Boot Barn Holdings Inc (BOOT) 2020 Q3 法說會逐字稿

Good day, everyone.

And welcome to the Boot Barn Holdings, Inc.

Third Quarter 2020 Earnings Call.

As a reminder, this call is being recorded.

Now I'd like to turn the conference over to your host, Mr. Jim Watkins, Vice President, Investor Relations.

Please go ahead, sir.

Thank you.

Good afternoon, everyone.

Thank you for joining us today to discuss Boot Barn's Third Quarter Fiscal 2020 Earnings Results.

With me on today's call are Jim Conroy, President and Chief Executive Officer; and Greg Hackman, Chief Financial Officer.

A copy of today's press release is available on the Investor Relations section of Boot Barn's website at bootbarn.com.

Shortly after we end this call, a recording of the call will be available as a replay for 30 days in the Investor Relations section of the company's website.

I would like to remind you that certain statements we will make in this presentation are forward-looking statements.

These forward-looking statements reflect Boot Barn's judgment and analysis only as of today, and actual results may differ materially from current expectations based on a number of factors affecting Boot Barn's business.

Accordingly, you should not place undue reliance on these forward-looking statements.

For a more thorough discussion of the risks and uncertainties associated with the forward-looking statements to be made during this conference call and webcast, we refer you to the disclaimer regarding forward-looking statements that is included in our third quarter fiscal 2020 earnings release as well as our filings with the SEC referenced in that disclaimer.

We do not undertake any obligation to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise.

I will now turn the call over to Jim Conroy, Boot Barn's President and Chief Executive Officer.

Jim?

Thank you, Jim, and good afternoon.

Thank you for joining us.

On today's call, I will discuss the highlights of our third quarter results and provide an update on each of our 4 strategic initiatives.

Following that, Greg will review our financial performance in more detail, and then we will open the call up for questions.

We're very pleased with our third quarter results, which reflect broad-based strength across the business.

Consolidated same-store sales increased 6.7% on top of a 9.2% increase a year ago.

The combination of continued full-price selling, a significant increase in exclusive brand penetration and leverage in SG&A fueled 80 basis points of EBIT margin expansion and earnings per share of $0.85.

On a normalized tax basis, our EPS grew by 23% to $0.81 versus the third quarter of last year.

The team continues to execute well against each of our 4 strategic growth initiatives, resulting in another very strong quarter.

I would now like to review the third quarter highlights for each initiative, beginning with driving same-store sales growth.

During the third quarter, consolidated same-store sales grew 6.7% with solid growth of 5.7% in our stores.

The growth in brick-and-mortar marks our 11th consecutive quarter of positive store comps.

We are very pleased with the healthy retail, same-store sales growth we saw during the holiday quarter, on top of 8.6% growth in the prior year period.

E-commerce sales accelerated in the third quarter to 11%, while continuing to contribute strong profitability.

Consistent with the past several quarters, our same-store sales results were fueled by growth across virtually all geographies and major product categories.

Texas performed in line with the chain average.

From a marketing perspective, we continue to evolve our customer segmentation work.

Over the past 2 years, we are focused on refining our marketing and media mix to target 3 distinct customer categories: Western, work and fashion.

Looking ahead and into fiscal 2021, we believe there is an opportunity to not only further expand into an adjacent customer segment, which we have defined as country, but also to further refine our methodology to become even more relevant to each of our customers.

We believe that targeting this expanded consumer segment will enable us to continue to grow our customer database and drive additional traffic to both our stores and e-commerce site.

From a merchandising perspective, we saw continued strength in all major product categories with the most notable growth coming from ladies' Western apparel, hats and men's Western apparel.

Work boots and work apparel performed in line with the chain average.

Ladies' Western boots were positive for the fourth consecutive quarter.

I'm very proud of our merchandising team who continues to drive growth across the business by refining our assortment, expanding our offering and enhancing our in-store merchandising.

Our stores team performed extremely well during the busy holiday shopping period.

We were able to hire appropriate levels of seasonal associates in a competitive job market, enabling us to service our customers during the peak holiday period.

Our rollout of new POS hardware and in-store digital tools went very smoothly, further enhancing the in-store experience.

Finally, we have seen nice progress in our omnichannel initiatives with significant use of our BORIS, or Buy Online, Return In Store functionality.

We believe this will provide us with competitive advantage versus pure-play digital competitors and enable us to convert online returns into additional sales in the stores.

Moving to our second initiative, strengthening our omnichannel leadership.

Over the past several quarters, we have discussed our efforts to improve the EBIT contribution of our e-commerce business by reducing promotions, cutting back on EBIT-eroding pay-per-click advertising and removing low-margin SKUs from our online assortment.

As we've began to cycle these efforts, the e-commerce business has returned to double-digit comps.

Third quarter e-commerce sales growth accelerated to 11% with bootbarn.com growing 31%, and the remainder of the online business down mid-single digits, driven primarily by a reduction in pay-per-click spend.

Our e-commerce operating profit grew significantly more than our top line growth, demonstrating the effectiveness of our EBIT growth initiative.

We are in the process of repositioning the Sheplers brand online in an effort to rebuild that business.

While that site will continue to be a valued price offering, the goal is to upgrade the creative look and feel of the site and continue to become less reliant on paid traffic.

Ultimately, we are focusing on building the lifetime value of the core Sheplers customer.

This will be an ongoing effort over the upcoming fiscal year, and we believe it will have a long-term benefit.

We continue to work on initiatives that will enhance the digital experience inside our stores, such as our rangefinder touch screens.

These in-store digital hubs allow our customers the ability to quickly find boots in the store that fit their specific needs.

These portals help our customers quickly narrow their focus to the most relevant items which has increased the conversion of our in-store shoppers.

It also helps store associates acquire product expertise that will allow them to better meet the needs of our customers.

Our endless aisle of products available online or our WHIP portal is also driven off of the rangefinder touch screen.

