梅西百貨 (M) 2006 Q1 法說會逐字稿

Welcome to today's FDS conference call with Ms. Karen Hoguet.

I would like to inform participants that their lines will be in a listen-only mode until the question-and-answer session, and also that today's conference call is being recorded.

Ms. Hoguet, I am going to turn the call over to you, and thank you for using the conference center, Ma'am.

Good morning and welcome to the Federated Department Stores call scheduled to discuss our first-quarter earnings.

I am Karen Hoguet, CFO of the Company.

Any transcription or other reproduction of the statements made on this call without our consent is prohibited.

A replay of the call will be available on our website, www.FDS.com, beginning approximately two hours after the call concludes.

Please refer to the investor relations section of our website for a discussion and reconciliation of any non-GAAP financial measures discussed this morning.

Keep in mind that all forward-looking statements are subject to risks and uncertainties that could cause the Company's actual results to differ materially from the expectations and assumptions mentioned today, due to a variety of factors that affect the Company, including the risks specified in the Company's most recently filed Form 10-K and Form 10-Q.

We are very pleased with our performance this quarter and with the fact that the May Company integration is right on track.

But, while we all feel good, we also realize that we still have some major integration work ahead of us.

During this call this morning, I will talk about the quarter and our thoughts regarding the rest of the year.

And then, as always, I will open the call for your questions.

Our earnings per share, excluding May-related integration costs and inventory valuation adjustments, were $0.02 in the first quarter as compared to our expected loss of $0.15 to loss of $0.05.

Most of the reason for this positive variance related to transitional issues that were beneficial to the quarter but will not benefit us to the same degree going forward, as I'll discuss in a minute.

However, we were pleased with the underlying sales trend in the Macy's stores, which is an important indicator of our performance in the future.

This is important because, as you know, it is the Macy's strategy that will be executed in our new May doors starting this fall.

The transitional issues that benefited us in the first quarter include, one, lower expense.

Some May associates chose to leave the Company before their out dates, and we have not ramped up our new organizations as fast as expected.

This was obviously great news for expense in the quarter, and fortunately, we do not believe it has hurt our business.

Two, credit.

Our credit performance in the first quarter was better than expected, due to greater profitability on the May portfolio, as well as lower operating expense.

And three, our sales in malls with duplicate stores did better than expected when competing with a store in the same mall that was in clearance mode.

Most of these stores, however, are now closed, so that benefit is behind us.

Those three factors together explain most of the positive variance to our expectations.

However, the good sales trend in the Macy's stores also helped in the quarter.

And as I said earlier, this does bode well for the future.

I will now go through the key components of our first-quarter performance.

First, sales -- sales in the quarter were $5,930,000,000, which was at the upper end of our guidance for sales of 5.75 to $6 billion.

On a comp-store basis, which, as you know, is the Federated doors only, we were flat with last year and better than our expected -1.5% to -0.5%.

What this means is that our Federated stores did better than expected, while the May doors operated towards the lower end of expectations, which put the total at the high end.

It frankly is not surprising that the May doors are struggling a bit now, given the changes these stores are undergoing and the disruption in the May organization last fall, when the first-quarter assortments were bought.

Our strongest sales in the quarter regionally were produced at Macy's Florida, while Macy's North and Macy's Midwest had the weakest sales performance.

Remember, though, that these two divisions are both entirely May Company doors, so it should not be surprising that they had the weaker performances in the quarter.

By family of business, looking at the Macy's and Bloomingdale's trends only, we saw strength in dresses, juniors, young men's, cosmetics and fragrances as well as men's.

The home businesses continued weak in the quarter, but some parts of soft home, including housewares, textiles and luggage, did show improved performance in the back half of the quarter.

The furniture business, however, did continue weak throughout the quarter.

We feel comfortable with the underlying sales trend.

Average unit retail was up about 6% in the Federated doors, and we have seen improved sell-throughs at regular price.

The trends that we are seeing are more casual and warm weather based, supporting a good second quarter if the weather cooperates.

Gross margin rate before inventory valuation adjustment in the quarter was 38.8%, down from 40.2% last year.

This reduction was as expected, and was driven by markdowns in the former May location needed to improve aging and transition to the Macy's assortments.

The legacy Federated stores produced a gross margin rate just slightly above last year in the quarter, indicating the solidness of the performance in those stores.

SG&A in the quarter before integration expense was to $2,154,000,000 or 36.3% of sales, up 300 basis points from last year.

While this rate is higher than last year, it is lower than what we had expected.

As I mentioned earlier, the lower-than-expected expense is in part due to a slower ramp-up of new associates, quicker departure of May associates and better-than-expected credit results.

