Brand House Collective Inc (TBHC) 2011 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Kirkland's Inc. second-quarter 2011 conference call. (Operator Instructions). As a reminder, this conference is being recorded, Friday, August 19, 2011.

I would now like to turn the conference over to Mr. Tripp Sullivan of Corporate Communications. Please go ahead, sir.

Good morning and welcome to this Kirkland's Inc. conference call to review the Company's results for the second quarter of fiscal 2011. On the call this morning are Robert Alderson, President and Chief Executive Officer, and Mike Madden, Senior Vice President and Chief Financial Officer.

The results, as well as notice of the accessibility of this conference call on a listen-only basis over the Internet, were released earlier this morning in a press release that has been covered by the financial media. Except for historical information discussed during this conference call, the statements made by Company management are forward-looking and made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties which may cause Kirkland's actual results and future periods to differ materially from forecasted results. Those risks and uncertainties are more fully described in Kirkland's filings with the Securities and Exchange Commission, including the Company's Annual Report on Form 10-K filed on April 14, 2011.

With that said, I will turn the call over to Mike for a review of the financials. Mike?

Thank you. Good morning, everybody. I will begin with a review of the second-quarter financial statements and then cover the other topics mentioned in today's press release.

For the second quarter, net sales were $89.7 million, up 0.2% versus the prior year quarter. Comparable store sales decreased 8%. Average sales per store were down 5.5%. The comp sales decline was driven by a 4% decline in transactions and a 4% decline in the average ticket. The decrease in transactions resulted primarily from a decline in traffic counts. The decrease in average ticket was the result of a lower average retail selling price, partially offset by an increase in items per transaction. Comp sales results were relatively consistent across geographic areas of the country and consistent with the pattern we have experienced in the last several quarters. We had better than company average results in California, Florida and Arizona. Results were below average in Texas, Louisiana and Georgia. Merchandise categories contributing most to the comp decline were alternative wall decor, decorative accessories, lamps and frames.

E-commerce sales, which are not currently included in our comp base, were $1.6 million for the quarter. The business launched in November of 2010, so there were no e-commerce sales in the prior year period.

In real estate we opened seven stores and closed six stores during the quarter. At the end of the quarter, we operated 294 stores. 241 of these doors or 82% were in off-mall venues, and 53 stores or 18% were located in enclosed malls. At the end of the quarter, we had 1,954,095 square feet under lease. That is a 10.4% increase from the prior year quarter. The average store size was 6647 square feet, which is a 7.4% increase over the prior year quarter.

Gross profit margin for the second quarter decreased to 34.4% of sales from 38.9% in the prior year. The components of reported gross profit margin were as follows. First, merchandise margin decreased 295 basis points as a percentage of sales. The large majority of this decrease in merchandise margin was the result of higher rates, promotional activity and markdowns as compared to the prior year.

In addition and as expected, higher inbound freight costs negatively impacted the margin during the quarter, but by only 33 basis points as we began to see the very early impact of lower container rates. As we entered the third quarter, the portion of our inventory pertaining to inbound freight has declined versus the prior year. As such, we expect to benefit from lower freight costs in our merchandise margin during the second half of the year as these goods sell through.

Secondly, store occupancy costs increased 44 basis points as a percentage of sales. This increase was primarily the result of a decline in comparable store sales and a reduction in the number of re-negotiated leases versus the prior year.

Third, outbound freight costs increased 87 basis points as a percentage of sales, reflecting de-leverage and an increase in diesel fuel costs, as well as shipping and packaging costs associated with e-commerce.

And lastly, central distribution costs increased 25 basis points as a percentage of sales.

Operating expenses for the quarter were $28.8 million or 32.1% of sales as compared to $26.6 million or 29.8% of sales for the prior year quarter. Deleverage from the comparable store sales decrease lead to an increase in store wages as a percentage of sales, accounting for 69 basis points of the increase in operating expenses. Stock compensation charges increased 25 basis points as a percentage of sales as a result of the increase in valuations associated with stock option and restricted stock grants. The remainder of the increase in the operating expense ratio is primarily due to deleverage.

