Circuit City Stores, Inc. (NYSE: CC) today reported results for the third quarter ended November 30, 2006.
Third Quarter Summary
* Net sales grew 6.9 percent, driven by a comparable store sales gain of
5.1 percent on top of a comparable store sales gain of 13.1 percent in
the prior year.
* In the domestic segment, Web-originated sales grew 67 percent, call
center sales grew 84 percent and services revenues grew 72 percent
versus the prior year.
* Gross profit margin declined 192 basis points compared with last year's
result due to a decline in merchandise margin for televisions, PC
hardware, and entertainment software, as well as a decrease in extended
warranty net sales as a percentage of domestic segment net sales.
* SG&A expenses as a percentage of sales, which included approximately
120 basis points in net incremental expenses related to investments in
information technology, multi-channel capabilities and innovation
activities, declined 43 basis points from the prior year.
* The loss from continuing operations before income taxes was 0.9 percent
of sales compared with earnings from continuing operations before
income taxes of 0.6 percent of sales in the prior year.
* The company reported a net loss from continuing operations of 9 cents
per diluted share compared with net earnings of 6 cents per diluted
share in the prior year.
* The company's cash, cash equivalents and short-term investments
increased by $348 million to $898 million, driven by a significant
decrease in net-owned inventory.
"The third quarter was volatile for the company," said Philip J. Schoonover, chairman, president and chief executive officer of Circuit City Stores, Inc. "While we are disappointed with our profit performance this quarter, we continue to see evidence that we are on the right long-term path to sustainable growth. We saw sales growth in the key pillars of home entertainment, multi-channel and services. These efforts allowed us to report solid comparable store sales growth despite facing a 13.1 percent comparison from last year. We also made progress in building our pipeline of new Superstore sites.
"During September, our results tracked ahead of our plan, but, as the quarter progressed, our results fell below our expectations. While a number of categories underperformed our gross margin expectations, the most significant variance from plan was in the flat panel television category. The pace of the decline in flat panel television prices accelerated during the quarter as manufacturers and retailers competed aggressively for market share, and prices fell to unanticipated levels. Although flat panel television unit sales increased by strong double digits, the increase in television units and associated attachment sales did not produce the gross profit dollar results necessary to offset these price declines.
"We are committed to funding the key strategic investments in information technology, multi-channel capabilities and innovation activities necessary to ensure long-term success. While we were able to reduce some expenses during the quarter, our flexibility was somewhat limited due to relatively heavy investment spending as well as not wanting to risk any disruption immediately prior to the key holiday selling period.
"The progress we have made with the pillars of our growth strategy is encouraging. We capitalized on strong consumer electronics industry growth, as flat panel television unit sales growth rates accelerated with each month of the quarter. In November, we rolled out an updated version of circuitcity.com that offers improved check-out and focuses on providing solutions for each customer purchase. In September, we successfully launched our new services brand, firedog(SM), and are encouraged by the initial consumer reaction to the brand. We remain committed to our real estate strategy. We opened eight incremental Superstores, opened five outlet stores, relocated four Superstores and remodeled one Superstore during the quarter. Our pipeline of expected store openings continues to grow, and we plan to open between 60 and 65 new Superstores next fiscal year.
"Clearly, the quarter's performance did not meet our profit expectations. As a result of this and our fourth quarter expectations, we have reduced our fiscal 2007 outlook. At our analyst conference in May 2006, we laid out a goal of earnings from continuing operations before incomes taxes as a percentage of consolidated net sales of 5 percent in a three- to five-year timeframe, and we remain committed to this goal. The path to this goal was through a series of initiatives that focused on improving sales and gross margin as well as improving the efficiency of our expense structure. In November, as a result of the intensified gross margin pressures within the industry, we launched efforts to accelerate the timing of those initiatives. We believe the results of this program will serve to deliver sustainable growth in revenues and profits in an environment with lower expected gross margins."
A summary of results by segment is shown in Table 1.
Sales
For the third quarter ended November 30, 2006, net sales increased 6.9 percent to $3.10 billion from $2.90 billion in the same period last year, with consolidated comparable store sales increasing 5.1 percent from the prior year. A summary of sales results is shown in Table 2.
Domestic Segment Sales
For the third quarter, net sales for the domestic segment increased 7.3 percent to $2.93 billion from $2.73 billion in the same period last year, with comparable store sales increasing 5.5 percent from the prior year. For the quarter in the domestic segment, Web-originated sales grew 67 percent, services revenues grew 72 percent and call center sales grew 84 percent from the prior year.
