss Signature was featured in GQ, on Fox Sports, in Atlanta Magazine and in multiple local newspaper and broadcast outlets.

From a product performance standpoint, our core and fashion basics programs continued performing well across the board. The missy boot-cut and junior's low-rise boot-cut both showed seasonally strong sell-through, capturing market share and growing the category, indicating consumers like our fit, finish and styling.

In men's, the 1995 regular fit and relaxed fit jeans also continued capturing market share in the channel. Our spring results were led by strong average weekly rates of sale on our capris and four-pocket shorts in women's, juniors and girls. In men's and young men's, both our denim and non-denim shorts performed well, driving incremental business.

From an inventory management perspective, we continued making good progress in the second quarter, as strong selling reduced wholesale inventories by another 10 percent on top of the 20 percent reduction achieved in Q1.

As I mentioned, we test launched into certain Myer, ShopKo and Pamida stores during the month of May, and our early results are promising. Our men's core fixture, which features the regular fit and relaxed fit, is performing solidly. While in women's and juniors, our missy boot-cut and juniors’ low-rise boot-cut are a hit.

In kids’, boys’ shorts and the girls’ flare are off to a great start.

During the second quarter of 2004, we have been focusing our rebuilding our continuing core inventory to support the back-to-school season so that we can maintain the proper in-stock levels at retail. Secondly, we completed building our Myer, ShopKo and Pamida operating teams to serve those customers. And third, we are responsibly expanding our product lines so that we can leverage our spring 2004 success and grow the brand in 2005.

Looking forward to the third quarter and back-to-school of 2004, we are excited to be selling in Wal-Mart, Target Myer's, ShopKo and Pamida, as opposed to last year, when we were only selling the brand in one customer. So while this year's results will be driven by operating at five retailers versus one customer last year, it is important for you to note that approximately one-half of last year's Q3 revenues were driven by the fixture fill selling at 3000 Wal-Mart stores. Therefore, on a noncomparable total basis, our revenues in the third quarter will decline versus last year. Excluding the Wal-Mart fixture fill, revenues should increase.

In summary, Levi Strauss Signature is delivering great value to the consumer and the retailer while driving incremental volumes and profits for the company with a strategy that is resonating with the consumer. And now over to Paul in Europe.

Thanks, Scott, and good morning, everybody. We are continuing to make solid progress against our European action plan. Second-quarter sales in constant currency were in line with expectations; however down 8 percent versus the same quarter of 2003. While this is slightly better than the 13 percent decline we experienced over the first quarter, our sales are still declining, although this decline was exacerbated by poor product supply and largely self-inflicted, which we experienced through quarter two. As discussed last quarter, we anticipated the decline in the first half of the year, knowing that it takes time to reverse a sales trend.

It is important to mention that while down versus the same period of last year, the second-quarter sales for the Levi's brand was stable versus the first quarter of this year. While it is too early to come to conclusions, we believe we are seeing the first indications that our Levi's brand strategies, for example refocusing our premium price position, are beginning to work. But perhaps it is worth quickly explaining what I mean by refocusing our premium price position.

Well, we are dropping the basic 580 jeans introduced two years ago, which in effect drive Levi's towards the midmarket, and we are introducing advanced finishes, fits and fabrics at higher price points. Our customers are supportive of this premium repositioning, and the new 501 advertising campaign has driven promising results with consumers. All our spring advertised finishes sold through very quickly; but on a negative note, our supply problems meant we struggled to replenish this product.

Generally, therefore, we feel good about these early indications, but we realize that we need to be cautious. Europe is a complex market consisting of many countries with different customers and consumers. It will take continued effort to turn around the Levi's brand across all of Europe.

But it is encouraging to note that the European jeans segment is showing some signs of growth again polarized into two price segments. The premium end of the market, supporting our decision to reposition the Levi's brand in this segment; and secondly, the value end of the market, where we introduced Levi Strauss Signature earlier in the year. So turning to Levi Strauss Signature, the brand is exceeding our expectations in the launch markets of France, Germany and the United Kingdom, particularly in France. Customers continued to show strong interest in the brand, as evidenced by new retailer deals signed recently in the UK. We remain focused on establishing a strong position in these markets before expanding the Signature brand across other countries in Europe.

We have also made good progress in quarter two on cost savings. Our gross margin has improved as a result of our supply chain savings programs, and as Phil and Jim mentioned earlier, we announced the closure of our Spanish plants, providing further evidence of our continued commitment to streamline costs.

Our ongoing cost-cutting and efficiency measures have reduced our overall operating costs and allowed us to make broad-based improvements in cash flow.

