Ethan Allen Interiors Inc (ETD) 2017 Q2 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Ethan Allen analyst conference call. Now I will introduce your host for today's conference, Mr. Corey Whitely, Executive Vice President Administration and CFO. Please begin.

Thank you, Lateef. Good afternoon and welcome to Ethan Allen's analyst conference call for our fiscal second-quarter ended December 31, 2016. This conference call is being recorded and webcast live on ethanallen.com. There you will also find our press release which contains supporting details, including reconciliations of non-GAAP information referred to in the release and on this call.

As a reminder, our comments today will include forward-looking statements that are subject to risks and uncertainties, which could cause actual results to differ materially. Please refer to our SEC filings for our complete review of those risks. The Company assumes no obligation to update or revise any forward-looking matters discussed during this call.

After our Chairman and CEO, Farooq Kathwari, provides his opening remarks, I will follow with some details on the financial results. Farooq will then provide further updates on our ongoing business initiatives before opening up the telephone lines for questions.

With that, here is Farooq Kathwari.

Thank you, Corey, and thank you all for participating in our earnings call. As we stated in the press release, we did well considering very tough comparisons and the challenging retail environment. After Corey provides a brief overview to the financial statements, I will discuss in greater detail our initiatives to grow our sales and profitability. Corey?

Thank you, Farooq. For the second quarter of fiscal 2017, our results were fairly strong compared against the exceptional performance in the prior year and the backdrop of a challenging retail environment during the quarter. Our total retail written orders declined 3.6% compared to last year's 15.3% increase. The prior year quarter started out with a record 34% of written sales growth in October, making it our strongest October in our history. This year, the cadence for the quarter was similar, starting with another strong October written that almost reached the prior year record level and ranked as our second-highest October. November started out very weak and then strengthened in the latter half of the month. But overall, it ended with written down to last year.

December had improved momentum and with stronger written sales than prior year. Our year-to-date total written sales are 2.1% ahead of prior year. Our consolidated net sales of $194.7 million for the quarter compared to $207.5 million in the prior year, retail net sales were $156.3 million and wholesale net sales were $113.7 million. Wholesale was impacted by lower retail sales and the higher promotional discounts.

International sales were 8.5% of consolidated sales in both the current and the prior period quarter, and we did see a good increase in our sales to China. The mix of retail segment sales to consolidated net sales for the quarter was 80.3% compared to 79.4% in the prior year. This change in mix helped us maintain the strong 55.5% gross margin. We expect that gross margin will continue to run close to this level for the second half.

Our adjusted operating expenses were $91 million compared to $90.8 million in the prior year quarter, and that is excluding the prior year gain on the sale of real estate. We mentioned several discrete items impacting operating expense this quarter, including the impact of new design centers. As we leave older legacy prior properties, we are opening new lease locations that incur startup costs.

At December 31, 2016, there were 14 new locations compared to seven new locations at the prior year quarter end. Of the 14 new locations, 13 are new since January 2016, including two that are incurring preopening expenses while we are fitting them out. Locations operating less than 15 months or acquired locations operating less than 12 months are considered new.

Increased advertising also impacted expenses, and we expect to see higher advertising costs continue into the second half as we ramp up our marketing. Renovation costs at retail associated with the Ethan Allen Disney launch were incurred in the second quarter, and we are now mostly complete with our renovations. Our adjusted operating margin was 8.8% and adjusted net income of $0.39 per share compared to $0.55 in the prior year quarter. We maintained strong adjusted EBITDA at 11.4% of sales.

Our effective tax rate was 36.9% for the quarter and slightly ahead of our 36.5% structural rate that we expect will even out for the fiscal year.

We have a healthy balance sheet at December 31. Our total debt at quarter end was $40.3 million, our total cash and securities totaled $64.5 million, and our customer deposits were $55.3 million.

During the quarter, we paid out dividends of $4.7 million and increased our dividend per share by 21.4% compared to the prior year quarter. Our capital expenditures for the quarter were $3.8 million, and we expect $23 million to $24 million in capital expenditures for the full fiscal year.

Inventory of $160.4 million decreased by $1.9 million from the prior year end. We expect our inventory, though, to increase modestly during the second half as we expand our in-stock programs to further our quick delivery initiatives.

