Williams-Sonoma Inc (WSM) 2009 Q2 法說會逐字稿

Ladies and Gentlemen, thank you for standing by.

Welcome to the Williams-Sonoma Incorporated second quarter 2009 earnings conference call.

At this time all participants are in a listen only mode.

We will conduct a question and answer session after the presentation.

This conference is being recorded.

I would now like to turn the call over to Steve Nelson, Director of Investor Relations at Williams-Sonoma Incorporated to discuss the non-GAAP measures and forward-looking statements.

Please go ahead, Mr.

Nelson.

Good morning.

This morning's conference call should be considered in conjunction with the press release we issued earlier today.

I would first like to discuss the non-GAAP financial measures that are included in this morning's press release and today's conference call.

The press release and this call contain non-GAAP financial measures that exclude the impact of unusual business events.

For the remainder of today's call we will be discussing our second quarter 2009 results, our 2009 guidance and our 2008 results, excluding the impact of these items and will refer to these results as non-GAAP.

These non-GAAP financial measures are provided to facilitate meaningful year-over-year comparisons.

A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures and an explanation of why these non-GAAP financial measures are useful and how they are used by management are discussed in Exhibit One of the press release.

I would now like to discuss our forward-looking statements.

The forward-looking statements included in this call constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These statements address the financial condition, results of operations, business initiatives, guidance, growth plans and prospects of the Company in 2009 and beyond and are subject to risks and uncertainties that could cause actual results to differ materially from such forward-looking statements.

Please refer to the Company's current press releases and SEC filings, including the companies Form 10K and most recent Form 10Q for more information on these risks and uncertainties.

The Company undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.

I will now turn the Conference Call over to Howard Lester, our Chairman and Chief Executive Officer.

Good morning and thanks for joining us.

With me today is Laura Alber, our President, Pat Connolly, our Chief Marketing Officer, and Sharon McCollam, our Chief Operating and Chief Financial Officer.

I'd like to begin today with an overview of our second quarter 2009 results and our outlook for the balance of the year.

Then I'll turn the call over to Sharon and Laura for further details.

While the home furnishing sector continued to be under pressure during the second quarter, innovative merchandising and appealing value proposition, and the delivery of a superior customer experience drove strong top line results and better than expected selling margins.

Throughout the quarter, revenue trended at the high end of expectation.

Both margins, excluding occupancy, improved over last year, and we exceeded our expense reduction and cash flow targets.

In the second quarter, while net revenues declined 18%, we delivered a non-GAAP profit of $0.05 per diluted share an ended the quarter with over $165 million in cash.

Comparable store sales during the quarter declined 15%, which was an improvement from the first quarter and better than our expectations for the second quarter.

In our core brand, net revenues decreased 17%.

This decline was driven by a 25% decrease in the Pottery Barn Kids brand, a 19% decrease in the Pottery Barn brand, and a 9% decrease in the Williams-Sonoma brand.

In every brand, second quarter results were better than the first quarter.

What is most encouraging about these results is that they still do not reflect the full impact of the revitalization initiatives we have under way, particularly in the Pottery Barn brand.

Equally encouraging is the fact that there is still a significant amount of change to be introduced in the back half of the year which, combined with less competition, should drive significantly increased sales and margin with little incremental cost.

Laura will talk more about these initiatives when she addresses the Pottery Barn brand later in the morning's call.

In the Williams-Sonoma brand we continue to see the same economic resilience that we've seen all year.

During the second quarter, net revenues declined 9% including a comparable store sales decline of 11%, and although gross margins were slightly below last year, our tight inventory position and seasonal shifted product mix in the back half leave us optimistic that we will be able to deliver a full year gross margin increase by the end of the year.

Execution in the Williams-Sonoma brand has been exceptional this year, and our focus on innovation and exclusivity continues to drive the business.

In our emerging brands, which include west elm, PBTeen and Williams-Sonoma Home, net revenues decreased 22%.

