Pool Corp (POOL) 2006 Q4 法說會逐字稿

Good morning. My name is Lynn and I will be your conference operator today. At this time, I would like to welcome everyone to the Pool Corp. fourth-quarter earnings results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (OPERATOR INSTRUCTIONS). I would now like to turn the conference over to Mr. Joslin, Vice President and Chief Financial Officer. Please go ahead, sir.

Good morning and welcome, everyone. I would like to remind our listeners that our discussion, comments and responses to questions today may include forward-looking statements, including in management's outlook for 2007 and future periods. Actual results may differ materially from those discussed today and information regarding the factors and variables that could cause actual results to differ materially from projected results are discussed in our most recent 10-K, which will be updated shortly as filed with the SEC.

We are going to depart a little bit from our standard call given that we had a conference call about a month ago. I am going to update you on our share repurchase activity. I will turn the call over to Manny who will have a few comments and then we will open it up to Q&A.

In terms of share repurchase activity, get your pencils ready. So for the fourth quarter of 2006, we repurchased 391 million -- I'm sorry -- 391,000 shares of stock at an average price of $38.79. Total dollars was $15.163 million. For the first, say, month and a half of 2007, we have purchased 450,000 shares of stock at an average price of $36.43. Total dollars are $16.389 million. You'll recall that in November, we updated our share authorization, the Board did, to $100 million and of that $100 million authorization, we have $76.277 million remaining for future share repurchases.

So with those comments, I'll turn it over to Manny.

Thank you, Mark. Well, 2006 presented Pool Corp. with a number of challenges, the main challenge being our wrestling through the plethora of opportunities available to us to determine where to best allocate resources and make investments to realize long-term growth.

Some of the areas that we invested most in 2006 were our record opening of 17 new sales centers. Prior to 2006, the most number of sales centers that we had opened in one year was ten back in 2001 with the normal being somewhere in the four to six sales centers per year. So 17 sales centers being opened in 2006 was certainly a record and those new sales centers serve to further expand our SCP, Superior, Horizon and international networks.

These centers though cost us an estimated $0.06 in 2006 earnings per share. The long-term growth and earnings potential though exist. So with solid execution, we will be able to realize the return on capital that we are used to in these new centers, but of course there is a drag at the outset.

A second item was the acquisition of Wickham Supply in August of 2006. That acquisition provided us with 14 sales centers, addition to our Horizon network, which finished the year with 60 sales centers in total. Wickham provides us with an important presence in the strategic Texas market and it also provides us an entry point into Georgia.

Third, we opened up two construction products distribution centers. We also relocated 23 existing sales centers and expanded another 16 sales centers. All together, we added approximately 1 million square feet in distribution space at a cost that exceeds $7 million per year. This investment in additional space enables us to grow our sales by approximately $500 million beyond our 2006 levels within the existing space.

Fourth, we opened up the [Edge] training facility in Plano, Texas to serve as the hub for on-site training of Company employees and then also the industry.

Fifth, we added sales and sourcing resources to support our complementary products initiatives, which by the way grew by $40 million in sales to over $180 million in sales in 2006.

Sixth, we launched the Backyard Place initiative as a complete solution for anyone seriously interested in participating in the retail opportunity of our industry.

Seventh, we started a limited launch of Pool Corp. Financial as another tool for our customers by providing them a one-stop resource for financing. Pool Corp. Financial works strictly as a broker on these transactions, but has the tools in place to facilitate the consumers' ability to expeditiously locate financing at competitive costs.

With all of these investments and more, and I just highlighted the top seven, in our future and despite all the noise of reduced homebuilding and slowing economy, we still managed to increase our 2006 earnings per share by 20% over our record 2005 earnings per share. This in fact marked our 11th consecutive year of 20% plus earnings per share growth as we have realized 35% compounded annual growth rate in earnings per share since our IPO in October of 1995.

For 2007, we look for more of the same -- investments in future growth, customer-centric enhancements to our business and 15% to 20% earnings growth. We expect that our 2007 earnings will be realized in the second through fourth quarters of the year as tough comps and the negative leverage from our investments in the future affect us adversely in the seasonally slow first quarter.

With that, I am going to turn the call over to Lynn for your questions and answers.

(OPERATOR INSTRUCTIONS). Jeff Germanotta, William Blair Research.

I just wanted to see if you could share with us any anecdotal feedback on how you see the season shaping up looking beyond the seasonally weak first quarter?

First, the primary factor that will affect how we do in 2007 as it has happened every year in the past and every year in the future is our internal execution and how much we improve our execution. In that sense, I have a high level of confidence that our team will be able to continue to improve execution as we have in years past.