With that, I will turn it back over to Farooq.

Thank you, Corey. Through the last few years, we have taken many steps to position us for growth. We believe in today's ever-changing environment creating a positive customer experience is a differentiating factor between excellence and mediocrity. Our initiatives include developed a strong product offering, which has diversity of style, is fashionable and livable. The new offerings expand our reach to more consumers. The new products are resonating well with existing and new customers. Continued our focus on excellence and quality across all of our product offerings. Made many enhancements to our sourcing, especially our own operations in North America. And we are expanding our capacities in order to service new business, including the US State Department contract. We have started to build in-stock inventory of our North American wood products as against making the product when orders are received. This will help in faster deliveries, improve manufacturing efficiencies, and also expand capacity. About 75% of our products are made in North America with the majority in our US facilities.

We have also added more products to our custom quick ship upholstery program. Our interior design network is stronger. We have relocated and renovated many of the 300 design centers in North America and internationally. We have gone from a store to an interior design center with smaller square footage, qualified interior designers, and technology to help them interact with clients.

We are continuing the process of relocating design centers. We have many underdevelopment, including two new key markets of downtown Chicago and Buckhead area of Atlanta.

Technology has enhanced our efficiencies in manufacturing, logistics, retail, and other areas. Most importantly, we are empowering our interior design associates to interact with clients in design centers and online.

By end December 2016, about 175 locations in North America had received the Ethan Allen Disney program. The program has been well received by our associates, and from this month of January, we are increasing our marketing, which includes reaching 4.5 million households by direct mail, advertising and communications through digital mediums, and in late February -- that is next month -- part of the program will also be sold through the disneystore.com website.

In June 2016, we take the Ethan Allen Disney program to China where over 30 locations will have this special offering.

With the various initiatives in place, we are now ready to invest in marketing to help increase sales. Starting from this third quarter, we plan to substantially increase our advertising by about 20% from the previous year. We expect to further increase as we move forward.

Our plans are to expand our reach via traditional and digital mediums. Starting in February -- that is next month -- we plan to launch a major national television campaign. Increase substantially in digital and social mediums. Our focus is to get across the many attributes of our brand and depend less on discounting. We believe discounting will continue to lose its impact. We remain cautiously optimistic and have taken into account, as we said in the press release, that last quarter in the previous year had an 89% increase in our earnings per share.

With this, we are pleased to open for any questions or comments.

(Operator Instructions) Jessica Mace, [Instanet].

My first question is just on the overall environment. You mentioned a challenging retail environment, and I know there were some moving pieces in your results, given the difficult compare, but I was wondering if you could just give us a little update on consumer behavior in your category?

Well, I think that certainly, in many, many markets, and, in fact, nationally also, the elections did have an impact on consumers' attitudes. And we saw that people were somewhat cautious. They were waiting. And it is somewhat better, but I think it is a little bit too early because we have seen, as you know, a still fair amount of movements with people marching and all kinds of things, which does create some issues. So I think that we saw that last quarter. It is somewhat -- it is too early, but I would hope that things will settle down and people will start being more attention paying to their home and that we will move on.

All right. And then, if you could talk about your renovated stores for a minute. If there is maybe any color you could give on if you see a comp differential on the stores that have been renovated versus those that still haven't?

Jessica, overall, they are higher, but I don't have the statistics. I will see. We can see if we can get any information on that.

The ones that have been renovated really have created an entirely different attitude. It is taking, as I said in my notes, from a store to an interior design studio. We, as you know -- we have taken our interior designers to the -- almost to the middle of the front of our design centers. We have gotten a lot of technology. And you can see the difference, both in terms of attitude of our associates, the customers, and certainly they are performing well.

The other thing that we have done in all our new locations, they are smaller in size. We have many that are 7000, 8000 as compared to 15,000 or 18,000 square feet. In many of these, the amount of business we are doing is about the same as the larger locations. So they are much more productive.

All right. Great. And then, lastly, just a clarification. I think you said that you expected the gross margin in the back half to be roughly in line with the performance this quarter. Typically, it looks like, in the fourth quarter, you usually have a little bit of a higher gross margin rate. Is there something -- and I understanding your characterization right, or is there anything we should think about when it comes to Q4? Thanks very much for taking the questions.

