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Subject: The Buckle et al Date: 7/3/2012 10:37 PM
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Most retailers have given up on announcing monthly same store sales and revenue, but the Buckle continues to update analysts and investors every month. This creates some short-term angst and lowers expectations when the news is bad and May was a disappointment. It may create a buying opportunity if May is a meaningless bit of noise in an otherwise good year.

The Buckle crossed below its 200 day moving average of $43 when revenue at stores open at least a year was nearly flat in May, missing analyst expectations. Same store sales were 0.2% against the 3.3% analyst expectations. Have consumers made the switch to cheaper fashion as the “recession” drags on? At this point it’s hard to know since most of the competition has foregone reporting monthly figures. We don’t have long to wait to hear how the May-July quarter turned out.

Net sales for May increased 2.7 % to $69.9 million from sales of $68.1 million in May 2011. Comparable store net sales year-to-date (17-weeks) increased 5.9 % year-over-year. Net sales for the 17-week period increased 8.3 % to $333.6 million. No guidance was given.

The Buckle is not the low-priced discount store in teen-adult retail. It lies somewhere between the higher priced True Religion and the promotional discount pricing of Aeropostale. ARO sells tees cheap $8-$10 and TRLG is in the $70’s-$80’s. ANF tees come in at $20-$35. Denim is pricey at TRLG at $200-$300 and ARO is $15-$30. ANF and BKE are at $90 to $100. AEO is closest to ARO in pricing for similar product. We can think of Buckle as reasonable but not discount. It may hold up better than the market is thinking. While not the low cost leader, it’s not so pricey that the consumer gets sticker shock looking at the price tags.

ARO sells only their own brand – it’s cheap but limited. Some of their recent negative comps may stem from utter boredom when the shopper walks in the door and sees shelves stacked with yesterday’s trend. While ARO has 21 items in denim on their website, the Buckle list 1441. The Buckle carries denim across most major brands including the pricey True Religion and the much cheaper BKE brand at $26-$36. The styles are seemingly endless and the color selection broad.

Visit some websites and compare.

Aeropostale
http://www.aeropostale.com/family/index.jsp?categoryId=43301...

American Eagle
http://www.ae.com/web/browse/category.jsp?catId=cat90120

The Buckle
http://www.buckle.com/womens/jeans/sort:price_asc

Abercrombie & Fitch
http://www.abercrombie.com/webapp/wcs/stores/servlet/Categor...

True Religion
http://www.truereligionbrandjeans.com/Womens_Jeans/pl/c/1170...

Denim is a critical piece of business for The Buckle at nearly 50% of revenue. Management’s understanding of what they are doing with a segment like denim is impressive. There is detail and sharing of thought processes in the conference call that lends credibility to their decision making process. While they may have a miss here and there (May?) they seem to know what they need to do to stay competitive. This is in sharp contrast to management at ARO that appeared to flounder and grasp at generalities (freshness, color palette, return to the core customer)when asked late last year how they were going to fix their fashion misses.

Some snips from the CC Q1

Dennis H. Nelson - President and CEO

Well, we've been very successful with some of our branded denim in the stores that are definitely at higher price points, close to $100, up to we're selling some Rock Revival's that are in the 160s give or take, and so we've had good response there both -- on the Rocks both in men's and women's. So, our BKE brand is still doing well and working for us. But we've added the layers on in the branded business that have raised those price points up for us.

With regard to color denim we had some color in more casuals early as the team was shopping we added some color in through the spring, you know, probably more in the shorts or crops for the most part. We have a degree of color coming in as we go through back-to-school. But in total, it's still going to be a small part of our Denim mix. I think with the earlier warm weather compared to last year's weather you probably had some guess going for the denim shorts and some of the other categories that might have – we had a strong gain in the active wear part of our business so that might have had an effect. But for the quarter we're very happy with our denim


Patricia K. Whisler - VP of Women's Merchandising

Just to reiterate what Dennis had mentioned we were really happy with the strong results that we ended the quarter with. We also had some new repeats just recently on color in full length and casual and denim which were add to the mix, and then we continue to see color as part of our mix going into the next season. So, we're confident with the look along with the unique details, but it will be a small part of our business.

Just to reiterate what Dennis had mentioned we were really happy with the strong results that we ended the quarter with. We also had some new repeats just recently on color in full length and casual and denim which were add to the mix, and then we continue to see color as part of our mix going into the next season. So, we're confident with the look along with the unique details, but it will be a small part of our business.

What I see in these remarks is a specific strategy regarding colored denim. It has been very big for a few quarters. Nobody can predict how long it will last. Buckle refuses to go overboard in it, but adds it to the core styles. They will be ready to get rid of it when it flags. There should not be a huge overhang of colored denim to sell in the 60% off bins.

