Regis Corp (RGS) 2006 Q3 法說會逐字稿

Good morning, ladies and gentlemen, my name is Mary and I will be your conference facilitator for today. At this time, I would like to welcome everyone to the Regis Corporation 2006 third quarter conference call. [OPERATOR INSTRUCTIONS]. I would like to remind you that today, to the extent the Company's statements 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 filing. Reconciliation to non-GAAP financial measures mentioned in the following presentation can be found on their website at www.regiscorp.com. With us today are Paul Finkelstein, chairman and chief executive officer, and Randy Pierce, Chief Financial Officer and Executive Vice President. [OPERATOR INSTRUCTIONS]. I would now like to turn the call over to Paul Finkelstein for his comments. Paul, you may begin.

Thank you and good morning everyone and thank you for joining us.

I'd like to divide my portion of the conference call into four pieces. First I'd like to very briefly review the quarter because most of the financial highlights have been dispensed via our press release. Secondly, I'd like to talk about the termination of the merger agreement with Alberto Culver. Thirdly, I'd like to address several issues raised by our investors relating not only to the Alberto Culver deal, but more importantly to Regis in general. At the same time, I'd like to talk about the current state of our industry, whether or not we are maintaining or losing market share, the long hair phenomenon and what we are doing about it and lastly, talk about our prospects for the future.

Third quarter revenues increased 8% to $604 million consolidated same store sales for the quarter decreased 0.4% which is mainly due to the timing of Easter. On an apples to apples basis, which excludes last year's $38.3 million dollar Goodwill impairment charge and this year's $5.7 million transaction charge related to the terminated merger agreement with Alberto Culver, third quarter operating income increased 8% to $42.7 million. That income increased 2% to 22.3 million and at the upper end of our revised guidance earning just $0.48 per diluted share. EBITDA increased 11% to $72.4 million. We ended the quarter with 11,146 salons, 90 hair restoration centers and 53 beauty schools, a net increase of 78 locations during the quarter and 482 locations compared to a year ago.

Organic and salon acquisition activity led to a net increase of 190 corporate salons during the quarter. Franchise salons decreased by 130 locations and buy backs and closures negated new franchise unit growth. Company-owned salon count as of March 31st was 7,407 stores. Franchise salon count was 3,739. In addition we also acquired 18 schools during the quarter, total debt at the end of the quarter was $597 million and our debt to cap ratio was approximately 42% .

Secondly, let's talk about the termination of the merger agreement with Alberto Culver. Ultimately the termination was a pricing factor. Alberto Culver wanted us to reprice the deal with Regis increasing its offer. We felt that the agreed upon ratio was fair and we did not believe that increasing this offer was in the best interests of our shareholders. Our shareholders were quite vehement that they did not want us to reprice and we were under no obligation to reprice. My own perspective from this transaction was always a want, not a need. Sally business is extremely well run and highly profitable. BSG business, or their distribution business was an exceptionally well-conceived and well-implemented roll-out strategy but we believe it has significant risk factors.

In addition we feel we have huge opportunities going forward to increase our salon business, hair restoration business and school business. Our growth prospects are far greater than theirs, thus another reason not to reprice. We continue to admire the Alberto Culver company and wish them well.

Thirdly, let's focus on some issues relating to investor questions concerning this transaction. We'll first talk about the ability of our company to digest the potential Sallys and BSG acquisition in light of our recent acquisition outside of our traditional beauty salon business. Let's talk about Hair Club For Men and Women first. It's the largest acquisition we've ever completed and it continues to perform at a level above our expectations. They have an excellent management team. Hair Club has made or exceeded its plan every month. Our marketing initiatives are starting to materialize and the Hair Club management team is totally self sufficient and independent. While we at Regis in Minneapolis continue to add value, we run the hair club business small and this business is not a distraction.