Remember, as you're looking at expense versus last year, our expense is higher than it otherwise would have been, due to the sale of the Federated credit portfolio to Citigroup last fall.

Also, we have some overlapping expense, or what we call the stub period expense, in the May divisions that have been consolidated into a Macy's division.

This is needed, in some cases, until the systems have been converted and in other cases until the names are changed.

We also expensed options for the first time in the first quarter.

While non-cash, this did add $12.5 million to our expense in the first quarter of this year.

Depreciation and amortization was $316 million in the first quarter, up from $177 million a year ago.

Operating income, excluding May-related transition items, was $149 million.

The May-related integration costs were $123 million, plus the inventory valuation adjustments of $6 million, for a total of $129 million.

Some of the key items included in that $129 million were store closing-related costs; severance, retention and other human resource-related costs; and then costs associated with the systems conversion.

We are still on track to use about $1 billion of cash in 2006 for these May-related integration items.

Interest expense was $138 million in the quarter.

Tax expense was a benefit of $44 million or 37.3% of pre-tax income.

The effective tax rate for 2006 has in fact been reduced to 37.5%.

It was slightly different in the first quarter, due primarily to rounding.

And average share count on a diluted basis in the first quarter was 279 million shares.

So the EPS from continuing operations was a loss of $0.27 in the quarter or an income of $0.02 excluding the May-related integration costs.

Discontinued operations produced income of $22 million or $0.08 a share in the first quarter.

Cash flow in the first quarter also exceeded our expectations.

I recognize that, given the May acquisition, it is hard to compare cash flow this year to last year.

One thing I should point out, however, is that as we look at operating income excluding integration costs and adding back in the non-cash items -- depreciation, amortization and stock-based compensation costs -- we produced positive cash of $491 million this year versus $432 million a year ago.

So that's a summary of the quarter's financial results.

In addition, I should mention that we accomplished the following also in the quarter, all of which are very important to making this integration work.

First, we continued what we're calling on-boarding initiatives for new May associates, trying to make them feel comfortable in their new work environment.

We are so excited about the May talent that we have been able to add to our team, and it is this combined team that will make our vision materialize.

We also converted our first credit and division systems in the first quarter.

We converted to credit systems for approximately 40% of the May portfolio, which is now allowing us to sell this part of the portfolio to Citigroup earlier than expected, subject to regulatory approval.

And we cleared inventory from 68 locations, with seven more still in clearance mode and three to begin July 2nd.

We are very pleased that our integration is on track.

And in terms of an update on our planned asset dispositions, here, too, we are on track.

The books are now out for both of the Bridal Group and Lord & Taylor.

We have had lots of interest expressed in both, and we still expect to complete the Bridal transaction in the second or third quarter and Lord & Taylor by year end.

As for the credit portfolios, we sold the portfolio that was previously owned by GECC to Citi on the first day of the second quarter, and we are planning to sell the roughly 40% of the May portfolio -- that I just mentioned having been converted to our systems -- to Citi hopefully over the next month or so, subject to regulatory approval.

This will accelerate the 785 million to $800 million in expected pre-tax cash proceeds on this part of the portfolio from what we had been planning earlier.

The remaining part of this transaction is expected to still close in late July or August.

We are also making progress on the overlapping real estate.

We have deals announced for 46 of the 80 stores we are disposing, plus two Lord & Taylor locations.

We are close to deals on another 18 locations.

We are still expecting that most of these transactions will close in the late second or third quarter, with total after-tax proceeds of 400 to $500 million still expected.

As we look to the second quarter, our expectations for sales and earnings have not changed.

We are expecting total sales of $6 billion to $6.25 billion, comp-store growth of 3 to 5% and EPS, excluding integration costs, of $0.45 to $0.55.

The margin rate in the second quarter, excluding the valuation adjustment, is expected to be down versus last year but not by nearly as much as we saw in the first quarter.

In the second quarter, however, the inventory valuation adjustment is expected to be much higher, as anticipated, as we take markdowns on not-going-forward merchandise and the price equalization markdowns as we consolidate systems.

SG&A as a percent of sales, excluding May transition costs, is expected to increase again in the second quarter, but here, too, not by the same magnitude as in the first quarter.

This is largely because of stub division expenses declining as we go through the year.

By the third quarter, we expect to start to see the SG&A rate reductions versus last year, in spite of the sale of our credit business and the addition of expensing the stock options.

And let me reiterate the fact that we are on track to deliver the $175 million of synergy savings this year and at least $450 million next year and each year thereafter.

