Feb 27, 2007
TRANSCRIPT SPONSOR
Executives
Karen M. Hoguet - Chief Financial Officer, Executive Vice President
Analysts
Deborah Weinswig - Citigroup Dana Cohen - Banc of America Securities Stacy Turnof - Merrill Lynch Charles Grom - JP Morgan Adrienne Shapiro - Goldman Sachs Bob Drbul - Lehman Brothers David Glick - Buckingham Research Teresa Donahue - Neuberger Berman Dana Telsey - Telsey Advisory Group Michelle Tan - UBS Michelle Clark - Morgan Stanley Jeff Stein - KeyBanc Capital Markets Rob Wilson - Tiburon Research Group
Presentation
Operator
Good day, everyone, and welcome to today’s Federated Department Stores earnings conference call. As a reminder, today’s conference is being recorded.
Now, for opening remarks and introductions, I would like to turn the conference over to Karen Hoguet. Please go ahead, Madam.
Karen M. Hoguet
Thank you. Good morning, everyone, and welcome to the Federated Department Stores conference call schedule to discuss our fourth quarter earnings.
I am Karen Hoguet, CFO of the company. Any transcription or other reproduction of the statements made in this call without our consent is prohibited.
A replay of the call will be available on our website, www.fds.com, beginning approximately two hours after the call concludes. Please refer to the investor relations section of our website for discussion and reconciliations of any non-GAAP financial measures discussed this morning.
Keep in mind that all forward-looking statements are subject to risks and uncertainties that could cause the company’s actual results to differ materially from the expectations and assumptions mentioned today due to a variety of factors that affect the company, including the risks specified in the company’s most recently filed Form 10-K and Form 10-Q.
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This is an exciting day for the company. To start with, we are very pleased with our financial results for the fourth quarter and for 2006 as a whole.
We are so proud of our organization for exceeding our profit and cash flow expectations even with lower-than-expected sales, and we did this while completing all scheduled components of the May integration without any major complications. We did not produce the sales we had hoped for in the former May doors, but the trend is definitely improving and we feel good about our ability to deliver the expected 2% to 3.5% comp store sales increase in 2007, which as you know includes both the Macy’s and former May company doors.
Because of our confidence in the company’s future, we also announced this morning a $4 billion increase in the authorization for our stock buy-back program. Roughly half of this amount has been completed through an accelerated program, as I will discuss further in a few minutes.
Last but certainly not least, as you saw, we are recommending to our shareholders that they approve at our annual meeting in May the change in the company’s name to Macy’s Group Inc. By changing our corporate name to reflect the huge transformation our company has undergone, we will be able to leverage the identity of our largest brand among all of our constituencies.
Of course, Bloomingdale’s remains a very important part of the company. Let’s talk first this morning about the fourth quarter and the full year results.
I will then talk about our key planning assumptions for 2007 and the announced increase in buy-back authorization. And then, of course, I will take your questions.
Sales in the fourth quarter were $9.2 billion, within our expected range of $9.1 billion to $9.4 billion. As we have discussed in our sales releases each month in the quarter, we were very pleased with the outstanding performance in the legacy Federated doors that produced a 6.1% comp store increase, and we were disappointed with sales in the former May, or as we now call them, the new Macy doors.
However, it is important to note that the trend in those doors has improved. Gross margin rate, excluding inventory valuation adjustments in the fourth quarter, was 40.9%, or flat with last year.
This is consistent with our expectations. Fortunately, a good inventory shortage experience offset the added mark-downs needed to clear inventory in the former May doors that resulted from the weak sales.
SG&A in the quarter was 25.2%, down 180 basis points from last year’s 27.0%. This is well below last year and better than we expected, due in large part to the earlier achievement of synergy.
We were close to an annual run-rate of $450 million in the fourth quarter, which is higher than we expected. In other words, we achieved more of the synergies earlier and exceeded our $175 million expectation for 2006.
In addition, retirement expense was below our assumption in the fourth quarter. Clearly this fourth quarter expense performance will be hard to beat in 2007.
Operating income excluding May-related inventory valuation adjustments and integration costs was $1.4 billion, or 15.7% of sales in the fourth quarter. In the quarter, we booked May-related inventory valuation adjustments of $10 million and integration costs of $167 million.