Williams-Sonoma Home once again faced significant top line challenges.

As such, we are prioritizing profitability over growth and continuing to assess the brands long term market potential as the state of the luxury home furnishing sector becomes clear.

In the west elm brands, the declines in net revenues, while consistent with our other home furnishing brands, were partially impacted by vendor related production issues which lead to a low in-stock position in a few key furniture categories.

As these issues are currently being resolved, we are optimistic that we will see a pick up in west elm top line performance in the third and fourth quarters, since more than half of the brand's business is driven by furniture related sales.

Across all brands, we remain focused on the initiatives that we believe are critical in gaining market share in this environment.

Superior customer service, innovative merchandising, and a strong value proposition -- we're making meaningful progress in all of these areas and are optimistic that the increased penetration of exclusive products and accessible price points in the back half of the year will attract new customers to the brands and drive increased traffic in all channels.

In Direct Marketing, we continued to move forward with our catalog circulation optimization strategy.

During the quarter, year-over-year advertising expense declined 26% net of the 34% increase in online marketing.

We continue to believe that refining the balance between catalog sales and online marketing is a significant opportunity, and we will be participating in a strategic test with Google at the end of the month to test this initiative at the next level.

In the Supply Chain, we continue to regionalize our large cube inventory and expand our Asian furniture sourcing base.

We also continued to see both customer service and financial benefits from our ongoing returns to replacements and damage initiatives.

Each of these initiatives is driving increased margin dollars as is our strong inventory management strategies.

At the end of the second quarter, year-over-year merchandise inventories were down a better than expected $140 million or 21%.

We also continued to make progress on our occupancy cost reduction initiatives, including increasing 2009 store closings from nine to sixteen and positioning ourselves to eliminate 1.2 million square feet of excess distribution capacity and 80,000 square feet of excess office space in San Francisco during Q3.

As we enter the third quarter we're encouraged by the sales and margin trends we're seeing today, particularly in the Pottery Barn brands.

As such, we are increasing our revenue and earnings guidance to reflect the upside.

In revenue, we are increasing guidance by $10 million to a range of $660 million to $700 million and would expect to be near the high end.

In earnings, we're increasing non-GAAP diluted earnings per share guidance from the loss of $0.02 to $0.08 to a profit of $0.01 to $0.05, and while we have no reason to believe that our current performance will not continue into the fourth quarter, we believe maintaining a cautious outlook is prudent in this re-set economy.

As such, we're reiterating our fourth quarter guidance, but are optimistic that the initiatives that are driving our business are sustainable and will carry us through the balance of the year.

Additionally we'll be working closely with MH Alshaya Group to open our first four franchise stores in the Middle East in 2010.

While this has no immediate financial upside, it is a strategic step towards the longer term international growth plan.

I'll now turn the call over to Sharon for more details on the quarter and our guidance.

Thank you, Howard.

Good morning.

Despite the ongoing challenges we continued to see in the broader home furnishings market in the second quarter, our financial results, once again, significantly exceeded our expectations.

The highlights were as follows.

On a non-GAAP basis our second quarter diluted earnings per share were $0.05 versus $0.09 last year.

This was $0.14 above the First Call consensus estimate and $0.13 above the high end of our guidance, due to better than expected selling margins and lower occupancy and operating expenses.

On a GAAP basis, second quarter diluted earnings per share were breakeven, including a $0.05 per diluted share charge associated with underperforming retail stores and the exit of excess distribution capacity.

Net revenues during the second quarter decreased 18% to $672 million.

Retail net revenues decreased 14% including a comparable store sales decline of 15%.

Direct to customer revenues decreased 24% on circulation reductions of 19% and 25% respectively for catalog and catalog pages mailed.

Internet revenues decreased 21%, but on a two year trend basis, eCommerce was our best performing channel.

Non-GAAP gross margin decreased 180 basis points to 32.2% in the second quarter.

