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Article by DailyStocks_admin    (12-15-08 03:57 AM)

Filed with the SEC from Nov 27 to Dec 03:

Zale (ZLC)
Investor and former Securities and Exchange Commission Chairman Richard C. Breeden raised his stake to 9,070,839 shares (28.5%), after buying 1,000,000 on Nov. 26 at $6.29 each. In January, Zale appointed to its board Breeden and James Cotter, a founding partner of Breeden Capital and senior managing director of Richard C. Breeden & Co.

BUSINESS OVERVIEW

General

We are, through our wholly owned subsidiaries, a leading specialty retailer of fine jewelry. At July 31, 2008, we operated 1,396 specialty retail jewelry stores and 739 kiosks located mainly in shopping malls throughout the United States of America, Canada and Puerto Rico.

We were incorporated in Delaware in 1993. Our principal executive offices are located at 901 W. Walnut Hill Lane, Irving, Texas 75038-1003. Our telephone number at that address is (972) 580-4000, and our internet address is www.zalecorp.com.

During the fiscal year ended July 31, 2008, we generated $2.1 billion of revenues. We believe we are well-positioned to compete in the approximately $67 billion, combined U.S. and Canadian retail jewelry industry, leveraging our established brand names, economies of scale and geographic and demographic diversity. We have significant brand name recognition as a result of each of our brand's long-standing presence in the industry, and of our national and regional advertising campaigns. We believe that brand name recognition is an important advantage in jewelry retailing as jewelry products are generally unbranded and consumers must trust in a retailer's reliability, credibility and commitment to customer service.

Business Segments

We report our operations under three business segments: Fine Jewelry, Kiosk Jewelry and All Other. An overview of each business segment follows below. During fiscal year 2008, our Fine Jewelry segment generated $1.9 billion, or approximately 88.0 percent of our revenues. During fiscal year 2008, the Kiosk Jewelry segment revenues represented $249.5 million, or approximately 12.0 percent of our revenues.

Fine Jewelry

Our Fine Jewelry segment is comprised of five brands, focused on the value-oriented consumer. Each brand specializes in fine jewelry and watches, with merchandise and marketing emphasis focused on diamond products. Additionally, each brand differentiates itself through a selection of exclusive product, marketing, store design and customer experience. Our centralized merchandising and sourcing organizations create significant synergies. The merchant team is focused on building compelling merchandise assortments and the sourcing team is focused on partnering with vendors that provide reliable delivery of quality merchandise at a reasonable cost. Zales Jewelers® is our national brand in the U.S. providing jewelry to its value-oriented customers. We have further leveraged the brand strength through Zales Outlet, which focuses on a slightly higher-income female self purchaser in outlet malls and neighborhood power centers. Gordon's Jewelers® is a moderately priced jeweler that emphasizes customer relationships. Peoples Jewellers® is our national brand in Canada providing jewelry to the value-conscious customer. Mappins Jewellers® offers moderately priced jewelry in malls throughout Canada. The Zales and Gordon's brands have expanded their presence in the retail market through the e-commerce sites, zales.com and gordonsjewelers.com .

Zales Jewelers and Gordon's Jewelers

Zales, our national flagship, is a leading brand name in jewelry retailing in the U.S., operating 784 stores in 50 states and Puerto Rico with an average store size of 1,687 square feet. Gordon's operates 261 stores in 35 states and Puerto Rico with an average store size of 1,536 square feet.

Zales is positioned as "The Diamond Store since 1924" given its emphasis on diamond jewelry especially in the bridal and fashion segments. The Zales brand complements its merchandise assortments with promotional strategies to drive sales during gift-giving occasions and throughout the year. We believe that the prominence of diamond jewelry in our product selection and Zales' reputation for customer service for over 80 years fosters an image of product expertise, quality and trust among consumers.

Gordon's was founded in 1905 and its customer shares similar demographic characteristics with the Zales customer. Accordingly, we are embarking on steps to appropriately position the brand to compete with our external competitors and leverage our corporate strengths to capture market share across both our Zales and Gordon's brands. We believe our initiatives to centralize and streamline the organization will further strengthen the performance in both brands.

Zales Jewelers and Gordon's Jewelers combined revenues accounted for approximately 61 percent of our total revenues, with an average transaction of $370 in fiscal year 2008. Additionally, both brands operate as multi-channel retailers and serve internet customers through e-commerce sites zales.com and gordonsjewelers.com , sales from which accounted for approximately three percent of our total revenues in fiscal year 2008. Internet sales increased to $55.7 million in fiscal year 2008 compared to $40.6 million in fiscal year 2007, a 37.2 percent increase.

Peoples Jewellers and Mappins Jewellers

In Canada, we operate 208 stores in nine provinces and enjoy the largest market share of any specialty jewelry retailer in Canada. Canadian operations consist of two brands, Peoples Jewellers and Mappins Jewellers, and accounted for approximately 15 percent of our total revenues in fiscal year 2008. The average store size is 1,602 square feet with an average transaction of $306 in fiscal year 2008.

Peoples Jewellers and Mappins Jewellers are two of the most recognized brand names in Canada. Peoples was founded in 1919 and offers jewelry at affordable prices, attracting a wide variety of Canadian customers. Using the trademark "Peoples, the Diamond Store" in Canada, Peoples emphasizes its diamond business while also offering a wide selection of gold jewelry, gemstone jewelry and watches. Since 2000, the Peoples brand has been building recognition with an aggressive television campaign. Over the past five years, Peoples had the largest television campaign of any Canadian jewelry retailer. Seasonal newspaper inserts are also a key element in the Peoples marketing campaign. Mappins Jewellers differentiates itself by offering exclusive merchandise primarily in its bridal assortments. Mappins utilizes television ads, newspaper inserts and targeted direct mail offers to reach its customers.

Zales Outlet

We operated Zales Outlet with stores in 36 states and Puerto Rico, sales from which accounted for approximately nine percent of our total revenues in fiscal year 2008. The average store size is 2,374 square feet, with an average transaction of $437 in fiscal year 2008.

The outlet concept has evolved into three differentiated formats: power strip centers, traditional outlet malls and destination centers. Our stores feature items in every major jewelry category including branded watches, gemstones, gold merchandise, and diamond fashion and solitaire products. The merchandise assortment in a typical Zales Outlet store caters to the higher-income female self purchaser, offering 20 to 70 percent off traditional retail prices every day. We have grown our Zales Outlet concept over the past ten years from four stores in 1998 to the 143 stores in operation at the end of fiscal year 2008.

Although Zales Outlet was established as an extension of the Zales brand and capitalizes on Zales' national advertising and brand recognition, Zales Outlet offers its own unique product assortments and augments this with promotional efforts that are geared specifically to the outlet consumer and consistent with the "off-mall" location.

Kiosk Jewelry

The Kiosk Jewelry segment operates under the brand names Piercing Pagoda®, Plumb Gold™, and Silver and Gold Connection® (collectively, "Piercing Pagoda") through mall-based kiosks, and reaches the opening price point jewelry customer. At July 31, 2008, Piercing Pagoda operated 739 locations in 42 states and Puerto Rico. The Kiosk Jewelry segment specializes in gold and silver products, including entry level diamond merchandise, that capitalizes on the latest fashion trends.

