Ethan Allen Interiors Inc (ETD) 2004 Q3 法說會逐字稿

Welcome to your conference call today with Mr. Kathwari. I will turn the conference call over to you, sir, at this time. (OPERATOR INSTRUCTIONS) I will turn the conference call over to you at this time, Mr. Kathwari. Thank you for using Sprint.

Thank you and good morning. I'm Farooq Kathwari, Chairman and CEO of Ethan Allen. I am joined today by Jeff Hoyt, our Vice President of Finance. Today we are reporting results for the three and nine months ended March 31, 2004.

Because of the extent of the non-GAAP pro forma financial information resulting from the company's March 2003 restructuring and impairment charge, which totaled $13.2 million, I'm not going to repeat all of the information contained in this morning's quarterly earnings release. Instead, I will use this time to discuss current trends and developments affecting our business and a summary of our financial results.

We have in connection with the issuance of our quarterly earnings release prepared a reconciliation of all non-GAAP financial information to the most directly comparable GAAP financial measure. Our earnings release and this supplemental schedule should provide you all of the necessary information that you need to complete your financial models. The press release and related GAAP reconciliation are available on our website, or you may call Peg Lupton to have her fax you a copy.

Overall we are pleased with the progress we've made this quarter. The three months ended March 31, 2004, marked our fourth consecutive quarter of improved sales performance, with sales increasing 8.9 percent over the prior-year quarter. Wholesale sales increased 2.9 percent on a quarter-over-quarter basis, while retail delivered sales increase 13.1 percent, and comparable store delivered sales increase 9.7 percent during the same period.

For the nine months ended March 31, 2004, sales increased 5.6 percent over the prior-year comparable period. During that time, wholesale sales increased 2.3 percent, while retail delivered sales increase 10.1 percent, and comparable store delivered sales increased 4 percent.

Written business has also experienced strong results, with total written sales increasing 14 percent as compared to the prior-year quarter. Over the same span, wholesale net orders booked have increased 13.6 percent, while retail written sales have increased 15.2 percent, and comparable store written sales have increased 11.6 percent.

On a year-to-date basis, written business increased 8.2 percent from the prior-year comparable period. At the wholesale level, net orders booked increased 7.4 percent, while retail written sales increased 10.6 percent, and comparable store written sales increased 4.4 percent.

Consolidated gross margin for the quarter was 48.8 percent, and our consolidated operating margin remains strong at 15.5 percent for the current period. The wholesale operating margin for the quarter was 19.1 percent, reflecting continued efforts to control costs and initiatives undertaken to streamline manufacturing processes and better utilize production capacity.

The retail operating margin improved to 2.8 percent, but is not yet at a level we envision. As volume improves, and especially the performance of our newly acquired stores improves, we continue to believe that operating margins in the 4 to 6 percent range are attainable. During the quarter, we continued to absorb costs of repositioning of newly acquired and relocated stores.

Regarding our balance sheet, cash increased 28.5 million during the quarter, and inventories remained essentially unchanged from December 31, '03, while decreased 12.4 million or 6.3 percent from June 30, 2003. We remained in strong inventory position with approximately 89 percent of our case goods items available for shipment within four weeks.

We generated strong operating cash flow of $36.1 million during the quarter and utilized $4.7 million for capital expenditures. In addition, the company repurchased 43,000 common shares during the quarter, for approximately $1.8 million, or an average cost of $41.32 per share. Subsequent to the quarter end the company repurchased an additional 167,000 shares for approximately $7 million.

Our objective continues to be to utilize our strong cash position, to aggressively open new stores, and to continue to evaluate an increase in cash dividends and stock buybacks.

As I mentioned in my previous conference calls, we have taken the opportunity over the last three years of slower business to make major changes to our business. We have greatly enhanced our product programs. By this summer we will have changed over 50 percent of our product lines during the last three years. We've expanded our offerings to reach more consumers, from kids all the way up.

