Zumiez Inc (ZUMZ) 2010 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen and welcome to the Zumiez Incorporated fiscal 2010 third quarter earnings call. At this time all participants are in listen only mode. We will conduct a question-and-answer session towards the end of this conference.

Before we begin, I would like to remind everyone of the company's Safe Harbor Language. The following discussions may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Please note that actual financial results of the company for the periods being discussed may differ materially from the financial results projected or implied in the forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from projected results is contained in the company's annual report on Form 10K and other documents filed by the company with the Securities and Exchange Commission. The company disclaims any intent or obligation to update forward-looking statements. No reporting or rebroadcast of this call is permitted without the company's expressed written permission. I would now like to introduce your host for today's conference, Mr. Rick Brooks, CEO of Zumiez. You may proceed.

Thank you, Katelyn. Good afternoon and thanks for joining us to discuss Zumiez's third quarter fiscal 2010 results. Joining me today is Trevor Lang, our Chief Financial and Administrative Officer. Following my opening remarks, Trevor will review our financial and operating highlights. Our results significantly outpaced our initial projections and our 14.4% comp increase was our best performance since the first quarter of 2006, reflecting the ongoing success of our unique business model and the investments in our business throughout the recession, all of which have helped strengthen our position as the leading branded action sports lifestyle retailer.

Our teams did a tremendous job positioning the Company for back-to-school. Our diverse assortment of brands combined with compelling selling strategies clearly resonated with consumers. In addition to the strong sales and product margin results, the operational investments we've made allowed us to leverage our cost structure and produce the highest third-quarter profit in our history. Positive sales momentum experienced early in the quarter accelerated in September and October and has continued at the start of the fourth quarter as November comps increased more than 20%. Our performance has us well-positioned financially with close to $100 million in cash to invest in the talent technology and programs that we believe will lead to sustainable sales and earnings growth over the long term.

Our priorities continue to be driving same-store sales gains, adding high return new stores. We opened seven new stores in the third quarter and have opened all 27 stores we planned and 2010. As we look into 2011 and beyond, we expect to open eight 10% new domestic stores each year and expect our total domestic store base to eventually be between 600 and 700 stores.

Further building our e-commerce channel. This business continues to grow rapidly, up 165% in the third quarter and 130% in the first nine months of the year. The new investments in talent, process and technology introduced over the last few years has allowed us to better reflect the Zumiez brand experience. We have a good plan for future growth in the web and believe this channel could be substantially larger for us over the next five years. And investing in our people, infrastructure and processes aimed at improving our decision-making, speed to market and leveraging our cost structure to allow for sustained profitable growth.

This has certainly been a challenging time to be a retailer. The US economy has improved from its low of a year ago, consumers appear more willing to spend on discretionary items such as apparel, footwear and accessories. However, the economic recovery appears to be fragile, and a slow and long recovery is forecast due to unemployment levels are still exceedingly high. And now new pressures from higher commodity, labor and transportation costs adding another layer of future uncertainty.

Despite these headwinds, we continue to be optimistic about our ability to possibly expand our market share. And as we did during the recession, we will continue to stay true to who we are and focus on things that distinguish Zumiez from the competition, from the wide selection of established as well as hard to find apparel. footwear, accessories and hard goods providing best in class customer service and offering a unique shopping experience. With that, I'd like to turn the call to Trevor who will review the financial results in greater detail and discuss our outlook for the rest of the year and into fiscal 2011 .

Thanks, Rick, and good afternoon, everyone. We are very pleased to have outperformed our expectations for the quarter. Strong sales growth coupled with improved gross margins and controlled spending allowed us to more than double our net income from last year and achieve record third quarter earnings and our highest third quarter operating margin. Investments we made along with the strategies we are executing continue to drive our unique business model. This has positioned us well in the minds of consumers, and we are capitalizing on trends and clearly have the momentum behind us.

In the third quarter, net sales increased 20% to $135.9 million from $113.2 million in last year's third quarter. The increase in net sales were driven by a comp store sales increase of 14.4% and the opening of 27 new stores since the end of the third quarter 2009. To break down these results a bit further, geographically, our sales performance was strong across the entire chain lead by the South region which comped up approximately 17%. Sales of from our website continue to accelerate, increasing 165% in the quarter.

The tremendous growth in our web business has been a focus for us all here at Zumiez. All facets in key metrics of our business have meaningfully improved over the last two years. All of our departments have positive comps except juniors which comped slightly negative in the quarter. Our comparable store sales gains were primarily due to the increased number of transactions, partially offset by a decrease in the average dollar amount per transaction. The decrease in average dollar per transaction was driven by a low double digit decrease in average unit retail. Gross profit for the third quarter of 2010 increased $12.9 million, or 32.3% to $53 million, or 39% of net sales compared to gross profit of $40.1 million, or 35.4% of net sales in the third quarter last year. The increase in gross profit margin of 360 basis points was driven primarily by higher product margins across all departments, except boys, and a reduction of occupancy costs as the percentage of sales.

Moving to expenses, in total, SG&A expenses increased 7.3% to $34.1 million from $31.7 million. However, as a percentage of sales, SG&A decreased 300 basis points year-over-year, from 25% to 28%. The decline in SG&A as a percentage of sales was driven primarily due to leveraging our cost on a 20% sales increase. Operating income increased 127% to $19 million in the third quarter of fiscal 2010 from $8.4 million in last year's third quarter. Our net income in the third quarter increased 143% to $12.3 million, or $0.40 per diluted share from $5.1 million, or $0.17 per diluted share in the prior year period.

