Antero Midstream Corporation
Q3 2012 Earnings Call Transcript
Published:
- Operator:
- Good day, and welcome to American Greetings Corporation Third Quarter Fiscal 2012 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over Mr. Gregory Steinberg. Please go ahead, sir.
- Gregory M. Steinberg:
- Thank you, Jennifer. Good morning, everyone, and welcome to our third quarter conference call. Joining me today on the call are Zev Weiss, our CEO; Jeff Weiss, our COO; and Steve Smith, our CFO. We released our earnings for the third quarter fiscal 2012 this morning. If you not yet have our third quarter press release, you can find a copy within the Investors section of the American Greetings website at investors.americangreetings.com. As you may expect, some of our comments today include statements about projections for the future. Those projections involve risks and uncertainties that could cause the actual results to differ materially from the forward-looking statements. We cannot guarantee the accuracy of any forecasts or estimates, and we do not plan to update any forward-looking statements. If you'd like more information on our risks involving forward-looking statements, please see our annual report or our SEC filings. Previous earnings releases as well as our 10-Qs, 10-Ks and annual report are available on the Investors section of the American Greetings website. We will now proceed with comments from both our CEO and CFO, followed by a question-and-answer session. Zev?
- Zev Weiss:
- Thank you, Greg, and good morning, everyone. This morning, I will share a few comments on how our ongoing product leadership initiative is supporting our revenue growth, then discuss our capital allocation, systems refresh project, new headquarter building and outlook for the balance of fiscal year 2012. Finally, I'll turn it over to Steve to walk through our financials for the quarter. I'm really delighted with our revenue growth this quarter in both our domestic and international businesses. We believe that our commitment to our product leadership strategy continues to be very successful. Our investments are paying off, and we feel very good about our overall momentum in the marketplace. As a result of our product focus and in-store execution, our recently expanded retail relationships are going well and progressing as planned, helping us to deliver incremental sales through the addition of new space at retail in both legacy and new doors. Also helping drive revenue growth is our leading portfolio of products. The acquisitions of Recycled Paper Greetings, Papyrus and most recently, Watermark allow us to provide uniquely tailored solutions to different channels and different retailers within each channel, thereby bringing a full range of products, from humorous to upscale, to our consumers. We have and will continue to leverage both the unique creative models and unique go-to-market strategies each of these groups creates. This portfolio of brands, together with our complementary strength of manufacturing and distribution, we believe will enable further growth. As part of our product leadership initiative, we continue to bring innovation into our core greeting card brands through a variety of formats, including paper engineering, interactive technology and the use of music, movement, sound and lights. In the past, I provided many examples of these great products, from cards with motion to cards with LCD screens. These innovative formats are fresh twists on greeting cards that drive interest and excitement in the category and support our retailer strategies. We also continue to evolve our core card lines in other ways. Supported by research, we focus our creative resources on developing even more exceptional art work, color palettes and editorial sentiments. This focus has allowed us to develop exceptional new greeting card lines such as justWink. The justWink line was designed to help our younger consumers connect with each other in innovative ways including through a smartphone app that extends their greeting card experience into the digital world. Efforts like the innovative formats, better editorial sentiments and smartphone apps help deliver the retail productivity we desire for our retail partners. On the digital side, we continue to be a leader by offering products through our traditional eCard websites such as jacquielawson.com and AmericanGreetings.com and through more recently developed sites like cardstore.com. Cardstore.com allows consumers to purchase paper greeting cards on the Internet and then have the physical cards delivered directly to recipient. Consumers can choose from thousands of card designs and have their cards personalized and shipped directly to the recipient. We are very excited about consumer reaction to the site, our findings regarding the mix of products they chose from the products offered and the consumer reaction to our initial marketing and promotional efforts. With the strength of our creative studios and our leading brand portfolio, we believe that we are well positioned to meet the needs of consumers in any channel in which they shop, including the Internet and the various mobile platforms. As we have discussed in the past, our goal is to continue to expand our position as an industry leader. We have and expect to continue to focus our resources on growing our core greeting card business by developing new products and enabling new channels of physical and electronic distribution in order to make American Greetings the natural and preferred social expression solution. Toward the goal of expanding distribution and revenue, in connection with these efforts, we are likely to incur the incremental costs associated with expanded distribution, including upfront costs prior to any incremental revenue being generated. During the third quarter, we have supported many of our product leadership initiatives with additional expenses and