La-Z-Boy Inc (LZB) 2005 Q4 法說會逐字稿

Greetings ladies and gentlemen and welcome to the La-Z-Boy Incorporated fourth quarter and full year operating results 2005 conference call. [OPERATOR INSTRUCTIONS] It is now my pleasure to introduce your host, Mr. Mark Stegeman, Treasurer of La-Z-Boy Incorporated. Thank you, Mr. Stegeman, you may begin.

Thank you, Dan. Good morning, I'm Mark Stegeman, Treasurer of La-Z-Boy Incorporated. Thanking you for joining us on our fiscal 2005 year end conference call. Present on today's call are Kurt Darrow, La-Z-Boy's President and CEO, David Risley, our Chief Financial Officer, and Patrick Norton, our Chairman.

Today's subject is our fiscal 2005 fourth quarter and year end operating results. Kurt will begin with some prepared remarks and Dave will spend a few minutes reviewing the financials and then we will open it up for questions. Please, as a courtesy to everyone we would ask that you limit yourself to one question with a follow-up question if necessary. This call is being Webcast live and a replay will be available on our website this afternoon. A telephone replay of the call will also available for a week beginning early this afternoon.

These regular quarterly investor conference calls are one of La-Z-Boy's primary vehicles for providing guidance to and communicating with investors and the investment community about the Company's current operations and future prospects. We will be making forward-looking statements during this call. So I'll repeat our usual caveat. While these statements reflect the best judgment of management at the present time they are subject to numerous future risks and uncertainties as detailed in our regular SEC filings. And they may differ materially from actual results due to a wide range of factors. We undertake no obligation to update any forward-looking statements made during this call. With that let me introduce La-Z-Boy's President and Chief Executive Officer, Kurt Darrow. Kurt.

Thanks, Mark, and thank all of you for joining us today for our 2005 fiscal year end conference call. This was a challenging year for us but one in which we made substantial progress in transitioning our business. This morning I'll provide a high level overview of our operating results for the fourth quarter and for the full year. I will also discuss the very tangible progress we are making in transitioning our business model as well as a review of current business conditions and an outlook for first quarter of fiscal '06. I will then turn it over to David Risley, our Chief Financial Officer, for a more detailed review of our financial statements, particularly the unusual items for the quarter.

Let me start by spending a few minutes on our fourth quarter and full year operating results. We are pleased that our fourth quarter operating results exceeded our expectations though they remained below the level we are capable of delivering. In addition we are definitely not satisfied with our profitability on a full year basis, though we did make steady and continued progress throughout the year in improving our operations and our profitability.

I'll provide more detail on that accelerating progress in a few minutes but here's a quick summary of the significant activity which occurred during the fourth quarter. First we sold our contract office seating business. Second, we purchased three furniture gallery operations located in Pittsburgh, Connecticut, and Chicago totaling 21 stores. Two of these operations were our remaining underperforming VIEs which completed our objective of addressing this issue in fiscal '05. Thirdly we opened, converted, or relocated 11 New Generation stores in the quarter. Four, we started full operation of our integrated Casegoods distribution facility in North Carolina, and finally we sold over $5 million of excess property and equipment during the quarter.

As you could tell from our press release we had an extremely busy fourth quarter. We are doing all we can to ensure our focus can be primarily on operational execution in the coming fiscal year and the effective management of our business model.

Now let's take a look at the numbers. Net sales for the fourth quarter were up 33 million or 6.3% from last year's quarter. This year's quarter included an extra week of sales. This is the fifth consecutive quarter in which we've seen growth in our overall corporate sales. In our upholstery segment fourth quarter sales saw a 3.5% increase from last year which again included an extra week. Casegoods sales for the quarter were up 10.2%. We are pleased with the progress we are making in our Casegoods model and it's certainly being reflected in our sales momentum. This is the second consecutive quarter of growth for Casegoods which is an improving trend given that prior to these two quarters we had not experienced any sales increases in over three years. Much of this increase was due to our American and Martinsville subsidiary which serves primarily the hospitality business. They maintained solid top line growth this quarter and we anticipate continued positive trends in this business.

For the full fiscal year 2005 our sales were up 96 million or 4.9%. For the year, upholstery sales were up 3.6% while Casegoods sales were basically flat. From an order perspective though we experienced a fairly stable environment in the last quarter we have increasing concern about energy prices and rising short term interest rates and their impact on the consumer. With that as a backdrop our upholstery segment saw order dollars up slightly for the quarter with our La-Z-Boy branded business leading the pack. Casegood orders were stronger with a high single-digit overall increase and all of the business units were on the plus side with the exception of Pennsylvania House which is continuing to make significant progress in its transition to an import model. We are very confident the transformation of our Casegoods business is on its way to achieving the initial profitability target ranges we have established.

Let's shift to earnings. Our quarterly earnings were $0.40 per share including a number of special items which amounted to $0.05 per share. As I mentioned earlier this exceeded our previously announced guidance of $0.26 to $0.30 and Dave Risley will provide detail on these special items later in the call. Earnings for the year totaled $0.71 including a number of special items. We are pleased with the progress we've made in improving our operating results as the year progressed though our expectations remain considerably higher than our current results.

