Williams-Sonoma Inc (WSM) 2010 Q3 法說會逐字稿

Good day, ladies and gentlemen, and thank you for standing by.

Welcome to the Williams-Sonoma Inc third quarter 2010 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, to discuss non-GAAP measures and forward-looking statements.

Good morning.

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

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

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, are discussed in the press release.

The forward-looking statements included in this morning's 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 2010 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 release and SEC filings 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 this call.

I will now turn the conference call over to Laura Alber, our President and Chief Executive Officer.

Good morning, and thank you for joining us.

With me today are Pat Connolly, our Chief Marketing Officer, and Sharon McCollam, our Chief Operating and Chief Financial Officer.

Before I begin this morning, I would like to take a moment on behalf of all of us here at Williams-Sonoma to acknowledge the passing of Howard Lester, our Chairman Emeritus.

Howard's vision and leadership has truly guided our Company, and is alive in the culture that we have today, and will carry into the future.

He was a pioneer in retail, a mentor and a friend to many, and he will be dearly missed.

I know that Howard would be so thrilled with the results that we are sharing with you today, and so proud of what this team will accomplish in the future.

So, let me begin by discussing our third quarter results.

The third quarter was another strong quarter for our brands, and we continue to outperform the industry.

During the quarter, net revenues increased 12%, and we delivered the highest third quarter diluted EPS in our history.

Non-GAAP diluted earnings per share were $0.35 versus $0.16 last year.

Innovative merchandise at compelling price points supported by a superior customer experience, and a highly targeted multi-channel marketing strategy, drove these better than expected results.

In our core brands, net revenues increased 11%.

Pottery Barn saw the greatest increase, followed by Pottery Barn Kids and Williams-Sonoma.

In our emerging brands, including West Elm, PBteen and Williams-Sonoma Home, net revenues increased 19%.

West Elm and PBteen continue to exceed expectations on both the top and bottom lines, and we continue to make progress on the retail restructuring of Williams-Sonoma Home.

In the retail channel, comparable store sales increased 8.1%.

In the DTC channel, net revenues increased 18%.

E-Commerce revenues increased 29%, driven by strong merchandise strategies, and a comprehensive e-Marketing strategy including paid search, natural search, targeted e-mail, and affiliate marketing.

These initiatives are also driving enhanced brand awareness, and greater customer engagement across all channels, in addition to driving increased traffic and conversion on the web.

In our international business, the performance of our first four franchise stores in Dubai and Kuwait continue to exceed expectations.

We see this as a strategic first step toward a longer term international growth plan, and are currently planning to see an additional seven stores open in 2011.

We are also planning to begin shipping internationally through our e-Commerce channel next year.

In supply chain, we continue to be focused on our customer, and this focus has allowed us to not only deliver improved quality, but also reduce costs.

Our initiatives include network redesign, refinements in our sourcing base, and packaging reengineering.

As we look forward to the fourth quarter, we continue to be encouraged by the sales and margin trends that we are seeing in our business today, particularly in our home furnishings brands, and are operationally poised for an exceptional holiday season.

We're also well positioned to drive significant multi-channel traffic through newly launched e-Marketing and clienteling initiatives.

And as such, we are increasing our full year guidance for the outperformance we saw in the third quarter, and the upside we are currently seeing in the fourth quarter.

This brings our fiscal year 2010 revenue growth to a range of 11% to 12%, and our non-GAAP diluted EPS to a range of $1.75 to $1.80, versus $0.95 last year.

I will now turn the call over to Sharon for more details on the quarter, and the increase in our guidance.

Thank you, Laura.

Good morning.

Our financial results for the third quarter once again significantly exceeded our expectations.

Net revenues increased 12% to $816 million, with 8% growth in retail and 18% growth in direct-to-customer.

Catalog circulation increased 4%, but due to increased versioning, pages mailed increased only 2%.

Non-GAAP diluted earnings per share increased $0.19 to $0.35 versus $0.16 last year, and was $0.05 over the high end of our guidance.

Versus guidance, higher sales growth, strong selling margins, lower advertising, and tax rate favorability drove these better than expected results.

Non-GAAP gross margin increased 330 basis points to 38.2%.

This improvement was primarily driven by sales leverage of fixed occupancy expenses, stronger selling margins, and a decrease in occupancy expense dollars.

Non-GAAP occupancy expense was $126 million, versus $129 million last year.

Non-GAAP SG&A expense decreased 20 basis points to 30.9%.

This decrease was primarily driven by a reduction in catalog advertising expenses, partially offset by increased Internet advertising, and increased incentive compensation costs.

In both of our segments, for which financials are included in the press release, non-GAAP earnings before tax as a percentage of net revenues substantially improved during the quarter.

In the retail segment, non-GAAP earnings before tax increased from 6.4% in 2009, to 9.5% in 2010.

This 310 basis point improvement was driven by sales leverage of fixed occupancy costs, stronger selling margins, and a decrease in occupancy expense dollars.

In the DTC segment, non-GAAP earnings before tax increased from 16.6% to 20.2%.

This 360 basis point improvement was driven by continued optimization of our advertising vehicles, stronger selling margins, and sales leverage of fixed occupancy costs.

In the non-allocated segment, non-GAAP expenses increased from 6.8% in 2009, to 6.9% in 2010, primarily driven by higher incentive compensation.

From a balance sheet perspective, third quarter year-over-year highlights were as follows.

