Regis Corp (RGS) 2005 Q4 法說會逐字稿

Good morning. My name is Matt and I will be your conference facilitator today. At this time I would like to welcome everyone to the Regis Corporation 2005 fourth-quarter and year-end earnings conference call. All lines have been placed on mute to prevent any background noise. If anyone has not received a copy of this morning's press release, please call Regis Corporation at 952-947-7798 and a copy will be faxed to you immediately. If you wish to access the replay for today's call, you may do so by dialing 1-800-405-2236 with access code 1103 5972.

I would like to remind you that to the extent of the Company's statements or comments this morning represent forward-looking statements. I refer you to the risk factors and other cautionary factors in today's news release as well as the Company's SEC filings. Reconciliations to non-GAAP financial measures mentioned in the following presentation can be found on their website at www.regiscorp.com.

With us this morning are Paul Finkelstein, Chairman and Chief Executive Officer, and Randy Pearce, Chief Financial Officer and Executive Vice President. After management has completed its review of the quarter, we will open the call up for questions. (OPERATOR INSTRUCTIONS) I would now like to turn the call over to Paul Finkelstein for his comments. Paul, you may begin.

Thank you, Matt, and good morning everyone. Thank you for joining us. As you all have seen in our press release, fourth-quarter revenues increased 17% to almost $600 million. Consolidated same-store sales increased 0.9%. Net income increased 10% to $29.5 million or $0.64 a share, meeting Wall Street expectations.

Fourth quarter EBITDA increased 16% to $76 million. Fiscal 2005 revenues increased 14% to $2.2 billion. To say the least, fiscal 2005 was a most challenging year, certainly not helped by the continuation of the long hair phenomenon. Fiscal 2005 earnings per share decreased $0.04 per share to $2.22 after adding back the third-quarter goodwill impairment charge. However after making adjustments for items such as currency translation, expensing of stock options, costs associated with Sarbanes-Oxley, hurricanes and labor litigation, we essentially had a flat to slightly up year. We are still confident in the guidance we have given for fiscal 2006.

I'd like to summarize some of the highlights of fiscal 2005. First the acquisition of Hair Club for Men and Women was completed on December 1. Hair Club is performing extremely well, slightly above plan, and we feel that there is a significant upside potential. We have not yet implemented our cost marketing program and will do so in the third and fourth quarters of fiscal 2006.

There are a significant number of acquisition candidates in the marketplace both domestically and internationally. We are the leading Company by far in the sector and yet only have a 5% market share in North America.

Two, beauty schools. At the end of fiscal 2004 we had 11 schools. At the present time we have 24 schools and a like number under contract. The beauty school business should be a $100 million segment for us. It'll take at least two or three years to achieve those levels of sales. There are plenty of opportunities to grow this business but there are other competitors also buying and building beauty schools. But we believe we have a unique opportunity to add tremendous value to this sector.

I would like now to address the issue of our financial strength. We are solidly investment grade. Our debt to cap ratio is 43%. We ended the year with $569 million in debt and expect that level this year to remain constant. Projected EBITDA for 2006 is over $300 million, thus we have plenty of coverage. We would like to reduce our debt to cap in time to anywhere between 30 and 35%. While we are comfortable with our guidance for 2006, we also feel that it is prudent to have more measured growth for 2006.

Acquisition candidates are plentiful in both the salon business and the hair restoration business and we don't have any significant competitive pressures to get deals done quickly. Most of our salon growth centers around the Promenade strip center business. Promenade added over 500 salons in fiscal 2005, which did stress our supervisor restructure. We anticipate reduced acquisition growth for 2006 and a significant improvement in our strip center division margins. We are highly confident that with our small market share and leading position within the industry that we will be able to accelerate growth in future years.

The underlying strength of our Company is quite strong. Our service comps are accelerating and a more fragile part of our business, product sales, essentially has flat comps. The major reason for flat product sales comps is our huge share probably 15% of the total market coupled with the fact that we have had very few new major lines as we had with TIGI several years ago. The strengthening of service comps is a significantly positive development. Our price increases thus far have been successful and with three strong operating divisions we see a bright future indeed.

Randy will now continue our presentation.