The integration costs were higher than expected in the quarter, due primarily to timing differences. For the year as a whole, our one-time costs were below our guidance.
The inventory valuation adjustments were $178 million versus the expected $200 million to $225 million, and the May-related integration expense for the year was $450 million, which was the low end of our guidance of $450 million to $500 million. Interest expense in the quarter was only $49 million but remember, that included a $54 million gain relating to our bond tender offer.
Tax expense in the quarter was $451 million, or 37.2% of pretax income. This is slightly lower than the 37.5% expected due to year-end adjustments and miscellaneous settlements with taxing authorities.
Income from continuing operations was $760 million, or $870 million excluding the May-related inventory valuation adjustments and integration costs. Average share count on a diluted basis in the fourth quarter was 523.7 million shares.
We ended the fourth quarter with a basic share count of 497 million shares. Fourth quarter earnings per share on a diluted basis, excluding May-related inventory valuation adjustments and integration expenses, was $1.66.
For the year as a whole, let me just focus on five key financial highlights. First, sales.
The sales of $27 billion were slightly below our original expectations. This incorporated above-plan performance at the legacy Federated stores resulting from continued progress on our four priorities and great performance at Bloomingdale’s.
Obviously this performance is relevant because it is these strategies which are being executed in the new Macy's stores. However, the sales in the May doors, as you know, were weaker than expected.
We are doing the right things in these new stores but it has taken longer, both to build a customer base and also for sales associates, store executives, as well as customers to get used to the changes. Number two, EBITDA.
EBITDA as a percent of sales was 13.1% in 2006, excluding May-related inventory valuation adjustments and integration costs, as well as the gain on the sale of the credit portfolio. We are on track to achieve our goal of hitting EBITDA of 14% to 15% of sales in the 2008/2009 timeframe.
Number three, EPS. In spite of missing sales, our earnings per share was $2.30 versus our original guidance of $1.72 to $1.85, excluding integration expense and a gain on credit.
Now, if you exclude the non-recurring and unplanned tax settlement in the second quarter and the impact of the debt tender in the fourth, earnings per share this year was $2.08, still above our original expectations for the year adjusted for the stock split. Some of you have called us this morning wondering why EPS was below last year.
Please remember that in 2005 we only owned May in the back-half of the year which is, as you know, by far the most profitable part of the year and the share count was only impacted by the May acquisition for part of last year. Number four, asset dispositions.
We brought in pretax cash proceeds of approximately $4.5 billion in 2006, between the sales of the May and GECC credit portfolios, Lord & Taylor, David’s Bridal, and the overlapping real estate and other miscellaneous assets. Inside of our stock buy-back program, we bought back $2.5 billion of our stock during the year, or 62.5 million shares.
The average price paid during the year was $40, which we believe represents a great investment for the company. Those are just the financial highlights.
I know many of you have heard my summary of key 2006 accomplishments before but I just cannot talk about 2006 without reminding you of just how much we achieved this year in terms of the integration. As of mid-February of ’07, all of the systems have now been successfully converted.
The division consolidations are behind us. The May corporate office wind-down has been complete.
Private brand was rolled out to the May doors. This fall, in 2006, the penetration of Private brand in the May doors already reached 17% as compared to 18.6% this fall in the legacy Macy's doors.
As we have said, these goods have met great acceptance in the new doors. For the full year, Private brand penetration in the legacy Macy's doors increased slightly to 18.2%.
The assortments were transitioned in former May doors to achieve greater localization, including the good, better, best and lifestyle mix, which we believe is warranted. We believe our assortments and therefore the sales trends will continue to improve as we gain more experience and understanding about our new customers.
The logistics network is in process of being integrated with no significant unanticipated issues thus far. The Macy's credit cards, along with our Star Rewards loyalty program, was rolled out to the May customers, and the penetration of proprietary card usage reached 41% in the May doors in 2006, up 560 basis points over last year, although still approximately 500 basis points below the legacy Federated doors.
This trend bodes well for the future, given our ability to better communicate to our proprietary customer and the increased loyalty that our proprietary cardholders demonstrate. Of course, we accomplished the name change of all of the May stores as well as the beginning of our national advertising strategy.
