LL Flooring Holdings Inc (LL) 2013 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, Director of Financial Reporting for the Company. Please go ahead.

Thank you, operator. 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 security law for forward-looking statements.

This conference call may contain forward-looking statements that are subject to significant risk and uncertainties, including the future operating and 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 the 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.

Thank you, Ashleigh, and good morning, everyone. I am here with Dan Terrell, our CFO, and we are pleased to be speaking with you about our third-quarter results. The work of our outstanding team, our ongoing commitment to continuous improvement in all that we do, and the cumulative benefits we are seeing from the execution of our key strategic initiatives enabled us to again achieve record-breaking results in the third quarter.

I spoke last quarter about our secret sauce and how we are improving it with not one ingredient but with many working together in combination. We firmly believe that our value proposition of price, selection, quality, availability, and people distinguishes Lumber Liquidators in the marketplace. We continue to reinvest in each of these five components, enabling us to broaden our potential customer base and widen our advantage over the competition.

During the quarter, we continued to successfully expand our footprint and rolled out our store of the future format to additional locations for new store openings and remodels. We believe that as a result of our expanded advertising strategy, our superior value proposition is resonating with a growing customer base which contributed to consistently strong demand we experienced throughout the quarter. We continue to enhance our customer shopping experience through our sourcing, supply chain, and best people initiatives. Through our delivery of a wide assortment of high-quality products and continuing to add to our core assortments, we are providing a more complete flooring solution to our customers. Once in the store, our world-class sales team is actively engaging with the customer, providing education and superior service from the moment they walk in the door throughout the purchasing cycle.

To briefly review third quarter highlights, net sales grew 24.5% to $254.3 million. Comparable-store net sales increased 17.4%. Operating margin expanded 290 basis points to a record 13.1%. Net income improved 58.4% to $20.4 million, or $0.73 per diluted share. And our cash balance increased to $84.2 million.

Through the third quarter, we now have 33 stores in our new store of the future format, representing over 10% of our store base. As you know, at the same time we have developed and launched this new store format, we have reengineered our real estate strategy, taking a market-based approach in seeking to upgrade sites to more retail-centric shopping locations compared to prior stores that were seen as more industrial or commercial. These improvements, combined with the enhanced training provided to our sales associates, is leading to outperformance of sales trends we would have historically expected at new stores.

Our new store productivity was again at a record high in the third quarter. Further, the aggregate performance of our remodeled stores, whether in place or relocated, is also continuing to exceed our expectations. We are excited about the results today from our expanded showrooms and look forward to continuing to roll out our store of the future format through the remainder of the year and moving forward. We remain on pace with our current plan to end the year with as many as 52 stores in this format. Our plan for the addition of up to 19 expanded showrooms in the fourth quarter, our most ever, demonstrates our ability to ramp up our new-store growth.

With the backdrop of a multiyear recovery in housing that is just now underway, we are making additional investments in our real estate and store transition teams to build out support for this critical long term initiative. As we look at 2014, we expect to increase our pace of new store openings and remodels from this year's level. And we remain confident in the team's ability to ramp up additional stores with the same level of success.

Turning to our progress on other key initiatives, in mid-August we announced the latest steps in our supply chain optimization initiative, the consolidation of our existing East Coast distribution facilities into a single larger location and the opening of our West Coast distribution center are exciting developments in supporting the Company's tremendous growth potential going forward.

In recent years, our team has done a terrific job of improving processes across the entire supply chain to contribute to our operating margin expansion. These new distribution facilities will help us improve our labor productivity, lower our transportation costs, and further enhance our overall efficiency.

On last quarter's call, we spent some time speaking about our sourcing policies and procedures as they related to the quality of our products. I'd like to reiterate some of those points and provide some additional information given recent events.

As we previously announced, federal authorities have requested information, primarily documentation, related to the importation of certain wood flooring products. We are continuing to cooperate fully with the authorities to provide them with the requested information, and there is no update or additional information pertaining to the request that we can provide at this time. I can assure you of our commitment to uncompromising integrity and ethical business conduct across all areas of Lumber Liquidators' operations. We expect and require the same of our suppliers. Working together, we strive to advance responsible forest management.