Our introduction last fall of the New Country collection has been well received by our own associates and our customers. In June we are introducing the Newport (ph) program, which is 18th- and 19th-century formal designs, to our consumers. We're also continuing to work to strengthen our other programs; and in June of this year, at a special conference for our retail network, we plan to introduce a very strong casual contemporary collection of home furnishings. By this June, we will have completed a major repositioning of our products to reach a larger consumer base while adding stylish good quality and good value products.

In the last year, we have launched a major campaign, which we call a solutions marketing campaign. We have expanded our internal and external marketing efforts to get the message across that our primary business objective and differentiation is in providing decorating solutions to consumers. We look upon our products, our over 300 stores, our 3,000 design consultants as solutions to the decorating needs of our customers.

We have also decided to offer our products at everyday value prices for the consumer. The response of our design consultants as well as that of our customers to the everyday value pricing strategy has been extremely positive. Customers are benefiting by knowing that they're getting the best possible price at a time that is most convenient for them, when they're ready to buy. In addition, we are eliminating inefficiencies historically resulting from peak order flows during the first and last week of sale periods. Our design consultants as well as our administrative associates have all benefited in becoming more productive. We see great continued benefits from this initiative as we go forward.

As part of our solutions campaign we have strengthened our direct marketing campaign by changing the name of our direct mail magazine to Furnishing Solutions by Ethan Allen; and we're mailing over 15 million copies to our customers and to consumers. This past quarter we also introduced a strong national television advertising focused on our solutions message, and we plan to continue our national television in the fourth quarter. We have been pleased with all these marketing initiatives, with the increase in traffic to our stores resulting in stronger written business during the quarter.

Our next major initiative has been repositioning our store network. Our initiative to relocate and open larger stores in the right locations is moving forward. During the last three years, we have opened over 14 new stores, mostly relocations. These stores are in fine locations and on average 14 percent larger than our older stores. We ended the March quarter with 312 stores, of which 124 are company owned. During the quarter we opened three new stores; and during the next 12 months we plan to open at least 15 stores in very good locations.

One of our major competitive advantages is our vertical integration, which involves from concept to product design, to plant management, to control of sourcing, retailing, and logistics by delivering our product safely, efficiently, and at one cost nationally. We continue to balance our sourcing efforts between domestic manufacturing and offshore sourcing. During the last three years we've gone from almost no imports to about 30 percent our products being sourced from offshore.

In the U.S. we're focused on narrowing our plants to the best and most suitable plants. After the consolidation announced yesterday of two case goods plants, we will now be operating six case goods plants, three each in the Southeast and Northeast, five upholstery plants, and one accessory plant.

We continue to reduce the downtime taken by our case good plants. For your information, in quarter ended March 2003 we took 75 days; that is 13 percent of our available shop days. In the quarter ended June 2003, we took 22 percent of our available days; and in quarter ended September 2003, plant downtime was reduced to 6 percent of available days; and coming to this quarter, that is March 2004, it was 14 days or 3 percent of available days.

With the consolidation of the two plants, most of the production will go to our remaining plants. In addition, our two latest introductions, New Country by Ethan Allen and Newport program, are substantially being made in the U.S. We've also continued to make investments in our information systems and the warehousing and distribution system which provides a unique opportunity of delivering our products.

We are planning our annual investor conference on June 29 in our headquarters in Danbury, Connecticut. This conference will be right after our June retail national conference, and we will share our marketing initiatives, including the development of casual contemporary products.

We are gratified that our company has not only performed well during the last three years of uncertain economic times, but we are ready for the next phase of economic growth and for consumers' interest in home decorating. At this stage, we will open for questions. Operator?

(OPERATOR INSTRUCTIONS) Charles Grom.

Good morning, Farooq. We've been hearing that demand trends have continued to be positive, but did slow a little bit in March. But looking at your 14 percent total order comp, it appears that business did not slow for you. Could you comment on what you saw in February and March? And I guess more importantly, how the first few weeks of April have looked?

Charles, we had a good quarter as you can see. Of course we were comparing this to somewhat of a tough quarter last year with the start of the war. Better than in fact last year. I think that it is too early for April right now to really give any judgment, because April generally is slow for us. But we're looking forward to a good quarter in the fourth quarter as well.

