Haverty Furniture Companies Inc (HVT.A) 2005 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the fourth quarter 2005 earnings release conference call. At this time, all participants are in a listen-only mode. (OPERATOR INSTRUCTIONS).

As a reminder this conference is being recorded today, Tuesday, February 21st of 2006. I would now like to turn our conference over to Mr. Clarence Smith, President and CEO. Please go ahead, Sir.

Thank you. Good morning. Thank you for joining us for our 2005 year end conference call. Our fourth quarter profits were $0.30 versus $0.38 last year, down 21%. Gross margins improved 59 basis points but were offset by SG&A, which increased 137 basis points with the primary increases in energy and distribution expenses.

We experienced several significant costs related to holding inbound merchandise and extra warehouse transfer expense in the fourth quarter. Early in 2006, we completed the transfer of our imports to a new freight portal which should help us reduce these costs, beginning in Q1 '06. Also in January, we began receiving merchandise in our expanded distribution center in Braselton, Georgia. This has allowed us to back up merchandise to better support our sales while reducing demurrage charges for extended holding periods in containers, due to last year's lack of warehouse capacity.

Distribution costs have been a drag on our earnings for over two years. But we believe we will begin to see leverage on our investments and a reduction relative to percentage of net sales going forward.

2005 has been a very tough and transforming year for Havertys. We believe we are well-positioned to reach our goals, however, and to gain market share from weaker retailers now and into the future. We will have many opportunities to grow and add stores but our expansion must be carefully calibrated at a time when our net margins are being squeezed due to higher fixed costs and operating expenses.

From merchandising to sourcing to marketing to human resources to floor sales, we are committed to be better than we have ever been in everything we do. As we move ahead we are looking at different smaller formats to fit some of the markets and the existing retail boxes available. Our main focus for store growth will be centered on our substantial investments in state-of-the-art distribution.

2005 highlights, Florida distribution center opened in January 2005. Six related Florida warehouses closed in the first half. All our DCs and home delivery centers were converted to our new distribution operating systems. We strengthened our position in the Midwest with openings in Indianapolis and Columbus, Ohio. We began our first shipments of direct imported products late in the year.

Our business plan in 2006 is to evoke a deeper and more meaningful relationship with our customers. We will develop our business into a customer-centric organization. Moving forward, our goal is to deliver a complete brand experience where the satisfaction of the customer is the highest priority.

Over the past five years we've put in place an infrastructure and systems to support our stores to provide the best values and services in our communities. Now we are investing the energies and resources to better understand our customers' needs and strive to serve them as she would want. We will be basing our marketing and advertising plans on expensive market research directly with our targeted customers.

Several domestic furniture brands are morphing into retailers to develop stores in our more local markets to ensure placement of their product. We must respond by developing superior quality product with great styling, service, and value to justify our customers' business and ongoing loyalty. We have to respond quickly to our customers' taste, styles, and preferences.

We are pleased with our new products that our merchandising teams have developed and the newest collections have had excellent reception in the last several weeks. We have to separate ourselves from the competition by establishing an emotional connection with anyone who walks into a Havertys store. Success requires us to provide our customers with exactly the right environment and service to justify a fair price for our Havertys-branded products.

The most profitable businesses in the world use their widely recognized brands to gain pricing power and Havertys needs to do the same. In the months and years ahead, Havertys will take bold steps to raise awareness of our brand and our new furniture collections. We believe that our customers recognize the values we are presenting and that we can justify higher gross margins with our exclusive products. We expect that our gross margins for 2006 will be at least 50 basis points higher than 2005, due to the larger selection of exclusive Havertys branded goods and fewer markdowns compared to 2005.

Our strategic focus for 2006 and our action plans are No. 1, drive same-store sales growth; 2, improved gross margins; 3, reduce distribution costs; 4, improve service levels; 5, refine this competitive position and 6, profitable store growth within our distribution footprint. We are pleased with the recent Presidents' Weekend sales which were up 4% over last year even with difficult weather issues. February month to date written sales are up 1% over last year.

Much of the repositioning and investments in our operations has taken place. Our mission this year is execution. The strategic focus is basic blocking and tackling in the retail furniture business. It is easy to say but tough to do. We must regain our profitability levels and demonstrate our ability to produce a strong return for our stockholders. We believe that we are in an excellent position to do so in 2006. I would like to now turn this over to Dennis Fink, CFO.