Depreciation was $2.7 million versus $3.1 million in the prior year quarter, a decrease of 44 basis points as a percentage of sales. The year-over-year decline in depreciation expense is primarily the result of extensions of store leases for which the fixed assets had already been fully depreciated. The capital expenditures for information technology that have been made in recent quarters will not impact depreciation until the associated projects go live. We reported an income tax benefit of $118,000 or 19.7% of the pretax loss for the quarter compared to an expense of $1.9 million or 37% of pretax income in the prior year. The decline in the tax rate was primarily a result of the proximity of pretax results to breakeven and the resultant impact on the rate.

Net loss for the quarter was $0.5 million or $0.02 per share as compared to net income of $3.3 million or $0.16 per share in the prior year quarter.

Turning to the balance sheet and the cash flow statement, inventories as of July 30, 2011, are $47.7 million, which is within our guidance range of $46 million to $48 million. Inventories amounted to 162,000 per store as compared to 43.4 million or 156,000 per store in the prior year. These numbers reflect an increase in total inventory of 7% and an increase of 6% on a per store basis. This compares to a 10% year-over-year increase in total square footage and a 7% increase in the average store size.

As of the end of the quarter, we had $75.1 million in cash on hand, an increase of almost $10 million versus the prior year period, despite a period of heavy capital investment. No borrowings were outstanding in our revolving line of credit.

Capital expenditures for the quarter were $8.7 million, consisting primarily of information technology investments and the construction of seven new stores. For the year to date, capital expenditures were $11.8 million, primarily related to new store construction and information technology projects.

As noted in our press release, we recently closed an amended and restated credit agreement with our banking partners, Bank of America and Wells Fargo. Similar to our previous arrangement with the banks, the facility is an asset-based structure allowing us to borrow up to $50 million subject to borrowing-based limitations based upon the levels of inventory and receivables minus reserves. Amounts outstanding in the facility bear interest at LIBOR plus a margin ranging from 175 to 225 basis points depending upon the level of excess availability at that time.

We also pay a fee on the unused portion of the facility. There are no maintenance financial covenants under the facility, and it will mature in August of 2016.

At closing, we had no borrowings outstanding under the facility. While we are not anticipating usage of the facility in the near term, we are pleased with the renewal in terms of its costs and its flexibility in providing us additional liquidity.

This morning we also announced the authorization by our Board of Directors of a share repurchase plan providing for the purchase in the aggregate of up to $40 million of our outstanding common stock over the next 18 months. Shares may be repurchased from time to time and open market or negotiated transactions. Stock repurchase program does not require the Company to repurchase any specific numbers of shares, and the Company may terminate the repurchase program at any time. As of July 30, 2011, the Company had 20.2 million shares outstanding.

Despite the recent softness in comparable store sales trends, our balance sheet strength, our ability to generate cash and our positive long-term outlook for the Company all provide us an opportunity to not only continue to invest in the business through new stores and technology improvements, but also return value to shareholders through share repurchases.

Moving to our outlook for the third quarter and the second half of fiscal 2011, given the early trends in August, we expect third-quarter comparable store sales and earnings results to be very much like the second quarter just completed. Total sales and merchandise margin percentage should both be higher than Q2, given the increase in new store activity and the seasonality of the business. However, these factors will be offset by increases in occupancy costs and operating expenses due to the increase in new store activity and the pre-opening costs associated with new stores.

On the balance sheet side, we expect inventories to range between $60 million and $62 million to end the third quarter. Excluding assumptions of share repurchase activity, cash balances will decline somewhat from Q2 levels as is typical as we approach the peak season. For the full year, we expect to open approximately 15 to 20 net new stores representing square footage growth of 9% to 12% versus the prior year.

As we have indicated previously, much of the new store activity will be weighted towards the third and early fourth quarters. Store closings for fiscal 2011 primarily relate to relocations. Relocations have been a bigger part of the class of 2011 new stores, resulting in a lower number of net stores added to the base this year than originally anticipated.

For the full year, from a cash flow standpoint, we expect to fully fund our net store growth and technology improvements through the cash we generate from operations. We expect total capital expenditures to be between $24 million and $27 million for the full fiscal year. We currently estimate that approximately $14 million to $16 million of the total capital expenditures will relate to new store construction and $6 million to $8 million will relate to information technology investments with the balance of our capital expenditures relating to maintenance and storm merchandise fixture enhancements.

Absent any assumptions for potential share repurchase activity, we would expect to have between $90 million and $100 million in cash and cash equivalents on hand at the end of the fiscal year.