Secondly our school acquisition strategy continues to blossom. We now have 53 schools, now in the process of amalgamating the back office function and developing a POS system exclusively for our schools. We anticipate building our first satellite campus locations in fiscal 2007. We have a totally self-contained management team and similar to Hair Club, this is not a distraction.

Our core business, which owns, operates and franchises beauty salons has divisions that are all operated by separate and distinct Chief Operating Officers. The only significant challenge we have is that of hair length and the lengthening of salon visitation patterns, which is an industry-wide phenomenon. This has nothing to do with our ability to manage that which is on our plate. Important to note that Regis continues to gain market share. We have stronger comps than most of our competitors. We feel that we are positively positioned to have significantly increased operating results once the long hair and volume changes to our advantage. We believe this will inevitably happen as the demographics are favorable factors. Older people just don't look very good in pony tails. In addition, other demographic trends favor us as well including the growth of the male Latino population which enjoys more frequent salon visitations.

Another comment made in Alberto Culver's odd press release was the whole issue of governance. I want to assure you that our outside counsel, our auditors as well as the ISS and other governing rating agencies have historically given us very high marks for governance. I have no idea what the Alberto Culver people were thinking other than being very upset that they had to fork over $50 million. Our governance is excellent.

Another issue that investors have brought up relates to our growth. I think we all agree that our potential long-term growth rate without the Sally merger is far greater than with it. If the flat industry-wide same store sales trend continues due to the long hair phenomenon, we might very well be categorized as a mature company in a mature industry. We do however feel that in the event we are in a protracted long hair cycle it will not be long-lasting. We believe we remain positioned to capitalize once fashion changes in our favor.

Now let's talk about 2007. We certainly understand the need for renewed investor confidence in Regis's management. Therefore, we want to moderate expectations and over deliver. We also think it's prudent to allocate capital more sparingly. I would like to share with you the highlights of our fiscal 2004 planning. Quoting our position, sales are expected to increase approximately $150 million or 7% to 2.6 billion. Comps are budgeted to increase 1 to 2% . Excluding accretion from future acquisitions, earnings per share are expected to grow in the range of 2 to 8% from $2.22 to $2.34 per share.

The modest growth in projected EPS is fully a function of comps. Every incremental 1% of annual comps increase adds approximately $0.12 to our annual EPS.

We are committed to heightened efforts to control our expenses, all functions and departments will be affected. We will significantly cut back on new store construction with the exception of Wal-Mart. New builds excluding Wal-Mart in fiscal 2004 were 278 units. 2005, 331 units. We estimate 2006 to be 270 units and we estimate 2007 to be 136 units. Last year we constructed 525 new salons inclusive of Wal-Mart. For fiscal 2006, we'll construct approximately 470.

For fiscal 2007, we're planning to construct approximately 250 Wal-Mart salons and 136 salons outside of Wal-Mart. This is a significant decrease and it will not only save CapEx dollars but interest costs and first-year operating losses as well. However, due to preexisting agreements these benefits will be largely recognized during the second half of fiscal 2007. Thus we believe we should continue to grow our Company, but we are cutting back on our new build strategy and will focus on acquisitions although at a significantly lower rate than in fiscal 2006. This will put us in a position to buy back more stock if appropriate.

However, the biggest bang for our buck continues to be acquisitions and building new stores, in particular, Regis, Supercuts, Wal-Mart and Trade Secret. Obviously capital allocation is important to us. Our Board of Directors will be meeting tomorrow and will be discussing our investment alternatives in far greater depth. We recognize that there are some operating issues, including but not limited to product margins, inventory levels and the like and we are aggressively addressing them. Putting all of this in perspective, the most important issue is service comps. If service comps are below 2% , we can't achieve earnings increases consistent with our near-term expectation of 8 to 12% . Thus we are looking very hard at reducing expenses and modifying our near-term new salon construction plans.

