February 2008 Archives

On the guidance, I think we’re seeing what a lot of luxury retailers are seeing, is that consumers are behaving very differently over the last 10 weeks than they have been for quite some time. We had a weak January and things have actually picked up slightly going into February but, where we sit today, it’s pretty tough to give guidance for the full year just to be perfectly straight with you guys. What we saw in January was people pulled back. When I talked to people in the channel they’re telling me that stores are absolutely dead. We don’t know how long this continues, whether what we’re seeing is a reaction to people spending what money they were going to spend at Christmas time and then pulling back now, or if it’s something more sustained than that. So, our mindset is to give conservative guidance based on where we’re standing today and then if the situation improves, which we’re hopeful it does, we’ll continue to update. But, from a macro perspective our goal is really just to gain share. That’s all we can do. We can’t change whether or not consumers are going to come into the market to make a purchase but we can do our best to try taking those consumers when they do, and I think we’ve been doing that well for almost nine years now and regardless of what the market does we will grow faster than other people. That’s our intent and I think we’ll do that.

Our guidance is for that as well. The other anomaly we’ve seen over the last few weeks is that very high-end of the market, those price points above $25,000 that were healthy for a very long time for ourselves, as well as a lot of the other luxury players out there are all of a sudden very, very weak. I think we said in the call that high-end sales were 50% growth or above every single quarter of last year. We definitely didn’t see that in the last couple weeks of December and in January. I think the very, very high-end consumer is finally showing some vulnerability out there. The guidance we’re giving today is based on what we’ve seen so far. But if that changes we’ll update people.

The above quote of Mark Vadon, Blue Nile, Inc. (NILE) Executive Chairman, from Seeking Alpha's Transcript of the Blue Nile 4Q 2007 Conference Call explains why the stock was hammered.

Because I am late in providing my thoughts on the conference call, I will provide a shorter than usual article.

Key points from the earnings release and conference call are as follows:

• Gross profit for the quarter grew 25.9% to $23.7 million, from $18.8 million for the fourth quarter of 2006. Gross profit as a percentage of sales increased to 21.1% for the quarter, compared to 20.7% for the fourth quarter of 2006.
• Net income per diluted share for the quarter includes stock-based compensation expense of $0.06, compared to $0.04 for the fourth quarter of 2006.
• International sales totaled $7.2 million in the quarter, an increase of 155% year over year. For the full year, international sales totaled $17.2 million, a 108% increase compared to sales of $8.3 million for fiscal 2006.
• For the full year, net cash provided by operating activities was $41.5 million compared to $40.5 million for fiscal year 2006. Non-GAAP free cash flow for the year totaled $36.6 million, compared to $38.6 million in the prior year. Free cash flow for 2007 includes the change in deferred income taxes related to the full utilization of net operating losses for income tax purposes in 2006, as well as higher capital expenditures for 2007 related primarily to the expansion of the Company's domestic fulfillment center.
• The effective tax rate for the quarter was 33.3%, compared to 35.5% for the fourth quarter of 2006. The lower tax rate is primarily due to deferred tax asset adjustments. The Company's effective tax rate for fiscal year 2007 was 34.3%, compared to 34.6% for fiscal year 2006.
• Capital expenditures in the fourth quarter totaled $1.3 million, compared to $0.2 million in the fourth quarter of 2006. Full year 2007 capital expenditures totaled $4.9 million compared to $1.9 million in 2006. The higher capital expenditures for 2007 relate primarily to the expansion of the Company's domestic fulfillment center.
• During the quarter, the Company repurchased 94,100 shares of its common stock for $6.5 million. For the full year, the Company repurchased 438,755 shares of its common stock for $20.0 million.
• The average sales price in 2007 for an engagement ring sold on the website was just over $6,200, well above the industry average.
• The international efforts are realizing tremendous success, despite a cautious U.S. outlook.
• During the quarter Blue Nile repurchased 94,100 shares of stock for $6.5 million. For the full year 2007 it repurchased 438,755 shares of stock for $20 million.
  • Average purchase price for last quarter was $69.08 and for the year, $45.58.
• Net sales are expected to be relatively flat with Q1 2007.
• Net income is expected to be in a range of $0.11 to $0.14 per diluted share. The estimated net income per diluted share includes the estimated impact of stock compensation expense of approximately $0.07 per diluted share, compared to $0.05 per diluted share in the first quarter of 2007.
• The effective tax rate for the quarter is expected to be approximately 35%.
• Goal is to grow net sales by at least 10% for the year and to grow non-GAAP adjusted EBITDA by at least 10%.
• Net income per diluted share goal for 2008 is to achieve a GAAP EPS level that approximates 2007.
• Stock compensation expense for the year is estimated at approximately $0.29 per diluted share, an incremental impact of $0.07 per diluted share compared to 2007.
• The effective tax rate for the year is expected to be approximately 35%.
• Capital expenditures are expected to be approximately $2.5 million.