This decrease was driven by approximately 275 basis points of fixed occupancy de-leverage due to lower sales, partially offset by reductions in freight costs and lower replacements and damages.

Non-GAAP SG&A expenses decreased 180 basis points to 30.9%.

This decrease was primarily driven by reductions in total advertising costs including the benefits from our catalog circulation optimization strategy & Company wide reductions and other SG&a expenses.

Significant year-over-year balance sheet variances at the end of the second quarter were as follows.

Cash and cash equivalents increased $127 million to $165 million with no outstanding borrowings under our $300 million revolving line of credit.

This is the second highest ever cash balance at the end of the second quarter, and we do not expect to need to access our revolving line of credit this year.

Merchandise inventories decreased a better than expected $140 million or 21% to $517 million.

This decrease was across all brands and all categories.

Accounts receivable decreased $22 million or 36% to $40 million reflecting planned reduction in lease incentives that accompanies this years reduced store construction program.

Prepaid catalog expenses decreased $11 million or 22% to $39 million.

This decrease was primarily driven by reductions in catalog circulation, and accounts payable decreased $30 million or 19% to $130 million.

This decrease was primarily driven by lower inventory purchases.

I'd now like to briefly discuss our 2009 guidance.

As we look forward to the balance of the year, we are continuing to guide revenues in line with the 2008 October/November trend, with the exception of the third quarter where we have seen increased revenues and have increased our revenues to reflect the better than trend performance we are currently seeing in the Pottery Barn and Williams-Sonoma kitchen brands.

Also in the third quarter we have increased our gross margin to reflect the consistent upside we have seen all year in selling gross margins.

As such, we are raising our non-GAAP third quarter EPS guidance to a range of $0.01to $0.05.

We will, however, incur a $0.04 per diluted share non-GAAP charge in the third quarter related to the exit of distribution capacity that we discussed previously.

For the fourth quarter, we are reiterating our previous guidance because we continue to believe that we need to be cautious about the promotional environment that could accelerate in the holiday season due to competitor store closing, inventory liquidations, and bankruptcies.

For the full year based on our better than expected performance in the second quarter and our increasing guidance for the third quarter we are increasing our 2009 P&L guidance as follows.

Net revenues are now expected to decline in the range of 12% to 15%.

Non-GAAP diluted earnings per share are now expected to be in the range of $0.19 to $0.31 despite approximately 200 basis points of occupancy de-leverage and GAAP diluted earnings per share including $0.13 of unusual business events related to store impairments in the exit of excess distribution capacity are now expected to be in the range of $0.06 to $0.18.

From a Balance Sheet perspective we are reiterating our inventory guidance in the range of $480 million to $510 million, but lowering our capital spending guidance to the range of $90 million to $95 million.

We continue to believe that the actions we have taken to adapt to this new economy from both an operational and financial perspective were appropriate, and we remain committed to optimizing growth, profitability, and cash flow despite the economic challenges we believe we will continue to face.

I would now like to turn the call over to Laura to discuss the Pottery Barn brands.

Thank you, Sharon.

Good morning.

First I'll start with the Pottery Barn brand.

Net revenues in the second quarter declined a better than expected 19%, including a 16% decline in comparable store sales.

We are very encouraged by these results because not only do they demonstrate a sustaining trend of gradual top line improvement but also an affirmation that our strategies to reinvigorate the business of resonating with our customers.

From a merchandising perspective our focus on style and value resulted in renewed momentum in all key categories, including furniture.

From an operational perspective during the quarter, we improved profitability through our Supply Chain initiatives, including reductions and replacements, damages, and transportation.

We also continue to reduce our inventories in both units and dollars which contributed to improved selling margins in the quarter.

We also continue to make progress on our catalog circulation optimization strategy which resulted in significantly lower advertising costs from both a dollar and percent to sales perspective.