investments, including working capital and deferred costs. We expect these expenses and investments will help us extend our leadership position and better position us for future growth. Also during the third quarter, we were busy achieving a couple of important financial activities. We completed our existing share repurchase program by purchasing approximately 2 million shares of common stock, which represents about 5% of our shares outstanding or about $35 million. We are now considering additional share repurchases in addition to the other uses of capital including growth options, information systems, world headquarters and dividends. As it relates to capital allocation, we believe we have been focused and consistent in our approach for much of the last decade as we have deployed capital in quite shareholder-friendly ways through share repurchase programs and through increases in our dividends while simultaneously acquiring a handful of companies in great brands. During the quarter, we also successfully launched the refinancing of our public notes, extending the maturities to 2021. The refinancing closed after the end of our third quarter, so you'll see the effect of the refinancing in our fourth quarter's results. We are very pleased with the net results of refinancing as we substantially extended the maturities of our notes with better terms and conditions at the same coupon. Over the last couple of years, we have shared how we strive to continuously make our organization more efficient, and now, we expect our systems refresh project to support this effort. To remind you, the 3 key elements of our systems refresh strategy are replacing older systems, driving efficiencies within the business and adding new capabilities. We are still in the early phases of this effort, and there is still uncertainty about the ultimate timing and size of the spend. However, as we have previously suggested, during the fourth quarter, we expect to have incremental capital spend compared to our historical pattern. Before I discuss our future outlook, I would like to add some additional context on our new world headquarters project. We are currently in the early stages of the project and have not yet completed the architectural design for the new building. However, based on our preliminary estimates, it is anticipated that the new building, including moving expenses, will cost between approximately $150 million and $200 million gross over the next 3 to 4 years. As we have previously discussed, we have considered moving our headquarters outside the state of Ohio. As a result, the state of Ohio agreed to provide us with certain tax credits, loans and other incentives totaling up to $93.5 million. Furthermore, as we consider our options for our headquarters, we recognize that the deferred maintenance on our 1.7 million square foot warehouse-type building, which we use as our office, is substantial. It turns out that the cash spend to remain in our current location and bring the roof, parking lot, air conditioning and other infrastructure up to current standards would be over $30 million. In addition, if we choose to sell our current building, the sale is expected to have some value to us. Based on all these factors, we believe that the net incremental cost of the move is less than $30 million, which does not include the opportunity for lower operating costs in the future. We have and will continue to evaluate the best way to complete our financing for the project. We have already lined up some very low cost financing, and we'll continue to explore other alternatives to achieve the lowest all-in cost of financing. We believe the benefits of a new location far outweigh the incremental costs as we will have a building that is properly sized to our needs, that matches our creative culture and fosters associate collaboration, and yet a building that is simple and practical and much more economical to run. During our second quarter conference call, we had shared our expectations on both revenue and cash flow for this fiscal year. We expected our revenues for fiscal year 2012 to increase about 3% compared to the prior year and our full year cash flow from operating activities less capital expenditures to be around the low end of an $80 million to $100 million range. And we had expected our capital expenditures to be between $45 million and $50 million. With our strong revenue growth this quarter, we feel more confident regarding our ability to hit or surpass the full year revenue growth target. As a result of the additional expenses and investments to support our product leadership strategy and our expanded customer relationships as well as the systems refresh project, we now expect our full year cash flow from operating activities less capital expenditures to be lower than previously estimated. While there are many moving parts in our business and many decisions that still need to be made, we estimate the cash flow from operating activities less capital expenditures to be roughly around $35 million to $50 million. As part of that estimate, we expect a meaningful driver of the reduced cash flow estimate to be an increased use of cash from balance sheet items such as working capital, and we now expect our full year capital expenditures to be around $55 million to $70 million. Looking ahead, we will have and will continue to make important decisions around our long-term initiatives making the outlook especially hard to predict. We also expect to continue to invest beyond historical levels to support our product leadership initiatives. While many of the moving parts of our business model will likely create medium-term volatility for our financial results, we are very excited about our momentum in the marketplace, and we are committed to staying focused on our product leadership strategy. I will now turn the call over to Steve, who will walk through our financials for the quarter. Steve?