During the last call, we talked about our four European strategies. Firstly, it's about control. We need to deliver against expectations and continue to control our commercial and operating costs. Secondly, equity. Building brand equity with customers and consumers allowing us to fuel profitable sales. This means offering innovative products, expert advertising and efficient distribution. Thirdly, go to market. As in the U.S., it is critical to deliver our products faster, more flexibly and at lower costs. And fourthly and lastly, establishing a market-by-market business model again in Europe to implement our strategies globally in each of the European markets. Success for Europe means strong performance across each of our models, meeting the diverse needs of retailers and consumers.

As I have illustrated, we are seeing evidence that these strategies are beginning to work. We will continue to drive these focused areas over the coming months.

Thank you and now I will turn things over to John Anderson in Singapore.

Good morning, everybody. A strong start in Q1 with Asia-Pacific experiences (indiscernible) through the second quarter. Results for the second quarter and results year-to-date in both revenue and operating income exceeded prior year, with double-digit growth in both revenue and operating income.

I will talk to you a little bit now about each of the brand initiatives that we have underway. For the (technical difficulty) focusing on our sweat terminator promotion. This commenced in April, and our sell-through results are exceeding our expectations in all markets.

Let me explain what the sweat terminator product range is about. (technical difficulty) develop fabric with multichannel fibers. This allows moisture to pass through the inner layers of the fabric and allows the consumer to stay much cooler and drier. As you can imagine, in the world’s Asia-Pacific summer temperatures, this is a very strong functional benefit.

Our performance in China continues to grow. We have been in the China market now for 18 months, and we are getting increased productivity through existing stores and we continue to open new Dockers stores. Our program of upgrading our stores across the Asia-Pacific region continues as well. So in summary for our Dockers brand, our spring/summer 2004 line is performing up to expectations.

On to our Signature brand. We continue to sell our Signature brand in Japan and Australia. Recenly, we have launched the brand into New Zealand. Performances in New Zealand are meeting expectations. Earlier this month we launched a test in Taiwan. Too early to gain expectations, but this now puts us into four markets.

For the Levi's brand, we continue to advertise 501s. We had a very successful 501 day promotion on the first of May, which was centered around exclusive products and drove our whole 501 (technical difficulty) brand.

We just recently launched Type 1 in China, capitalizing on the previous success of Type 1 across the region, and once again early indications that China performance of Type 1 is on plan. Our focus on our women's business continues with the launch of ladies Levi's across the region. We started (technical difficulty) in Japan. Based on our strong performance in Japan, we are now leveraging this right across the region for the second half of this year.

In Australia, we had a (indiscernible ) test advertising campaign. This also gives some good work for us in driving brand equity. Aand our premium product range of (indiscernible) for both men's and women's continues to perform well at retail.

So in summary, the strong start to the year has now continued into the second quarter. Our growth is a broad-based growth being driven across all markets, with all three brands contributing. We (inaudible) strong revenue and profitability growth. Thank you and over to Phil.

Thank you, everyone. So we will be happy to take anyone's questions. As I understand it, there are people queued up already, and we will let the operator handle the queuing and the announcement. We ask you that you state your name and firm you are associated with.

(OPERATOR INSTRUCTIONS). Ron Phillips (ph), Bank of America Securities.

There was a notation in the 10-Q that talked about --

I am sorry. We cannot hear you.

Is that better, Phil?

Now we can hear you. Yes.

Great. Sorry about that. By the way, I hate to be (indiscernible), but great quarter.

There was a notation, a couple of notations in the 10-Q that talked about a 30 percent reduction in net debt as part of a potential proposed amendment. We were wondering if you could talk to us about what the potential tax implications would be for a sale of Dockers?

What we said, we did not call out 30 -- that the consent that we would seek in the marketplace would be only effective at a floor of 30 percent net debt proceeds, just for clarity there. So if net debt today is 2 billion, your number of 600 million is certainly in the ballpark. Just so it is very clear, that has nothing to do with the level of expectation our Board has for the asset. It is merely the floor for the consent process that we would, as we said, we would launch shortly.

With regard to tax assets, we are not going to give any particular guidance around how much of our tax assets we can utilize in a transaction. But yes, we do have, as is clear on the balance sheet, we do have tax assets based on losses that have been incurred historically. So, of course, we would try to utilize as much of those tax assets as possible, but we are not thinking of any specific guidance around how much of those tax assets we could utilize in a transaction.

We are obviously trying to back up into what a minimum sale price would be on the asset. (multiple speakers). There was some discussion about the taxes that I think I probably missed and I apologize. There are a couple -- as we know, there are outstanding factors. I was wondering -- the two numbers that came out in my notes were 103 million and 35 million. I was wondering if those numbers had anything to do with what we could view as the ultimate settlement or potential settlement on the outstanding tax years (ph)?