Throughout fiscal 2010 and thus far into fiscal 2011, our new store openings have been very strong, eclipsing our internal expectations. With our new store and square footage growth plans for the back half of 2011, we anticipate continued success in store openings, which should serve to help our earnings results, particularly in Q4. And we still, as is normally the case with Kirkland's seasonality pattern, anticipate generating significant cash flow during Q4. However, given the current trends in our business and the uncertain economic outlook heading into the holiday shopping season, Q4 results are difficult to predict at this time. As a result of these factors, we will be in a better position to provide details on our fourth quarter in the next quarterly announcement we have, which is in November.

Thank you and I will now turn the call over to Robert.

Thanks, Mike. Our second-quarter results were not what we had hoped. Sales were weaker than anticipated, but merchandise margin was a major disappointment as we had to promote extensively throughout the quarter to acquire the sales. Markdown rates were up approximately 10% over the prior year period. Such gross margin percentage results, combined with down traffic transactions and item retail plus flat conversion, will produce such results.

Continued weakness in our peripheral wall categories, that is other than framed art and decorative accessories, were responsible for much of the decline in performance and merchandise for the quarter. Framed art, the subject of much attention within our Company over the last several months, had mixed results, down mid-single digits in comp sales, but with much improved gross margin results driven by a lower markdown rate and a higher initial markup.

Surprisingly, the category performance during the quarter was driven by greater than $100 art, while under $20 and some medium-priced art classes slowed, intuitively opposite given the macroeconomic conditions. We do expect this important category to improve further in the third quarter as our inventory position improves in the most successful subclasses, and we continue to constantly insert new images and framing construction and expand the styles offered.

The other major classes of wall art, shadow boxes and wall metal continue to struggle during the quarter and are expected to experience continued downward comps in the third quarter as we adjust inventory levels and SKUs to the level of our business, which reflects diminished demand.

Another major wall category, mirrors, did reasonably well on the sales line, but experienced margin pressure to acquire the sales. Second-quarter mirror results were notable for strong comps and basic programs and lagging comparable sales and fashion offerings, largely price and macro-driven in our opinion.

The entire wall category gets significant attention in our Company as is deserved by its historic share of business. We will continue to adjust inventory levels, tweak the SKU offering as to newness, style and number, experiment and develop key item programs to drive the top line, and drive success with investment where we find it and pull back the inventory plan where we don't.

The decorative accessory and lamp business each had success in some subclasses and notable declines in others. Going forward each business will feature significantly more new product, fewer SKUs and more focus on new construction materials, style and scale. Unit scale and average unit retail were distinct opportunities for expected improvement in both categories based on our recent experience and analysis.

Our business continues to be fairly solid in floral, furniture, garden, textiles and gifts. We enjoyed strong second-quarter results in floral and are optimistic about the prospects for our seasonal floral offering for fall, Halloween, Harvest and Christmas. Pre-lead items continue to drive this category business.

Based on our first-half success, furniture will be a bigger part of each second-half merchandising event as we make extensive new product introductions with expected improvements focused on quality and style and in some cases function. Accent furniture and seating remain a focus.

Recent success in storage-related items has been encouraging. Textiles provides substantial sales and variety to our product mix and will continue as an area of investment and feature extensive new product development and support other merchandise events, as well as being the feature in others.

Early third-quarter sales results are not yet definitive indicators for the level of acceptance of our seasonal and gift product for the back half, but we are optimistic about their customer reception. Halloween and Harvest sales season-to-date are on plan and comping strongly versus last year. Based on last year's strong results in both sales and margin, we bought the seasonal decorating and seasonal gift groups up to last year slightly over 10%, also furnishing a slightly improved initial markup. We believe we can improve the quality, scale and look and decorating with anticipated stronger average unit retails.

Our e-commerce business continues to develop as planned. We are very pleased to have added a highly talented and respected retailer and e-commerce professional to head this area of our business, Terry Atwood, recently of Academy Sports. Terry will give us great leadership and efficient direction as he is very experienced in developing this channel from the ground floor. We expect additional personnel investment in the coming months to drive the new opportunities and capabilities available to us. We are still very early stage in the development of this channel. We remain focused on the very important twin objectives of SKU and platform development. We are trying to set realistic goals for sales trajectory and conversion performance. A seamless customer experience involving both our brick-and-mortar stores and the Web store in serving our customers is an important part of our future, and we will try to provide more visibility as to progress and our near and midterm goals as we push forward.