From an external factor, the biggest variable for our business is weather and that factor is most important in the shoulders of the season. March, April, May and then September, October as the season begins to unwind. So depending on how strong the shoulders of the season are from a weather standpoint will result in people opening pools earlier or later and then in turn closing them earlier or later.

We are very confident that June, July and August will be extremely busy as they are every year and our biggest challenge in those months is usually just keeping up as it is for our customers. But the shoulders of the season are very key and as you know that is driven primarily by the installed base of pools, which is the lion's share of our revenues.

On the new pool construction side, I will just give you some commentary there. Although that is a small part of our business, it also obviously contributes to what the year will end up. Pool permits in certain markets are down, Florida being one prime example. To a similar degree, a couple of other markets are also down, but in other markets, pool permits are up.

I expect that probably new pool construction will be similar to what it was in 2006 overall with again the biggest variable there being when does it get warm and how aggressively our customers work to take advantage of the ability to build pools as much as they can during the course of the entire year.

From a financial standpoint, January and February are pretty much non-events. We don't make any money to speak of in January and February. Our first real positive month or profitable month is March. That is when the business begins to really increase. And then April and May are the key variables in terms of the season getting off to a strong start. Again, that is primarily driven by the weather and then you turn to September, October and you wind down the season.

Thank you. Next question is can you give a little bit of feedback on how cross-selling opportunity is working between the irrigation landscaping business and the pool business now that you have had Horizon for more than a year?

Sure. As you can see in the attachments, we are very happy with the progress that Horizon made during the course of 2006. Frankly, it exceeded expectations. A very good team and working well together, not only within the Horizon organization, but also beginning to cross over. Those attempts to cross over have been to date limited. There is a lot of dialogue and activity locally and in fact in certain markets is working very well where SCP or Superior customers that are also involved in irrigation landscaping are being introduced to Horizon and Horizon customers that are also involved in the pool side of the business are also crossed over and introduced to SCP, Superior.

From a product standpoint, there are some joint initiatives there as well, particularly in products like for example landscape lighting, outdoor kitchens, those types of products that are not unique to irrigation nor are they unique to the poolside. But frankly, Jeff, we are very early in that process and one thing that we are very cautious of is making sure that nobody loses focus with the core business and we only add to that core to the extent that we believe we can manage it and run it effectively. So that is being handled on a very, very local basis in terms of how we gradually transform and communicate.

I will say that a number of, I will call it, the more progressive markets, our local managers are working together and having for example joint dealer meetings. They are having sessions for example on introduction of new products, whether it be decorative concrete or, as I mentioned earlier, outdoor kitchens and that is beginning to really take hold. But again it is very, very early in the overall process.

My last question, then I will give somebody else a chance. Obviously 2006 was a significant year of investment for you. Can you characterize what the impacts of your investments are likely to be in 2007?

Yes. It will be somewhat moderated. I think what happened there is that we, in the course of 2003, 2004 and 2005, were focused primarily on the integration and the streamlining of the Superior network and therefore, we did not press the pedal as much in terms of, for example, opening of new locations or the launching of new initiatives. We were kind of letting the other ones take hold. So we have stepped it up significantly in '06.

While we will have continued investments in '07, it will be at a somewhat more moderate pace and probably by 2008, we will revert more to our normal level of investment as we basically grow into some of the investments made in '06 and being completed in '07.

Anthony Lebiedzinski, Sidoti & Co.

A couple of questions. How much did inflation contribute to overall sales growth in '06 and also what is your expectation for 2007?

We expect overall that inflation was probably in the neighborhood of 3% to 4% overall in '06 and in '07, it will be a more moderate number, probably in the 1% to 2% range.

And also of the 17 sales centers that you opened in '06, what was the breakdown between SCP, Superior and Horizon?

What we will do there, Anthony, I don't have that right in front of me, but just bear with me. What we'll do is we will come back to that in a couple of minutes.

That's fine. Also any early commentary about '07, how that is shaping up?

'07 compared to '06, principally '07, we haven't had the weather benefit as we have had. '06 was very good first-quarter weather, which resulted in very, very, strong comps. So in '07, we haven't had the same kind of favorable weather that we had in '06. So it is a little tougher, but again the key month there is really March. That is the key variable for the quarter.

Okay. And also going forward, what are your priorities with usage of cash flow in terms of debt redemptions, share buybacks, dividend increases? What are your thoughts on that?

