LL Flooring Holdings Inc (LL) 2012 Q3 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the Lumber Liquidators third-quarter earnings call.

With us today from Lumber Liquidators is Mr. Rob Lynch, President and CEO, and Mr. Dan Terrell, CFO. As a reminder, ladies and gentlemen, this conference is being recorded and may not be reproduced in whole or in part without permission from the Company.

I would now like to introduce Ms. Ashleigh McDermott. Please go ahead.

Thank you. Good morning, everyone, and thank you for joining us today. Before we begin let me take a moment to reference the safe harbor provisions of the United States securities laws for forward-looking statements.

This conference call may contain forward-looking statements that are subject to significant risk and uncertainties, including the future operating financial performance of Lumber Liquidators. Although Lumber Liquidators believes that the expectations reflected in its forward-looking statements are reasonable, it can give no assurance that such expectations or any of its forward-looking statements will prove to be correct.

Important risk factors that could cause actual results to differ materially from those reflected in the forward-looking statements are included in Lumber Liquidators filings with the SEC. The information contained in this call is accurate only as of the date discussed. Investors should not assume that the statements will remain operative at a later time.

Lastly, Lumber Liquidators undertakes no obligation to update any information discussed in this call.

Now I am pleased to introduce Mr. Rob Lynch, President and CEO of Lumber Liquidators. Rob?

Good morning, everyone. I am here with Dan Terrell, our CFO, and we are pleased to be speaking with you about our third-quarter 2012 results.

First, I would like to thank all of our teams across the Company for delivering a terrific quarter with exceptional financial results. Highlights of our third-quarter performance in comparison to the prior year include a net sales increase of nearly 19%, comparable-store net sales of 12%, a gross margin increase of 250 basis points to 38.1%, operating margin expansion of 380 basis points at 10.2%, net income growth of over 91%, and we ended the quarter with a cash balance of $40 million.

Our ability to drive consistent strength in our top line, capture additional share in our fragmented market, and deliver record operating margin in EPS is a direct result of our team's commitment to our five key strategic initiatives. We continue to focus on growing revenue, improving our sourcing, optimizing our supply chain, driving traffic through advertising reach and frequency, and developing the best people to serve our customers.

Most importantly, we have maintained a strong and focused commitment to continuous improvement in all that we do and to strengthening our value proposition of price, selection, quality, availability, and people. We firmly believe this value proposition distinguishes Lumber Liquidators in the marketplace.

Throughout the entire third quarter we saw success with the expansion of our advertising reach to a more casual consumer, increasing recognition of our value proposition. Combined with the greater frequency of our call-to-action message, consumer demand remained consistently strong. Given our better-than-expected top-line results, we again leveraged advertising even with our investment in broader campaigns.

As we have discussed, we will continue to reinvest our national advertising leverage and programs to drive traffic while also remaining focused on increasing the effectiveness of our total advertising spend.

Average ticket for the third quarter was the highest it has been since the fourth quarter of 2008, primarily driven by increases in moldings and accessories and the expanded product assortment of premium products. Our merchandising team has relentlessly focused on providing the best selection and availability of all of the products our customers need to be successful and satisfied with their flooring project. As a result, we are striving to enhance the selection component of our value proposition across the board.

For example, during the third quarter we introduced a number of new floors in all categories and significantly expanded the flooring, tools, and accessories lines to better assist customers in completing their entire project from start to finish. Our top-line growth also reflects our continued success in opening new stores. As we have discussed, we have enhanced our site selection processes this year and continue to emphasize total market returns. In the third quarter we opened seven stores bringing our 2012 new store total to 21 and maintaining our pace to open 23 to 25 new store locations this year. Our approach has produced very profitable new locations, which have been performing better than we had anticipated.

We continued to see increases in both total market penetration as well as comparable-store net sales in our cannibalized markets. Notably, our oldest stores produced high single-digit comparable-store net sales in the third quarter.

At the same time, we have made considerable progress in our store of the future initiative. As a further develop this concept in the fourth quarter, we see significant opportunity for success and are even more excited about rolling this out to both new and existing stores in 2013.

Our sourcing initiatives and supply-chain optimization, which are multi-year efforts, contributed to our gross margin expansion. Our line reviews are ongoing, and as I mentioned, we continue to evaluate product assortment expansion to align with customer preferences. We remain focused on sustaining close working relationships with our vendor partners worldwide with specific focus on strengthening relationships in South America, which has enabled us to improve sourcing and quality control there.