Well, the number that has most to do with it, our total tax liability, both current and long-term, is 146 million, 145.8. That is the all-in -- based on our assessment, the all-in to settle up for all of the income we generated through the end of the second quarter. We have called that in particular. We have expectations of 103 million in tax payments over the next twelve months, and what I reflected is inside the 103 million, it includes 35 million for payments on open issues we have with the taxing authorities. So there is some taking care of old issues, if you will, in the $100 million forward projection. It is just a projection of what we think we're going to try to move forward with. Our general front there is we, like the taxing authorities, want to move through our open issues expeditiously.

So that would take care of the majority of your open issues, you think?

The callout was 35 million. There is also, just to be clear, there are ongoing cash tax needs in the business. That business makes money in foreign jurisdictions, etc. There are the ongoing cash tax requirements of the business, and what I called out in particular was 35 million would be required over the next twelve months relative to old issues.

Okay. I appreciate it. Have a good day.

Kathleen Brady, Bank of America Securities.

In the 10-Q, you discussed receiving an amendment from the banks for the sale of Dockers. This implies that you are currently in negotiations with the banks. Is this true? If so, can you better discuss the nature of the discussions, what you expect to give the bank for them allowing the proceeds to be used for other purposes, and how you expect to ultimately use the Docker proceeds?

No, this is Jim Fogarty. That is not true. What we said is we would, as we always said, we would commence a process to achieve consents for both the term loans and the asset-based facility. And what we call that today is some detailing around that process. And we pointed out that we are about to launch that process shortly. So we pointed out we are about to launch shortly. We've not talked to anybody yet about the process.

Okay, so you have not had any discussions with the agent at this time?

I will not comment on that, but we have not talked directly with the holders of the debt. In other words, we are about to launch the process to talk directly to the holders. We certainly are talking to whoever we need to talk to prior to executing that process.

Okay. And so -- but you would expect to approach the banks prior to the sale of Dockers actually occurring? (multiple speakers) -- or not through the sale but prior to (multiple speakers)

We said today in the 10-Q that we would launch the process shortly.

Okay. And can you make any sort of comment as to how you expect to use the proceeds from the sale of Dockers?

No, we cannot.

Alexis Gold, CIBC.

I am on a cell phone. Can you hear me?

Now we can.

Sorry about that. Just a few questions. I know it is (indiscernible) early, but obviously I think you are reporting well ahead of most of our estimates. I am trying to get a sense for going forward. I know you don't want to provide top-line guidance. But can you give us a quarterly breakdown at least in terms of expected cost initiatives?

No, we cannot. We are not giving any guidance on a quarterly basis or going forward.

Fair enough. You talked a little bit about the Spanish plants. I think that the initial plan was rejected, and I am trying to get a sense for how that is shaping up going forward and your thoughts on closing additional plants?

We don't have any information to provide today, other than to give you the notion that we fully expect the Spanish plant closure to occur on the timeframe that we have set for ourselves to do it in. We are in negotiations to make sure that that happens in a way that is consistent with both the legal requirements, but also the values of the Company in terms of how we deal with employees.

Okay. Getting back to the 10-Q for a minute, I think the way it reads, it says that A&M has completed the process of analyzing the business strategy and operations. I'm assuming this is the initial Phase I strategic review, and that continues to be an ongoing process. And assuming that is the case, can you give us a sense as to what (indiscernible) would bring?

As we said the last quarter, that we completed a full analysis of the Company in total and business-by-business in collaboration with A&M. And that process is done. Jim Fogarty, who is a partner in A&M, is our CFO and will be for the balance of this year. But essentially the work with A&M is done. We have a plan going forward that has further cost reduction and cash flow opportunities associated with it that we have identified with A&M. And as we said, as we initiate and take action to bring to life those opportunities, we will point those out to you in each of the quarterly announcements that we make and in the Q.

So we have done that here in terms of we pointed out the Spanish plants, the further cost reductions in terms of headcount in our various businesses. And as we move forward into future quarters, we will make a point of pointing out these initiatives.

Yes, in terms of a phasing, the plan is complete (indiscernible) and we are implementing the plan and letting you know as we implement pieces of it over time.

And just a follow-up on Ron's question. I know you can't actually give us a sense of what dollar amount you would like to see associated with the Dockers’ sale. I know you said in the past that it is deleveraging. Is it safe to say you will be deleveraging on a cash proceeds basis?

We are just not going to say anymore about this sale. When you're in the process of selling a business, you sell the business, and then we will be happy to report to you on what the transaction looks like and what we will do with the proceeds.

Okay. Well then, I guess -- I know you also can't answer a question about what you would do with the proceeds. But can you answer a question as to what the restrictions are on the revolving credit facility? I mean, I know you have obviously told us what your availability is. As long as you have that available, you can use those proceeds towards anything that -- general or corporate purposes?