First priority is continued investment internally in the growth of our business. That is -- from a risk/reward standpoint, that is the highest return to shareholders over time. Second is acquisitions provided they make sense in terms of enabling us to either enter or increase our presence in the market. Third would be dividends given that it is a longer-term commitment that we have made. Fourth are share repurchases opportunistically at, particularly, today's bargain prices and fifth is repayment of debt that we do generally speaking when we believe our share price is fairly valued.

In terms of the debt side, we, as you notice, we closed on a private placement of $100 million. What that enables us to do is give us a lot more flexibility. We are still underleveraged overall and again have all the arsenal of tools available to us to continue to grow and again, our focus is making sure that we are judicious in how we use those funds and we use that capacity in order to provide long-term shareholder return.

And my last question, what are your expectations for CapEx in 2007?

In terms of CapEx, I think the number of 0.5% to 0.75% of sales that we have done historically remains intact. By the way, just -- I'm going to respond to the question on the number of locations. We opened up seven SCP domestic locations. We opened up four Superior domestic locations. We opened up one international location and then the balance were Horizon.

Do you have any sales centers that you have combined a SCP with a Horizon location or are you thinking about doing something like that?

We have not done that yet. We are looking at it as two concepts. We will be looking at shared facilities where both the Horizon and either SCP or Superior are looking at space in a particular market. We will be looking at doing a lease of a larger facility and having a shared facility and also we are looking at store in a store in markets where Horizon currently does not have presence and Superior or SCP does.

We will -- in fact, we are looking at putting in a number of those over the next five years in those markets where we will enter those markets leveraging available capacity within SCP or Superior locations and have a Horizon store in a store. Then over time as that Horizon business grows and the SCP or Superior locations' business grows, ultimately Horizon then establishes its own separate physical presence, but it enables us to enter a market at a much lower entry cost.

David Mann, Johnson Rice.

First question was on Horizon. It looks like in the addendum that the acquired businesses had lower gross margin in the fourth quarter. Can you just talk a little bit about what you're seeing in terms of margin in Horizon, what the outlook is for '07?

Sure. I think part of that is reflective of the fact that we did the Wickham acquisition in August and therefore, you have a greater weighing on the gross margins for the acquired businesses in the fourth quarter. The gross margins in Texas and Georgia are modestly lower than they are in what we now refer to as Horizon West and that dragged down the overall average [bids].

Also from an overall standpoint, I don't see margins changing significantly on the Horizon side on a go-forward basis other than modest improvements each year, much like we have done in the pool side over the course of time.

Okay. And then in terms of the growth in Horizon in their base business in '07, can you just give a sense on how that will be relative to your core business? Am I correct that that will be entering your base business calculation in the first quarter?

That's correct. Horizon West will in fact be entering our base business calculation in the first quarter. Wickham will not. Wickham will be out there for the better part of '07 as an acquired business.

From a growth standpoint, we are looking for strong, high single digit percent growth year-on-year on the Horizon side of the business, whether it be the West or the acquired Wickham business in '07, much like we are for Pool.

Okay. And then in terms of the SG&A you reported in the fourth quarter, can you break out what the amount of the bonus reversal was in the fourth quarter or reduced year-over-year bonus?

We don't have that readily available, but we basically true that up in the fourth quarter every year and I think the impact in this year's fourth quarter was -- again, I hesitate to say -- but it may be in the tune of -- some numbers here?

About $1.5 million.

The $1.5 million is the year-over-year decline?

Yes. Fourth-quarter adjustment.

Okay. And then lastly, I think a couple of quarters ago, Mark, you might have said that cash flow would equal net income for the year if you didn't do pre-buys. I think you said that on the second quarter. Can you just bring us up to speed, reconcile with what you reported today, why that wasn't the case and then give a sense on what '07 will look like in terms of those two metrics?

Yes. I am trying to recall back to -- you are referring to third quarter?

I think it was on the second-quarter call.

Second quarter. Yes. We generally project cash flow from operations equal to net income. And with the inventory pre-buy that we did in '06 or '05 really for the '06 season and the tax payment that we did, those things swapped a little bit, but the net impact on 2006 was -- we came a little bit under that for the year, which is what we think we discussed in the third-quarter call, thinking back about that. In 2007, I expect us to be back up in that $100 million plus range.

The main impact was the payment of the taxes in the fourth quarter of 2006, which were the taxes from 2005 that had been deferred because of Katrina and that you see as a reduction in the accrued expenses section of the cash flow statement.

Okay. And then other than, nothing that you would point out that would have kept you below net income?

