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CLN Newsbriefs: August Sales and Michaels Quarterly Report and Conference Call

Emailed to subscribers since the August 28 issue.

by Mike Hartnett (September 4, 2006)

August Sales: Good for Some.

The predictions of a strong back-to-school season proved to be correct, but adult retailers were hurt as a slowing housing market and high energy prices curbed spending.

Jo-Ann's same-store sales dropped 6.4% and net sales were down 2.9% to $119.9 million. Year-to-date net sales decreased 2.2% to $907.8 million and same-store sales fell 6.1%.

Hancock's same-store sales fell 7.7%. Overall sales were down from $29.3 million to 25.8%. Year-to-date, total sales were $205.4 million, down $4.9 million, and same-store sales were down 1.3%, including a 4.9% benefit from 40 stores that were liquidated in connection with store-closing sale events.

"Comparable store sales were lower in August due to the combination of an overall reduction in promotional activity, continued weakness in the home decorating sector, and a slow start to the fleece season," said CEO Jane Aggers. "We are pleased with our merchandise assortments and marketing strategy and are cautiously optimistic as we enter the important Fall selling season."

Wal-Mart's U.S. stores saw a same-store sales gain of 2.5%. "We saw sales momentum for the August period build throughout the month," said CFO Tom Schoewe. "Our customers focused spending on food, consumables, and items for back to school. Customers also responded well to items in electronics, and to our basic and fashion clothing offerings in apparel for the back to school season."

Target's same-store sales rose 2.8%, but it was the second consecutive month in which sales missed Wall Street forecasts. Analysts had expected the gain to be 3.1%, according to a Reuters survey. Target said women's apparel, home dec, jewelry, and accessories were among the weakest categories. The strongest performers included newborn, infant, and toddler merchandise; pharmacy; food; and toys.

Others: Nordstrom, +7.1% ... Duckwall-ALCO, +6.6% ... Dollar General, +4.8% ... Family Dollar, +4.0% ... Federated Dept. Stores, +3.8% ... Sam's Club, +3.4% ... J.C. Penney, -0.5% ... Pier 1, -9.1%.

Michaels Earnings Report.

For the second quarter ended July 29, net income was $20.3 million ($0.15/diluted share). That's $3.8 million and $0.03 more than a year ago, but a year ago there was a $7.5 million ($0.05) charge for early redemption of senior notes.

Net income for the first half of the fiscal year was $72.8 million compared to a net loss of $19.5 million a year ago, but the 2005 figure included the cumulative effect of an accounting change of $88.5 million. Income before the accounting change was up 5.5% to $72.8 million.

The quarter's sales rose 3.1% to $768.3 million, but same-store sales slipped 0.3%. There was a 2.9% increase in average ticket, but a 2.6% decrease in transactions and a 0.6% decrease in custom frame deliveries. Execs cited a decrease in the fashion yarn market. The top regions: Southeast, Southwest, and Northeast. The top categories: general crafts, primarily jewelry/beads; apparel crafts; impulse items; and kids crafts.

For the year, sales are up 2.2% to $1.6 billion, but same-store sales are down 1.7%. There has been a 3.8% decrease in transactions and a 2.1% increase in average ticket. A favorable Canadian currency translation added approximately 0.6% to the average ticket for the second quarter and approximately 0.5% for the first six months of the year.

The company attributed the same-store sales decline to fewer promotional and clearance sales, including a "highly promotional custom frame event," but those stores in operation for more than a year showed a "solid" increase in regular price sales.

For the second quarter of fiscal 2006, operating income decreased $10.1 million, to $29.6 million. As a percent of sales, operating income decreased approximately 150 basis points from 5.3% in the second quarter of 2005 to 3.8% in the second quarter of 2006. The decrease in operating margin is primarily due to incremental expenses related to the company's strategic alternatives process (the sale of Michaels to Bain Capital and The Blackstone Group) and review of its historical stock option practices.

Merchandise margins increased approximately 120 basis points due to higher margins for regular and promotional sales and improved sourcing. Total gross margin rate did not rise as much � approximately 20 basis points � due to the lower relative sales growth in the quarter and approximately $3.0 million related to the store remodeling program.

Selling, general, and administrative expense as a percent of sales increased from 29.9% to 31.6%, due in part to $11.0 million related to the company's strategic alternatives process and review of its historical stock option practices.

The company's cash balance at the end of the quarter was $379.3 million, an increase of $196.4 million over last year. Average inventory per store decreased 12.1% to approximately $903,000, due to a significant reduction of the fashion yarn inventory.

For the third quarter, execs expect same-store sales to increase 1%-3% and total sales to rise 4%-6%. Operating income is expected to be down to approximately $46 million from $51 million a year ago, due to $2.6 million for store remodel expenses and $9.0 million of costs related to the Bain/Blackstone sale and the review of its stock option practices. Because of these incremental costs, diluted earnings/share for the quarter are estimated to be down 8.0% to $0.22/share. Because the sale of the company is expected to take place during the third quarter, the company did not provide comments on the fourth quarter.

The Michaels Conference Call.

(Note: This was the shortest conference call of this type in CLN's memory. Analysts did not ask near as many questions as usual, probably because in a few weeks Michaels will no longer be a public company.)

President/COO Greg Sandfort said the company has completed 16 merchandise resets, and nearly all of them are showing good sales/margin gains. Jewelry in particular has benefitted from the reset; sales are up strong double-digits. Another 12 resets are planned for the third quarter. Key initiatives:

1. Jewelry is expected to continue its strong growth. A "Bead Gallery" by Halcraft is eliciting a very good response and will be rolled out into every store.

2. Kids crafts also showed double-digit increases, thanks to the higher attendance in the summer camp program.

3. The Provo Cricut paper-cutting machine is helping sales in the scrapbook department.

4. There has been a turnaround in the wood department, thanks to improved product selection and higher price points.

5. Seasonal remains strong. Summer product sales showed a mid single-digit growth, and the initial response to the Fall/Halloween merchandise has been strong.

6. The floral is "not where we want it to be, but it's improving."

7. The transition of the book/magazine business to HDA "is more challenging than we anticipated," but "the few stores that have been converted see a nice increase in sales." The program should be installed in all stores in the third quarter.

8. The candle department will be revamped.

The company is testing an expanded direct mail effort and themed circulars. It is moving away from an item-price approach to a solutions approach. More store events and class programs are planned too, as is improving the website's content.

The company's emphasis is shifting to the customer, but supply chain remains important, including a sixth distribution center in Washington. "We continue to build infrastructure."

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