Jessica, I mean, last year -- third quarter we had 55.5% gross margin, which was the same as what we have had just in the second quarter. Last year, in the fourth quarter, we had 56.3%. I mean, they are always in range.

All right. Thank you very much.

Bud Bugatch, Raymond James.

This is Bobby filling in for Bud. Thank you for the detail on the call. Just real quickly, can you or Corey maybe provide an update on the government State Department contract and kind of how the timing of that contract is progressing now that you guys have been awarded part of the bid?

You know, Bobby, yes, we have been, but, unfortunately, the government works very, very slowly. They are still not completed all the information we need. But, having said this, we have started receiving orders. But I would think that they have got to give numbering to all of these items. We are all ready, but they have not completed their numbering. It is really unfortunate the way they operate. But, despite that, we have started to get some orders, but I would think that what it looks like to me that orders will really start coming in in the fourth quarter of this year. And most of the time, in the government, most of the orders do come from June to September with the government year end.

Okay. And the starting orders that are starting to trickle in, that started here in Q3. There wasn't any orders in Q2, correct?

That's right, no. We just started getting our first orders now.

Okay. I appreciate that detail. And, Corey, is there anything that we should keep in mind about last year's third quarter, given the difficult deliver comparison, promotional cadence or something that could be different this year to help us modeling?

I think that, if you look at it for this year, we have a strong marketing program that Farooq spoke to, and we will have to see how it falls within the quarter as to whether the beginning of the quarter or the end of the quarter is the stronger part. And that will have a little bit of an impact on that delivered comp number.

I think, Bobby, also as I said, last year our advertising expenses in the third quarter was 4.5% of our sales.

Keep in mind, in this quarter that just ended, we had approximately 4% of advertising. So, as I said, we will increase approximately 20%. Last time, we spent $8.7 million, so we are going to increase that by about at least 20% in our third quarter.

Okay. And then, lastly for me, on last year's third quarter, was that still the timeframe that you guys were working through some of the backlog a little as you improved the efficiencies and the factories and stuff, so there was a little benefit in the delivered comp, or was that pretty much done by then?

You know, we are delivering much, much faster. So we are -- our backlog is a little lower. So, really, our third quarter and fourth quarter will depend to a great degree about the business that we are getting this quarter because we are now delivering faster. As I also said, we are now -- starting in January -- this month -- we have started to get all of our US-made wood products case goods into stock. In fact, if you have received our direct mail that I'm sure Corey has sent it to you, all the product that I have shown over there are now in stock. We never had that before. So that should help us, but I think that the good news is that, if you get orders, we are better able to service them in that quarter.

Okay. I appreciate all the detail. Best of luck moving in the next quarter. Thank you.

Brad Thomas, KeyBanc.

Wanted to first ask about Disney, and I know it is still on the early side, but as you look at the initial interest and orders, any sense for maybe how additive this could be in the upcoming year? Are we talking about maybe a low single digit tailwind, and is that additive on a net basis, or is that maybe canceled out by some of the floor space that it took away from other product? How are you thinking about the initial lift that you might get from Disney?

Yes. Brad, it is a little bit early. As I said, we have a lot of excitement. We are invested. We are doing it well. It has been done extremely well. If you have been able to visit any of our design centers where it is placed, you will see that we are projecting it well. The product is of great design, great quality, and that we will see what happens, but I would think that we will probably at a minimum -- I am thinking about, as I've said also, in our investor meeting that we will be thinking at least about -- at least on the retail side getting a minimum of $20 million. And then, we are also looking much, much more than that, based on what we will be selling through our network, as well as at disneystore.com.

Great. And then, I want to follow up just on the outlook for your fiscal third quarter and maybe if you could just give us little comments -- commentary on how you think of it seasonally. When I look back over the last four or five years, the Company historically does lower revenue in its fiscal third quarter than it does in the second quarter. And the earnings typically clock in about 50% lower than what you do in the second quarter. Any reason that that seasonality would be greatly different as we do our best to model this upcoming quarter?