Progress on our key strategic initiatives is a reflection of the efforts of our world-class Lumber Liquidators team. Focus on our best people initiative remained a priority in the third quarter as we completed our four planned regional Lumber Liquidators University programs reaching all store personnel with in-depth training in enhanced selling skills and providing direct access to members of the senior team. As we had hoped, this has enabled us to achieve an even more unified vision and set of values for the Company.

We also remain focused on appropriate allocation of our capital. Our first priority is funding our operations, growth plans, and strategic initiatives to expand our operating margin. Second, we will maintain our conservative debt-free balance sheet. And, third, with excess capital return value to our long-term shareholders.

We continue to view our share repurchase plan as an effective method to return value to our shareholders. Going forward, we believe we are well positioned to leverage our past capital investments and generate substantial free cash flow.

Lumber Liquidators is successfully navigating through what remains an uncertain retail environment. We are a strong company with a value proposition that resonates with our customers and one that has substantial room to grow and improve. I continue to have great confidence in our team's ability to build on our success and to further capitalize on the investments we have made to grow both net sales and earnings as we move forward.

I am more excited than ever about the opportunities that lie ahead as we execute against our long-term goals and strategic initiatives.

With that I would now like to turn the call over to Dan for a detailed review of our financial results and outlook. I will then return with some closing remarks. Dan?

Thank you, Rob. Good morning, everyone. I will provide additional details on our results for the third quarter and then update our outlook for the remainder of 2012. My references to percentage and basis point changes are in comparison to the third quarter of 2011 unless otherwise noted.

Our 2012 net sales growth remains consistently strong with an increase of 18.8% in both the third-quarter and nine-month comparisons. That growth was driven by strong comparable-store net sales and the growth of our store base.

In the third quarter, net sales of $204.3 million were up $32.3 million with a 12% increase in comparable stores contributing $20.6 million and non-comparable stores adding $11.7 million. The strength in comparable stores was consistent throughout the quarter with a double-digit net sales increase in each month and impressive across our maturity curve with a 21.9% increase at stores operating for 13 to 36 months and a 9.3% increase at all stores older than three years.

We were pleased that the increase in comparable-store net sales was a combination of a very strong average sale, as Rob previously mentioned, and an 11.7% increase in the number of customers invoiced, or our definition of traffic. We believe the increase in the number of customers invoiced was primarily a result of three factors.

First, greater recognition of our value proposition as we continue to broaden our advertising reach and frequency. Second, fewer non-comparable stores operating in existing markets. At the end of the most recent quarter we were operating 19 non-comparable stores in markets with at least one comparable store, down from 27 stores at the end of September 2011.

Third, a greater number of stores in operation for 13 to 36 months when increases in net sales are generally higher than our average as customer awareness of our brand and value proposition builds in the market.

The performance of our newer non-comparable stores has continued to meet and exceed our estimates. We have opened 21 new store locations in 2012, including seven in the third quarter, and a total of 28 store locations over the trailing 12 months.

Turning to our gross margin, we had a 250 basis point improvement to a record 38.1% as lower product costs benefited gross margin by 260 basis points, net transportation costs were adverse by 30 basis points, and all other items contributed 20 basis points of benefit. Within the product cost, both shifts in our sales mix and sourcing initiatives contributed to the improvement in gross margin. Within our sales mix customers continued to prefer our expanded assortment of premium products, particularly in merchandise categories with lower-than-average retail price points.

Further, as Rob touched on, we are striving to offer our customers a more complete solution to their flooring needs and those efforts have driven increases in the sales mix of our moldings and accessories. Within our sourcing initiatives, gross margins continued to benefit from both the impact of line reviews and the close direct relationships we have with our vendor mills. In 2012 we have strengthened our relationships in South America and in September we celebrated the anniversary of our acquisition in China.

Transportation costs were impacted by generally higher costs, partially offset by greater efficiency and controls implemented within our supply chain. Overall, international container costs capitalized into the unit cost of products sold in the third quarter were higher in 2012 than 2011. These costs were partially offset by an increase in the units received directly by our stores to 26.4% in the third quarter, up from 20.6% in the prior year.

The net impact of all inbound freight costs reduced gross margin by approximately 15 basis points.

Domestic transportation costs were higher as we shipped more units from our warehouses to our stores. These increased costs were partially offset by greater efficiency in the manner of warehouse deliveries, including greater use of intermodal delivery. The net impact of these costs reduced gross margin by approximately 25 basis points.

Finally, gross margin benefited by approximately 10 basis points due to a strengthening of the control over units transferred between stores and units delivered to our customers.

Selling, general, and administrative expenses increased approximately $6.8 million, or 13.5%, to $57.1 million due primarily to higher net sales and growth in our store base. But as a percentage of net sales, fell to 28% from 29.3% in the prior year. Salaries, commissions, and benefits increased approximately $4.5 million to 11.8% of net sales, due primarily to significantly higher accruals for annual management bonuses, an increase in certain benefit costs, and higher commission rates earned by our store management.