The outlook for the back half of the year is also unchanged, with sales expected to be 15 billion to $15.5 billion, comp-store sales expected to be up 2 to 4%, and EPS from continuing operations, excluding May-related transition costs and inventory valuation adjustments, of $3.00 to $3.25.

For the year as a whole, our sales guidance is unchanged at $27.25 billion to $27.75 billion.

And our EPS guidance from continuing operations, excluding May-related transition costs and inventory valuation adjustments, is now $3.50 to $3.75, updated for first-quarter actual results.

So that is our update.

I would say the message is so far, so good, with a lot more work still to be done.

However, given the strong performance of the Macy's stores, the success of the initial systems conversions and the outstanding effort being put forth by everyone in the combined Company, we are cautiously optimistic.

We look forward to keeping you updated on our progress each quarter as we go through this transition year.

Thanks for your interest, and now I will open the call up for your questions.

(OPERATOR INSTRUCTIONS).

Deborah Weinswig, Citigroup.

Thank you, and Karen, thanks for the great update.

It was extremely helpful.

In terms of the Federated buyers having an impact on the May assortments, I believe you have previously stated that in July and August, we will start to see the private brands from Federated rolling into May.

How should we think about between now and that time, other changes that we might see from the Federated organization on the May organization, from a merchandising perspective?

It really is not going to be an impact until the private brand assortments coming in.

And frankly, the major impact will not be felt until the third quarter, which is what we have said.

So the second quarter will continue to be somewhat sloppy as we are transitioning the assortments, and as the assortments in the second quarter were bought by May buyers, as they were transitioning last fall.

So, as in the first quarter, we do expect some disruption in receipt flow, as well as continuing markdowns needing to be taken.

So should we, just from a theoretical perspective, expect on the growth side what we saw at the May division in the first quarter, expect to see that in the second quarter as well?

What I said was that in the second quarter, we would expect gross margin, excluding the inventory valuation adjustment, to be below last year but not by the same magnitude as in the first quarter.

On the systems integration side, you said that you are obviously now planning to have 40% of the credit card piece sold earlier than expected.

Can you just walk us through that process and the thinking there?

Well, obviously, we are trying to accelerate cash from the assets that we're disposing as quickly as we can.

We converted the credit systems which was, frankly, on our systems timeframe in April, which has enabled us to work with Citi as well as the regulators to try to accelerate the sale of that part of the portfolio.

Previously, we had thought we would sell it all together later in to the second quarter.

So what it will really do is enable us to liquefy that sooner.

Dana Cohen, Banc of America.

Can you just give us some sense of buckets of SG&A that will start to happen in Q2, sort of just give us a timeline of what you think the SG&A reductions would be in Q2 and then through the year, just so we have a sense of timing?

And then, also, can you update us on the strategy for exclusive product?

Yes.

This is two different questions.

In terms of SG&A, I'm not sure how I can be helpful in the second quarter.

We have already, in essence, achieved the expense reductions in the division consolidation, the corporate office consolidation, some of the big buckets that we are expecting.

But we have to keep people around until the systems are converted and the names are changed.

So we really have -- we are at the ongoing level plus this duplicate expense which will come off as we go through the second quarter.

So basically, maybe middle of Q2 is when you start to see it accelerating into Q3?

Something I don't know, but I know we will see it in Q3.

Most of the systems don't get converted until July.

My guess is it's really end of Q2, as I'm sitting here thinking about it.

So I suspect it really will be ramping up as we hit the third quarter, as opposed to midway through the second.

Your second question, in terms of exclusive merchandise -- obviously, since we have had a call with investors, the Martha Stewart announcement happened, which is an extremely exciting development for the Company.

It will be in all stores, really appealing to that core customer of ours that will allow the Home Store to really distinguish itself, which, as you know, has been an important part of that home strategy.

Our hope is that we will have other deals like this as we go forward.

As you know, differentiating our assortments has been a major component of our success pre-May.

And now, with May, we think we have many more opportunities to do deals like this.

Now, I will tell you the Martha deal is bigger and broader in terms of its reach than most we will been announcing, but we are continuing to focus on this because, again, if our assortments are not different and wanted and special, we're going to a hard time achieving the vision here.

Stacy Turnof, Merrill Lynch.

Could you update us in terms of the timing of Macy's rebranding?

Should it be ready for back to school or the Labor Day weekend?

And a follow-up to that, which is looking to your advertising strategy relating to that -- any updates in terms of reducing May's budget going forward?

The name rebranding will happen September 10, 11, that timeframe.

And there will be lots of marketing and special events and excitement around that -- obviously no details to be provided, because we want the surprise factor to help us through that period.