Cash and cash equivalents increased $161 million to $390 million, after returning $137 million to shareholders through share repurchases and dividends over the past 12 months.

Consistent with our objective to offset dilution, share repurchases in the third quarter totaled $36 million, and we expect to repurchase an additional $44 million in the fourth quarter, for a total of $125 million in repurchases this fiscal year.

Merchandise inventories increased $41 million, or 8%, to $586 million, while revenues grew 11.8%.

Income taxes payable increased by $39 million, due to higher earnings, and accounts payable increased $31 million to $203 million, primarily due to the timing of merchandise receipts and catalog mailings.

I'd now like to briefly discuss our fourth quarter and fiscal year 2010 guidance.

While our business trends have remained strong throughout the third and early fourth quarters, trends in the broader home furnishings category have softened.

As such, we believe it is only prudent to continue to be cautious in our outlook, and are increasing our fourth quarter and fiscal year guidance accordingly.

Net revenue growth for the fourth quarter, consistent with our Q3 year-to-date three years sales trend, is now expected to be in the range of 3% to 6%, versus previous guidance of 1% to 5%.

Non-GAAP diluted earnings per share are expected to be in the range of $0.88 to $0.93 versus previous guidance of $0.84 to $0.89, and $0.86 last year.

For the full year, net revenues are expected to be in the range of 11% to 12%, and non-GAAP diluted earnings per share are expected to be in the range of $1.75 to $1.80, versus $0.95 last year.

From a balance sheet perspective, we are maintaining our annual capital spending guidance at $75 million, and the high end of our inventory guidance range at $535 million.

We did, however, increase the low end of our inventory guidance range from $490 million to $525 million.

We are also projecting 17 permanent store closings in the fourth quarter, with a corresponding unusual business events charge of $0.05.

I would now like to turn the call over to Laura to discuss the performance of our brands.

Thank you, Sharon.

In the Williams-Sonoma brand, third quarter net revenues increased 2%, and comparable store sales increased 1.4%.

From a merchandising perspective, product exclusivity and traffic generating promotions were key drivers of growth during the quarter, particularly in cooks' tools, electrics and cutlery.

Additionally, at the end of the quarter we launched a new shipping program called Williams-Sonoma reserve.

For a $30 annual fee, a customer can receive free shipping on standard e-Commerce orders for a year.

We are extremely pleased with the initial consumer response to this offering, and believe it will significantly enhance our competitive positioning against other online retailers.

As we look forward to the fourth quarter, we will focus on several new initiatives that are being introduced for this holiday, including the expansion of our exclusive gift assortment at a wider range of price points, an aggressive marketing program for Williams-Sonoma reserve, and a significantly expanded in-store event schedule that will provide our customers access to unique experiences unavailable at other retailers.

We believe that these initiatives will allow us to deliver superior multi-channel experience to our customers, while expanding and affirming our position as a brand leader in home cooking and entertaining essentials.

In the Williams-Sonoma Home brand, we continue to focus on our retail restructuring, and now expect to have all stand-alone stores closed by the end of this year.

At the same time, we are developing new merchandising and marketing strategies for 2011 as we transition the brand to e-Commerce, and a limited store in store strategy within the Williams-Sonoma brand.

During the third quarter, the net loss in Williams-Sonoma Home decreased from $0.03 per diluted share last year to break-even this year.

Remaining assets on the balance sheet at the end of the third quarter were $12 million, including $8 million of inventory.

In the Pottery Barn brand, net revenues in the third quarter increased a better than expected 14%.

Comparable store sales increased 11.6%.

In the direct-to-customer channel, we continued to identify new opportunities to drive growth and enhance customer acquisition through both increased catalog circulation and expanded e-Marketing.

From a merchandising perspective, all key categories, particularly furniture, textiles and decorative accessories, delivered impressive growth.

A compelling artisanal product assortment with a strong value proposition, and our enhanced in-store and in-home clienteling and design services, drove these stronger than expected results.

From an operational perspective during the quarter, we saw ongoing improvement in the brand's year-over-year gross margin.

Strong inventory management, increased selling margins, and ongoing benefits from supply chain initiatives, contributed to these better than expected results.

As we look forward to the fourth quarter, we are encouraged by the strong consumer response we are currently seeing to our holiday merchandise assortment, and excited about the initiatives that are driving our momentum today, including a cohesive merchandising strategy in every key product category.

A strong value proposition, including planned category promotions.

A superior customer service offering, and a greater investment in e-Commerce and e-Marketing to capitalize on the strength of our Internet presence.

We're also encouraged by the new merchandising and marketing opportunities that we are uncovering as we enhance our relationships with our customers.

Now I would like to talk about Pottery Barn Kids.

During the third quarter, net revenues increased a better than expected 8% despite a 7% year-over-year decline in retail lease square footage.

Comparable store sales increased 10.3%.

In the direct-to-customer channel, highly targeted catalog and e-Commerce marketing programs drove stronger than anticipated consumer response rates, and an increased number of new customers to the brand.

From a merchandising perspective, we saw strong growth across all major product categories, including decorative accessories, furniture and textiles.

A significantly improved value proposition, combined with a traffic-generating promotional calendar, and an expanded product assortment drove these better than expected results.

From an operational perspective during the quarter, strong inventory management, highly effective promotional strategies, and ongoing improvements in the supply chain drove a substantial increase in the year-over-year gross margin.

Retail profitability also improved, due to increased sales, improved selling margins, and strategic store closings.