- Stephen J. Smith:
- Thanks, Zev. I have 3 components to my prepared remarks today. I will start with a few brief comments on our consolidated results this quarter, move to a review of our reported segments and then cover a few key components of our financials. After those 3 components, we will open the line for questions. Our consolidated revenue was up $33 million or about 8% from last year's third quarter revenue of $430 million. Included in our $464 million of revenue was a benefit from foreign exchange of about $4 million versus the prior year's third quarter. Holding aside the impact from FX, revenue was up 7%, driven by the combination of organic revenue growth, both internationally and domestically, as well as acquired revenue in the U.K. Our consolidated operating income was $33 million compared to $56 million in the prior year's third quarter. The $23 million decrease was driven by the combination of 3 major factors
- Operator:
- [Operator Instructions] We'll take our first question from Jeff Stein with Northcoast Research.
- Jeffrey S. Stein:
- First question on the top line. Wondering if there was any pull-forward of revenues that, let's say, perhaps may have occurred last year in the fourth quarter that this year got pulled forward to Q3.
- Zev Weiss:
- No, Jeff, I don't think so. I think it was a pretty consistent quarter.
- Jeffrey S. Stein:
- Okay. So it would seem to me, Zev, that you're talking about top line growth still exceeding 3% for the year. But if you kind of plug -- let's say, hypothetically, if you were to plug a 2% number in for the fourth quarter which, on a pro forma basis, is kind of what you were guiding to for the back half of the year after your second quarter conference call, this would still yield almost a 5% top line increase for the full year. So I'm just wondering, you seem to be giving yourself a lot of room in the fourth quarter. Is there anything that you see from a top line standpoint now that could cause, let's say, a significant drop in revenues year-on-year during Q4?
- Zev Weiss:
- I don't think so. And I think, if anything, what I shared in the earlier remarks, that there's possible for upside given what we're seeing right now. I think it's too early to sort of declare that and then therefore, say, "Here is the number." But we're hoping that -- I think we feel more confident that the numbers that we gave you when we were last together, we feel more confident that we can hit those numbers, and we see a chance for upside as well.
- Jeffrey S. Stein:
- Okay. Now you didn't talk about seasonal cards in your comments. You did speak about every day, so I'm just kind of curious. What was your strategy going into this holiday season with regard to shipments of seasonal? Are you shipping in more or fewer cards to your customers on a same-store basis relative to last year? Because there's -- my understanding is you have this accrual adjustment that you have to make for returns. So how are you planning the seasonal part of your business for the back half of the year?
- Zev Weiss:
- I think in general, last year, we had a good Christmas. So we were feeling -- coming off of a good Christmas, we were hoping that things would continue to be good. There's a lot of moving pieces when you look at shipments. I think when you look at the overall marketplace right now, the general traffic, if you just look at what retailers are reporting right now, they're reporting that they were off to a good start. This week is a critical week. So it's really too early to declare any kind of success around that, but what -- the traffic that people were reporting, at least for the initial parts of Christmas, we saw as well. And we're hopeful that this week is a strong week, but we're not going to really know how it all balances out until we're done. But the big issue for us is obviously not the shipments but how everything sells through. Yes. So we're going to have to wait until we talk next to be able to share how that goes.
- Jeffrey S. Stein:
- Got it. And for the quarter, given the fact that it did, from a top line standpoint, turn out to be better than you expected, where was the upside? Was it account specific? Or maybe you can just kind of give us a little bit of color where the upside came from.
- Zev Weiss:
- I think a lot of the things that we've been talking about, in terms of where we -- we're seeing a lot of positive activity. We're seeing activity internationally that we're pleased about. We're seeing domestically. We're pleased with what's happening in our digital business, and all that's focused around cards. At the same time, things like giftwrap have been positive for us. And so when you add that all together, these are our core businesses, and we've been talking about the desire to grow in these businesses for a while now. And seeing the results that we saw in the second quarter and what we're now seeing in the third quarter, we're just really pleased with it.