Thank you and good morning everyone. Let me first mention that this conference includes forward-looking statements which are subject to risks and uncertainties. Factors that might cause actual results to differ materially for future results expressed or implied by these forward-looking statements include but are not limited to general economic conditions, the consumer spending environment, large ticket items, competition in the retail furniture industry and other uncertainties detailed from time to time in the Company's reports filed with the SEC.

First talking about fourth quarter SG&A expenses, they were higher than last year but they did improve by 151 basis points of sales sequentially from the third quarter. That is often the case since the fourth quarter sales are normally the highest of the year and we are able to leverage our fixed expenses. Occupancy, warehouse, transportation, and delivery expenses were all higher in the fourth quarter this year over the fourth quarter last year. Fuel, utilities, property tax and depreciation expenses all increased. Four more stores were open than a year ago and energy costs were higher in general.

Our sales weren't as strong as we expected so our staffing levels were geared a little higher than were necessary. We expect to be facing far fewer disruptive operational changes during 2006 than for any of the last four hectic years. That is exactly the environment that allows for better efficiency and cost control. We will be putting forth a big effort to squeeze our operating and general overhead costs.

Interest expense, net of interest income for the fourth quarter was a credit of $102,000. This occurred because the accretion of upfront discount on sales financed in-house using our greater than 12 months, no interest programs was more than the interest expense on our debt. The original discount is set up on a sale as made under one of these free interest programs and is charged against our gross profit for that month. As the discount is accretive in future months over the life of the accounts receivable the credit goes to interest expense and we are seeing a large amount of that accretion take place now.

The tax rate for the year of 2005 was a little lower than normal at 36.1%. We expect that the 2006 rate will probably be more like 37%.

The inventory decrease of 3.2 million versus year end last year looks good on the balance sheet. But our warehouse inventory was less than needed for good service and acceptable in stock position as Clarence talked about. During 2006 we will probably be adding five to ten million more in warehouse inventory as we occupied by much of the needed additional space.

There will also be some increased and inbound inventory under water for direct imports in transit.

Our customers are continually trying to use our credit promotions less frequent frequently. Amounts financed under credit programs were 39% of total sales in 2005. That is down from 42% in 2004 and 46% for several previous years to that. The in-house credit promotions were used a little more often than the outsourced credit promotions for 2005.

Our accounts receivable portfolio remains stable and we're pleased with collection experienced in trends. Clarence quoted our improved debt to total cap ratio. We mention we do have a five-year $80 million syndicated bank line in place that was renewed back in August of 2005 that will allow for more debt capacity if the need arises.

Capital expenditures were 35 million for 2005, lower than we had projected. Most of that difference is carried over to our 2006 budget as we are now expecting about 32 million in capital expenditures for 2006.

We added four stores in 2005 and physically expanded three stores which, together, added up to 169,000 square feet which was 4.2% added to our retail square footage. However, we also closed three old stores totaling 94,000 square feet so for the year we grew at a net rate of 2%. We plan in 2006 to open five or six new stores with one of those being a replacement store. We will carefully evaluate any underperforming stores and may decide to close one or two others by the end of the year. So the 165,000 feet to 190,000 feet in new retail space that we are adding could be netted down to 3% or below total growth for 2006, depending on any store closings. And Rose, that's all the prepared comments we have. We'd now like to open it up for questions.

(OPERATOR INSTRUCTIONS) Susan Maklari from UBS.

Good morning. Can you talk a little bit about, as you get your additional warehouse capacity coming online this year, any sense of the kind of incremental margin that you could see coming to (inaudible) from that?

Are you talking about gross margin?

Yes.

I said earlier that I feel like our increase can be at least 50 basis points. And that's not just due to the fact that we have more of the merchandise and that it's Havertys branded merchandise but also we will have fewer markdowns and I think at least is the right addition to that statement. So I don't know if that answers your question.

Will there be any benefit on the SG&A line as well or -- ?

Yes; absolutely. And that's a real focus Dennis talked about. I did, too, and I think that the real factor which we think we can all but eliminate is the demurrage and that was huge last year. It was a major hit. So, Dennis, do you want to comment?

Well, it's $2.5 million and as we said 1.2 million was in the fourth quarter. So we will have a little higher rents but the -- it's very much a positive differential. Also we had a lot of excess labor cost moving inventory around to sometimes around to trailers to move some inventory out, to put the inventory that we needed to fill orders in the right spot. So it ought to be a lot more straightforward operation.