The percent of sales represented by each major product category for the periods ended November 30, 2006 and 2005, is shown in Table 3.
In the video category, Circuit City produced a high-single-digit comparable store sales increase in the third quarter. Total television comparable store sales increased by double digits, led by double-digit comparable store sales growth in flat panel televisions. Comparable store sales of digital imaging products and accessories also increased by double digits. Growth in the category was partially offset by a single-digit decline in comparable store sales of camcorders and a double-digit decline in DVD hardware.
In the information technology category, Circuit City produced comparable store sales that were approximately flat compared to the prior year. Comparable store sales in PC hardware declined by low-single digits as a high-single-digit increase in notebook computers was more than offset by a double-digit decline in desktop computers.
In the audio category, Circuit City produced comparable store sales that were approximately flat compared to the prior year. A triple-digit comparable store sales increase in navigation products was offset by a high-single-digit decline in home audio products and a double-digit decline in satellite radio products. Comparable store sales of portable digital audio products were approximately flat to last year and portable digital audio accessories grew by high-single digits.
In the entertainment category, Circuit City produced a high-single-digit comparable store sales increase in the third quarter, reflecting a strong-double-digit comparable store sales increase in video gaming products and a double-digit comparable store sales increase in PC software. Comparable store sales of video software declined by mid-single digits and comparable store sales in music software declined by double digits.
Domestic segment extended warranty net sales were $103.3 million, or 3.5 percent of domestic segment net sales, in the third quarter, compared with $104.7 million, or 3.8 percent of domestic segment net sales, in the same period last year.
International Segment Sales
For the third quarter, net sales for the international segment increased 0.6 percent to $171.6 million from $170.6 million in the same period last year. The increase was driven by the effect of fluctuations in foreign currency exchange rates, which accounted for approximately 4 percentage points of the international segment's third quarter net sales increase. Comparable store sales decreased 3.7 percent for the quarter in local currency.
Gross Profit
The consolidated gross profit margin was 22.2 percent in the third quarter compared with 24.1 percent in the same period last fiscal year. Domestic segment gross profit margin declined 190 basis points from the prior year, driven by a decline in merchandise margin primarily in televisions, PC hardware, and entertainment software, as well as a decrease in extended warranty net sales as a percentage of domestic segment net sales.
The international segment's third quarter gross profit margin decline of 165 basis points did not materially impact the consolidated gross profit margin. The decrease resulted primarily from a greater percentage of sales of lower-margin digital products as well as clearance activities related to assortment rationalization.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were 23.2 percent of consolidated net sales in the third quarter, compared with 23.7 percent of consolidated net sales in the same period last year. The domestic segment contributed 17 basis points to the 43 basis point decrease in the consolidated expense-to-sales ratio, despite incurring incremental expenses related primarily to strategic investments. The domestic segment's improvement primarily reflects a decrease in advertising expense and leverage of payroll expenses. The company also recorded a net benefit of $7.0 million in relocation expense. This net benefit resulted from the reversal of lease termination charges for seven previously-vacant locations that have re-opened or will re-open as outlet stores, partially offset by expenses associated with completing four relocations during the quarter. These improvements were partially offset by net incremental expenses related to investments in information technology, multi-channel capabilities and innovation activities that amounted to approximately 120 basis points as a percentage of consolidated net sales. During the third quarter of fiscal 2006, the company recorded its portion of the Visa/MasterCard antitrust litigation settlement. The $9.4 million gain is reflected as a reduction to domestic segment store expenses.
The international segment contributed 26 basis points to the decrease in the consolidated expense-to-sales ratio, as the segment's SG&A expenses as a percentage of segment net sales declined 403 basis points. For the third quarter of fiscal 2006, the international segment's general and administrative expenses included $8.3 million in brand transition expenses.
A summary of selling, general and administrative expenses by category is shown in Table 4.
Net (Loss) Earnings from Continuing Operations
The fiscal 2007 third quarter net loss from continuing operations totaled $15.6 million, or 9 cents per share, compared with net earnings of $10.2 million, or 6 cents per share, for the third quarter of fiscal 2006.
Net Loss from Discontinued Operations
In the third quarter of fiscal 2007, the net loss from discontinued operations totaled $0.4 million, and primarily related to a domestic segment operation that is held for sale. In the third quarter of fiscal 2006, the net loss from discontinued operations totaled $0.01 million and related to a domestic segment operation that is held for sale and a domestic segment subsidiary, MusicNow, LLC, which was sold in October 2005.
