Flat quarterly earnings, weak guidance and two analyst downgrades were pushing down shares of off-price retailer

Ross Stores

(ROSS)

in Wednesday trading.

The stock was recently down 68 cents, or 2.7%, to $24.97.

The Newark, Calif.-based company said Wednesday it earned $48.5 million, or 32 cents a share, in the latest quarter ended May 1, compared with $49.3 million, or 32 cents a share, a year ago. Wall Street had also been calling for 32 cents a share.

Sales in the quarter increased 13% to $992 million with same-store sales up 3%.

Ross Stores said temporary in-store inventory imbalances have developed due to its new merchandising system. As a result, sales and margins over the near term will likely be hurt. Operating margin in the latest quarter, for example, was 8%, down from 9.2% in the prior-year period.

"We have been experiencing longer-than-expected delays in producing information on current merchandise trends during the start-up period of the systems," the company said in a statement. But it the company expects the information systems problems will be solved by the second quarter.

Some damage has already been done, however. May same-store sales are down 1% so far from the prior year, the company said.

In addition, the company lowered its second- and third-quarter outlooks to below the Wall Street consensus. It also expects second-quarter same-store sales flat to down 2% with earnings of 31 cents to 34 cents a share. That would compare with the consensus estimate for 39 cents a share and 35 cents a share earned in the prior-year period.

In the third quarter, the company expects same-store sales to be up 1% to 2% with earnings of 33 cents to 35 cents a share, compared with 33 cents a share earned in the prior year. Analysts' consensus is for 37 cents a share.

In subsequent analyst action, WR Hambrecht lowered its rating on Ross Stores shares to hold from buy and Lehman Brothers cut its rating on the shares to equalweight from overweight.

Lehman Brothers analyst Kimberly Greenberger cited uncertainty about the impact of the company's new merchandising systems; she thinks the stock could fall to $18 to $20. Its shares were recently down 2.7% to $24.96 in Wednesday trading.

"Although we believe full implementation of the

merchandise system will be complete in 2004, we believe the effects of misbalanced assortments to both comps and merchandise margin from increased markdowns could carry over into the third quarter as well," Greenberger wrote in a Wednesday research note. Ross Stores is experiencing delays with reporting functions used to buy, plan and allocate merchandise, despite the fact that the system is fully functioning.

Greenberger forecast that it could take two to three months to fix in-store inventory problems, which could further impact third quarter results.

Ross Stores is "now a 2005 story," said Greenberger. Long-term, the new merchandise system should provide improved gross margin. The analyst expects Ross Stores to earn $1.88 in fiscal-year 2005, which is in-line with the company's own expected growth, but below the current Wall Street consensus of $1.92 a share, according to Thomson First Call.

Lehman Brothers makes a market in shares of Ross Stores and the bank or an affiliate trades regularly in the shares.

The company also said its first quarter was affected by an interruption in distribution capacity due to weather and a partial roof collapse at its South Carolina facility in January. Additionally, higher distribution costs related to that incident, increased expenses from the retrofit of its Pennsylvania center and the start-up of a Southwest facility contributed to a 138-basis-point decline in gross margin during the quarter.