That has been completely handled at present, Susan. We have moved all that into our new facility and it's not operating 100%. But it is actually ahead of schedule. So we don't anticipate any significant issue there.

Can you quantify the SG&A improvement for us at all?

Well, the demurrage is pretty straightforward. The rent is probably less than half of the total demurrage cost. And I think we are going to have to see the whole subject of efficiency in this new facility as you've been through it and some others have. We are finally going to be running it in the right kind of conditions and we believe there's a lot of room for improvement. I guess I can't quantify exactly how much that is. We have some targets but we want to have it happen and then tell you about it.

What about -- you kind of mentioned this earlier but in terms of the markdowns is most of that behind you now?

We had some large markdowns at the end of the year. Some of that was to make room. And we believe that is behind us. We will always have interim markdowns just to keep the inventory in good shape. But I think the major part of that is behind us, yes.

Thank you.

Bud Bugatch from Raymond James.

Good morning. I, too, am like Susan. I am a bit confused on SG&A. If the demurrage, Dennis, you said for the full year was 2.5 million?

Yes.

That's -- I think, if I do my math right -- something on the order of 30 basis points year-over-year, right? For the full year. The SG&A was up 115 basis points and then I think you said rent was half of the demurrage increase?

Rent on the new facility will be less than half of the demurrage, yes.

That's 40 -- so between the two of them, that's 45 basis points. So we've got 70 basis points of increase of SG&A unexplained which is the majority of the SG&A. What's going on with that? Where is that coming from?

I wouldn't call it unexplained. We haven't given the exact numbers but we mentioned the categories in our comments.

Can you kind of prioritize them for us then, make sure we understand them?

Sure. The biggest thing has been fuel and utilities and transportation costs. Transportation is what we call moving our product from one of our main distribution facilities to a market where the local deliveries are being made. So it's from warehouse to a market or to another cross stock facility.

And that is in SG&A?

Yes it is.

When you look at the store expenses per comp stored. Did they go up markedly then or is that what happened? What's going on in the comp store in the comparable base? SG&A.

On the stores, the utilities were up and property taxes were up. Those are the two items. The store expenses themselves were not up that much. It's mostly in distribution and Bud, I misspoke, but the actual transportation cost, it was in our SG&A and as of last quarter, we've been reclassifying that to cost of sales. So pardon me for that but -- .

Now I am confused again.

Well the transportation cost in direct labor backed with that to September 30 press release, we had said that we had been recording that as SG&A expense. And we recast that as more properly as cost of goods sold and we presented the figures for the last few years, as to reclassing that retroactively on the P&L. So those expenses actually do get charged the transportation cost and directly we're in the warehouses.

Have you reclassed the full year on that basis now? We got that (inaudible)?

Yes we did. We put on our web site back at September 30. The full year is there and in the numbers you see this year, last year and quarter and year-to-date have been reclassed. But the other part of SG&A, the warehouse expenses and the demurrage costs which is part of warehouse expense have been a big item.

If we look at next year going forward, Clarence, and you have said at least 50 basis points of gross margin improvement. Dennis, do you want to hazard a guess as to what you think SG&A is going to look like next year in terms of movement of the numbers?

We are more confident in our margin increase. The SG&A has got two parts to it as totally as you know, the actual spending levels within the leveraging of the fixed cost based on sales. So we expect to have improvement as a percent of sales and it really depends on how much of an increase we can push through and how much we can control spending. We've got -- as I was saying, we have had an environment where we've had a lot of changes constantly for several years. All the systems as of the end of the fourth quarter are running as they will run now for several years. We have people that have been in place for a while now and we think we ought to be able to squeeze our expenses. You do still have to plan for the right overall level of staffing which means predicting some total volume levels sales and where it's going to occur because you have to have the right delivery teams and the right market.

But we planned, we understand that that's a big area that we've got to work on and it's higher than we would like, obviously. And we are trying to work it down.

One last area. You had 1.8% delivered comp store sales for the year. Our written orders were where for the year in terms of comps?

I will pull that number out. I haven't got it right in front of me; I will mention it with a later question. I'm sorry, I can't do that right this second.

And I'm trying to get to a situation where you think comps should wind up this year? On average the industry grows at something like a mid single digit so last year was below the average, year before was above the average almost 9%.

So it looks to me like a kind of losing some share, I think, on a comp basis. Do you think you can regain some of that next year? You think we get back to closer to the grasp of the mean kind of situation?