No. If you look at the cash flow statement and we have added a column in there to reflect the year-on-year change just to make it easier for everybody to see the variances, but if you look at it and you study it, the main adverse hit on a year-on-year basis is the reduction in accrued expenses and that is primarily comprised of the payment of taxes in the fourth quarter of '06 that really would have normally been paid in 2005.

I say the opening of new locations given the higher opening rate, we invest in working capital ahead of the cash flow that they generate. So that used maybe in the $10 million to $15 million range of cash flow versus what we'd see in a normal year.

I appreciate the answers. Thank you.

Brent Rakers, Morgan Keegan.

Maybe some clarifications if possible as much as anything. You referred to the Q4 bonus adjustment as $1.5 million. Can we have a sense for what the dollars tied to SG&A related to the bonuses were this year versus last year?

Sure. We accrue bonuses during the entire year. The total bonuses for the year are down about $4 million from what they were in 2005.

And Manny, can we assume that you were bonusing at a higher level given the strong performance the first nine months, so this was $4 million, $5 million, $6 million reversed in the fourth quarter?

No, no, no, no. What happens is we adjust that and it was adjusted as well in the third quarter.

And then just a clarification. You refer in the press release to the majority of the gross margin pullback in the base business being as a result of the truing up of the rebates for the year. Is that essentially all of the I guess 190 basis point year-over-year drop and if there is anything else, could you maybe comment on that?

In terms of base business, it is more than the adjustments. There was a modest improvement in selling margin and everything else, but basically you can -- it is safe to assume that the entire adjustment was due to that.

Great. Just a couple more questions and I know obviously the weather has been real tough, particularly in January year-over-year. Any sense for maybe more specifics as to what the base business trends have been in the first half of this quarter?

Sure. Base business trends are very, very modest in the first five, six weeks. The ice storms in Texas really threw us for a loop there in those markets. Outside of those markets, it was, call it, modest growth, but really Texas and Oklahoma to a degree, but we're a much bigger presence in Texas and a much bigger part of our business in Texas. So that hurt us and obviously the recent two or three days of storms and stuff have hurt us a little bit. Again, 2006 was a very, very mild weather quarter, mild winter. So that is a tough hurdle to comp against.

So we are plugging along and we are fine and I have no issues because again these are very, very slow months in the overall scheme of things. Again, the key is how business begins to unfold in March and then in turn in April and May as people begin to open their pools and begin to use them in a much greater way.

Manny, though, it sounds like still when you say very modest, you're still talking about up though, is that correct?

In the case of -- yes, outside of Texas, yes.

And then can you just remind me -- I know March is obviously the big month of the quarter, but maybe put to scale how important the March month is in terms of as a percent of total revenues in a typical first quarter for you guys?

I don't have the numbers for the revenue side in front of me, but I'll tell you that basically in January and February, we don't make any money. So really our profit month in the quarter is March.

And I guess last just a quick housekeeping question, Mark, if you can help me. What was the share count close on December 31?

The share count close. Well, I don't have -- I don't have the share count close. I gave you the -- you can probably figure that out from the third-quarter Q and then I gave you the repurchases in the third quarter and fourth quarter.

We'll probably have to get back to you on that.

That's fine. Just last comment, in the future, now that Horizon will roll into the base business, is there any consideration to opening up maybe some sort of segment reporting in terms of the pool business versus the irrigation landscape business?

We looked at that, but really they are the same business and there is some crossover of customers and ultimately there is going to be more and more crossover of products and more crossover of customers and also we have the store in a store and shared facilities. So at the end of the day, it isn't really worthwhile. We are still selling to a trade customer outdoor lifestyle products. So we are not looking at segregating it. We will provide that information to the extent that one is different from the other in our commentary. But we don't intend to have separate segment reporting because we believe it's the same segment.

Michael Cox, Piper Jaffray.

Thanks a lot for taking my questions. My first question is on the complementary products business. I was wondering if you could give us the growth rate in the fourth quarter specifically.

I believe it was 12%. In fact, we referenced the entire year in our press release, but I believe it was 12% in the quarter. And very strong obviously for the year.

In terms of looking at the gross margin as we move into the first half of '07, I was wondering if you could comment on the lack of pre-buy activity that occurred this year versus last year or in '05 versus '06 and what impact that might have on the gross margin along with the correct accounting for the vendor discounting just as we look at the first-half gross margins?

Sure. Let me take the second part first and then I will go back to the first part of the question. The adjustment that we made in the fourth quarter of '06 for the difference between our, I'll call it, gross and net costs on purchases, that difference that, again, was reflected entirely in the fourth-quarter financials, really pertains to the entire year.