- Jeffrey S. Stein:
- Okay. The margin degradation that you saw on the gross margin line and selling distribution and marketing line, I'm wondering if you could just talk a little bit about how much of that is specific to the kind of what I would call the onetime -- not onetime but the large expansion you saw in the dollar store channel this year. And how much of it is related just to -- perhaps just a higher level of expenses that you're achieving? And are you -- I guess is the model changing would be my question. Have you -- are you able to earn as much margin -- and I'm speaking about EBIT margin, not growth margin but EBIT margin -- in the dollar store channel as you can in the rest of your business? Or is the stronger weighting towards the value channel going to change the margin structure of your entire business?
- Zev Weiss:
- I think, in general, there are shifts that are happening in the business that we've been talking about for probably years. So when you look at the channel migrations that are happening, those continue to happen as they've been happening. And as a result of that, there is a shift in cost structure, and I think you're seeing some of that now. Some of what you're seeing is onetime related in terms of transitions that are happening, and some of them are the shifts that you were speaking about. The challenge that we have as a company and one that you know we've been very focused on for the last many years, which is you got to take cost out of other parts of your business. And I think what you're seeing right now is a continuation of that, where some of it is channel migration where you may see some permanent challenges in terms of what you're seeing in gross margin. Some of it is onetime related with the rollouts that you have going on. And then -- and we believe that there is significant opportunity to take costs out of other parts of our business so that when you're done, you see revenue growth and continued revenue growth in the number of different channels that we have and an operating structure that allows us to get the EBIT margins that we've enjoyed in the past and that we hope to enjoy in the future. And that's -- I think we're right in the middle of that.
- Jeffrey S. Stein:
- Okay. So it sounds like it's kind of a work in progress and that this year -- would it be fair to say that this year could represent kind of perhaps a trough year and that as we look ahead for the next couple of years, you migrate back to your -- closer to the -- maybe your historic EBIT margin, but you're not going to get there next year? Would that be fair?
- Zev Weiss:
- I think when we do our next call, we'll have a better view of what it means for the end of this year and somewhat a better view for what it means going into next year. But I think it would not be appropriate right now to probably get into those details.
- Jeffrey S. Stein:
- Okay. Can you talk about -- let's talk a little bit about your free cash flow estimate. You indicated that you expected -- in your last call, you expected to be probably at the lower end of your range. So let's call that $80 million. Now you're $35 million to $50 million, but that revised range that you gave last time, albeit the lower end of the range, that, I assume, did contemplate some increase in capital spending. So the new range is $35 million to $40 million below where you were previously. How much of that is working capital related? And how much of that would be CapEx?
- Stephen J. Smith:
- It's roughly just -- it's roughly half and half between them, a little bit more weighted possibly toward the balance sheet where working capital and other elements, deferred costs too. But it's roughly half and half to answer your question.
- Jeffrey S. Stein:
- Okay. Did you guys take on any new customers during the latest quarter? You mentioned an increase in deferred cost. That would either suggest that maybe a contract was renewed or you signed a new contract.
- Zev Weiss:
- There isn't anything that we would want to get into in terms of individual customers right now.
- Jeffrey S. Stein:
- Right. I mean, without identifying the customer specifically. But can you say that you did or did not -- you have or have not established some new relationships that might be meaningful?
- Zev Weiss:
- Yes. Even on that, Jeff, it's not something that we would want to be sharing.
- Jeffrey S. Stein:
- Okay. Are you done with the rollout of -- are you -- did you complete the rollout of the Dollar General stores this year?
- Stephen J. Smith:
- We're substantially done with the rollout effort associated with the value channel.
- Jeffrey S. Stein:
- Okay. So do those expenses -- I guess, how much of onetime costs associated with that rollout have you incurred this year? And I presume that would drop away as we move into the new fiscal year.
- Stephen J. Smith:
- I'm going to answer the second part of your question, Jeff. The -- it will drop away into the next year. We've -- as we've completed, again, the substantial effort around this, there's still a small tail associated with the value channel, but the exact figure will be shared when all the work is done.
- Jeffrey S. Stein:
- Okay. Since it's substantially done, can you give us any kind of estimate in terms of where you're at right now?