As we look forward to the third and fourth quarters, we are very encouraged by the positive consumer response we are currently seeing to our Fall merchandise assortment and the overall strategies we have implemented to drive our business, including a compelling merchandise strategy in every category, a shift in our value proposition through opening price points, category promotions, and private label credit card offerings, differentiated services including interior design, clienteling, and in-store events, and a shift in marketing spend out of the catalog into eCommerce as we continue to capitalize on the significant opportunity we believe the internet represents.

Now I would like to talk about Pottery Barn Kids.

During the second quarter, net revenues declined 25% including a 22% decline in comparable store sales and a $3 million negative impact from a voluntary product recall.

Inventories at the end of the quarter, however, were down approximately 27% with selling margins strengthening as the quarter progressed.

From a merchandising perspective, during the quarter, our best performing categories were those where customers could make easy updates at accessible price points.

New product introductions, including our exclusive premium brand licensing programs supported by targeted promotional activity, contributed to the stronger performance of these categories.

From an operational perspective during the quarter, we achieved significant cost reductions in returns, replacements and damages.

We also spent considerable time on our retail occupancy cost reduction strategy, which resulted in an increase in 2009 permanent store closing from three to six by the end of the year.

As we look forward to the third and fourth quarters, we will continue to protect our strong competitive presence through the marketing of our value proposition including a greater penetration of opening price points and the enhancement of our retail service model.

We will also continue to shift our advertising spend from catalog to eCommerce as we capitalize on the new functionality and customized e-mail affiliate marketing and search.

To date we are extremely pleased with the initial consumer response to our new Fall assortment and based on early reads the impact of these initiatives is exceeding our expectations.

I would now like to talk about the Pottery Barn teen brand.

Net revenues and PBTeen declined a better than expected 22% during the second quarter versus a 25% increase last year.

Selling margins were also ahead of expectations, but while any decline in revenue is disappointing, PBTeen remains the best performing brand in the Company on a two year trend basis.

From a merchandising perspective, new product introductions at a great value continued to be our best performers and the initial consumer response to our new Fall assortment is strong.

As we look forward to the back half of the year, we will continue to focus on extending the reach of the brand and maintaining our position as a top of mind destination for home furnishings for teens.

These initiatives include expanding our merchandise assortment across a wider range of price points to address the consumer sensitivity to value, increasing our investment in eCommerce to attract new customers to the brand and drive increased customer interaction, and continuing to test PBTeen merchandise within the four walls of two Pottery Barn Kids stores and a show room in New York with the objective of establishing a boutique retail presence for PBTeen and enhancing retail productivity in Pottery Barn Kids.

I would now like to open the call for questions.

Thank you.

Thank you, Ms.

Alper.

Ladies and Gentlemen.

(Operator Instructions).

We would like it if you'd limit yourself to just one question.

(Operator Instructions).

We'll hear from Matthew Fassler with Goldman Sachs.

Thanks a lot and good morning.

Congratulations on the strong performance here.

Just wanted to try to get a sense from you as to the magnitude of the merchandise margin recovery.

We ran some numbers, and it looked to be in the neighborhood of 100 basis points or better year-on-year.

If you could give us some color on that we would really appreciate it.

Matt, I provided you in the prepared remarks with the occupancy de-leverage during the quarter, which was 275 basis points, and so that will back you into the number you're looking at, so I think that will help you with your model.

Since I asked I guess a bad question, if I could follow-up with a real one then, just color on the reception that you're getting from consumers to the extent you've moved price points down a bit, how that is going vis-a-vis consumer reception and also looking at the implications on margins if any?

I'm going to let Laura take that question because a majority of the changes have come in the Pottery Barn brand so Laura can you speak to that please?

Sure, thank you.

We're very excited to see our customers responding so positively to our improved quality at great value, and it's across many categories where we have started to make significant quality and also value enhancements to the product line and it's clear that as money is tighter for consumers that this is very important to them; and it's helping them really be inspired to purchase and redecorate their homes.

Matt, this is Howard.