At the entry-level price point, the Kiosk Jewelry segment targets a young, fashion forward customer. The Kiosk segment offers an extensive collection of bracelets, earrings, charms, rings, and 14 karat and 10 karat gold chains, as well as a selection of silver and diamond jewelry, all in basic styles at moderate prices. In addition, trained associates perform ear-piercing services on site.

Kiosks are generally located in high traffic areas that are easily accessible and visible within regional shopping malls. The kiosk locations average 188 square feet in size, with an average transaction of $40 in fiscal year 2008.

All Other

We provide insurance and reinsurance facilities for various types of insurance coverage, which typically are marketed to our private label credit card customers, through Zale Indemnity Company, Zale Life Insurance Company and Jewel Re-Insurance Ltd. The three companies are the insurers (either through direct written or reinsurance contracts) of our customer credit insurance coverage. In addition to providing merchandise replacement coverage for certain perils, credit insurance coverage provides protection to the creditor and cardholder for losses associated with the disability, involuntary unemployment, leave of absence or death of the cardholder. Zale Life Insurance Company also provides group life insurance coverage for our eligible employees. Zale Indemnity Company, in addition to writing direct credit insurance contracts, has certain discontinued lines of insurance that it continues to service. Credit insurance operations are dependent on our retail sales through our private label credit cards. In fiscal year 2008, approximately 36 percent of our private label credit card purchasers purchased some form of credit insurance. Under the current private label arrangement with Citibank U.S.A., N.A. ("Citi"), our insurance affiliates continue to provide insurance to holders of our private label credit cards and receive payments for such insurance products. In fiscal year 2008, the All Other segment accounted for less than one percent of our total revenues.

Bailey Banks & Biddle Disposition

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand. The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively. The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $14 million. The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.

Industry and Competition

Jewelry retailing is highly fragmented and competitive. We compete with a large number of independent regional and local jewelry retailers, as well as with other national jewelry chains. We also compete with other types of retailers who sell jewelry and gift items such as department stores, discounters, direct mail suppliers, online retailers and television home shopping programs. Certain of our competitors are non-specialty retailers, which are larger and have greater financial resources than we do. The malls where most of our stores are located typically contain competing national chains, independent jewelry stores and/or department store jewelry departments. We believe that we also are competing for consumers' discretionary spending dollars and, therefore, compete with retailers who offer merchandise other than jewelry or giftware. Therefore, we compete primarily on the basis of our reputation for high quality products, brand recognition, store location, distinctive and value-oriented merchandise, personalized customer service and ability to offer private label credit card programs to customers wishing to finance their purchases. Our success also is dependent on our ability to both create and react to customer demand for specific merchandise categories.

The U.S. and Canadian retail jewelry industry accounted for approximately $67 billion of sales in 2007, according to publicly available data. We have a three percent market share in the combined U.S. and Canadian markets. The largest jewelry retailer in the combined U.S. and Canadian markets is believed to be Wal-Mart Stores, Inc. Other significant segments of the fine jewelry industry include national chain department stores (such as J.C. Penney Company, Inc.), mass merchant discount stores (such as Wal-Mart Stores, Inc.), other general merchandise stores and apparel and accessory stores. The remainder of the retail jewelry industry is comprised primarily of catalog and mail order houses, direct-selling establishments, TV shopping networks (such as QVC, Inc.) and online jewelers.

We hold no material patents, licenses, franchises or concessions; however, our established trademarks and trade names are essential to maintaining our competitive position in the retail jewelry industry.

(a)
Peoples (including Mappins) reflects all revenue from Canadian operations, which constitutes all our foreign operations. Long-lived assets from foreign operations totaled approximately $47.0 million, $37.5 million, and $29.3 million at July 31, 2008, 2007 and 2006, respectively.

(b)
In fiscal year 2007, all Peoples II kiosks were closed.

(c)
Based on merchandise sales for locations open a full 12 months during the applicable year.

Business Segment Data

Information concerning sales and segment income attributable to each of our business segments is set forth below in Item 6, "Selected Financial Data," in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations," and in the "Notes to Consolidated Financial Statements," all of which are incorporated herein by reference.

Store Operations

Our stores are designed to differentiate our brands, create an attractive environment, make shopping convenient and enjoyable, and maximize operating efficiencies, all of which enhance the customer experience. We focus on store layout, with particular focus on arrangement of display cases, lighting, and choice of materials to optimize merchandise presentation. Promotional displays are changed periodically to provide variety or to reflect seasonal events.

Each of our stores is led by a store manager who is responsible for store-level operations, including overall store sales and personnel matters. Administrative matters, including purchasing, distribution and payroll, are consolidated at the corporate level in an effort to maintain efficiency and low operating costs at the store level. In addition to selling jewelry, watches and gift items, each store also offers standard warranties and return policies, and provides extended warranty coverage that may be purchased at the customer's option. In order to facilitate sales, stores will hold merchandise in layaway, generally requiring a deposit of not less than 20 percent of the purchase price at the inception of the layaway transaction.

We have implemented inventory control systems, extensive security systems and loss prevention procedures to maintain low inventory losses. We screen employment applicants and provide our store personnel with training in loss prevention. Despite such precautions, we experience losses from theft from time to time, and maintain insurance to cover such external losses.

We believe it is important to provide knowledgeable and responsive customer service and we maintain a strong focus on connecting with the customer, both through advertising and in-store communications and service. Our goal is to form and sustain an effective relationship with the customer from the first sale by maintaining a customer connection through client services. We have a centralized customer service call center to effectively address customer phone calls at lower aggregate cost.

We continue to focus on the level and frequency of our employee training programs, particularly with store managers and key sales associates. We provide sales and merchandise product training for all store personnel. In addition, we provide management training for store managers. Under the banner of Zale Corporation University, we offer training to employees at every level of the organization.

Purchasing and Inventory

We purchase the majority of our merchandise in finished form from a network of established suppliers and manufacturers located primarily in the United States, India, Southeast Asia and Italy. In addition, we procure approximately 43 percent of our merchandise from our internal assembly organization and factory direct vendors. All purchasing is done through buying offices at our headquarters. Consignment inventory has historically consisted of test programs, merchandise at higher price points or merchandise that otherwise does not warrant the risk of ownership. Consignment merchandise can be returned to the vendor at any time or converted to owned inventory if it meets certain productivity thresholds. We had $114.3 million and $159.2 million of consignment inventory on hand at July 31, 2008 and 2007, respectively. During fiscal years 2008 and 2007, we purchased approximately 14 percent and 18 percent, respectively, of our finished merchandise from our top five vendors, including four percent from one vendor in 2008. If our supply with these top vendors were disrupted, particularly at certain critical times during the year, our sales could be adversely affected in the short term until alternative supply arrangements could be established. During fiscal year 2008, our direct sourcing organization produced approximately 13 percent of our merchandise requirements.