Kind of a bigger picture question; at this point in the recovery are demand trends below, at, or above where you would expect them to be? Given the recovery in consumer confidence, as well as the strength in the housing market.

If you take a look at compared to let's say the previous recession, and that was 10 or 12 years back, I think we have seen somewhat of a slower increase in business this time as compared to the previous years. And I think part of it is the fact that there is still a lot of economic and political uncertainty out there.

So, I think that while we have done well in this quarter, overall I think people are still cautious. We're getting somewhat of a greater benefit due to the repositioning that we have done. But I see, Charles, that consumers are still cautious.

Last question. Based on your plant closing announcement yesterday, should we look at this as an indication that you plan on increasing your sourcing efforts over the next few years to maybe 45, 50 percent range from 30 percent today?

Well, we really did not know what is going to happen a few years from now. But most of this production will go to our plants in the Northeast and the Southeast. We have two major plants which are not operating at the levels that I would like them to be. This consolidation gives us an opportunity to really better utilize our plants.

Now, talking about our plants, our margins were impacted last quarter not as much by plant shutdowns, which relatively were small. In fact the impact of our plant shutdowns -- we did have some shutdowns -- it had most probably 1 cent, one penny impact. But a greater impact was the fact that all this new product that we have introduced to our plants in the last year did cause slowdowns.

That slowdown also resulted in somewhat of a -- it had two impacts. One was we had to absorb a lot of costs in our plants while they were gearing up with this new product. It also somewhat slowed down our wholesale shipments. In fact as you know our wholesale shipments order, written orders, were pretty good. And people might be wondering why we didn't ship more.

I think our plants were a little bit slower introducing this product, especially the newer product. While I say 89 percent of the product is in stock, the one that is out of stock is the newer products to a great degree. But I believe in the fourth quarter we will make it up.

Okay. So you're basically saying that you think margins can trend a little bit higher, particularly on the gross profit side?

Well, it is always possible.

You took about 115 down days last year. How many do you think you may take in this fourth quarter?

We don't intend to take any. I think that it will be almost negligible.

Great. Thanks a lot and nice job.

Susan McLaury (ph).

Can you walk us through a little bit of the decision to move the manufacturing from those two plants to your existing plants in the U.S. instead of outsourcing that product?

Well, there are a number of reasons. First is the fact that there is a vicious cycle if you take everything out, offshore. Then you really don't give an opportunity to have our domestic plants absorb the overheads. Now, we theoretically I think can take a lot of products overseas. But we want to balance and maintain a strong manufacturing base in the United States in the best manufacturing plants.

Now over the years Ethan Allen, in fact from 1991 to give you a perspective, we had 27 plants. But a lot of these plants were smaller plants in a lot of locations which are far away from each other. It made sense perhaps at that time, when there was no outsourcing capacities, and also you didn't have the technology to increase productivity of our larger plants.

In the last ten years we've made a great investment in our plants to increase productivity, mostly through technology, and even through the design of our products. That has given us the ability today to produce more from our existing plants; and also if there is a greater demand, as in better economic times in the past we needed all our manufacturing because we had nowhere to go. Today we can go offshore.

So, our objective is to operate fewer plants, the best plants; keep them busy; and then also balance our needs with outsourcing. I think a balance of the two makes a lot of sense for us. It will overall improve our margins also.

Can you give us an indication for where your capacity utilization is at currently? And maybe where you think it will trend towards, as demand improves and you move more of your production out of these two plants and into the other six?

Plant capacity is a theoretical number, because every time we look at a plant and, let's say, we are operating at 90 percent capacity and then we increase it by another 30 percent. Based on what we have today, in terms of the resources we have, the people that we have in the plants, in our case goods plants, I would think that we are operating anywhere close to 80 percent or so. In our upholstery plants we are operating at close to 90 percent.