As we look forward to the fourth quarter, we are continuing to capitalize on the successful initiatives that have driven significant improvements in the Pottery Barn Kids business this year, including leveraging customer database enhancements to improve the effectiveness of targeted e-Marketing.

Cohesively marketing innovation and value in our new product assortment, and enhancing the customer experience through clienteling, in-store events, and design services.

As we look to the future, we will continue to drive initiatives like these to attract and delight our customers.

I would now like to talk about the PBteen brand.

Net revenues in the third quarter in PBteen increased 17%, driven by innovative products at a great value, and profitability reached record levels.

From a merchandising perspective, all major product categories, including furniture, decorative accessories and textiles, drove significant growth.

As we look forward to the fourth quarter, we are excited about the initial consumer response to our holiday assortment, and are confident in our planned promotions to drive traffic and conversion.

We are also excited about the continued growth in the PBteen customer file.

Our broader assortment, and a highly targeted marketing strategy, are allowing us to identify new customers for the brand, and increase brand awareness.

Now, I would like to talk about West Elm.

The third quarter, like the second, was another very strong quarter for the West Elm brand.

All key product categories, led by furniture and textiles, delivered better than expected growth.

New product introductions, and enhanced value proposition, and highly effective marketing programs drove increased traffic and new customers to the brand.

As we enter the fourth quarter, we are continuing to execute against those initiatives that are proving to be key drivers in the acceleration of the brand's growth and profitability.

These initiatives include expanding our aesthetic to appeal to a wider range of customers.

Rebalancing the product mix.

Increasing the penetration of opening price points to offer a more compelling value proposition.

And driving customer engagement through enhanced multi-channel lifestyle marketing.

Specific to the fourth quarter, we are introducing our first cohesive holiday gift assortment, and incorporating significantly more customer engagement activities into the store calendar.

We're also closing one additional non-strategic store location this year.

At the same time, however, we are pursuing new stores in more opportunistic locations, based on the improving performance of the brand.

In summary, the West Elm brand continues to exceed our expectations, and we are increasingly confident in its potential as a meaningful contributor of profitable growth.

I would now like to open the call for questions.

Thank you.

(Operator Instructions).

And we'll first go to Matt Fassler with Goldman Sachs.

Thanks a lot, and good morning.

My question relates to the sales trajectory at the Williams-Sonoma stores.

If you could talk about, in the context of your overall same store sales guidance, what your thought process is on that brand, given that it was -- it grew a little bit slower than trend, and certainly than some of the other businesses.

And in that context, also just remind us of what the seasonality of that business is relative to the others.

Thanks so much.

Matt, we don't guide by brand in the comparable store sales guidance.

So, what I'd like to do is talk -- let you talk to Laura about the question you have about the trajectory of Williams-Sonoma.

Laura, would you take that, please?

Sure.

Thank you.

Good morning.

In the Williams-Sonoma business, our customer is clearly telling us that value is increasingly important, like we've seen in all of our other brands.

And so what we're focused on, you saw sequential increase in this activity in the third quarter, and you will see in Q4, is increasing our traffic generating promotions, which we think is key to sales growth in all of our brands.

In addition, you heard me mention reserve, which is -- we're so excited about the initial response from reserve, and it's, as you said, more and more gifts in the holiday season, and we think it's going to be a real benefit to our direct-to-customer business in the fourth quarter.

The other reality about Q3, just to address the comment about the little softer comps than the other brands, was that it was unseasonably warm in the beginning of Q3, and the stories in the front of our stores were about cold weather cooking, including stews.

And because of the weather, it wasn't as relevant as it could have been, and is an opportunity for next year.

We are very relevant in our offer, I'm sure you've been into our stores lately, and have a beautiful display of Thanksgiving and the beginnings of Christmas.

And we'll continue to drive our great gift assortment and cooking essentials through the holiday season, with a wider range of price points and exclusive product introductions.

Our next question will come from Colin McGranahan with Bernstein.

Yes, just a first question on inventory versus the prior guidance.

Are you -- given that you raised the bottom of the range from $490 million to $525 million, is that just that you're getting receipts in more quickly?

What drove that increase in the inventory?

And then if I could just also quickly follow up on your comment about recent softness in the industry.

Is there something in particular that you can point to there that is kind of where that comment came from?

Absolutely, Colin.

This is Sharon.

I'll take that question.

On the inventory guidance, as you know from the results, we are continuing to exceed the high end of our sales guidance ranges.

As such, we are replenishing inventory, and are increasingly more aware that being in-stock is critically important, and we are -- while we are chasing and we're getting very good at chasing inventory, we feel strongly that we have the momentum and the confidence to be sure that we get the inventories replenished.

This is not an increase in inventory.

This is nothing more than replenishment of the core inventory levels.

And I do believe that those receipts are going to come in this fourth quarter because that's a goal of ours to get them in, and to make sure that our order fill rates are where we would like them to be.

As it relates to the industry, the issues that we are seeing are the same that you're publishing, and many of you on the sell side are publishing, which is these government numbers.

It doesn't matter if you're taking -- when you look at the numbers that just came out for Q3, they've, of course, softened a little bit, on both the two year, three year basis, and we see that.

We also can't ignore the releases of many of the people who are reporting in the furniture industry, and obviously our furniture continues to be at 30% of our trailing 12 months of revenue.

Our furniture business has continued to be strong.

And their trends are not the trends that we are currently seeing in our business today.

However, we are aware and we are conscious of it, and we believe that we need to be thoughtful and cautious when we have these facts all around us.