As Mike said, new store openings remain strong, but the pace is lagging our plan. In our last report, we suggested that leasing activity was slowing for a variety of factors and adjusted our expected net new store openings to 20 stores. Given continued space availability issues, we now believe that net number will fall between 15 and 20.

In our experience to date, deals are not as yet particularly more costly, except in the California market, which is no surprise. Timely breakup of larger spaces remains one of the industry's prime problems for our planning and executing and construction schedule. We continue to work on a large group of new store deals and are optimistic that we will eventually get the great majority of such stores leased and opened. We will move as quickly as possible, but the constant for Kirkland's is to continue to be very cautious on all store deals and only take what we carefully vet and believe is a long-term good deal. In other words, only the right deal in its time.

Our customer is middle-class with average income. Jobs and housing values are important to their financial lives. Therefore, we expect consumer is going to be careful with their spending until confidence is restored. We will watch trends carefully and adjust our business accordingly. Everyone interested in the state of the financial markets and Kirkland's is very aware of the uncertainty across markets and its possible effect on consumer confidence and shopping activity.

Kirkland's is well-positioned with its balance sheet, lack of debt, consistent cash generation power, and an improved store base to be an important part of consumer choices. We are confident in our financial position, market niche and merchandising ability to be able to navigate these conditions as is evidenced by our stock buyback announcement earlier today. We cannot make the customer feel better about the state of the economy or their families' prospects for prosperity and safety in such uncertain conditions, but we can execute and deliver our message better in the space with the opportunities we have, and that is our intention.

Thank you for your time and interest in Kirkland's. Operator, we are prepared to take questions.

(Operator Instructions). Brad Thomas, KeyBanc Capital Markets.

I wanted to first ask about the share repurchase program. First of all, let me applaud you guys for putting that into place. I wanted to try to understand what some of the factors were that would govern the rate of repurchase that you might put into place. It sounds like you're still optimistic about cash flow for this year and your year-end cash balance. What is it that could drive you to being a little bit more aggressive with that repurchase versus what the factors it could be that would maybe make you be a little bit slower with that rate of repurchase?

Well, first of all, the amount of repurchase the way we have structured this is limited by SEC requirements. So there is that. But we view this as cash that we had on our balance sheet that we could put toward this extra excess cash given where we have built the balance sheet to. And we will be as opportunistic as we can in terms of where the share prices are, and that is a big factor in this. So we will move through it as quickly as we can depending on where the shares are. (multiple speakers) -- reporting activity on that quarterly.

Okay. And to follow up on that, the limitations in terms of how much you can repurchase, if you look at what your volume is, do you have a sense for what the maximum amount would be per quarter that you would be able to repurchase?

I think it is roughly in the range of 40,000 shares a day given the trailing volume, the average volume, which has been in the 160,000 range. The limit is 25% of daily volume.

Got you. That is helpful. Thanks, Mike. And then I wanted to follow up -- (multiple speakers)

Brad, just to clarify, that would be on open market activity. That would not include privately negotiated transactions.

Got you. And are you looking to put into place an agreement to take care of some of the share repurchase?

Well, I mean I think we are just going to have to watch that how it goes. We will -- if there are opportunities, we will evaluate them at that point.

And then turning to the impact from the lower container rates, now at this point it would seem that you have a pretty good idea of what your cost of goods sold would be through the third quarter and the fourth quarter. At the rate that you paid, are you able to quantify for us the magnitude of the benefit in the third quarter and the fourth quarter from lower container rates year over year?

Based on what we are seeing today, which I want to caveat that that could change, I mean it is a dynamic marketplace and the rates can move. But knowing what we know today, it could be in the range of 50 to 100 basis points to the positive.

And is that for the --

That is for year over year.

And the fourth quarter?

Yes, I think it would build as it goes based on again what we know today. What is in the inventory, you can see, if that inventory sold through, that is the level we would see an improvement.

I think I would also mention that we know now what is going to happen on peak season surcharges up to about September 1, but we don't have any visibility beyond that. So it is a little difficult for us to go much past third quarter on what is going to happen with those rates.

Okay. And then just to follow up lastly on the inventory side of things, you did have a little bit higher level of markdown here in this quarter. If spending continues at the pace that we are seeing right now, when you look at what your orders have been, what happens to the level of markdowns in the third quarter and the fourth quarter? Is it in a position to get a little bit better, or is there some risk that things could get worse from the pace that we saw here in the second quarter?