We are not going to get into how we are going to use the proceeds, and the thing we did call out today was, as you know, Dockers represented about 24 percent of our 2003 revenues, and we would seek to have the Dockers transaction result in at least a net debt reduction of 30 percent. So the 30 is greater than the 24. That was intended to be somewhat -- to give some indication. But that is as far as we are going to go around answering the delevering question.

We are not going to answer the question around how we are going to use the proceeds. We would have -- we would make use of the flexibility we have to utilize those proceeds to the best benefit of the Company.

Okay. But in general, you can use revolver borrowings for general and corporate purposes. Is that correct?

That is correct. (multiple speakers)

Sorry. And once it is calculated under the borrowing base, there is no restriction on that?

We would seek -- in the Dockers transaction, what we said is we would shortly launch a process to seek consent for the term loan facility and the asset-based facility. In terms of our liquidity today, we have, as we announced, 550 million of liquidity, and we can absolutely cap the $550 million of liquidity, part of which is our own cash, and then availability under our revolver for our general corporate purposes.

Okay, thanks very much.

Mark Kalston (ph), Lazard.

My question is this, I know you don't give guidance, but can you give any indication about Dockers going forward? Is there any other comparison vis-a-vis a year ago of continued change in programs or comparisons and the destocking? I guess you guys did give guidance about the Signature business, which you say is going to be up against the Levi's stocking of a -- I mean the Wal-Mart stocking of a year ago.

What we said in the intro, just to repeat it, is we would not have a comment on the Dockers earning power or the non-Dockers earning power, and we are not giving forward guidance. One thing that Scott had called out, we had called out that in the third quarter, we are reminding everybody that we fixture-filled Wal-Mart in the third quarter of last year, and thus, we would be comping against that fixture fill in the third quarter of this year.

Now is there anything you are comping against? It is not really a question of earnings power. It is really a question of, okay, all of a sudden you look at your numbers -- gee, we are down 20 percent on the surface, and then you go back and you say, oh well, we will cut out these programs and these programs. I am just asking, are they any – is that continuing for Dockers for the rest of the year that you're going to be up against t discontinued programs?

Well, we will let Bobbi repeat what she said here about what is in Q2 and what we are comparing against as we move forward in the year here. I think, again, we said this in her remarks and I think (multiple speakers) --

You guys on one hand you say the comment, hey, it was 24 percent a year ago, but so far this year it is only 20 percent of your overall sales, the Dockers business.

We just don't go -- I think you are looking for more information than we're willing to give you, when it really comes down to it.

But I will repeat in terms of the go forward in Q3, we are expecting a slowdown in over-the-counter sales versus prior year. The reason why -- the key driver is the fact that a year ago, we were exiting and refurbishing a whole major program, and we had to exit that program at retail. That drove a lot of volume, but at clearance prices, but nonetheless there was a lot of volume happening in the third quarter over-the-counter. We do anticipate not being able to anniversary this onetime event, and therefore, our over-the-counter sales will slow down in Q3.

Thanks very much for that answer.

That is what we said before.

Mariner. (technical difficulty)--

Operator, our next question please?

Jeff Cline, Mariner.

I had a couple of questions. First of all, what is the timing of the Dockers sale?

Chuck, who are you with?

My name is Jeff Cline. I am with Mariner Investments in New York.

We're not commenting in specifics on the timing, other than we said the exploration of the Dockers transaction continues. I will take the opportunity, though, to just clarify to the extent it did not come across clearly.

In terms of using the Dockers’ proceeds, the Dockers’ net proceeds, we are not going to tell how we are going to use them, i.e. which debt, but the intention is absolutely to use the net proceeds to reduce debt, so that that is clear. Those net proceeds will be used to reduce debt. We are just not going to tell you which debt.

Right. Okay. At this point, what do you believe your needs are in terms of reinvesting in the business? Do you anticipate ongoing needs here, or are you comfortable with where you stand in terms of rationalizing the product line that you're going to continue to reduce working capital and not need to reinvest at this point?

Are you talking about Dockers or the whole Levi Strauss & Company?

Whole Levi Strauss, predominately the U.S. jeans business.

The point -- the liquidity of the business is 550 million, and as we have said, that is sufficient liquidity to run the business, to do what we need to do.

I guess strategically, I would answer the question by saying, as we have said, our goal is to improve the profitability of the business, improve our cash flow, and see that in terms of margin improvement, profit margin improvement, really reflect that, and do it through very precise cost reduction, while we continue to stabilize the revenues of the Company and hopefully in the future have the opportunity to grow.