Now let me discuss our operating margins which were depressed this year primarily by raw material price increases, particularly in steel. We continue to make progress in improving our margins as our overall operating margin for the fourth quarter was 5.8%. This is up from a negative 6.6% a year earlier which included a write down of intangible assets and restructuring charges. This is the fourth consecutive quarter of improved operating margins this year. In the first quarter of the year we had an operating profit margin of negative 0.9, in the second quarter 2.9, and in the third quarter 3.9. Again we are pleased that we are able to achieve almost 6% operating margins in the fourth quarter ahead of our projections at the end of last quarter of slightly above 5%. We remain focused on continuing to make this kind of steady progress.

Upholstery operating margin was 7.9% this quarter compared to 10% for last year's fourth quarter. Casegoods operating margins for the fourth quarter was 2.1 compared to 0.2 for last year's quarter. Our full year operating margin was 3.1 compared to 1.4 last year. For the year upholstery operating margins were 6.3% versus 8.6 for fiscal year '04. The margin decline in upholstery was largely driven by raw material price increases for poly, plywood, and steel which rose at an unprecedented pace. While we made significant price adjustment and cost containment efforts throughout the year they were not enough to offset the initial impact of the raw material increases and as a result we played catch up all year long.

For the full year Casegoods operating margin was 1.2%, up compared to last year's 0.7%. As I mentioned earlier we are making steady progress as we continue to transition our Casegoods business model to be primarily a marketer, distributor, and importer and that progress is beginning to reflect in our operating results. Those results however continued to be adversely impacted by greater than anticipated transition costs over and above the restructuring costs associated with our change to the Pennsylvania House import business model. Offsetting this somewhat is our Custom Order Hospitality business which is beginning to realize margin improvements as that industry recovers from a three-year slump.

Our operating results in the fourth quarter were positively impacted versus our guidance by several factors. First, stronger than anticipated performance of our Casegoods Group led by American and Martinsville. Second, some of the price increases we had implemented were realized sooner than we had forecasted. We had a favorable mix of products with higher margins than were forecasted. And we had continued cost reduction and restructuring benefits.

Now let's move on to SG&A which for the quarter was 17.9%, down from 19.7% last quarter, though up from 16.6% compared to the year earlier quarter. As I have mentioned in previous calls as we continue the evolution of our business model to own a greater mix of proprietary retail in order to achieve our desired levels of market penetration where necessary, we expect SG&A percentage will rise and that we will also see a corresponding impact on our gross profit margins. Absent VIEs and the retail businesses we own SG&A for the quarter was down 90 basis points or about 1.1 million. For the year our SG&A was 19.6%, up from 17% last year and again this increase was due primarily to the growing retail component of our business. Without the VIEs and the impact of a higher percentage of our business and their retail model our SG&A for the year was relatively flat in terms of percentage and dollars. Cash flow generated from operations for the quarter was 32 million, and for the year was 46 million.

Switching to the balance sheet we reduced inventories $14 million from last quarter. Capital expenditures for the year were 35 million of which 5 million was from our VIEs. During our fiscal year we repurchased 120,000 shares of stock at a cost of 2.5 million. We also generated $6 million from the continued liquidation of property, plant, and equipment, primarily from closed facilities, and $11 million from the sale of La-Z-Boy contract.

Total debt at quarter end was 226 million, down 17 million from last quarter, leaving our debt to capitalization ratio at 30% at year end. We are continuing to make progress in moving this ratio towards our targeted range of the mid 20s. Although we are not yet within our targeted range of leverage, with the concurrence of our Board of Directors yesterday we plan to reenter the open market on a moderate basis to begin repurchasing shares. This action is being taken in light of the low market price of our stock and the belief in our Company's future prospects.

Now let me give you an update on the progress we've made and continue to make in each of the three areas of our business model. As we've discussed before the three elements of our business model include, first, to remain the industry's leading marketer and manufacturer of upholstered product, second to be a marketer, distributor and importer of Casegoods products and finally to be the leading proprietary furniture retailer with a strong focus from a corporate ownership on the top 25 markets in North America. We will spend a few minutes on each of these three elements.

In upholstery there are a couple items to discuss. Before I do that, however, it's worth noting that our foundation in this business is very strong with the most powerful brand name in the furniture business combined with a very effective integrated marketing system and the strongest distribution network in furniture. The first area I will cover is our continued aggressive approach to integrating Asian sourcing into our upholstery supply chain particularly in cut-and-sewn product. As I mentioned last call we are transforming our manufacturing and sourcing process into a lean globally integrated system which takes full advantage of both the cost opportunities presented in Asia and the speed to market advantages of a U.S. manufacturing base. As an example we continue to accelerate our progress in the rapid integration of cut-and-sew product into our system in both leather and fabric. Cut-and-sewn sets continue to be an increasing portion of our upholstery sales and we believe they will continue to grow.