I think we are constantly, literally daily by adjusting orders and our receipt plan are trying to allow for what we see is happening in the business. I don't anticipate us having a substantial inventory issue in either the third or the fourth quarter. I think we have that well under control, and I think that is something that we do well.

So relative to the second quarter, Robert, do you think you're in a better position to go into the third quarter?

I do. We said in our script and I think in the release also that we thought we were well-positioned on the inventory for the beginning of the third quarter and the important second half.

So I think we will just see how it plays out now. I think we feel better -- we said we already feel better about what the margin will be in the third quarter. So I think you can take it from there.

Sounds good. Thanks so much, guys, and best of luck.

David Magee, SunTrust Robinson Humphrey.

I just wanted to talk a little bit about the traffic pattern in the quarter. Being down 4 is somewhat of a step down from what you saw in the first quarter. Was there a comparison issue with that, or do you think that's just more of a sector issue? How do you view that?

Well, I view it as disappointing first. Traffic had remained relatively steady up until that point. I think a bit of the traffic trend was in the back end of the quarter when we were in the clearance end of the business, and I don't really know how to interpret that. I think obviously the better you do with your merchandise and the better your message hopefully the traffic follows. It seemed that our traffic was very much affected by the level of promotional offer that we had in front of the customer. We could clearly drive business on some days with an offer, and if we did not, it was like the customer was waiting for the next. And so I think there is some chance that we may have overpromoted ourselves a little bit in the second quarter. You learn as you go, and hopefully we will handle that better as we finish the year.

Are you sensing that you are being impacted by the actions of competitors out there, promotions (multiple speakers) companies?

I think there are a lot of promotions right now, and I think we are evaluating how to react to some of those. A lot of our competitors engage in a different sort of pricing mechanism than we do, and they are able to message a substantially larger discount than we are relative to the price of certain groups of items. And so I think to some extent the inquiry that we made with our customers indicate that they would like to see more promotional activity at a higher rate, and that would be true if you ever -- any time you ask a customer.

So I think we have to look at a little bit about when we plan to promote, how we go about that so that we provide the most inducement that we possibly can and still maintain the margin return on those items as we offer them up for sale. So we are evaluating that very carefully.

Is there anything to be done on the marketing side perhaps to generate traffic?

I think always there you can do more and hopefully do it better. We are marketing as we have since the beginning of 2008, and that is substantially through the Internet, a lot of it through e-mail and then social sites, and then, of course, what we do in store. We don't have a direct-mail base as some of our competitors do. I think I wish we did, but that is something that takes a while to develop, and I don't think it would provide us if we began that today, I don't think it would provide any near-term help.

So I think our opportunity is to understand how often the message and what the content of that message should be and to continue to press to add to the group of customers that we are speaking to on a multiple times on a weekly basis. You can message too much over the Internet with customers. We know that in asking them about their experience. So I guess that was the long answer. The short answer is there are always marketing opportunities to do better to drive traffic.

Thanks, Robert, and the last question I have just has to do with just the fourth-quarter visibility. I know that the macro environment is uncertain right now, but I also note that over time it seems like in more years than not, even during difficult periods, you all tend to have a somewhat stable fourth quarter, and this year the comparison is not very difficult. I'm curious if you could talk about maybe the dynamic about the fourth quarter that might in and of itself give you a little more stability?

Well, we clearly do have a little bit better comp comparison to work against. I think the fourth quarter you can have a decent fourth quarter if your seasonal merchandise does really well, and we have had the experience the last couple of years of that happening. And we would expect given what we are going to offer this year that we expect that to happen again. We are optimistic about its salability and its productivity. When you have a really great Christmas is when your core merchandising is also working extremely well along with the seasonal merchandise.

We have planned and sequenced it somewhat differently this year to be more responsive to things that are going on in the marketplace and to have some hopefully -- push some of the business that we usually see around Thanksgiving weekend, Black Friday weekend a little earlier into the month, and give us a little bit more opportunity to stand out in the crowd. I think the post-Christmas sales activity will be sequenced a little differently. We will still have an after-Christmas sale, and we will still have a major sale event. But hopefully we will be able to improve on the opportunity with customers there that they will see something a little different this year.

So I think we feel good about the fourth quarter, as good as you can feel right now knowing what our history has been and knowing what the macro environment is. And it's just a little hard to say, gosh, we will be at this level or that level right now. We might know of a lot more if we see markets stabilize nicely over the next couple of weeks. But I thought that was beginning to happen until yesterday. So --

We are working on that -- (technical difficulty)

Anthony Lebiedzinski, Sidoti & Co.