I really cannot say enough about how proud I am to be a part of an organization that accomplished all of this. This involved unusual commitment levels, long hours and personal sacrifice.
You as shareholders or followers of the company should feel good about the 200,000 plus people who pulled this off. We recognize that we still have lots of challenges ahead of us but as you can see from our accomplishments this year, we are up to the task.
As we look to 2007, our top priority is to drive comp store sales growth while making continued progress towards our EBITDA rate objective. In 2007, we are expecting total sales of $27.1 billion to $27.6 billion, and a comp store sales increase of 2% to 3.5%.
The total sales growth is lower than the comp increase due largely to the fact that 2007 has one less week than fiscal 2006. As you saw in the press release, we are planning to open six full line stores in 2007 and two furniture stores.
This sales assumption will require continued improvement in the trend in the former May doors versus 2006 as we go through the year. The trend has been improving since mid-December and we believe our expectation to be reasonable but we, like you, will be watching our sales trends closely and we will react with receipt and expense reductions if we turn out to be wrong.
Our comp store sales expectations by period are 2.5% to 3.5% comp store increase in the first quarter, 1.5% to 2.5% in the second quarter, and 2% to 3.5% in the fall season. The higher expectation first quarter over the second quarter relates to the shift of a promotional event into the first quarter, as well as Mother’s Day that falls early in the second quarter period this year, putting some of the related business into the first quarter.
The total sales dollars are assumed to be the following by period: first quarter, $6 billion to $6.1 billion; second quarter, $6.1 billion to $6.2 billion; and the fall season, $15 billion to $15.3 billion. For the full year, we are expecting gross margin rate to increase modestly.
While we expect gross margin to increase versus last year in all of the time periods, the biggest increase is planned in the first quarter due to the fact that the quarter last year had the weakest performance. With SG&A, we are currently expecting relatively flat performance as a rate for the year as a whole.
Our plan incorporates achieving the $450 million or more of synergies, with the incremental synergies over 2006 front-end loaded, as you would expect. And if we achieve comp store sales growth at the upper end or above of our guidance, hopefully the SG&A rate will be lower as well as we leverage the sales growth.
We are assuming close to a full point of improvement in SG&A as a percent of sales in the first quarter, less improvement in the second quarter, a flattish rate in the third quarter, with an increase in rate expected for the fourth quarter. The fourth quarter expectation relates to the fact that most of the synergies were realized by then in 2006, but as you might imagine, we are not satisfied and in fact are still working on opportunities to reduce expense in the fourth quarter and therefore the year as a whole.
Since that quarter just ended, we have not fully been able to look for opportunities for 2007 in the fourth quarter. Included in the assumed SG&A is approximately $1.36 billion of depreciation and amortization.
We are assuming roughly $330 million in the first and second quarter and about $700 million in the fall season. This assumes our capital budget of $1.2 billion for 2007.
So our EBITDA as a percent of sales is assumed to grow in 2007 versus 2006, and we are still assuming it will be 2008 and 2009 before we achieve our stated 14% to 15% objective. This is consistent with what we have told you in the past.
The remaining May-related integration costs are assumed to be approximately $100 million to $125 million for the full year. Almost all of these costs, however, will occur in the first-half of the year.
These relate primarily to the final systems conversions that took place earlier this month and the continued integration of our logistics operations. As you think about interest expense and share count for 2007, remember that we announced and included in our guidance a $4 billion increase in our authorization, so the total is now $4.17 billion to buy back stock.
While this is more aggressive than prior authorizations, our balance sheet is strong. We worked with the rating agencies in advance to be sure we would not jeopardize our solid investment grade rating with this announcement.
As this indicates, we believe in our future and that buying our stock at current levels will prove to be a great investment for the company. In fact, we entered into an agreement to buy back 45 million shares in an accelerated program which reduced our share count as of today.
We are assuming in our guidance that in addition to the accelerated program, we utilize the open market or perhaps other negotiated transactions to buy back the remainder of our authorization later this year. Utilizing the open market gives us the flexibility to adjust the amount and the pace, depending on the stock price as well as if for any reason our business is either stronger or not performing as we expected.