Turning to our nine-month financial results. For the nine-month period ended October 30, 2010, net sales increased $47.5 million, or 17.3% to $322.7 million from $275.2 million in sales in the first nine months of fiscal 2009. Comp store sales for the first nine months of 2010 increased 11.3% compared to a decrease of 13.6% in the first nine months of fiscal 2009. Net income increased significantly to $9.2 million, or $0.30 per diluted share from $300,000, or $0.01 per diluted share in the prior year period. Included in our 2010 year to date results are identifiable costs of $2.4 million, or approximately $0.05 per diluted share associated with the relocation of our distribution center from Everett, Washington to Corona, California and a charge of $2.1 million, approximately $0.04 per diluted share for the settlement of a previously disclosed lawsuit. Included in our results for the first nine months of fiscal 2009 is a charge of $1.3 million, or approximately $0.03 per diluted share associated with the settlement of a previously disclosed lawsuit

Turning to balance sheet highlights, as of October 30, 2010, cash and current marketable securities increased to 21% to $98.9 million from $81.8 million as of October 31, 2009. The growth in our cash was a result of four quarters of solid improvements in earnings, well managed working capital, somewhat offset by the purchase of our new distribution center in Corona for $12.4 million. Inventory is $83.1 million, representing an 8.8% increase from the $76.4 million a year ago. At the end of the quarter, inventory increased about 2.9% on a per square foot basis from the same time last year. Also at October 30, 2010, the Company had no debt, including no outstanding balances on its revolving credit facility.

Now turning to our November sales results. Our comparable store sales increased 20.7% for the four week period ended November 27, 2010. In the prior year, comparable store sales decreased 8.5% for the four week period ended November 28, 2009. Total net sales for the four week period ended November 27, 2010 increased 26.2% to $40.4 million compared to $32 million for the four week period November 28, 2009. Our November 2010 weekly comps were 18.9%, 24.3%, 18.8% and 20.7% for weeks one through four respectively.

Our comp store sales results on Black Friday and the holiday weekend were similar to November's full month comp store sales results. The increase in comparables store sales for the four weeks ended November 27, 2010 was driven by an increase in comparable store transactions. For this four week period, dollars per transaction were down due to the decrease in both average unit retail and units per transaction. For the four week period ended November 27, 2010, our highest comp in region was the South, up approximately 26%. Our stores in the Midwest comped up approximately 25%, our stores in the Northeast comped up about 17% and our stores in the West comped up about 15%, with the remaining increase in comparable store sales coming from our e-commerce sales. Also during the four week period, men's accessories, footwear, juniors and hard goods posted positive comps and boys posted negative comps. Our year-to-date comparable store sales were 12.3% versus a negative 13.1% for the same period last year.

Now let me outline our guidance. In putting forth this guidance, we want to remind everyone of the complexity of assessing sales, product margins and earnings growth given the challenging economic conditions. For the fourth quarter, we are planning same-store sales for the remainder of the quarter to increase in the high single digits to low double digits which, combined with November's actual results, will result in a comparable store sales increase in the low double digit to mid-teen range for the fourth quarter and total sales to be in the range of $153 million to $157 million.

Operating margins are planned to be in the 13% to 14% range, and this should result in diluted earnings per share to be in the range of $0.43 to $0.47. Our fourth quarter guidance is predicated on achieving a modest increase in product margins in the quarter. With regard to the full year, we want to share with you some other important points. We have opened all 27 new stores for fiscal 2010 and closed four stores. Our current plan is to have full year capital expenditures be between $26 million to $28 million, including approximately $12.5 million associated with our new DC in Corona, California.

We expect depreciation and amortization for fiscal 2010 to be approximately $18 million. As a reminder, our depreciation 2010 has been reduced compared to the prior year due to the change in the estimated useful life of leasehold improvements discussed in the first quarter. We anticipate our year end ending inventory will increase in the high single digit to the low double digits. We intend to generate positive free cash flow for the year and will end fiscal 2010 with the highest cash and current marketable securities balance in the history of our Company. We are still in the planning stages for fiscal 2011 and therefore, are not ready to provide specific guidance. However, our focus will be on continuing to grow top line sales and gaining market share while increasing earnings.

While we are not giving specific guidance on a macro level, we are all aware of the challenges we face related to increasing product costs . Rising costs and longer lead times will challenge our ability to maintain product margin in 2011. A year where we will be up against our highest product margins in our history. At this stage, we believe these factors will have less of an impact in the front of the year, but will be more meaningful in the back half of 2011. We are still building our strategies to address these pricing pressures and will update you when we discuss our fourth quarter earnings in March. As a reminder, our long-term strategies are built around driving same-store gains, opening new stores, growing our e-commerce and multichannel sales, as well as potential new initiatives including our upcoming expansion in Canada. We believe that by focusing on these initiatives, we will be able to drive double-digit percent revenue growth without returning to 20% annual square footage growth and ultimately obtain operating margins in the low double digits to low teen range. Katelyn, I think we'll now turn it over to

(Operator Instructions) Your first question comes from the line of Christine Chen of Needham & Co. You may proceed.