In the press release, you talked about the new merchandise initiatives. I was wondering if you could give us some more details as to what types of products and the timing of those new product introductions?

Well, I think most of the -- we will be doing some things around beginning, late third quarter to the beginning of the fourth quarter. We will be doing some things around the cash register area in our store, which we hope will be helpful to sales and will help drive a little bit larger ticket and drive more items.

We have done a lot of new development of product for the third and fourth quarter, and we are putting those in in some different events, which we think will be well received. We have just gone through a storage and organization event, which is something we have never done before, and it has done extremely well. We will be focusing on some kitchen event and a bed/bath focus. We do things much differently there than most do, and when we have done these in the past, they have been well received, and we expect that they will be again.

We have a lot of fall decorating initiatives that will be in the store beginning in the third quarter, and we feel good about that. As we go deeper in the fall, we will be introducing an event thing around tailgate and football. It will not be a large number of SKUs or it will not run for a very long time, but it is just an example of some different things that we will be doing that we have not introduced in the past.

Okay. That is helpful. As far as the system initiatives, point of sale merchandising system, could you give us an update on how you stand?

On the point of sale, we are on schedule as we talked about on the last call to roll a significant portion of the store base if not all this early fall in the quarter. We are in the midst of a pilot, we are evaluating it daily, and if all goes well, we will continue with that and get it done.

So we have already rolled out new hardware to all the stores this year, so every store now has new registers and back office equipment that supports this software rollout. So it is just a software piece that we are working on now and have a plan to get that done this year.

On the merchandising side, the Oracle system that we are implementing, that project is in testing right now. We do not intend to have that live for this season upcoming. That will come after the season early in 2012. So we are in the midst of that, a lot going on, a lot of effort being put to that right now, and we will obviously have more to report on that next quarter. But those are the two major IT initiatives that we are in the midst of completing right now.

Got it. Okay. And it looks like you tweaked up your CapEx assumptions a little bit. I just was wondering if you could tell us the reason for that?

Sure. We ended up purchasing some of the registers that we did send to the stores outright rather than leasing. We just financially speaking with the tax deductions set up the way they are for 2011, it made more sense for us to go that route on some of it. And so that is what that relates to.

Alex Fuhrman, Piper Jaffray.

Just a couple of quick questions for you. One, I don't recall if any of you have traffic counters in your stores, but I was wondering if you could talk a little bit about what conversion was like in Q2 relative to Q1 and how that trended throughout the quarter?

And then, also, just building on this POS system that you are rolling out, the software from now, where do you really see the opportunity for that? Is that more of a labor scheduling opportunity, or is that more of a way to have more customer information on record for your store associates? Whatever you can frame up how we should think about how that can benefit the operation would be helpful.

Okay. On the traffic question, we do have traffic counters in every store, and on second quarter we said in our script the traffic was down about 4% in Q2 relative to Q1. I think traffic was flat to maybe down one in the first quarter.

On the conversion side, we were essentially flat on conversion year over year in the second quarter. So we can measure that and do. Conversion is a big focus of our store group as well as everybody here because there is a lot that goes into converting the customer. So that is the answer on that one.

On the POS system improvements, I mean, first of all, cost of ownership was a big consideration when we embarked on the project. We had a system that was so customized that it was hard to maintain, and it was very costly. So that was one reason that we did this.

Another thing it will do for us is it will give us true real-time sales data. Right now we are polling results nightly going back and forth from the corporate office with pricing and then results. That is a big process that takes a lot of time, and we will have real-time data under the new system.

Labor scheduling is a big opportunity. It will come more next year as we add modules to the system, but work force management was one of the reasons that we were implementing this system. So we would anticipate some help with store payroll going forward once we get this implemented.

And then I think the other point I would make is just with a new system that is up-to-date, I think it gives us more flexibility going forward with emerging technologies to take advantage of it.

Great. That is really helpful. Thanks a lot and good luck.

Bill Dezellem, Tieton Capital Management.

I have a group of questions. The first one, broadly speaking when you look at your comps, do you view that your current problem is product-centric, or do you sense that it is more the merchandising of that product?