As a specialty retail jeweler, we could be affected by industry-wide fluctuations in the prices of diamonds, gold, and other metals and stones. The supply and prices of diamonds in the principal world markets are significantly influenced by a single entity, the Diamond Trading Company, which has traditionally controlled the marketing of a substantial majority of the world's supply of diamonds and sells rough diamonds to worldwide diamond cutters at prices determined in its sole discretion. The availability of diamonds to the Diamond Trading Company and our suppliers is to some extent dependent on the political situation in diamond-producing countries and on continuation of prevailing supply and marketing arrangements for raw diamonds. Until alternate sources are developed, any sustained interruption in the supply of diamonds could adversely affect us and the retail jewelry industry as a whole. The inverse is true with respect to any oversupply from diamond-producing countries, which could cause diamond prices to fall.

Proprietary Credit

Our private label credit card program helps facilitate the sale of merchandise to customers who wish to finance their purchases rather than use cash or other payment sources. We offer revolving and interest free credit programs under our private label credit card program. Approximately 41 percent and 40 percent of our U.S. total sales excluding Piercing Pagoda, which does not offer proprietary credit, were generated by proprietary credit cards in fiscal years 2008 and 2007, respectively. Our Canadian propriety credit card sales represented approximately 24 percent and 25 percent of Canadian total sales for fiscal years 2008 and 2007, respectively.

In fiscal year 2008, we continued our proprietary credit offerings of same-as-cash, revolving and interest free programs, all of which allowed our sales personnel to provide the customer additional financing options.

In July 2000, we entered into a 10-year agreement with Citi whereby Citi issues private label credit cards branded with appropriate trademarks, and provides financing for our customers to purchase merchandise in exchange for payment by us of a merchant fee based on a percentage of each credit card sale. The merchant fee varies according to the credit plan that is chosen by the customer (i.e., revolving, interest free, same-as-cash).

Employees

As of July 31, 2008, we had approximately 15,500 employees, approximately 12 percent of whom were Canadian employees and less than one percent of whom were represented by unions. Additionally, we usually hire temporary employees during each Holiday season.

Seasonality

As a specialty retailer of fine jewelry, our business is seasonal in nature, with our second quarter, which includes the months of November through January, typically generating a proportionally greater percentage of annual sales, earnings from operations and cash flow than the other three quarters. Other important periods include Valentine's Day and Mother's Day. We expect such seasonality to continue.

Information Technology

Our technology systems provide information necessary for (i) store operations; (ii) sales and margin management; (iii) inventory control; (iv) profitability monitoring by many measures (merchandise category, buyer, store); (v) customer care; (vi) expense control programs; and (vii) overall management decision support. Significant data processing systems include point-of-sale reporting, purchase order management, replenishment, warehouse management, merchandise planning and control, payroll, general ledger, sales audit, and accounts payable. Bar code ticketing and scanning are used at all point-of-sale terminals to ensure accurate sales and margin data compilation and to provide for inventory control monitoring. Information is made available online to merchandising staff on a timely basis, thereby increasing the merchants' ability to be responsive to changes in customer behavior. We are also improving the connectivity between stores and our corporate headquarters to enhance operating efficiencies and speed of transmission.

Our information technology systems and processes allow management to monitor, review and control operational performance on a daily, monthly, quarterly and annual basis for each store and each transaction. Senior management can review and analyze activity by store, amount of sale, terms of sale or employees who sell the merchandise.

We have a data center operations services agreement with a third party for the management of our mainframe processing operations, client server systems, Local Area Network operations, Wide Area Network management and e-commerce hosting. The agreement began in 2005 and requires fixed payments totaling $30.0 million over an 84-month period plus a variable amount based on usage, and extends through 2012. We believe that by outsourcing our data center operations, we are focusing our resources on developing and enhancing the strategic initiatives discussed in the Business section.

We have historically upgraded, and expect to continue to upgrade, our information systems to improve operations and support future growth. We estimate we will make capital expenditures of approximately $5 million in fiscal year 2009 for enhancements to our information systems and infrastructure.

Regulation

Our operations are affected by numerous federal and state laws that impose disclosure and other requirements upon the origination, servicing and enforcement of credit accounts and limitations on the maximum amount of finance charges that may be charged by a credit provider. In addition to our private label credit cards, credit to our customers is provided primarily through bank cards such as Visa®, MasterCard®, and Discover®. Any change in the regulation of credit which would materially limit the availability of credit to our traditional customer base could adversely affect our results of operations or financial condition.

We are subject to the jurisdiction of various state and other taxing authorities. From time to time, these taxing authorities conduct reviews or audits of the Company.

The sale of insurance products is also highly regulated. State laws currently impose disclosure obligations with respect to our sale of credit and other insurance. In addition, our sale of insurance products in connection with our private label credit cards appears to be subject to certain disclosure and other requirements under the Gramm-Leach-Bliley Act of 1999. Our practices are also subject to review in the ordinary course of business by the Federal Trade Commission and our credit cards are subject to regulation by state and federal banking regulators. We believe that we are currently in material compliance with all applicable state and federal regulations.

Merchandise in the retail jewelry industry is frequently sold at a discount off the "regular" or "original" price. We are subject to federal and state regulations requiring retailers offering merchandise at promotional prices to offer the merchandise at regular or original prices for stated periods of time. Additionally, we are subject to certain truth-in-advertising and various other laws, including consumer protection regulations that regulate retailers generally and/or the promotion and sale of jewelry in particular. We monitor changes in those laws and believe that we are in material compliance with applicable laws with respect to such practices.

Available Information

We provide links to our filings with the Securities and Exchange Commission ("SEC") and to the SEC filings (Forms 3, 4 and 5) of our directors and executive officers under Section 16 of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), free of charge, on our website at www.zalecorp.com , under the heading "SEC Filings" in the "Shareholder Information" section. These links are automatically updated, so the filings are available immediately after they are made publicly available by the SEC. These filings also are available through the SEC's EDGAR system at www.sec.gov.

Our certificate of incorporation and bylaws as well as the charters for the compensation, audit, nominating and corporate governance committees of our Board of Directors and the corporate governance guidelines are available on our website at www.zalecorp.com , under the heading "Corporate and Social Responsibility."

We have a Code of Business Conduct and Ethics (the "Code"). All of our directors, executive officers and employees are subject to the Code. The Code is available on our web site at www.zalecorp.com , under the heading "Corporate and Social Responsibility—Code of Business Conduct and Ethics." Waivers of the Code, if any, for directors and executive officers will be disclosed in a SEC filing on Form 8-K.

CEO BACKGROUND

J. Glen Adams, Age 69.

Mr. Adams has served as a director of the Company since July 21, 1993. From August 1990 to August 1996, Mr. Adams served as Chairman, President and Chief Executive Officer of Southmark Corporation, a real estate financing and syndication firm in Dallas, Texas. From 1986 to 1989, he served as Chairman, President and Chief Executive Officer of The Great Western Sugar Company.

Yuval Braverman, Age 52.

Mr. Braverman has served as a director of the Company since June 19, 2008. Since 1981 Mr. Braverman has been the president of J & J Zaidman Inc., a wholesaler of diamonds and other precious stones.