The nature of our supplier relationships within our direct sourcing model allows us to develop and produce the highest quality merchandise and the broadest assortment at industry-leading value. We believe these direct relationships are unique in our industry and provide us with a competitive advantage. We work collaboratively with our suppliers from planning to payment and expect them to stand by their promises and commitments as we do.

We are sought after by mills all over the world. And we have a supplier due diligence process designed to identify long-term relationships that can provide sustainable and growing supplies of our product. Many mills are disqualified during this onboarding process. Once we establish a mill relationship, we monitor and enforce our specifications and practices through more than 60 employees dedicated to quality control and assurance located on the ground in the US, Canada, China, and South America.

We invest significant time and resources to safeguard quality and enforce product compliance, and we terminate relationships with suppliers we believe are not adhering to the standards.

As a result of these processes, we diversify our sourcing across more than 100 suppliers. This affords us flexibility, making changes to meet the consumer trends, or if we find that a supplier is not willing to comply with our policies. It is important to note that no single mill provides more than 4% of our hardwood purchases and no single hardwood product represents more than 1% of our sales mix.

Before I turn the call over to Dan, I would like to reiterate how pleased we are with the strong and consistent performance the team has achieved to date this year. We have remained focused on continuous improvement, reinvestment in our value proposition, and execution of our strategic initiatives. That focus is driving are significant gains in the fragmented hard surface flooring market and increases in sales and operating margin that we believe can continue well into the future. Our entire team remains more excited than ever about the opportunities ahead.

With that, I would like to turn the call over to Dan. Afterwards, I will return with some closing remarks. Dan.

Thank you, Rob. Good morning, everyone. I will provide additional details on our results, our supply chain optimization initiative, and then update our outlook.

Starting with the results of the third quarter, where my references to percentage and basis point changes are in comparison to the third quarter of 2012, unless otherwise noted. Net sales increased 24.5% to $254.3 million with a 17.4% increase at comparable stores and record new store productivity. Net sales were driven by a good balance of increased traffic, which we measure at the number of customers invoiced, and an increase in the average sale.

At our comparable stores, the 17.4% increase in net sales stacks on a 12% increase in the prior year and was driven by a 9.8% increase in the number of customers invoiced and a 6.9% increase in the average sale. With our increase in the number of customers growing each quarter in 2013, we continue to believe our value proposition is appealing to a larger customer base through greater reach and frequency of our advertising, through our market-based approach to real estate, and through our focus on a continuous operating improvement.

We also believe the effectiveness of net sales conversion has strengthened due to our sourcing, supply chain, and thus people initiatives. This is supported by strength across the maturity of our store base, including a 16.3% increase in stores operating for three years or more.

Our third quarter average sale was $1745 up from $1630 in 2012 due to an increase in the average retail price per unit sold, which benefited from a net increase in the sales mix of premium flooring products; a 180 basis points increase in the sales mix of moldings and accessories; and stronger retail price discipline at the point of sale. We believe the store locations serving communities recovering from the effects of Hurricane Sandy raised the increase in comparable-store net sales from 50 to 60 basis points.

Store base expansion continues to drive net sales. We were operating 307 stores at the end of September 2013, up 8.1% from 284 stores at the end of September 2012. As Rob mentioned, we were also excited by the continued expansion of our store of the future expanded showroom design. This format, combined with our market-based real estate strategy, broadened customer base. And the targeting of larger metro market in a recovering housing environment drove record new store productivity during the quarter.

During this quarter, we opened seven new stores and remodeled six existing stores, bringing the nine-month totals to 19 new stores and 14 remodeled existing stores. Though still early in our rollout, with only 12 stores in operation for six months or more in the expanded showroom format, we are pleased with the results to date. In total, the 33 store of the future showrooms produced 9.3% of our net sales in the third quarter. By the end of the fourth quarter, we expect to operate approximately 50 of the new showrooms, representing over 15.7% of our total locations.

In our remodeled comparable stores, exclusive of four cannibalized markets, net sales for these 10 stores were up 22.3% in the third quarter versus an increase of 16.3% for all stores in operation for more than 36 months. In those four cannibalized markets, which generally have a new store in the expanded format and an existing store, total market net sales were up 81.5% versus the total Company average of 46.5%.

Turning to our gross margin, which had a record 41.8%, represented an expansion of 370 basis points over the third quarter of 2012 and 620 basis points over the third quarter of 2011, which is when we completed the Sequoia acquisition.