We're also not sitting back waiting for the inevitable change in fashion from long hair to short hair. We are continuing to educate our stylists that long hair requires maintenance. We are broadening services, offering some of our concepts including introducing hair color to Supercuts. We're implementing more customer loyalty programs as well as fine tuning the introduction of hair extensions for upper priced salons and implementing salon price increases.

Makeovers or before and afters continue to be the most important marketing tool in our industry and we'll be far more aggressive in focusing on make overs. It's inevitable that fashion will change and when that happens, we're going to have a gang buster year and we should for a significant period of time thereafter enjoy earnings increases consistent with the past. We do not have a crystal ball. I can't tell you whether or not this will occur in fiscal 2007 or fiscal 2008, but it certainly will occur in the not too distant future. We have a significant amount of new shareholders and they should be able to realize very significant returns in the future.

Randy Pearce will now continue our presentation.

Thanks, Paul. Good morning everyone. As Paul just mentioned, operationally our third quarter earnings of $22.3 million or $0.48 per diluted share met the high end of our revised guidance range for the quarter. I'd like to begin my prepared remarks by giving you a bit more detail behind our third quarter operating results for each business segment of ours, and then I'll follow up with discussing our preliminary fiscal 2007 outlook as well.

So let's start by discussing our segments and by the way you'll see a breakout of our segment performance in today's press release. I'm going to start first with our North American salons. Our North American salon revenue, which represented 84% of our consolidated third quarter revenue increased 8% during the quarter to $506 million. Despite this growth rate, our third quarter revenue came in 4 to $5 million below our initial plan. The growth in our third quarter revenue was due to a 9% year over year increase in the number of company-owned salons that we operated, offset by a 30 basis point decrease in same store sales.

Service revenue in our North American salons grew 9% during the quarter to $348 million despite flat same store sales growth. Product revenue grew 7% in the quarter to $148 million, which included negative product comps of 1.2% . Royalties and fees from our North American franchise salons declined 3% during the quarter to $9.5 million. This slight reduction was largely due to a net year over year reduction of 111 franchise salons and that was due primarily to our franchise buy back program.

Our combined gross margin rate for the North American salons came in at 43.3% in the third quarter. Although this represented only a 10 basis point decline over the same period a year ago, our combined gross margin rate came in well below our initial expectations. This was due to the reduced retail product margins that we experienced in the quarter, largely the result of repackaging of several major product lines. Our third quarter service margin rate for North American salons came in essentially on plan at 42.1% . That was a 35 basis point increase over the third quarter last year. We were very pleased with our service margin rate. We were able to achieve this result despite service comps coming in flat during the quarter this year versus a 2.3% increase a year ago. This improvement underscores our attention to controlling payroll costs during this challenging comp environment.

Our retail product margin rate for our North American salons came in at 46.1% in the third quarter, about 90 basis points lower than the year ago period. As we mentioned in the press release and on our conference call on March 21st, retail product margins were impacted by three factors. First was discounting associated with the repackaging of several top product lines. Second was an increase in promotional sales activity during the quarter. And third, a product mix shift. Site operating expenses came in essentially on plan at 8.6% of sales, an improvement of 30 basis points over the same quarter last year. As you may recall, last year in our third quarter, this expense category included higher than average salon advertising expenditures, which was a timing issue last year.

Offsetting this improvement was a 30 basis point increase in rent. During the third quarter, rent expense came -- or increased to 14.5% of sales. The increase in this fixed cost category was largely due to lower than anticipated sales volume, including comps of negative 30 basis points in the quarter. As a percentage of sales, our general and administrative expense rate improved 10 basis points in the quarter to 5.3% of sales. Despite softer comps, we were able to achieve this slight improvement in rate due to a reduced level of expenditures on marketing collateral material in our third quarter this year.

Our depreciation and amortization expense increased 10 basis points during the quarter to 3.9% of sales. Again, this slight increase in this fixed cost category was due to reduced sales volume in the quarter. The net effect of all the items I just discussed caused our third quarter operating income rate for our North American salons to come in at 12.1% of revenue.