Richard C. Breeden, Age 58.

Mr. Breeden has served as a director of the Company since January 17, 2008. Mr. Breeden is the Chairman and Chief Executive Officer of Breeden Capital Management, LLC, the manager of a series of affiliated investment funds. Since 1996 he has also been Chairman of Richard C. Breeden & Co., LLC a professional services firm specializing in strategic consulting, financial restructuring and corporate governance advisory services. Mr. Breeden currently serves as the non-executive Chairman of the Board of H&R Block, Inc., and also as a director of Banco Bilbao Vizcaya Argentaria, S.A. and Steris Corporation. Mr. Breeden served as Chairman of the United States Securities & Exchange Commission from 1989-1993.

James M. Cotter, Age 66.

Mr. Cotter has served as a director of the Company since January 17, 2008. Mr. Cotter is a founding partner of Breeden Capital Management and is a Senior Managing Director of Richard C. Breeden & Co. Prior to joining Richard C. Breeden & Co. in 2005, Mr. Cotter was a senior partner and Vice Chairman of the law firm Simpson Thacher & Bartlett LLP. Mr. Cotter joined Simpson Thacher in 1971 and became a partner in 1975.

Neal Goldberg, Age 49.

Mr. Goldberg has served as a director of the Company and as Chief Executive Officer of the Company since December 20, 2007. Mr. Goldberg also served as President of the Company from December 20, 2007 to August 4, 2008. From January 2004 until December 2007, Mr. Goldberg was the President of The Children's Place Retail Stores, Inc., a leading specialty retailer of children's merchandise marketed under "The Children's Place" and "Disney Store" brands. From April 10, 2005 until December 8, 2006, he also was an Executive Vice President of Hoop Holdings, LLC, a subsidiary of The Children's Place Retail Stores, Inc., which in March 2008, subsequent to Mr. Goldberg's ending his affiliation, filed a bankruptcy petition. From September 2001 to October 2003 he was the President of The Gap Inc.'s Outlet Division, a distributor of clothing.

John B. Lowe, Jr., Age 69.

Mr. Lowe became Chairman of the Board of Directors on August 29, 2007, and has served as a director of the Company since March 5, 2004. Mr. Lowe served as Chairman and Chief Executive Officer of TDIndustries, a national mechanical/electrical/plu mbing construction and facility service company from 1980 until January 1, 2005. He continues to serve as Chairman of TDIndustries. Mr. Lowe serves as the President of the Board of Trustees for the Dallas Independent School District. He is a director of Drew Industries Incorporated.

Thomas C. Shull, Age 56.

Mr. Shull has served as a director of the Company since August 26, 2004. Mr. Shull has served as Chief Executive Officer of Meridian Ventures, LLC, a venture management and turnaround firm, since its inception in December 1990. Mr. Shull served as Chairman of the Board of Directors of Wise Foods, Inc. from March 2005 through February 2008. He served as President and Chief Executive Officer of Wise Foods, Inc. from September 2004 to December 2006. Mr. Shull served as President and Chief Executive Officer and as a director of Hanover Direct, Inc., a retailer of branded merchandise through catalogs and e-commerce, from December 2000 through May 2004, where from January 2002 through May 2004, Mr. Shull also served as Chairman of the Board of Directors. From August 1997 to May 1998, he served as President of Barneys New York, a leading luxury retailer, and from May 1998 to May 1999 he served as President and Chief Executive Officer of Barneys New York.

Charles M. Sonsteby, Age 54.

Mr. Sonsteby has served as a director of the Company since November 15, 2006. Mr. Sonsteby is currently the Executive Vice President and Chief Financial Officer of Brinker International, a multi-billion dollar restaurant company. Mr. Sonsteby joined Brinker International in 1990 and served in various capacities until his promotion to Senior Vice President of Finance in 1997, a position he held until 2001, when he was elected to his current position. Earlier in his career, Mr. Sonsteby worked in the accounting and finance departments of WNS, Inc., Kwik Kopy Corp., Lifemark Corp., and Jerrico, Inc.

David M. Szymanski, Age 51.

Dr. Szymanski has served as a director of the Company since January 15, 2004. Dr. Szymanski is a member of the marketing department faculty of Texas A&M University where he served as the Director of the Center for Retailing Studies from July 2000 through April 2006. Dr. Szymanski has held senior positions at the University since 1987. Dr. Szymanski is presently a director of OfficeMax, Inc.

MANAGEMENT DISCUSSION FROM LATEST 10K

Overview

We are a leading specialty retailer of fine jewelry in North America. At July 31, 2008, we operated 1,396 fine jewelry stores and 739 kiosk locations primarily in shopping malls throughout the United States of America, Canada and Puerto Rico. Our operations are divided into three business segments: Fine Jewelry, Kiosk Jewelry and All Other.

The Fine Jewelry segment focuses on diamond product, but differentiates its five brands through merchandise assortments and marketing. The Kiosk Jewelry segment reaches the opening price point of fine jewelry customers primarily through mall-based kiosks in the United States of America operating primarily under the name Piercing Pagoda®. The All Other segment consists primarily of our insurance operations, which provide insurance and reinsurance facilities for various types of insurance coverage offered primarily to our private label credit card customers.

Despite a disappointing Holiday season, we were pleased with the progress made during the last half of fiscal year 2008 towards our three key initiatives, which include (1) focusing on our core customer by providing clarity and value through improved merchandise quality and in-store presentation and an improved marketing message, (2) enhancing our operational effectiveness to ensure that our people and processes are aligned and focused on providing outstanding products and customer service and (3) maintaining financial discipline with a continued focus on free cash flow generation and prudent use of capital. A critical initial step in improving our merchandise quality is the reduction of $100 million in excess inventory. During the third quarter we began an aggressive clearance program that helped drive an increase in traffic resulting in comparable store sales of approximately 6 percent over the last half of fiscal 2008. We achieved our objective of permanently liquidating approximately $100 million in excess inventory and exceeded our $120 million estimate of total merchandise clearance by $7 million. The increase in comparable store sales demonstrates our ability to drive traffic into our stores and re-establish a relationship with our value-oriented customer. During fiscal 2008, we also identified an estimated $65 million plus in on-going annualized savings, consisting primarily of a reduction in overhead costs, and we reduced our estimated capital spending from $85 million in fiscal 2008 to approximately $45 million in fiscal 2009. We also have added key executives with significant retail experience that are focused on developing and executing our strategy.

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand. The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively. The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $14 million. The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.

During fiscal 2008, the Board of Directors authorized share repurchases of $350 million. As part of the stock repurchase program, we entered into an accelerated share repurchase agreement ("ASR") for $100 million and four Rule 10b5-1 plans (the "10b5-1 Plans"). In November 2007, the counterparty under the ASR delivered 4.3 million shares to us. In April 2008, an additional 1.6 million shares were delivered upon final settlement of the ASR. We also repurchased $226.7 million, or 11.7 million shares, of our common stock under the 10b5-1 Plans and through open market purchases. A total of 17.6 million shares were repurchased during fiscal 2008 at an average price of $18.59. As of July 31, 2008, we were authorized to repurchase an additional $23.3 million under our stock repurchase program.