Great, thank you. Congratulations on a great quarter and a strong Black Friday weekend and month.

Thank you.

I wanted to ask, I know that environment out there is tough and you've been continuing to do your bundling strategy, but you also have some higher price point items. Are you seeing the customer gradually transition more toward higher price point items, or are they still searching for value?

I think it -- Christine, it's for us, it's always a combination of all of our pricing strategy trying to work together, trying meet the needs of each customer that comes in the door. So -- and as Trevor said, we are still seeing AUR declines here in November. So, on an overall basis, I think the AUR tells a story, but again, we're offering a full range of price points for every customer that walks through the door. So, we are trying to meet the needs of each of those individual customers.

And as you go ahead to next year, do you see opportunity to maybe back off a little bit from that value messaging, or do you think that's going to be challenging?

Again, I think the customer will decide on that, and I can tell you that I think most of you noticed that we weren't probably as aggressive as some of our competitors on Black Friday in terms of our promotional cadence. So, I think we're going to go where the customer wants us to go . That's what we always do, and our customer will tell us based on how they're buying the product, how we need to supply them in product. So, we'll pay attention, we will listen closely, and we will react to what the customer tells

Thank you. And just at housekeeping if I missed it. What was ending square footage please?

Just looking there, Christine. It's just over $1.1 million, $1.174 million.

Great, thank you and good luck.

Thank you.

Your next question comes from the line of Edward Yruma of Keybanc. You may proceed.

Hi, thanks very much, and congratulations on a very good quarter. Can you talk a little bit about your ability to chase product in the fourth quarter? It seems as if your sales trends are running obviously quite strongly. And how comfortable are you that you can continue to maintain this comp level given your current inventory level?

Again, just to reiterate the guidance and as you know, the guidance was for remainder of the quarter that we'd be in the low -- or high single to low double digit range. So, we are not guiding that we can maintain this 20% pace, let's be clear about that. Our numbers get tougher, particularly around those key weeks a year ago. We have done, as you're suggesting, quite well against our plans and our sales, and our ability to chase product is going to be a function of category by category issues.

So, there will be some categories it's going to be very tough for us to chase product. Just the nature of the categories there, we basically produced to meet our orders, and we will be challenged in some of these categories at getting products. So, we try to reflect that as we thought about our sales growth in those numbers. For other categories, we will have quite a bit of flexibility moving out the product. So, in our business where it's so complicated by the large number of categories, significantly more than most of our competitors deal with, as well as the large selection of brands. It makes it a very challenging question and a very challenging process. I think everything we do is a little bit tougher in that sense. We will be constrained, though, in some categories of product where it's going to be very difficult to chase product, and in other categories, we will be able to do some of that.

Great. And one follow-up, if I may. I know that you've been testing or experimenting with a new store prototype, a new store look. Can you talk about some performance metrics around some of these newer stores and whether you've seen a demonstrable lift relative to the rest of your fleet. Thank you.

Sure. We actually began rolling out the new store look, I believe July 2009, I think is when we started with the new rollout, June, July 2009. So, we are in our -- all the new stores this year have been with the new look. Because of the cycle of the economic times, Ed, it's been very difficult to notice whether the impact of those stores relative to everything getting a lift with the rest of our business. So, we have some anecdotal information relative to dollars per trans and things like that, but nothing we're willing to call conclusive. We will say that the customer reaction to the new store, we view as very positive. We liked the updated feel of the stores, look and feel of the stores we think was a needed refreshment. But it's a very hard to draw any conclusion because there's just so much noise in the data relative to the macroeconomics cycles.

Great. Thanks very much.

Your next question comes from the line of Adrienne Tennant of Janney Capital Market. You may proceed.

Thank you. Good afternoon, and congratulations on a great quarter. My question is actually on, can you give us a little more color on the difference between the branded lead times and the private label lead times? And then if you bought through Q1, say, of next year, are you comfortable sharing with us a quantification of the AUC increase in the first quarter, Trevor? Thank you.

Yes, I think, as Rick mentioned, if you talk about snow hard goods, those are very long lead times, and those we'll be chasing with where the vendors have excess inventory, that's probably our longest lead time. Shoes, we don't really do any private labels shoes. But shoes will again be available based on excess inventory at the store level. As you get into the apparel based products, there are areas there where we can chase much faster. And so as Rick said, the five main departments we have, you have to look at it on a department by department and then down to a category by category basis. And we have looked at that at a very minute level and have built up a plan and have come up with the projections that Rick and I both shared with you. So, we feel good about the ending inventory we projected as well as sales and margins gains that we were planning on for this year. I don't think we're going to get into Q1, that's a little bit outside of our discipline. So, I think were going to hold off on answering that question until we get to our year end earnings call.

Okay, and then --

And a bit of there, Adrienne, is (inaudible) specifically the brand versus our private label business. Again, it's a very difficult challenging question for us, because it's really a category by category specific answer. So, as you know, T-shirts, our brand department can respond very quickly and that's a business we do almost no private label in. In some cases, our private label tends to be more of the cut and sell bottom term pieces, of those take a bit longer to respond to . So again, it's -- you literally have to go category by category in order to get a

Okay. And do you have any concerns -- one of the things that we're hearing is that some of the retailers might be pulling up inventory into the second quarter to try to avert some of the higher costing in the back half. Are there any concerns that you have about not being able to get the quantities that you desire?

No.