This same technology provides the stores with a very efficient platform to manage all omnichannel transactions as it integrates seamlessly with online purchases, online returns and our customer loyalty program.

Now to our third strategic initiative, exclusive brands.

During the third quarter, exclusive brand penetration exceeded 22% of total sales, an increase of more than 600 basis points compared to the prior year period.

This record growth in exclusive brands is being fueled by extremely strong growth in each of our 5 major brands.

Our Cody James and Shyanne brands are the #2 and #4 brands in our stores based on sales volume.

Our exclusive product lines with country music celebrities Miranda Lambert and Brad Paisley continue to grow, and we believe are introducing new customers to Boot Barn.

Our new work brands Hawx and Cody James Work, have also seen very strong growth and acceptance.

We've been able to achieve success in some of the higher volume boot and apparel categories, which has resulted in an inflection point in the penetration during fiscal 2020.

It was encouraging to see consumer receptivity in categories that we expected to be more difficult to build, such as the work business and men's denim.

Having said that, while we believe that exclusive brands will continue to show solid growth in fiscal 2021, the rate of change will likely normalize back to approximately 300 basis points of penetration.

Finally, our fourth initiative, expanding our store base.

During the third quarter, we opened 3 new stores, bringing our total count to 251 stores across 33 states at the end of the quarter.

We continue to believe in our ability to expand our store base to 500 stores across the country in both new and existing states.

Our expansion will be driven by a combination of organic growth and tuck-in acquisitions, with a targeted payback of 3 years or shorter.

We are on track to reach our new store openings goal this year, including our first stores in the states of Pennsylvania and Ohio in the coming weeks.

Turning our attention to current business.

Consolidated same-store sales quarter-to-date continue to grow, and are approximately plus 5% through the first 5 weeks of the quarter.

We've seen growth in both channels while cycling strong performance in the fourth quarter of each of the past 2 years.

The growth continues to be broad-based across most merchandise departments with some softening of the perennial strong work side of the business.

We believe that this top line dynamic in the work business is transitory.

And as a result of outsized growth in that category last year, which was driven by rainier and colder weather in many of our key markets in January 2019.

Similarly, Texas was positive this January, but below the store average as it lapped an 18% comp last year.

Merchandise margin has continued to build as we have maintained our full-price selling philosophy and exclusive brands continues to expand in penetration.

As we look forward to the balance of the year, including rodeo season in Texas, we feel good about how we are positioned over the remaining months of fiscal 2020.

Now I'd like to turn the call over to Greg Hackman.

Thank you, Jim.

Good afternoon, everyone.

In the third quarter, net sales increased 11.8% to $284 million.

Sales growth was driven by a 6.7% increase in same-store sales, and sales from stores added over the past 12 months.

Gross profit increased 13.3% to $97 million or 34.2% of sales compared to gross profit of $85.7 million or 33.7% of sales in the prior year period.

The increase in gross profit rate resulted from a 50 basis point increase in merchandise margin rate, primarily driven by growth in exclusive brand penetration.

Operating expense for the quarter was $62.1 million or 21.9% of sales compared to $56.4 million or 22.2% of sales in the prior year period.

The increase in operating expense was primarily a result of additional costs to support higher sales and expenses for both new and acquired stores.

Operating expense as a percentage of sales decreased by 30 basis points as a result of expense leverage on higher sales.

Income from operations was $35 million or 12.3% of sales in the quarter compared to $29.3 million or 11.5% of sales in the prior year period, representing approximately 80 basis points of improvement in operating margin.

Income tax expense was $7 million in the quarter based on an effective income tax rate of 22.1%.

We expect our tax rate for the fourth quarter to be approximately 25.2% of sales.

Net income was $24.8 million or $0.85 per diluted share compared to $19 million or $0.66 per diluted share in the prior year period.

Net income per diluted share in the current year period includes a $0.04 per share benefit due to income tax accounting for share-based compensation.

Excluding this tax benefit, net income per diluted share in the current year period grew 23% to $0.81 compared to $0.66 in the prior year period.

Turning to the balance sheet.

Inventory increased approximately 9.4% on a comp store basis compared to last year.

On a consolidated basis, inventory rose 22% to $275 million compared to a year ago.

This increase was primarily driven by an increase in the inventory at our Fontana distribution center to support the growth of exclusive brands, comp store inventory, inventory for new and acquired stores added in the last 12 months, and inventory for the stores we expect to open during the fourth quarter.

As of December 28, 2019, we had a total of $154 million of debt outstanding, including $45 million drawn on our $165 million revolving credit facility.

We had $45 million of cash on hand, and our net debt leverage ratio at the end of the third quarter was 1.1x.

Turning to our outlook for fiscal 2020.

We have updated our guidance and now expect same-store sales to increase approximately 7%, and earnings per share to be in the range of $1.81 to $1.83 per share based on our estimated weighted average diluted share count of 29.3 million shares for the full fiscal year.

This compares to our previous guidance of $1.67 to $1.75 per share.

Our income from operations is now expected to be between $81.7 million and $82.3 million, and we now expect net income for fiscal 2020 to be approximately $53.1 million to $53.5 million.

Interest expense is expected to be approximately $13.3 million.

As we look to the fourth quarter, we expect same-store sales to increase approximately 5%, with total sales between $212 million and $214 million, and net income per diluted share to be in the range of $0.36 to $0.38 per share.

Now I'd like to turn the call back to Jim for some closing remarks.

Thanks, Greg.

Our third quarter results reflect continued focus on our key strategic initiatives.

Importantly, we are converting our top line success into significant bottom line improvement, thanks to an enhanced merchandise margin and operating expense leverage.

The high level of execution across the organization has us well positioned to deliver a strong finish to fiscal 2020 and carry our momentum into next year.

I want to thank the entire boot Barn team for their continued hard work and dedication to growing the Boot Barn brand, and delivering these strong results.

Now I would like to open up the call to take your questions.

Hector?