Second item which was strategically important this quarter was our sale of our La-Z-Boy contract office seating business. As we developed and refined our business model and better identified how our capabilities and resources could be best applied to achieving our overall objectives we took a hard look at everything we are doing. We concluded that our expertise as well as our business model is centered on providing comfortable and stylish furnishings for the home. Our contract business simply did not have the scale of the other major office furniture players and was not a large enough component of our overall business to justify our corporate attention and resources. This sale enables us to sharpen our focus on home furnishings which has substantially different dynamics than contract furniture as well as provide our Contract Furniture Group the opportunity to join an organization which is committed to invest in and grow this business. We would like to knowledge all the people who have been involved with this business over the past several decades for their service and their efforts in making this deal happen.

In summary as I mentioned last call we remain confident that in our upholstery business as raw material prices stabilize we would be capable of returning to our historic operating margins of 8 to 10%. As evidence of this we performed at a 7.9% operating profit level in the fourth quarter of fiscal '05.

Now let's shift our attention to Casegoods. I would first like to highlight some of the significant progress we've made this past year in transitioning this business to our model of marketing, distributing, and importing. First, from a customer standpoint in the past year we've repositioned our brands offering a much better value proposition. We've grown our proprietary distribution through additional instore gallery programs and the expansion of La-Z-Boy Kids Galleries by almost 200 locations to 372 galleries at the end of April. We've strengthened our direct container programs for major customers and we improved our speed to market on new product. From an operational standpoint we strengthened our global sourcing organization, we closed the Pennsylvania House plant and warehouse and have substantially completed the transition to 100% import model, we've streamlined a number of import suppliers gaining more significance with these key suppliers. We closed a major Kincaid plant, we opened a new integrated distribution center and consolidated eight smaller warehouses, we reduced headcount by 565 people or over 20% and we sold idle property and equipment, reducing our ongoing carrying costs. I have to tell you we are pleased with these accomplishments and the substantially different business platform from which we enter into our new fiscal year in this segment.

At the recent April market we received very good feedback and orders for all of our new Casegoods introductions. A special note was the exceptional success of the Profiles Collections introduced by American Drew. This is a transitional lifestyle collection which was embraced by large and small dealers across North America. Though our hospitality business continues to lead the Casegoods segment recent order trends have been good on all fronts. As a result of these aggressive actions our residential Casegoods business will be 75% import driven, a radical change over the past couple of years from a 75% domestic manufactured level. We are clearly working with a strong sense of urgency in this business as a result of the clear view of the reality facing us. We remain committed to achieving the 4 to 6% operating margin run rate in this business.

Now let's finish up the review of our business model by focusing on proprietary retailing. As I mentioned before we have a great deal of experience in proprietary retailing and continue to drive to improve and accelerate the expansion of our model. The last few months have been tough from an overall furniture retail perspective. We have a one-month lag in reporting from our mostly independent dealers. So this morning we can report that the first four calendar month same store sales dollars for the furniture gallery system were basically flat while total system sales were up 3.2%. Although the same store sales comparisons were flat they were uneven throughout that period. The month of May appears to continue this trend in inconsistent sales patterns at retail and we would expect continued flat to slightly up trends as we enter the seasonally slower summer months for furniture retailing.

In order to drive top line growth a major focus is accelerating the opening of new stores and converting existing stores in premiere locations to our New Generation concept. In the fourth quarter we opened seven New Generation furniture gallery locations, remodeled four stores to the New Gen format and closed one nonproductive store. In fiscal '05 we completed 41 total projects including 17 new stores and the conversion or relocation of 24 existing stores to the new format. These New Generation stores are continuing to generate increased traffic levels, higher average sales per square foot, and greater total sales volumes than our older format stores. We also closed seven nonproductive stores during the quarter. This brings our total year end store count to 334, with 109 of those being in the New Generation format. A year ago we had 68 New Gen stores. These 41 projects in fiscal '05 compare to 22 projects in fiscal '04.

We target completing over 50 projects in fiscal '06 with over 20 of those being new stores and the remainder being store remodels or store relocations. We also anticipate closing about five nonproductive stores system-wide during the year. Of those new store projects we anticipate opening approximately five to six company-owned stores and converting or relocating another ten company-owned locations. From a corporate ownership perspective we had a very busy quarter and made substantial progress. We acquired three markets, Chicago, Pittsburgh, and Connecticut, consisting of 21 stores.

During the fiscal year we also opened three new stores within our corporate markets and converted three stores to the new format. With these acquisitions and with the new stores we now own 61 stores in seven primary markets. Also, as a result of these acquisitions and with a transition of two markets to new ownerships, we have fulfilled our objective of transitioning out of all of our initial underperforming veritable interest entity dealers. The negative impact of the VIEs over the last four quarters has been $0.11. The amount of heavy lifting we have before us in our company-owned markets remains substantial. The businesses we absorbed were for the most part not in great shape and will need a lot of hard work to get them to an operating level and critical mass in their markets which will allow us to make the kind of returns we demand at retail. For example, the operations we have acquired tend to have stores with dated physical structures in substandard locations. It will take some time to relocate and upgrade these stores to our new standards. In addition, we need to update their information systems and other operating processes and systems to enable us to effectively operate at a reasonable level.