- Stephen J. Smith:
- We prefer not to give that at this time, Jeff.
- Jeffrey S. Stein:
- Okay. Your international business, revenues were up almost 30%, yet your earnings in this division were down. Can you explain why that is?
- Zev Weiss:
- Yes. I think you've got 2 things going on there. You've got the acquisition, then you got some expanded distribution. And with the expanded distribution in particular, there's some transition cost associated with that. And on the acquisition, I would expect that more of the profits, given the nature of that business, are going to come in the back part of the year.
- Jeffrey S. Stein:
- Okay. Final question then I'll turn it over to somebody else. You talked about the fact that all in, your new corporate headquarters might end up costing you incrementally under $30 million. And I'm wondering if you could just run through that analysis for us, how you come up with that under $30 million type of number.
- Stephen J. Smith:
- Sure, Jeff. I'd be glad to help you. And again, these numbers are all rough because the design, as Zev mentioned in his prepared remarks, it's still a work in process, but let's go through at the highest level. We said that gross is going to be in the neighborhood of $150 million to $200 million. We have incentives that are -- from the state of Ohio and other municipalities that are between $78 million and $93 million, depending on what you look at and how you include these different figures. And then we also -- so that would give you a current building net of incentives figure that would be in the $75 million to $85 million range-ish. We have some deferred maintenance costs also that we mentioned that are in the neighborhood of $30 million. And then we have some potential for sale proceeds on the current world headquarters and which we'd rather not get into a specific figure around. That brings us down to around a $30 million figure.
- Jeffrey S. Stein:
- Got it. Okay. Have you talked to potential buyers about the facility? Do you have anyone interested in the facility currently?
- Stephen J. Smith:
- We're working on the building at this time. We have engaged a consultant to help us or a broker to help us in the process, and that's all we could comment on at this time.
- Operator:
- [Operator Instructions] We'll take our next question from Carla Casella with JP Morgan.
- Carla Casella:
- On the margin front, gross margin front, can you give us a sense for how much lower the gross margins are on the value cards versus a higher end card? And is it in the card, in the materials itself? Or is it in the cost of distribution, et cetera, to get it to the stores?
- Zev Weiss:
- So I'm not going to get into the numbers on it. But in general, as you look at it, the cost -- the pricing that you see at retail in the value market -- and the value market is not just individual retailers, because a lot of retailers will participate in the value market in many different ways, but the price points on that could be lowered. And then as a result, there are lower costs associated with that revenue. And we don't execute that revenue in the same way that we do other parts of our business, so there's less of an overall cost as well as the cost that we have in terms of distribution is lower as well. And the combination of all that allows us to capture the margin that we need to on that revenue. And so it's really we treat them in 2 very different ways, and there's 2 different parts of the market. I know that doesn't give you all of the details that you want, but in general, that's the way it works.
- Carla Casella:
- Okay. And then the fact that the value chain just started to grow so much for you this year, we should annualize that kind of in early next year? Is that right? Or would it be more mid next year, before we kind of annualize where we are into the value as a percentage of your sales?
- Zev Weiss:
- Yes. It's -- I think some of the expanded distribution parts that we talked about will annualize mid part of next year. And in general, there's some migration in terms of the market there as well that's been going on for years that we would expect to continue as well.
- Carla Casella:
- Okay. And could you just talk about what's going on in the specialty channel? Have you seen any more specialty card sellers either close their doors or change their percentage of mix cards versus other products in store?
- Zev Weiss:
- I think in general, the activity that's been happening in specialty, that we've seen historically over many years, continue. Perhaps some of it accelerated during the more challenging parts of the recession in terms of door closures and while there are still door closures and they have leveled off, more of the way it has been historically than it was during the recession. And I think in general, specialty traffic has come back a bit, so that has given them a little bit more benefit as well. We're still seeing some door closures but perhaps not as much as was going on during the recession.
- Carla Casella:
- Okay. Great. And then on the SG&A front, I think -- I want to clarify. Did you say that marketing was up by $10 million or marketing was $10 million?
- Stephen J. Smith:
- It is up by $10 million, increase.
- Carla Casella:
- Right. Okay. And that is something -- should we see that again in fourth quarter? Or was that just a timing issue that more of it was pulled into third quarter?