Our gross margin over the past two years has benefited from a portfolio of initiatives working individually and in combination to deliver cumulative multiyear benefit. Our entire team use gross margin expansion as a strategic focus, and initiatives are implemented across the organization. Our merchandising efforts have strengthened the direct sourcing model. Advertising is broadening the customer base beyond the DIY customer, and that customer is frequently shopping in a more retail-centric location. Our store operations are better trained to understand and satisfy customer needs, leading to better attachment rates and a higher average ticket. Our supply chain continues to become more efficient as it prepares for a more effective, long-term structure.

While the implementation of these initiatives across the organization have and will continue to yield benefits, we see an array of opportunities for future gross margin expansion.

We aggregate gross margin drivers in three primary categories, all of which contributed to third-quarter expansion. The product margin drove 300 basis points due to shifts in our sales mix, including an increase in moldings and accessories; lower cost of product due to sourcing initiatives; and higher like kind ASP not due to retail price increases but a result of greater retail price discipline at the point of sale.

Transportation contributed 30 basis points due to lower rates, primarily international container costs and domestic delivery costs, generally lower fuel costs, and continuous improvement in efficiency and control throughout the supply chain. All other cost decreased 40 basis points as a percentage of net sales due to supply chain initiatives to improve the accuracy and visibility of product movement, thereby lowering inventory strength partially offset by expanded quality control operations and greater demand for flooring samples.

Selling, general, and administrative expenses as a percentage of net sales for the quarter were 28.8% in the current year up from 28% in 2012, primarily due to advertising and compensation.

Advertising expense maintained a consistent pace in 2013 as well as a consistent increase in basis points over 2012. In 2013, the three and nine months were 7.9% and 8.0% of net sales, up 50 basis points from 7.4% and 7.5% for the corresponding periods in 2012. We continue to aggressively pursue market share driven in part due to broadening of our advertising reach and frequency.

Salaries, commissions, and benefits were 12% of net sales in the third quarter, up 30 basis points from 11.7% in 2012. In general, store-based growth, higher commission rate earned by our store management, larger accruals for management bonuses, and greater benefit costs were only partially offset by leverage of our corporate infrastructure and supply chain operations.

The effective tax rate was 38.8% in the third quarter of 2013, up from 38% in 2012.

Net income increased 58.4% to $20.4 million or $0.73 per diluted share based on approximately 28 million weighted average diluted shares outstanding.

Turning now to our balance sheet and cash flow drivers, cash and cash equivalents increased to $84.2 million at the end of September 2013, up from $64.2 million at the end of 2012 and $40.1 million at the end of September 30, 2012. During the quarter we used $9.8 million of cash to repurchase approximately 110,000 shares of our common stock on the open market and had $26.9 million remaining under our authorized limit. Merchandise inventories total $237.3 million at September 30, an increase of 14.8% over the year-end level and 21.7% over the prior year's quarter end.

Available inventory per store was $669,000 at September 30, 2013, up from $622,000 at the end of September 2012. The increase is generally due to the timing of our inventory build relative to certain fourth-quarter promotions; vendor transitions resulting from certain line reviews; opportunistic purchases; and in response to changes in our sales mix.

We have increased our 2013 year-end estimate of available inventory per store to a range of $660,000 to $680,000 as we build inventory earlier than in prior years around known events, such as the South American rainy season, Chinese New Year, a build in safety stock in conjunction with our supply chain optimization, and to adjust to updated sales projections for 2014.

Capital expenditures now totals $17.3 million for 2013, up $7.7 million from $9.6 million from the end of September 2012. Current year expenditures are primarily for the land for our East Coast distribution facility; store-based expansion and remodeling; and investment in and maintenance of our technology systems.

In 2013 we more than doubled the net sales we earned just five years ago, and yet we are more excited looking forward than back. With that growth in mind, we are pleased to announce the significant enhancements to the capacity and efficiency of our distribution operations through the opening of our first facility on the West Coast and the consolidation of our current East Coast operations under one roof.

The 500,000-square-foot West Coast facility will be leased. We are targeting full implementation of the facility in the first quarter 2014, and we are now receiving certain basic stock from vendors and transferring opening inventory from the East Coast. This Southern California facility will enable us to further strengthen the availability of our product assortment and allow customers shopping in our western stores even greater flexibility in the timing of their flooring projects.