As a result of these actions this now leaves us with three remaining VIEs who are marginally profitable at the present time. We are comfortable having VIEs as long as they remain profitable and achieve our market penetration targets. Given the level of acquisition activity in the last quarter I would like to restate our strategy with our company-owned stores. We believe that once we've had the opportunity to reposition the effective market with new management, new systems, and stores, we have the capability to produce operating margins between 3 and 5%, which is in line with Ethan Allen, Haverty's and other successful public furniture retailers.

I would now like to discuss our guidance for the first quarter. We are concerned that the recent strength in consumer confidence may weaken because of high energy prices and rising short term interest rates. We believe that consumer confidence is strongly correlated to consumers' propensity to buy furniture and therefore our outlook is accordingly tempered. With that said, however, we remain confident that the steps we've taken to transition to an import model in Casegoods, our progress in creating greater value and faster speed to market in our upholstery business, and the increasing strength and size of our proprietary retail system will enable us to compete favorably in this tough environment. We are therefore expecting our first fiscal quarter sales to be up in the low single digits compared to the prior year's quarters. We also anticipate reported earnings for the first quarter to be in the range of $0.10 to $0.14 per share which compares to a loss of $0.07 last year which included $0.12 of restructuring netting to $0.05. Again, we are making steady progress moving forward. We would expect capital expenditures for fiscal '06 to be approximately 30 to 35 million. Depreciation should be approximately 20 to -- 28 to 30 million, and the tax rate going forward should remain at 38%.

In closing we are pleased with the progress we are making in transitioning to our new business model in spite of a very tough environment. We remain quite confident that our evolving business model positions us to compete profitably in each segment and creates a strong foundation for future growth. I also want to sincerely thank the 15,000 hard working men and women at La-Z-Boy for their tireless efforts over the last year in helping us reposition our company. Your contributions and dedication are greatly appreciated. Thank you for being with us today on our 2005 fiscal year end conference call. I will now turn things over to Dave Risley, our CFO, who will walk you through the special items for the quarter and then we will open the call for Q&A. David?

Thanks, Kurt. Repeating the obvious, we had a lot of moving parts this quarter and we want to make sure that you fully understand them and the impact each had upon the quarter. As a starter you need to understand what is in and what is out. By comparison the 2005 results include VIEs which were not in last year's results. In February, we acquired the La-Z-Boy store system in the greater Chicago market and the results of operations from the date of that acquisition through April 30, have been included. The former negative VIEs in Pittsburgh and Connecticut were acquired late in the fiscal year and while they are included in our year end balance sheet there is no meaningful activity in our income statement. The sale of our contract seating business occurred at year end and the results for that unit for this year and all previously reported periods have been reclassified as discontinued operations and shown in our income statement below income from continuing operations.

Now that you know the players we can discuss the results. Income from continuing operations for the quarter was $0.35 a share, and includes a $0.04 loss for VIEs. The loss from operations in Pittsburgh and Connecticut up to the date of the acquisition are included in that $0.04 number. Restructuring for the quarter was a gain of $0.04 a share as we made strides in disposing of idle buildings and excess equipment with greater than expected proceeds. The gain is net of expenses incurred this quarter as we finalized the shut down costs of our Pennsylvania House manufacturing facilities. We do not expect any additional restructuring expenses on that project. We incurred a $0.07 per share charge during the quarter, which is included in the cost of goods sold for a change in the way in which we estimate unpaid Workman's Compensation claims. We began utilizing an actuarial based methodology which will more accurately estimate the pay out of these claims which can be spread over several years. The charge negatively impacted the operating results of both the upholstery and Casegoods segments as we noted in the press release.

Coincidentally we also have pick up of $0.07 during the quarter which is included in SG&A for a reduction in our allowance for doubtful accounts. This reduction is related to two specific accounts. The first relates to our acquisition of the Chicago market wherein we have a large potential exposure. The acquisition negated any further need for that reserve. The second relates to a significant dealer wherein we were able to substantiate our credit position after obtaining additional independent values on real property which will protect our ultimate collectability. While we continue to have ups and downs in our receivables exposure in the normal course of business, disclosure of this reversal is necessary for you to fully understand what drove a part of our earnings performance. All of this charge was allocated to the upholstery segment. Those were the adjustments to this year's fourth quarter results. Again, $0.35 from continuing operations which compares to a $0.64 loss in the 2004 fourth quarter which included a $1.07 charge for the write down of intangible assets and a $0.01 charge for restructuring.