Thanks, Paul. Good morning, everyone. We're pleased today to report record fourth quarter performance. Our revenues grew nearly 17% for the quarter and our earnings grew just over 10% to $29.5 million or $0.64 per share, up $0.06 from the same period a year ago. As Paul mentioned, the $0.64 per share was in the middle of our guidance range for the quarter and it also met our expectations.

For the entire 2005 fiscal year, revenues grew 14% to a record $2.2 billion. We are reporting earnings of $1.39 per share, compared to $2.26 per share last fiscal year. As you are aware, our full-year results of $1.39 per share includes the $38 million non-cash charge that we reported last quarter, our third quarter, related to the write-off for goodwill impairment in our international franchise business. This write-off reduced fiscal 2005 earnings by $0.83 per diluted share. Therefore absent this write-off, our earnings would have been as Paul mentioned, $2.22 per share in fiscal '05, down slightly from our prior year results of $2.26.

Despite this slight decline in fiscal 2005 earnings per share, we are pleased to note that our EBITDA grew over 6% during the fiscal year to a record $271 million, reflecting the strong cash flow characteristics of our business.

I will now give you a bit more detail behind our fourth quarter and our fiscal year performance, starting first by discussing our revenues. Fourth quarter consolidated revenues increased nearly 17% to a record $593 million. As you know, our long-term growth expectations include both organic and acquisition growth with each representing roughly half of our total revenue growth. This past quarter however our organic growth, which includes same-store sales increase of 90 basis points, represented 28% of our consolidated revenue growth, while acquisitions made within the past 12 months represented the remaining 72%.

For the entire fiscal year, consolidated revenues grew 14% to a record $2.2 billion. Our consolidated same-store sales increased 90 basis points, which was roughly in line with our 1% forecast. Organic growth represented one-third of our annual consolidated revenue increase, while acquisitions accounted for the remaining two-thirds. Obviously these percentages will vary due to the timing of new store openings and acquisitions; however over a longer period time, the mixture of organic and acquisition growth should be roughly equal.

You will find a table in our press release today that breaks out our fourth-quarter and fiscal-year revenues for each of our concepts.

As you are aware, the service sales line item on our P&L now includes service revenue from our salons, service revenue from Hair Club for Men and Women, as well as tuition and service revenue from our beauty schools. Fourth quarter service sales increased nearly 17% to a record $401 million. While consolidated fourth quarter service comps of 1.3% were 70 basis points higher than the year ago period, they are still below our historical range of 2 to 4%.

As Paul alluded to previously, we believe our service business continues to be impacted by the long hair fashion trend; however, we were encouraged by the fact that for the entire fiscal year our service comps grew 1.4%, compared to a 30 basis point gain during the comparable period a year ago. In addition, our recent price increase efforts appear to be holding. For the full year our service sales grew 15% to $1.5 billion.

Next I will talk about product sales and our product sales line item on the P&L includes retail product sold to our consumers in our salons as well as in our cosmetology schools and in our hair restoration centers. And in addition, it also includes product that we sell to our franchisees.

Our retail product sales, which have higher gross margins than our service sales, grew 17% to $171 million during the fourth quarter. In addition, our product sales mix for the quarter grew to 28.9% of total revenue, up 10 basis points from the same period last year. Our retail product comps decreased 20 basis points during the fourth quarter, compared to a 3.5% gain during the same period last year. Recall that our retail product comps last fiscal year were positively impacted by both the introduction of the Matrix productline to our Trade Secret Salons and the strength of flatiron sales. Long term, we are forecasting our retail product comps to be in the 2 to 4% range.

For all of fiscal 2005, retail product sales grew to a record $648 million, an increase of 12% over the previous year. This increase in product sales was primarily due to the addition of new salons and our acquisition of Hair Club. Retail product comps for all of fiscal 2005 were flat compared to an 8.1% increase a year ago.

Our fourth quarter franchise royalties and fees grew just over 12% to $21 million. This increase was primarily related to our acquisition of Hair Club, which has 49 franchise locations. For the full year, franchise royalties and fees grew 8% to $79.5 million. We believe that our overall franchise business remains quite healthy, as indicated by the 285 new franchise salons opened during fiscal 2005.

Looking to our current 2006 fiscal year, we expect our consolidated revenues to increase roughly 10% to $2.42 billion.

I will now switch gears and talk a bit about our fourth quarter and fiscal year margins. Our combined gross margin rate for the fourth quarter improved 50 basis points, coming in exactly at 45% and for the full year came in at 44.6%, which was off by just 10 basis points from that of the prior fiscal year.