It is hard to separate the two. They are all part of the sale and the appeal to the customer that causes them to reach in their pocket and spend the money. I think it is some of both. We have been in the midst of reviewing and revising and reconstituting the group that does the visual presentation within our store, and I think we have made progress with it. But it is certainly not where yet we want it to be.

So I think that is still an opportunity, and I think there is an opportunity around product to be putting more investment on things that are successful and pulling back from trying to drive some businesses where we have been very successful in the past, but demand may have waned a bit. So I think it is both product and the presentation of it.

And then next question, if we heard correct in your opening remarks, California, Florida and Arizona were three states that benefited your comps, and those are clearly the three poster childs for the housing debacle. So would you share with us maybe a bit of the history behind those states in terms of what you have been seeing and why you think that those are now your best markets? Is that something that is more Kirkland's specific, or are you sensing that there is a change taking place in those economies? Very interested in your feedback there, please.

Well, one thing you can certainly say is there were some maybe deeper bottoms, especially in Arizona and Florida, to begin to compare against. And so I think to be fair you have to start with that assumption.

California has been a little bit more of a mixed bag about that. I do think that we have outstanding leadership in our stores in all three areas, and we also have a lot of leasing activity that has improved our store base in Florida. And we have some great stores well located in the Arizona market, and we have done extremely well in California. We have been very careful about inserting stores, and so I think those mainly are about lower comparisons, really good leadership and a solid store base. I don't think there is any magic to that. It is just blocking and tackling.

And some of that blocking and tackling, do you view that as repeatable with your other locations, or are there lessons that you can learn from the leadership in the store locations? Clearly you don't want to learn any lessons from that lower bottom, but the other two factors?

Well, yes. I mean I think any time that you are led better, you typically perform better given the same level of consumer activity. So I am -- I think we are very much about constantly trying to challenge and improve the way that we run stores, and we have a very dedicated and committed store leadership group, and we are building inside that store group some, I think, long-term solid capability. We are trying to improve talent, we are trying to change the culture of the business to be more consumer-centric, and I think we are accomplishing some of that. At least our -- when we talk to customers about the store experience, it has been a positive thing for the change that we have been able to accomplish over the last year or two.

So yes, there are lessons to be learned. I think to some extent we will see a return to strength in some of the lower Southeastern states, Georgia and Louisiana, and Texas as the economy -- or if and when the economy improves. I think it's a little murky right now to say that we have a recovery or that there is one in sight. But I think when that happens, we will see that business get better.

Thank you. And then you also made reference in your comments the store relocations have been greater this year than you originally anticipated. Would you please discuss why that is?

It is just opportunistic. You don't have a site to relocate out of the mall and then suddenly you do. A vacancy occurs or suddenly the landlord decides to go ahead and break up a Linens or a Circuit City or some other space that has been vacant for a while because enough demand for the space at the right price suggests that that is a good thing to do for a return on investment for them.

So I think it is purely opportunistic. We are very focused on relocating mall stores to better venues that give us a greater opportunity to do more and more profitable business, and that will continue.

We just don't have that many left. We are down around 50 or slightly below that now, and we expect that will diminish fairly rapidly over the next couple of years.

Ross Berner, Weintraub Capital.

Can you give a little more clarity around the reduction in cost on the inbound container side, and is that a sustainable reduction in cost? You said 50 to 100 basis points. Is that on total revenues?

Yes, for the back-half, that would be on -- comparing what we would anticipate this year to LY's back-half, yes.

I think it is a signal that demand is down at the source in China. I mean the inbound does not go down if there is a large demand for the containers and the births on the ships. So you take that signal for whatever you believe it means to the retail business over the next six to 12 months.

Were you under the impression that maybe this would have happened sooner, the reduction in inbound costs, or were you -- has it been sort of pushed out a little bit longer in terms of you reaping some of those benefits?

Not really. I think actually I'm a bit surprised that it has happened as quickly as it has. The industry, the shipping industry, reacted rather rapidly last year. I think they tried to match up the available ships and containers to the level of demand. And I would have expected that they probably erred on the far side because they were trying to drive up pricing. So I was a little surprised that we have not seen peak season surcharges drop in as rapidly as they normally do.

Are there any other areas of opportunity in terms of cost saves, maybe renegotiated lease with landlords? Are you through most of that, or is that still an opportunity?

We are through most of it. There is still a handful of stores that have not yet reached the point where we have a lease event. That is a fairly small group. And then we look at each one of the mall stores every year and its level of business to try to determine whether or not it justifies going forward. In some cases we will continue to renegotiate those.