No, Brad. It will be because, generally, our written orders in the second quarter are generally the lowest because December being a low month. That reflects into the deliveries into the third quarter. So I think the third quarter, from a modeling perspective, will be similar to what we did in the past.

Right, Corey?

Great.

Yes.

Great. Thank you so much and we are definitely excited about what you are doing on the merchandising front and look forward to you getting past some of these tough comparisons.

Jeremy Hamblin, Dougherty & Company.

Actually want to just follow up on that last question to make sure I understood the comment in context. So you are saying that the step down from Q2 to Q3, this seasonal adjustment that you typically would see -- you are expecting something similar this year, or you are saying that you expect Q3 to be similar to what you said -- what you had on delivered sales last year?

It also depends, a number of factors. Obviously, our backlog at the end of our second quarter was lower because our overall sales were lower. Now, on the other hand, we are today able to deliver products faster. So it will depend to a great degree, Jeremy, on what we do in January and what we do in February. So the facts that we had lower sales last year, low backlogs, what we do this quarter could help us in maintaining the sales. But that will depend upon what we do in January and February.

How much was backlog down year over year at the end of Q2?

Corey.

On the backlog, Jeremy, it is down single digits, but, again, the backlog isn't as good of an indicator for looking at the cadence of how the delivered sales are going to flow. It is really how strong of a start we have in the beginning of the quarter and how that is going to deliver out into the quarter.

And, Jeremy, January's last one week is going to really make a determination. As you know, we do a lot of business at the end of the month. So yes, backlogs are lower, but again, it is lower because we are delivering products faster, and if our business is good this month, we will be able to make it up. It is a little bit early right now.

Well, let me ask a little bit different question. So really, if you look at the first half of the year, the thing that jumps out is really your wholesale segment. Your wholesale segment was down 10% in Q2, down 7.5% overall for the first half of the year, which, I think, to me, was a surprise given the Disney launch and given that you indicated 175 locations in North America had received product.

So I would have thought that -- I know you had very strong programs that were launching last year. I don't think, though, that we had any really indication that we would see that type of downside in your wholesale segment. You still have some very tough comparisons. You actually had a very strong second half of the year in your wholesale segment. I mean, wholesale was up, I think, almost 7% in the second half of last year. How should I be thinking about that? I mean, is your wholesale segment in good shape in terms of looking at the back half of the year, or is that another uphill battle that we are fighting beyond what we are seeing on the retail segment?

You know, as I said, first of all, on the Disney, you know the amount of products that is being shipped to each of these locations is relatively small. So while we did ship it to all these locations, at a wholesale level, it was not as positive an impact as you know floor displays were only 500 to 1500 square feet and most of them have been 500 square feet. So this is something positive on the wholesale, but you also, you have got to keep in mind that, on a consolidated basis, anything we shipped on the 175, 140 were our company retail division so that we eliminate because until we sell it to the customer, that one really just goes into inventory.

I think going into this quarter, we have tough comparisons. We have, as I said, our EPS is an 89% increase that we have got to look at. But keeping that in mind, overall as I said, last year when you take a look at, Jeremy, our gross margin of 55.5%, it is within reasonably what we could do. Our advertising expense is going to go up, as I said, by 20% or so, so now that might have an impact on our, this quarter, on our profitability, depending on how much more we are able to receive in business and deliver.

Last year, operating margin was -- adjusted operating margin was 8.2%, which is within reach. So, really, for what might happen, what you have got to take into account is our marketing. Are we going to get the benefit of that marketing this quarter? Are we going to get the benefit of it next quarter? And I think that is the only factor that I think you have got to keep in mind.

Well, it sounds like you are seeing some delays here on the State Department contract versus where you would have thought six months ago. And I think it also sounds like Disney maybe is just, at least a time to see delivered sales on that, is a little bit further out than had been planned. So given the increase, the ramp in spending, which calculates, I think, about $2 million a quarter, shouldn't we just be assuming that really this is pushed out into Q4?

It is possible. As I said that the prior year compares are very good, but not tremendously high. So these are something that, one, we could meet, but we have got to take a look at what business we get this month and early next month. Because, as I said, our operating margins were 8.2%, adjusted operating margin. And this second quarter, we had adjusted operating margin of 8.8%, and obviously we are comparing to 12.2%. So I mean, the operating margins that we had last year in the third quarter are relatively achievable, but, as I said, I think we have got to keep in mind, is this extra marketing that we are going to be spending and how much of that benefit we will get this quarter or next quarter.