Let's now look at the individual service and retail margin components. Starting first with our service margin rate, in the fourth quarter it came in on plan at 43.1%, which was off just 10 basis points from the same quarter last year. The slight decrease in our service margin rate related to higher salon supply costs incurred during the quarter but more importantly however is the fact that we were very effective this past quarter in monitoring and controlling our salon payroll costs which as you know is the largest expense item on our P&L.

As expected, our service margin rate for all of fiscal 2005 decreased 50 basis points, coming in exactly at 43%. This rate decline related to payroll related factors that we discussed with you in previous quarters, most of which we consider to be more short term in nature.

Looking ahead to our current 2006 fiscal year, we are forecasting that our service margin rate will improve to the mid 43% range of service revenue. Some of this year-over-year improvement is due to the fact that we do not expect some of the payroll related factors that impacted us in fiscal 2005 to occur again this year.

Another factor that should continue to favorably influence our fiscal 2006 service margin rate is the mix of our new salons, in other words, our salon concepts that have the highest service margin rates such as Supercuts, MasterCuts, and SmartStyle, are growing faster than the overall corporate average.

I will now switch to our retail product margins. Our fourth quarter product margin rate came in essentially on plan at 49.5%, which was an improvement of 190 basis points over the same quarter last year. This improvement was largely due to our December 1 acquisition of Hair Club. The specialty products carried by Hair Club have even higher retail margins than those sold in our traditional salon businesses.

Our retail product margin rate for the entire 2005 fiscal year also improved, growing 70 basis points to 48.2%. This improvement in our annual rate was due to the same factor, higher margin product sales resulting from our recent acquisition of Hair Club.

Looking ahead to our current 2006 fiscal year, we are forecasting that our retail product margin rate will improve even further to the mid 49% range of product revenue. This anticipated improvement is the result of now enjoying the full year benefit of Hair Club product sales in our fiscal 2006.

Let me now address the site operating expense line item on our P&L, which includes not only costs incurred by our salons such as salon advertising, insurance, utilities and janitorial costs, but it also includes beauty school operating costs and hair restoration location costs. As we had expected, our site operating expenses did improve in the fourth quarter, coming in at 8.2% of consolidated revenue, which was a 40 basis point improvement over the same period last year.

The fourth quarter rate improvement was largely due to our recent acquisition of Hair Club, which has lower site operating expenses as a percentage of their revenue. For the full fiscal year, site operating expense improved 20 basis points to 8.3%. We forecast site operating expenses to remain in the low to mid 8% range of consolidated revenue during our fiscal 2006.

I will now address our general and administrative expense line item. All of the expenses within the G&A category relates to costs associated with our field supervision, our salon training and promotions, our two distribution center facilities and our corporate offices. This expense category for the fourth quarter of fiscal 2005 came in at 11.7% of total sales, which was 120 basis points higher than the same quarter last year. We had anticipated most of this increase. Our recent acquisition of Hair Club was the major reason behind the rate increase. Hair Club has proportionately higher G&A costs due to their more intensive marketing efforts and due to their customer call center.

As we noted in our April 13 press release, there were also several other factors negatively impacting our G&A costs in the quarter, including higher expenses associated with our Sarbanes-Oxley compliance efforts and legal costs related to a Fair Labor Standards Act matter.

The factors that I just mentioned had all been anticipated; however as I mentioned just a moment ago, our fourth quarter G&A expense rate of 11.7% did come in a bit higher than our initial plan. We recently identified an issue relating to the potential taxability of certain benefits provided to our employees. As a result we established an accrual during our fourth quarter to address this matter and we are currently in the process of working with the IRS to resolve it. As we continue to resolve this topic, further adjustments to our accrual may be necessary. However the eventual outcome will certainly not be significant to the financial strength and condition of our Company.

For the entire 2005 fiscal year, G&A costs increased 70 basis points to 11.9% of total revenue. We anticipate G&A for all of fiscal 2006, our current fiscal year, to be in the range of 12% of total sales.