And we are still very aggressive on that front, and as we have options come up, we have kickout opportunities. We are pursuing that wherever we can. We have moved through a lot of that activity the last couple of years.

Right. And back to the merchandising question, which everyone seems to be asking, I mean some of your companies that would be lumped into your comp group, like a Pier 1, put up double-digit comps on double-digit comps, and sort of implies that the people are out there willing to buy if the merchandise is right. Does that give you more confidence that it is just a merchandise issue for you or you still haven't gotten the mix right?

I don't know enough about their business and the level of their business to know how I should feel about the double-digit on top of double-digit, how far the actual base dropped. I know that we had very similar results because we recovered a year, a year and a half earlier than most of the sector in 2008, 2009 and the early part of 2010. So how sustainable that is I really don't know because I don't know their business.

There is not much more I can say about the merchandising, except to say big focus a lot of time, a lot of energy. We understand we are a merchandise company, and that is what we sell, and we are working on it.

Okay and a couple of quick ones. On the buyback you mentioned that you want to complete that in 18 months. So obviously the buyback, $40 million worth of stock, that takes a lot of activity in the open markets. Did you ever just contemplate doing a tender offer? How did you evaluate that? Just the one thing about the tender is, if you can get some of the shareholders out that want to be out and it guarantees you complete it in a timely manner, is that something that you contemplated?

Well, we talked about a whole range of possibilities, and after a lot of consideration, we just came down with this approach. We will obviously have more details to give on how we are progressing through that as we go.

Okay. But your intention is to complete it? It is not one of those where you announce it, and you just want to have it to your availability? I mean you said it's depending on the stock price. I assume that that implies where the current stock price is given how it has dropped so dramatically. You are sitting here with an enterprise value of, I don't know, $90 million or something for a company that has done EBITDA of $0 to $60 million of EBITDA. So I assume that what you are saying is that the stock price here is kind of in your buy zone?

Obviously. We will be looking at it every quarter, and you asked if we did it, I guess, for appearance's sake versus legitimate buyback opportunity, and I think we have been very clear. We inspect to buy back the stock, and we intend to be active in the market.

[Adam Dowland], Morehead Capital.

Just a -- I will try to keep this quick. Thanks for the buyback. I think it is great. It is good news to here that you guys are going to pursue getting that done as quickly as you can. One question on that. The renewed credit facility, does that have any restrictions on stock buybacks?

The only restrictions in the facility, and that is similar to what we had, were if our availability declines to a certain level and obviously we can't -- we would have to go back to the banks, and there is a fixed charge coverage ratio that comes into play at that point as well.

It is very unlikely that that is going to be a factor.

Okay. That is good to hear. The only other question I had was in the script when you talked about your operating expenses, you mentioned a couple of different items, and the increase in the operating expenses as a percentage of sales was mostly due to deleverage. But I see the operating expenses are actually up year over year. You mentioned some stock comp being part of that. Is there anything else that is driving that increase in operating expenses on a dollars basis?

Not particularly, no. When comps are down 8%, you have -- there is a lot of deleverage, particularly when you get to things like store payroll, utilities, which are a significant cost for us. And that, by and large, there is the credit card charges and things like that, that are big parts of our P&L that get impacted when your comps are down 8%. That is the primary reason. I cannot call out any significant things that were unique.

Okay. I was just wondering that store count is not higher than it was for this period last year, not meaningfully, but you actually have an increase in the dollars on operating expenses. So I mean are some of those expenses related to the IT rollout, or I was just trying to figure out why the dollars would have gone up without the sales increase - (multiple speakers)?

The store count is up a little bit, and we are obviously in a heated period where we are building a lot of stores, and there is pre-opening activity that impacts you. We do have a lot of IT projects going, and there is some impact there. So it is in a lot of areas as we are trying to grow the Company again and having to invest back into some areas of the Company in terms of personnel and when you get to merchandising and marketing and these initiatives. We came from a low point in 2007 where we really cut back the workforce of the Company, and we are having to build some of that back in. And I think that is a general answer to your question, but that is what it is.

Mr. Alderson, there are no further questions at this time. I will turn the call back to you. Please continue with your presentation or closing remarks.

Well, thanks, everyone, for your time today and for your interest, and we look forward to talking to you about the third quarter. Take care.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.