Next I'll review the third quarter performance of our international salon segment. This segment includes not only our Company-owned salons located in primarily the United Kingdom, but also includes our franchise salons located on the continent of Europe. International salon revenue, which comprised 9% of our consolidated third quarter revenue, declined 4% versus the same period a year ago, coming in at $51.8 million. This decrease in revenue was caused by a combination of factors including the shift in Easter and negative same store sales of 1.4% during the quarter. In addition, fluctuation in both the euro and the British pound exchange rates as well as the year over year reduction in franchise locations also contributed to the overall decline in revenue.

The service revenue component of our international segment declined 7% in the third quarter, just over $30 million. Service revenue was impacted by a 4.4% decline in service same store sales. On the other hand, product revenue increased 3% during the quarter, largely the result of positive same store sales growth of 5.9% . Royalties and fees from our international franchisees decreased 8% due primarily to the exchange rate fluctuation of the euro, as well as a 2% decrease in the number of franchise salons open at the end of the quarter.

Our overall international gross margin rate came in slightly better than planned improving 230 basis points, to 44.5% of sales. This overall improvement included a 540 basis point improvement in our retail product margins and a 130 basis point improvement in our service margin despite service comps decreasing 4.4% during the quarter. Recall that the overall gross margin rate for our international salons had been reduced in the third quarter last year due to higher salon supply costs as well as higher payroll costs. As you can see our margins have bounced back nicely.

Negative third quarter comps did put pressure on certain fixed cost categories in our international salon division. For example, our international rent expense increased 70 basis points in the quarter to 19.3%, and our site operating expenses grew 30 basis points to 4.7% . Fortunately, general and administrative expenses declined about a million dollars or about 130 basis points in the quarter to 18.7% of revenue. We had anticipated this type of reduction due to budgeted cost reductions in certain areas, such as franchise advertising costs in the quarter. Including the $38.3 million noncash asset impairment charge that we took during the third quarter last year, our third quarter operating income rate for international salon segment improved about 200 basis points, 7% of sales.

I'm now going to talk about Hair Club For Men and Women. Our third quarter revenue from our hair restoration centers grew 12% to $28 million and represented nearly 5% of our consolidated revenue. However, this business is incredibly consistent and the revenue and expenses for the quarter were in line with our expectations and were quite similar to the results we reported in previous quarters. With operating margins of about 20% or more, we remain very pleased with the performance of this segment of our business.

Next I'll briefly touch on the third quarter performance of our schools. Our school revenue nearly doubled to 18 million during the quarter and comprised 3% of our consolidated revenue. This increase in revenue is largely due to the increase in the number of cosmetology schools we now own and operate. At the end of the third quarter, we operated 53 schools, up from only 19 locations at the end of the third quarter last year.

As you know, we are in the early stages of amalgamating and growing the school business, as we continue to integrate the school growth, we do expect to realize significant leverage inspect operating expenses resulting in improved cash flow and improved operating income. As we go through our amalgamation process, we certainly anticipate that many of the expense line items will fluctuate from quarter to quarter due to the timing of acquisitions and the nature of the expense structure of the businesses we acquire.

We've made the statement before, you've seen this fluctuation in our past quarterly results and you'll notice it again in our most recent quarter. For instance, our third quarter operating margin declined to an abnormally low rate of 12% . Some of this was due to a planned quarter over quarter increase in marketing expenditures to bolster future enrollment. Another factor related to increased expenditures during the quarter for student training materials. We fully anticipate our school expenses will return to normalized level in future periods and as a result our operating margin rate for the school business should return to a rate north of 20% .

Now, that concludes the -- my prepared comments for the individual business segments. We ended the quarter with a total of 11,289 locations worldwide. And that was a net increase of 482 units over the past twelve months. For the quarter, we added a net total of 78 locations. In today's press release, you'll find a detailed table that breaks out our location activity and our counts for each of our salon divisions.