(Operator Instructions)

Your first question comes from the line of Matthew Boss with JP Morgan.

And congrats on another nice quarter.

So on the margin front, what's the expectation for gross margin and SG&A embedded within the 4Q forecast?

Any help with the puts and takes, near term, I think, would be helpful.

Matt, it's Greg.

We expect exclusive brands to grow about 5 percentage points in Q4, and that's on top of 4 points of growth last year in Q4.

So as we think about merchandise margin, we're thinking about 50 basis points or so of merchandise margin expansion.

We do have offsets to that, we expect higher shrink this year.

And we also expect to continue to see slightly higher e-comm outbound freight, which we also commented about in Q3.

And finally, we have some deleveraging from higher buying costs for the product design and development team.

So merchandise margin might expand slightly, but it won't be that 50 basis points that results from the exclusive brand penetration.

And then on the SG&A line, we do have some pressure from higher store labor costs, higher health insurance and higher stock-based compensation.

So SG&A, we expect to be roughly flat or maybe plus or minus 10 basis points, that kind of thing.

Okay, great.

And then just a follow-up.

Can you speak to your -- can you just outline your comfort with the quantity and quality of your current inventory?

Maybe if you could just provide a breakdown of the 22% dollar bill to exit -- exiting the quarter?

Sure.

About 9% or -- it's about 1/3 of the 22% is the increase in the comp store inventory and we feel pretty good about that, right?

When we started the third quarter, that same metric was up 15%, and we've gotten that down to 9.4%.

The second component is inventory that's in new stores or is being staged for the upcoming opening of new stores, about a dozen stores over the next couple of months.

And that's about another 1/3 of that 22% increase.

And then the final piece is simply back stock for the exclusive brand product that is now in the stores and I think everybody or most of the folks that follow us closely, recognize that most of the product from our third-party vendors are replenished out of their distribution center, but for exclusive brands, we need to replenish that from our own distribution center.

So that's the final 1/3 of it.

And in terms of the quality of it, the aging is in line with last year, and the quality and salability of it, we feel pretty good about.

So I think we're in a pretty good position from an inventory standpoint.

Your next question comes from the line of Oliver Chen with Cowen & Company.

Oliver?

Oliver are you on the line?

Our following question comes from the line of Peter Keith with Piper Sandler.

Greg, maybe a follow-up question just on the SG&A outlook.

So it sounds like the rate would be flat year-on-year on a comp of 5. You're calling out -- well, it sounds like maybe some headwinds around the store labor and health insurance.

Is there any, I guess, change here that's happened in the last couple of months that's causing those items to start run rating at a higher level that could continue forward for a little bit?

Yes, we -- great question, Peter.

We haven't really completed the 2021 planning process to understand that.

We have seen some wage pressure, and specifically in Q4, the volumes are a little bit less that we weren't able or don't expect to be able to leverage that as much.

The higher insurance -- we're self-insured on insurance, and we had a larger claim that, again, we view as a transitory item.

So I don't expect these things to be in the run rate go forward.

Having said that, it's early days of the 2021 planning process.

When we talk about leverage points, as you know, Peter, we typically talk about them on the full year.

And so this quarter, we're not getting the leverage we'd like on a plus 5. We did see some nice leverage earlier this year, so some of it is also timing of expenses, et cetera.

Okay, makes sense.

And one quick follow-up on the guidance, just to reconcile the full year versus the quarterly.

Does the full year guidance include the -- like the $0.04 tax benefit with fiscal Q3?

Yes, that's correct.

Peter, we always give a full year update based on GAAP EPS.

And then we always try to anchor everybody into how much benefit we've received from the stock-based compensation.

Okay, great.

And then pivoting to a more strategic question around Sheplers for Jim.

Is -- has that business gotten better, now that we're into January and even through the holiday season, when you look at that pay-per-click dynamic that happened in fiscal Q3.

And what was it that -- does it get more competitive out there that caused you guys to kind of pull back on some of the customer acquisition costs?

Just trying to frame up how long the Sheplers business could remain pressured.

Well, the e-commerce business in total had been sort of mid-single digits, high single digits and then double-digit comps.

That was pretty much always driven by bootbarn.com's outsized growth and sheplers.com being a bit of a drag.

The -- if I were to look at sheplers.com by itself, Q2 and Q3 were in line, Q4 is probably pretty much in line with Q3.

So it's -- that's not a new dynamic where the consolidated e-commerce business is -- has been strengthening top line and very much strengthening bottom line.

But it's always been in favor of bootbarn.com, and that's quite all right for us, right?

Bootbarn.com is the omnichannel brand.

It's the greater lifetime value customer.

It's the customer that can really participate in BORIS and BOPIS, and the Sheplers business, the business that we're leaving behind, we can measure the savings in pay-per-click spend and the loss in sales in pay-per-click and essentially impute the [roll out] that would have -- it would have taken to get that business and it would have been EBIT eroding.

So we sort of never really blink on a sheplers.com business sales decline, if it's predominantly driven by the lack of pay-per-click traffic because we know we're making more money, because the roll out is just unprofitable.

And then we get to the end of the quarter, when we close all the books financially, we've seen a really, really nice pickup in year-over-year EBIT dollar contribution from the e-commerce business and an operating margin leverage in the e-commerce business.

So now going forward, we are trying to get to the point where Sheplers can be more reliant on free traffic and less reliant on paid traffic, emulating more of the Boot Barn sort of composition of customers.

So right now, we're in the process of testing a new creative look and feel for sheplers.com.

If you were to type in sheplers.com, there's a 1/3 chance approximately that you'd get the new creative and a 2/3 chance that you get the old creative.

And we feel pretty good about the early stages of the new look and feel.

And we'll continue to expand that to more and more traffic as we get comfortable with the results.

But I think your question was, has that changed sequentially?

And the quick answer to that is it hasn't.

Your next question comes from the line of Oliver Chen with Cowen & Company.

Jim and Greg, regarding the work business, your comments were helpful.