Management instills some confidence.

Buckle’s Q1

Q1 was steady if not spectacular.

Revenue increased 10% and same store sales were +7.4% with online sales at +15%.

Gross margins were up 0.4% to 43.3% driven by leveraging fixed costs including rent and distribution. Buckle has some of the lowest rent expenses among the peer group in this write-up -— ANF, AEO, and ARO.

SG&A decreases helped increase operating margins by 0.6%.
Selling expense benefited from reduces bankcard fees, and internet-related fulfillment and marketing expenses

Q1 comps and sales increases/decreases
--------------------------------------
Same store sales 7.40%
Retail price increase 8.70%
Increase transactions 0.50%
Number of units increase -1.80%
--------------------------------------
Online sales 15.10%
Sales/SF 6.80%
Sales/SF $113.04

SF is square feet

The results that give me pause are the decreasing number of units per transaction and the nearly flat number of transactions. Same store sales were up 7.4% only through price increases and higher prices may fizzle as the primary driver of increasing comps if the retail sector gets promotional again. May’s flat results could be the prelude to a weaker second half if The Buckle cannot keep raising prices. Flat comps are not well received by the market and if they fail to sustain price increases and cannot offset that with increased transactions/units per transaction, the back half of 2012 will disappoint.

AEO, ANF, ARO and BKE

Which of these things is not like the other? The simple Sesame Street answer is Buckle because it starts with “B”. But there are more important differences that separate The Buckle from this small group of peers.

Margins

The Buckle

Quarterly

04/12 01/12 10/11 07/11 04/11
=====================================================
Gross 43.3% 47.4% 43.4% 41.0% 42.9%
Operating 22.0% 26.1% 22.1% 17.3% 21.4%
Net 14.3% 16.6% 14.0% 11.1% 13.9%

Annual

2011 2010 2009 2008 2007
====================================================
Gross 44.1% 44.1% 44.6% 43.4% 41.1%
Operating 22.2% 22.2% 22.2% 20.5% 17.7%
Net 14.2% 14.2% 14.2% 13.2% 12.1%

Aeropostale

Quarterly


4/12 1/12 10/11 7/11 4/11
====================================================
Gross 28.0% 24.3% 27.1% 24.4% 29.1%
Operating 3.4% 5.0% 6.7% 1.2% 5.9%
Net 2.1% 3.2% 4.0% 0.6% 3.5%

Annual

2011 2010 2009 2008 2007
=====================================================
Gross 36.9% 38.0% 34.7% 34.8% 32.2%
Operating 16.1% 17.2% 13.2% 12.7% 11.9%
Net 9.6% 10.3% 7.9% 8.1% 7.5%

American Eagle

Quarterly

4/12 1/12 10/11 7/11 4/11
=====================================================
Gross 37.9% 34.1% 37.1% 34.4% 38.0%
Operating 8.0% 9.7% 10.0% 4.3% 6.3%
Net 5.5% 4.9% 6.3% 2.9% 4.6%

Annual

2011 2010 2009 2008 2007
=====================================================
Gross 35.7% 39.5% 39.9% 40.6% 47.3%
Operating 7.3% 10.7% 10.6% 13.0% 21.4%
Net 4.8% 6.1% 7.3% 7.8% 14.3%

Abercrombie

Quarterly
					
4/12 1/12 10/11 7/11 4/11
=====================================================
Gross 62.6% 56.1% 60.1% 63.6% 65.0%
Operating 0.7% 1.8% 7.4% 5.1% 4.6%
Net 0.3% 1.5% 4.7% 3.5% 2.9%

Annual

2011 2010 2009 2008 2007
====================================================
Gross 60.6% 63.8% 64.3% 66.9% 71.8%
Operating 4.6% 6.7% 4.0% 14.3% 21.1%
Net 3.1% 4.3% 0.01% 7.8% 12.9%

Buckle has an enviable track record of high operating and net margins that are remarkably stable over the years and quarters. The company barely blinked during the margin-eating high cost of cotton last year and the promotional environment running rampant through the retail world in the last few quarters.

Operating margin is a good indicator for management of a company’s success. Operating margin can be positively or negatively affected by comparable store sales, merchandise margins, occupancy costs, and the ability to control operating costs.

BKE (as do many retailers) takes occupancy cost out of cost of sales. Abercrombie’s occupancy is an operating cost and gross margins are not directly comparable to the other three.

What are the margins saying about the businesses?

Aeropostale did not hold onto the 38% high gross margins of 2010. High cotton prices cut into gross but an even bigger problem was fashion misses that had them clearing the shelves at what is euphemistically known as promotional pricing.