Our goal is, as we save money, is not only to drop it to the bottom line from a margin standpoint, but to reinvest part of it back in terms of what we would call A&P support, to support the brand. So you will see in the back half of this year a strong A&P program against all of our brands. So our goal is not to sacrifice our investment, both from a product innovation standpoint or from an A&P standpoint or a retail presentation standpoint, to achieve this competitive improved profit position while investing in the product line and in support from a consumer and marketing standpoint. That would be the key requirement going forward.

Now a contract manufacturer, we will not have substantial capital expenditures going forward. We will invest in IT, will be the primary CapEx investment that we will make going forward. But there will not be huge CapEx requirements now that we do not own any facilities or very few facilities. Does that help?

Yes. Great. Thank you.

Christina Boni, Credit Suisse First Boston.

My question revolves around your SKU rationalization at warehouse and clubs. What should we anticipate in terms of the Levi brand within the warehouse and the club channel?

My second question (technical difficulty) to rationalization is, have you done everything that needs to be done at this course, or is there more rationalization to be done on the Levi's brand find?

So as I mentioned in my comments at the opening, we had planned the reduction of off-price product to all price channels of distribution as we increased our emphasis on selling highly profitable first-quality product to our core customers. The growth that we got in first-quality, as I mentioned, was 5 percent, and that is through our core customers. And at the same time, we have been able to deliver both improved margins for the Company, as well as for our customers. That was planned in our financial plan, and we will not provide any more guidance than that.

In terms of incremental product range rationalization, we will always be looking for opportunities to more effectively manage the assortment and the mix of the product. But what I can say is that the majority of the rationalization, with the exception possibly of looking at additional opportunities to rationalize our fabric base, have occurred, and we will be moving into a period of standard operational performance where we will be looking for increased productivity as we look to stabilize and then hopefully, as Phil mentioned, grow the business.

So, Paul Mason, do you want to comment on product rationalization in Europe? I think in Asia, that's not a major initiative, but in Europe do you want to comment on that?

Yes, as I mentioned, we took out 580 series that was dragging our price points down to the mid-market in the European jean sector. We have launched innovative finishes in 501, and we are about to launch a range of product at the top end of Red Tab -- again, product which leverages better fit, fabric and finish, which takes us more to the premium sector within Europe. That is it, really.

But from a SKU rationalization standpoint, do you want to comment about where we are relative to --?

Yes. We have come down from – we have probably reduced our SKUs this year by over 20 percent, and we still see significant opportunity. We will continue to look to rationalize our product line, because you know, as with most businesses, the (inaudible) laws apply. The 80/20 applies, and all good businesses look to continue to rationalize and get more focused on better selling product.

Just to be clear, though, within the U.S., it does not mean that we will not see the product at Sam's and Costco. It is just a reduction in those particular retailers? Is that the (multiple speakers) --

The only products at this stage that you are seeing in the club channels of distribution are discontinued products, products where primarily either we are discontinuing a core program and we need to move those products to closeout; after having provided our core channel customers the opportunity to buy those products at a discount, we would take our excess inventory and develop a program to be sold through the club channels or other off-price channels.

In addition to that, there are seasonal closeout products that would naturally find themselves not only in the club channels but in the other off-price retailer, as any smart apparel company looks to leverage its assets.

Okay. And then secondly, you commented for Dockers that it was a weak Father's Day. Is there any commentary that you can give on the Levi brand side of the business, given that retail was weak across the board in June?

We, as I mentioned for the quarter, we saw a pretty positive result. We had our sales in the men's side of the business flat after a decline in the first quarter and the past several years. We saw the continued momentum in our young men's and women's businesses.

June for the Levi's brand met our expectations. It did not exceed our expectations. I think June was weak for most of our core customers, as you saw in the recent announcement. However, our core strategies, which I discussed earlier in the call, are working, and our customers are pleased with the results. What I would say is we met plan expectations in June.

And then finally, do you have the number for Q3 Signature sales last year, to make sure we have that number?

It should be available in our prior Q, but yes.

Yes, it was approximately $140 million in 2003.

I know I had the annual number. I wasn't sure if I had the Q3 number. 140. Thank you.

Gil Seno (ph), Harris Nesbitt.

I have a few questions. One is a natural follow-up to that Signature question. You said sales were 62 million this quarter. They were 86 million the first quarter. Is that largely because that was the quarter where you did (technical difficulty) fixture fill at Target?

Actually that was the increment versus last year. We had a couple of shipments into Wal-Mart in the second quarter. So the total amount was about 74 million.

I'm sorry, 74 million when?

In the second quarter.

Not 62?

62 was the incremental versus second quarter 2003. So it is 74 versus 86, and the 86 would have been influenced by the fixture fill at Target.

Okay, so that is for the difference.

And some slight seasonality.

There is some seasonality.