But that is use (ph) the current staffing. As we increase our staffing and also increase some technology and other factors, we continue to keep on increasing our capacities. But with these two plants, it will give us an ability to have our domestic case goods operate at about close to 85 or even between 85 and 90 percent, as opposed to our upholstery plants.

Finally can you give us an indication of what you're seeing in your raw material costs? Are you seeing any increases there?

We are. I think that we are seeing increases in paper costs. We're seeing increases in chemical costs. We're starting to see some increase in lumber costs. And I think that steel of course is a very -- we use steel-related products. The chemical products relating to foam have increased.

So we are seeing increases in costs, and it is because of our increases in productivity and the fact that we're going to keep on increasing our production. And that has given us an ability so far to absorb it. But we are watching it very carefully.

Did this have any impact on your gross margins that you can quantify for us this quarter?

I cannot quantify, but it has some impact.

Okay. Thank you.

Budd Bugatch.

My question, if you could, look at the gross margin in the quarter and kind of either prioritize or give us what may have been the impacts in the quarter. With the amount of volume coming up, you would have thought the margins might have been a little more robust. I know you had some continuing impact for the downtime you'd taken in the past, that now factors through the cost of goods sold in this quarter. But maybe if you could give us a feeling as to what happened in the quarter?

Budd, everything in this world is relative; 48 percent gross margins are pretty good.

Sure. No question about that.

So, you know, we start from there. But having said this, our margins were impacted by a number of factors. They could have been better. They were impacted by steel, our manufacturing side. As I mentioned earlier, downtime affected most probably a penny.

But we had approximately 5 cents that were impacted due to the introduction of new products and the curve that we have. Because we had a tremendous amount of new products. In fact all the products even or most of the products that will be transferred from the two consolidated plants to our existing plants, for those plants they are new products. So last quarter we estimate about 5 cents impact on our earnings due to the new products learning curve that we put into our plants in a fairly aggressive manner.

On our retail side, some impact on our gross margins due to the fact that we are cleaning up a lot of inventory. Because as it is 50 percent change in products, that has also meant that we have had to sell a lot of existing product off our warehouses, off our floors. Which we are doing; which has resulted in of course more cash flow and lower inventories, but it has taken some impact on the margins.

So, I would say overall at least 6 cents to between 6 and 7 cents has been the impact on our gross margins. Mostly through gross margins; our operating expenses have been pretty good.

So EDVP, did that have any impact on gross margin this quarter?

I'm sorry; what did you say?

The everyday value pricing.

I would say that most probably less than one-half of 1 percent.

Can you characterize the inventories for us, between retail and wholesale? You were pretty flat with last quarter, the adjacent quarter. But was there much change in the retail inventory and the wholesale?

Jeff is getting that information. I will tell you this; why don't we continue? I will answer this question even when somebody else is answering a question. I will, as soon as --

My last question is the new collection; where will that be made? The new contemporary?

New contemporary collections are going to be made both domestically and offshore. They are collections. They are more than one.

More than one collection? Is it going to replace a couple of collections?

Everything we do has got to replace something. We cannot, we don't add anything unless something goes out.

All right. Lastly, I know you gave us yesterday the pretax write-off on the new plants. Can you kind of characterize that between PP&E or fixed assets and maybe the severance or cash portion of that?

Jeff, do we put that in our -- is that what we normally make public?

I would say roughly about 65 to 70 percent of that charge will be PP&E.

Thank you, Jeff. I will wait for the other question to have it answered. Thank you, Farooq.

Ivy Zelman.

It is actually Carlos Ribeiro on behalf of Ivy. Most of my questions have been asked. But in terms of your wholesale manufacturing operating margin, you mentioned your retail target is 4 to 6 percent. What is your target on the wholesale side?

We are operating at 19 percent operating margins.

How much more do you think it could go higher? Do you think it could reach the 20 percent level that we saw a year or two ago?

Possible. It is possible. But you know, our projected long-term is to maintain between 18 and 20 percent. That would be very, very good. That opportunity we have. But again operating at 19 percent is pretty high.