But that is certainly, obviously from the results, you can see not the trend we're seeing.

Our next question will come from Budd Bugatch with Raymond James.

Good morning.

My congratulations on the quarter, and condolences on Howard's loss, the loss of Howard.

Just, Sharon, if you would, you talked about the fact that pages mailed were up 2%, and yet catalog sales were down, yet Internet sales were up significantly.

I just wish you maybe would discuss that first.

And then if you would just -- did I miss a number on the gain on West Elm year-over-year, what the percentage gain in revenue that was year-over-year?

Budd, until we get a significant store base, et cetera, we don't report revenue growth on West Elm, so you didn't miss one.

We have not started reporting that yet.

As it relates to the catalog circulation, I'm going to let Laura speak to our strategy with the versions, and how the catalog is actually supporting all channels.

So, Laura, could you speak to that?

Sure.

We continue to study our multi-channel interactions, and believe and know that this is a strategic differentiator, our ability in this versus other retailers, and we continue to make investments in ad cost, both in catalog versions and enhanced e-Marketing programs to drive sales in both the catalog channel, online, and then also in our retail stores.

And we've recently completed another party -- another study with a third party on the interaction of these three things, and are increasingly aware of the impact of the catalog on our stores, and in particular, our e-Marketing activities and our online marketing on our site to our stores.

So, we believe that this is strategic.

You are seeing the sales increases that are due to what we believe is very effective multi-channel marketing.

And it's a science that we study by month, looking at what worked.

We're testing a lot of new things, and experimenting so that we can fully fund those activities that drive customer acquisition, and sales to all of our channels.

(Operator Instructions).

We'll move next to Janet Kloppenburg with JJK Research.

Hi, everybody.

Congratulations on a good quarter, and my condolences, as well.

We'll all really miss Howard.

I wanted to just ask a little bit about the Williams-Sonoma sales trend.

I'm glad you frame-worked it in light of what had happened in the home furnishings industry, Laura.

Laura, I'm wondering, some of the apparel retailers saw a pick up in the back half of October, as weather did improve, and traffic levels seemed to have improved here in November.

I'm wondering if you're feeling better about that brand or whether -- not better, I know it did fine.

But I'm just wondering if you saw an acceleration in the business, and I'm wondering if you think we should expect an acceleration in those comps.

And also on the promotions that you held for that brand, I was just wondering whether that was a hurt to gross margin or whether those were planned and bought in a way that helped or maintained gross margin.

Thanks.

Janet, we did see an improvement sequentially during the third quarter in the Williams-Sonoma brand, both on a one year, two year and three year basis.

So, we absolutely saw a very similar trend in comp pattern, as the others that you're speaking to.

I actually don't believe that our correlation is that close to them, but we did see the same increase, sequential increase month to month during the quarter, which obviously gives us confidence going into the fourth quarter.

To your second questions about the promotions that you saw, we did increase, and didn't plan as much as I would have liked on those promotions.

So, we did react to the sales trend, and our understanding of our customers' need for value.

And this represents an opportunity as we go forward, because we will be improving the value equation in Williams-Sonoma, as we have in all of our other brands, and we will be building in to both our regular price business, more entry price points.

But also planning promotions further in advance, which will help them improve the gross margin in the Q3 of next year.

The next question will go to Alan Rifkin with Bank of America-Merrill Lynch.

Thank you very much.

I seem to remember that last year in the fourth quarter, there was one less promotion, particularly in the Williams-Sonoma brand, than there was the prior year.

Does the relative performance of Williams-Sonoma in the quarter give you cause to maybe take the promotional environment up?

And what will the promotional environment look like for the entire chain in Q4 relative to last year?

Sure, I'll take that, Alan.

As we sit here today, we have a promotional calendar, we have last year.

It's highly confidential exactly what we're doing.

We're also reacting as we see.

We have a plan, and then if we see a differing pattern from our forecast, we're going to adjust.

So, the good news is we have a foundational plan, so it's not like it was when the recession first hit, and we had to move too quickly.

Now, we're really thoughtful about this.

We're completely aware about what we did last year, and if we pull a promotion off, it's going to be very thoughtful.

The next question will come from Joe Feldman with Telsey Advisory Group.

Hi, good morning, guys.

Wanted to ask about the customer, and if you're seeing any change in customer behavior?

It seems like across the board the trends have been pretty solid, but are you seeing people starting to gravitate up in price point at all, and maybe you could just talk about -- and I'm thinking broadly across all the brands.

I think the exciting thing that's happening at Williams-Sonoma, Joe, is that we are seeing a very large number of new customers to our brands.

And if we were going to attribute that, we believe it is actually the introduction of the value proposition into our brands that has reinvigorated our house files.

So, to have -- now, that of course, does not explain the strength of our furniture business.

Our furniture business continues to be strong, but we believe that the traffic that we are driving, and the share that we are gaining is actually being driven by the fact that we have broadened the assortment, and are offering to the customer and to many customers an assortment that they feel is a great value, affordable, and they can do an easy update at a reasonable level of expenditure.

So, I think that's how we see it.

The other thing that is really driving our business today is, of course, the electronic marketing that we can do, being able to speak to the customer, and being able to market to the customer, and give them more information, of course, is critical as well.

So, there are several things that I think are levers.

But to say in a generic way that we believe that customers are gravitating again towards the fancy, higher price points, our data would not indicate that.

The other thing that I would like to add, important particularly as we enter the fourth quarter, is that all year, we've seen the customers be very excited to celebrate the holidays.