Interest expense in 2007 is assumed to be approximately $530 million. This reflects assumptions for the added costs associated with financing our $4 billion buy-back program, as well as the non-recurring $54 million gain achieved in the fourth quarter of 2006 related to the debt tender offer and the $17 million impact of the tax settlement and interest expense in the second quarter.
By period, our expectations for interest expense are: in the first quarter, approximately $120 million; in the second quarter, approximately $130 million; and in the fall season, with the third and fourth quarters combined, approximately $280 million. The annual effective tax rate is assumed to be 37.2%.
Remember the $80 million tax settlement that was booked in the second quarter of 2006 as you go to build your model. These planning assumptions would result in diluted EPS of $2.45 to $2.60 for the year 2007; $0.15 to $0.20 per share in the first quarter; $0.40 to $0.45 in the second quarter; and $1.85 to $2 in the fall season.
2007 will clearly be another big year for the company. As I said earlier, we remain cautiously optimistic about our sales outlook based on recent trends.
Five of the key factors behind our optimism are the following: one, the significant increase in usage of our May credit cards in the former May doors will enable us to build relationships with these customers through more effective communications; two, the ongoing rollout of our reinvent program in the former May doors; three, the increased time in job for all of the former May associates in terms of learning about Macy's systems, policies and ways of conducting business; four, customers in the May markets are getting used to our strategies for delivering value, which depend less on coupons. This is probably the most challenging of all the issues we face.
We know it takes time to retrain customers to recognize good values without coupons, but as we know from our Macy's experience, it can happen and it is an objective worth pursuing; and fifth, the introduction of the Martha Stewart line this fall, as well as the continued success of our Private brands and exclusive lines in both the old and new Macy's doors, bodes well for our sales trends in 2007. As I said earlier, we are cautiously optimistic about 2007.
We believe that the legacy Macy's and Bloomingdale’s stores will continue their strong performance and that the May store trends will continue to improve. And as comp store sales trends accelerate, so will the EBITDA rate and cash flow generation.
As we look beyond 2007, we are less cautious about our optimism and believe that we will continue to build our brands and enhance shareholder value as Macy's Group. Thanks for your interest in Federated and I will now open the call up for your questions.
Operator
(Operator Instructions) We will first go to Deborah Weinswig with Citigroup.
Deborah Weinswig - Citigroup
As we think about the gross margin guidance for 2007, I just want to make sure. It sounds a little conservative and if we think about the fact that you will have a full year of Federated’s Private label, the new Macy's doors, the use of 20/20 at the new Macy's stores should also theoretically help mark-downs, and obviously a host of other positives, can you help us understand what maybe we are not thinking about?
Karen M. Hoguet
Well, the issue is -- remember, we are focused on giving the customer value. We are not focused on growing gross margin rates.
We would much rather offer the customer value and get the rewards in comp store sales growth. So I think that is probably what you are missing.
Deborah Weinswig - Citigroup
Okay, that is very helpful. Secondly, you had said on the last earnings call that Home Store had stabilized in the third quarter and you expect it to make more progress in the fourth.
Did you see what you would have expected in the fourth and how are you thinking about 2007?
Karen M. Hoguet
Yes, we have seen continued progress in the Home Store, both in the legacy Macy's doors as well as the new Macy's doors, which is really encouraging. We do expect that to continue to improve and obviously we expect a big benefit from the Home Store as we introduce the Martha Stewart line in the fall season.
Operator
We will now move on to Dana Cohen from Banc of America Securities.
Dana Cohen - Banc of America Securities
A couple of questions; starting on the gross margin, I think you made a comment that I think it was shrink was better than expected in the fourth quarter. Is that correct?
Karen M. Hoguet
That is correct.
Dana Cohen - Banc of America Securities
But would it be also fair to assume that the merchandising margins at the legacy Federated doors were better than expected, given the comp?
Karen M. Hoguet
You know something, we do not track it that way, so I really do not know. But as I think about it, I would think those would be better, but in the May doors, remember we are dogmatic about clearing old age inventory and not carrying things over to a new season, so we took a lot of mark-downs, given the weak sales in the May doors.
Dana Cohen - Banc of America Securities
Okay, and then given that SG&A came in almost $100 million better in terms of dollars, was that primarily the synergies that drove that?