Okay. Just secondly, we have started to see a symbol, (ph) the fabric upholstery furniture starting to make its way from China. Have you examined the potential opportunity of perhaps shipping some upholstery production overseas to China? Specifically with the fabric upholstery. And if so, does it make any sense for your products? And when do you think we might see some of that production shipped overseas?

At this stage, our focus has been very leather. And we have made a very, very major impact in our leather business from overseas. Fabric? Not right now, because actually almost 100 percent of our fabric is custom. So at this stage to ship one piece at a time from overseas and to coordinate over 3,000 fabrics is difficult.

What we have done to a great degree is made our upholstery manufacturing continuously more efficient. And it is possible that -- perhaps not overseas, but we are looking at the possibility in South America of having some cut and sew operations there. But at this stage, we are not ready right now to take our fabric upholstery to Southeast Asia.

Great. Thank you.

Todd Schwartzman.

Just curious, what is being produced right now at Boonville and Bridgewater? Also when do you intend to shut the plants?

The plants will be shut down towards the end of June, at least 60 days from now. Bridgewater was making the New Country product lines that we introduced last year. And we have since last year also had the same product made in one of our other North Carolina plants, because that product line has done well.

Boonville produced a lot of our cherry product lines because cherry is closer to that region. It included for instance American Impressions, if you know our product lines, the Georgian Court. That product line we are discontinuing. So, a lot of that American Impressions product line is going to be transferred to our Vermont plants.

Can you give a percentage breakdown as far as New Country, how much was in Carolina and how much was in Bridgewater?

In terms of the Bridgewater, had approximately $16 million of wholesale volume it did last year. That was mostly in New Country. That as we get into transferring this product, Dublin manufacturing plant, which is a plant that we acquired a few years back, which is one of our larger plants, has more capacity. And we want to have that plant operating closer to its full capacity, and this initiative will make that happen.

How much are they producing now in the New Country collection?

They are not producing New Country. We have transferred -- you are being very technical and very specific, but I will tell you we have transferred in the last year the British Classics product line which was made in one of our North Carolina plants to Dublin. And New Country was transferred to our North Carolina Pine Valley facility.

So, in addition to that the Dublin plant is one of our second veneer plants. Spruce Pine is, if you are familiar with our plants, is our major veneer plant. And the new Newport program, the Newport program which we are introducing to the consumer is starting in June, we expect that to be a very, very strong product line. And we're having Dublin and Spruce Pine both gear up to make it. So, Dublin is making British Classics and Newport. Those are the two major product lines that they will have.

Also, with respect to new product launches, is there always going to be some type of learning curve?

There always is. It is a question about the extent. When you change almost 100 percent of the product lines for these plants, as we did, the impact is great. But at other times, in the normal times, when you change from 10 percent, 15 percent, the impact is relatively small.

So for this past quarter the turnover was particular high?

That is right.

Okay. Thank you.

Joel Havard.

It is actually Matt McCall (ph) for Joel. First, could you talk a little bit about the trends you are seeing, upholstery versus case goods? If you are seeing any difference in the pickup there?

Our upholstery held up well in the last couple of years. What happens most of the time in a slowdown is the case goods tends to be impacted. What we are now seeing is that case goods is starting to come back, and we are increasing case goods sales approximately the same as upholstery sales in the last quarter.

Secondly, you mentioned you're going to open 15 new stores over the next 12 months. You said of the 40 that you've opened in the past three years or relocated in the past three years -- no, you said you opened 40 in the last three years; most were relocations. What percentage of the 15 new will be relocations? Will those all be company-owned stores?

I would say that at this stage about 70 percent will be relocations, 30 percent will be new stores. About anywhere from 60 to 65 percent will be company; and others will be licensees.

Finally, I missed some of the downtime data that you gave. Could you just quickly go over the days you took down. I think 75 days in this quarter versus what last year? And then you gave a couple other data points.

All right. I will do it fast. In March 2003 we took 75 days, which was 13 percent of available shop days. June 2003 it was 22 percentage of available shop days. September 2003 it was 6 percent of available days. In December 2003 it was 7 percent, and in March 2004 it was 3 percent.