Advertising expenses increased by approximately $1.8 million, but as a percentage of net sales fell 30 basis points to 7.4%. As Rob discussed, we continue to reinvest in our value proposition by broadening our reach and frequency, and at the same time we are challenging the allocation of our spend to utilize more effective media channels.

All remaining SG&A expenses, including occupancy, depreciation, stock-based compensation, and other expenses increased approximately $500,000 and as a percentage of net sales decreased 140 basis points to 8.8%.

Our effective tax rate to fell to 38% due to the timing of certain state tax credits expected to benefit only the most recently completed quarter in 2012.

Net income increased 91% to $12.9 million, or $0.46 per diluted share, based on approximately 27.7 million weighted average diluted shares outstanding. Net income for the third quarter of 2011 was $6.7 million, or $0.24 per diluted share, based on approximately 28.3 million weighted average diluted shares outstanding.

As we look at our financial position, liquidity, and capital resources, our cash and cash equivalents increased to $40.1 million at the end of the third quarter, up from $31.5 million at the end of the second quarter and up from $37.8 million at September 30, 2011. Merchandise inventories totaled $195 million at the end of the third quarter, down from $211.6 million at the end of the second quarter and up from $160.8 million on September 30, 2011.

Available inventory per store was $622,000 at the end of the third quarter, down from $664,000 at the end of June and up from $585,000 as of September 30, 2011. In comparison to the prior year, available inventory per store increased due to the expanded assortment of certain key merchandise categories with an increasing share of our sales mix, many carried as in stock at our store locations; the final phase of certain supplier transitions following the line reviews with these transitions now expected to be completed in early November; and preparation for certain incremental fourth-quarter 2012 promotions including our inaugural October yard sale.

Considering certain sales trends and the timing of promotions planned for the first quarter of 2013, we have raised our target range for available inventory per store to $580,000 to $600,000 at the end of the current year. Working capital was $174.4 million at September 30, 2012, compared to $156.4 million at September 30, 2011, with the current ratio at 3.3 times and 3.9 times, respectively.

Capital expenditures totaled approximately $2.9 million for the quarter and now total $9.6 million for 2012. In 2011, capital expenditures were $3.3 million for the quarter and $11.6 million through the nine months. The decreases in 2012 are primarily due to fewer new store openings and lower expenditures for technology.

We now expect capital expenditures to total between $13 million and $15 million for the full year, down from $17 million in 2011. As Rob noted, we prioritize our capital first to our operations, initiatives, and growth; second to maintaining a conservative balance sheet; and third, to returning excess capital to our long-term shareholders through our share repurchase plan.

Through the end of the third quarter we had purchased a total of approximately 1.5 million shares on the open market at an average price of $27.14 using $40.1 million of our $50 million authorization.

Turning now to our updated outlook for 2012, we believe the economy faces a number of uncertainties in the fourth quarter which may impact the demand for large ticket discretionary purchases. Those uncertainties may offset to varying degrees recent strengthenings seen in metrics traditionally associated with residential home improvement. That said, we are committed to our five key strategic initiatives whereby we intend to continue to capture share in our fragmented market.

We now expect net sales for the full year 2012 in the range of $791 million to $799 million with comparable-store net sales increasing in the mid to high single digits and a total of 23 to 25 new store locations. As a result, we expect fourth-quarter net sales in the range of $188 million to $196 million with an increase in comparable-store net sales ranging from the low to mid single digits.

We expect gross margin to continue its cumulative multi-year expansion, but we expect that expansion in the fourth quarter to be less than the 250 basis points of expansion in the third quarter due to three factors -- the timing of the benefit from certain sourcing initiatives, including line reviews; increases in certain transportation costs, including international container rates and domestic fuel surcharges; and the addition of certain fourth-quarter promotions and special events to drive demand.

We expect the increase in fourth-quarter SG&A expenses to be greater than the fourth-quarter increase in net sales, due primarily to higher advertising expenses, bonus accruals, and certain other fourth-quarter 2012 expenses, including greater use of, and longer-term, financing promotions offered under our Lumber Liquidators card.

We expect our effective tax rate to return to a range of 38.7% to 38.9% in the fourth quarter. For the full year, we now expect 2012 earnings per diluted share in the range of $1.53 to $1.59 based on a diluted share count of approximately 28 million shares, exclusive of any future impact of our share repurchase program. As a result, we expect fourth-quarter earnings per diluted share in the range of $0.35 to $0.41.