Let me make an addition to that too, this is not just a price story.

The merchandise changes that Laura and her team have been working on in Pottery Barn over the last two years is just really coming into fruition, so it's a combination of much improved merchandise that's resonating with the customer, better quality, better price points, and a combination of all of that is really starting to get some traction.

We will move to the next question in queue and that will come from Laura Champine with Cowen and Company.

Hi, this is actually John Curran standing in for Laura.

Last quarter, you said or just based on the math you gave us that your buying and occupancy was deleveraging about 20 bips per negative comp and it's now running about 18.

Can we expect that to ten use going forward?

Is that baked into your guidance?

Yes, I also provided, John, this is new information that we've put into the prepared remarks.

By the end of the year, what you can expect in this range of guidance is somewhere in the range of a 200 basis point de-leverage in occupancy cost.

So even with the store closures we won't expect to see the basis point deleveraging recover so to speak or get better like we did for Q2?

Well the stores will close at the end of this year, so you'll have the occupancy costs associated with those stores throughout the year.

Okay and one quick follow-up.

Any update on Dave DeMattei's successor plan going forward?

Absolutely.

Howard would you like to speak to that, please?

Well, when you say Dave DeMattei's successor, I think we're going to probably change our organization around just a little rather than replace Dave directly.

You may recall that prior to Dave coming here, Richard Harvey, a 25 or 26 year veteran had been running the Williams-Sonoma Kitchen brand and doing a superb job of it.

He was reporting to me at the time and we had had some problems, that's when we had the big turnaround in the Williams-Sonoma Kitchen brand and then subsequently after Dave joined I think we added to his responsibility the Kitchen brand, so that will revert back to reporting to me and we won't miss a beat.

Richard has really been running that brand for several years now as I've said, at least seven or eight and just doing a great job and he continues to perform at the best level of all of our brands.

So that's not an issue.

We were looking for a full time President for west elm to reside in New York, if possible, prior to Dave's resignation and that search is continuing, and we would hope to have a resolution to that in the next few weeks in an announcement that hopefully will be forthcoming.

During the past year, we have basically merged Williams-Sonoma Home with the Williams-Sonoma Kitchen brand from a standpoint of day-to-day management.

We have a wonderful fellow who is running Williams-Sonoma Home and that will continue, so I don't see any change there.

So we will be announcing a new President for Williams-Sonoma, I'm sorry, for west elm, but we'll not be doing anything further at this time with respect to a replacement for David DeMattei.

And the next question in queue will come from Neely Tamminga with Piper Jaffray.

Great.

It's Neely Tamminga, Piper Jaffray.

Laura, just looking to the book that came into Homes this week, I noticed a couple things.

One, baskets on the front are always tremendous and amazing for its value price point, but the old adage when baskets are working well Home is working as a category, and then secondly, the book feels and looks a little bit bigger.

Are you guys taking back up your page count?

Is there a change in strategy that I'm picking up on or maybe if you can walk us through how this is representative of what you'll do from a merchandise perspective in the back half, thanks?

Laura?

Sure.

Thanks.

We love the baskets too so thanks for that comment.

It's just getting in home this week so we'll see.

We're optimistic but we'll see.

Page count no, it's not going up.

We continue to be very focused on productivity in the catalog, and we are also continuing also continuing with our version strategy.

The next question will come from Alan Rifkin with Banc of America Merrill Lynch.

Thank you.

Sharon?

You said that your increase in full year '09 guidance is predicated on a fourth quarter that is essentially in line with October '08 trends.

It appears that, at least relative to that point in time, trends today are significantly better.

Can you maybe provide some color on your ability to address in the fourth quarter the fact that if the trends continue at current levels how your inventory position, how your preparation for the holiday season will unfold?

Absolutely.

For the fourth quarter, Alan, what we continued to be conscience of is the fact that it could become a promotional environment at that point because of the competitor store closing and liquidations, etc., so we are being cautious from that standpoint.