And buying more things to decorate and entertain at home, and that's great for our business, as people -- being at home and enjoying the holidays is a key value of our customers.

We've heard that said through a lot of the research that we've done, and you can see it in our sales.

Joe, I'd add one other comment.

This is Pat.

That as we look at the response of our house file, we're seeing improved response versus last year, and our expectations across all segments of the file.

Our best customers are spending more, and our reactivated customers are responding better than we have in the past, and that gives us a lot of expectation for the new customer growth that we're getting going into next year, especially for brands like West Elm where the broadened assortment has improved the yield from new customer acquisition.

We'll move next to Brad Thomas with KeyBanc Capital Markets.

Thank you.

Good morning.

Wanted to inquire about the delta in the sales growth between the direct business and the retail business.

I think this quarter it was the biggest that I've seen in many years that our model goes back.

Was wondering if you could just talk a little bit more about that, the growth of direct, how much you think it can outpace retail as we go forward, and the seasonality of that difference as we think about the fourth quarter.

Well, Brad, let's just start foundationally, and then I'll turn it over to Pat and Laura to talk about the direct business, but let's just talk financially on how we see it.

We have said consistently that we believe that over the next five years, that we are going to continue to see, as a percentage of the Company's total net revenue, a larger percentage of our revenue coming from direct.

And at the end of five years, there's a scenario that we see that could actually say that we could be at 50/50, retail and direct at that point in time.

And it's supported by a significant amount of data that you see every day.

If you look at Forrester data, they believe 100 basis points of the entire home furnishings industry is going to move online each year.

When you've got an industry that is at $90 billion to $100 billion, and you start looking at 100 basis points a year moving over, this is a significant number, and $900 million, and if we're playing in half of that because of our demographic skew, you're looking at $2.5 billion of revenue to move online on the Internet.

The thing that's, of course, so encouraging is what we talked about last quarter, is the fact that we were last year the 26th largest Internet retailer in the country.

And there was no specialty retail home furnishings retailers anywhere close to us.

Our next closest competitor was actually a third of our e-Commerce business.

So, we see this as such a significant opportunity.

Then, as we focus on segment profitability, this shift to direct immediately starts shifting the corporate operating margin because the direct channel is significantly more profitable than the retail channel, even when retail was at its peak.

Pat, could you speak to the shift, and how the Internet is driving not only the Internet business, but also really supporting retail.

We're really excited about what we're able to do on the web right now.

A broad range of e-Marketing activities.

As Laura pointed out earlier, the research that we're conducting indicates that many of these activities drive incremental revenue to our retail channels.

So, we can invest more than a pure play or someone who is focused just on the web.

And that is yielding very good returns for us, and the scale with which we are able to do it is very positive.

And Kate McShane with Citi Investment Research has our next question.

Thank you.

This is a follow-up from an earlier question.

I wondered if there was any way to quantify how much of your overall comp resulted from some of the new customer acquisitions?

And with all the enhancements you have made to your website, what capabilities do you have in the fourth quarter around holiday that you didn't have last holiday, and how much do you think this will drive the customer acquisitions?

Pat, would you like to speak to the fourth quarter for direct?

We continue to improve the customer experience incrementally.

We have a very focused effort to look at each element of the customer shopping experience, and improve it across all of our brands.

We've introduced electronic gift cards, which we believe will be a significant program for us.

Our early results are very positive, so that customers can order a gift card at the last minute from us.

We've also converted all of our websites to a mobile platform, so that our customers can shop easily from their mobile phones, which is another program that we did not have in place last year.

Then I'd like to add to that.

We have made significant advancements in search, both natural search and paid search, and then targeted e-mail and remarketing have also been very strong for us.

And these are capabilities that Pat and I would both say have just progressed every quarter.

The technology keeps getting better.

Our structure, our ability to use this information is getting better.

So, we think those two will also be significant opportunities as we come into the fourth quarter.

And we'll move next now to Brian Nagel with Oppenheimer.

Hi, good morning.

Congratulations on another nice quarter.

Thank you.

The question I had, I just want to dive a little bit deeper into your fourth quarter, updated fourth quarter guidance you gave.

And Sharon, taking into consideration the pretty significant sales momentum or sales acceleration through Q3, the commentary you've made, the guidance you've laid out for sales in Q4, as well as some of the commentary you've made with respect to margin improvements you continue to see, I guess as I look at the guidance I see there's a disconnect.

It seems like your margin expectations for Q4 seem to be disconnected with some of the other commentary.

Wonder if you could maybe explain some more in detail what's really behind your expectation for a 20 basis point improvement or so in gross margins in Q4.

Absolutely.

First, let's just speak to the top line guidance.

If you take a look at three year comps or three year revenue, which you need to consider both when you think about our business, especially in the fourth quarter, you can look at three year comps, but I think it's really important that you guys look at three year revenue trends as well, because you have to get into the direct business.

But when you look at that as a total Company, what you're going to see is that the fourth quarter on a three year comp basis looks very much like the first three quarters of this year, and we think that that, from a guidance point of view, is absolutely appropriate.

So, we have guided it that way.

It gives you guys a basis on which to come to your conclusions about what you believe about the macroenvironment and the economy.

The other thing to keep in mind just factually is that there is an extra shopping day this year, which we also think will help support the comps this year, and that can be for our businesses with the way they ramp, particularly Williams-Sonoma, that of course, is also very important.