I will now turn the call back over to Rob for his closing remarks.

Thanks, Dan. As we look forward to the fourth quarter and into 2013, our entire team remains unified in its vision and motivated to continue taking market share. We remain confident in the strength and positioning of our powerful value proposition and our uniquely profitable store model. We will emphasize continuous improvement in everything we do and feel we are well-positioned to deliver value to our customers and shareholders.

We expect to open our initial store of the future concept stores between late December and early February. Overall, we believe the detailed planning and expansion of the showroom layout will strengthen our efforts to offer the customer the complete flooring solution. We expect the showroom layout to complement the expertise of our world-class store teams and enhance the experience for the retail customer.

Our team will continue challenging design and process for the remainder of 2012 with a staged rollout scheduled for 2013. We are very excited by all of the opportunities we have. With the best team in place, continued emphasis on driving traffic, growing our footprint, improving operations, and expanding operating margin, we believe Lumber Liquidators has a future of consistent growth ahead.

Before we turn the call over for your questions, I would like to thank all of our associates in the US, Canada, and Shanghai for their dedication and ongoing efforts.

Operator, we are now ready for questions.

(Operator Instructions) Brad Thomas, KeyBanc Capital Markets.

Thanks. Good morning Rob, Dan, and Ashleigh. Congratulations on a great quarter here.

Wanted to talk about gross margin. Another very strong quarter here; you have a lot of initiatives driving that up. As we think about the fourth quarter and kind of the sequential outlook here for gross margins, it would seem like there is the potential for the fourth quarter to be another great quarter for gross margins here.

How should we think about the magnitude and maybe some of the things that you are doing in terms of pricing and other promotions that might limit the upside in the fourth quarter?

Brad, I will start with it and then maybe Rob will add to it. As we gave our guidance, we talked about the expansion in gross margin continuing and certainly we have talked in previous calls about cumulative multi-year benefits of our sourcing initiatives, including our line reviews, and where we are trying to implement additional controls within our supply chain which will add benefit and offset some of the impact of rising transportation costs.

Finally, we are making investments in our quality control procedures and strengthening our relationships with vendors where we feel like we will eventually get some gross margin benefit there as well.

Based on the promotions that we are planning for the fourth quarter and based on the timing of the benefit of line reviews that we see coming, we expect to see expansion of our gross margin in the fourth quarter but not in excess of those 250 basis points that we saw in the third quarter. We are still seeing some pressure from transportation costs, certainly not a steep ramp but a slowly rising cost in both international container costs and some uncertainty around domestic fuel costs.

So all-in, the timing of the benefit that we see of these cumulative multi-year initiatives, the transportation costs, and some of incremental promotions all leave us with an expansion that is going to be somewhat less than what we saw in the third quarter.

And just to clarify on the transportation costs, I think, Dan, you said that that was a 30 basis point headwind in the third quarter. Based on where the container rates have been, what would you expect that to be in the fourth quarter?

It is still a headwind. Part of it is going to be what happens with domestic fuel. The container rates are probably going to be higher than they were in the prior year, continue to be, although I don't see it rising substantially.

Domestic fuel is going to be the wild card and how much of the method of transportation and control we can exercise over the process will determine how that comes out. But still expect it to be a headwind in the fourth quarter.

Great. Congratulations, again. I will turn it over to other people.

Matthew Fassler, Goldman Sachs.

Good morning to you. My first question, on the balance sheet customer deposits are up nicely year on year. There was a point in time when your supply chain wasn't quite as clear as it is right now that that might not have been a good thing, but it seems like a pretty good leading indicator of your business. So how should we think about the increase in customer deposits?

Matt, I will start. We had consistent strength throughout the quarters and that continued right into the end of September. We had a very strong end-of-period promotion. September is normally a month where we offer that promotion, but we had great customer reaction to our value proposition. So our customer deposits are strong and fresh.

And as you said, post SAP implementation there were some issues with the supply chain and returning to full productivity, but we feel that is taken care of. We are probably more productive than we have ever been, so that is why we are pretty comfortable with the balance and the freshness of the balance.

Matt, it is Rob. What I would add to that too is you hear us talk a lot about continuous improvement and one of the things I am really pleased with is just how well the teams are working together cross- functionally. We have made significant enhancements in how we are operating and executing within our supply chain, within our DCs in terms of how we are servicing our stores, and the quality and accuracy of those deliveries to our stores. So all of those I think are actually helping as well.

As we talked also about the advertising reach, how we have been increasing our advertising reach and frequency we are really pleased with that. We have increased the advertising spend. We have been pleased with the results and we are still leveraging the advertising.