Karen M. Hoguet
I believe it is, Dana. We are still analyzing it because it was much better than we had expected.
Dana Cohen - Banc of America Securities
So the offset in terms of -- I am now moving down the P&L to EBIT, would have been probably profitability if the legacy May doors were below expectations, given the sales and the gross margin?
Karen M. Hoguet
I am not willing to say that. I don’t know.
Dana Cohen - Banc of America Securities
Okay, and then looking out to ’07, SG&A dollars in the quarter were at a run-rate of I think 270 below LY. Just help us to think about how we model ’07 given SG&A dollars running down so much year over year.
Karen M. Hoguet
Well, that is not going to happen in 2007. SG&A as dollars will increase in each of the time periods.
As you could tell from my comments, in the first-half of the year, because we are not year rounding on the synergies happening yet, you should expect bigger increases -- I’m sorry, lower increases than in the back-half of the year when in 2006, we were already experiencing the synergies.
Dana Cohen - Banc of America Securities
I guess I don’t quite get why you wouldn’t at least see SG&A dollars down in the first three quarters, since the synergies seem to have gotten pulled out in the fourth.
Karen M. Hoguet
No, the synergies came out all through the year, Dana. It is just that by the fourth quarter, we had hit the run-rate.
So we expect dollars to go up in each quarter. Not as much as the sales growth, obviously, because as I said we are expecting almost a point of improvement in the first quarter.
Dana Cohen - Banc of America Securities
Okay. Great, thanks.
Operator
Now we will move on to Stacy Turnof from Merrill Lynch.
Stacy Turnof - Merrill Lynch
A question again on synergies. When we look at modeling that for the next couple of quarters, given the fact that part of that 450 occurred in the fourth quarter, how should we look at that?
Is it really primarily going to be spread out through the next three quarters?
Karen M. Hoguet
I am not quite sure how you are building your models. I have it just in the SG&A number, so within that guidance, where you see the rate improving almost a point in the first quarter, less in the second and flattish in the third, that is how I would think about modeling total SG&A.
Stacy Turnof - Merrill Lynch
Okay, that is helpful. My second question is, can you give us any comment on how your February home sale has done, particularly at the May stores?
Karen M. Hoguet
Not until we report the month next week.
Operator
We will now move on to Charles Grom with JP Morgan.
Charles Grom - JP Morgan
What has changed in the May doors in your view that has led to the improvement over the past 60 days? Is the home area improving and the key driver, or is the customer just getting more comfortable with the offerings since the banner change in September?
Karen M. Hoguet
We are seeing improvement in all parts of the business, so I really think it is just time. I think we just expected the customers to respond immediately, and it does take time for people to absorb change and understand, so I think it is time more than anything else.
Charles Grom - JP Morgan
Just as a follow-up to that, I am just curious as to why you see comps up for the full year up 2% to 3.5% when I think formerly you were outlining at least 3%. Is it the May doors not doing as well as you thought, even though they are improving or is it something more macro?
Karen M. Hoguet
No, it relates to the trend we are coming off of in the fourth quarter. I am still hoping to do the upper end of that guidance, but as we are thinking about reality, we thought it made sense to have a broader range.
Charles Grom - JP Morgan
One last one on merger integration costs, just curious as to why there was such a delta between what you guided to and what the end number came in at. I know you said timing.
Was that entirely it? If you could just provide some granularity there.
Karen M. Hoguet
Sure. A couple of things.
One is that you will recall we were running under year-to-date, so some of the things that did not happen earlier ended up happening in the fourth quarter. That is largely the reason.
Charles Grom - JP Morgan
Okay, anything specific that wasn’t running on time?
Karen M. Hoguet
No, it was just a -- it was a one-time cost that is very hard to predict the timing, so for example, some of the write-downs on real estate relating to warehouses, we had to wait until decisions were made and those decisions were made a little bit later, but really nothing and obviously not impacting the achievement of the 450.
Operator
We will now move on to Adrienne Shapiro from Goldman Sachs.
Adrienne Shapiro - Goldman Sachs
Karen, you had mentioned that you had discussions with the ratings agencies. Any sense you can share with us how much debt capacity you could assume and still maintain investment grade status?