When you think about the gross margin, I have said this consistently all year.

We have maintained a cushion in the gross margin because we believe that in the event that the industry does get more promotional, and that we do find the customer to be a little resistant and needing a little bigger hug, we needed to keep some cushion in that margin for potential markdowns.

And we have kept in it this range of 40 to 50 basis points.

I've said this all year.

We didn't pull that to give guidance for the fourth quarter.

So, we'll see how it plays out.

But we believe -- so that would be, if you're thinking about it, I think that the other levers are working exactly like you would expect them to.

We continue to see cost reductions, sales leverage and occupancy, we continue to see lower occupancy expenses.

We continue to see other benefits.

Now, the one thing I do want to point out to everybody, though, is that if you go back to the Q4 2009 press release, we talked about the fact that we had a very significant gain on the inventory when we did our fiscal inventory last year.

And that is a margin-driver that we are not going to be able to -- that we will not necessarily be able to comp this year, and didn't assume that we would comp it.

So, we also had that non-recurring event last year that hit the P&L that you just have to keep in mind.

So, those are how we're thinking about it, and I think that sort of lays the foundation for you to think about it.

Next we'll move to Neely Tamminga with Piper Jaffray.

Great, good morning.

And I also want to offer my condolences on your loss of Howard.

So, just one more related question to what Brian just asked.

Am I hearing this fully correctly, that basically you have exited out of Q3 possibly even higher than the reported Q3 number because of the acceleration in the business, particularly at Williams-Sonoma, so let's say high single digit is where you're exiting out of the business at least, into Q4.

You indicated trends have continued from a comp perspective, yet the guidance is more of a low to mid single.

Is the delta solely because of conservatism?

Neely, the guidance is based on the three year comp.

So, we are continuing -- we continue to see that proving itself to be true every quarter, and so we're continuing to guide there.

So, to your point, yes, we saw acceleration, we saw more at the end of October.

Obviously, one month is not a trend, and Q4 is an enormous quarter.

You're going to go from $816 million of revenue to over $1.1 billion.

And we do not believe that you take a moment, and then you start trending that out to the rest of the year.

So, that's how we guided, and what you believe about -- like I said, I'm going to put this back to you guys.

You know how we guided, and then you have your own economic outlooks, so we feel very strongly that this is a very solid range to be in.

Is there upside?

Of course.

And if there is, do we have the inventory to support it?

We do.

And that's how we will approach the quarter.

Scot Ciccarelli with RBC Capital Markets has our next question.

Hi.

Scot Ciccarelli.

I apologize for being dense on this because clearly that must be the case here.

You talked about how trends have improved as the quarter progresses, weather got colder, and yet I thought earlier in the call you had said trends had softened in late 3Q and early 4Q.

Did I misunderstand that, or were we talking different brands?

I think we're talking -- actually, factually, in our -- we were talking specifically to the Williams-Sonoma brand, and we did see an improvement in the performance of the Williams-Sonoma brand throughout the third quarter.

So, that was what we were referring to, Scot.

But in the -- but then again, October was, as a total Company, better than September, and I'm not going to get into starting to guide monthly comps because we don't do that.

We are coming into Q4 with very -- Laura, in her prepared remarks said, we're entering the quarter with momentum and great confidence that we could have a very good quarter, but it is a very long quarter, and a lot of sales to be done.

Remember, you don't really ramp until you get into late, late November and then December.

So, what you see, you have to have a big hill to climb.

So, the three year comp is what we've guided against, and that's what you guys need to know, and you can come to your own conclusion about the consumer.

Our question is not about our execution.

I think we believe that our stores look as good as they have ever looked in a fourth quarter.

And that our whole question is about what the consumer's going to do in the fourth quarter.

Next we have David Magee with SunTrust Robinson Humphrey.

Hi, guys, and congrats on the quarter.

I don't want to be paranoid, but just in the commentary about the government numbers, and some of the furniture retailers, is that just sort of something you're noting, or is it of the magnitude in your mind to cause you to plan for next year differently at this point?

Laura, you want to speak to that?

I think it helps explain probably why we're doing well, in that we're taking share.

The total macro numbers, domestic, are not growing, particularly in our categories.

Yet, we are.

And it's proving that the work we did over the last two years to set ourselves up with compelling artisanal product at great values, and the enhanced design services and in-store services are building loyalty with our current customers, and helping us attract new customers.

So, it's a very interesting opportunity for us because the home furnishings market has always been large, but highly fractured, and so our entire strategy domestically is built on taking share, and doing those things that will, as I said earlier, delight and attract our customers.

Next we'll move to Chris Horvers with JPMorgan.

Thanks, and good morning.

Have you thought about how much the Williams-Sonoma reserve effort cannibalizes stores, the sales comps in the store base?

And then also, can you speak to how we think about selling margins, that's been a big driver of margins for the past two years or so.

Are you getting to that point where maybe you've lapped some of that improvement, and that won't be as large a driver?

Thanks.

Speaking to Williams-Sonoma reserve, Chris, we believe that the reserve program is making us more competitive on the Internet.

We do not see this as a competitive strategy to the retail channel.

So, the purpose -- that is the purpose of reserve, and no, we do not believe that that is going to have a significant impact.

It's also important to remember that half the assortment in the retail stores is not on the Internet.

You have things in the store that you don't buy on the Internet, so you also have that exclusive retail assortment that you have to pull from as well at retail.

So, that is not a concern for us.