So that is what we are trying to balance is the balance between how much of the improvements we are driving that are flowing through and how much we are going to reinvest either in advertising and/or in promotions to drive traffic to take market share.

Rob, you actually anticipated my second question which related to advertising. It was great to see Lumber Liquidators back to double-digit advertising growth given that this has really been the lifeblood of the Company over a long period of time.

What is the right level of dollar growth to think about for advertising going forward?

Matt, that is the Holy Grail. If I knew that question I could retire. But really it is a good question.

I will tell you this; that is why we talk about continuous improvement. We are learning every day, we are trying new things, and we are staying on offense. We are constantly looking for that balance in terms of optimizing the return on the investment in the advertising or in the markdown and in the promotion.

So as long as we see the results like we are seeing here we are going to stay on offense and continue to reinvest in the advertising and in some of the margin enhancements back into price to take market share. So I am pleased with the return we are getting on those strategies right now and I think you will see them continue.

My final question; I know you are broadening out the mix in a number of ways. But if we focus on truly new categories that you had not slowed at all, primarily tools I guess, how big is that and any others that you might be testing as a contributor to the same-store sales increase versus the traditional flooring and accessory business?

I will talk high level about it and I will let Dan maybe give you some of the specifics. But the thought process there, as I mentioned in my script, is we see significant opportunity for us to continue to grow our company, grow our store base, and take market share given the relatively small amount of market share we have today.

In doing that we want to make sure we are taking care of the customers and giving them everything they need to be successful in their flooring project. These are big projects and we want to make sure that we are giving them everything, and that is why we are rolling out some of these flooring tools.

We expanded on that this quarter. We added another 50 or so flooring tool items and accessories to complement the purchase and the installation that they needed. The other thing that we did, too, as I mentioned, is we added some -- we are constantly looking as we are going through our line reviews and working with our factories and with our vendor partners; the merchant teams are constantly assessing our assortment.

So this last quarter we actually came out with probably about a net new 40 to 45 new floors in our assortment across all the categories. Some of the categories are newer, like our resilient or vinyl, but we also took a look at and either replaced, updated, or added some new floors to almost every category we carry.

Got it. Thank you so much, guys.

John Baugh, Stifel Nicolaus.

Thank you. Good morning, my congratulations as well. Terrific results.

Could you talk about two things? One, the merchandise mix. You just mentioned vinyl is kind of a new category. You were for years just wood and laminate; now are vinyl. Could you discuss are we creeping towards ceramic tile and other things, or have you got the profile you want right now?

Then you teased us with the store of the future. Was curious whether you could address that concept in any more clarity, both with merchandise mix, location, size, cost of capital to open a new store versus the old concept, etc. Thank you.

Okay, John this is Rob. I will take a crack at those two questions. Relative to the categories, I think one thing we want to make sure we constantly do is listen to our customers, talk to our customers, and understand who we are in the marketplace.

You hear me talk about the value proposition all of the time. So we want to make sure we know what our customers are looking for and as new categories are coming out in an industry or if there is new technology or new items, we want to make sure we are first to market on those and we have them.

Long term I think we are going to be sticking to our knitting. I wouldn't see us, to your point on tile, seeing that coming out anytime soon. We have such an opportunity in our existing categories to continue to grow our market share and then some of these other categories that we have been expanding into.

Now having said that, that is one of the drivers of the store of the future, on to your second question, which is the Company over time has really matured and has done a fabulous job of meeting the growing needs of its customers. That is why the laminate category has come into play and is such an extensive part of our assortment today.

So that is why we are looking at the store of the future. We want to make sure that the showroom is optimal in terms of how we are presenting, laying out and offering all of our products to our customers, and we want to make sure that in included in that purchase -this is a significant remodeling project. Our average ticket is almost $1,600.

We want to make sure we have everything they need, from the floor, to the tools to tear out their old floor to install their new floor, to the accessories and items they need to clean, repair, and maintain that floor. That is kind of what we are doing with the store of the future.

It is an integrated strategy that I think is coming out of the work we have been doing in real estate. As we were optimizing our real estate strategy we are seeing that we have a need for this new type of a concept. As I said, we are going to be getting a few of those stores out towards the end of the year and into early next year that you guys can all see and we can take you to.

Rob, is it bigger, is it better fixtured, is it in a better location? Any thoughts on the capital deployed? Thank you.

What I would tell you is from a gross square footage perspective we are looking to be space neutral, so we are not looking for an overall prototype increase in terms of growth. However, the showroom we are looking to expand significantly so that we can appropriately merchandise and assort all of our existing categories and these new categories that we are bringing into the store.