Next I will discuss our rent expense. For the entire 2005 fiscal year, rent expense came in at 14.2% of total sales. This included a rate of 14.3% in the fourth quarter. Our fourth quarter rent expense came in essentially on plan, an improvement of 30 basis points over the same quarter of the preceding year. This improvement was largely due to our recent acquisition of Hair Club, which has a proportionately lower rent expense rate of roughly 5.5% of sales. The favorable impact of Hair Club was partially offset by lower same-store sales growth in fiscal 2005 when compared to the prior year. In fiscal 2006 we continue to anticipate rent to remain in the low 14% range of consolidated revenues.

I will now go on to our depreciation and amortization. Fourth quarter D&A increased 40 basis points to 4.4% of total revenue and for the full year D&A increased 30 basis points to 4.2% of total revenue. These increases were primarily related to amortization of intangible assets we acquired in our acquisition of Hair Club last December. As the anniversary the Hair Club and acquisition during fiscal 2006, we anticipate that D&A will be in the low 4% range of total revenue.

Next, after factoring in overhead costs, our operating margin rate in the fourth quarter of fiscal 2005 came in at 8.3% of total revenue. For the full year, operating income came in at $138 million or 6.3% of total sales, a reduction of nearly $41 million from the prior fiscal year. As you are aware, virtually all of this reduction was due to the $38 million non-cash write-off we took in the third quarter for goodwill impairment associated with our European franchise operations. We do anticipate that in fiscal 2006 our operating income should improve to the mid 8% range of total revenue.

I will now speak to our interest expense and our debt levels. Our fourth quarter interest expense came in at $7.6 million, which was an increase of $3.6 million over the same quarter last year. The increase in interest expense was essentially due to our acquisition of Hair Club. For all of fiscal 2005, interest expense increased $7.3 million to just over $24 million for the entire year. Our total debt at June 30 was nearly $569 million, which represented a $268 million increase compared to the year ago period. Once again primarily due to funding of our Hair Club acquisition.

As a result, we anticipate our interest expense for all of fiscal 2006 to be in the range of 33 to $34 million. Our debt to capitalization ratio however remains solidly investment grade. We ended the year with the rate of exactly 43% for debt to cap. We do not anticipate a significant increase in our debt levels going forward. In fact we anticipate that our debt to capitalization ratio should improve to somewhere into the mid to upper 30% range over the next few years.

As you know, the cash flow characteristics of our Company are very strong and highly predictable. We're pleased to report that our EBITDA grew 6.3% in fiscal 2005 to a record $271 million and our after-tax cash flow grew 9% to nearly $195 million. We continue to believe that our internal cash flow and our available debt capacity will be sufficient to cover our future expansion costs as well as our scheduled debt retirements and our dividend payments.

And I just have a few items. I'm going to talk first about our effective income tax rate. Our overall effective tax rate for the fourth quarter came in at essentially 30%, which was much better than the rate of 35.5% that we reported in the same period last year. This quarter-over-quarter improvement in rate was largely attributed to additional job tax credits that we enjoyed in fiscal 2005 as well as the positive resolution of two prior year tax periods that occurred during our 2005 fiscal fourth quarter.

Looking back at all of fiscal 2005, we are reporting an annual effective income tax rate of 44.5%, which is much higher than normal and higher than the prior year due to the nondeductibility of our goodwill write-off. We continue to estimate that our effective tax rate for all of our current 2006 fiscal year should be in the low 35% range.

I will now address our earnings. Our net income for the fourth quarter of fiscal 2005 grew to a record $29.5 million or $0.64 a share, which was in the middle of the range that we previously communicated and was $0.06 per share above the same quarter a year ago. For the entire 2005 fiscal year our reported net income decreased to $64.6 million or $1.39 per share, compared to the $2.26 we reported for all of fiscal 2004. Once again our fiscal 2005 results had been reduced by the non-cash goodwill impairment charge that equated to $0.83 per diluted share.

We ended the 2005 fiscal year with a total of 10,993 locations and that was a net increase of 831 units for the entire year. In today's press release you will find a detailed table that breaks out our location activity and year-end counts for each of our concepts.

I have one final item before we turn this open for questions and it deals with our decision to discontinue reporting monthly same-store sales results beginning in our current 2006 fiscal year. We communicated this decision to you long ago and quite frankly our decision was embraced by the vast majority of you.

At the beginning of each quarter we will continue to provide all investors with a narrow range of our revenue, our same-store sales, and our earnings expectations. After we communicate this, we do not plan to comment on quarter to date sales trends unless we conclude that our results may be significantly above or below the range that we previously communicated. Should that occur, we will issue a press release advising all investors as to our updated outlook.