- Zev Weiss:
- I think at this point, it's not a line item that we want to get into in terms of what we see in the fourth quarter even in the future years. We generally don't get into those kinds of details.
- Carla Casella:
- Okay. And I guess on the merchandising freight increase, the $9 million that you talked about, is that also something that's just going to -- that's just tied to sales growth, right? So if you see less sales growth in the third quarter, we should see a lesser increase in that item.
- Stephen J. Smith:
- Yes, that's generally correct. It's -- it is an ongoing activity related to volume and service of those doors or stores.
- Operator:
- We'll go next to Breen Murphy with KeyBanc Capital Markets.
- Breen Murphy:
- I just wondered if you could run through one more time the -- kind of the dynamics driving the overall increase in working capital. I mean current assets, I apologize.
- Stephen J. Smith:
- So there are a couple of factors. Principally, the business model changed, as Zev mentioned. As we continue to grow revenues, we're seeing our inventory and receivables increase, part of which was acquired revenue. Watermark was a business we acquired this year's first quarter. So in AR, 2/3 of the increase was due to the Watermark acquisition and in inventory, about 1/3 was related to the Watermark acquisition. In addition, you have the expanded distribution representing the balance of the AR increase and about half of the inventory increase. And then the rest of the inventory increase is something we need to work on as a corporation. It's a little bit above our plan.
- Breen Murphy:
- Okay. Great. And just as it relates to the Watermark acquisition, is that something that's truly going to be onetime for the quarter? Or going forward, is that something that's going to be rationalized over the next 1 to 2 quarters?
- Stephen J. Smith:
- Are you still speaking of inventory?
- Breen Murphy:
- Yes, exactly.
- Stephen J. Smith:
- No. We would anticipate that the working capital accounts associated with Watermark would continue beyond this quarter.
- Breen Murphy:
- Okay. Great. And apologize if you touched on this in the prepared remarks, but can you give some color around the just overall CapEx increase in the period?
- Stephen J. Smith:
- Sure. You'll see that if you look at our -- say, take our cash flow for CapEx -- that we had an increase -- on year-to-date of about $24 million. About half of that was for the systems refresh effort. Some of it was associated with the new building and land for the new building and then a little bit of it, machinery and equipment for our North American operations.
- Operator:
- [Operator Instructions] And we'll go next to John Carrington with Hound Partners.
- John Carrington:
- So can you help us quantify the increased spending, specifically kind of what portion should we expect to persist going forward versus how much of that increased spending is temporary?
- Zev Weiss:
- Yes. We're not going to get into the details on the numbers. I just -- I think what we're sharing is a combination of both. And even on the areas that there may be some ongoing costs, we charged ourselves to make sure that we're getting cost savings elsewhere to help make up that.
- Operator:
- We'll take a follow-up question from Carla Casella with JP Morgan.
- Carla Casella:
- I remembered a couple of my questions. I don't have any great source for industry growth, and I'm wondering if you can talk about what you're seeing in overall industry for cards, what the growth might have been in the third quarter and where it's running year-to-date or if there's been any consultants or anything out there that you've seen that show what they expect for 2011 is?
- Zev Weiss:
- We don't have anything on the third quarter. I think the overall card market has been steady, and we've been seeing that trend over a long period of time. And so we would expect that, that will be what we'd see for '11 and the third quarter, but we don't know that. We obviously track that, but it lags a bit.
- Carla Casella:
- Okay. Because I think -- I mean hasn't the steadiness been from pricing but the volumes have been down? And I'm worried with value cards growing more that maybe we'd see the industry down, because you don't have the price growth.
- Zev Weiss:
- Yes. I think in general, as you look at what's been steady, the pricing has been relatively slight. So it's not been a big trend, and so I don't think what you're seeing from an overall market perspective is a shift that's any different than what we've seen over the last 12 months, 24 months or even beyond that. I think it's been a -- the shift has been very steady.
- Carla Casella:
- Okay. Great. And then just one more clarification. When you -- if you -- on the marketing spend, what type of marketing did you largely do in the quarters in the past? And is that -- has that changed year-over-year in terms of where you allocate your marketing dollars?