Well, Bud, certainly our target is to get back to the mid single digit comps. I mean, that's where we need to be. We have not been there. The last several months have been flat as you know, and slightly negative. We think that we've got a lot of momentum in key markets that could help get there but we are not giving guidance for the comps. Certainly, it's our top priority as I listed.

Clarence maybe you can just help me parse it this way. I'm sure somebody else will probably ask this question, too, is if you look at the comps on a unit basis or a deflated basis or an average ticket basis, someway to help us understand, is that comp really (MULTIPLE SPEAKERS)

We think it's real. Our average ticket has been going up slightly and our price per SKU has been going up slightly in all the very low single mid single digit. So.

This is a traffic issue then? Traffic and conversion issue.

I would say it is a traffic issue; and it is also making sure we convert those customers. It is both. So and I misstated that mid single. It's very low positive single digit. But it's positive. So, yes, clearly we need to get more share of who we are getting in the store and get more traffic and that's what we are focusing on.

Best of luck for 2006.

Let me come back with that other answer. You'd asked about comps on a written basis. We don't disclose that number exactly because we're not as comfortable with the number as we are with exactly the delivered sales but it's around 1%. So it's a little bit less than the delivered basis comps for 2005.

Laura Champine from Morgan Keegan.

Good morning, Dennis. A lot of my questions are housekeeping for you. The CapEx guidance you gave for 2006. Would you mind repeating that?

It's 32 million.

And you gave some square footage numbers; and you said that in '05, store closures accounted for 94,000 square feet. What was the add, the gross addition of square footage in 2005?

169,000.

You mentioned the potential of adding 165 to 190,000 feet. But then said that there might be closures that would take your total square footage gross down to 3% for '06. Is that right?

That is correct. Yes there is going to be one closure for sure because we have one of the new stores is a replacement store. There could be one or two others. We are just looking closely at that, and have not made any decisions but we will be.

Then in Clarence's comments I think he mentioned so far in February tracking 1% growth on a written basis. Was that comparable or is that total?

No, that's total.

So my expectation would be that the comp is still down. This may be somewhat repetitious but when you talk about getting market share gains, is that square footage gains? Or is it really that you are looking for better comp growth this year?

We are obviously looking for better comp growth, Laura. And I think we are starting to see some life. And doing that in key markets, as I mentioned, we are very pleased about this weekend which is critical to the quarter. And I think that we need to move out of that flat to low, very low negative comp. I mean, that's our main drive. And until you do that, you are not gaining market share.

But that Presidents' Day sale that's included in that written number that's up 1% for February?

Yes it is.

And we used to talk about 6% on a net basis unit growth. Is that something I should model for the out years or should I keep this kind of low single digit number?

Are you talking about for square footage growth?

Yes sir.

Well, I think what Dennis said here is what is going to happen this year unless something else happens and falls in our lap which -- I don't know if that will happen. We are trying to make what we have work better. And so, as opposed to opening a lot of stores, we want to make sure that the ones that we have we are able to get those mid single digit comps. And we want to make sure that we are leveraging this incredible infrastructure we put in place in these markets and in these regions we serve.

So we are not pushing to grow outside of that and we are not pushing to grow too fast until we get this comping better.

And, Clarence, what do you believe will be the drivers of that better comp this year? What are you doing differently to drive a better same-store sales result in '06?

We are refining a lot of what we're doing but I think certainly having the right product and the right value which I believe is coming in and we have been very pleased with the new product that we've helped develop and is exclusive to us. The direct import merchandise. It is now hitting the floors. It started coming in, in January and very late last year. But mostly January and this month. And I'm counting, certainly, on having the right product. We are working on our presentation making sure that the stores look the right way, that they are organized and displayed properly. And we are refining our advertising as I mentioned with a lot more research to understand what does work best. We are doing more direct marketing with our customer as opposed to what we've done in the past.

So I feel very good about our direction and our presentation and our product. And I think in our markets, we will gain share but we have to demonstrate that before we start growing at an old target which was about 6%. I think that can come but it's not our priority right now.

John Baugh from Stifel Nicolaus.

Good morning. I wanted to dig into a little bit into the direct product you are bringing in. Talk to me about the specifics about the value there. The same dining room table if you will. Or is it something that is different, coming from a different factory? Is that -- speak to me in terms of, if you can, any specificity about the (MULTIPLE SPEAKERS)

We are developing our own product and using our own designers to bring that in. And it is different than what is out there in the marketplace. Now we are also going back to, directly, to some of these Chinese factories which many of the manufacturers are also sourcing through.