But the good news is, we are spending it because, as you know, we believe now we are ready to do it. I didn't want to spend the money last year because we were not ready in our offerings. We were not -- our design centers were not where I wanted them to be. Our manufacturing was not -- we have expanded our manufacturing. Now we have also gone into making stock because getting business and then not delivering it is not a good option. We are in a much better position today. That is why we are increasing our marketing.

Yes. I agree with that. Just following up in terms of the spend and when you are planning to spend those additional marketing dollars, how much of that is targeted January versus February versus March? And then, just also, how quickly when you do spend that money historically have you seen that translate to orders? Is it kind of an immediate impact? Is it a 30-day lag? 60-day lag? Any color you can share on that would be much appreciated.

Most of this money will be spent, and it will be in February and March. We are starting a national television campaign starting around the 10th, 12th of February. It will go into February and then go into March. Same time, we are also doubling our digital advertising.

Now, we will see, hopefully, we will get the benefit. Some of it was end of February. Some in March. Then, the next question will be how much of that we will be able to deliver this quarter. Those are the facts that you have got to keep in mind.

We feel comfortable in spending the money, even if it means it has an impact on our earnings. But it is good for us to do that, get it going, build the business, and we are going to be much more aggressive because we feel that we have lots of the initiatives are in place now.

Okay. And just the other part of my question where, historically, when you spend that money is the average kind of timeframe or time horizon to yield the benefits of the delivered sales on that. Is it six to eight weeks? Is it -- ?

I would say that most of this benefit could come to us at the end of February. It could come in March, and the delivery would be some time in April.

Okay. Great. Understood. I will hop out of the queue, but thanks so much for taking my questions.

John Baugh, Stifel.

Just a couple of things, quickly. One, I picked up on your comment about promotions perhaps being emphasized less, and obviously advertising is going to be emphasized. So I was curious, could you speak maybe strategically to why you are doing that? Is your research telling you you could drive better traffic that way, or what data or why are you making that change? Question number one on that.

And question number two on that, if you could maybe walk us through what the March and June quarter promotions were a year ago and roughly what you intend to do this year? Thank you.

Yes, John, that is really a very, very important question and a tough question, which is the impact of discounting. We listen to what is taking place in the industry, in the retail environment. And, as you know, a lot of folks are discounting. These discount 30%, 40% or they are getting 50% and 60%, and they are all losing creditability. And from the feedback we get, it is not working. Yet, everybody is on this promotion drug and we have got to keep on giving more drugs.

Now, we believe that what is -- and, also, research has shown and a lot of studies have shown that a positive customer experience is more important than just discounting. So customer experience means the great offerings, great service, and, of course, good values.

So we are going -- our marketing is going to convey this about our offerings, about our quality, about our services. And then, of course, we have 1500 interior designers that provide that service. If we didn't have it, then I think the only thing we will have to do is keep on increasing discounting. I believe that discounting, overall, you can see that, those who are doing it across the region -- not just our industry -- they are suffering. They are not making an impact. So we believe that we have an opportunity to reverse it. It is not going to be easy, John, because this is a tough -- not an easy decision. And this is a tough decision. And to convey our differentiations to the consumer through our advertising will be what our advertising is going to do, it is going to talk about our quality, our great quality, and then also show the prices. And we are going to show our prices the way we have them now without big discounts or with the smaller discounts that we have. And we will also show and talk about our personal services that we have. And we will also talk about the fact that today consumers can interact with our designers online or in our design centers. Every week, we are qualifying more of our interior designers to be able to do live chat. 275 so far last week. More are going to come.

So we are going to get the message across, and I would say in a strong manner. That is why we have got to increase our spending. If we don't do this thing in a meaningful way, the message is not going to be heard. But, like everything else, there is a risk. Because people are used to discounting, we are going to go against it, and on a planned basis, we are going to reduce our discounting, John.

Okay. If I am not mistaken, you were doing a fairly aggressive discount during the December quarter. Does that stop as soon as the month of January here, or what is the plan as to when you implement this?