- Zev Weiss:
- So we market in a number of ways, and some of our dollars are spent with our retailers, where we'll market for the season or for particular everyday activities. In some cases, we are marketing directly to consumers for our core everyday and seasonal card business. And more recently, we've been picking up some of the marketing that we've been doing on the digital side of our business. And we've been doing that for a while. We're seeing positive results as a result of that, and it's something that we're going to look to do in the future as well.
- Carla Casella:
- Okay. Great. And then just one last question on the shift towards more value cards. Does that segment of the market -- is it more or less volatile in terms of the timing of when you know inventory returns, et cetera?
- Stephen J. Smith:
- It's very consistent with the rest of the marketplace.
- Operator:
- We'll take our next question from Michael Schecter with Mentor.
- Michael Schecter:
- Just a couple of quick questions. I know you don't want to get into details of the operating margin, but you're down -- the operating income's down $23 million year-over-year. And some of the stuff you called out, like marketing, sales mix, $9 million of freight, but you got to give us something on what's recurring or what's an upfront cost versus revenue not coming on board yet. Otherwise, you will -- you see, with the stock where it is, people are just annualizing it and saying, "The business has gone away."
- Zev Weiss:
- I think, Michael, we're going to have to stick with what we said, which is it's a combination of both. And in some of the areas that we think might be more of a secular trend, the challenge of our business is going to be to find the offsets elsewhere in the business.
- Michael Schecter:
- I understand that, but some of this is clearly nonrecurring, unless it isn't. I mean...
- Zev Weiss:
- We agree. It is a combination of both.
- Michael Schecter:
- Okay. In terms of the incentives for the headquarters, is the $78 million to $93 million, is that upfront? So as you spend the $150 million to $200 million, does it come in from the government? Or is that just an over-time period?
- Stephen J. Smith:
- It's a combination of both, some of which is upfront, some of which is spread out over about a 15-year cycle, Michael. So it's both.
- Michael Schecter:
- So when you net down to $30 million, that's going to be at the end of the life of the headquarters as opposed to out-of-pocket up front.
- Stephen J. Smith:
- That's correct.
- Michael Schecter:
- And how much of out-of-pocket up front do you think it'll be?
- Stephen J. Smith:
- I don't know yet. We don't know as a corporation simply because the architectural drawing isn't yet complete.
- Michael Schecter:
- Okay. Do you have anything left on the buyback authorization at this point?
- Stephen J. Smith:
- We have completed the share repurchase program that was authorized by our board this last quarter.
- Michael Schecter:
- And will you be going back to them for an additional one?
- Stephen J. Smith:
- We said in the prepared remarks that we are considering additional share purchases along with other uses of capital, so we will consider that as a possibility.
- Michael Schecter:
- Okay. And with value changes, going back to some of the questions that were asked, will you be -- have you started to recognize revenue for all the stores that have been -- that you're incurring expenses for? Or is there still revenue to come?
- Stephen J. Smith:
- It's -- because the rollout is not yet complete, we have not yet recognized revenue from all the stores, substantially all but not all.
- Michael Schecter:
- And in terms of -- if you talk about a steady state, I mean, how long does it take for a store to get to what you consider normalized profitability? Is it a 12-month period?
- Zev Weiss:
- Yes. There isn't one way to look at it. It depends on the activity that's happening in that store. Obviously, if you just do a store setup and then you don't do anything else, you have an initial cost for the setup and then you achieve the revenue and the margin going forward. Sometimes there's additional activity that needs to happen. Most of the time though, it's a store setup and then you leave it alone for a while.
- Michael Schecter:
- Okay. Again, you've got to give us a better handle on whether -- what's recurring and what's nonrecurring or what's in between. Otherwise, there's no other way to judge this. I mean, I think what you're seeing today is people assuming that the -- your margins have collapsed permanently.
- Zev Weiss:
- We appreciate the feedback, Michael. And we'll -- as we've done in the past in comments that have come from you and from others, we take that into account for what we share in the future, and we do appreciate the feedback on that.
- Operator:
- [Operator Instructions] And we'll go to Sean O'Malley with Wedge Capital.