So that's it. With that, Paul and I would be now more than happy to answer any questions you have. Matt, can you step in and once again provide instructions, please?

(OPERATOR INSTRUCTIONS) Mitch Kaiser.

Piper Jaffray. I'm sorry, I jumped on the call a little bit late. I was wondering if you could just tell me in the guidance what was the tax rate that you were assuming?

In the guidance for the quarter?

Yes, for the quarter.

I think it had been in the mid -- low to mid 35% range.

Okay, that sounds good. And then on free cash flow, what is your maintenance CapEx?

Our maintenance CapEx for the entire fiscal year was -- we have estimated that it was going to be somewhere in that $40 million range, but we also include in that, Mitch, 6, $7 million of capital devoted to SmartStyle because we don't necessarily view that as discretionary. So the balance would be associated with major remodeling projects as well as just minor repairs.

And would you look for similar levels and 2006 of maintenance CapEx then?

It will grow slightly but very comparable.

I understand. And I guess what I am getting at is just in terms of free cash flow, I think you're committed to building the beauty school to $100 million business and I think you referenced the time period over that. When should we be thinking about that -- getting to 100 million in sales?

Within two to three years, Mitch. We can't be more precise than that.

That's fine. In terms of share buybacks and things like that, what is your current stance on that?

Our share repurchase, again, we have a $200 million authorization in the -- for the entire fiscal year we bought back over $23 million worth of stock, which represented 608,000 shares. Over half of that annual buyback came in the fourth quarter. So right now we still have about $120 million remaining under our authorization.

Okay, thank you.

I'm going to just step in. I told you that our effective rate was maybe in the low to mid 35% range. I was a point off. It looks like our guidance and been low to mid 34% range for the quarter.

I guess on that, then, the $0.64 number you referenced with that was in line with the expectations and I jumped on the call if you addressed this -- I'm really sorry -- but where was the shortfall then relative to the -- on the operating number relative to your expectations?

We pointed out in the press release that we had two individually discrete events that occurred during our fourth quarter. One was the unexpected -- in our G&A expense line item, you're going to see that we did make an accrual associated with potential tax liability for a payroll tax related item that we are working currently with the IRS on resolving. The other discrete item dealt with closure of some prior tax years and increased targeted jobs credits that occurred in our fourth quarter which you will see as a reduction on our fourth quarter effective tax rate.

We wanted to point to both of these because both items were discrete events. They had not unexpected and when you factor them out, operationally we did meet our expectations of $0.64 a share for the quarter.

That sounds good, thank you.

Sharon Zackfia.

William Blair. A few questions. I guess this is probably a question for Paul. If you are slowing down the acquisition slightly it sounds like in the strip center division, are you still targeting that you'll increase overall salons systemwide by something in the 800 or 900 range net of closures?

It may be 6 to 800, Sharon. That's possible.

And any idea on the timing of acquisitions, whether it will be similar to last year or --?

We have no idea when they occur. That's why we don't project them with respect to our -- we give no guidance relative to acquisitions. But we have the benefit of time because no one is really competing in terms of buying salon groups or hair restoration groups. So we can delay a year or two and not miss an opportunity, which is a good position to be in.

Okay, that 600, 800, that is just pure salons or do you include anything you do in Hair Club or beauty schools in that number as well? (multiple speakers) I know they are small.

Exactly, under 20 so it really has no material effect.

And I guess considering how successful the price increase seems to have been, have you reevaluated price as a part of your strategy going forward?

Yes, we survey our salon prices on a market basis, so every three to six months and we will be more aggressive going forward, but we think we are acting very prudently.

Okay, and then, Randy, I guess kind of some small items on the G&A. Can you break out what Sarbanes-Oxley and/or the legal expenses were in terms of the impact this quarter?

It is hard to point to. I think on an annual basis -- let me try to deal it with that. The Sarbanes-Oxley -- there's a lot of hard costs when we have -- fees that we're paying to our independent accounting firm for example or other folks that are helping us and there's a lot of soft costs, other increases that we have seen in adding a few people here organizationally and maybe some new computer systems that we have added.