Now I'm going to switch and talk briefly about our fiscal 2007 outlook. As we've done in the past several years, we're including in today's press release a detailed forecast pertaining to our upcoming fiscal year. Similar to prior years, our forecast does not include revenue or accretion from future acquisitions. Likewise our forecast does not include accretion from any share repurchases that we may do. As Paul mentioned in his opening comments, this is something that our board will be looking at but it would be premature to factor that in to our guidance at this time.

You will notice in our outlook that we have tempered our unit growth for fiscal 2007 and Paul spoke to that. Given current fashion trends and business trends, we felt it was prudent to scale back our new unit growth somewhat next year. We still plan to open 325 to 350 new units from scratch, including over 200 Smart Style salons located within Wal-Mart Supercenters. In addition we will be very selective about our salon and school acquisitions. Until we see sustained improvement in our comps, we will grow more conservatively. However, having said that, there aren't too many companies that would describe adding several hundred units next year to be a conservative strategy.

Based on a same store sales assumption of 1 to 2% , we are budgeting earnings from organic growth to increase nearly 8% to a range of $2.22 to $2.34 per share. This EPS computation is based on a weighted average fully diluted share count of 46.7 million shares. Keep in mind that we believe we need same store sales growth in excess of 2% in order to generate positive leverage over our expenses to achieve earnings increases consistent with our long-term growth.

Let me now touch on a couple of our 2007 budget assumptions regarding cash flow and debt levels. Assuming the midpoint of our earnings guidance range, that would be $2.28 a share, we expect our EBITDA to increase next fiscal year to $317 million and our after-tax cash flow to grow to approximately $220 million. Most of our cash will continue to be reinvested back into the business by buying and building salons, therefore, we are forecasting our debt levels over the course of 2007 to be in the neighborhood of $600 million. We do expect continued improvement in our leverage with debt to EBITDA close to two times and our debt to capitalization ratio to be in the 38 to 40% range by the end of fiscal 2007. Once again for a more detailed summary of our guidance, you can visit our corporate website.

So that concludes my prepared remarks. Paul and I will now be happy to answer any questions you have. Mary, if you can step in and provide some guidance, we'd appreciate that.

Thank you. [OPERATOR INSTRUCTIONS]. One moment please for the first question. And our first question comes from Jeff Stein. Please state your company name followed by your question.

Keybanc Capital Markets. Couple questions. First of all, Paul, during the last ten days or so of March, you guys experienced some weakness in your business due to the Easter shift and I'm wondering if you might care to comment on April trends and if the shift in Easter has, in fact, benefited your April business.

Jeff, as you know, we issue comps on a quarterly basis. We just don't comment on a monthly basis, but obviously positive comp in April and the month is going according to plan.

Okay. Can you talk a little bit about Hair Club? You mentioned that you have initiated some cross-marketing strategies. I'm wondering if you could give us a little bit more detail in terms of how you've structured it, what type of reception you've seen from hair stylists, how you're compensating them and perhaps what type of conversion rate you're seeing.

It's really too early to tell, but we have about 250 of our salons in test mode and they're testing two or three different alternatives in brochures and we've had staff meetings and we do incentivize them to -- and shows and we have given some of them checks for several hundreds of dollars when we've closed a sale. We don't need too many sales for it to be highly accretive for hair club. We'll know more next conference call, Jeff, and we'll give you a much fuller update then.

Okay. All right. That's it, thank you.

Thank you.

Thank you. Our next question comes from Mitch Kaiser. Please state your company name followed by your question.

Piper Jaffray. Good morning, guys.

Good morning, Mitch.

I was wondering for the '07 guidance on the product margins, you're assuming some pretty nice improvement. Is that largely due to the impact that you had in the third quarter this year or is there something else going on that you see on the product side?