The merchants, the inventory teams, are watching the trends every day and chasing inventory where we need to chase and obviously as we all know, furniture would be the most difficult to get back in stock in on a short-term basis but other things that we do will keep our finger on that tightly.

As it relates to fourth quarter though I do want to point out that that is the 2008 October-November trend.

That is what the revenue guidance is predicated on but in addition to that, we also, if you believe that then you'd say well then it should be flat because the fourth quarter occurs after "the October-November time frame." The reason it is not flat is because as it was the same for Q1 because we have reiterated the guidance we've reflected in there, the fact that we had a significant amount of inventory last year that we liquidated in the fourth quarter, and we do not expect to buy into those markdowns, that really hit our margin as you know.

We've all talked about that so I won't take time on our call today to go through that, but would be happy to off line, so that's what we see for the fourth quarter but obviously, if these trends continued into the fourth quarter, there is no questions we would be taking up our fourth quarter guidance both on the top line and bottom line because, as Howard said in his remarks, that increased sales in this environment flow through at very little incremental cost.

Next we'll hear from Dana Telsey with Telsey Advisory Group.

Good morning, everyone.

Hi, Dana.

Good morning.

You talked a little bit about the Real Estate environment.

What are you seeing in terms of in the incentives are what you expected, is there changes being made and you upped the store closures a little bit.

Is there more coming, how are you looking at it?

Thank you.

Dana, I'm going to let Howard speak to that.

I would just start out by saying that it's a partnership with our landlords.

We aren't going to be speaking in great detail on the details of the negotiations we're having with our landlords, but Howard would you please take that question?

Thanks, Sharon.

Dana, let me characterize the world that we're dealing with out there.

I would say from the last time, we're making some progress.

It's still slow.

Of our major half a dozen landlords, we've got about a third to a half of them that are more willing than the others to work with us and to try to find creative solutions that will work for both of us, both short and long term and so in that regard, we are making some progress with some.

Others are more difficult and haven't been willing to get to that point yet, so we just keep working.

You notice that each quarter, we've got a little bit better results to report there, more closing, and more what we're not reporting on, I think, as much as the leases that we're renegotiating that are giving us better rather than close the stores, we're getting a better occupancy expenses and are able to bring more stores back to or close to the historic contribution level.

So we've got a long way to go, but I would say that we are making progress and while I'm somewhat encouraged with, as I mentioned, a third to half of our major landlords, I'm still disappointed with the other half.

(Operator Instructions).

The next question will come from Anthony Chukumba with FTN Equity Capital Markets.

Good morning.

Just had a quick question in terms of the catalog circulation optimization effort.

Your catalog circulation, if I wrote these numbers down correctly, catalog circulation declined 19% and catalog pages declined 25%, but year-over-year your direct to customer business is down 24%, so what I'm wondering is do you feel comfortable that you haven't cut back too much on your catalog circulation?

In other words, it just strikes me as a little bit out of line that your direct-to-customer sales will be down even more than your catalog circulation; it implies that some of the circulation you got rid of wasn't necessarily marginal, dead beat circulation?

A substantial piece of the reductions were in the Pottery Barn brands and I'll let Laura speak to the specifics related to Pottery Barn and their strategies and I'll let Pat talk about the broader circulation optimization strategy.

Laura could you take this specifically related to the Pottery Barn brands where you're doing a lot more versioning?

Sure, yes.

We have been actually -- this is a very important question for all of us and we continue to have a lot of discussion and research done on this subject, and we look at it monthly and go through and look at where there are opportunities and make adjustments and it's a very productive process.

We do have less promotions than last year, so as Sharon said earlier, there are sales that we drove last year that weren't as profitable as they should have been and that weren't good for the brand longer term and that is part of what you're seeing with the direct-to-consumer decline that's worse than the catalog circulation.

And just to extend that a bit across all of our brands, the techniques, we're in our 23rd year of using the sophisticated regression analysis to rank our file when we go to mail it, and over the growth years we were looking at how we could use this to find the next best prospects.