Karen M. Hoguet
No, I really cannot comment. You would have to talk to the agency.
Adrienne Shapiro - Goldman Sachs
Okay, but any metrics that you are thinking about that you are comfortable with, a target that we should be thinking about?
Karen M. Hoguet
Obviously it is all the normal credit ratios and it is a balance of all that -- the leverage amounts, fixed charge coverage -- it is all the normal credit ratios.
Adrienne Shapiro - Goldman Sachs
On the buy-back, could you just help us think about the pace of the cash flows? You had mentioned the $4 billion completed this year, but just any sense of cash flow out, paying down the buy-back?
Karen M. Hoguet
I can tell you that I cannot help you there, but what I can tell you what we have assumed in the guidance, which is that the roughly $2 billion or the 45 million shares already happened and that the remaining roughly $2 billion is assumed in the guidance to be bought back over the back-half of the year.
Adrienne Shapiro - Goldman Sachs
Okay, so the first $2 billion is out?
Karen M. Hoguet
Correct.
Operator
We will now move on to Bob Drbul from Lehman Brothers.
Bob Drbul - Lehman Brothers
Just a couple of questions on the May doors. First of all, can you give us the blended numbers on 2006 that we will be comparing against when you give us the ’07 guidance?
Karen M. Hoguet
No, because it really was not part of the comp base last year.
Bob Drbul - Lehman Brothers
Okay. The second question is when would you expect the May doors to start, the legacy May doors to start to comp positive in your assumptions?
Karen M. Hoguet
You know something, I am not tracking it that way anymore, so I do not even know how to answer that.
Bob Drbul - Lehman Brothers
For full year 2006, could you talk a little bit about the advertising expense and where it came in on a dollar basis or percentage basis, and how to think about it in ’07?
Karen M. Hoguet
I do not have that number yet for 2006, but as you know, it will be in the 10-K when we report. In terms of how to think about it for ’07, as you know, we do not expect a significant reduction in marketing expense other than what has already happened in the overlapping markets.
But we are really investing in marketing to both build the brand while we are still keeping the sales promotion cadence that we have had in the past, so I would not expect any marketing savings in 2007.
Bob Drbul - Lehman Brothers
Okay, and then just one final question; when you look at the performance of your Private label business, have your targets at all changed in terms of where you think that business can go? I guess when you look at ’07 in general or ’08 and ’09, can you just maybe walk us through how you think that will progress?
Karen M. Hoguet
My guess is it will increase slightly, but what we have really been focused on is exclusives also, not just Private brand. So for example, Martha Stewart is not technically a private brand but that is part of what we call exclusives and we are going to continue to build that.
Don’t know how far we will go there but obviously we love having differentiated assortments, so we would like to continue to push the penetration of exclusives, private brand and limited distribution product, which in ’06 together was about 35% of our sales.
Bob Drbul - Lehman Brothers
Are you contemplating anymore door closures with Federated or the whole doors, Macy's or Bloomingdale’s?
Karen M. Hoguet
We are not expecting anything significant. As you know, every year we look at under-performing stores and close those that are under-performing but I do not expect a significant number at any point.
Operator
We will now move on to David Glick from Buckingham Research.
David Glick - Buckingham Research
A quick question on the cost savings. Previously, your guidance for the synergies was $175 million in ’06 and 275 in ’07, if I got those numbers correct.
How much did you realize in ’06 and what is left as incremental for ’07?
Karen M. Hoguet
You know, it is really hard to measure that with any precision, David, so clearly we achieved more than the 175 in 2006 and that is why SG&A did better than what we had expected. Within the plans that I have talked to you about and the SG&A guidance, we know has at least $450 million, so what the precise number is, I am not sure I can tell you that at this point.
David Glick - Buckingham Research
I am getting a lot of questions on this and I had it myself, the degree to which you exceeded the 175. Was it substantial, significant?
I am just trying to get some color as to really how much more you exceeded that in some qualitative way.
Karen M. Hoguet
I think it was substantial.
David Glick - Buckingham Research
Okay, so probably the majority of the cost savings were realized in ’06? Is that fair?
Karen M. Hoguet
David, I do not want to get pinned down too specifically because I do not know, but clearly more than 175. But there is still a lot more to happen in the first-half of ’07 also.