If you examine Blue Nile's history of buying back shares, you will note that the company has been opportunistic in its purchases. The average cost of its purchased shares last year was about $46 and for the last quarter it was about $70 per share.

I encourage you to listen to the conference call or read the transcript. While I certainly acknowledge the negative effects of U.S. housing slowdown, I do not think the country is headed for a major recession. The economy might worsen in the near to intermediate term, but it will strengthen again. And as Diane Irvine, President and CEO, indicated during the conference call, Blue Nile is well positioned against its traditional brick and mortar competition with their higher costs structures. I agree her assessment that 2008 represents a tremendous opportunity.

Disclosure: I am long Blue Nile stock and call options.

Although I have been busy recently and not trading much, I recently finished A Bull in China: Investing Profitably in the World's Greatest Market. I thoroughly enjoyed Jim Rogers' latest book. I am a Jim Rogers fan who has also read his prior books:

• Investment Biker: Around the World with Jim Rogers;
• Adventure Capitalist: The Ultimate Road Trip; and
• Hot Commodities: How Anyone Can Invest Profitably in the World's Best Market.

Jim Rogers' prior books serve as a good background to his latest book. His early travel, adventure and investment books discuss different themes as he traveled around the world, first by motorbike with his then girlfriend Tabitha and second by his customized Mercedes car with his then girlfriend now wife Paige. Regarding his second trip, I strongly urge you to visit Jim Rogers — The Millennium Adventure website to see Jim's and Paige's phenomenal trip. His third book discussed commodities, in which China plays an important role as a user of commodities.

A Bull In China has the following sections and chapters:

• Introduction: Catching the China Ride;
• Investing: From Mao Caps to Small Market-Caps;
• Risk: The Perils of Success;
• Companies: Let a Thousand Brands Bloom;
• Energy: Not So Black;
• Transport: Paving the Way;
• Tourism: Up, Up, and Away;
• Agriculture: Have You Invested Yet?
• Health, Education, Housing: Serve the Masses;
• Emerging China: The People's Republic of Tomorrow; and
• Appendix.

Introduction: Catching the China Ride quickly sets the tone of the book by recapping some key points from his prior books. Again, reading his prior books is helpful, though not required, to appreciate better his current book. Jim lets you that he is big believer in China's future potential—so much so that he brought a Chinese nanny to teach his daughter Happy, born in 2003, Mandarin. Jim also informs you that he is not going to provide hot stock tips, but rather to help provide you with a start on your research. The companies he discusses may or may not be successful. They are merely starting points for you to do further research.

Investing: From Mao Caps to Small Market-Caps discusses the growth and evolution of China's markets. Of particular importance, Jim Rogers discusses The Chinese Alphabet Soup—A-Shares, B-Shares, H-Shares, S-Shares, N-Shares and ADR's, L-Shares, J-Shares, OTCBB, STAQ and NET.

Risk: The Perils of Success; discusses some of China's challenges and potential solutions.

In Chinese, the word "crisis" is made up of a combination of two characters. The first signifies "risk." The second stands for "opportunity."

China could face many crises up ahead. As an investor, the ones I need to examine most closely are those where potential risks—the fears they provoke, the solutions they require—have the best chance of creating value.