What are your thoughts about the nature of the comparisons ahead?

And approximately, what's the magnitude of a percentage of total that's work?

Would also love more thoughts on the opportunity in the country segment and what that means in terms of customer targeting relative to product targeting and how big that opportunity is and timing?

Sure.

So on the first piece on the work business -- let me put the entire sort of business in context in terms of department and classifications.

So when you think about most of the big departments between Q3 and Q4, many of them actually improved.

So Western boots men's and ladies', both improved sequentially.

Apparel -- men's Western apparel, ladies' Western apparel improved sequentially.

Accessories improved sequentially.

So the underlying tone of the business is pretty good, if not very good.

The work boots business, while still positive, decelerated sequentially, and the work apparel business decelerated a lot and actually turned negative in the beginning of fourth quarter.

And that's kind of the first time we've had any department, any major department turned negative on us.

It doesn't really [fuss] us internally if I'm honest.

We're up against sort of monster numbers in the fourth quarter of last year in the work business.

So work apparel as an example, in the fourth quarter last year was a plus 35%, work boots was plus 20-something-percent.

In terms of what happens for the balance of this particular quarter, and then as we get into Q1 and Q2.

For the balance of the quarter, two things happen: One is the year-over-year compare gets a little bit easier, and the percentage of the business goes down a bit as we evolve throughout this quarter.

Because as we get into Texas rodeo season, the Western side of the business becomes a larger percent penetration.

So to give you rough numbers, I think the work apparel penetration will go from almost 9% to about 7.5% throughout the quarter as we get -- as we enter the rodeo season, and the Western business then picks up, and [that's just] work apparel.

On the country piece of your question, part of what's been driving our comps for 10, 11 quarters now and what's been driving our stores comps, specifically, is an increase in transactions.

And a big part of the increase in transactions is more customers.

Literally on a comp store basis, we can track how many customers are being added to the database.

So a couple of years ago, we expanded from work and Western, to be work, Western and fashion.

Now we're saying, well, we can further refine Western and have split it between sort of a core Western customer that will potentially live on a ranch or ride a horse and work outside in a cowboy hat versus somebody who might be wearing a ball cap that also wears cowboy boots and might be going to a country music concert.

So the goal there is to sort of tweak and expand the marketing a little bit from a creative standpoint, and to change the media mix a little bit to get customers in that one concentric circle outside of a core Western customer.

It's not dissimilar to what we did on the ladies side with adding this fashion segment.

And here, we actually think we'll be able to continue to grow new customers into the Boot Barn brand.

And frankly, this country segment, if you will, probably has more growth potential in it than even fashion does because I think it's a very big part of the kind of U.S. customer base.

So that's the strategy there.

And the underlying goal is to get more customers into the database, into our B Rewarded loyalty program and to drive foot traffic into the stores.

So hopefully that...

And Jim, regarding country and that opportunity, does that interplay with the development of your internal private brands or will that be third-party brands?

How that takes place on the product side?

And final question, Greg, merchandise margins have been impressive.

I get -- I was curious about the years ahead with merchandise margin opportunity, and also how that intersects with the apparel trends you were seeing.

And if you feel comfortable that you can work through apparel despite the performance being up against a tough compare.

Like how are you feeling with the cleanliness of the inventories on the work apparel side?

So on the first piece, on the exclusive brand side, you're right.

We do map our exclusive brands to the customer segments to a degree.

We already have 2 brands that arguably are going after a "country customer" and that's Moonshine Spirit by Brad Paisley and Idyllwind fueled by Miranda Lambert.

I think over time, we'll likely add a brand, probably on the men's side, that is more specifically tailored to the Country customer.

That is not in the next 6 or 12 months though.

But that -- we will kind of be looking for new brand opportunities going forward.

But at the moment, we're going to continue to run with Cody James and Shyanne, Moonshine Spirit, and Idyllwind.

And that, to some degree, does map to Western and country already.

And then, Oliver, it's Greg.

On the merchandise margin expansion, I do think that over the coming years, the primary driver will -- of that will be the exclusive brand penetration growth and that we'll continue to get 1,000 basis points or perhaps more out of each point of penetration growth.

So that will be the primary driver.

But I do think we have the opportunity to continue to, I'll say optimize our markdowns and our promotions, to get more full-price selling out of the business.

And as it relates to clothing, I mean, we've had some really nice margin expansion in ladies' Western apparel, for example.

And again, I expect that we'll continue to do those things very well.

Relative to the work apparel business, we don't have a lot of markdown exposure in that category.

The product that we sell the most of or perhaps the best of is Carhartt product.

And if you've followed Carhartt, a lot of their product has been in the line for many years, and there really isn't any markdown risk associated with buying heavy outerwear, for example, and carrying it over to the next year.

We don't mark that down just to get rid of it.

So I think we'll continue to see healthy merchandise margin expansion for the coming years.

Your next question comes from the line of Janine Stichter with Jefferies.

Just hoping you could talk a little bit more about your omnichannel initiatives?

I think you mentioned Buy Online, Return In Store being particularly successful.

So any color you can give there maybe on attachment rates you're seeing when someone comes in a store?

How much they're buying other items?

And then also maybe an update on what you're seeing with Buy Online, Pick-Up In Store, which I think you launched fairly recently?

Sure.

On BORIS, Buy Online, Return In Store, it's been a bit of a pleasant surprise, if I'm honest.

We -- I think we're on record saying that about 2/3 of our bootbarn.com returns come back into the stores and that's a composite average of states where we have lots of stores like California and Texas, and states where we have no stores, like New York and Pennsylvania.

If we were to look at states where we have stores, the number was even -- pretty much a lot higher than the 65% or 68% that we've quoted for BORIS in general.

So that is an opportunity for the stores to get more customer traffic, to turn them into and get them back into a pair of boots or a pair of jeans that's in the store.

In terms of the conversion of how many of those folks buy, we do need to and are working on a way to measure that more precisely.