In this environment we're able to use these techniques to identify those people who would most likely not buy and not mail them, and we have done a number of control groups and are very confident that the circulation we've cut would have produced minimal sales compared to the cost to having mailed those catalogs.

The other point that Sharon brought out earlier, and that Laura mentioned, is that we're able to divert some of our catalog spend to online digital marketing that is producing more attractive results and we are very optimistic about our opportunities here, especially in the back half of the year across a wide range of digital marketing efforts from e-mail to affiliates to re-targeting to page search and also, the initial results of the Google's new caffeine algorithm which tend to favor brands and are pushing up our page rankings.

And next we have a question from Chris Horvers with JP Morgan.

Thanks and good morning.

Sharon, maybe you could provide a little more color on August.

It sounds like Pottery Barn is having a pretty good start to Q3.

Should we think that you're running better than the down 8 to 13 comp overall and as a follow-up, Laura, maybe you could talk about the unit versus the dollar comp trends, because I know you've taken price down over the past year and it sounds like the units are really responding.

Thank you.

Chris, absolutely.

The comps that we are seeing coming in for the third quarter are better on a one year basis and on a two year basis, so we are encouraged about the initial consumer response to the Fall assortment across all the Pottery Barn brands, we're very pleased with where Williams Sonoma is performing right now, so I'll turn it over to Laura and let her respond to your more detailed question related specifically to Pottery Barn.

Thank you.

As Sharon said, yes, we are seeing some better trends this early, but we are optimistic that the strategies that we have put in place, it looks like we got it right, and it's very, as you know, it's very competitive right now and so I hesitate a little bit to give you more information than what we have because it is early and it is competitive.

Next we'll hear from David Magee with SunTrust Robinson Humphrey.

Good morning guys and good control of the quarter.

A question I have has to do back with the gross margin again, and just looking historically, the numbers between the first and second quarter have been usually flattish on a sequential basis and this year, you were up roughly 200 bips, year-over-year.

Sorry, not year-over-year, but second quarter over first quarter.

Is that a function of just becoming more aggressive on shipping cost or what's going on there so far this year from first to second quarter?

Well, Dave, we can take this off-line when we get into our discussion later this morning but I would say that all the things that we have been doing are gradual and incremental and each quarter we build on what we have accomplished from the prior quarter, so as we start seeing momentum, a thing that you're going to see and I don't think that you should go back and discount all of our history, because what you're seeing is the strong consumer response to merchandising that started to come into play.

We said it in May when we had our call that we were starting to see a little bit better than the October-November trends and now we're seeing that go further, you're seeing stronger selling margins in Q1.

We hadn't seen that yet.

There was still a lot of competitor inventory being liquidated on the market.

We were competing with that.

Our inventories were still being brought down and stabilized so I think it is a combination of so many things, as you're modeling in the future, I think you should not model it that way because we expect to, where we have all those years of such strong performance, I would expect our business to run similarly, but I think in an environment where you're making such dramatic change, so consistently, that it will build on itself over the next several quarters .

Next in queue we have Scott Ciccarelli with RBC Capital Markets.

Good morning this is actually Ivan Holman sitting in for Scott.

First of all congratulations on a very solid quarter.

Most of my questions have been answered, but I was hoping you could provide a little bit of additional color just on your venture in the Middle East.

I was just curious why you had chosen that particular area?

Are there any other regions that you were contemplating?

Just as a follow-up to that, would the mix be similar in terms of the retailer versus the direct-to-customer, how should we think about growth prospects with regards to that?

Thank you.

Since the first four stores that we're opening are in the Pottery Barn and Pottery Barn Kids brands I will let Laura speak to the current strategy with Pottery Barn as it relates to our deal that we've done with Alshaya.

Thank you.

We are so excited to go forward with our new partner, the Alshayda Group.