So we are cutting out some middle costs. However we recognize there are some additional risks and costs of our own in doing that. But it is different products and different designs, using other people's outside experts but also our own. So --

So in your mind it's the product differentiation that is more important or is it the value of the proposition?

It is both. I think it's both. I mean if you look at what we are advertising now we've got better quality product at lower prices than most of our competition have for the similar quality and that is what is going to help grow shares.

Can you quantify the price differential just in broad terms versus what you bring it in, albeit, I guess with agents before for major or versus what you're sourcing domestically?

I would say that it can be 20 to 30% less than what comparable values are through other manufacturers.

And you said just (indiscernible) floors now, how big an impact is it going to have, say, in calendar '06? What percentage of the mix will this be in '06?

It's going to be hard to quantify. We have some targets. I don't know. Dennis, do you have any insights on what you would like to say about it?

I think we only have constraints on it. It's just as we find product and are successful with bringing it in and like what we see and we can move forward. But it's -- I think we've been testing water and I think that the Haverty brand is going to carry on, respective of the sourcing.

Also most all of our wood is imported. So we are using agents and so when you're saying direct sourcing versus agents, I mean, most of what we're bringing in now is through some third party. And there's an agent middleman in there and in some cases that's good for us and worth the charge. And others, we are trying to make sure that we've got the right pricing on the product from Direct.

So if you -- No. 1, I'll say that we have said that our Haverty's branded product has a target of being 80% of sales by the end of the year in everything but bedding. So we are moving to that end; and as far as the direct sourcing it's probably going to be 10 to 20% of that.

Thank you. Dennis, how do we model interest expense going forward?

I think it's going to be near breakeven to slightly positive. It's going to depend on how many internal credit promotions we run and what the charge is to gross profit on the front end. But we still are low leverage and it should not be a big number either direction. I would say it would probably be zero to slightly positive number. That is to say an expense number.

Can you help me with new store economics? I may have this all messed up but my recollection was, a few years ago, you were sort of thinking bigger formats, bigger square footage. I think you mentioned on the call here maybe smaller square footage in other markets. Has there been any change in the performance of the new stores you've opened or has it sort of been target-specific? Like this market is really good but that market's bad and what would be the direction going forward?

Let's go back to the format. Our average size is 35,000 square feet. And that's about the size we have been opening and are opening this year. What we are looking at is in some markets doing smaller formats. Let's say in the 20 to 25,000 range due to the fact that there are a lot of opportunities and sizes available like that. And the economics themselves, the real estate is a little more expensive. We've been able to come up with some tighter formats which we think fit that mix.

And so we are willing to experiment with that in markets that may be unaffordable at the larger size. So that's the main reason for that. I think it does make sense in certain markets and we will be experimenting with that this year and in the next year.

So we are really not trying to -- in a market like Atlanta or Dallas, we have great coverage here and I don't see that we would go to a much smaller format unless it fit what the individual market was. The store we are opening in Stonecrest which is east of Atlanta is the 35,000 square foot. It's going to be more market-specific.

And has there been any change, Dennis, appreciably in the store performances over the last few years better, worse, any -- ?

Our sales per square foot last year was over $200 for the first time so and it's always better in the major metros. So, Dennis, you have any other -- ?

(OPERATOR INSTRUCTIONS). Susan Maklari.

Can you talk a little bit about your uses of cash in '06? I know last year you bought back some stock. What's your appetite for that versus maybe further repaying down debt or something along those lines?

Well, we've got a CapEx plan as Dennis mentioned of about 32 million. I don't -- we've got authorization for more opportunity to buy stock back. That's not on our -- front of our agenda right now. We do have more investments in the stores here but I don't think you're going to see anything unusual there. Dennis? Any comments on that?

The debt repayments, we just got the schedule debt payment which is all we probably want to do in light of reducing debt and believe that's a little over 12 million. So we like the idea of not being highly leveraged and being careful about our growth plans, although we want to still grow. But we just want to be careful about the capital expenditures until we've seen a better operating performance of our existing stores.

Gentlemen, there are no further questions at this time. Do you have any concluding comments?

We very much appreciate your attention and joining the conference call this morning. Thank you.

Ladies and gentlemen, that concludes the fourth quarter 2005 earnings release conference call.