Below income from continuing operations the 2005 fourth quarter includes a gain of $0.02 from discontinued operations, i.e., the contract seating business, which consists of $0.01 from operating activities and $0.01 from the gain on the sale of the business. Also below the line was a $0.03 extraordinary gain which, putting all the accounting language aside, amounts to recovery from prior VIEs. Last year's fourth quarter includes a $0.16 charge for the cumulative effect of an accounting change for the adoption of the new accounting standard relating to those VIEs. Accordingly net income for the 2005 fourth quarter was $0.40 a share versus an $0.80 loss last year.

For the full year 2005 income from continuing operations was $0.63 a share which included an $0.11 loss from VIEs and a $0.12 full year charge for restructuring and the same $0.07 items for Workman's Compensation and allowance for doubtful accounts as was in the fourth quarter. This compares to a $0.04 per share income for 2004 which included the $1.04 charge for the intangible write down and a $0.12 a share charge for restructuring. The full year discontinued operations resulted in a $0.04 income per share in '05 and a $0.01 per share in '04. The full year extraordinary gain including the VIE recoveries in '05 was $0.04 a share. Net income for 2005 totaled $0.71 per share versus $0.11 per share loss for 2004. Hopefully that added more clarity to your understanding rather than confusion. Now I will turn it back over to Mark for questions.

Great. Thanks, Dave. Again if you could just limit yourself to one question so we can let everybody participate that would be great. Dan, if you would just quickly review the instructions for getting in the queue to ask questions, that would be great.

[OPERATOR INSTRUCTIONS] Our first quarter will be coming from Todd Schwartzman of Sidoti and Company.

Good morning, gentlemen. Just looking at the role of advertising I just want to get a sense of what role you see over the next couple of years with respect to the overall, improving the overall furniture gallery network? What role do you see catalogs having over the next couple of years?

Well, Todd, there's an ever changing media mix going on in the world today and they keep getting evaluated each year. The TV media is getting more spread out through more channels. Direct mail in a lot of places gets a lot more action these days. But in a lot of cases it's a market-by-market situation. Certain markets where they have competitive papers, competitive television stations, the rates can be negotiated; in other markets, where there's fairly pretty much a monopoly of the media in a major market, the rates are different. So we look at it from a market-by-market basis. And we use catalogs, direct mail pieces, newspaper advertising, and television all as part of the media mix and it varies by market-to-market depending on the costs.

Thanks.

Our next question is coming from Ivy Zelman of Credit Suisse First Boston.

Good morning, guys. It's hard to imagine I can only ask one question. I don't know if it's in my chemistry but with respect to the comments you made, Kurt, throughout the call, the one that stood out the most to me was related to the comment that you made that you realized price increases faster than anticipated and given the deflation in this overall market and what you guys are challenged with that sounded very strange and you'd never mentioned deflation as one of the issues that you were challenged with throughout the year, only raw materials and, again, knowing the industry challenges we see in deflation, I was surprised on those comments. So if you would like to respond.

Ivy, the, on the deflation issue, I think because we've had a number of moving parts it's very hard for us to quantify the impact of the deflationary issues. We are certainly selling our Casegoods products at less prices than we were a couple of years ago but they are being made overseas at much better margins and therefore it's a win/win for both the consumer and for us. So we've taken the cost structure out of our domestic base of manufacturing and are passing that on to the consumer. But on the flip side our margins are improving because of our predominantly import strategy now on the Casegoods side.

You said you raised prices.

Well, on the upholstery business we did raise prices and on our core business in the La-Z-Boy branded business we were able to get some pricing upside this year, primarily on the bulk of the line that is not considered to be "promotional." We still kept prices tight on certain items to hit key price points but overall we did have the ability to raise some prices during the year which also provided us the opportunity as we improved our margins through cut-and-sew and some other cost initiatives we were able to blend in our margins as well. I don't think we were alone last year on the upholstery side of having the ability to raise prices somewhat, particularly in the motion field where the steel component of the product is so dominant and we saw other upholstery manufacturers raise prices as well.

Thank you.

Our next question is coming from Joel Havard of BB&T Capital Markets.

Good morning guys, congratulations. Let me try and craft this question so you don't have to answer it a couple of different ways. The growing retail element of your business, Kurt, your comments discussed briefly that that's going to be changing the gross and operating margin impact. Could you all give us a sense of where retail was at a -- from a dollar standpoint or as a percent of sales? I understand that applies mostly to the upholstery business? And how you see that margin environment evolving over the course of at least this current fiscal year and maybe into next?

Let me take a little bit of a stab at that, Joel. I think it's important for everybody to understand what the relationships are on the retail side of the business. The gross margins in retail tend to be in the mid-40s, 44, 45, 46, up to maybe 48% in some cases. Whereas the SG&A costs are obviously very high in the retail side of the business with all the advertising, the occupancy costs, and sales expenses and they will run in the low 40% range. So as you grow in size, those percentage relationships have an impact to our consolidated results. As Kurt indicated we have some work to do. The stores that we've acquired not only this year but in the last couple of years were not always our -- the most profitable stores. And they are not always the best physical condition or in the best location. And until we get them repositioned in the market and add to the penetration in the market with additional stores, the overall profitability will not improve until that takes place. Does that help your --?