Thank you very much.

Laura Champine.

Could you break out unit growth so we can get a sense of the pricing trends in the quarter?

Laura, I don't have it, but I think Peg -- let me see; maybe Jeff has the information. Yes, Jeff has it. Hold on one second. Jeff, what am I looking at? What Jeff really has is they're actually prices of average units prices. Just to give you -- it did not change. Our pricing between -- our unit pricing this year compared to last year has not changed in unit pricing.

If unit pricing has not changed, in response to one of Budd's questions you mentioned that there had been some gross margin decline, less then 50 basis points related to rollout of everyday low pricing.

Yes, it is relatively small.

But unit pricing did not change?

It did not change. It is relatively small. Overall at this stage, our units have more or less I would say remained approximately the same. In fact, it is about flat from last year.

Okay. Can you give a percentage of sales that has already seen the rollout of everyday value pricing?

About 65 percent.

Is there a time frame for rolling out the remainder?

We have not publicly announced it as yet.

Thank you.

Keith Hughes.

My question has been answered. Thank you.

John Baugh.

I want to touch on SG&A and the advertising promotions spending. I know you curtailed it a little bit in December. We are going to allocate some dollars to February and March; and yet I think you made the comment that you expected the March quarter to compare fairly evenly with the prior-year March quarter. Was that in fact the case? And then perhaps some definition on the 200-plus basis point leverage on SG&A?

John, our last quarter, that was our second fiscal quarter, we did not run national television. This quarter we did. It costs us -- out of total advertising this quarter compared to the second quarter for the company, it cost us approximately $5 million more. It was somewhat lower than the amount we spent in the third quarter of the last fiscal year.

Okay. So, when you get through the fiscal year June 2004, do you expect much of a change in advertising spending, first and foremost? Secondly, are you happy with the decision to sort of reallocate spending from November-December to February-March? Did it work?

Yes, we believe it was the right decision to do. We also think -- you never know in advertising, but we believe it was the right decision to hold up spending in the second quarter and the right decision to spend it on the third quarter.

Now, John, [indiscernible] you would expect me to say that. We're going to continue to spend in the fourth quarter; and our fourth quarter will be fairly close to what we spent last year. Overall for the year, our advertising would be lower than last year.

Okay. Then some help on the 230-some-odd basis point SG&A comparison year-over-year leverage?

Let me give you -- I'll tell you this, John. I will ask Peg to give you some of the details. Peg Lupton will call you on that with some greater detail.

Okay. Just a final question on the buyback. You got seemingly more aggressive post quarter end. Is there any explanation for that? A rationale, or any thoughts going forward on how you may treat that?

Our objective is to continue to use our funds for the three things I said. We are going to be as aggressive as makes sense in spending money to expand our business, especially in stores. We will also continue to buy shares as it makes sense; and as you know we have got a decent amount of cash. And we believe that it would make sense to use that money for building our business and then to give the balance to our shareholders, either in terms of dividends or share purchases.

Good luck. Thank you.

Barry Vogel.

Can you give us an idea of the annual savings you expect from the recent consolidation announcement?

Put in terms of our expenses, operating expenses, and you might say direct manufacturing overheads, it will be approximately $13 million. Then in addition to that, we would get additional opportunities of improving our margins by transferring the products to our existing plants, where we will not be able to increase much of the operating expenses or the manufacturing overheads. So it could overall be in excess of $20 million.

That is a pretax number?

Pretax.

Can you give us an idea of what you think capital expenditures will wind up this year, as well as what depreciation and amortization will wind up for this year?

Capital expenditures will be somewhere between 25 and $30 million, and depreciation and amortization 20 to $22 million.

Thank you very much.

Sir, at this time there is no one else in queue. (OPERATOR INSTRUCTIONS)

Thank you very much, and I look forward to seeing you in June at our investor conference.

Sir, we do have one other question. Would you like to take that one question? (technical difficulty) Thank you and your conference call has ended for today. Have a nice day.