But it will be a very exciting couple of weeks in terms of marketing for the Macy's brand.

In terms of marketing savings going forward, I think as you all know, in the markets where we overlap there will be savings, and that has been part of the synergy number that we've talked to you about.

Beyond that, it is far too early to really know longer-term where our marketing expense will settle in at -- obviously, something that we are looking at as we try to maximize the Macy's brand.

But there is an opportunity to possibly take that number down?

Could be.

Remember, our focus here is driving comp-store sales growth.

So that's our number-one goal.

As you all know, we brought in the woman named Anne MacDonald, who is our new Chief Marketing Officer.

She has been with us now about a month, and obviously relooking and examining our strategy as a national Macy's is high on her priority list.

And whether that leads to lower costs or not, I don't know, but I'm pretty optimistic it's going to do great things in terms of driving the business.

Jeff Stein, KeyBanc Capital.

As it relates to your private label program, I'm wondering if you could talk about how quickly you are going to try to convert the former May customer to become a Federated customer.

In other words, if you were to take two Macy's, or a current Macy's store and a converted store that were pretty much the same demographically, will they have the same percentage of private label and exclusive merchandise in the stores this fall?

Or are you going to try to perhaps ramp up a little bit slower in the new stores?

I think probably not this fall, but very soon.

And it's just a question of how we could buy last October for these new doors, so I suspect we were probably a little conservative in our buying for this first go-round, but by next spring I would think it would be pretty close in like doors.

And secondly, your interest expense looks like it was well below expectations in the first quarter.

Any thoughts about resetting your expectations on interest expense for the year?

I think you were originally in the 550 to $600 range.

I don't think it was far off what we had expected, so I'm not sure how to answer that.

But I don't see a reason to change it.

And just finally, with regard to -- you mentioned at the outset you still have quite a bit of integration work ahead of you.

Other than the systems integrations, can you perhaps share with us some of the major hurdles that you have to overcome on the integration this year?

That's a pretty big one.

Also we're converting all of the stores and Macy-izing them, getting the signs changed, et cetera.

And that's a pretty comprehensive program.

And then it gets down a lot to the training in terms of sales associates, making sure the May associates understand not only the Federated systems and how to complete POS transactions but, more importantly, how to be good ambassadors for the brand.

That's one of the major areas of focus.

And then you get to the assortment, just trying to continue to refine our buy location assortment strategy, which will be ongoing as we proceed forward.

Christine Augustine, Bear Stearns.

Could you give us the comp inventory?

And could you just remind me, is the 1.6 billion still your CapEx plan for 2006, and can you give a breakdown just roughly of where that spend is going to go?

The CapEx budget is 1.6 billion.

And as we have said, the conversion piece of that that will go away in the future is about $400 million.

Beyond that, I don't really have a breakdown in front of me.

So is the 400 -- it's got to be more than just the signage change, though, isn't it?

Are you doing some actual renovations to some of the May stores?

Remember, there were five tiers of what we were calling conversion, ranging from just changing signs to doing a more complete remodel, and steps in the middle.

So we have got different levels of when we are completely remodeling.

Some of the stores, we're putting the Reinvent initiatives in some of the stores, and in most of the stores -- in fact, all of the stores will have some level of private label signing and fixturing.

It's a lot of doors.

And how about the comp inventory number?

The Federated comp inventory was down versus a year ago.

May inventory was way down, but a lot of that reflected the fact that we took inventory out of the stores that were closing.

Beyond that, it was down as well.

Just to clarify, in the first quarter, roughly 950 stores were open and you reported sales from all of those stores, including the ones that are now closed.

Is that correct?

When they go into clearance mode, they are not reported in sales.

They are not?

They are in continuing operations as a net number, but not in sales.

As opposed to Lord & Taylor and Bridal Group, who are in discontinued operations, the clearance store operations are in the continuing operations number.

But not in the top line?

Correct.

[Marianne Cummings], Goldman Sachs.

Hi, it's Adrianne Shapira.

You highlighted that you're seeing accelerated -- you're expecting to see accelerated cash proceeds due to the credit sale, and yet we heard no change to guidance in the second half.

Shouldn't this perhaps provide some upside potential, as you will be able to be buying back stock sooner than originally expected?

It just depends on the timing of all the asset sales.

It may accelerate it.

It just depends on when, for example, the real estate deals get closed.

So it may or may not accelerate it alone.

In the current guidance, what is currently factored in for buyback?

We're not discussing the timing of the buyback.

What we have said is that we expect to start it late in the second or third quarter, but we have not been more specific than that.

And then, my question related -- you obviously highlighted you are pleased with what is going on at Macy's, encouraging positive underlying trends.