Had we been doing it and we had the wisdom or the ability to go back in time and know what we knew in January throughout the year, we would have had about a 20 to 25 bps lower gross margin reflected in the first parts of the year, first three quarters of the year. So effectively that is that transition. And that is more so weighted in the first half of the year than the second half of the year. So maybe it is 25, 30 bps in the first half of the year and more like 20 bps in the third and then obviously then you back out and you actually have an increase effectively in the fourth quarter from '06 numbers.

In terms of the pre-buy activity and everything else, really there's two parts to that question. Our pre-buy activity was a little bit more moderated certainly at the end of '06 than it was at the end of '05, but also a couple of vendors chose to ship all of the orders or the lion's share of the orders in '05 and in the case of '06, they tried to operate a little bit more efficiently and shipped their orders in a program and in a fashion that behooved them from an efficiency standpoint. So therefore, some of those orders are in fact being shipped and are being received in the first quarter.

When it is all said and done, the impact there is relatively speaking modest. If there is a 10 bps differential in the first half, that would be a lot. I will say that one benefit that we did gain in 2006 was unusual within the industry was that three primary equipment suppliers had midseason price increases and we bought into those increases receiving that inventory in June and were able to therefore realize a little marginal benefit in July and August as we sold through those inventories again that were received one to two months earlier than normal and therefore, had a little bit of a benefit in the third quarter as well.

So let me summarize, Michael, for you and for everybody else on the call, there is probably about all together perhaps somewhere in the neighborhood of a 30 bps change if you were to reflect everything on a retrospective basis in the first three quarters with that number being probably 30 plus bps in the first two quarters of '06 and maybe a little bit shy of 30 bps in the third quarter and then obviously fourth quarter being adjusted the other way up.

That's very helpful. I was wondering if you could touch on the Backyard Place. Any early feedback or response you're seeing in that initiative?

Backyard Place frankly is exceeding our expectations. Already as of last Friday, we had 41 dealers, effectively new dealers, on the program. Now not all of those stores have already been opened. They are in various phases, but it has been received frankly better than anticipated within the industry where there are a number of entities within the industry that maybe participated in the retail space on a more hobby-like way and they have seen this as an opportunity to really get serious and make a serious commitment to retail and as a result of that, we are very, very optimistic about how that is spreading within the industry.

I will tell you that one of the -- not issues per se that we have, but one of the factors we are playing into that is being able to properly support these effectively new dealers, new retailers and we will be rolling those out or helping them in a way and form and fashion that is effective so that as they in fact realize success. But overall, we are very, very happy with the progress made to date.

That's great. My last question is in regards to the pool construction market. If you listen to one of your key suppliers, their outlook for the pool construction market this year varies fairly substantially from what you outlined earlier on the call. I was just wondering if you could touch on where the delta is, what your customers are -- what differences your customers have relative to theirs.

Sure. First of all, our focus on the pool builder segment is weighted most from a national basis, most on what I will call the retail pool builder. This is the pool builder that sells pools to existing homeowners. Most of our pool builder customers build anywhere from 20 to 50 pools a year. We participate to a much more limited degree with the larger pool builders, those that build 500 pools and more.

Those larger pool builders are in many cases tied to homebuilders and again, we have a more limited participation with that part of the customer base. So overall what we are seeing is that the small to medium-sized pool builders are staying reasonably busy. I have anecdotal information on both sides of the spectrum. I have anecdotal information from some medium to larger pool builders telling me that their activity is a little lower at this time of the year than it was last year.

In many of the same markets, I am hearing from other like-sized builders that they have a record backlog. So it is very, very mixed, but I will tell you that my own perceptions are that the small to medium-sized builders will be less impacted by any reductions in the market if those take place than the larger builders that are in fact more susceptible to those impacts.

Thank you. I appreciate the responses. Keep up the great work.

Thank you, Michael.

Kathyrn Thompson, Avondale Partners.

I have three questions for you and I may have to hop because I have another conference call. The first is what are your assumptions for base business growth in 2007 for the first half and for the second half of the year, what were the drivers for that?

The second is my understanding is that pool starts have slowed in some of your key markets, such as Florida and Arizona. I assume you are seeing softer sales in these markets and if not, if you are growing these businesses, how much of growth is driven by new customers, new products or just overall growth and marketshare gains in these markets? Thank you.