John, when you say aggressive, it is relative. Our aggression is that we used to give two items -- once in a while, we give a 30% off two items. Or one -- two items at 22% off or most of it was 10% or 15%. When you look around, everybody is talking about 50% to 70% off. Our values, our discounting is meaningful to our customers, but to new people who don't know us, it doesn't mean much. Because they are used to 50%, 60%.

So, to answer your question, what we are going to do is, on a gradual basis, we will reduce the discounting as we increase our marketing. We are not going to do it at one time. That will not be wise.

Yes. Great. Well, I applaud the thinking, and certainly I hope it works. My last question is on digital marketing. I think you said you were going to double that. I was curious whether the cost of digital marketing, click for click, or wherever you measure it, has increased. And I am really, I guess, getting at the online players that have come into the furniture space. Are they running up search engine costs, or what are you seeing on digital marketing costs?

Corey, what do you see?

Overall, fairly stable. The paid search is probably the most volatile, but there are so many different areas that you can search and, when you want to have the paid search, that it still makes it very, very affordable and is very targeted. And then, on the ad networks, that we are finding is stable, and we are actually -- by increasing our buys, we are getting better rates because of the increased volume.

Overall, John, we are going to double our spend on digital, which will include utilizing many channels, including we have done a deal with Disney interactive, and they will be using -- some of our funds are also going to be used to advertise through their mediums, especially on the Ethan Allen Disney program, I think, starting at the end of this month and next month.

Okay. And I guess I lied. I had one final question, and it was on real estate. And your comment about some of these stores being half the size (inaudible). Is there a cadence to the leases expiring, or are there owned stores that you might consider getting out of? I am just trying to get a sense for how quickly you could change the retail footprint to a smaller store size?

John, it is a continuing process. We are in a number of markets. For instance, right here in Connecticut, we have a design center in Norwalk. And, just to give perspective, this has happened in many parts of the country. These were all established 20 to 25 years back when at the time we had many neighborhood stores. Today we have got one major design center in Stamford. One in Danbury, one in Milford. We came to the conclusion we don't need Norwalk. These three can take care of its customer and its designers have gone into the other three. I think we are going to be able to take that business.

So one is rationalization. We have been doing that. Second is, as leases come up, relocations. And, too, it is smaller. And they are going to get smaller and smaller because the amount of technology that we have today is extremely important. We just opened in the last year or so 7000, 6000, 8000 square feet. Five years back, we would have taken it to 15,000 square feet, too big today they are not going to work.

And so as the leases come up and they are coming up and as long as you open new ones, like, for instance, the one in Atlanta -- I mean, in Chicago, it is about 8000, 9000 square feet. A few years back, we would have had 15,000. And as we move forward, 6000 feet is even okay because today with technology and a lot of great personal service by our interior designers, that is our differentiation. Because we are not only a furniture business. We really are in the business of interior design, providing the services. That is what differentiates us.

Great. Thank you. Good luck.

Cristina Fernandez, Telsey Advisory Group.

A couple of questions. The first one, I wanted to ask about online -- sort of your online strategy. How was online this quarter with regards to what traffic and conversion and any updates since the Analyst Day on your strategy there?

Christina, the good news is that it is increasing substantially in terms of traffic, in terms of sales, but from a small base. Corey, this quarter ends up with how much?

High double digits.

High double digits. So we are not giving the number. But, I mean, it is continuing to grow, and we are going to see a lot more because also not only is this to just pure e-commerce, but more importantly, now our interior designers are doing live chat, and all that business is going to our e-commerce. And, as you know, when we started e-commerce, we made sure that the credit of this will go to our retail network and our designers, too, because we really want them to get involved in it. In fact, including our work with disneystore.com, we have agreed that customers coming over there will be directed to other designers and design stores that they can provide them with design service. And that is a good combination.

Thank you. And then, my second question. I wanted to ask about the quick ship of programs. You talked about extending the program. Can you give us a sense of how many SKUs you have on the programs now versus a couple of months ago or kind of what magnitude of increase is it going to be?