Yes, December selling period is pretty large, and you do not have a month like that in the second quarter.

Okay. Regarding -- we have talked about Spain and you have had some North American headcount reductions in this quarter. Is there anything you can do about quantifying what the annualized savings on a run-rate basis, once that’s all done, would be?

No. What we have said, we roll it all together, and what we have said very directly is it will make us more competitive on SG&A as a percent of revenue and our operating margins in fiscal 2005. So we have not quantified piece by piece, but that is where the whole plan takes the income statement.

Okay. And Spain, I understand, is a subject of negotiation. But the North American headcount, can you give me an indication as to when you will realize that, whatever that number is?

That has occurred. I mean basically it occurred. The savings are ongoing as we occur, but we also had the charges associated with the severance that (multiple speakers) reflected here.

I understand. Let me try to understand a little bit better the open tax years. You said a couple of times that your total liability includes 35 million, which is to reflect an estimated payment on your open tax issues. But can you give me a clearer idea, does that reflect all of the open tax years that you have had accumulating for the past several years? Does that reflect interest from the IRS? How has that been like that?

The total -- and I'm not going to get into how much is IRS versus other taxing authorities, state or foreign. The total tax liability we have on the balance sheet is $146 million, current and long-term. Inside the 146, there is 35 million, which I have said is included in our projected 12 months of payments. So 146 is not total. That is our total assessment of our obligations for tax -- all tax. And over the next 12 months, we expect to pay $100 million in cash, which will take care of 35 million of our "open items," as well as any ongoing tax obligations of the business.

So the 35 million is a current portion for the open tax years, a 12 month estimate? It is not necessarily reflecting all the open taxes?

That is correct. That is a way to summarize it.

Okay. I see. Okay. That is pretty much it. Thank you.

Karen Miller, Bear Stearns.

I just have a question. You commented that you're in compliance with your bank covenants, which I understand is one-to-one fixed charge coverage. Can you give us what EBITDA figure you are using for that?

No, we cannot.

Okay, then I will move on. Secondly, a couple of your distant segment heads talked about supply constraints for the third quarter. I am wondering if you could go over this, particularly Europe and then with -- and also Levi's in the U.S. and Signature brand? Can you talk a little bit about -- you know, third quarter is very important; it is back-to-school. Can you talk about some of the supply constraint comments in more detail?

Well, our business -- we have gone through a process of really carefully managing our inventory in relationship to planned sales, and planned sales I would say both planned with the retailer, as well as our own internal plans. So you will see in our results a substantial reduction in inventory. Some of that is by having much cleaner inventory relative to having seconds and closeouts, and some of it is just lowering inventory in relationship to what had been planned with our retailers. As the business has performed, we have some issues of sales being higher than what was planned and we're trying to catch that.

Secondly, as we move to contract manufacturing on a worldwide basis, internally, we have had some disconnects that we are in the process of quickly repairing. And then thirdly, we have hit a period of time during this quarter and this part of the year where there is really tight supply in the denim market, both from a fabric and a contracting standpoint. And that tight supply is as a result of many people moving out of Asia back into Latin America. So we have short lines of supply in Latin America. You see a very, very tight market right now, which is also contributing to that.

So we expect to have worked our way out of these issues as we hit the fall season, as we hit the holiday season, but we are working to make sure that we improve our inventory position relative to demand, but do so in a way that is consistent with the conservative cash flow approach to the business that we are trying to take. I would say that that is primarily the answer across both Europe and the United States. We have the issues relative to internal and the marketplace, as well as the whole conservative approach to maintaining inventories. That is the situation in both Europe and the United States.

And why has there been a shift from Asia into Latin America? Can you explain that briefly?

Sure, this is Robert. With the end of quota and the opening up of free trade coming out of Asia, I think a lot of people put a lot of production into Asia. A lot of it was not very well-planned. As they really started to adjust to their overall sourcing strategies, you just saw quite a few competitors shift production back to shorter supply, slightly higher cost supply bases in both Mexico, Central and South America. That happened at the same time, as Phil mentioned, that there was essentially a yarn shortage and some raw materials shortage in terms of fabric also coming out of the North American and South American regions. So when you just look at it, there is just a set of circumstances right now of increased selling trends and then a shift of supply strategy by most of our major competitors that has made contract supply extremely tight for the third quarter.

We know that many of our competitors are facing the same constraints as we are, and we are working very hard to ensure that we are matching demand in the supply with our customers, as everyone is managing inventory more conservatively at this point in time.

Can you give us a breakdown then exactly the percentages where your product was sourced -- how much is Asia versus Central and Latin America?

No, we cannot. Because as soon as I gave you a number, it would change the next day. There is just -- we are not using this as a -- we could not provide you guidance that I could reliably say was something you could count on either today or going forward.