Once fully operational, we expect that our transportation costs will benefit from significantly lower international container rates and a reduction in the domestic miles driven for warehouse-to-store deliveries. Inventory planning and allocation will benefit from dramatically shorter transit times. Partially offsetting these benefits will be the incremental SG&A expenses for operating the facility, primarily occupancy and payroll.

SG&A expenses in the third quarter of 2013 included approximately $300,000 of incremental expenses related to the start up of the West Coast facility. In the fourth quarter, we expect incremental transportation costs of $1.2 million to $1.4 million as we position opening inventory and incremental SG&A expenses in the range of $900,000 to $1.1 million, primarily occupancy and payroll.

Capital expenditures for the facility in the form of leasehold improvements and equipment are expected to total $4 million, primarily capitalized in the fourth quarter of 2013. We consider an East Coast distribution facility a long-term core asset in any comprehensive supply chain structure. As a result, we purchased 110 acres of undeveloped land in Virginia to construct a 1 million-square-foot distribution center. Upon completion targeted for the third quarter of 2014, we will consolidate and significantly enhance existing East Coast operations, which currently utilize 750,000 square feet across four separate buildings.

We expect total capital expenditures for construction of the facility, including land, building, and equipment, to range up to $53 million with $5.3 million in the third quarter related to the land purchase and approximately $10 million to $12 million in the fourth quarter as construction of the building gets underway. We expect minimal SG&A expenses related to this facility in the fourth quarter. All of our capital expenditures are expected to be funded with available cash and operating cash flow.

Moving now to our outlook for 2013, the combined strength of our key initiatives has exceeded our expectations in the current year. In addition, we continue to believe we are in the early stages of a multiyear recovery in home-related, large-ticket discretionary spending. Further, we have been pleased with the demand we have seen in October. We recognize, however, the potential for periodic volatility as consumer sentiment is tested, particularly large-ticket customers in consideration of a discretionary purchase.

We now expect sales for the full year in the range of $985 million to $995 million, up from our previous range of $940 million to $963 million. We expect a comparable-store net sales increase of 14% to 15% with fourth quarter ranging from 9% to 14%. We believe the store locations impacted by Hurricane Sandy will benefit the total increase in comparable net sales for the year by approximately 70 to 80 basis points.

In the fourth quarter, we anticipate opening 10 to 12 new store locations and remodeling 5 to 7 existing stores. We believe certain incremental costs, including those related to our supply chain optimization, store-based expansion, and remodeling program, will produce fourth-quarter gross and operating margins less than our third quarter actual. In comparison to the fourth quarter of 2012, however, we expect gross margin expansion between 170 and 240 basis points partially offset by higher SG&A expenses as a percentage of net sales, again led by advertising, compensation, and certain other expenses.

We now expect full-year 2013 capital expenditures to total between $35 million and $40 million including $19 million to $21 million related to our supply chain optimization. As a result, we now expect 2013 earnings per diluted share in the range of $2.65 to $2.74 based on a diluted share count of approximately 27.9 million shares, exclusive of any future impact of our stock repurchase program, up from a previous range of $2.45 to $2.60.

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

Thanks, Dan. As we look forward to the fourth quarter and into 2014, our team remains unified in its vision and motivated to continue taking market share through our powerful value proposition and uniquely profitable store model. We're extremely pleased with the team's strong execution of our strategy and achievements made to date this year that are being driven by our focus on continuous improvement and everything that we do.

Our improved real estate strategy and new store format are generating the best new store productivity results we have seen since the start of the Company. Generating strong lift in existing markets and strong sales growth overall, we will continue to extend the footprint of our store of the future format with an accelerated pace of openings and remodels as we enter next year.

Our broader advertising strategy is bringing our value proposition to more consumers, and we are continuing to deliver a superior shopping experience to meet strong customer demand. Our sourcing and supply chain initiatives are allowing us to deliver a wider selection of products to our customers more efficiently than ever before. We are committed to maintaining our industry-best merchandise assortment and our position as a low-price leader.

Through our ongoing best people initiatives, we are continuing to equip our sales teams with better techniques for service in selling, which is enabling our teams to educate and ultimately satisfy customer needs throughout the purchase cycle. As with other areas of our business, we are always improving our people processes, and we are excited about our plans for another Company-wide Lumber Liquidators University early next year.