Believe it or not, I don't like taking chances when it comes to investing. The thrill of living on the edge has never been part of my portfolio. The same holds true for buying stocks in China, even if its people are among the biggest gamblers on earth. If you do your homework, buy cheap, and remain patient, you should be able to walk over and pick up that pile of cash in the corner that nobody else notices.

In this chapter Jim highlights some military, infrastructure and environment concerns. He then goes on to describing several companies that might be well suited to addressing these challenges.

I should note that Jim provides several key facts about the scenario or situation before mentioning key companies where he provides a quick snapshot of each. This information serves as an excellent backdrop for your own research.

Companies: Let a Thousand Brands Bloom is short chapter where Jim teaches you that many companies in China are still at their infancy yet are already household names. He mentions Baidu, a popular search engine in China, and Lenovo, a popular computer manufacturer. Still more companies are unknowns waiting to be recognized. Which companies will emerge the Chinese equivalents of GE, Oracle, Johnson and Johnson, and Sony?

Energy: Not So Black focuses on companies that supply China's energy, whether it is hydro, coal, oil, or alternatives such as wind. Jim Rogers also discusses companies outside of China that might benefit from China's continued expansion. For example, Bucyrus International, Inc. (BUCY), a Wisconsin based manufacturer of heavy mining equipment, is well poised to benefit from China's needs.

Transport: Paving the Way discusses the transportation industry, from road paving and infrastructure to automotive companies.

Tourism: Up, Up, and Away is a chapter about tourism inside China as well tourism for Chinese outside China. Of course, with greater affluence, Chinese will be enjoying tourism within their own country and in faraway places. Several companies poised to benefit from this trend are identified and discussed.

Agriculture: Have You Invested Yet? discusses how companies will benefit from China's growing appetite for better food and drink. Juice, farm seed, tractor, fast food, wine and other companies relating to the agricultural sector are discussed.

Health, Education, Housing: Serve the Masses focuses—not surprisingly—on healthcare.

As of 2004, China spent only 4.7 percent of GDP on health care, compared with 8 percent or more in developed countries (and 16 percent in the United States). In early 2007, as part of making health care a major priority, Premier Wen Jiabao announced the creation of a trial "co-operative medical service" throughout "80 percent of China" by 2010. The state will double subsidies to US$1.53billion and offer small amounts to pay medical bills for all rural dwellers. This is a first step toward meeting huge increased demands of a population that isn't just currently underserved but that by 2020 will have 170 million people over sixty, in addition to the number with chronic illnesses. Old age pensions and other forms of social security will be bolstered by an added US$35.7 billion in 2007. At the same time, a finance vice minister announced that China will be actively encouraging more private investment in the health care industry, offering preferential tax policies to those who would help improve a nationwide system full of inefficiency and soaring costs. All this should mean benefits for emerging health care providers and those that invest in them.

Emerging China: The People's Republic of Tomorrow discusses other key themes that do not fit easily into the previous chapters. Some key themes that are discussed are high-tech, aerospace, internet, film, sport, plastic money, mobile phones, cable tv, publishing, retail and fashion, currency, and commodities.

Appendix discusses additional sources of information for you to do more research. Throughout all his books, Jim Rogers encourages you to play to your strengths. That is, if you have specialized knowledge in publishing, then follow this industry more closely in China because you are able to see more clearly the developing trends than is the average person.

To help you down the road further, I've gathered in one place the best websites for Chinese listings, brokers, and China-related funds. These Internet resources will offer you the most current and reliable data. When it comes to the specific sectors or companies that seem most sound and compelling, your personal understanding, analysis and experience will have to point the rest of the way. As I've said: you do your research, pick the companies you like, and buy them, or you sit at home and watch the movies.

After all, China won't wait.

As mentioned, I have read all of Jim Rogers' books and thoroughly enjoyed each of them. Because I am a commodities bull, I found this book helpful in better understanding China's enormous growth. Moreover, I agree with Rogers' in his assessment of China's growing importance. In summary, I highly encourage you to read A Bull in China: Investing Profitably in the World's Greatest Market.