Okay. Thanks a lot. I appreciate it.

Ethan Schwartz, CRT Capital Group.

Just a couple of follow-up questions. First, it sounds like you're going to be beefing up the advertising budget going forward. Can you give us a sense of how far off the normalized rate of incentive sales advertising was this quarter?

Yes, for the -- let me take the half because that's a better way to step back. So for the half this year, we spent at a rate of 6.2 percent of revenues, and for the first half last year, we spent at a rate of 8.6 percent of net revenues. And what we said is the 6.2 is not indicative of the full-year spend rate, and we are not going to tell you precisely where we fall between the 6.2 and 8.6. But Robert did mention we are investing in the (inaudible) campaign in the back half of the year. So the point being, we don't expect to spend at the 6.2 percent of revenue rate all year long.

And then on the men and young men's jeans, you mentioned that the sell-through was up and also that you had a 5 percent increase in first-quality and core sales after the wholesale and closeout decline. Can you give us a little bit more detail, sort of how the 501 and the Legacy products did specifically both at retail, sell-through and as far as your own sales?

Sure. On the core high-volume product that we have in what you're calling Legacy fits, our 501 and 505 in particular, and we saw improving sales trends in the second quarter. Those businesses are still in slight decline. The 501 is moving to stability. It has had months when it has been up and months when it has been down. But in general it is an improving sales trend, but still in slight decline. The same is true of 505.

What we are beginning to see is our new innovations, the new fits that we provided, as well as the fabric and finish innovation, is beginning to offset that decline, which is why we have flat total sales in the men's and young men’s businesses in the second quarter.

Okay. And then on women's jeans, is there any chance of your getting back into the Federated Department Stores? You did not mention them in the list of various stores that you mentioned. Is there any -- is that underway at all?

Well, I think as you know we are still selling our men's jeans products within the Federated stores. We also happen to be a really strong seller of our premium Red Tab range at Bloomingdale's and are expanding that program beyond Federated to include a full store rollout at Urban Outfitters, really strong selling at Barney's, as well as other premium customers.

Related to the women's business at Federated, we will be in constant discussions with Federated regarding both our brand strategy and their company strategy, and I think our focus moving forward will be to talk about being able to leverage both premium Red Tabs, as well as our Silver Tab subbrand on men's, and potentially the reintroduction of that on women's in order to put a greater emphasis on growing the total department store channel. But at this point in time, the business we are running in Federated is our men's business.

Okay. And then finally on the inventory side, as a percentage of (inaudible) costs, are inventories sort of at the right level now for modeling purposes, or will we see further improvements in terms of taking some working capital out of the business?

You know, our point of view would be that as we continue to improve our supply chain capabilities and the synchronization of supply and demand planning, that that may be an inventory level in the future we would be able to sustain. Our guess is given the issues we are talking about in the third quarter is that a slightly higher level of inventory is needed in the short-term in order to be able to make sure that we solve whatever fulfillment issues that we have out there. So we are going to be chasing some inventory, but I am talking about anything in the future that is going to be a dramatic increase in inventory. This is trying to adjust the actual and learn as we go along here.

Okay. Thanks a lot.

Gary Albanez (ph), Raymond James.

I was just wondering if you could update your gross margin guidance or give color on your earlier gross margin guidance? I know before you had been steering people towards like a 40 percent level over to long-term.

I think that what we continue to say is that our efforts have been really focused on improving our profit margins at the bottom line by really having improved ratios across our entire P&L. I think that is reflected in the second quarter. It reflects success. It is getting LS&CO. to much more competitive levels in the context of the apparel industry, and that is our goal going forward.

I would add to that, we have said that all the actions are meant to get us to competitive operating margins in 2005. If the gross margin rate were to fall back dramatically, we would not be able to get there. So if that helps.

Right. You have had very strong gross margins over the first half, and I was just thinking whether they would continue over the second half.

Again, we are not giving specific guidance, but again, we are not only working the SG&A line, but also, as Paul called out, the closure of Spanish plants will be a help relative to our margin rate in the very large European business. So if that helps. Again, it is getting, as Phil said, most importantly the bottom line operating margin we expect to be more competitive in fiscal '05.

Kelly Garraty (ph), Phil Stone (ph).

I was wondering if you could elaborate on your premium pricing repositioning program in Europe and the withdrawing of the 580s and the introduction of Signature, how that factors into everything in terms of margins?

Okay. Well in terms of -- let's start with Signature. Signature is in three principal markets -- in France, in the UK and in Germany -- and we talked about that before. But in terms of the UK, whereas to Wal-Mart, our principal customer, they have doubled the number of dollars that are selling Levi Strauss Signature. We are just about to go into distribution in 25 Makro (ph) stores. In France, we are just about to go into trial with Casno (ph), the (indiscernible) business in France. So LSS is in good shape.