They are excellent operators, as you all know, and our plans are to operate stores in the Middle East in the same way that we operate them here.

And we are going to be, as Sharon mentioned and Howard mentioned, opening two stores in Kuwait and two stores in Dubai this coming year and have plans to open stores subsequently throughout the Gulf; and we're excited because, not only does it expand the reach of our brands internationally, and offer those customers the same opportunity to shop overseas as they have here, but also gives us a new revenue stream.

And from a geographic region perspective as many of you know on the call that some of the greatest growth that is currently occurring in retail is in the Middle East, and there are outstanding partners like Alshaya that, we believe, can reflect the essence of our brands better than probably anywhere in the world and we are, like she said, we're very excited.

Howard would you like to add anything to this?

Yes, I think the reason that, the primary reason that we selected that region to begin and to test global expansion strategy was, as Sharon and Laura both have mentioned, it's very much like America in one sense and that it's a mall base and they are very much Americanized.

Many of them are copies of malls that we have in America.

They also have operators there that you could partner with that are very accomplished and that was important for us because we didn't have the resources to field our own team from scratch, really in any part of the world; and we wanted to test how the expansion of our brands before we even considered how we would address the balance of the world, if in fact we had a global opportunity.

So those are the primary reasons, and there's a lot of money there.

The people are shopping at high rates, the stores show very high productivity in sales per foot and even with the downturn that's occurred in Dubai, particularly, so we have, as Sharon and Laura said, we've got outstanding partners, we have a very satisfactory financial arrangement, and we think that it's an excellent fit for our brands.

Initially, our Pottery Barn brands and then, subsequently, our Williams-Sonoma brand, so we're very excited about the store openings next year and we'll see what happens.

You also asked the question-- will the mix be similar to America in terms of retail and direct.

Initially, no, it will be more retail because that's the way the region operates, but we would be hopeful that eventually the direct business would be equally strong.

The next question will come from Janet Kloppenburg with JJK Research.

Good morning, everyone.

Congratulations.

Thank you, Janet.

I was wondering if Laura could spend a little time talking about maybe the timeline for Pottery Barn in terms of executing on the new product assortments with their focus on delivering more value, how much has been done, how much more can we expect, and if someone could comment on that for the Williams-Sonoma brand as well?

Thanks so much.

Laura?

Would you take that?

Sure.

We have been studying every single category in our business over the past several years and our competitive set to look at where we need to increase our value offering, both because of the recent economy, but also to attract new customers into the brands, and you're going to see every, with every season, new offer that is at the same great quality and design as we've always been, but better value.

And the way we're able to do that is to really just be very focused on building things smart, doing things different, and we have great partnership with our vendors who are really helping us execute this, so we're very excited about the future.

We believe there's still a lot of room in many more categories than we've touched and even further depth in the categories that we're in, that we've already addressed.

And then Janet, on the Williams-Sonoma brand, this is a different theme, and I'm going to let Howard speak to it, their focus is on exclusivity, their focus is on innovation, and brand ideas, but Howard could you speak to the change or the evolution in Williams-Sonoma that's occurring?

Well, the strength of that brand has always been newness and exclusivity and style and quality and all of those things that we've tried to be overall these years; however, Richard and his team have had a strong focus the last year or so on trying to develop with our vendors community products that have equal value, but that are at more attractive price points; and they've done an excellent job of that and that will continue, so without being specific about products that are in the works or products that we're going to be announcing, that's an important part of their strategy going forward.

Ladies and Gentlemen, that is all the time we have for questions today.

I will now turn the call back to Howard Lester for closing comments.

Well, thank you very much for being with us this morning.

We are particularly pleased with the quarter and I just want to say that I'm so proud of our team.

We've all worked hard and results are showing the extent of our efforts, so we just are very excited about where we are and we're looking forward to continued improvement.

We'll talk to you next quarter.

Thank you.

And that does conclude today's teleconference.

Thank you all once again for joining.