As it relates to the selling margin, we are in with inherent in the guidance is improvement in the selling margin, as there has been, and we continue to say that going back to historical peak selling margins, whatever you would like to do, we still have a ways to go on those, as Laura just talked about.

We believe the customer still needs value.

We still believe that we need to be a little more promotional than we've ever been before.

We believe it's beneficial.

We believe it's taking share.

And we believe that it's also creating a relationship with our customers.

So, no, we do not believe that we have achieved the ultimate in our selling margins, but at this point in time, we believe that it will be recovered slower.

We'll move next to Laura Champine with Cowen and Company.

Good morning, guys.

Could you talk a little bit about the West Elm, the outlook for growing the footprint at West Elm, how large you think that will be at maturity, and how quickly you can get there?

Absolutely.

We couldn't be more excited about West Elm.

Laura, would you like to speak to that?

Sure.

As we've been saying all year, we put a strategy together, and we've been measuring it very thoroughly every month, every quarter.

And it's tracking to tell us that we can expand this brand profitably.

So, we are currently looking for a handful of stores that make a lot of sense to us, and we're going to make sure that we find the best locations, and that we read the results before we start a further expansion of West Elm stores, because we need to even more thoroughly understand street versus mall, urban versus suburban.

And as excited as we are about the current performance, we need to see as we expand the stores, how many we can have in a market, and which markets we will put them in.

So, I'm not ready to give you a number yet, I'm sorry to say.

We will probably be more clear about that next year, in the beginning of the year, when we give full year guidance as we get through the holiday season, because a key component of this strategy has to be that we see the big Christmas lift in this brand that we're planning.

So, that is the update for today.

And we'll take Michael Lasser with Barclays Capital next.

Good morning.

Thanks a lot for taking my question.

Two questions, actually.

Number one, how are you seeing product cost inflation as you're beginning to buy for spring, and what can you do to offset some of the perhaps pressure there?

And two, what are occupancy costs going to do in 2011?

Will they be down at the same rate that you're seeing this year, perhaps even more?

Laura, would you like to speak to the product cost?

This is obviously a big topic, and Laura has spent a significant amount of time with our vendors very recently, so Laura would you take that?

Sure.

We have seen increasing pressure on cost, particularly this last month, both raw materials as you all know, and I'm sure aware of the cotton prices, and then also labor rates in Asia.

The good news is we've been very proactive in cost containment efforts, and are still in the early implementation stages of some of these efforts, and I mentioned them earlier, but I'll just bring them back up again.

So, both from a network design perspective, also containerization and packaging reengineering.

So yes, we see the pressure, obviously, and we are building strategies to combat it, and to continue to improve our profitability.

And then as we think about occupancy for 2011, we are not prepared to guide costs.

We do expect, as you know, we are closing, permanently closing stores at the end of the year, 23 stores at the end of the year.

That will, of course, contribute to lower costs.

We will see increases, our leases have increases in them, but we would -- our goal would be to really minimize any dollar increases in occupancy next year, and that is our strategy.

And next we have Jennifer Milan with Sterne Agee.

Hi, thank you.

Just wanted to offer my condolences also.

And most of my questions have been answered, but I was wondering if you could talk about -- I know you touched on the new customer acquisition across the chain, but I was wondering if you could quantify that at all?

And also talk about that on a sequential basis, because I think you had talked about strong double-digits new customer acquisition in the past.

And real quickly, just wondering if you could comment on how many people have signed up for the shipping, $30 shipping for the WS brand?

Let me take that question.

We've seen consistent growth in new customer acquisition across the brands all year, and that's obviously the best indication of how you're going to do next year, when you have a strong base of new customers going into the year.

With respect to the Williams-Sonoma reserve, we haven't released numbers.

I would say that we're very positively surprised by the number of people who have signed up compared to our initial projections, but it's a new program for us.

Next we have Peter Benedict with Robert Baird.

Hi, guys, two-part question here.

Not to belabor the merchandise margin or selling margin discussion here, but maybe, Sharon, you can speak to how your fourth quarter gross margin guidance compares to maybe your thoughts 90 days ago.

It sounds like you're still baking in a certain level of conservatism.

Just want to confirm that.

And then secondarily, just thoughts around the buyback strategy beyond this year, what type of guidelines should we be thinking about in assessing your willingness to up the buyback?

Thank you.

Peter, as far as our guidance for the fourth quarter, because it has been taken up on the revenue side, and very little change throughout, the same level of conservative thoughtfulness has gone into the margin guidance that we have had all year.

Now, I do have to say that I saw a sell side report this morning referring to the fact that our outperformance versus our guidance this quarter was not as high as last quarter, and I do think it needs to be kept in perspective, that we doubled our guidance at the end of Q2 for Q3.

So, I would not -- I want to make sure that your expectations are appropriately tempered to understand that we went out this year with the expectation of a very solid fourth quarter, clearly.

We had an excellent fourth quarter last year.

We're comping a very good quarter last year.

But within our numbers, if we could deliver every single line item exactly like Q3, certainly the Q4 numbers would be better than that.

But I think that it's important to say that we are looking at our business.

This is a huge ramp for us in Q4.

We all know that.

It's over $300 million of sequential improvement.

A lot of that, as we've consistently said, comes from the Williams-Sonoma brand.

And I think that as you think about how conservative it is, you have to put all those facts together, and come to a point of view.

We are very confident in the guidance we just put out there today within our ranges.

When you guys go above them, that gets into your macro outlooks.