From a capital perspective we are working very intently to manage that and don't see any material or significant increase in the cost of capital at the unit level. So what I am excited about is you see as we look at this thing, as we work with it and tweak it, is a showroom that is just really going to be exciting for our customers when they come in. All of our floors laid out, all of our accessories, all of our moldings, all of our stairs, our grills for our floors and then all these other accessories and tools that you need to maintain your investment that you're making in your home.

Great, thanks for that color. I guess for Dan; I just wanted some clarity. There was some commentary around the comp influence of existing markets. Could you go back over that again in terms of what you said?

Sure, John, just that across the maturity curve we had outstanding results. Our stores older than 36 months I think were up 9.3% and stores open for 13 to 36 months, the newest comps, the first- and second-year comps, were up about 22%, 21.9%.

But was there a commentary around of those older stores, over 36 months, where a new store had come into that market and you still comped positively or did I hear that wrong?

Commentary there was around traffic, John, that we had fewer stores operating in existing markets, fewer non-comp stores operating in existing markets so we had less cannibalization, which certainly benefited the traffic and the comp number at those stores. We have that chart in the 10-Q that shows our comp increase both before -- or with and without those markets.

Great, thank you.

Rick Nelson, Stephens.

Good morning. I would like to ask you about product price inflation in your categories and what you see as your ability to pass those on to the consumer and how your comp gains you think compare to the overall industry.

Rick, I will start with the product price. We have always been somewhat shielded from changes in the price of wood, if you will. The nature of working directly with the mills, long-term relationships, planning months in advance, all takes you out of the equation for short-term changes in wood pricing, whether there are spikes due to capacity or wet forests or what.

So we haven't seen rising price of the product. Obviously there is labor pressure in other countries. There is always going to be some impact of inflation. But, again, working directly with the mill and working as far in advance that helps shield us from those cost increases, and that really hasn't been material for a callout.

Thank you for that. Also, like to follow up on the transport cost, 26% of your purchases came direct to the store. That is up from 20% a year ago. I am curious what the goal is there and what the efficiencies are to direct to store.

We have always said we thought we could get about a third of our product direct. It is always going to be dependent on changes in domestic fuel costs, obviously where the product is sourced from, and where it needs to be in stock, whether it is west or east, north or south. So there is always going to be some variability, but even with the 26% we think over the longer term there is the opportunity to increase that number.

Finally, if I could ask you about the impact you think the Sequoia acquisition had on your gross margin in the quarter. I think it was September a year ago that you made that acquisition.

That is right. We closed that in September of 2011 so we have anniversaried that now. With the lag in the benefit because of our turn in inventory, we didn't really start to see benefit from that acquisition as far as direct change in cost of goods until the first quarter last year. So we really won't anniversary the benefits, even though we have anniversaried the acquisition, until we get to the first quarter of 2013.

We are certainly happy with the acquisition and we have been more pleased than we expected. The staff is fantastic; we have grown their level of responsibility. It has tightened our relationship with the mills. So while it is not a specific callout as far as basis points within gross margin, we just couldn't be more pleased with what has happened and the direction we are headed in.

Got you. Thanks a lot and good luck.

Budd Bugatch, Raymond James.

Good morning. My congratulations on the quarter as well and on the performance year-to-date.

Rob, you had, I think, changed and you talked about the real estate process a while ago. And I think to John's questions about the store of the future, I am not sure you addressed the location aspect of that. Historically, the Company had said stores would be inconveniently located to keep the cost of occupancy I think down to something down around 3% if I remember correctly.

What is the thinking now going forward as you look to new locations and how much might it impact the existing store portfolio?

Very good question. We are looking comprehensively at our real estate in terms of the work we are doing with the team and the real estate strategy. We have mentioned before that we are taking an overall market optimization approach, so we absolutely are and have been for the last probably 18 months or so.

We have improved our site selection processes, the analytics that go into it, and the team and the real estate team that drives that work and effort. So that is part of what is driving the performance of the new stores and the new store productivity improvements that you are seeing.

We have absolutely enhanced and upgraded the quality of our sites that we have opened in the last 18 months; relative to your point, some of the older stores. But we have done that, again, with a philosophy of getting the best price possible, keeping occupancy extremely low, and the commercial real estate market has cooperated very nicely for us there.

As we go forward, as we have tweaked this store of the future concept and get it out there we absolutely will be integrating that into these other changes in the real estate in terms of optimizing a market. We will be looking at either relocating and/or remodeling existing stores in a market as we come in with a second store and/or a third store.

And our goal is -- one of the things we are going to be experimenting here with is this store of the future is potentially remodeling an existing store with the store of the future when we come in with a second store. Then they both have -- both of them having this new prototype.

