Conference Call, 03/09/98, Borders Group Q4

FOOL CONFERENCE CALL SYNOPSIS*
By Greg Markus (TMF Boring)

Borders Group
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500 E. Washington St.
Ann Arbor, MI 48104
(313) 913-1100
http://www.borders.com

ANN ARBOR, Mich. (March 9, 1998) /FOOLWIRE/ -- Borders Group today announced audited results for its fiscal year ended Jan. 25, 1998. Consistent with the company's guidance, earnings were $0.98 per share (diluted), a 40% increase over last year's diluted earnings per share of $0.70. Consolidated sales for the year were $2,266 million, an increase of 16% over the prior year's sales of $1,959 million. Fourth-quarter earnings were $0.96 per share compared to $0.82 per share in 1996. Consolidated fourth-quarter sales increased 18% to $859 million.

BORDERS RESULTS. Borders sales were $450 million in the quarter, an increase of 32% over the prior year's sales of $342 million. For the year, Borders sales grew to $1,264 million, up 32% over prior year's sales of $958 million. Comparable-store sales increased by 8.0% for the quarter and for the full year. The number of Borders stores increased during the year from 157 to 203, including a new store in Singapore. Fourteen Borders superstores opened during Q4.

WALDENBOOKS RESULTS. In the fourth quarter, Waldenbooks sales increased by 1% to $383 million as a result of a comparable store increase of 0.5% and expansion of the holiday kiosk-based sales program. For the full year, Waldenbooks reported sales of $968 million, a decline of 1% from a year-ago total of $980 million. The sales decline at Waldenbooks reflected a decrease in stores from 961 to 923 and flat comparable store sales for the year. Waldens closed six stores and opened two in the fourth quarter.

INCOME STATEMENT DETAILS. As a percent of sales, gross margin increased to 27.9% in 1997, as compared to 26.6% in 1996. The increase resulted from improvements in buying and merchandise mix, distribution, and shrink (i.e., shoplifting) control. For the fourth quarter, gross margin increased to 32.8% as compared with 31.7% a year ago. SG&A expense increased to 21.4% from 20.9% of sales in 1996. The rise resulted from increased strategic spending on Internet and international initiatives, which offset operating leverage improvement in the core businesses.

BALANCE SHEET DETAILS. Year-end inventories increased from $738 million to $879 million, a 19.2% increase. The increase was primarily attributable to 46 new Borders stores, the initial stocking of the fulfillment center in preparation for the Borders.com launch, and the acquisition of "Books etc,", a bookstore chain in the United Kingdom. Short term borrowings were $122 million compared to $30 million in 1996. The increase in borrowings reflected debt related to the acquisition of Books etc. and 1997 share repurchase activity. In the absence of the acquisition and the share repurchase activity, neither of which is anticipated to be dilutive in 1998, borrowings under the line would have decreased. Operating cash-flow was certainly positive for the year. After-tax return on average equity increased from 11.3% to 14.0%.

EMPLOYMENT. Borders attracts a different kind of employee than the usual retail business does, and the company's competitiveness is improved by holding down turnover of its trained workers. Borders accomplishes that by fostering an ownership culture throughout the company and offering career opportunities. Stock ownership is widely distributed among employees, and because of the stock's performance non-officer employees are now "in the money" by approximately $190 million in total.

SALES AND EXPENSE GUIDANCE. Sales are forecast to rise to $2.6 billion, an increase of approximately 16.5%. Management expects gross margin to continue to improve, by approximately 70 basis points for the year. Interest expense is expected to more than double, to about $16 million, as a result of sensible leveraging to support new strategic initiatives. Capital expenditures are projected to increase by about $50 million to $165 million in 1998. This reflects continued spending on strategic initiatives as well as increased investments in domestic distribution and systems to support the growing business and help to improve earnings over time. SGA as a percentage of sales should hold relatively constant as compared with 1997. The current quarter is on plan, and earnings guidance for fiscal 1998 remains at $1.21 diluted earnings per share, including the company's spending on its strategic initiatives.

PROJECTED SHARE COUNT. On a fully diluted basis, the weighted average share count for 1998 is expected to be approximately 83.2 million.

COMPARABLE SALES GUIDANCE. Borders comparable store sales are expected to increase 5 to 6 percent, due to the maturing store base and some cannibalization effect. Waldenbooks comparable store sales are expected to decline 0.5%.

STORE OPENINGS. The company expects to open 40 domestic Borders superstores and 3 international Borders during the year. On the Waldenbooks side, the projection is for net closings of approximately 38, comprised of 8 openings and 46 closings; most of those closings will occur in the current quarter or late in the fourth quarter.

INTERNATIONAL INITIATIVES. Management is pleased with the performance of the Singapore store and the Books etc. stores. The plan is to open three more Borders superstores outside the U.S. in the later part of 1998: two in the U.K. and one in Australia. Books etc. opened one store during the fourth quarter. Management anticipates opening four new Books etc. stores in the U.K. during the year.

E-COMMERCE INITIATIVE. The launch of Borders.com is slated to occur in the current quarter, and management is "very hopeful" of meeting that goal. Having said that, the company wants to make sure that when they do launch the site, everything is as it should be. The objective is to promote the Borders brand globally and to offer customers an online alternative. Internet sales are projected to be approximately $25 million for the year.

The Internet is going to be a great business for Borders, but it is not as efficient a business operation as some would believe. The "single-pick" fulfillment operation is significantly more expensive than the traditional model. Also, "cyber-rent" can be higher than physical rent, when you have to pay to partner in order to attract customers to your site. These costs will decline over time as they do in every business model, and Borders will participate in that change. But to represent Internet sales as the cheapest, fastest, most efficient is probably the wrong way to think about it. What Borders.com provides is an alternative for certain customers, and at certain times in their lives, to have a convenient way to buy the company's products.

DISTRIBUTION CENTERS. On the Borders side, well over 90% of activity for all product categories runs through Borders's own distribution centers. On the Waldens side, the percentage has increased to nearly 60%. Borders has a large distribution facility in Nashville that is oriented around small-order fulfillment, currently for customer special orders and some Internet-based sales. Borders's California distribution facility is being automated along the lines of the Nashville facility to support similar fulfillment. These fulfillment facilities will support sales through Borders.com, with the Nashville facility capable of carrying as many as 750,000 titles.

* A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. Note: Statements made by a company other than historical information may constitute forward-looking statements for which the company can claim protection under the Safe Harbor Act. Please consult the company's filings with the SEC for information on risk factors which might cause actual results to differ materially from the information contained in these forward-looking statements.