I think you guys know that we know what's happening in our Company, but you have your macro outlook and we have ours.

And I can't ignore the data around us that says that there's some sloppiness in the customer that is out there in home furnishings, and I think it is -- I think what Laura said in her prepared remarks, we are -- have exceptional execution planned for Q4.

We are as tight as we've been, so we know that from an execution point of view, we can pull the quarter.

We have these new tools in our toolbox from a direct point of view that our competitors don't have.

All of the things we're doing with the database, all these new customers on the house file, all of this capability from an e-com point of view, those are things that our competitors don't necessarily have.

So, we feel very good about the numbers we've put out there, and yet on the selling margin side, clearly there is that cushion which I've disclosed to you guys, and that would be a conservative assumption.

I'm sorry, I wanted to also answer your question about the buyback.

We did say in my prepared remarks that we will, do expect to complete the share repurchase program we just authorized, and we will continue to look at uses of cash just like we have consistently done, going forward.

And next we do have David Strasser with Janney Montgomery Scott.

Thank you very much.

Two questions, somewhat related.

The first question is, when you talk about pages and catalog shipments growing as they are, if you took out the emerging brands and kind of looked at on a like for like basis, how would it be for the more established brands, number one.

And somewhat related to that, there seems to be a trend, and Wal-Mart is obviously not your biggest competitor, but Best Buy announced it yesterday, a trend towards free shipping.

You guys probably have a better look than anybody at the consumer as it relates to Internet.

Do you see that trend happening?

If it did, would that have a big impact on your profitability going forward, or how do you think about that as a potential trend going forward?

Thanks.

As it relates to catalog circulation, and what we're planning on doing in catalog circulation, we find those numbers to be highly competitive on a brand by brand basis.

So, that's why we don't provide more insight into those.

But I will say that because our catalog circulation in the core brands is so high, that the emerging brands have difficulty to move that number materially one way or the other.

So, you can think about it that way.

As it relates to the trends on free shipping, clearly we have responded to shipping by introducing, where we have the highest level of competition which is in Williams-Sonoma online, we've responded to that by putting in Williams-Sonoma reserve.

And then I'm going to let Laura speak to the -- her broader perspective on shipping overall.

So, Laura, you want to just put your thoughts on that?

Sure.

You obviously see a lot of free shipping in the apparel side.

Very different when you receive a dining table delivered to your home, do you expect it to be free.

And so what we're looking to do is to be competitive and reasonable and easy to understand in our shipping value proposition.

Next we have Matt McGinley with ISI Group.

Good morning.

Can you help me with the unallocated expense that you had there?

It seems that you're not levering that in the same way that you're leveraging gross margin and other G&A in the quarter on the higher sales.

Is that something you expect to leverage at some point, or I guess can you help me with that?

On the non-allocated segment, the principal increase in that number is related to incentive compensation.

And it is about the timing of the way our earnings fall during the year.

So, long-term, we have said we have taken an enormous chunk out of our non-allocated.

And as we grow, I think that as you think about margin expansion for the Company, while many of these fixed costs will lever over time, I think to see the kind of improvements that we saw after the recession first hit us, would not be realistic.

But this particular quarter, that tweak happens to be the timing of the way we book incentive compensation.

We go next to Matt Nemer with Wells Fargo Securities.

Good morning.

I'd like to add my condolences to you and Howard's family.

My first question -- two questions.

First is on catalog circ, could you just talk about what you're seeing in the industry?

I thought I heard that Cornerstone was up mid-teens.

I'm just wondering if you think that the mailbox is getting more cluttered from some of your competitors.

And then secondly, as it relates to guidance, the flow-through of gross profit to EBIT is quite a bit lower than it has been historically.

Looks like implied it's about 60%, and I think it usually runs about 65% or 70%, so just wondering if there's something in expenses that would tick up this year versus other years, other than incentive comp.

Thanks.

Okay.

Pat, could you please speak to the trends that you're seeing in catalog circulation, and other retailers?

Matt, just talking to our printers, there has been an uptick in circulation off of some very low numbers over the past couple years, so people are seeing the response come back, and people are starting to mail a little bit more than they have in the past.

But certainly not back to peak numbers.

And then Matt, as you think about the flow-through, there's so many different line items that flow through to the bottom line.

This year, if you're looking at the flow-through versus just LY, last year obviously we will be investing in advertising coming into this fiscal -- next fiscal year.

And we had told you guys that as you think about your models, that you should be thinking about targeting for the year an 8.6% ad cost.

Now, clearly within that range, we have said each quarter, and you've seen each quarter that we've come in somewhere 10 to 20 basis points below that.

But last year in the fourth quarter, we were not yet prepared to start investing in some of the initiatives that we had, and so we are -- the way that we timed it this year, we did time it to be able to have a greater investment in Q4.

So, that may be what you're seeing there.

But I think that to go back to models, back to 2005, 2006, 2007, something like that, I think that's very difficult in this environment because obviously what's killing us there is the occupancy deleverage.

We still have -- we still are delevering occupancy substantially versus our peak years, and that's really where your flow-through becomes a problem.

That does conclude the question-and-answer session for today.

At this time, Ms.

Laura Alber, I would like to turn the conference back over to you for any additional or closing remarks.

Sure.

Thank you for joining us today for our Williams-Sonoma third quarter fiscal 2010 earnings conference call.

We appreciate your time and continued support, and we'll talk to you next quarter.

And again, that does conclude today's conference call.

We'd like to thank you for your participation.