Financial Condition
At November 30, 2006, Circuit City had cash, cash equivalents and short-term investments of $898 million, compared with $550 million at November 30, 2005. The year-over-year change in the cash position reflects cash provided by operations, including the reduction in net-owned inventory, partially offset by the use of cash to purchase property and equipment and to repurchase common stock.
Merchandise inventory decreased 5 percent to $2.53 billion from $2.68 billion last year, driven by improved supply chain and inventory management execution, including a reduction in slower-moving and at-risk inventories while improving customer-encountered in-stock levels. Merchandise payable increased 13 percent to $1.87 billion from $1.66 billion due primarily to increased purchases closer to the time of sale. Net-owned inventory decreased by $363 million, of which domestic segment net-owned inventory decreased by $332 million, compared with the prior year. The company now expects to reduce fiscal year-end domestic segment net-owned inventory by $75 million to $125 million.
Long-term debt, including current installments, increased to $55 million from $40 million in the previous year due primarily to lease-related obligations.
Capital expenditures, net of landlord reimbursements, for the third quarter totaled $89 million.
Stock Buyback
Circuit City continued to repurchase stock, consistent with the board's $1.2 billion authorization, during the third quarter. As of November 30, 2006, the company had repurchased 52.9 million shares under this authorization at a cost of $819.6 million. Of this total, repurchases during the third quarter totaled 0.7 million shares at a cost of $19.9 million.
Updated Fiscal 2007 Outlook
The company now expects the following in fiscal 2007:
* consolidated net sales growth of 8 percent to 9 percent, down from 9
percent to 11 percent
* domestic segment comparable store sales growth of 6 percent to 7
percent, down from 7 percent to 9 percent
* incremental expenses in information technology, multi-channel
capabilities and innovation activities, primarily related to expenses
for investments, that will total approximately 90 basis points as a
percentage of consolidated sales, down from 100 basis points
* the classification of net income to discontinued operations in the
fourth quarter as the result of returning management of 93 Rogers
Plus(R) stores to Rogers Wireless Inc. in January 2007, of
approximately $5.1 million, all of which relates to the fourth quarter
* earnings from continuing operations before income taxes (EBT) as a
percentage of consolidated net sales of 1.0 percent to 1.4 percent,
down from 2.0 percent to 2.4 percent, excluding the impact of
classifying the results from the Rogers Plus(R) stores as discontinued
operations
* capital expenditures, net of landlord reimbursements, of approximately
$275 million, down from $290 million
* depreciation and amortization expense of approximately $190 million
* a reduction in domestic segment net-owned inventory from February 28,
2006, to February 28, 2007, of $75 million to $125 million, up from $50
million to $100 million
The fiscal 2007 outlook, as updated, is based on the following assumptions:
* a continuation of current competitive and macroeconomic environments
* continued gross margin pressure in key product areas
* continued sales growth in key product areas including flat panel
televisions, video game hardware, notebook computers, digital imaging
and portable digital audio players as well as related accessories and
services
* continued growth in Web-originated sales
* no realization of benefits in fiscal 2007 from initiatives to
accelerate sales growth, gross margin improvement or expense
reductions, nor any potential costs or expenses associated with those
initiatives
* improved customer-encountered inventory in-stock levels
In the second quarter, the company conducted its annual review of goodwill associated with its international segment for impairment and determined that no impairment existed. The company is carefully monitoring sales and margin trends in the fourth quarter to determine whether it will be necessary to re-evaluate the asset for impairment. Future valuation adjustments based upon this review could cause actual results to vary materially from expected results.
Domestic segment Superstore openings and estimates are shown in Table 5. Ten of the fourth quarter openings are planned for February. The company expects approximately one third of the openings to be in the 20,000 square foot format. The company has completed the planned remodel of two locations.
Expenses related to domestic segment store relocations, remodeling and store refresh activities are expected to total approximately $25 million. The company expects that the consolidated effective income tax rate applicable to results from continuing operations will be 35.9 percent.
The company's estimate of capital expenditures includes $126 million for relocations, new store construction, store refreshes and category resets. Information technology capital expenditures are expected to total $115 million. Distribution and other capital expenditures are expected to total $23 million. Net capital expenditures of $11 million are anticipated for the international segment.
Posted December 19th, 2006 by Armen Hareyan