No, as we talked about on March 21st, we expected our third and fourth quarter fiscal '06 margins, product margins to be impacted primarily because of the repackaging of the four vendor lines that we mentioned. We expect most of that will be pushed through this current fiscal year by the end of June. We've taken steps to make sure that that doesn't occur again in the future and as a result we do expect that margins will bounce back nicely somewhere in the upper 48% range next fiscal year.

Okay, okay. Yeah, that's -- I'm sorry if I misspoke. That was my question. We've seen that Paul Mitchell was -- has been advertising about the authenticity of their products and buying them in professional salons is the way to go, the way to really get the authentic Paul Mitchell product. Are you seeing a push from other vendors as well into that and are you helping support that?

Well, we help support every vendor that really tries to fight diversion. Having said that, we continue to see professional goods sold inappropriately in places like Walgreens and Target and the like. Long term, companies like L'Oreal are having secondary coating on their caps and that coding really can't be tampered with. I think long term we'll get it more under control. I mean, we applaud what Paul Mitchell is doing on the one hand. On the other hand, they continue to have diversion issues. Hopefully they'll be fixed. They've given us every assurance that diversion will be lessened in the Mitchell organization. Time will tell.

Okay. And then just Randy, what tax rate should we assume for '07?

We've got a tax rate built in of roughly 35.5% .

Okay. Thanks, guys. Good luck.

Thanks, Mitch. Thank you.

Our next question comes from Geoff Hulme. Please state your company name followed by your question.

Hi, Porter Orlin Just a two-part question. The first is, I think the resetting of '07 and the way you've done it is very docile and well placed. I'm just curious around your comp expectation of 1 to 2% . I mean, on one hand it sounds conservative but versus recent history given the long hair situation, it's been difficult. So I'm just curious why you think 1 to 2% is conservative.

Well, the international business really had a significant impact on our comps this last year, and primarily because the UK retail economy was just an indulgence. And we believe it was an indulgence, plus it was just too good for too long. The basic dynamics in the UK are just fine. They don't have the same kind of issues that they have on the continent. And we think that the UK will certainly be more normalized and it won't have that kind of a drag. That alone should really add about maybe 20 to 30 basis points to what our comps would be if they weren't very good. So we think we're in pretty good shape

Okay. The UK gives you a head start and then you moderate in the U.S.

Right.

And then my second question, this was already asked to some degree, but -- so on the flushing out of the repackaged product, you now have another month or so of experience, but is it going to be done at margin levels that you thought given the reannouncement of the quarter? I mean, is it basically going out at the margin levels you thought? And then I guess the follow-up to that is inventory levels going forward at the salons, have you given any thought to months of inventory that you need if the salons go forward with the new repackaged product?

Yeah, first of all, things are progressing according to our revised plan. We talked about what our plan was on March 21st and nothing has indicated that we aren't achieving those goals. Some of it will continue to be selling that product, the excess product, repackaged product at reduced margin levels. Some of it will be donated. Any excess product that we have near the end of the fiscal year will be donated. We've factored that into the margins. We still feel could have dent that we should be able to achieve that in Q4 and see margins bounce back next year.

In terms of inventory levels, yes, I think we articulated what we were trying to do primarily to -- on the repackaged lines. In the past, we would make a big splash with a hard launch of all the new -- of the new repackaged merchandise in all of our stores at the same time. What we're going to be doing in the future is more of a soft launch. Only we're going to sell through the existing packaged merchandise at what we hope to be more normalized margin levels and once we've depleted that we will then introduce the new package lines to maintain margins.

So do you have any idea what that will net to in terms of months of supply, the soft launch strategy?

Well, I'm not sure I'm understanding the question. We have -- we have no additional repackaged lines of any significance on the horizon in the next six to nine months. We have estimated that -- and again, I'm -- I don't even want to throw out the number because I think the last time I did it was wrong. But we have made an estimate that the old repackaged line still is several million dollars worth that we're going to flush through by the end of June and then I think we'll be back to what we consider to be more normalized inventory levels at the salon.

Okay, thank you.