Okay. Let me take the two questions. First, in terms of base business, for the year, we are looking at high single digit base business sales growth. Now, in the first half of the year, particularly the first quarter when we have the toughest comps, that is going to be a very, very modest number. That will increase in the second quarter when we have still hard, but more reasonable comps. Then as you go through the year, the comps get progressively easier and our year-on-year number should increase. So overall for the year, we are looking at again high single digits with very modest numbers in the first quarter ending up with double-digit comps in the fourth quarter.

Speaking to the pool starts number in certain markets, Florida being probably a prime example where pool permits are down, that is not unique to Florida. That happens in a number of markets. In fact, there are markets every year where pool numbers are down. What happens there is that -- particularly you mentioned Florida and Arizona, there is a very strong base of pools. For example, there's approximately three quarters of a million polls in the state of Florida. And those pools need to have remodeling done and in fact the expenditures made by consumers on the remodeling/replacement of equipment is about almost twice as much as it is expended on equipment for new pools as an example.

So given those dynamics, we can certainly offset to a degree any slowdown in new pool side by simply improving our execution, the sale of other products and what we have historically done in terms of growing marketshare to compensate or more than compensate for any shortfall in the pool building side.

Have you done this -- have you had an experience in the past at Pool Corp. where you have essentially been able to do this?

Sure. Sure. I will give you a case in point. Arizona, pool permits were down in Arizona. They were down in Texas. They were down in parts of California and certainly down in parts of Florida in 2006. And in three of those four states, our base business sales grew by more than 10%, by more than the Company average. And that is a reflection of our execution and the teams that we have in those markets. It is also a reflection of the fact that we do a lot more than just sell products for new pool construction.

In fact, the majority of our sales are for products that are sold for replacement or maintenance of existing pools. So therefore -- as well as complementary products. So you put all those factors together in three of those four states, despite a flat to down new pool building activity in 2006, we were still able to do very, very well.

(OPERATOR INSTRUCTIONS). Dan Whang, Lehman Brothers.

I think -- your comments here is that you continue to grow marketshare in '06. Could you provide a little bit more color in which particular regions do you think you saw the greatest traction in marketshare and which regions will continue to provide those types of opportunities?

Sure. I would say -- and again, it is tougher to gauge, but we have done particularly well in the Sun Belt over the course of my eight plus years with the Company and in those markets, we have certainly grown share. Now having been in every particular market of the Sun Belt and it hasn't been every year in all of those markets, but generically, we have done a very good job of growing marketshare throughout the Sun Belt over the course of time. And I think that overall in the Sun Belt, that happened again in 2006.

In the Snow Belt, the dynamics there of the business are different and our presence there is not as strong as it is overall in the Sun Belt. And therefore, how we are able to differentiate our value proposition is a little tougher. All this is obviously aggravated by the fact that the business actually shuts down for several months given the weather. So those effective dynamics are a little bit more difficult and certainly different.

And while we have had certainly growth in marketshare in the Snow Belt, that growth in marketshare has been more modest than it has been in the Sun Belt and again, I attribute some of that at least to the different dynamics at play in those markets and how we can really differentiate ourselves versus our competition is a little bit tougher there as well.

And in terms of the new sales centers that you plan on opening, are they targeting particular geographies or any comments around that?

Sure. In fact, you provided me a segue to discuss the opening of new locations. And just to give you a little perspective, basically the opening of new locations are intended to enable us to serve new markets or enhance our ability to serve existing markets. And as we do that, the focus is understanding our customers, understanding our customers' needs and then being able to see what we can do to serve them better. We obviously look at that and look at the cost of doing that as well.

Certainly for deliveries, the opening of new locations or for customers that we serve via delivery, the opening of new locations add cost and don't add necessarily value. On the other hand, for those customers that tend to pick up merchandise, location and convenience is very, very important.

Over the course of our history, the majority, strong majority of our opening of new locations have been focused on the Sun Belt. The demographics with the population growth, with the fact that those are more and more year-round pool businesses from the standpoint that our customers are functioning and working year-round, all lead us to have more confidence in the opening of those locations in terms of return on capital as we analyze those investments.

In the northern markets, the definite, more accentuated seasonality, coupled with reduced levels of population growth and job growth, as well as the certainly shorter season, all make it a little different dynamic in terms of opening new locations. But we opened them as well in the North, but again it is heavily weighted towards the Sun Belt.

And your anticipated sort of timeline for these new sales centers that you plan on opening -- the timeline to breakeven? Any sense around that?

Sure. New sales centers, usually the first year, we lose $250,000 to $350,000 in the first 12 months of operation and then as they begin to mature and we are able to capture share in the market by having that physical presence, the increased sales and GP dollars help to take that usually to a breakeven position in the second year and then profitable, certainly profitable in the third and then by the fourth year, making a return on capital that meets our minimum thresholds, which are 30% pretax on the incremental investment.