As pleased as we are with our results year to date, we are truly more excited looking to the future. We will continue to reinvest a portion of our success in our people, store model, and support structures to enhance our value proposition and to deliver cumulative multiyear benefits. We are confident in our ability to generate long-term operating margin expansion, driven by increased gross margin, joined by leverage of operating expenses in the future as we focus on delivering the best value proposition in flooring to our customers and rewarding our shareholders.

I would once again like to think our entire team in the US, Canada, and Shanghai for their unified commitment to continuous improvement and dedication to strengthening our value proposition.

Operator, we are now ready for questions.

(Operator Instructions) Matthew Fassler, Goldman Sachs.

My first question really is the store of the future. If you can just refresh our memory, we can probably figure this math out. At what point does the store of the future become the entirety of the non-comp base? And if you could give us -- obviously the new space productivity overall is terrific -- if you can give us a sense of the degree to which the store of the future prototypes you have in the mix are outperforming, how much they are outperforming the legacy new store prototype.

Matt, this is Dan. From the new store perspective, all of the new stores in 2013 have been the Store of the Future format so in one more quarter we will basically have the entire non-comp base store of the future.

As far as the store of the future's contribution specific and segregated from the real estate strategy, the better assortment of product, the training in store, it's difficult to separate the components of those drivers. We're certainly pleased with the results right now, but we're not really ready to say what part just the store of the future layout design is contributing to new store productivity.

I guess the reason I ask is that you have had now four or so consecutive quarters of improvement in new space productivity measured as a percent of the base. And that has improved each quarter as the penetration of store of the future has increased and approached 80% are 90% right now. So would you look for -- and that number as we calculated is in the mid-80s -- would you look for that to be close to the run rate going forward given that store of the future now has just about filled the entire pipeline of non-comp stores?

Yes, Matt. We started with our real estate approach probably close to two years ago when Rob reorganized the real estate committee and changed the approach looking for those more retail-centric corridors. So you started to see new store productivity improve then, certainly accelerated by the store of the future format.

I think the number you calculate as new store productivity is dead on. And I think that is close to the top of where we are going to be.

Got it. My second question relates to payroll commissions and benefits. So that line item was obviously up sharply, up about 27% in excess of what it was up last quarter and to a slightly greater degree than the acceleration of sales. If you could -- and obviously, your investments are yielding fruit in terms of gross profit dollars. But on a per-square-foot basis, it was up double digits and that has been the case something like 4 to 7 quarters. It was up 17% percent, I think, here in Q3. How much of that is essentially pay for performance in the stores? How much of it would be discretionary compensation accrual? And the essence of the question is, what would you look for the relationship between sales per foot and compensation per foot to be on a steady-state basis?

We have probably reached the peak for 2013. We have turned a lot of dials related to pay for performance, and we have been pleased with the investment and the return we have gotten on that. We adjusted how we accrued that management bonus. And you've probably seen the peak payroll as a percentage of sales in the third quarter should improve slightly in the fourth quarter.

As far as the long-term run rate, I think you will start to see some stability in the store commission rate, and you'll start to see some gradual leverage over the management compensation plan.

Even with strong sales growth going forward, if that persists?

Yes.

Great. Thank you so much, guys.

Matt McGinley, ISI Group.

My first question is on the DCs and the inventory levels that you have at the end of this year. As you think about the DCs, when you did the math on this, how should we think about that from an inventory efficiency standpoint or what kind of gross margin gains you can get from these facilities when they are complete?

And then on the inventories, you are increasing the in-stock levels to meet sales or potential disruptions with the supply chain. What do you think that optimal level of inventory would be once this process is complete? And do you expect that $660,000 to $680,000 per store to be the run rate through all of 2014?

I will start from the end there, Matt. The $660,000 to $680,000 is going to be higher than what the run rate for 2014 would be mainly as we build some safety stock related to conversion. And we will certainly go through a conversion in 2014 as well on the East Coast as we launch that facility. But the normalized run rate should actually come down. The shorter transit times, the stronger availability portion of our value proposition by having a couple of warehouses available to support the stores, all of which should lead to generally lower available per-store rates.

So you are seeing a higher number at the end of 2013 will remain a little bit higher in 2014 and then should start to come down.