Not today we haven't heard anything. We're certainly, we've reading all the same thing in the press that everybody else is talking about. But to date, we've not been made aware of any issues. For the most part, for the large contingent of our vendors, we're their largest customer. And so that's a great position to be in as you're working with these folks.

Okay, great. Best of luck for the holidays.

Thank you Adrienne.

Your next question comes from the line of Jeff Klinefelter of Piper Jaffray. You may proceed.

Yes, thank you. Congratulations to the Zumiez team on a great year. A couple quick question, one on the e-commerce leverage. Given the strength -- significant strength of that business, just curious if you are starting to see any leverage points between the e-commerce in the store, testing opportunities, inventory management leverage, not -- you needed to leverage inventory with the comp trend currently, but are you seeing any of those synergies between the two businesses that you think will just get to be more and more impactful to margins going forward?

Yes, I'll start off and I'm sure Rick may have a thought or two. But I'd say yes, we are learning a lot from the web business, and the consumer is reacting positively to having a great experience across the channels. And I think the talent and the infrastructure investments we've made across the organization have allowed us to learn and be able to react a lot quicker. And so yes, we are getting trend reads faster, we are able to allocate our inventory I think better, with some of the tools that we've put in both on a website and what we're optimistic on our merchandise planning and assorting planning solution that we're learning about now.

Some of the people in training have provided us opportunities, and we are getting operating leverage out of the web business today. It's operating margins are up relative to last year, both because our product margins are up and because the growth in the revenue has exceeded our expectations, so we are getting operating margin leverage out of that. There's not a big difference today between our four wall store operating margins and our web business, partly because we have been investing in it so heavily . I think those are probably the big points I'd make about the

And the only thing I'd add, Jeff, is again, we -- as you know, we are big believers in this multichannel cross-channel world. We think that investing in how we're doing these, in both those multi and cross-channel efforts is yielding great results across both all of our channels of business, and that includes what we're doing on the marketing side relative to really get more active on with what we are doing on Facebook and the social networks and our messaging and how we're messaging. We really view our whole approach here as part of a larger strategy, and we believe that we're getting a good result there that's lifting all of our channels.

Okay, thank you. And one other. On the store growth, give your focus now on accelerating that and hitting the 8% to 10% level over the next couple of years, we've talked in the last year or two about releasing environment vacancies, some potential concessions depending on the market. How would you describe the current environment? As you look at that 8% to 10% rate, what do you anticipate getting in terms of the economics, four wall economics of those new classes of stores?

I'll start just with a general on the deal making environment and then let Trevor talk a little bit about the economics, Jeff. Economics and working with landlords is always a balance. While we certainly view our relationship with landlords as valuable partnerships, we certainly are challenging each other all at the same time, that's the nature of their relationship between landlords and tenants. And particularly, I think good tenants like ourselves that have a good long-term future and a good strong landlords. So, we value relationships greatly, but there is always going to be a battle because were both working hard to get the best deal for both of us, and we are good at finding that balance. So, we're getting deals done that we feel are good deals, and we're getting them done in a good mix of centers from our perspective. And I'll let Trevor talk a bit about the four wall.

The other thing that's very interesting about this space now, if you look at the public large retailers that are in our space, I think would be exception of the Aeropostale, the vast majority of them are going backwards from a store count perspective. And so that'll be interesting as it plays itself out over the next three to five years. And the landlords look at their portfolio of key retailers, and we will become I think more enticing to them because of the fact that the other retailers are going backwards. To get into new store specific, our class of '09, all 36 of those stores have all anniversaried now. It's the best returns we've had fiscal '06, and our costs have come down meaningfully. If you go back and look at our new store costs, probably the highest they ever were was in the class of '07 at about almost $440,000. Our new stores now are going to be probably closer to, I think $340,000, and we're coming even down a little bit on that for the class of 2010. So, we're getting great returns on these new metrics. Our product margins are up. So we're currently yielding about 20% four wall EBITDA margins, and that's based on our revenue base is a good return for us, so we're very pleased.

The other thing about our real estate strategy, as most of you know who've followed us for a while, even when we took down the number of new stores relative to our historical opening cadence, we kept the strategy the same, meaning opening a good cadence of A malls, B malls, C malls, opening as best you can about half new markets, half existing markets. And so by following that strategy, we still have a good -- the stores we have left to open are in good malls, and the amount we have left to open in mature markets and new markets is still about that 50/50, and we actually have a slightly higher percentage of new stores left open in the B malls and A malls which again, is a good thing for us because we do slightly better in the high volume malls. So, we're still optimistic about the remaining 200 to 300 stores we have left open, how we'll go about executing that.

Great. Thank you very much. Very helpful.

Your next question comes from the line of Dorothy Lakner of Caris & Company. You may proceed.

Thanks, and congratulations on an awesome quarter and start to the holiday season. Just wanted to follow-up on the juniors business. Obviously, you have had great comps and you made some progress in juniors, but just kind of wondering if you can give us a status report on that, where you feel you are, where you feel you've got opportunity and so forth. Thanks.

Yes, so this is Trevor . If you go back to the end of last year, we started working aggressively to reposition that business because the fast fashion trend, I don't want to call it trend, but it really hit hard in the last few years. And so we really worked aggressively to get the talent in place and then to build that model for the next year. And so we executed on those strategies in the early part of the year. As we mentioned, all throughout our previous three quarters' earnings releases, we, for the most part, have been running transaction gains, but significant AUR

Right.

