Shares of DSW (NYSE:DSW) are up almost 9% today, and as you might have guessed, the company had a tremendous quarter. My assumption is that many investors are acting on the news that the company beat estimates by $0.05 per share and gave a $0.02-per-share guidance increase.

The income statement and balance sheet details are in our recent Fool by Numbers. It does a good job of highlighting the results for the quarter, but the company's conference call provided a great deal more detail on how this quarter's performance will differ from the next few quarters. DSW also discussed some items that should start to help performance next year as well.

The first note is that the year-over-year operating margin improvement to 8.8% is not sustainable. For the rest of the year, the company will see higher operating expenses from new store openings, improvements to its customer loyalty program, and new stores opening within 102 Stein Mart (NASDAQ:SMRT) locations. DSW is already in a number of Stein Mart locations, but the expansion of the deal allows both Stein Mart and DSW to combat the expansion of discount shoe offerings by TJX Companies (NYSE:TJX) in its Marshall's and TJ Maxx stores.

The other item on the conference call that I found particularly interesting is the efficiency gains management is driving at DSW. On top of normal gains that the company should achieve from same-store-sales improvements, the company has also refined the format of its stores. During 2006, the company expects new stores to average 19,000 square feet instead of the chain average of 25,000 square feet. This leads to lower total sales, but the new format is expected to average $230 in sales per square foot -- versus the chain average of $217 -- and I expect that the company should be able to get a bit more leverage on its fixed costs.

I haven't run a full-scale valuation on DSW, so I cannot comment as to whether the shares are cheap or expensive. Although with a trailing P/E of 32, I find it hard to imagine that DSW shares are all that cheap. That said, the company is opening up more efficient stores and has also driven down its inventory balances while growing at a healthy clip. Inventory and working capital growth will certainly return as the business expands, but -- depending on how much more efficiency the company can drive into its business in the next year or two -- there might be a reasonable valuation here, even though the P/E implies otherwise.


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At the time of publication Nathan Parmelee had no financial interest in any of the companies mentioned. The Motley Fool has an iron-clad disclosure policy.