Great. And just jump into my second question. Your move into the financing business and it seems like you have entered that more recently and could you comment on what you are seeing in the marketplace around the whole financing area? I think the recent media has picked up on the whole subprime mortgage market and concerns around there, but what percentage of new pool ownership do you think, base, is sort of subprime and any color around that would be great?

Sure. Let me give you some background. This is something that we have been looking at for at least five years, maybe even goes back to seven years. We initially were looking at it from a standpoint of encouraging financing institutions to take a look at the pool market and home improvements in general with a greater zest and therefore, working in a collaborative way with us where we would effectively help direct business in their direction and they would in turn provide easy financing solutions. Easy from the standpoint of online applications, 800 number, things of that nature, to facilitate the process on behalf of our customers.

That process, after looking at it and evaluating alternatives over the course of at least five years, we finally figured out in 2006 that probably the best way to handle it was for us to do it ourselves. So we had to beef up our own infrastructure and tools to enable us to do that in a form and fashion that would be efficient and effective.

So therefore, we went into a process where we are being licensed on a state-by-state basis. We started in the state of Florida and are basically moving west and then ultimately North. And the objective there is to be a one-stop shop solution to assist our customers by virtue of enabling them to provide a vehicle for consumers to get a ready answer expeditiously on the opportunities available for financing.

We function strictly as a broker in that regard, but we have been also, during the course of 2006, established relationships with several financing institutions that in fact recognize the value provided in terms of the addition of a pool to a home and also have interfaced with them in a form and fashion that enables us to be more responsive to that consumer. Again, strictly as a broker and as another tool, another opportunity for us to add value in the channel by enabling our customers to in fact facilitate financing for the consumer.

The form of the financing is, generally speaking, in the form of a second mortgage, although there are equity loans and first mortgages that will also be part of the opportunity. And based on statistics that we have looked at and analyzed over the course of the past five, six years, roughly half of the new pools are financed by the consumers independently of their own, call it, sources. So therefore they, generally speaking, when they undertake this type of home improvement, they generally speaking either secure a home equity loan, a second mortgage or refinance their first and are able to execute that and that is where we can facilitate that process. Again, it is more driven towards providing another tool for our customers to help facilitate their sales.

And Dan, just to answer your question on subprime, I think relatively little subprime lending goes to finance pools. There is some amount of that, but most equity lenders are looking at hard equity for pool financing and that is where we can provide some advantages and working with lenders who recognize that borrowers for pool loans generally are higher quality and we get better equity lending on those types of loans.

Keith Hughes, SunTrust.

Just real quick, in your press release, in the acquired businesses, had a really nice operating income for the fourth quarter. I know that is a seasonally poor period for them as well. Is that indicative of what we would see moving forward or was there something special here?

It was probably a little better than normal, but I think that that is not out of line at all.

So their business will be smoothed out a little bit more than the pool side. Is that --?

In fact, their fourth quarter is better than the first quarter. In fact, Keith, you bring up an excellent point. The flow on the irrigation side of the business is a little different from the pool side. The second and third quarters remain the most profitable quarters by far. Where in the pool side, it is more weighted towards the second and the third, in the irrigation side, they are more alike, the second and the third.

The seasonally slower fourth and first quarters on the pool side, where the first quarter is generally speaking a little bit profitable and the fourth quarter is usually a little bit of a loss, the irrigation business is the other way around, where the fourth quarter is a little bit of a positive and the first quarter is a little bit of a negative.

Thank you. And just one final question. You had talked about pool permit growth at the beginning of this call. New pool construction historically has been about a quarter of your business. Is that still the case?

New pools represent about, yes, 25%, 30%. There are other discretionary items that we also bracket into the same area, like for example hot tubs. Again, amount to a little bit over 1% of our sales and a few other products like that.

So 25% is really the discretionary aspect of your business?

We look at it about 30% or so of our business is, 30%, 35%, is what I will call discretionary and 65%, 70% is more maintenance, repair, replace.

David Manthey, Robert W. Baird.

Could you tell us what the incremental sales growth contribution was from new branches in the fourth quarter of '06?

One second. I have to refer to the previous chart that I put away two minutes ago. Do you have another question, David, while I look this up?

Yes, I do. Also on the $0.06 drag from the 17 new locations, is that an absolute number, meaning it was $0.06 of impact or is it a year-to-year number, meaning it was $0.06 greater than normal?