Comparable store sales include internet sales and exclude revenue recognized from warranties and insurance premiums related to credit insurance policies sold to customers who purchase merchandise under our proprietary credit program. The sales results of new stores are included beginning their thirteenth full month of operation. The results of stores that have been relocated, renovated or refurbished are included in the calculation of comparable store sales on the same basis as other stores. However, stores closed for more than 90 days due to unforeseen events (hurricanes, etc.) are excluded from the calculation of comparable store sales.

From time to time, we include non-GAAP measurements of financial information in Management's Discussion and Analysis of Financial Condition and Results of Operations. We use these measurements as part of our evaluation of the performance of the Company. In addition, we believe these measures provide useful information to investors, particularly in evaluating the performance of the Company in the current fiscal year as compared to prior periods.

Results of Operations

The following table sets forth certain financial information from our audited consolidated statements of operations expressed as a percentage of revenues and should be read in conjunction with our consolidated financial statements and notes thereto included elsewhere in this Form 10-K.

Year Ended July 31, 2008 Compared to Year Ended July 31, 2007

Revenues. Revenues for fiscal year 2008 were $2,138.0 million, a decrease of 0.7 percent compared to revenues of $2,152.8 million for the same period in the prior fiscal year. Comparable store sales decreased 0.7 percent as compared to the same period in the prior year. The decrease in comparable store sales was driven by a 1.5 percent decrease in the number of customer transactions, partially offset by an increase in the average transaction price. The decline in the number of customer transactions was primarily due to lower than expected Holiday sales resulting in a decrease in comparable store sales of 7.3 percent for the second quarter of fiscal 2008. This decrease was partially offset by an increase in comparable store sales of approximately 6 percent over the last half of fiscal 2008 as a result of our merchandise clearance program that began during the third quarter of fiscal 2008. The decline was also partially the result of a decrease in revenues recognized related to lifetime warranties of $3.6 million. While revenues recognized have decreased, sales related to warranties increased $13.0 million to $120.8 million, compared to the same period in the prior year.

The Fine Jewelry segment contributed $1,876.2 million of revenues in the fiscal year ended July 31, 2008, flat compared to $1,876.6 million for the same period in the prior year.

Revenues include $249.5 million in the Kiosk Jewelry segment compared to $262.6 million in the prior year, representing a decrease of 5.0 percent. The decrease relates primarily to a decline in the number of open stores from 793 to 739 as of July 31, 2007 and 2008, respectively.

The All Other segment contributed $12.4 million in revenues for the fiscal year ended July 31, 2008 as compared to $13.6 million for the same period in the prior year, representing a decrease of 8.8 percent.

During the fiscal year ended July 31, 2008, we opened 43 stores in the Fine Jewelry segment and 4 kiosks in the Kiosk Jewelry segment. In addition, we closed 48 stores in the Fine Jewelry segment and 58 locations in the Kiosk Jewelry segment.

Cost of Sales. Cost of sales includes cost of merchandise sold, as well as receiving and distribution costs. Cost of sales as a percentage of revenues was 51.0 percent for the year ended July 31, 2008, compared to 47.8 percent for the same period in the prior year. The increase is primarily due to an aggressive merchandise clearance program that began during the third quarter of fiscal 2008, a 75 basis point charge resulting from the decision to liquidate certain discontinued and damaged inventory and a decline in revenues recognized associated with lifetime warranties.

Our LIFO inventory charges were $2.4 million and $5.8 million for the fiscal years ended July 31, 2008 and 2007, respectively. The decrease is primarily related to the LIFO liquidation resulting from the sale of Bailey Banks & Biddle during the second quarter of fiscal 2008.

Selling, General and Administrative. Included in selling, general and administrative ("SG&A") are store operating, advertising, buying and general corporate overhead expenses. SG&A was 45.4 percent of revenues for the year ended July 31, 2008, compared to 45.0 percent for the same period in the prior year. The increase primarily relates to a 60 basis point increase in occupancy costs, a decrease in sales leverage, the 10 basis point impact of the decline in revenues recognized associated with lifetime warranties and a 10 basis point charge associated with severance-related costs. The increase was partially offset by a 50 basis point benefit related to a change in our vacation policy and by a 40 basis point decrease in costs related to our expense reduction initiative.

Depreciation and Amortization. Depreciation and amortization as a percent of revenues for the year ended July 31, 2008 and 2007 was 2.8 percent and 2.6 percent, respectively. The increase relates primarily to new store openings, remodel investments and a decrease in sales leverage, partially offset by store closures.

Derivative Loss. During the year ended July 31, 2007, we recognized a derivative loss of $7.2 million. There were no outstanding forward contracts during the year ended July 31, 2008.

Interest Expense. Interest expense as a percent of revenues for the year ended July 31, 2008 and 2007 was 0.6 percent and 0.9 percent, respectively. The decrease in interest expense was a result of a decrease in the weighted average effective interest rate from 6.6 percent last year to 5.1 percent this year and a decrease in average borrowings compared to the same period in the prior year.

Other Income. During the year ended July 31, 2008, we sold our interest in a diamond known as the "Incomparable Diamond" and recognized a gain of $3.5 million.

Income Tax Benefit (Expense). The effective tax rate was a benefit of 29.6 percent for the year ended July 31, 2008 and an expense of 27.0 percent for the year ended July 31, 2007. The tax benefit in fiscal year 2008 was primarily the result of operating losses generated in our U.S. subsidiary that are taxed at a higher rate than the operating earnings generated in our Canadian subsidiaries. The tax expense in fiscal year 2007 includes a tax benefit of $8.5 million associated with our decision to indefinitely reinvest certain undistributed foreign earnings outside the U.S. in accordance with Accounting Principles Board No. 23, "Accounting for Income Taxes-Special Areas," ("APB 23") which resulted in the release of the deferred tax liability associated with these undistributed earnings.

Year Ended July 31, 2007 Compared to Year Ended July 31, 2006

Revenues. Revenues for fiscal year 2007 were $2,152.8 million, a decrease of 0.1 percent compared to revenues of $2,154.0 million for the same period in the prior fiscal year. Comparable store sales increased 0.5 percent as compared to the same period in the prior year. The increase in comparable store sales was driven by an increase in the average transaction price, partially offset by a 3.5 percent decrease in the number of customer transactions primarily as a result of lower Holiday sales. The increase in comparable store sales was offset as a result of a decrease in revenues recognized related to lifetime warranties of $26.0 million. While revenues recognized have decreased, sales related to warranties have increased $33.2 million to $107.8 million, compared to the same period in the prior year.

The Fine Jewelry segment contributed $1,876.6 million of revenues in the fiscal year ended July 31, 2007, compared to $1,864.2 million for the same period in the prior year, which represents an increase of 0.7 percent compared to the same period in the prior year.

Revenues include $262.6 million in the Kiosk Jewelry segment compared to $276.6 million in the prior year, representing a decrease of 5.1 percent.