I can tell you anecdotally that we'd say 30% to 40% of the customers that come in to return product, buy something.

But we haven't been able to measure that specifically yet, simply because our online system and our stores system were developed completely separately through 2 different software vendors, and we haven't fully integrated them from an in-store return and then purchase standpoint.

But, stay tuned, we'll get that done in the next 2 quarters, I hope.

In terms of BOPIS, BOPIS has been a pretty small piece of our business.

We had turned it on in the beginning part of the quarter.

We had some networking problems.

We actually had to go dark for a little bit.

It will be back up and running.

I think that will be a nice addition to our omnichannel capability, but I think it will be relatively minor.

Okay, great.

And then just one more on gross margin.

I think you mentioned some deleverage on design team costs, is there a way we should think about a relationship between the growth in private brands and the expense you might see in gross margin as you need to expand the design team to support that growth?

Good question, Janine.

We've largely seen the cost -- or will see that cost of that build-out of the product design and development team as we cycle through Q4.

So most of that is all contained into this year.

We had a step function change over the last 2 years in terms of our staffing for that team.

And while we may add one or 2 people, this was the big -- we saw the big increases in staffing, the last 2 years.

So I think this will be largely behind us this year.

Again, we haven't done the fiscal '21 plans, but that's how we've kind of talked about the growth of that group as we've entered those budget discussions.

Your next question comes from the line of Jonathan Komp with Robert W. Baird & Co.

I wanted to ask a question.

Just following up on the work boots and work apparel categories.

Maybe first, if you wouldn't mind, just more broadly, beyond just the current quarter, maybe current update on how much each of those categories makes up as a percent of sales?

And then related to that, it doesn't sound like you're seeing weakness in any particular pockets of categories or geographies that would make you think it's anything more of a lasting trend.

I just wanted to maybe follow up and clarify that.

Sure.

In terms of rough percentages, work boots is about 20% of total sales, work apparel is 7% or 8% of total sales on an annualized basis.

No real major geographical differences.

I would say a couple of things that we have seen on -- if we look at one of our bigger work businesses, non-FR related, non-oil patch related, is California.

And I think in the last 4 or 5 years, we've been public, we've either never talked about weather or talked about it once.

And last year in January, we had almost 5 inches of rain in California, in Southern California.

This year, in January, we had less than 0.5 inch.

So and we -- as you well know, Jon, we're based in Southern California.

When it rains out here, we know we're going to have a good day in the stores and there's 50-some-odd stores down in California.

That is a very big difference for our work customer and a huge difference for our work apparel customer who is working either all day or, in some cases, all night outside in the rain and the proper gear is sort of incredibly important to them.

So we missed that business in California, to a somewhat lesser extent, in Texas, it was much colder last year than it was this year.

And we saw a similar kind of slowdown in the work apparel business.

I do think both of those will be behind us pretty soon, who knows maybe we'll get some inclement weather coming up, and we'll get some boost in sales.

But this is -- it's a winter time, it's kind of rainy season dynamic and we just, unfortunately, had the unfortunate scenario where we had less inclement weather than we had last year.

Okay, that's very helpful.

And then maybe just one broader question, not asking specifically.

But if I look at the last 3 years here, you've outperformed the targets on the comps and driven a lot of bottom line earnings growth.

And as you look forward, is there any thought to -- if comps were to come back within your long-term, 3% to 5% range.

Is there anything that would impact you from delivering on your model going forward?

Or how to just frame up bigger picture since you've been so far above the targets in the last few years?

Yes, John, it's Greg.

I can't think of anything that would get in the way of kind of that long-term algorithm holding true with a comp of plus 4% or thereabouts.

Again, we haven't developed our 2021 plan.

So it's hard for me to speak with any specificity.

But there's nothing structural that has come up that causes us concern in terms of that kind of 20% EPS growth.

Your next question comes from the line of Paul Lejuez with Citi.

I think we've been talking a bunch about exclusive brand penetration as a driver of merch margin.

I'm curious this quarter if lower promotional cadence also contributed to margin expansion?

Or are you at a point now or as we think about -- just looking forward, that lower promotions can really be a driver on that merch margin line?

In the third quarter, exclusive brands was the bigger driver, the promotional posture and the full-price selling was a small driver.

In fourth quarter, we're still kind of full-price selling.

There's not a lot of store-wide country broad-based sales that we have left in our DNA.

There's a few times of the year during rodeo season, where we get a little bit promotional but most of the big sales are kind of out of our system, we still look for opportunities to shorten a clearance event or make it less pronounced with shallower discounts.

But going forward, I think most of the margin expansion will be the growth in exclusive brands and perhaps some larger and ongoing discounts from vendors as we continue to grow and buy more product from them.

We're always looking for ways to make our vendors more efficient and hope that they'll pass those savings along to us.

Got it.

And then can you talk about the average transaction size in stores versus online?

And how that's changed over the past several years?

Sure.

The -- an in-store transaction is just -- on average is just over $100 and it's 2 units.

And as I often say, with the management team, while it's average it's not necessarily typical because if boots are in the transaction, sometimes it's one item, it's much more expensive.

Or if it's just apparel, it could be several items, it could be less than $100.

So the store transaction is just over $100, and it's about 2 units.

The online transaction skews more heavily to boots.

Accordingly, the basket size is a bit bigger than the store transaction.

But paradoxically, the unit per transaction are lower, just over 1. In terms of how that's changed over time.

The dynamic hasn't really changed all that much.

There's been small ebbs and flows here or there, but we haven't seen a wholesale change in how our customer has shopped online versus in-store over the last 3, 4, 5 years.

Got you.

And then how about the private brand penetration online versus in-store?

So the store penetration is higher, and there's probably a couple of reasons for that.

One is the store assortment is a little bit narrower than the online assortment, right?

The online assortment has the longer tail, the ability to order directly from vendors, et cetera.

And the second is we have the ability to really bring the features and functions of our exclusive brands to life in the store, more so than we have online.