I'll add our margins are up, so the strategies worked. We're now to point where were starting to comp some of those large AUR losses that we had last year and are starting to see some success and momentum. And at the same time, I think we -- our different strategy that we get started on at the end of last year and really evaluating how the female shops on price, private label, branded. As we have evaluated those strategies, we've learned a lot and feel like we've delivered a more compelling proposition to the junior. That being said, it's still a very difficult environment. We are doing much better in say the last four or five months relative to last year. But it's probably the most dynamic of all of the departments we manage. It's currently running I think just under 10% of sales, and so it's not nearly as important to us as it is for other retailers. But we are very proud of what the teams accomplished over the last year and feel like we've got some momentum behind us as we look into 2011.

Great, thanks.

Your next question comes from the line of Randy Konik of Jefferies. You may proceed.

Hello, thanks a lot. Questions for Trevor. Trevor, just on a long-term operating margins, I think you said low double digits to mid teens range. How do you think about the building blocks or timing to get there? Is there some sort of total volume number you want to hit? Is there some sort of sales (inaudible) per foot number you need to hit Just kind of get your sense there. And then just a second question related to the new distribution center. What's the update? Are you in the new distribution center? Are you out of Everett, are you in Corona? Are all the systems transferred over as the inventory there? Just want to get a sense of where we are with that. Thanks.

Sure. I'll hit both of those. So, I'll hit the easiest one first, the DC. We made the DC move in the April timeframe and essentially shut off the lights here and opening the lights in Corona. So we have been operating our distribution operations since April of this last year, and it has been a tremendous success on, I would say all fronts. We came in on the numbers we had expected on a closure cost, we had a large contingent of the team move down there with us and have been operating very well. We had originally said we thought we'd save some portion of $1 million a year, potentially as much as 40% of our inbound freight costs. We're seeing that come in to be close to our expectation. We felt like we could get two to three days quicker inventory turns because 70% of our vendors are located in Southern California. We are certainly seeing that.

Part of the great inventory results we just reported with only a 9% increase on inventory on a 17% increase in sales is because of the fact that we have less in transit inventory and we're getting inventory to our stores. And the final thing I would say about the DC is it's a much larger footprint which has allowed us to get -- just start to get the efficiencies that we are hopeful that we would get. Sok, it's been a great move for us. We've got a lot more room down there, so as we think about expanding the stores and our web business increases, we now have the capacity to do that, and so that's been a great move for us and we're really excited about the long-term prospects of the distribution center and the supply chain. In regards to the long-term operating margins, we basically model that under a number of different scenarios. We take a pessimistic scenario, a moderate scenario, an aggressive scenario as in a few different analysis there in between.

To be clear, the most important component of us operating those margins is going to be organic sales growth. And so that's why that's our number one initiative and priority as a business because we do a pretty good job of managing our cost structure. So, in order to get that, we are going to have to drive the same-store sales growth. I think if you look at our margins and look at our business model and the cost reductions we've taken out of the business really started in '08 and '09, we don't believe we're going to have to get back to that $500 in sales per square foot that we did for fiscal 2006. And so our current modeling would suggest that $420, $460, somewhere in that range, depending on how we make investments in the business, how the web grows and how fast it grows, that we could get to that peak operating margin of 10.9% at a number below the $500 in sales per square foot, and we're focused on that. So, I think that could be two, four years out. Don't know for sure, depends on how well the business performs over the next few years. I think the one big caveat that we and all retailers are talking about in 2011 is the fact that there are going to be some increase in product costs, and those pressures will have to be addressed by us and everybody. But I think the benefit of that issue is that everybody faces it, it's not specific to any just one retailer.

So, to follow-up, you kind of feel good about the rent leverage, SG&A leverage. And then from a more modest standpoint, you would say be more modest on merchandise margin trends heading into next year.

Yes, I think if you look at the investments we've made in the business with a focus on making them scalable, we feel good about those investments and being able to get -- if you just looked at the domestic business and didn't include Canada and you extract the potential cost pressures we're going have on the product cost, 3% to 5% comps would allow us to leverage. But the cost pressures are coming on the cost of sales, and we're going to open some stores in Canada in the next year. But the domestic business model that we built is a scalable model, and we should be able to leverage in that 3% to 5% comp range based on what we see today.

Great. Thanks guys.

Your next question comes from the line of John Morris with Bank of Montreal. You may proceed.

Thanks, my congrats, guys. So, two questions here. Let's see, Trevor, you did a pretty good job talking about the DC and the benefits there. I'm thinking about other infrastructure investments you guys have made. Some of the other improvements in IT and what is there that you still would like to accomplish in that area? And then a quick follow-up.

I'll take a shot, and then I'll let Rick follow-up. So, we have a pretty well understood and prioritized business model for how we make investments. It starts with driving sales in the stores and then falls down to the merchandising department and in the web department and then the supply chain all the rest of the back offices. So, we prioritize our OpEx investments as well as our CapEx investments on that funnel. And again, it's pretty well understood, and there's and ROI base component to it as well. So with that, we've talked about now for years the investments we've made in our merchandise planning and assortment, planning solutions and the business intelligence associated with that. We are coming online with some of the solutions and are very happy with how we've progressed there. That's a very long-term solution, meaning we will start to see some of those benefits in mid-to-late part of next year and hopefully, we'll have another three to five year run like we did when we put in the original planning system in the early part of the decade.