So we are excited about that opportunity. We see benefits for our associates, for our customers, and for our existing stores as we roll it out.

And the cost of occupancy, what do you -- is it higher? Is it about the same as it was when the Company started to disclose those publicly?

Bud, this is Dan. We really haven't seen a spike up in all-in occupancy cost. Certainly, as Rob indicated, the commercial market has been beneficial for us. There has certainly been available space as we have looked at where to position stores within a market, but we haven't seen any significant increase on a unit basis. The size of our store is roughly the same so all the economics are pretty static.

And I have heard that maybe the showroom size would expand by just about double where it is or --?

We have talked in terms of the showrooms being 800 to 1,000 square feet in the existing format. We say that because we have showrooms that are as small as 800 square feet and we have showrooms that are as large as 1,000 to 1,100 square feet. What we are looking for are planograms that do take that larger -- we may go into the 1,400, 1,600 square foot range. But as Rob said, box neutral.

Some planning within the warehouse side will create some efficiency. Generally we use temporary walls in the box, so basically taking some warehouse space and moving it to the showroom. But certainly a better shopping experience, but not a dramatic change to some locations and much larger in some that currently have a very small showroom.

Okay. The line reviews, I think last quarter you told us you were 50% done the line reviews with a 30% impact, and I'm not sure I heard those metrics on this call. Do you have the similar kind of metrics of where we are on the line review process and what is the impact so far?

Not that specific, Budd. We are more than 50% and we have got more than 30%.

That always gets an error whenever I put that kind of answer into my calculator. Okay.

Product mix, and I think somebody Matt or somebody addressed that before, but what are you seeing in hardwood and some of the premium products? How is Bellawood doing year over year? What are we seeing in the way the consumer is thinking about their own pocket book and their own ability to come back to hardwood, which has been a category that seemed to flatten out as we went into the housing bubble and the bursting of the housing bubble and the financial malaise?

Right. Still not seeing sales mix return to solid hardwood. We are seeing demand strengthening in hardwood. Hand-scraped continues to do well, so where the look is right, where the surface is right for the use of the room, I think we are seeing this customer come back. But we are not seeing the strict solid hardwood buyer come off the sideline yet.

So our sales mix is still dominated by the lower-than-average retail price points where we are seeing growth, but we expect as the macro strengthens that we made see that start to revert. As we have said before, though, we don't ever see the same mix of hardwood being reestablished that we did before the economic fall.

Boy, I sure hope you are wrong on that, but you probably have a better insight on that than I do for sure.

My last question just goes to bonus accruals. Given the great performance of this year, I would expect that you have been under-accruing bonuses for the first, second, and third quarters. What is the level of increase that you need to do for the fourth quarter to catch up?

Budd, we are very comfortable with where we are through the nine months and we don't see any large change coming in the fourth quarter. Certainly the fourth quarter of 2012 will be higher than the fourth quarter of 2011, which based on the performance in 2011 we didn't need very much of an accrual.

So it's going to be higher. It will still be a year-over-year comparison discussion point, but it is not more significant than we saw in the third quarter.

Okay. Thank you very much. Great performance and good luck on the rest of the year and the planning for the future.

Laura Champine, Canaccord.

You have been sort of asked this in pieces, but let me go at the merchandise margin expansion of 260 basis points in the quarter. Can you break that out roughly between line reviews, the changes in the middleman, both in China and in South America, and then the merchandise mix shift?

Laura, it gets really tough to do that which is why in the Q we are trying to put that together, and I will use an example. Because we have now had a stronger relationship in Asia after our acquisition in September of 2011 that opened up the market to additional vendors who may show up at a line review. It also strengthens the direct relationship that we have.

So whether the benefit of a lower cost of product is strictly related to the line review or the acquisition of that office and the relationship with the vendor, it's hard to parse that out.

Sales mix was a benefit. It certainly wasn't as strong as the sourcing initiatives, but it has been a strategic goal to continue to drive moldings and accessories forward and expand the assortment where it makes sense for the customer. We are pleased that the customer continues to choose the premium products, albeit in a lower average retail price point line.

Then just as a follow-on, how much of the savings from the line reviews are you actually passing on to your customers through more promotional pricing?

Laura, we haven't disclosed that specifically but I would tell you that a majority of the savings we are passing through and an appropriate amount we are sharing with the customers. It's something that -- back to Matt's question, that is something that changes within quarter, within month, within event, where depending on the event, if we entering a new event or not, depending on what categories are performing the best or not, we are tweaking that.

