Aug. 24 (Bloomberg) -- Williams-Sonoma Inc. posted a 15 percent profit gain and reduced its annual earnings forecast, sending the shares of the U.S. gourmet-cookware retailer to their biggest drop since August 2002.

Second-quarter net income increased to $35.6 million, or 30 cents a share, because of unredeemed gift cards and a gain from a legal settlement. Full-year profit will be hurt by weaker sales at home-furnishings chain Pottery Barn, San Francisco- based Williams-Sonoma said in a statement today.

Revenue grew 6.4 percent to $825.5 million, the smallest rise in more than nine years. Williams-Sonoma cut its projection for third-quarter comparable-sales growth in half because consumers are spending less at Pottery Barn as housing prices fall. Unused gift cards added 7 cents a share to profit.

``It's a weak sales report but consistent with the softening consumer environment,'' said Dan Popowics, who helps manage about $21 billion at Cincinnati-based Fifth Third Asset Management, which recently sold Williams-Sonoma shares. ``The guidance is appropriately weak given the slowdown that we've seen in the last quarter and the uncertainty that they expect for the balance of the year in terms of slower housing demand.''

Profit was $30.8 million, or 26 cents, a year earlier. A legal settlement with Visa International Inc. and MasterCard International Inc. added 1 cent to last quarter's earnings. The company had 256 Williams-Sonoma locations and 191 Pottery Barns as of July 30.

Lester Takes Over

Shares of Williams-Sonoma fell $2.71, or 8.3 percent, to $29.89 at 4:03 p.m. in New York Stock Exchange composite trading. The stock has dropped 31 percent this year. The company also announced its board has authorized the repurchase of up to 5 million shares and that it has completed its previous 2 million-share buyback program.

Chairman Howard Lester returned to the role of chief executive officer in July after Edward Mueller relinquished the post. Lester, 70, had previously been chief executive from 1979 to 2001.

The company reduced its earnings forecast for the year ending January 2007 to $1.87 to $1.94 a share from as much as $2.01 and cut its sales projection to as much as $3.8 billion from as much as $3.9 billion, the same amount estimated by analysts surveyed by Thomson Financial. The third-quarter profit forecast was also lowered, to as much as 26 cents from as much as 35 cents.

Sales at company stores open at least a year may increase as much as 2 percent this quarter compared with a previous forecast of as much as 4 percent, the company said.

Sales Slowed Suddenly

Same-store sales at Pottery Barn fell 0.2 percent in the second-quarter, while Williams-Sonoma stores gained 2.3 percent. Catalog and Internet revenue jumped 5.9 percent to $362.2 million.

Sales slowed suddenly at Pottery Barn in July, after the retailer had set out its fall merchandise in the stores and mailed catalogs, President Laura Alber said on a conference call. That made it difficult to react quickly, she said.

The chain may increase markdowns to clear inventory, Chief Financial Officer Sharon McCollam said. Pottery Barn will have a sales and earnings shortfall this year, executives said.

The retailer has a less affluent customer than Williams- Sonoma's other units, Alber said.

``We haven't seen it as much in our upscale brands,'' said Lester on the call. ``Perhaps that consumer is more protected financially and not affected as much.''

Beat Estimate

Excluding the gain from gift cards and the credit card litigation and a 2-cent expense for the departure of Mueller, the company said it made 25 cents a share. That beat the 23-cent estimate of David Magee, an analyst with SunTrust Robinson Humphrey in Atlanta. Magee is top-ranked for accuracy by StarMine Corp. and rates the shares ``buy.''

Twenty-one analysts surveyed by Thomson Financial estimated profit of 23 cents. Thomson doesn't disclose the basis for the projections in its survey to Bloomberg News.

Williams-Sonoma's ``revelation that the environment is starting to have an impact on their customer highlights the likelihood that we are entering a period of high uncertainty regarding consumer spending,'' Brian Postol, an analyst with A.G. Edwards & Sons Inc. in St Louis, wrote in a report today. He rates the shares a ``hold.''

New home sales in the U.S. fell last month and inventories rose to a record, increasing the risk of a more pronounced housing market slowdown. Purchases of new homes, which account for about 15 percent of the market, dropped 4.3 percent, the U.S. Commerce Department said today in Washington.

Gasoline Prices

Gasoline prices have gained 12 percent to $2.92 a gallon from a year earlier, according to the U.S. Energy Department.

The retailer is expanding by adding Williams-Sonoma Home stores that offer customized furniture, West Elm shops aimed at customers seeking modern apartment furnishings and Pottery Barn Bed & Bath locations.

Williams-Sonoma's net income gained an average of 9.1 percent in each of the past four quarters, matching analysts' estimates in three of them, and exceeding them in one. Competitor Bed Bath & Beyond Inc. posted a 9.7 percent average profit increase over the same period.

Of 24 analysts tracked by Bloomberg in the past year, 11 recommend buying the shares and 13 suggest holding them.

(For a replay of the earnings conference call, click http://www.williams-sonomainc.com/webcast.)

To contact the reporters on this story: Cotten Timberlake in New York at ctimberlake3@bloomberg.net.

Last Updated: August 24, 2006 16:21 EDT