You're welcome.

Thank you. Next question is a follow-up from Mitch Kaiser. Please go ahead.

I forgot one, guys. I was curious, I think in the past you've acquired roughly 500 salons per year. And I think you may have tempered that down a little bit. What number should we be thinking about for '07?

Anywhere between two and 350.

Okay, all right. Thank you.

Operator: Thank you. Next question comes from Matt Mcgeary Please state your company name followed by your question.

Sentinel Asset Management. You said in your opening comments something about the degree to which yours is a mature business, may or may not be a mature business. For the sake of argument, the law of large numbers might suggest that your growth over the next ten years might be slower than the past ten years. If that's the case, again, just for argument's sake, given your cash flow dynamics, does it make sense to consider taking this business private as you'd done once before in your company's history.

That was a wonderful experience. You know, the banking environment can be very fickle and can change very rapidly. And we'll do whatever we have to do to increase shareholder value. And you're right, the law of large numbers will create a situation where growth has to be moderated. But assuming we have comps north of 2% , your comment is right on. We're not going to have 15 or 20% EPS growth, but we certainly can have 8 to 12% EPS growth and have a much larger company which could be far more predictable.

So, I mean, we believe that our shareholders can do extremely well because the risk factors are minimal and, I mean, there's no risk of falling competition or technological obsolescence. There is a fashion risk. But a company of our size, soon to be 12, 13, 14, 15,000 units, that could grow EPS high single digit, low double digit, not so bad in today's world. And being a public company, you also have additional benefits in terms of being able to attract and retain good executives. And I think they've come along -- they've done well. The shareholders have done well. We don't have that kind of leverage working for us if we're private and we're so management intensive that we -- I mean, we like where we are.

Fair enough, thanks.

You're welcome.

Thank you. Next question comes from Justin Hott. Please state your company named followed by your question.

Bear Stearns. Question on the Alberto termination fee. Can you talk a little bit about what we -- what the usage of that cash might be? Could we see a special dividend?

Probably not but we are going to discuss that tomorrow, Justin.

Okay. Maybe a little more color on -- you mentioned BSG as a roll up with significant risks. Can you compare that to acquiring salons, why you think your acquisition strategy is better than a high-end beauty retail store strategy?

BSG is not a high end retailer. They're just -- they're a distributor. There are far, far, fewer risk factors acquiring salons that have been in business for many instances 10, 15, 20, 25 years with an existing clientele, locations are good, the name is good. I mean, virtually every one of ours has been accretive very, very low risk factors, especially the way we buy them at 3.5, 4 times EBITDA. We get a 2.5, 3 year pay back. That's very different from a distribution business that has short-term contracts, where those contracts can be terminated at a -- in a very short period of time.

The risk factors with respect to our acquisition of salons are something that we welcome. We have no problem with them. Distribution company, that's another issue. But that's their issue and their problem, not ours.

Okay. And just one more question. I just want to make sure I'm not reading into your initial comments. When you said the deal fell totally apart on price, there's nothing to do all with Alberto wanting a bigger say in running, overseeing the business, no specific corporate governance issues that you would cite?

No, no. 98% was price. It just wouldn't work. Especially with our revised guidance. We would have had -- from a practical point of view, we would have had to give away two-thirds or 70% of our company. No way.

Okay, thanks a lot.

You're welcome.

Thank you. Next question comes from Jay Trager. Please state your company name followed by your question.

Jay Trager from Park West Asset Management. I was wondering if you could give a further breakout on the CapEx for '07 on what the corporate and spending on new salons is going to be.

Yeah, out of the $90 million, I'm going to break it out into several pieces here. Our budget for a new salons is going to be just -- call it $21 million. Remodeling of existing salons, $16 million. Maintenance CapEx , which I'll talk about in a little bit more in a second here, we've got $37 million.