Joel, I think the other thing is, we started -- we ended last year in fiscal '04 with 38 company-owned stores and as of today we have 61 company-owned stores so you can see it was a pretty substantial change and the percentage of business we do through retail as an overall percentage of our company sales has grown dramatically.

You anticipated my elaboration follow-up question but that is where you all stood this fiscal year as a percent of sales or dollars if you can talk about. I seem to recall you guys were thinking about breaking retail as a separate segment at some point.

Well, we just completed the roll up of all these acquisitions and we are examining that situation but at the present time our retail businesses rolled up into our upholstery segment and we've chosen not to break it out separately yet.

Okay. Thanks, guys. Best of luck.

Our next question is coming from Charles Grom of J.P. Morgan. Please proceed with your question.

Good morning, guys. As a follow up to Joel's question, looking at the gross profit margin, SG&A rate changes that you are going to see now that you are going to be owning more stores do you envision the benefits of the gross profit margin exceeding the increase in SG&A? In other words, as you own more and more of these galleries and do you see the total company margins benefiting or since the retail margins are actually smaller than both the Casegoods, well, actually with the Casegoods margins you are expecting to be and the upholstery margins, I think are 8 to 10%, do you see total company margins starting to compress longer term as you own more retail stores? And then, as a follow-up to that, you own 69 stores today, where do you envision that being 12 months from now, 5 years from now, et cetera? Thanks.

You broke the rule, Chuck, you asked more than one question. [Laughter] We will try to answer both of them. From a store standpoint we have some specific goals we had to get accomplished. I want to refocus everybody that we only have an interest in these top markets that are not performing. We are in seven primary markets. We don't have any plans now to be buying individual markets with one store locations and things of that nature. We have one more market that we are actively engaged in discussions and that pretty much satisfies our short term appetite for our stores. And we have said repeatedly now for a year that we think at the end of 2007 calendar year we will be approaching 400 stores. The Company at that point would probably own 20 to 25% of the stores but they would be all in these primarily seven or eight markets that we are very focused on.

To answer the first part of your question, it depends on how big retail gets as a percentage of our sales based on the growth that we can grow the wholesale side. And while the operating margins might not approach the same level as the manufacturing side the return margins, the return on investment, the return on equities are not, should be as good as or better than the manufacturing business because the amount of capital required to be in the retail business is a different business model than on the wholesale side. So we are expecting the same kind of financial returns albeit different than operating margins between the manufacturing and retail business.

Thanks. Good luck.

Our next question is coming from Budd Bugatch of Raymond James.

My congratulations for getting through this year as well Kurt and Pat and David. Like Ivy, her DNA about asking one question. Let me just go to the Casegoods area. Excluding America and Martinsville how did Casegoods do and can you give us any granularity down to Kincaid and some of the other Casegoods operations?

Again, we've tried to keep our segments pure and talk about them in totality. I would tell you, Budd, the only -- as I mentioned in my prepared remarks, the only business where we don't have positive trends right now on both a growth and a margin side is the Pennsylvania House transition. So while the American and Martinsville is leading the charge in the Casegoods segment the balance of our Casegoods companies with the exception of Pennsylvania House are progressing right along plan and we are very satisfied with the progress they are making on both the top line and the bottom line.

Okay. Thank you. Just one follow up, just on a different tact. Can you detail what the CapEx for the year will be for? How much of that might be for some of those retail relocations and will you put capital into the ground on those or how will you handle that?

Typically, Budd, on the capital side for retail in most cases we are leasing the stores. Now, in order to get the right location and do the right thing for the business, we are not adverse to building if we have to in order to get the proper locations because in the long run that's what's best for the business. But to date, 90% of what we've done on the retail side has been leases and the capital to open a store for us and reformatting a box and supplying inventory is probably less than $800,000 a store so it's not a huge CapEx experience. And we will be spending the balance of our CapEx on information systems and normal maintenance of equipment and things of that nature. But there is no major one single item that stands out for next year in our CapEx plans.

One other comment I would make to you, Budd. On the leases, we are only going to A locations and so in the event that we need or want to move in the future we have a property that can be sublet without too much difficulty.

Okay. I understand that. Thank you very much.

Our next question is coming from Susan Maklari of UBS. Please proceed with your question.

Good morning. Kind of along Budd's question. On the upholstery side you've noted that you are seeing a lot more strength in your branded lines than you are in your unbranded lines. Can you talk a little bit about what you are doing around this and any kind of changes we can expect in the future?