David Glick - Buckingham Research
Okay, and then just to follow-up on the former May doors, can you give us some color on the degree of improvement as you proceeded through the fourth quarter? Is it possible to give us some measure, whether it is relative to plan or relative to last year, just a sense of how much they have improved and what you think --
Karen M. Hoguet
Let’s just say they have improved enough that we are comfortable with the guidance we are giving you for the first quarter.
David Glick - Buckingham Research
And the biggest drivers for the improvement, was it home or execution?
Karen M. Hoguet
It was across the board. That is why I said earlier I really do think it is time that has elapsed and given customers and associates time to get used to the change.
Operator
We will now go on to Teresa Donahue from Neuberger Berman.
Teresa Donahue - Neuberger Berman
My question has been answered for now. Thank you.
Operator
We will now move on to Dana Telsey from Telsey Advisory Group.
Dana Telsey - Telsey Advisory Group
Can you talk a little bit about minimum wage increase? Does that impact the business at all, or how have you accounted for it?
On the CapEx, breakout of remodels, new stores, how are you seeing it this year? Thank you.
Karen M. Hoguet
There is really no change in the CapEx. Obviously of the $400 million we spent on conversion, we are not doing this year.
So if you strip that out in terms of the mix between new stores and remodels and technology and direct-to-customers, it is pretty much as it has been. Not a lot of change there.
I admit, Dana, I do not know the answer on the minimum wage. Historically that has not been a big issue for us because our people are above that level but I do not know the answer to your question.
Operator
We will now move on to Michelle Tan from UBS.
Michelle Tan - UBS
I have a follow-up question on the synergies. I believe you said that you were in the fourth quarter at a run-rate of around the $450 million.
It seems like there are opportunities still in the first-half of the year with a number of D.C. closings still scheduled and I think the systems conversion in the Midwest still ahead.
Could you elaborate on some of the areas of potential additional savings in the first-half?
Karen M. Hoguet
We have said that systems are now all converted as of the beginning of February, so that happened at Macy's North and Macy's Midwest and that is now done, and the distribution center integration is ongoing and in fact, you are right. That is another source of the added savings in ’07 versus ’06.
That is why the SG&A estimates for the first and second quarter are a lot more aggressive than the back-half of the year.
Michelle Tan - UBS
Then, from a total savings standpoint, that does imply that there should be something. I know you are saying at least 450 now, but does that imply that we should see something in excess of at least that 450?
Karen M. Hoguet
Correct.
Michelle Tan - UBS
Then, just to understand on the buy-back, is that being funded from the cash on the balance sheet and cash from operations or is there some additional debt that is associated with that?
Karen M. Hoguet
The $2 billion that we have just completed will be funded with cash on hand and commercial paper. However, as you look through the year, we have about $650 million of debt maturing, so we will be refinancing that as well as funding some of the additional buy-back.
Michelle Tan - UBS
And then one final question, just on the May stores, or the converted May stores versus the legacy Federated, can you give us any sense of the average unit retail gap between those two sets of stores and whether you have seen that close at all with the change in the assortments at the May locations?
Karen M. Hoguet
Yes, there is a gap. Yes, it has begun to narrow, and I do not know the specific number.
But that clearly was part of the strategy here as we move their doors to our mix of good, better, best. We still see opportunity from that, which has helped obviously drive the comps.
Michelle Tan - UBS
I am not sure if you have this color or not, but the May customers, in terms of where they are shopping on the price point mix, do you see them starting to convert more to those higher price points?
Karen M. Hoguet
We absolutely are. If you think about what sold well in the May doors, it was some of the better goods, the status brands, the private brand, the differentiated product.
I do not know why there is this impression that May customers are different than the former Macy's customers. They are the same.
So exactly what is working in the Macy's stores will work in the May doors. By the way, as you know, we do not sort our stores sort of in a one-size-fits-all.
We have lots of stores that are in more moderate trading areas that were Macy's doors just like we have May doors, but there is this perception of a big difference in the customer. There really isn’t.
Operator
We will now move on to Michelle Clark from Morgan Stanley.
Michelle Clark - Morgan Stanley
You had mentioned that the comp trend at the May company doors has been improving since mid-December. Does that include February month-to-date?