What I would tell you is strategically we are continuing to push the envelope on finding that Holy Grail of where is the right mix, where is the right balance of re-investment of the margin savings in price and market share and also in the advertising. So there is a balance there and they actually work -- obviously they work together. What I would tell you is that I would think that from a directional perspective we probably did it similar to what we did in Q2 in this last quarter.

Got it. Thank you.

Peter Keith, Piper Jaffray.

Thanks and great results here. I wanted to actually ask about the cadence, Rob, of what you guys are seeing in the store. Clearly the double-digit comp through the quarter is quite impressive on the consistency front.

We are hearing and seeing some anecdotal evidence that the flooring industry is strengthening. I wonder if you could comment on maybe what you are seeing with regard to conversions and maybe even with regard to some of your leading indicators, like Web traffic and your total lead generation. Even has that changed more recently as we have gotten closer to the election?

I would tell you, Peter, that it is difficult for us to see or to tie some of that change in improvement in our Web activity and/or improvement in our comps and traffic to what is going on from a macro perspective or an industry perspective. We see it more coming from the things that we are doing in terms of the increased marketing and advertising reach, the things that we are doing in the stores, the effectiveness of our store teams, the training that we did in our LLU roadshows where we have engaged everyone and we went out there and re-trained all of our sales associates in advanced selling techniques.

What we are seeing is the things that we are doing, we are seeing the impact and the benefits of those mostly. I would tell you that is where we are seeing it come from and not so much from a macro perspective either up or down. I don't know if that helps.

Okay, that is fair enough. Second question for Dan. Just on the transportation costs, it looks like you guys have some things working in your favor to be more efficient. In the past you have highlighted that you would want to do a line review process with some of your carriers and take out some additional costs.

How should we think about your ability to reduce those transportation costs with the addition of Carl Daniels? Are you guys kind of early in driving benefit, or do you feel like you are kind of getting fully ramped up and driving better efficient there?

Peter, I think we are at the beginning. I mean certainly Carl coming on board; he is a professional who has built a professional team so we couldn't be more pleased with what we have seen so far as far as more efficient operations. As we have said in the past, that supports store operations and helps the store team drive and close demand.

The benefit, the significant benefit towards gross margin, though, is probably more 2013. As we take an approach of looking at the different carriers in a different lanes that cost is generally going to have to be absorbed into the unit cost if it is inbound. So I wouldn't look as that as a 2012 event; we may see the beginnings of that. We are certainly going to see more operating efficiency offset some of the headwind from higher costs, but we probably will see more of a 2013 supply chain story.

Okay, great. That is very helpful. Thank you very much and good luck to the rest of the year.

David Magee, SunTrust Robinson Humphrey.

Thank you and congrats from me as well. I wanted to ask about the new products. I think you had mentioned 40 new flooring products. Did I hear that correctly?

Yes, approximately.

And what would that being in terms of like a percent increase in terms of your current assortment?

That is a transition, but 10% to 15%.

And is there any pruning going on at the same time?

Yes, absolutely. I think I mentioned earlier that Bill Schlegel and the merchant teams are constantly going through. Last quarter was a perfect example of it where there was a number of new items introduced in total and the number I threw out, the 40 or so, was net new. So, yes, there were absolutely some that were pruned, there were some that were updated or enhanced, and then there obviously were some new ones on top. The net new was about 40.

Do you see an opportunity, Rob, to add a similar amount over the next couple of quarters?

I would probably say that last quarter was probably the big quarter for the year, but like I said it is something -- this continuous improvement is something that we focus on all the time. And like I said, hats off to the merchant organization because they do a very good job of assessing every category on a regular basis and looking at how they are performing against the events and making sure that we are optimizing our assortments real time.

Thank you. My second question just has to do with the average ticket size. How close are we to the peak level right now if you look back longer term? Do we still have some distance there or are we getting close?

Absolutely there is still some upside left. You go back a number of years and it was as high as $1,750 to $1,800. And sort of referencing Budd's question, I don't think we are going to get all the way back there because we won't see the solid hardwood capture the same percentage of our sales mix, primarily because of the changes in technology.

So even if the housing market comes back, there are so many new products out there from strand bamboos to resilient products to better laminates. There has been such a change in so many alternatives to carpet at so many different price points that I don't think we're going to see that mix return. That said, we are still going to drive moldings and accessories. Look for this complete purchase for the customer, introduce premium products within each line, so there is still some upside in the average sale as we look over the longer period of time.

Great. Thanks, Dan. Good luck.

Thank you for joining us on today's call. We look forward to speaking with you again on our fourth-quarter earnings call to provide an update on our continued progress in executing our strategy and achieving our long-term objectives. Thank you.

This does conclude today's teleconference. You may disconnect your lines at this time and we thank you for your participation.