Susan, good question. I think we have a growth engine in the branded business with what the stores are doing. Not only what we are doing from the corporate side but still the majority of the growth we are getting in stores is coming from our independent dealers. And we've always believed the way to tell whether or not you have a healthy store system is whether your independent dealers are continuing to open more stores, upgrade their stores. So in addition to the normal whatever the lift is going on in the industry at any given time relative to sales velocity we have an engine here on the store side that gives us a little bit accelerated growth. On the flip side with our nonbranded business, where we got hurt in the majority of volume degradation last year, was the bankruptcy of Brunner's, the bankruptcy of Rhodes, those types of people, the questions that surround Levitz today where we were selling all those people in the nonbranded business. That's where we lost some ground. We have not lost ground with our remaining customers and our run rate on those are very good. But when you start having customers that you are doing 10, $12 million with and you lose those and companies that are less than $100 million in size that's a lot to make up quickly. That's where we saw the majority of the problems last year on the nonbranded businesses.

Okay. Are there any retailers out there that you continue to be concerned about or do you think that that's somewhat stabilized now?

Well, I don't think it would be proper for me to comment publicly on anything name-wise. I'm sure there are some people out there that are still challenged and the industry is still going through this transition. But I just don't think it would be proper for us to name names at this point.

Okay. Just one last question. Regarding the VIEs you seemed to break that out in your -- when you were talking about the different items during the quarter. Did you acquire all those stores in the quarter though or is it still broken out separately?

If you go back to the beginning of last year for clarity sake, we had seven VIEs when we adopted the new accounting standards. We have taken over two of those and we sold two of those to independent dealers which leaves us with three remaining VIEs. The three remaining VIEs were on the plus side last year and they remain on the plus side this year from an operating standpoint and we are comfortable with that although we are monitoring it very closely.

Okay. Thank you.

Our next question is coming from Laura Champine of Morgan Keegan.

Good morning. Could you just quantify the positive impact on the top line in the fourth quarter from the extra week of sales?

You can do the math on that. An extra week is about 6% in a 14-week compared to a 13-week month. But to quantify it, it's tough to do and I would also -- I've been reminded by some of our dealers that we may have had an extra week in delivering inventory to them but they didn't have any extra days in the month to sell it. So it's just one of those things that happens every seven years and -- but the extra week of deliveries would equate to that assuming you are running full to about 6 to 7% of a normal quarter.

So it's about 6 to 7% for you but for your retailers, so when you say that the retailers are comping roughly flat year-to-date they don't get that calendar impact?

No, they don't and they get an extra week of inventory pushed out from us to the retail system.

Got it. Thank you.

Our next question is a follow-up coming from Todd Schwartzman of Sidoti and Company.

Yes, in the fourth quarter what percentage of your branded business did cut-and-sew represent?

Todd, we are operating in the mid to high teens in the branded business and it's been primarily on the leather side. We are aggressively ramping up to do more cut-and-sew on the fabric side and we would expect that in the mid to high 20s 6 to 9 months from now being cut-and-sew compared to where we are today.

So that's relatively consistent with the past couple of quarters at 15 to 20, 15 to high teen percent range?

Yes.

Okay. And if you had to break out the mix right now or for Q4 fabric to leather?

In terms of dollars, you were asking about the branded business before, in terms of dollars leather is 30% plus of our branded business and upholstery is the other 70%.

I was referring to cut-and-sew kits. You -- I believe last call you had alluded to starting up cut-and-sew kits, non-leather fabrics.

Well, we are still in the initial ramp up of that and we haven't delivered a significant amount of that but we will at the end of this quarter and the beginning of the second quarter. But from a direction standpoint it's accelerating, from a delivery standpoint we still have a month or so to go before we start having it come in in any significant quantities.

And by the end of fiscal '06 what would you project would be the percentage contribution of fabric to total cut-and-sew.

Well, in the overall it would be in the mid to high 20s. It would be a little less than that on the upholstery side since leather is over 50% cut-and-sew today.

All right. Thanks.

You're welcome.

Our next question is a follow-up coming from Budd Bugatch of Raymond James.

Let me just ask a couple of guidance related questions. In the guidance, David, what's in and what's out with the VIEs? This is the three VIEs are in that guidance?

Good question, Budd. Yes, going forward, well, in this past year of course we were comparing a period with VIEs against a period without. Going forward we will have comparative periods there with everything in it. The difference will be that as we've indicated we acquired two of those VIEs this year which will now be in our results of our Company in our segment whereas the remaining VIEs will still be considered other. So there will be a difference in location within the segment standpoint but in total they are still there.

On a related basis last year, if I did my math right and that's always a question, I think in the first quarter the adjusted, restated gross margin was 22.7%. Do you think gross margin with the increase in the retail percentage of business will be higher than that and would you care to give us a basis point quantification of that, maybe?

You are getting real specific. I couldn't do that off the top of my head. Maybe I can walk you through that later if you'd like. But again both you and Chuck have indicated as retail grows you can do the math. We have the -- with retail in a 3 to 5 range, targeted 3 to 5 range, upholstery in 8 to 10 and Casegoods in 4 to 6, it depends on what the relative size of each of those as to what the outcome is.

That's on the op margin basis. I was trying to go from -- get down to the gross profit line which seems to me is almost guaranteed directionally to be higher in the first quarter of this year versus the first quarter of last year.

We don't have that information readily available and certainly David can follow back with you off-line. I would also tell you though that compared to the manufacturing business, the retail business has a little bit larger seasonal swings.