If it does, is the rate of improvement in February consistent with what you have seen in January as you transition for more full price sales?
Karen M. Hoguet
It does include February but I am not going to say a lot about February sales until next week.
Michelle Clark - Morgan Stanley
Okay, so it does include February. Secondly, what are you guys doing specifically to get the customer to notice better value in the stores?
Karen M. Hoguet
A lot of it has to do with marketing. A lot of it has to do with sales associate training, so that they could say to a customer, this is a great value, you don’t need a coupon.
A lot of it has to do with the communication we can do as these customers have opened up Macy credit cards as part of the Star Rewards program. Part of it is being patient and just letting time evolve.
It is important that people know that even though Macy’s uses coupons a lot less than what May had done, we still offer fabulous value to the customer and in part, as I responded to Deb earlier on the call, value is a very important part of what we are offering. Differentiated assortments at good values.
It is just helping that customer to understand it through sales associates as well as marketing.
Operator
(Operator Instructions) We will now move on to Jeff Stein from KeyBanc Capital Markets.
Jeff Stein - KeyBanc Capital Markets
I am wondering if you could just walk us through the structure of this $2 billion stock transaction that you just completed. A, what date was it completed and B, under what conditions will there be an adjustment to the dollar amount that you have purchased?
Karen M. Hoguet
Essentially, we executed this transaction for the 45 million shares in two pieces, and the only difference between the two pieces really is the degree of control we have over the maturity. So for half of those shares, we have signed an agreement and in essence, it has gone into autopilot.
We have very little to do with it and that agreement will be terminated sometime between two and five months from now. On the other half, we do have control over the time period and while we suspect we will get it done in around the same time, we do have more flexibility there.
In both cases, when these agreements are terminated, we will pay more or less for those shares depending on what the stock price does between now and the termination date. At that time, we will settle either in stock or in cash.
Jeff Stein - KeyBanc Capital Markets
Could you tell us what you have baked into your guidance in terms of a settlement price?
Karen M. Hoguet
No. That would tell you what I think is going to happen with the stock price.
Jeff Stein - KeyBanc Capital Markets
Okay. One more question, real quickly.
Can you give us your guesstimate in terms of growth in working capital for the year?
Karen M. Hoguet
I think we are expecting to see inventory begin to grow slightly. We do still expect to have turnover improvement, but with the sales increase that we are talking about, we do think there will be some increase in inventory for the year.
Obviously payables react to the receipt levels that we have also.
Jeff Stein - KeyBanc Capital Markets
Okay, and the settlement tuxedo rental business, I presume that has not closed yet, and when it does, how much money will come into the till?
Karen M. Hoguet
It has not closed yet and as you know, the price for that was $100 million and that will be reduced by the amount of deposits that have been received for tuxedo rentals to come. So when we had hoped to close it at the end of January, that was a fairly small number.
When we think we will close it, the deposits will be a bigger deduct, only because that is the middle of prom season and wedding season. So my guess it will be somewhere and I do not know for sure, around $70 million.
Operator
We will now move on to Rob Wilson from Tiburon Research.
Rob Wilson - Tiburon Research Group
Thank you. On the last conference call, you mentioned inventory levels at historical May stores were running lower than the Macy's stores.
How does that look today?
Karen M. Hoguet
I do not remember saying that they were lower, so I am not quite sure what I am responding to, but they are now being run identically, so inventory levels should be on the same, based on the sales expectations across the company.
Rob Wilson - Tiburon Research Group
When Martha Stewart launches in the fall, do you expect your home business penetration will increase, and is that penetration around 15% for your total home business?
Karen M. Hoguet
Yes, we expect it to increase and I think it is around 15%. I have not looked at the year-end number, so I am not positive but it is that ballpark.
But for sure we would think it would increase due to some of the new categories that we expect to come with Martha.
Operator
Thank you. That does conclude our question-and-answer session.
I would like to turn the conference back over to Ms. Karen Hoguet.
Karen M. Hoguet
Thank you all again for your interest, and obviously if you have more questions, Susan and I are both available to answer whatever you may have. Have a good day.
Thanks.
Operator
Thank you. That does conclude our conference for today.
Thank you very much for your participation. Have a great day.
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