ANF has gross margins that have been in slow decline for several years but it’s the fast-falling operating margins that grab our attention and keep the price per share moving down -- more than halved from the from the 52-week high of $78. Abercrombie is unable leverage high costs across the international expansion and lukewarm comps at home. The move overseas has been a disaster with double-digit same store sales declines and too many stores doing too little business.

American Eagle also saw gross margins slide with declining same store sales and high cotton prices taking them down by nearly 10% from the high in 2007. Eleven out of 18 quarters had negative same store sales since Q4 2007. Q4 2011 and Q1 2012 same store comps are +10% and +17% respectively and margins are reflecting the improvement.

A few more inter-company comps

The ideal retailer would have high same store sale comps, efficient use of space with high sales per square foot and low occupancy costs.

BKE
2011 2010 2009 2008 2007

Total stores 431 420 401 387 368
sss 8.40% 1.20% 7.80% 20.60% 13.20%
Sales/sf $462.00 $428.00 $428.00 $401.00 $335.00
Rent/sf $27.77 $26.09 $24.78 $22.73 $21.33
---------------------------------------------------------
ARO

Total stores 1057 1012 952 914 828
sss -9% 1% 10% 8% 3%
Sales/SF $561.00 $626.00 $624.00 $572.00 $545.00
Rent/sf $38.17 $37.07 $35.50 $32.52 $31.00
---------------------------------------------------------
ANF

Total stores 1045 1069 1096 1097 1013
sss 5% 7% -23% -13% -1%
Sales/sf $463 $390 $339 $432 $503
Rent/sf $52.06 $44.19 $39.15 $36.76 $34.50
--------------------------------------------------------
AEO
Total stores 1090 1086 1075 1070 968
sss 3% -1% -4% -10% 1%
Sales/sf $545 $524 $526 $563 $644
Sales/avg sf $436 $420 $422 $452 $522
Rent/sf $40.50 $37.61 $36.47 $34.14 $33.09

In short nobody has it all. ANF pays a big price for its locations and its upscale image. The high fixed cost of occupancy contributes to Abercrombie’s low margins as they struggle to go global and fall short.

The Buckle with its low rent has some of the best operating and net margins in the clothing retail sector (Francesca’s and lululemon are also 20%+). Part of the Buckle advantage is the low cost of occupancy.

ARO does an amazing amount of sales per square foot. That came under pressure and dropped as they were forced to cut prices to move an excess of inventory in 2011. BKE has steadily improves sales/sf. Average sales per square foot increased 6.8% from $105.85 in Q1 2011 to $113.04 in Q1 2012.

The Buckle sales per square foot lag a little—they are improving. Comps and rent are better than the listed peers. There is a great advantage in being consistently good even if not the best.

The Dividend

The dividend is the other anomaly separating BKE from most of its peers. They pay a quarterly dividend but since 2008 BKE has paid a special cash dividend in the third or fourth quarter.

Dividends
				
2011 2010 2009 2008
=====================================
Total $3.05 $3.30 $2.50 $2.82
Special $2.25 $2.50 $1.80 $2.00

How did they pay for it when there was a shortfall?

2011 2010 2009 2008
==================================================
CFFO 209.27 179.94 157.96 143.73
Capex (36.63) (54.95) (50.56) (47.45)
FCF 172.65 124.99 107.40 96.28
Dividends (144.56) (154.29) (120.34) (126.67)

Buckle sold investments and took it out of cash. Cash levels decreased in 2009-2010. In 2011, there was sufficient coverage from free cash flow.

Since no guidance is given, if we take the May 17-week trend and let BKE grow revenue at 8% with 14% net margins for 2012, CFFO should be in the neighborhood of $209 million for 2012. This is almost flat compared to 2011. They do give some capex numbers and total capital expenditures will be approximately $32-$36 million (primarily new stores and store remodeling). A rough free cash flow estimate is $173 million and dividends including a special dividend of $2.25 are $146 million. If BKE growth does not fall significantly off the 17-week pace, the dividend seems safe. We can wait for the Q2 results before committing to a buy for the dividend since it is distributed in Q3 or Q4 normally.

If growth fails, there is cash in the bank. At the end of Q1 2012, BKE had total cash and investments of $259.9 million (includes non-current investments). BKE has shown a willingness to sell investment to raise cash and fund the dividend in the past. The dividend yield at $39 is 7.8%. There is always the danger of buying for the yield and getting stuck with a fast dropping stock as investors sell heavily ex-dividend. That’s a surety if the back half of the year continues the slowing May trends.

It’s a well-run business with a strong track record of conservative cash flow funded expansion and steady high margins and growth. Management appears to know the business and understands fashion trends and is careful not to overstock in something that has a shelf life and is probably on its last legs like colored denim. The $39 price tag is not the best entry we have seen in the past year, but it’s close.

http://finance.yahoo.com/echarts?s=BKE+Interactive#symbol=BK...
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