As far as the contribution of the warehouses to gross margin, we haven't really quantified that, but look for that in 2014. What we feel is that the strengthening of the value proposition combined with the lower container rates which will need to work their way through our inventory turn and then the lower domestic transportation costs will ultimately yield operating margin benefit, but it's going to take some time into 2014 to realize those benefits.

Okay. My second question is on the mix benefit to ticket. You called out two things that were driving that. One was the better attachment rates on molding. Where is that at today and where do you think that can get to?

And then on the mix component, are you seeing mix shift back from lower cost items to back to hardwoods. Are you seeing -- still just continuing to see that mix from the lower price point item within a given segment to a better or best within that given products segment?

Both strong drivers of ticket. I think we have picked up 180 basis points in moldings and accessories attachment for the quarter, year over year, which was excellent. We still see upside to that. When we look over our store base, we still have opportunity to grow that within our sales mix.

We're not really seeing a change, still not seeing a change to more expensive products. But we are continuing to see the customer select the premium products in merchandise category. So we're not seeing people leave laminate for hardwood or leave bamboo for hardwood necessarily, but we're seeing more premium laminate in their category, more premium bamboo products in their categories.

Okay. Thank you very much.

Brad Thomas, KeyBanc Capital Markets.

Congratulations on another great quarter here.

Thanks, Brad.

Thanks.

I wanted to just talk about the new distribution center first of all and step back. And Rob and Dan, I was hoping you could just talk a little bit more about what the incremental capabilities are going to be. For your tenure as a public Company, obviously you have leaned very hard on the Virginia facilities. And so, if you could just speak more broadly to the opportunity that the West Coast facility provide.

Sure, this is Rob. You know, you hear me talk about our value proposition all the time. And of course, availability of product is one of those key five points and drivers. And to your point, leaning on in East Coast only distribution model is not going to give us the structure that we need going forward with the growth potential opportunity we have in front of us. So it is actually -- it is an absolutely natural, common-sense next step for us. And given how important on-time delivery and availability of our assortments are to our value proposition and to our customer, we're very excited about this new West Coast distribution center. And of course with the expansion and then efficiency gains we will get from consolidating on the East Coast.

One small tactical benefit I can tell you about is it's going to get that product closer to our customers out on the West Coast, but it is also going to allow our assortment, our merchandising and allocation teams to better regionally and tailor assortments as we move forward as a Company to specific markets, so just again, one of the many benefits that we're going to see from these DCs.

And I've got to tell you, our West Coast stores that are going to be served by that new West Coast DC are ecstatic about getting this distribution center.

And Rob, I know that a couple of years ago the Company put into place some more direct shipping where you did use, I believe, a mixing center in Asia to avoid going to Toano for some of the West Coast stores. I presume this will expand how many stores you can ship to via the West Coast, but can you give us a sense of just how much more significant the savings will be relative to what you already had in place for the West Coast stores?

Brad, this is Dan. I will take that one. We certainly benefited from a distribution center in Shanghai. But just because of having to pack on a by-store basis, it limited the amount of volume that can go through there. And you saw us reach, I think, as high as 20%, 22%. And we always had thoughts about reaching into the upper 20s, low 30s. This West Coast facility will certainly reduce the amount of bulk that needs to be repackaged in Asia because it will just be shipped in bulk to this facility and then distributed to the stores. There is certainly no reason we can't see this West Coast facility handle as much of as a third of our product mix.

And is also going to obviously, the West Coast is one of the areas where, as we look to our new store potential, where we feel we are less saturated, so it's definitely going to be in investment in that future and in our ability to open and service a bunch of new stores on the West Coast, up and down the West Coast.

Yes, and Brad, I will say one more thing about it, too. We really have leaned on these East Coast facilities for a long time. But what we have done is we've really accumulated a world-class supply chain team now from logistics to distribution and even product allocation. So we feel like we are prepared. We've made the operations as efficient as they can be and we've got the right structure from a personnel standpoint. Now it's time to put the facilities in action.

Okay and if I can just ask one last point of clarification around the guidance for the fourth quarter, in the press release there is a $1.4 million to $1.8 million that is referenced. Dan, in your prepared remarks I think you reference some transportation impact of $1.2 million to $1.4 million and the SG&A of $900,000 to $1.1 million. If you can just help reconcile all these numbers versus what you guys guided to at July, that would be helpful.