- Sean O'Malley:
- I also have to come back to the margin question that's -- that Michael asked and Jeff and others. I think it's obvious that one of the things the market is really wrestling with here this morning is whether or not we have a new margin structure in the business. And what you're saying is well, there's some things this year that happen to be temporary, some are going to be more structural. This is all in the context of a market that's migrating towards a more value-oriented product, which you yourselves have said you've seen for a while, and you've been preparing for it. And yet, we -- in what should be probably your best quarter of the year, you have an operating margin of around 7% against the historical annual margin of 9% to 10%. And the market's saying, "Well, what -- is this a permanent new feature of the business?" And your answer is saying "Well, we have to find other ways to get costs up to get back to our historical rates of profitability." But you aren't telling us what your plans are for that, what your timeframe is for that. And without any kind of specificity on your part, I think the market is assuming the worst, and you're just not giving us a whole lot of reasons to not assume the worst. Is there some point in time where you're going to lay out a plan for, "Okay, we're -- we recognize a shift to value. We're responding to that. And over this period of time, this is how we're going to structure ourselves to be as profitable as we have been historically to how the market is shaped today."
- Zev Weiss:
- Sean, I can only try to emphasize a couple points in how you sum that up. The first is that we don't believe that there's any additional shifts towards value product today that's different than what we've seen in terms of the historical context. It's very consistent with what we've seen over the last many years. And so there's not any major catalyst that would lead you to a different kind of a conclusion. The second is that I think we've been trying to emphasize that not all of what you're seeing in the margins are permanent. Some of that is one time. And I think your feedback of in the future, can we get more detailed about how we may offset some of what you might see in the margins today, I think is good feedback and something that we'll obviously take under consideration.
- Sean O'Malley:
- Okay. Well, the sooner that you can communicate that to everyone, the better. I imagine you have plans. And I think to the extent you can share those, even if they're just objectives and time period without any necessary to-dos, or you don't necessarily have the share all the to-dos but say, "This is what we want to do. This is the timeframe where we think is reasonable to achieve it, and we do have steps in place to make it happen." I think in the absence of that, if we are looking at a margin structure that is not as profitable and cash generating as it has been historically, I think as you work on the headquarters investment here, I think you really need to sharpen the pencils and say to yourselves, "Is this level of expenditure going to make sense given that we're not going to be able to fill [ph] as much cash?"
- Zev Weiss:
- Sean, I accept that. The only thing I could share that I think is worth noting is that if you look at what we've been doing in our business for the last 5 to 10 years in terms of taking costs out, I think it ought to give you and others confidence that that is something that we've been very successful at in the past and something that we're very focused on for the future and should be successful in the future as well. It's not a new thing for us, and it's something that we know how to do and something that we intend to execute.
- Sean O'Malley:
- Okay. Well, like the sooner you can give us some ideas on where you're headed, on what you can achieve and when you can achieve it, I think that would really help a lot and I think help your share price out a lot, but also, you don't have to suffer questions like this every single call.
- Operator:
- We'll take a follow-up question from Mr. Michael Schecter with Mentor.
- Michael Schecter:
- Just a couple things. How many shares are outstanding now at the end of the quarter? And what's the right tax rate?
- Stephen J. Smith:
- Shares outstanding, just under 40 million. Maybe one of my colleagues here can give you an exact figure.
- Zev Weiss:
- It's about 38.5 million, Michael, and that's a basic number, not fully diluted. If you add dilution, it would be a bit higher.
- Michael Schecter:
- About 40 million fully diluted.
- Zev Weiss:
- Probably 39.5 million.
- Michael Schecter:
- And the tax rate?
- Stephen J. Smith:
- For the quarter or for...
- Michael Schecter:
- For the year, going forward, what we should look at? What's your normal...
- Zev Weiss:
- Right. Probably mid to upper 30% range, Michael.
- Operator:
- It appears there are no further questions at this time. Mr. Steinberg, I'd like to turn the call back over to you for any additional or closing remarks.
- Gregory M. Steinberg:
- Thank you, Jennifer. That concludes the question-and-answer portion of today's conference call. We look forward to speaking with you again at our fiscal year 2012 fourth quarter conference call next April. We thank you for joining us this morning and wish you a happy holiday season.
- Operator:
- That concludes today's conference. Thank you for your participation.
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