Well, there are two elements. One is, of course, custom quick ship upholstery, which we launched about, I think, about a year or so back and has done well. We are continuously adding one or two pieces to that, bestsellers. And those are added in about eight or 10 different fabrics. Not a lot of fabrics. And what we do is, then those fabrics are cut and sewn and ready to go for when an order comes in. And, on average, we are delivering orders in North America in about 15 days within the receipt of order.

Now, on our case goods, we had two parts of case goods. One was on our imports, and the other is what we made in our North American facilities. Our imports were in stock, while our North American products were marginally in stock, not the full product. So we decided, starting January, we are marketing it. We started the production of it in December, and then we will start putting our bestseller North American products in stock and we are doing it. And overall, it hasn't increased -- you know, inventory has been down last quarter.

Overall, it may increase some, but it is also reducing the parts that we have in our manufacturing where we were keeping parts. Now, we are taking those and putting them into finished goods. It does a number of things. It is very important in terms of fast delivery, but also it is going to increase our capacities because, with the State Department contract and some other contracts we are working on, on contract -- the contract business, we want to be able to expand that capacity, and by building this into stock, it increases our capacities to take new business, which will give us an opportunity to do that from our North American manufacturing.

And, last one, can you update us on the homeowners marketing program? You didn't mention it today as part of your marketing strategy, but what is the program, and are you getting any benefit from that yet?

Sorry, what?

The homeowners marketing program with the real estate agents?

Oh, yes. It is okay. It is not -- it is still in its infancy. We still really have to still do a lot more work on that. And we have made some progress, but not as much as I would have liked to see, Cristina.

Thank you.

(Operator Instructions) Justin Bergner, Gabelli & Co.

First question, just to sort of make sure I have the numbers right on the advertising. I guess your 10-K says you spend $31.5 million for advertising in the June 2016 fiscal year. So should I take that number and increase it by 20% to get to your June 2017 fiscal year expected advertising?

So what I would do at this stage, what I would do is I would take the second half what we did in the third and the fourth quarter, and then you can, at this stage, for your purposes, you can increase it by 20%.

And how much was the third and fourth quarter last year combined?

I will tell you what they were. Right here. We had last year, third quarter was $8.7 million. Fourth quarter was $8.6 million. So, John, what is that? That was $17.3 million? So we spent $17.3 million in advertising last year in the two quarters. So, Justin, if you want, for your purposes, increase by 20% approximately. That is what our plan is at this stage.

And then, that higher run rate will continue into the 2018 fiscal year or, I mean, granted, there might be some seasonality to it. But is that --?

You know, of course we will increase the spending as that business should come in. If it doesn't come in, I will reduce it. But, at this stage, I think this is going to come in and that we will be more aggressive. But, you know, we have got to make sure that we have the flexibility of increasing it or reducing it as we go along. But I think for purposes of your -- this second half and for the next fiscal year, you should take what we spend in 2017 with these adjustments I talked about, and you use approximately -- just say for 2017, we will be spending 20% more. That may not be exactly but that will be okay. It may be somewhat higher than what I am saying, but it is okay, too. But I think, at the end of the day, we also have to see how the top line grows.

Okay. That's helpful. And then, just one other question. The decision to have more case goods ready to ship at the store or near the store, is that being motivated by any sort of change in the competitive dynamic? Is that something that your competitors are doing and you feel the need to keep up?

You know, Justin, there are a lot of factors. Certainly, people today want things faster. Certainly, there is a competitive factor.

The second is, keep in mind that we used to make them for stock before this great recession hit us, and it hit us so badly we said we got to save money in every possible way. So we took all our US manufacturing and turned it into custom, meaning that when orders came in, we would make a profit. It was good and it gave us lots of flexibility, but today we have an opportunity of making the product, finishing it, be available for faster delivery. And, as I said, it improves the operations, efficiencies, and, also very importantly, gives us an opportunity of having production which we believe we believe for the State Department and other programs.

Okay. Thank you for that perspective, and good luck in the second half.

There appear to be no further questions at this time.

All right. Well, thanks very much, and thanks to everybody. Any questions and comments, please let us know. Thanks very much.

Thank you, sir, and thank you, ladies and gentlemen. That does conclude your program. You may disconnect your lines at this time. Have a wonderful day.