So, we have also made investments in our POS system and web business to make those systems work better. We have invested heavily in our web business, both from a talent perspective and a capital perspective and a technology perspective. We've obviously send tremendous results for now two years out of that business. There are a litany of other ones I can list for you John, but we do have a good plan for what were going to spend on OpEx and CapEx to drive this business forward. We kind of laid those out of the prepared comments, but we've done a pretty good job of prioritizing those as a senior management team and then getting collective buy-in from the rest of the team in pushing those through.

That's great. That's really comprehensive. In your growth plans for next year, does that include store openings in Canada? And how many of those openings would you expect to do in Canada?

It does. We're not going to talk a lot about 2011. 8% to 10% is domestic growth, John, so Canada would be, whatever we're going to do in Canada would be on top of that. So, the 8% to 10% unit growth Rick mentioned is just domestic. And then the stores we will open Canada next year, it will be a handful, it will not be a meaningful number from a revenue perspective our a store count perspective . We want to -- we feel confident that we're going to be successful up there. Everything we've seen and read from other retailers and the uniqueness of our business model tells us we will be very successful up there. But we want to do it in a measured approach and make sure that we're going to have a high probability of success before we getting more aggressive in the

Alright, great. And then finally on inventory, if would you expect to end up in Q4 on a per square foot basis, would it be philosophically along on the same kind of lines of where you ended up this quarter? Still just maybe slightly up, and I'm asking because I'm trying to anticipate whether or not you would be making in any kind of plan or contingency planning for distribution. There is an earlier Chinese new year, so I'm just wondering whether or not you guys would be looking to take down a little bit more inventory earlier.

Yes, I think our plan intimates that we would have our inventory grow at a lower rate than our sales. Now, we did have, as I mentioned earlier, we had a decent sized benefit in our in transit inventory of the third quarter, moreso related to having our DC in Corona, California versus up here in Everett, Washington in previous year. We won't replicate that because we have very little in transit inventory at the end of January versus where we are in the third quarter. But on a total basis, our inventory, again, as we plan to be in the high single digits, low double digits. And on a comp basis, if you will, it's going to be in the mid-single digits, maybe a little bit above that is how we currently have planned our inventory end of year.

Alright, great. Thanks. Take care. Goodbye.

Your next question comes from the line of Linda Tsai of MK Partners. You may proceed.

Yes, hi. How are you feeling about that competitive environment? Excluding Black Friday, do you feel the overall level of discounting has eased as you've moved through the year, or is the sales strength more about the level of differentiation you're providing your customer?

I think the level of discounting is -- I think it's still a highly competitive environment, Linda. So, what we're trying to do is stand out for what we've always stood out for, which is being true to the action sports lifestyle representing great brands, and we have great branded partners were are working with in providing that wide selection of styles for our customers. I -- our history here has been that we're one of the last to go into recession and one of the first come out. And I think that for us, we think this is -- that's part of what we're experiencing now.

We think that we're also gaining share relative to the -- our ability to make the kind of investments that Trevor just talked about through the recession, having the financial strength to do that. We think we're in that process where we've made good decisions, we've invested wisely, and we have great people out there. So, I think it's a combination of all those things that's resulted in a great result for us, relatively speaking, to the marketplace and fundamentally, it's about being unique, distinct and different, and our customers like what we are doing.

Great, thanks and good luck.

Your next question comes from the line of a Mitch Kummetz of Robert Baird. You may proceed.

Thank you. A couple questions. First, Trevor, on the margins, let me start with your Q3 gross margin, which was up 360 basis points. I know you said you benefited from some improved product margin, but also leveraging occupancy. Could you say how much of the increase was from either area? Was it pretty evenly split, or --

About --it was about half. Just a little bit more on the product margins side, but not a lot. And the rest of it is leveraging the cost structure. Again, we have got the DC up and running now, so our inbound freight is getting a nice benefit. But a little bit more the product margin side than leveraging on the 20% sales increase.

Okay. And then when you look at your guidance on the fourth quarter, you said operating margin 13% to 14%, so you're expecting a pretty nice improvement there as well. When you kind of split that out between gross margin and SG&A, again, is a pretty evenly split between the two, or --

No, our current expectation is we will get some number around 200 basis points in gross margin is our expectation, we'll leverage SG&A just above a percent, and so I think that's kind of how we're thinking about it.

And then on the 200 basis points gross margin, do you start running up against tough comparisons on the product margin side? I know you are. So, is most of that leveraging the occupancy on a low double digit to mid teens comp?

Again, I think it's probably going to be a mix of both increased product margins on a pure product margin basis and then leveraging the comps on the 14% to 16% increase in sales.

Okay. And where do you see your leverage point on occupancy next year?

That will probably -- if you just look at occupancy, that number will -- we will need a higher comp just on occupancy because we will have a higher number of new stores in the mix as we go to 10% new unit growth from the roughly 6% new unit growth here. So, if you're just looking at that line in isolation, we'll need a slightly higher comp.

And when you say slightly higher comp, what kind of comp are you looking at?

Well 3 to 5 would be a normal number for us, so I'm not sure we're ready to give that level of detail yet, but it's going to need to be higher than that.