The All Other segment operations contributed $13.6 million in revenues for the fiscal year ended July 31, 2007 and $13.1 million for the same period in the prior year, representing an increase of 3.3 percent.

During the fiscal year ended July 31, 2007, we opened 49 stores in the Fine Jewelry segment and 14 kiosks in the Kiosk Jewelry segment. In addition, we closed 31 stores in the Fine Jewelry segment and 114 locations, primarily 76 Peoples II carts, in the Kiosk Jewelry segment.

Cost of Sales. Cost of sales includes cost of merchandise sold, as well as receiving and distribution costs. Cost of sales as a percentage of revenues was 47.8 percent for the year ended July 31, 2007, compared to 48.5 percent for the same period in the prior year. The decrease relates primarily to the 90 basis point impact of the special charge recorded in fiscal year 2006 intended to accelerate the clearance of discontinued merchandise. The decrease also relates to our continued focus on direct sourcing of product and finished goods across the Company and enhanced markdown control during the last half of fiscal year 2007. The decreases were partially offset by the 50 basis point impact related to the decline in revenue recognized associated with warranties.

Our LIFO inventory charge was $5.8 million and $4.2 million for the fiscal years ended July 31, 2007 and 2006, respectively.

Selling, General and Administrative. Included in SG&A are store operating, advertising, buying and general corporate overhead expenses. SG&A was flat at 45.0 percent of revenues for the year ended July 31, 2007, compared to the same period in the prior year. The fiscal year 2006 expense includes executive severance of 60 basis points and asset impairments of 50 basis points. These costs were offset by the 60 basis point decline in revenue recognized associated with warranties and a 60 basis point increase in labor costs as a result of investments in payroll.

Depreciation and Amortization. Depreciation and amortization as a percent of revenues for the year ended July 31, 2007 and 2006 was 2.6 percent and 2.5 percent, respectively.

Derivative Loss. We recognize all derivative instruments measured at fair value, as either assets or liabilities in the accompanying consolidated balance sheets. Any changes in the fair value of derivative instruments are reported in derivative loss in the consolidated statements of operations. The fair market value of these instruments is subject to the changes in the underlying commodity. During the fiscal year ended July 31, 2007, we recognized a derivative loss in the amount of $7.2 million. The loss on derivatives consisted of an increase in fair value of $1.3 million offset by losses on the settlement of contracts in the amount of $8.5 million.

Interest Expense. Interest expense as a percent of revenues for the year ended July 31, 2007 and 2006 was 0.9 percent and 0.5 percent, respectively. The increase in interest expense was a result of an increase in the weighted average effective interest rate from 5.8 percent in fiscal year 2006 to 6.6 percent in fiscal year 2007 and increased average borrowings during the year.

Income Tax Expense. The effective tax rate for the year ended July 31, 2007 and 2006 was 27.0 percent and 25.3 percent, respectively. In fiscal year 2006, the rate reflects an $11.9 million tax benefit associated with the repatriation of undistributed Canadian earnings under the American Jobs Creation Act and the release of certain tax reserves related to state and local audits. In fiscal year 2007, the rate reflects a tax benefit of $8.5 million associated with our decision to indefinitely reinvest certain undistributed foreign earnings outside the U.S. in accordance with APB 23 which resulted in the release of the deferred tax liability associated with these undistributed earnings.

Liquidity and Capital Resources

Our cash requirements consist primarily of funding ongoing operations, including inventory requirements, capital expenditures for new stores, renovations of existing stores, upgrades to our information technology systems and distribution facilities, share repurchases and debt service.

Net cash provided by operating activities increased from $39.3 million for the year ended July 31, 2007 to $137.3 million for the year ended July 31, 2008. The increase in cash is primarily due to a decrease in purchased inventory of $168.1 million and a $16.6 million increase in net cash received related to deferred revenues for lifetime warranties. The increase was partially offset by $33.2 million of additional payroll payments due to the timing of pay periods and a decrease in earnings.

Net cash provided by operating activities decreased from $53.0 million for the year ended July 31, 2006 to $39.3 million for the year ended July 31, 2007. The decrease is primarily due to an increase in purchased inventory of $32.1 million and a $70.1 million decrease in merchandise payables. The decrease was partially offset by a $59.1 million increase in cash received related to deferred revenues for lifetime warranties and a $22.0 million refund related to fiscal year 2006 income tax overpayments.

Our business is highly seasonal, with a disproportionate amount of sales (approximately 40 percent) and substantially all of our operating income occurring in November and December of each year, the Holiday season. Other important periods include Valentine's Day and Mother's Day. We purchase inventory in anticipation of these periods and, as a result, have higher inventory and inventory financing needs immediately prior to these periods. Our maximum inventory level typically occurs prior to the Holiday season. Owned inventory at July 31, 2008 was $779.6 million, a decrease of $241.6 million compared to inventory levels at July 31, 2007. The decrease in inventory was the result of an aggressive clearance merchandise program that began in the third quarter of fiscal 2008 and the disposition of Bailey Banks & Biddle in November 2007.

Our cash requirements are funded through cash flows from operations, funds available under our revolving credit facilities and vendor payment terms. Under our U.S. and Canadian revolving credit facilities we may borrow up to $500 million and CAD $30 million, respectively. In general, borrowings under the U.S. facility are capped at 73 percent of inventory during October through December and 69 percent for the remainder of the year, plus 85 percent of credit card receivables. The U.S. facility also provides for increased seasonal borrowing capabilities of up to $100 million and contains an accordion feature that allows us to permanently increase the facility size in $25 million increments up to another $100 million. Vendor purchase order terms typically require payment within 60 days.

As of July 31, 2008, we had cash and cash equivalents of $65.6 million and had approximately $160 million available under our revolving credit facilities. We believe that we have sufficient capacity under our revolving credit facilities to meet our foreseeable financing needs.

During fiscal 2008, we liquidated approximately $127 million in excess inventory, including a $100 million permanent reduction. We have also identified an estimated $65 million plus in on-going annualized savings, consisting primarily of a reduction in overhead costs, and we reduced our estimated capital spending from $85 million in fiscal 2008 to approximately $45 million in fiscal 2009.

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand. The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively. The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $14 million. The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.

During fiscal 2008, the Board of Directors authorized share repurchases of $350 million. As part of the stock repurchase program, we entered into an ASR for $100 million and four Rule 10b5-1 Plans. In November 2007, the counterparty under the ASR delivered 4.3 million shares to us. In April 2008, an additional 1.6 million shares were delivered upon final settlement of the ASR. We also repurchased $226.7 million, or 11.7 million shares, of our common stock under the 10b5-1 Plans and through open market purchases. A total of 17.6 million shares were repurchased during fiscal 2008 at an average price of $18.59. As of July 31, 2008, we were authorized to repurchase an additional $23.3 million under our stock repurchase program.

During the fourth quarter of fiscal year 2007, we made the decision to indefinitely reinvest certain of our undistributed foreign earnings outside the U.S. As a result of this decision, and in accordance with APB 23, we released $8.5 million of deferred tax liabilities associated with the undistributed foreign earnings. We estimate that this decision will result in an annual benefit of $2 million to $4 million.