But let me just say this, before I even throw out the number. We just had an audit committee meeting yesterday and heard the report from our independent accounting firm that we really came through what I'm going to characterize it with flying colors. This Company is very well prepared to support the entire 404 at a station. The controls at this Company are sound and I think it was validated by PWC here just recently. So we feel real good about that. We have estimated that on an annual basis, our total costs for Sarbanes-Oxley, Sharon, would be perhaps in that 2 to $3 million range.

The Fair Labor Standards Act matter that we referred to last quarter probably came in a couple million dollars for the current fiscal year.

Okay, and that was primarily in the second half. I don't remember hearing about it before March. Is that right?

You are correct.

And I guess you're in the discovery phase now if I'm not mistaken. Are you still thinking that that progresses in line with your initial expectations on the March call where the brunt is felt here and then it really lessens going forward?

Yes, that is our current thinking.

Okay, great. Thanks.

(OPERATOR INSTRUCTIONS) Jeff Stein.

KeyBanc Capital Markets. Randy and Paul, a question with regard to international. For the year you lost $18 million. For the fourth quarter though you made 5.1 million. And I am wondering if you can just talk to the issue of number one is there any seasonality to the earnings stream internationally? And number two, are you expecting to make money internationally in the current fiscal year?

Jeff, I assume you're referring to the impairment charge when you talk about that kind of loss. There is very little seasonality to our business. Overall whether it be domestic or international.

Okay, so the $18 million loss includes the impairment charge?

Yes, it does in.

I understand. Can you talk about the progress you have made internationally with regard to correcting some of the management and payroll issues that affected you in FY '05?

Well, the payroll issues have been largely addressed and they occurred in the UK. As you know, Jeff, the UK has probably has the worst retail environment that they have had in maybe 20 years. So we do feel the brunt of it. We are negatively comping in the UK, but department stores are negatively comping between 5 and 10% in the UK over the last six months. This has nothing to do with the bombing in London. This is -- retailing is very difficult in the UK right now. So that certainly doesn't help things because our payrolls are more fixed in the UK than they are here in the States. But the business is well-run and the business continues to be profitable and the business year-in and year-out has made excellent returns.

Paul, can you discuss your plans to develop a cross-marketing program for Hair Club and what the results of your testing has been so far?

Jeff, it is too premature and as soon as we have any kind of elevated results we will certainly communicate that in a conference call or release or whatever.

Fine, and one question for Randy. Randy, your product margins were up significantly in the fourth quarter but it would seem that if you back out the effect of Hair Club your salon product margins in North America were down. I'm wondering if you can address the issue of what is causing that and are we expected to see some year-over-year improvement in the new fiscal year?

There was a couple of things that happened in the North American salons piece of it. One was some timing issues quarter-over-quarter in our donation of inventory, but also there was a vendor rebate that we had been accruing for -- we expected that we were going to meet a minimum purchase level to receive a vendor rebate in our fourth quarter. As it turned out, we did not need our minimum purchase commitment so we reversed that accrual in the fourth quarter.

Jeff, I would expect again that we should see product margins in North America to continue to be somewhere in that 48 to 49% range.

Okay, very good. Paul, final question, you indicated that you got about 24 beauty schools in queue right now. Can you talk a little bit about the size of those in terms of revenues and once you do complete those acquisitions, what the anticipated benefit to the bottom line might be?

Jeff, the beauty school business, the average school should produce about 1.5 million in revenue. So there may be a distortion in any particular quarter, but figure 1.5 million per school. (multiple speakers)

And the earnings contribution. We scaled back on our purchase price multiples. To get into the business we were buying schools at 6 times, 7 times EBITDA. Now that we are in it, we're far stingier and we're spending anywhere between 4.5 and 5.5 times EBITDA. So you can sort of do the math and realize that the future acquisitions should be significantly more profitable than the initial acquisitions.

And can we assume that the operating margins, Paul, on these schools that you have teed up would be similar to the ones you already own?

Yes.

Thank you.

Mike Hamilton.

Mike Hamilton, RBC Dain. I was wondering if you could comment a little bit on trends you're seeing in customer acquisition at Hair Club, particularly with a lot of the emphasis that I'm hearing in advertising on acquiring women as customers, what is happening there?

46% of our new customers last month were women. So that is a good number for us. But the Hair Club business is very stable. We have 22,000 regular customers and it really is an annuity business. They sign up yearly for contracts. So you're talking about a very, very stable annuity type business. You're not going to have a lot of variation.