Okay, and then last question, on your -- I just wanted to ask you about your snow business. I know that that's typically a high teens percentage of the mix in the fourth quarter, if I'm not mistaken. You mentioned that hard goods was positive on November. I'm just wondering, all-in snow hard and soft goods, how that performed in November. We've gotten off to a pretty good start to the snow season, at least Rockies in the West. I'm just wondering how that business is trending early in the season.

Again Mitch, we've gone after this hard good business a bit differently than we have in prior years. And I'm not going to get into a lot of detail on that. You guys can see in the stores how we're approaching it a bit differently from our pricing and funneling strategies, those kinds of things. We are seeing some success in the hard goods business, but I must be cautious here in that this is the first time in the last four years, so some of it is definitely the weather, having a good cold start to the season. I would still tell you it is too early to make any definitive calls on our strategies that we have employed this year, to tell you where thos have worked or not worked. We'll have to probably wait until our conversations in March to really get a better call on that. Because again, I think we've been -- the weather's been a great -- has helped us with a great start on our snow hard goods business. That would also be true in the outerwear business.

Okay.

We've done well there. But again, I want to caution you that again, we typically got our butts kicked for the last four years here. So, we have easier comps, particularly in the hard goods and we have great strategies, but we've got good weather too. So, we'll have a better, I think, discussion in March as to how we did relative to executing throughout this whole season.

And Rick, you mentioned the long lead times on the hard goods business. Does that create an issue as you go through the season, given that you're off to the good start? You probably bought the business pretty tight, given the recent track record there?

It does Mitch, because again, it's been tougher for us now. We did take a bit more aggressive stance this year based on saying we're going to go after some of these new -- we're going to approach this differently from our strategy perspective. But yes, you're right, this is -- while we did take a bit more aggressive position, this is a tougher business. We always buy it cautiously because as you know, it always doesn't snow somewhere. So, it's a business that you have to move around and adjust to where the weather is happening. So, it -- we might be a little bit tight if the weather continues like this in some categories of our winter products.

Okay, great. Thank you, good luck.

Thanks.

Your next question comes from the line of Jeff Van Sinderen of B. Riley. You may proceed.

Hi, actually just had a follow-up question on the discussion about sourcing and lead times. And I'm just wondering, one of the things that's been talked about recently is that sometimes orders are placed and they're not delivered on time to the vendor and then maybe the vendor doesn't get to the retailer on time. And I'm just wondering if there's any change in how you are planning your business or how you're working with deliveries and lead times in general as you're looking at next year, given some of the challenges there on getting merchandise on time.

Yes, this is Trevor. First off, last year our private label business was, I think, 15.7% of our total sales. That number is increasing this year. We're not ready to give the exact number because fourth quarter has a very large impact on that.

So, our private label is increasing. The reason I bring that up is a lot of our -- the vast majority of our revenue comes from brands, and we don't have control of their supply chain. And so we know they're proactively working with their agents. We know lots of wholesalers have gotten stung with that issue you're talking about and having to spend substantial amounts on air freight to get the product here. We have great relationships with our brands. They usually reach out to us very early on if they see issues, and we work with them to work through those issues. And so those issues may be higher next year as constraints come from cotton and labor issues, but we've not been made aware of any significant issues we have to date.

In regards our private label business, which again, we have had a great -- a very successful business this year, we are doing things differently. We have reached out to new partners. I'm not going to mention names, but we have new partners that we are dealing with and are proactively getting ahead of this issue so that we can have a better stance with some of these vendors next year as we get into constrained capacity and labor constraints and cotton constraints as well. So it is concerning. We are seeing those issues, but we have reached out to people who should be able to help us through this and they are, in some cases, larger, more sophisticated folks that know how to deal with some of these issues.

Got it, okay. That's good news. And then I know you don't necessarily get into a super level of granularity on daily comps, but I'm just curious on Black Friday weekend if your business was, I think you said it was similar to the rest of the month or the total comp for the month. But did you see, was there a big difference in the comp on Black Friday versus the other days of the weekend? Was it pretty steady? Or any color on that you can give us?

It was a bit better on Black Friday, but not meaningfully so.

Okay, fair enough. Thanks very much, and good luck for the rest of the season.

Thanks, Jeff .

Your next question comes from the line up Sharon Zackfia of William Blair. You may proceed.

Hi, good afternoon. Actually, most of my questions have been answered, but just one last follow-up, I guess. As the cash balance continues to build, and it looks like it will continue to build given 8% to 10% store growth, could you talk about potential utilization of that cash going forward?

Yes, this is Trevor again. I think we view and know we are a growth Company. We look at all things in regards to investments. That being said, we will continue to grow our cash balances based on what we are today. Where we are today in the profit projections and the CapEx projections. We still think it's a good move strategically for us in the stage we are at as a growth Company and the investment horizons that exist in front of us, both from building out our own stores as well as other opportunities that exist out there to keep some dry powder out there. And we think that as opportunities available themselves over the next one to three years, that it's a wise decision to have some of that excess capacity there to take opportunities that they come our way.

Okay, great, thank you.

Your next question comes from the line up Jennifer Black of Jennifer Black and Associates. You may proceed.

Good afternoon, and let me also add my congratulations. My question is on the junior side of the business. At ASR, the junior --there was really a big focus as far as the brands. And I wondered what you're seeing now in juniors with your branded business versus your own private label. And then I guess my second question would be what do you attribute the strength in footwear to, if anything in particular?