And then when you look at Hair Club and corporate IT projects combined, that's going to be the balance. Call it 15 million. Our maintenance CapEx , we will generally throw in not only the amount that I gave you, but also capital that we allocate to developing Smart Style salons, which we don't view as discretionary, which is, again, about another 7, $8 million.

More stores in Wal-Mart.

Okay. And then also, two questions on the balance sheet. Had good will increased by about 40 million during the quarter. Could you talk a little bit about that and then also receivables came up by about 10 million from the previous quarter.

Yeah, virtually all of it relating to the schools that we've acquired. Good will will grow always because of acquisitions through the first nine months we've acquired 191 units. However, the 29 schools that we purchased, most of them in the third quarter caused good will to come up. It also caused other intangible assets to grow nearly $8 million as we allocate some of the purchase price to brand names and license agreements for the schools that we have to amortize. Likewise the receivable balance grew 12 million bucks most of it because of tuition receivables on the 18 new schools that we added in the third quarter.

Okay, thank you.

You're welcome.

Thank you. Next question comes from Dax Lassus. Please state your company name followed by your question.

Gates Capital Management. If I was listening correctly. You said basically for 2007 you'd opened 325 to 350, you'd acquired somewhere in the neighborhood of 200 to 350. What do you expect for closures for 2007?

That's always -- let me tell you, that's a little tougher to estimate, but the numbers we're looking at, if you say that on the 350, the net increase should be maybe 225 to 250, so 100, 125 closures and generally these enclosures are at the end of the lease term. As it relates to acquisitions, generally speaking, there will be a very, very small piece of the acquired stores that we will close and we know that going into the transaction.

Well, franchisees will also add a couple of hundred stores. Right, okay. And then as far as Wal-Mart goes, are the stores you have in Wal-Mart the Smart Style Cost Cutter, are those only in supercenters?

Primarily. Primarily. There would be 40 or 50 in regular Wal-Mart stores. We acquired and we acquired 154 from Stevens Financial in May of '96.

Okay. And then how many of the Supercenters are you currently -- I'm just trying to get -- can you give us a sense of the opportunity for filling up your Wal-Mart kind of store base and how much room there is to grow there?

We're budgeting about 215. We'll be 20 short or 20 long. As you know, Wal-Mart builds Supercenters from scratch. They also expand existing Wal-Mart stores, and when they expand, we have an opportunity there as well. There won't be very much backfill. Realistically, we're in 85, 90% of their supercenters and that number probably will slightly increase over a period of time, but most of the new builds will relate to expansion of existing or brand new supercenters.

All right. I don't think I've -- I don't think I've heard too much talk about -- or I've seen too much in the way of share repurchases in the past. Can you give us a sense of what sort of leverage you're comfortable with or if you would leverage up to purchase shares or are you just talking about using excess cash flow?

We think there's room for some additional leverage, but as you know, we're a fairly conservative company, and as I mentioned, we have a board meeting tomorrow and if we have any announcements to take, we'll have a release.

Excellent, thank you.

But there will be some additional leverage, obviously, if we have a repurchase program.

Right, thank you

You're welcome.

Thank you. [OPERATOR INSTRUCTIONS].

And our next question comes from Nick Newland. Please state your company name followed by your question.

Crow Capital Market. I wanted to hear maybe a little more on your growth strategy with respect to the schools and if you're pursuing an organic versus an acquisition strategy and if you've identified any particular challenges to organic growth.

Yeah, it's a very regulated business. The Department of Education is very involved and from a practical point of view, it's very difficult to build new stores organically, that is, unless we have at least twelve months ordering statements behind us and some money to the schools anew, that we only have limited opportunities, but we have identified perhaps two or three for fiscal 2007 and maybe three or four or five for fiscal 2008, but the school chains that we have recently acquired within the last six months, for instance, they will not be organic growth. They will not be organic growth for at least two years.

Thank you very much.

You're welcome.

Thank you. If there are no further questions, I will turn the conference back to Paul. Paul, please go ahead.

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

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