Capital Growth

During fiscal 2008, we invested approximately $18.9 million in capital expenditures to open 43 new stores in the Fine Jewelry segment and four new kiosks in the Kiosk Jewelry segment. We invested approximately $43.6 million to remodel, relocate and refurbish 112 stores in our Fine Jewelry segment, 28 stores in our Kiosk Jewelry segment, and to complete store enhancement projects. We also invested $22.6 million in infrastructure, primarily related to our information technology and distribution centers. We anticipate investing approximately $45 million in capital expenditures in fiscal year 2009, targeting 17 new stores, primarily in the Peoples and Outlet brands, with approximately $10 million in capital investments related to information technology infrastructure and support operations.

CONF CALL

David Sternblitz

Good morning and thank you for joining us for our first quarter 2009 conference call. I am David Sternblitz, Vice President and Treasurer of Zales Corporation. With me on the call today are Neal Goldberg, Chief Executive Officer; Rodney Carter, Executive Vice President, Chief Administrative and Chief Financial Officer; Theo Killion, President; Gil Hollander, Executive Vice President and Chief Sourcing and Supply Chain Officer and Cindy Gordon, Senior Vice President, Corporate Controller.

Before we begin, I'd like to review the Safe Harbor. Our commentary and responses to your questions on this conference call will contain forward-looking statements including statements relating to our future goals, plans and objectives.

These forward-looking statements are not guarantees of future performance and a variety of factors could cause our actual results to differ materially from the anticipated or expected results expressed in these forward-looking statements.

Information concerning some of the factors that could cause actual results to differ materially from those contained in the forward-looking statements is available in our Annual Report on Form 10K for the year ended July 31, 2008.

In addition we may present non-GAAP financial information on this call. For a reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure, please refer to today's earnings release which can be found on our corporate website www.zalecorp.com under Financial Information and then News Releases.

I would now like to turn the call over to Neal.

Neal Goldberg

Thank you very much David. Today I’d like to review our first quarter results, discuss progress we have made against our initiatives which resonate now more than ever given the environment and finally I would conclude with our plans to execute holiday.

For the quarter comp store sales were down 3.7%. Performance weakened as we moved through the quarter with October comps down over 9%. Q1 EPS adjusted for total margin sales was a loss of $1.33. While the trends in our U.S. mall stores were challenging, several of our businesses continued to do well including Piercing Pagoda, E-Commerce and Canada.

Though the national economic environment is challenging, we have continued to deliver strong performance on both store operations and cost control. The disciplines we began last year are more important than ever. Focusing on our value oriented customer with a price appropriate assortment, operational efficiency in our supply chain and stores and most importantly in this climate the financial rigor of aggressively managing our cash and cash expenditures positions us well for the current environment.

While we are disappointed that we have yet to realize the full contribution of these initiatives we are even more confident now these actions are right for today as well as tomorrow. Allow me to briefly review actions we have taken and their significance in the current environment.

To re-engage our core customer, our first actions were perhaps the most obvious; recognizing an improved customer experience through better merchandise presentation and selection was essential to our success in fiscal 2008 and beyond. The first step was our aggressive clearance program. We liquidated a total of $174 million in excess merchandise including $47 million in Q1. $100 million of this liquidation was a permanent reduction. This inventory decrease along with a 40% SKU reduction allows us to make a clear statement in our cases, establishing the product as the hero.

To improve the customer experience we re-designed our case elements, adding color to capture the look and feel of the season and reduced in-store signage to streamline and focus our message. Additionally, the success of the clearance strategy not only helped clear the cases of clutter in order to highlight the good, better, best differentiation, but allowed us to reposition the assortment by injecting fresh, distinctive merchandising. On average over 30% of the store assortment will be new, significantly higher than prior years.

Of the 2000 new items the bulk of the investment is in our core diamond business including the national launch of our celebration diamond. There were additional investments in diamond fashion categories and in a narrower assortment of fresh fashion product including exclusives such as Hello Kitty. The results of the new products are encouraging in terms of sales, gross margin and inventory turns. While it is still early we are excited about the initial response especially since the average ticket primarily influenced by our celebration diamonds is approximately 50% higher or over $600. We believe the new investment differentiates us against the competition and better positions us with the value customer.

Our pace setter program of 135 stores helped us to channel our focus. Using the pay setters as laboratories for the rest of the chain we can continue to refine the customer experience. The pay setter program has been fully operational since the month of October and has out performed the rest of the fleet by approximately 6 percentage points. Importantly, the average gross margin contribution is nearly 200 basis points better than the comparable non-pay setter group. Average ticket for the pay setter was strong, showing early signs of the impact of our new inventory investment.

We believe the actions we took to improve the customer experience highlights our differentiation and make it easier for our customers to shop our stores. There will be a customer out there shopping this holiday. The research continues to show that the majority of women would prefer jewelry as the one special gift. We want our fair share of the market, whatever that may be.

Our second key objective is to enhance our operational effectiveness. The elimination of branch silos and numerous redundancies have resulted in a more nimble, quick and agile company. We have reduced our vendor base by 2/3 and will continue to partner with vendors who are focused on best quality, best cost and best delivery.

Additionally, we have spoken about the company’s need to be more planful. To that end, the company has improved communication to and from our stores, integrated calendar involving merchandising, source and marketing that adds process to the entire produce life cycle from concept to store delivery. This has resulted in more timely orders, better quality and improved pricing.

Additionally, we have improved merchandise flow and replenishment as well as improved field coordination and logistics. We are aggressively looking for efficiencies in the business in order to ensure a stronger, leaner organization focused on our core customer. Looking ahead we have a laser-like focus on executing for the holidays. In this environment every customer interaction is critical. We have a seasoned, outstanding store organization and I feel confident in our preparation for this crucial selling season.

We have reduced and diversified our marketing spend while simultaneously coming through to our core customer. We will emphasize the great value and great quality we have been offering to our customers since 1924 as the most trusted name in diamonds. Our message will communicate this trust and that we have returned back to our roots and we offer a compelling assortment at tremendous value and quality.

Our third key objective we have been speaking about is maintaining financial rigor and discipline. We have a strong financial position. We liquidated $174 million in excess inventory. We believe there are significant opportunities to go beyond the $100 million permanent reduction already achieved and we are aggressively pursuing this reduction. We have identified an additional $10 million in expense savings bringing the total program to $75 million plus and we will be relentless in looking for additional opportunities. While we have previously announced almost 50% reduction in capital expenditures for fiscal 2009 to $45 million we now intend to reduce capEx by approximately another $15 million. We will keep these tight control on expenses and inventory levels while continuing to maximize free cash flow and enhance our liquidity position.

Most importantly we are well positioned to generate cash flow even in difficult market conditions. With current sales trends we remain confident that we will still generate not less than $50 million in free cash flow for fiscal year 2009. Our strong liquidity and balance sheet allow us not only to navigate the current environment but to preserve the financial flexibility to take advantage of strategic opportunities in gaining market share.