Jennifer, the juniors business, I think we've said this a number of times now, is that brands have not performed well through the cycle in our juniors business and our private label has done better. That continues in a macro sense to still be the same pattern and why we're having success with some specific brands and some specific styles, that general pattern still holds for our juniors business. And we still think that juniors, as Trevor said earlier, is being dominated by the fast fashion value guide in this teen marketplace. And so we are finding our niche there.

And as you know, we've been executing against that strategy for quite some time now. As Trevor said, we are starting to anniversary some of those AUR our declines we had a year ago, so I think that's partly what we are seeing in terms of our junior business. We are working hard at our juniors business at finding a model that allows us to be unique, distinct in what we're doing in juniors on the mall, but consistent with our action sports lifestyle orientation. So, you're going to see us continue to play, have fun, I think in that area, experiment. I think we have found -- we have a good base now in the juniors business, and now it's about how do we really create some distinction for ourselves and our customers to create that fun environment that is consistent with our action sports lifestyle.

And on footwear -- this is Trevor.

Hi, Trevor.

Some of the technology investments we made at the beginning of the year, we started to see some of those benefits driving some footwear gains. And I think the team's also made some investments in inventory and key areas of the business that have driven comp store sales gains. We started running large gains, I think, sort of in the middle to late part of back-to-school, and those gains have stayed very consistent, even through where we are in November. I think the other thing that we've always said, and I think we are seeing some of that now, is that we tend to do better in the peaks. We have some great technology tools as well as investments in inventory and sales people who are ready to sell. And I think as the consumers came back out saw what we went had to offer, they were pleased with that.

Great, thank you so much, and good luck.

Thanks, Jennifer.

Your next question comes from the line of Betty Chen of Wedbush. You may proceed.

Thank you, and congratulations. I was wondering, Trevor, just to follow-up on your earlier answer, in the past, you certainly have said that during the peaks you get more than your fair share of the traffic. But sometimes during the non-peak period, traffic can be rather quiet. Certainly, things like this year, you've bumped that trend . What do you think is happened differently? What are some of the learnings that you can take, especially in Q4, but also into 2011? And then also in terms of the direct business, can you remind us what percent of total sales that is? I believe it was -- you had a pretty significant opportunity and how you can use some of those reads in terms of marketing to either new customers or some of your existing customers as well. Thank

Okay, if I missed some of these, I'll ask Rick to help out. I think if you look at our business, the first two quarters we comped right around 9% and then this last quarter we comped up 14.4%. So, I think we are doing better in the peaks, and I think that trend has continued. Just the first half the year was great, the last quarter has even been better and into November, which again, is a very high-volume month. I think it's the third largest volume month behind December and August. We are doing exceptionally well. So, that trend has continued, and we suspect with the guidance we've given that that trend will continue as we look to the future.

On the direct business, I think we've covered most of those. It is a very useful component of our business. I think last year it was some portion of 3% of sales. This year, it's currently trending closer to 6% of sales. Our long-term objectives for that business based on as we see things today ,and granted, it's changing very rapidly, but it should be a high single digit to a low double digit percentage of our sales as we build that business out over the next three to five years. And I'm not sure if I missed any other ones.

Any sort of marketing information that you can mine from the online business that you can translate in stores or maybe as part of your e-mail marketing message?

We are just now getting, Betty, to that point. So the gains that you're seeing us drive on our e-commerce business at this point doesn't include any of those -- significant efforts on that front at this point. Those are all things that are next phase for us.

Great. Thank you, and best of luck.

Thank you.

Your last question comes from the line of David Griffith of Roth Capital Partners. You may proceed.

Good afternoon. Can you talk a little bit about new brands and what you're seeing in terms of cultivating new brands and how that's changed or hasn't changed over the last couple of years, given a macro environment?

Again, we're not -- as you know, David, we're not going to talk about individual brands, but I'll talk kind of conceptually about the branded business. We again, for a long time now, we've been talking about how the -- our concentration in top 10 and top 20 brands has been shrinking. Our sales concentration has been going down in our top 10 and top 20 brands. We will see how that turns out this year as we get into our March timeframe. But that trend, I think is a very good trend for us because it means the smaller brands are taking a bigger share of the market. Now, I will say that through this recession I was probably hoping that we would see a little bit more innovation and more brands emerge as we get through this process. We are seeing a bit of that, not as much as I would have thought. I think we'll see more of that over the next couple of years. This has been a very difficult recession, so I think some of the changes going on in the industry will cultivate and encourage some creation of brands. And I think we will certainly be there with those partners when it's right for them and right for us to help them grow their business . But I'm hopeful that we are going to see more of that kind of creation that usually results from a recession in new brands taking place here over the next couple

Great .

Thank you, David.

This concludes the question-and-answer section of the call. I would now like to turn the conference over to management for closing remarks.

Again, thank you Katelyn. In closing today, I just want to make sure I say thanks to all of our teams at Zumiez. Thanks to our vendor partners, we appreciate all their support and effort in helping us get the kind of results that we've gotten here in the third quarter. And I also want to say thanks to all of our investors for their patience as we work through this recession and listening to us talk about all those investments that we now see are finally starting to come to fruition for us. And I just appreciate everyone's support, and we'll look forward to talking with all of you in March. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.