Thanks.

David Lee (ph).

David Lee, from Porter Orlin. First of all, congratulations on the quarter. A couple of things. One, if I am looking at it correctly, I'm looking at SmartStyle, the Wal-Marts, I understand you have about over 1600 total stores. Out of the franchise ones, it seems like the buyback is about 20% of the beginning franchise. So I'm just wondering why is it such a big churn rate? Not churn rate, but why such a high rate of buyback?

We feel that long-term Wal-Mart will be better served if it has a higher proportion of SmartStyle stores. Our franchisees doing excellent job but the risk factors associated with franchise businesses are different from company-owned businesses. So we would like to over time increase the percentage of company-owned stores in Wal-Mart.

Okay, one more question. If I am looking to cash flow for the year, it seems like you had a pretty good (ph) change in the operating assets and liabilities, jumped about 18 or $19 million mostly due to some accrued expenses and some of the non-current liabilities. Can you just drill a little bit more into those two items?

That is exactly right. A lot of times its timing related. We had expected that -- in most years we expect that our sources of working capital should equal our uses. That in other words, we collect our money well in advance of paying our bills. I think what you're seeing here is that it is primarily a timing related issue, that what we focus on quite frankly is the fact that we have very little need for working capital and as a result we focus on the after-tax operating cash flow that this Company generates. And as we said before, it is coming in not only on plan but highly predictable and EBITDA this past year despite having earnings being off a bit, EBITDA grew over 6%. So again, strong cash flow characteristics with very little need for working capital.

Okay, also just on taxes, you said the expected tax rate is 44, 45% for the year. On a cash flow there is like a deferred income tax outflow of 9.3 million. Can you just tell a little about how the two related or how you gauge it?

I don't think there is any relation to that. Brent?

The effective rate is the result of the nondeductible goodwill.

Right, but on the -- the effective tax rate as we talked about in the conference call transcript came in at 44, 45% entirely due to the nondeductibility of goodwill. But he was also saying something about the deferred taxes?

That is primarily the difference between our change in our deferred taxes -- (multiple speakers)

No impact as a result of the goodwill write-off because again its nondeductible, it's a permanent difference.

Great, thanks.

Mark Roach.

Mark Roach, Vaughan Nelson. Just going over the year, I still struggle with you adding 271 million in revenues on the top line and then making the adjustment that you said during the conference call if you're flat maybe slightly up, adding nothing to the net income line. Given the inflation you have seen with product, cost, things of that nature, and rents and salaries, are we at a point now or going forward if you add 14% to your top line your bottom line is going to at least see some growth, maybe half the growth or I would like to see all of it or maybe even some scalability to this business? Are we at that point yet or are we still struggling with those costs increasing at a rate faster than you can increase your comp stores?

The whole issue relates to comps. We add comps to the year about 0.9% and it is very hard to show unless our comps are certainly 1.3, 1.4, 1.5. And we need 2 points in comps to have double-digit growth. So that is really the primary cause. We had other issues this year such as the hurricanes and the labor litigation and Sarbanes-Oxley and the like. But -- and they were all incremental costs this year but without 2 comps we're not going to get double-digit growth.

Okay, thank you.

Jeff Hummel (ph).

Two questions. I was just wondering if you could help us understand the puts and takes around the amount of strip center additions? You mentioned it might be closer to 600 to 800, just how you think about that pace? And then the second is on the long hair trend, is it just like the weather? Will it just change or is there any leading indicators of a change coming that we could look for?

Well, the first question we talk about 6 to 800 new units and that includes franchising. That also includes Wal-Mart. That includes the malls. It is not all the Promenade strip center division. With respect to the long hair phenomenon, it is like the weather. You just can't predict it. We have been through it before. It does anniversary itself and the aging population definitely helps because as people get older, long hair doesn't make them look very good.

So we have been around 85 years and have (ph) had a same-store sales decrease but we have been through these phases before, the cycles.

Thanks.

There are no further questions. We will now turn the conference back to Paul. Please continue.

Thanks for joining us, everyone. We appreciate it. Have a good day.

Ladies and gentlemen, if you wish to access the replay for this call, you may do so by dialing 1-800-405-2236 with an ID number of 1103 5972. This concludes our conference call for today. Thank you all for participating. Have a nice day and all parties may now disconnect.