We obviously saw the flat comp, and you mentioned average unit retail up 6%.

So is that fair to -- should we think that traffic was down by that much?

And how should we think about that, and how does that compare to prior quarters?

That's really what we have been experiencing for a while, so that's not a new trend.

And we are pleased with the tone of business in the Macy's and Bloomingdale's stores.

And would you think part of that may be traffic shortfall related to clearance activity away from Macy's?

I don't think so, because that really hasn't changed.

Bernard Sosnick, Oppenheimer.

The first quarter interest expense that's annualized would be about $550 million.

Could you review your total expectation for interest?

And why wouldn't it be coming down if you're going to be getting certain funds earlier than expected?

There's a lot of things that go into interest expense, and at this point we think the annual 550 to 600 is still right.

We did expect, and we said this on our call in January, that the interest expense would be higher in the first half of the year.

But again, a lot depends on the timing of these asset sales, as well as starting the buyback.

Bob Drbul, Lehman Brothers.

Just a question on the inventory receipt plan.

When would you expect to have a lot of the inventory in that you'll be flowing into the May stores?

Is it on the books already, or the timing of it from the various vendors?

I'm not sure I understand.

There's obviously inventory ongoing into the May doors.

But in terms of as you remerchandise and reassort all those doors, the inventory number that you had today -- how much of it included inventories that you have already received from the vendors that are going to go into sort of July and August, into the May doors?

It will be in the numbers when we receive the merchandise.

And do you have any idea of how much you have already, in terms of just the smoothness of the flow of merchandise?

We don't have any now, and we are expecting to start flowing in in July.

And on the Reinvent stores, has there been -- the comp on the Reinvent stores and the Macy's doors -- how much better -- how many doors do you have now on the core Federated doors that are in the Reinvent, that have been reinvented already?

And how has that comp done?

The comp has been somewhat better -- I mean, not hundreds of basis points better but somewhat better.

And in this case, we're doing so many other things at the same time, it's going to be hard to tell, because the assortments are changing so dramatically, simultaneously.

But we do expect them, obviously, to get a pop through both the Reinvent as well as the change in assortment.

On the exclusive merchandise, when you go into relaunch the Macy's nationally in September, about how much of the product do you expect to be exclusive to Macy's versus all the other retailers in the department stores?

Well, the way we look at it is there's exclusive, which can either be private brand or exclusive within -- from the market.

And private brand last year for Federated was about 18%, lower for May and even lower for the old Marshall Field's stores.

So, as we go into September, we won't hit the 18% for the total Company or the equivalent for the fall season, but we hope we will be closer.

And obviously, that is exclusive.

We also look at what we call limited distribution products, which will probably be a little bit more than a third of our assortment at that point and, while not exclusive, is not in many doors.

David Glick, Buckingham.

I was wondering if you could tell us what the transfer rate is from the recently closed doors in malls with duplicate locations, and which categories of merchandise are transferring at higher rates, maybe such as cosmetics, things that have -- in more limited distribution?

And how much of your comp guidance for the second quarter includes the benefit of a higher transfer rate?

You know something?

The transfer rates are all over the board and vary by mall, and there is really not a good rule of thumb we can give you.

Obviously, the areas that benefit are areas like cosmetics, women's shoes, areas where we will be more unique and different in the assortment.

And that is in the guidance for the second quarter, but not to a huge degree.

Your guidance for the year is up by $0.05, not the full extent of the Q1 upside.

Is that due to kind of the changing average share count throughout the year?

Correct.

Michelle Tan, UBS.

I was just wondering if we could get any more color -- I know you guys don't like to talk that much about the sales change on the May side of the business, but you did mention it was towards the lower end of the plan.

Can we get a little bit more color around that, and then how we should look at when that disruption from the integration starts to wash out?

Is it in the third quarter, where you were really fully buying the assortments?

We hope it's the third quarter, and we don't think it will be before that.

The second quarter could be sloppy, as we have said.

Now, we have factored that in as we've talked about guidance.

Hopefully, the third quarter will get better.

But think about this in a gradual way.

It's not like suddenly the third quarter is going to take a huge step forward.

This will take time to get the assortments right.

How about on the second quarter?

You saw the May sales come in towards the lower end of the range for the first quarter.

Does that give you any kind of thoughts as we move into second quarter as to where you would expect them to come out relative to your range?

Well, we have had lots of discussion about where we think they may come out.

And there's all kinds of arguments and different ways, and we ended up very comfortable with the range that we're in, that we said earlier.

(OPERATOR INSTRUCTIONS).

At this time, I'm showing there are no additional questions.

Thank you.