So that composite penetration number of 22% is higher in the stores and double digits or just about 10% in -- on our online business.

Your next question comes from the line of Mitch Kummetz with Pivotal Research.

On the work business, I'm just trying to do the math.

It sounds like for the first 5 weeks of this month, maybe 30% of your businesses has work somewhere in there.

And it's maybe running barely positive when you sort of add the 2 pieces up.

Can you say what the impact of that is on overall comp, the 5% that you guys are reporting for the 5 weeks?

I mean, is it a couple of hundred basis points or somewhere in that range?

Yes.

Yes, your math is, I think, pretty close.

I mean, it's just under 30% of the total business, and it's probably pulled our comp down by 2 points.

Yes.

Okay.

All right.

And is there any -- on the inventory side, are there any issues in terms of some excess because of that?

I mean it sounds like it's kind of weather related.

Are you guys -- do you have any excess there because of the softness in those categories, particularly in those markets?

No, not really.

I mean, it's -- most of the work boots business, and most of the work apparel business is kind of in the assortment for several quarters, if not year round.

And we've been -- we tend to clear goods that don't sell as we see them underperforming.

So I don't -- we don't expect a major margin erosion from the slightly slower business in work.

The other thing that happens is as we get into the first quarter and the second quarter, the compares become a little bit more manageable than they were in January and in this quarter.

So I think we're not terribly worried about it.

We wish it would rain a little bit and get a little bit colder in some of our core markets, but we'll get past this, and the Western part of the business will begin to accelerate as a percent of the business.

And I think with the -- if you look at our comp and normalize it for a 1 or 2 points of hurt on work, we're still pretty happy with where we're at right now.

And I think it's -- we'll probably just continue to increase as we get further into the quarter and get closer to rodeo season.

Got it.

And then on Sheplers, you guys are obviously transitioning that business, getting away from pay-per-click.

Is there any way you could speak to the impact that that's had on comp and margin?

I mean, it's obviously dragging down the comp, given that it was negative for the third quarter.

I would guess, on a year-over-year basis, the transition there is margin accretive, but is there any way you can, again, sort of isolate the impact that Sheplers had on Q3 comp and margin?

Hard to give you a specific number for the comp piece, it's a little bit less than 50% of our e-commerce business, which on a full year basis is 17% of sales.

So call it, 7% or 8% of total business and it's down mid-single digits.

I guess, you can get to a comp erosion there.

The retail world, investors and analysts are fixated for good reason on same-store sales increase.

We kind of look at our e-commerce business on a year-over-year EBIT growth, almost a same-store EBIT contribution or EBIT growth perspective.

And while we'd love to be putting up plus-12 comps consolidated because we're driving unprofitable same-store sales on e-commerce, we are laser-focused on EBIT profitability.

And again, the sheplers.com business, while top line is down, the bottom line for e-commerce is up significantly.

And again, while that impacts the headline number and the consolidated comp number, it's really been working for us from an EPS and EBIT and profitability standpoint.

Your next question comes from the line of Tom Nikic with Wells Fargo.

Quick follow-up on the gross margins.

I think, Greg, when you were giving the puts and takes in Q4, you mentioned something about a little bit of a shrink headwind.

Can you sort of give a little color around that and maybe the magnitude of how much that should affect the Q4 gross margin?

Sure.

So the shrink accrual this year is higher than last year as a result of the -- what we would describe as the interim inventory that was held in the September, October time frame this year.

So that rate was higher than what we wound up with at year-end last year.

We're in the process of completing our physical inventories in the stores and cycle counts in the distribution center.

And so it's too early to tell if we'll have any favorability in the shrink rate this year.

But last year, we called out that shrink was a benefit.

We didn't quantify it on the call last year, but when we did our Q4 call, we said we had strength in regular and full price selling, exclusive brands that have benefit from shrink.

We typically don't call out things that are 10 basis points, so I think you could assume that shrink was probably 20 or 30 basis points of help last year, and again, we're accruing at a slightly higher rate.

Got it.

Okay.

Also I think you talked a little bit about the work apparel business slowing down a little bit, and there's a big supplier in the space who has talked about some slowing trends there.

Is there something going on from a macro perspective in the oil patch, the Southwestern U.S., that [indiscernible] maybe causing a little bit of disruption?

I don't think so.

In the oil -- employment is still very strong.

The -- we had some really nice growth in each of the last 2 years in many of these markets.

So we have some strong compares.

But we haven't seen sort of massive layoffs or any real disruption in employment in oil patch.

And ironically, when we look at our work apparel business.

It doesn't split out perfectly like this, but work apparel splits into flame resistant work apparel and sort of regular or non-flame resistant work apparel.

And the part of the business that's actually under more pressure is the non-FR or the non-oil patch work apparel piece.

So I really can't pin it on anything that has to do with oil.

I think part of it is cycling some really -- 8 consecutive quarters of really, really strong growth in work boots and work apparel, almost double digits in both of those departments.

And the weather that we called out, which has been real, I mean, we -- again, we live out here in Southern California, and we can recall last year's business being helped to some degree by weather.

And it's just been sunnier and much hotter here.

And the 5 inches of rain that we got last year in January, we just didn't see this year.

And we saw some similar dynamics more on the temperature in Dallas than in Houston.

So I think the work boots business will be a solid grower, even in this quarter.

I think the work apparel business, we're going to have to try to make up for some lost ground.

And as we get into Q1 and Q2, the comparisons become much easier.

So I think we'll be able to roll through that.

The really nice thing, though, is we have often spoken about the diversified business model.

And you're seeing it here, right?

We've got one of our bigger departments, work apparel, comping negatively and yet, we're still at a plus 5. We're guiding a plus 5, and that's being buoyed by a bunch of other businesses that are picking up the slack.

So the underlying diversification of our product classifications is one of the underpinnings of the strategy and it's playing out perfectly.

Your next question comes from the line of John Morris with D.A. Davidson.