It was an absolute number and given the fact that we were very modest in terms of opening up new locations, certainly the year-to-year number would be at least $0.05, at least $0.05. Now in terms of the incremental sales in the fourth quarter from new locations was a little bit less than $3 million.

And then finally, could you remind us just for the record here what percentage of your overall sales are in Florida, Texas and California individually?

We don't have that readily available at this point, but I will tell you that, as you know, in 2005, it was 54% of our business were in those four states and as I look at 2006, I would think that the number would be modestly greater than that. I would venture to say probably in the 56% to 58% of our total sales came through in those four states in 2006.

That's all I have. Thank you.

David Mann, Johnson Rice.

Going back to the vendor rebate issue, if I remember correctly, you said that some of that was driven by a mix issue of the rebates from different vendors. If that is the case, can you just talk a little bit about any operating moves you might do to maximize the rebates or at least minimize any further drag in '07?

Sure. By the way, the entirety, virtually the entirety of that impact was driven by mix. It's a tough nut here. Basically what happens and just for everyone's sake, what we do is we have a cost at the local field level and we believe that cost, that product cost to be in line with what their competitors have as a cost base.

So what we do is we try to segregate and it is not perfect, but our objective is to segregate whatever advantages we may have in the buying of products to differentiate our cost versus what I will call the market's cost and that comes in all forms and fashions in terms of whether it be rebates, negotiated unit costs, our own strategic sourcing, whatever. And that number varies a little bit during the course of the year as different circumstances play out in the market.

But be that as it may, that differential exists primarily where we have either globally sourced items or in cases where we have our purchase volumes are significantly greater than the competitors. So in cases where for example like complementary products where although we have done very, very well, our cost position is not really any better than a regional distributor of plumbing supplies in the case of pipe as an example or any better than a building materials -- regional distributor of building materials in the case of like for example rebar. And those type of product categories, that differential is very, very modest.

The only way that we can really enhance that over the course of time is by growing in that space and that category to the point that we have a unique leverage or value differential for the suppliers, vis-a-vis, other distributors in the marketplace.

Okay. And then in terms of -- on a different issue. In terms of the marketing efforts that you have made, can you just give us a sense on the number of hits and perhaps the leads that have been generated quarter to date, how that tracks versus last year?

Are you talking about with first quarter of '07?

Correct.

Versus last year? To be honest, I don't have that number in front of me. I met with the marketing team last Friday, but we were more focused on evaluating '06 as we develop tactics for '07 and really I haven't seen any of the '07 numbers today.

Curious in the fourth quarter, did you see any kind of slowdown in terms of the rate of growth of hits or leads generated?

No, fourth quarter to fourth quarter, fourth quarter of '06 to fourth quarter of '05, hits and leads generated were higher in fourth quarter of '06 than fourth quarter '05.

Hey, David, while I have got you on the phone, I want to go back to a question you asked earlier. I threw out a number that wasn't quite right on the bonus adjustments in the fourth quarter. I think I told you it was $1.5 million. What I was looking at year-over-year, fourth quarter versus fourth quarter, the adjustment was closer to about $8 million in terms of the amount of bonus expense fourth quarter '05 versus bonus expense '06.

Literally $8 million absolutely lower year-over-year?

Yes.

In the fourth quarter and then for the full year, was that number still correct, that $4 million?

I'm sorry. Say again?

For the full year, I believe you said it was $4 million lower in terms of bonus.

Yes, approximately for $4 million for the year.

And for '07, what rate are you accruing at versus '06?

We are accruing -- we will accrue at a rate -- we tie it to income. So as a percentage of income because most of the incentive programs are tied to profitability and we will be accruing that during the course of the year tied to income. The rate will be at a similar rate as we have realized in '05 and '06 as a percentage of income.

At this time, there are no further questions. I would now like to turn the call back over Mr. Perez de la Mesa for closing remarks.

Thank you, Lynn. We are very fortunate to be part of a young and vibrant industry with tremendous long-term growth potential. Our managers and employees are the ones that convert those opportunities into results. We are very grateful for what they do and they certainly contribute to our collective success.

For 2007, we are very optimistic about what we can do to provide value to our customers as we continue to enhance our value proposition and frankly, I think that it is getting better and I am more excited about '07 and '08 and '09 given the investments we have made especially in '06 about how those investments bear fruit in again '07 and '08 and '09 and we will continue to make those investments over the course of time and do that in a fashion and form that is disciplined and also provides us thresholds of return on capital that we look for as shareholders. Thank you very much.

Thank you. This concludes the Pool Corp. fourth-quarter earnings results conference call. You may now disconnect.