Sure.

And we're in the part of the year which is the worst part of the year and in the calendar fourth quarter which would be our fiscal third quarter you should get the corresponding benefit of the Christmas selling season. The impact of how far those swings are on the number of stores we have we haven't gone through a period like this yet and so we are trying to determine that as we look forward to the future. But the lows are lower and the highs are higher in the retail side based on the seasonality than it is on the manufacturing and that is going to play some role in our traditional percentage of earnings quarter to quarter as we go forward.

No, I understand that, Kurt. I'm looking -- that's sequentially. I was looking year-over-year which I think was trying to get the flavor of where those individual components might line up. And I can work with David off line on that. That would be great. Just one last quick question and this is -- can you give us the number for the allowance for doubtful accounts? I didn't see it in the release. If I missed it I apologize.

We are looking. It's 5.5 million, 3.4 million net of tax.

No, no, no, no, not that number. The actual balance sheet number.

It's, what we have on the balance sheet is somewhere between 20 and 22 million allowance for doubtful accounts.

It was 15 last year, wasn't it.

No, no, It's always been above 20.

What's the number now? It went down about $5.5 million, right?

No, not for those two items. [Multiple Speakers] There's other activity and we took some additional reserves on other portions of our business during the quarter.

I don't think -- I don't see it in the quarterly statements.

It's not in there, Budd. We will have, we will be filing our 10(K) later at the end of this month. But in last year -- we have got it actually in two different places because we had some in long-term receivables. So you have to -- it was 15 million in the receivables. For last year it was 15 million at this year it's 17.5 but there were -- in long-term there was 8.6 last year and only 2.9 this year.

I got you. Well, I would encourage you, I am loathe to ever tell an accountant how to do his job and, boy, they've made our job very interesting this year. But I would love to see you put those numbers in the filings on the quarterly basis as well. Thank you.

Thank you.

Our next question is coming from Charles Grom of J.P. Morgan.

Just a quick follow up guys. On the $0.10 to $0.14 that includes I guess a benefit now from VIEs; formerly the VIE was a loss. Could you quantify what the VIE benefit you are expecting for the quarter is?

I'm glad you asked the question Chuck because it's not really a benefit. Just because we acquired them doesn't make them a positive overnight and so you really have to take our previous earnings, deduct the VIE charges each quarter and now compare that to our guidance going forward because whatever negativity which was associated with VIEs is now embedded in our normal earnings. And you are going to, you are going to have to compare apples-to-apples as you go forward. So just because we put it on a different side of the ledger doesn't make it --

-- still in the totals --

-- still in the total and doesn't turn a negative situation into a positive situation in 60 days.

As we've indicated in the comments earlier the remaining external VIEs are still only marginally profitable and will have some seasonality as Kurt indicated.

So in our first quarter last year if you reduce our earnings by the VIE charge our earnings were really a nickel and the $0.10 to $0.14 has the negative impact of the VIEs in it but an improving trend because of the balance of the business not because of any pick up we're getting by the VIEs.

Okay. I understand. Just one follow up. I'm surprised nobody asked this but could you add a little bit of color on the current tone of business. You are claiming that business is continuing to be choppy. Is it more pronounced in certain product lines or in certain geographic regions and just if you could add a little color that would be great.

From our perspective here today it's hard to get a handle on it. In the March, April time frame, there was a change in the Easter holiday and how it fell. So March was artificially suppressed and April was artificially high. Memorial Day was inconsistent from our channel checks. So, I think you saw Haverty's announcement yesterday of their same store sales of 1.2% and that's pretty much the tone out there that things are inconsistent. It seems to us that in the Southeast, particularly Florida on the West Coast, business is tracking a little better than it is in the Midwest and the East Coast. That's what our intelligence tells us today but it's hard to get an overall consistent story out of the market given the choppy patterns that we are experiencing.

Great. Thanks.

Thank you.

Due to time constraints that will be our last question. However, if would you like to hear a replay of this teleconference, domestic parties may dial 877-660 --.

Dan, we will take one more question.

You will take one more question, sir? Our next question will be coming from Hardin Bathia of Deprince, Race, and Zollo.

I don't want to beat this question to death but it seems to me that based on, David, your comments, the continuing operations number for the fourth quarter included $0.04 -- a $0.04 VIE loss related to the Pittsburgh and Connecticut operations that were acquired?

Well, it included the loss for that. The total loss was not attributable to them.

Can you tell us what portion of that loss was attributable to those?

No, we would not disclose that.

Okay. Something less than 4 but greater than, I mean a $0.04 loss to break even but they were a negative.

Yes.

Somewhere in between. Okay. And that's baked into the first quarter guidance?

Yes, it is.

Okay. Fair enough. Thanks.

If you would like to hear a replay of this teleconference you may dial (877)660-6853 for domestic parties, and (201)612-7415 for international parties. The account number is 286, and the call I.D. number is 150825. This concludes today's teleconference. Thank you for your participation.