As we stated in our press release today the weak trends in October have continued into November. We recognize that this holiday season will be one of the most challenging in decades. We have taken prudent steps to plan the business accordingly. What will not change is the extreme focus on our key objectives of re-engaging our core customer, enhancing operational effectiveness and maintaining financial rigor and discipline. Through the execution of these initiatives we have brought newness, clarity and excitement to the customer experience. This combined with our financial strength will enable us to emerge from the current environment in an even stronger competitive position.

Now I’d like to ask Rodney to review the first quarter performance and provide further financial details. Rodney?

Rodney Carter

Thanks Dale and good morning everyone. My comments will relate primarily to the financial results of the first quarter and then our financial positioning going forward.

Comp stores sales decreased 3.7%. Total revenues for the first quarter were $364 million compared to $377 million for the prior year, a decrease of 3.5%. The average transaction increased approximately 2% compared to last year. The reported revenue reflects $1.9 million increase in the recognized warranty revenues. These increases should continue as product accounting normalizes over the next 3-4 years and revenues recognized more closely reflect actual warranty sales.

Total sales of warranty products were $21 million in the first quarter 2009 compared to $24 million in 2008. The attachment rate was slightly down at 55% compared to 58%.

The net change in unrecognized revenues was $5.4 million compared to $14 million last year. This includes a $3.8 million reduction to prior year’s unrecognized Canadian revenues reflected at a lower exchange rate. The net change in unrecognized revenues represents both the incremental cash and the positive impact from future earnings. Gross margin for the quarter was 48.5% of sales versus 52.5% last year, a reduction of 400 basis points.

This decrease reflects the continuation of our clearance strategy through September. During the quarter we liquidated $47 million in excess inventory. We believe the success of our clearance strategy has better prepared us to maintain appropriate liquidity, enabled us to make a cleaner statement in our cases and allowed us to reposition the assortment by injecting a significant amount of newness.

Merchandise inventory on October 21, 2008 was $985 million versus $1 billion last year due to holiday merchandise receipts we brought in earlier this year. We are focused on maintaining $100 million reduction we achieved at the end of fiscal 2008 and are committed to further significant permanent reductions.

A more normalized comparison is anticipated at the end of the second quarter. Inventory turnover on a rolling 12-month basis was higher at 1.22 times this year versus 1.12 times last year.

SG&A was approximately $219 million for the first quarter of 2009, essentially flat compared to the prior year. As a percent of sales SG&A was 60.2% for the first quarter versus 58.2% last year primarily due to the de-leverage resulting from decline in total revenue.

SG&A included savings of approximately $5.5 million related to the expense reduction initiative announced in February 2008. This brings the to-date savings recognized to $16 million of the identified $65 million plus.

Operating loss for the quarter was $59.3 million compared to $37.5 million last year. The effective tax rate in the quarter was 27.7% versus 36.9% last year. The decrease is due primarily to a higher portion of consolidated earnings being generated in Canada where we have a lower tax rate.

The net loss for the quarter from continuing operations was $45.3 million or $1.43 per share compared to $26.7 million or $0.54 per share last year. The net loss from continuing operations as adjusted for total warranty sales was $1.33 compared to $0.36 for the last year.

The net loss per share this year was negatively impacted compared to prior year by approximately $0.18 due to the tax rate and $0.44 as a result of reduced share count from the stock repurchase program. Both items should have a favorable impact on the year.

We ended the quarter with 1,399 stores and 731 kiosks. We opened six stores. We retrofit approximately 135 stores with LED lighting and other physical improvements. These were done primarily as a result of our previously discussed pace setter initiative.

We closed three stores and eight kiosks. These locations did not provide an opportunity for longer term attractive return on capital. Our ongoing acute focus on financial rigor to enhance liquidity and optimize cash flow is even more critical given the current economic volatility. We have and will continue to manage our expenses, inventory and capital very aggressively. We will aggressively identify areas for operational efficiency and capitalize on the financial disciplines we have put in place.

In February 2008 we announced our operational efficiency program and the plan to generate $65 million plus in annual savings. We have since identified an additional $10 million in expense savings and now plan to generate $75 million plus in annualized savings. We will continue to be aggressive, driving costs out of the business and ensuring a stronger, leader organization.

Inventory control is critical to optimizing liquidity and flexibility. Our inventory liquidation strategy put in place in February 2008 eliminated $174 million in excess inventory. $100 million of which is permanent. This allowed the investment in new items to which customers are responding. We will continue to focus on significantly reducing inventory levels through the balance of fiscal 2009 with a determination to be below prior year levels and thus improve inventory turns.

We initially reduced capital spending in fiscal 2009 by $40 million to $45 million compared to fiscal 2008. We have further reduced fiscal 2009 capital spending by almost $15 million. We will continue to take a very proactive approach to evaluating our entire real estate portfolio and address the under performers regardless of economic environment. We will address individual stores and kiosks on a lease by lease basis.

Over the long term this will raise the performance of the entire portfolio as we close the under performing stores that do not provide an opportunity to generate an attractive return. Our ongoing focus on financial discipline and liquidity encompasses investment opportunities whether capital or operating as well as liabilities whether direct or contingent.

Last year we sold our Bailey Banks & Biddle brand but remained as a contingent obligor on certain leases as is traditional with lease assignments. Our SEC disclosure of this liability is the undiscounted sum of all remaining lease payments and as importantly does not assume any negotiation or mitigation. As with all liabilities we monitor our potential exposure regarding these leases and have the financial flexibility to meet any potential liability should the need arise.

On another topic there has been some inaccurate speculation reported regarding the closing of Piercing Pagoda. We are not shuttering the brand and actually Pagoda has been one of our strongest performers. At October 31, we had borrowings of $369 million under our line of credit, approximately $71 million higher than the prior year primarily due to the acceleration of inventory receipts. We had $39 million in cash at quarter end compared to $31 million last year.

Regarding our revolver, our credit facility is well structured. We renegotiated and extended the facility in advance of the downturn. The result is favorably structured and has maturity in fiscal 2012. This facility essentially has no financial covenants as long as we have inventory as collateral to support the line. Our bank partners are among the leaders in the industry with the facilities led by Bank of America, JP Morgan and Wells Fargo. We have the liquidity to weather the current economic environment both during the holiday and beyond.

In summary, we are committed to continued financial rigor and discipline. Inclusive of the initial reductions identified in areas of inventory management, expense management and capital. This commitment combined with our financial strength and flexibility will position us to take market share in the near term and bring broad shareholder value in the long-term.

As stated in the press release in view of the uncertainties surrounding the national economy and consumer spending the company does not believe its previously issued earnings guidance for 2009 should be relied upon. Sales trends since mid-October show declines in the mid-teens. While we are focused one executing and capturing market share over the holiday period we are also comfortable even in an economic environment that would result in comparable store sales declines in the mid teens we can still generate free cash flow of $50 million for the year ending July 31, 2009.

This free cash flow is generated primarily by operating cash flow, reduced inventory levels, reduced capEx and working capital reductions.

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