My congratulations on a great quarter.

Kind of surprised you didn't get the question so far, but I've got the China sourcing question.

So what are you hearing from your partners?

Maybe remind us a little bit about the percent of your goods, and I think you've broken it down before between private label and otherwise, that are sourced out of China?

And whether or not you're hearing about any potential disruption?

Are you concerned?

Or any contingency plans you might be making if there is any kind of a potential delay given the Corona virus?

Yes.

John, it's Greg.

And about 40% of our product comes from China via a third-party branded vendor and about 10% of our products originates through our exclusive brands via China.

It's obviously a very dynamic situation that's changing seemingly daily.

And what we've heard from some vendors is that they think that given the Chinese New Year vacation or holiday was extended by a week or two weeks, that they expect their deliveries to be delayed by a week or two weeks.

That's about the extent of what we've heard.

In terms of our exclusive brands, we have about $1.5 million worth of receipts that are due to arrive before -- between now and before April 1. And so we don't see any meaningful risk to the top line as a result of that.

We've talked about the fact that our inventory levels are in good shape, both in our stores and also in our distribution center and as opposed to some other retailers that you may follow, our turn is a bit slower.

So I think that advantages us a bit in this situation as well.

So at this point, I wouldn't say we're really concerned about it, but obviously, we're watching it closely.

Yes.

And I assume none of those factories in Wuhan, they're probably more in Guangdong, just checking to see where some of those locations are where...

Yes, I think that's right.

At least from a finished-goods perspective, we don't have that exposure, as you've described, I'm not sure where the raw materials originate.

So there could be a little bit of exposure, but we haven't heard, again, any alarm bells going off.

Right.

And then finally, Jim, new markets, I guess, kind of the most recent ones that you've been tracking and updating us on North Carolina, Virginia.

I don't think you've opened anything in Pennsylvania or Ohio yet, but wondering how the stores are performing, still consistent with what you've talked about before in terms of the ramp?

So the stores in the new markets are still performing very well.

The ramp is a little bit harder because in some cases like Virginia, there -- we're 2 stores there now, Virginia Beach originally, now Roanoke.

Roanoke is new news for you guys.

Roanoke is exceeding its plan quite handily.

So we feel great about that.

But we haven't cycled a full year, so we don't have a ramp.

I think if you're thinking of modeling it, the first year comp of plus 10, second year comp of a 7. 5 and a third year comp of a plus 5 is the way we tend to ask you guys to model them.

Over the past 2 years, we've done a little bit better than that.

But that's what we've -- that's how we kind of try to guide the modeling of year 1 stores going, coming into the comp base in year 2.

And in terms of Pennsylvania, Ohio, you're right, we don't have any stores there yet.

In the next 90 days, we should have stores in both states.

And we feel great about the locations that we found, and some of those are under construction right now.

Your next question comes from the line of Sam Poser with Susquehanna.

I guess, one question I have is just a gross margin question, can you tell us -- I mean, was the gross margin up on your -- on the branded product?

Or was the entire -- or was that down on the branded product for the quarter?

Sam, it's Greg, and I don't look at the reporting that way.

I'm not sure it even exists, it probably does, but I haven't seen it.

My suspicion is that it was up on both products, both the exclusive brands and the branded product because as Jim mentioned, at the ICR conference, we expanded about 80 basis points.

So that likely included branded products as well as our exclusive brand penetration growth.

Okay.

And then secondly, with Sheplers, since you don't have any stores, I mean, what -- and how are you going to let people know to go to the Sheplers website?

From a marketing perspective, I understand you're going to clean up the site, and make it look better, to make it easier, so once they get there, you should do pretty good.

But given you're not going to do the pay-per-click, how can you -- what are you going to do to drive people to the site?

Boot Barn makes sense, you've got all the Boot Barn stores, they see that.

They go "Oh, let me check out the website", but that -- you don't have any Sheplers stores, which makes that a little complicated.

Right.

No, it's a good question.

So it's a -- how do you convert to free traffic?

There's a couple of things there.

We can continue to tweak our SEO to get free search traffic.

We've really been expanding our e-mail capture on Sheplers and trying to build a database there that replicates, to some degree, what we've done on the Boot Barn side.

And then finally, that's -- that particular customer, while we're modernizing the look and feel of the site, that particular customer is searching for the lowest price available for the boot.

And it's a price-driven customer.

So they tend to find Sheplers because of the fact that Sheplers is always -- essentially always the lowest price on any given item.

We have contemplated doing a little bit of traditional marketing.

So should we do some sponsorships for Sheplers in rodeos?

Or should we do some radio advertising that's specifically for Sheplers?

And we might do some of that.

We couldn't afford to do television.

I don't think any digital native brand could afford to do TV, but we can do some of the other traditional marketing and perhaps gain some customers that way.

And then lastly, in your -- in the big Sheplers stores, whether it's in Mesquite or outside of various cities, are -- you're using, it looks like about 60% of the real estate for presentation within those stores.

Have you considered multi-use to make the entire space more productive to use, to reconfigure so you could do something else with that empty space that sort of cut off generally about 2/3 of the way back in the store, just eyeballing it, it looks like...

Yes.

Yes, so it's a very good question.

Just for the benefit of everybody on the call, there are some stores, 7 specifically, Sheplers, that were built very oversized before we ever acquired them, and they are 20, 30 years old.

And originally, they were built to be almost a Western version of a department store.

And Sheplers first, before we acquired them, shrunk the store a little bit by putting up walls and closing off portions of the building.

And then when we acquired the business in July of 2015, we did the exact same thing and got to a more normalized kind of [head] within the store to -- that we thought could best merchandise the goods with enough space.

So there are 7 stores that have free space that potentially could be subleased.

We have looked at that a little bit, it's -- and it's a good [side].

It hasn't been so easy, if I'm honest.

I mean, we're giving them the remnant space behind the wall, it's hard to get to parking.