When I talked earlier about what we're doing with Levi's, we trialed in 2001 and rolled out in 2002 a basic 580 Red Tab jeans product, both in men's and ladies. And in effect, that moved us down into the middle markets. The growth segments, or the areas in the European market that have shown growth in the early part of this year, and the premium segment, which is over 55 Euros, and the value sector, which under 30 Euros -- that is retail selling prices. So LSS gives us the opportunity to leverage the value end.

As we have said, the growth in the premium end is above 55 Euros. The 580 series was being retailed at around 45 Euros, but was in the middle market, which is actually struggling quite badly in Europe. So we have taken that product out during fall of this year. And in terms of 501, we are investing and delivering through fits, fabrics and finishes, which are moving our retail prices -- moving retail prices up in the marketplace (ph).

And so in effect, we have got a product range at the top end of Red Tab now, which is competing with brands such as Diesel mid-60, which has been very successful in recent years in growing their market share.

So just let me embellish, from again, a strategic point for the company, and some of this is going to be repetitive, but our goal here is to sell where people shop two brands. One is the Levi's brand and one is the Levi Strauss Signature brand. And from a pricing standpoint and a product standpoint and a marketing standpoint, have a key distinction across all four (indiscernible) between the two brands. So far that strategy has been very successful around the world. We have seen from a consumer standpoint absolutely even today still no cannibalization between Levi Strauss Signature and Levi's.

The strategy is really working, even with strong rates of sale on the Signature brand and an improving Levi's business in the U.S. and a hopefully strengthening Levi's business in Europe. But we measure it very carefully, and we examine it very carefully. The margin structure of the Company is designed to support the notion of having these two price points in the marketplace and be able to again accomplish our objectives as we move forward of improving the overall operating profit margins of the Company as we proceed in the third and fourth quarter and as we go into '05.

So the strategy is really working. We have not seen cannibalization, and we have calculated our cost structure and our margin structure on a basis that accomplishes our objectives.

Okay. So basically moving out of the midmarket then, you are moving more toward either end of the market, the lower value end, as well as the premium end as well. So I guess what I was concerned about is that volume would drop off if you were taking out the 580s and exiting the midmarket, but you would not anticipate that to be happening?

I think Paul clearly pointed out that the market seems to be operating sort of good strength in the value segment and good strength in the premium segment, and like many consumer markets, the middle gets lost, and the goal is to compete where the market is going, which is in that premium segment and in that value segment.

Clark Forsky (ph), KDP Investment Advisors.

I just had a question about the customer service issues you had in Europe and sort of what caused those and what you're doing about them?

I don't know if you want to add anymore, Paul, to what --

I think you have answered the question very well.

We have answered that question before. If you would like me to repeat the answer, I will be happy to do that. But I don't have much more to add to what I said.

I'm sorry. I may have missed that. Was it on the distribution side that you talked about that?

It is a combination of trying to lower our inventories in relationship to planned sales because our goal is just to really carefully improve our profitability and manage our cash. It is making changes as we move to total contract manufacturing, where we have got some things that need to be improved in terms of our own internal operations and really coordinating supply planning and demand planning better, and it is a synchronization issue within the Company that we are solving. And then thirdly, it is a real tightening in the denim fabric and contract manufacturing market, really throughout the world, but particularly as we hit the North American market, but to some degree in the European market as well.

Okay. The other question I had was on just going back to the tax liability. In the 10-Q, it talks about the IRS unfavorable advice. I am just wondering how that ties into that?

What I would say on the IRS unfavorable advice, that was as expected. We expected in our reserves at the end of the first quarter, at the end of last year, we had been expecting the outcomes in this technical advice memorandum that we received. But the punchline is what we got from them was as expected and it was consistent with the way we had provided for our tax liabilities, as witnessed by the tax liability actually has gone down in the period in total, including current and long-term, versus having gone up.

Okay. The last question I have is you gave a restructuring number, cash restructuring charge for '05 of 112 million. Is that the sum total of what you think the restructuring is going to be, or is there more stuff that will flow into '06, or is it too early to tell?

That is what we are currently in planning in the way of cash restructuring charges. It does not necessarily -- it is what we're planning in total for cash restructuring charges over the next 12 months.

Operator, next question, please.

At this time, I would like to turn the floor back over to the presenters for any closing remarks.

So we appreciate your attendance this morning. We continue to achieve our objectives of becoming more competitive and improving the profitability of the Company, as we look forward to continuing to report to you on our progress against those objectives as we go into the third and fourth quarter of this year. Thank you.

Thank you. This does conclude today's conference. You may disconnect your line at this time and have a wonderful day.