But if that opportunity presents itself, we would take it -- somebody up on it.

It hasn't been a huge priority for the sake of those 7 stores, but it is a good question.

And we'll see, maybe that's an opportunity for us.

Your next question comes from the line of Rick Nelson with Stephens Inc.

Guys, Nick Zangler on for Rick, great quarter.

Just on the country customer segmentation, again, it sounds like this is purely a marketing effort for the near term, but just to be clear, are you introducing any new products or categories to the stores at this point in conjunction with that segmentation effort?

And are you currently -- are you absorbing any incremental costs associated with this new segmentation?

So a very good question.

On the cost side, not really.

I'll give you a couple of small examples.

If we wanted to expand a particular department like ball caps, the country customer tends to wear a ball cap, it typically has a Western brand on it, but it's not a cowboy hat.

And that business has been growing for us quite nicely.

So we need some fixturing in the stores for ball caps.

But this is an almost inconsequential spend.

When you look at the product assortment, we are trying to isolate merchandise that is a -- I'll give you an example on the men's apparel side.

A men's woven long sleeve shirt for a Western customer has longer sleeves and longer cowls because they are literally riding on a horse, potentially with a rope in their hand and moving cattle or other animals around on a ranch.

If it's a country customer, that particular guy is probably wearing that -- his long sleeve buttoned down, woven shirt untucked, doesn't need expanded sleeve lengths or arms for anything that he's doing.

And it's more of a fashion item than a kind of functional Western piece.

So the distinctions to sort of the naked eye might be minor to the merchants and to the product designers and, frankly, to the people buying the product, are pretty important.

So we do think it's a logical adjacent customer, one concentric circle outside of our core customer.

We have some of the product in there already, we just think we can expand it a little bit and continue to invite new customers to explore the Boot Barn brand that may not live and work on a ranch or ride a horse, but have some affinity to the lifestyle.

Right.

So like that -- and that example that you just gave, that second product that you described, was that in the store before?

Or is that something that's new and was recently brought in?

In most cases, some subset of it exists already.

So we already have some product selling and some successes, and we're seeing opportunities to expand them.

The ball cap thing is a perfect example.

Ball caps used to be a very small assortment in a store, as we saw sell-through and selling pickup, we expanded breadth and depth, and that's become a bigger business.

Moonshine Spirit is an example that's been in the store for 5 years, now has more styles of denim, and more washes, and it's expanding a little bit.

So it's taking something that we had the seeds of success already and making it a little bit broader.

Your next question comes from the line of Jeremy Hamblin with Craig-Hallum.

Congrats on a strong quarter.

I wanted to ask a question on real estate plans here moving forward.

2019 saw a pretty significant uptick in store closures and planned store closures here in 2020, companies like Tier 1, potentially some attractive real estate.

So I wanted to ask, first, what you're seeing on the cost side of things with so many potential opportunities on the market.

And two, whether or not it changes at all your growth algorithm, that 10% unit growth?

Is there a potential opportunity, let's say, if you saw some really good sites to potentially develop and convert, would you be more aggressive in looking at that?

Yes, the costs are maybe slightly better because there is some more availability, to your point.

What we've really been doing though is getting, what we believe, better sites for the same occupancy cost.

And we've seen it in the new store sales, to be honest, right?

I mean, we asked people to model a new store of $1.7 million.

On average, we do better than that.

And I think part of that is attributed to the fact that we're getting better real estate sort of for the same dollar.

In terms of the 10% unit growth going forward, we feel pretty good about that number.

We are in a position of strength now -- our -- Greg talked about our leverage ratio is almost 1 now, just over 1. We have a really tried and true process of opening stores, so -- and to your point, there are people that, unfortunately, are closing their stores and making real estate available, in some cases, in the right size and shape that we need.

Having said that, for the time being, we're going to stick to the 10% unit growth with potential for upside going forward.

But we're not calling that out right now.

It is something we've explored and contemplated but we're going to stick to the 10% for the time being.

Okay, great.

And then a follow-up question here on your online business in Sheplers.

You mentioned that you're more from the Sheplers business even though there's a slight downtick here in sales from that site.

Could you give us a little more color in terms of magnitude if that's roughly, let's say, 9% of business or 8% of business?

Can you give us a sense for maybe the dollar improvement or the potential magnitude of improvement with that improved profitability online?

Sure.

Now it's hard because we don't split the brands online because they share so many of the costs.

But I would tell you that the business that we're giving up is -- would undoubtedly be unprofitable.

For example, as we look at pay-per-click advertising around Black Friday and Cyber Monday, we saw other brands, and other brands in our space, and digital native brands bidding on a 2:1 return on ad spend.

So they were spending $100 to get a $200 sale.

And that was just a business that we walked away from.

So it's hard to quantify the specific bottom line impact of Sheplers.

We did say in the prepared remarks that in total, e-comm EBIT contribution is up very nicely year-over-year.

And that's partly driven by nice sales growth in bootbarn.com, exclusive brand penetration, improving merchandise margin, the pay-per-click piece becoming much more efficient spend, better distribution center efficiency...

Leverage on some fixed costs.

Leverage on some fixed costs.

So it's kind of top to bottom, a success story for how to run a profitable e-commerce business.

And given the fact that from a consolidated standpoint, we're measured on earnings and EPS, we really need our e-commerce business to be profitable and highly profitable.

So we've made some really nice progress there.

And we feel good about the future for both brands going forward.

I think Sheplers will just continue to evolve.

And hopefully, we'll be able to get more free traffic and maintain a brand that is about a century old now.

So it's got its own positioning in the marketplace, and we'll continue to look for places to get some more growth.

Ladies and gentlemen, we have reached the end of the question-and-answer session, and I would like to turn the call back to Jim Conroy for closing remarks.

Well, thank you, everyone, for joining the call today.

We look forward to speaking with you on our fourth quarter earnings call.

Take care.

This concludes today's conference.

You may disconnect your lines at this time.

Thank you for your participation.