Absolutely. The $1.2 million to $1.4 million is the impact we see in our cost of sales, and that is going to relate to transportation costs as we position inventory. So think $1.2 million to $1.4 million as the total number there.

The total number in SG&A that we see as incremental is what you saw in the press release which is the $1.4 million to $1.8 million of which $900,000 to $1.1 million is the West Coast.

Perfect. Thank you so much.

Sure.

David MacGregor, Longbow Research.

Great quarter. Just wanted to ask that tickets comp question maybe a little bit of a different way. Last quarter you expected the second-half ticket comp to be up 3% to 4%. So, I guess, a couple of questions -- where were you most surprised here? Was it the moldings than accessories attachment rate, maybe you could elaborate on that. And what are the implications for the fourth quarter ticket expectations?

I will start and maybe turn it back over to Rob. The moldings and accessories are about where we expected it to be, little bit better. The real strength, I think, is in what our people are doing at the point of sale. The in-store training we've given them; the way the in-store teams are working with the customer and really selling the entire value proposition and selling the price. We call that retail price discipline. But that is where we are really seeing the surprise to the upside.

Yes, and I would agree with that. We are pleased with both the ticket and traffic drivers in the comp. Obviously, the extra investment in SG&A and the advertising, our teams they are doing a fabulous job of getting a higher ROI, return on that investment. We're very pleased with the traffic that we're picking up. And then to Dan's point, our people are -- we've got better trained, better motivated, better incented folks in the stores there to take care of that customer and to attach everything when they come in that store.

And you can't forget all of these process improvements. We talk about continuous improvement all the time, but everything -- all the support functions they're doing behind the scenes like Dan talked about earlier within supply chain -- we're handing the ball off so much more efficiently and easily to the store so that they can execute, take care of the customer. And that is freeing up their time, allowing them to really attach all of our wonderful products. And again, you've got the merchandising teams really enhancing our assortments over time. And that is all working together.

It seems to be working really well. How much inflation was in the comp?

We had no retail price increases on lifetime products, so we really didn't see us raising the retail price drive either ticket or the comp.

Okay. And then final question, just on the West Coast RDC, how many stores will that ultimately, the 500,000 square feet, how many new stores would that ultimately support?

We are looking between 75 and 100 stores, potentially more. And that thing has capacity, by the way, to flex up to 750,000 square feet. We have options on an additional space if we needed.

Great. Congratulations on all the progress. Thanks.

Thanks. Next.

David Strasser, Janney Capital Markets.

I have a question -- I may have asked this in the past, as well, but as you look at your business from the buy to rent customer, the corporate customer, you've said in the past it hasn't been much of your business. Is there any sort of strategy to go after that on the corporate side? How big of a potential could that be? As you start to -- in some of these key markets where that has made up such a large portion of the housing turnover and you guys are not getting that at this point. The opportunity would seem pretty significant at some point. And is there ways to do that and how are you thinking about it?

Yes, good question, David. We have a team fully dedicated to the -- we call it our commercial team. We have been growing that team each year. And the sales within that group are growing very significantly. They are not a large material effect right now but we see a big opportunity there. We're going to continue to invest in it and we have expectations of definitely high sales gains over time as we go and target and attack that customer. We have actually added resources to that team. We have added merchandising resources that are specializing in commercial profits and those commercial customers working in tandem with the commercial sales force.

Yes, because I'm just -- in places like Florida, and I don't know if this is correct, but somebody had said almost two-thirds of the existing home sales have been the corporate buyers. If that is the case and the strength that you are getting then in a lot of these markets isn't even necessarily related to housing and would almost argue that it is predominately about existing upgrades or existing homeowners buying. Is that a fair assessment as you look at what you think is going from your customer?

David, the way -- what I have seen and looked at doesn't really indicate that it is that much related to what we would put in our commercial category. But certainly, we think a lot of our own initiatives have driven our comp sales increase and that the main part of what may be a very strong multiyear recovery in residential housing is still in front of us.

Fair enough. Thank you.

Dan Binder, Jefferies.

You commented that you are pleased with October volumes. I was wondering if you could give a little color around what you saw with the government shutdown, if that was having any kind of impact at all and what has happened since.

Dan, we run a October yard sale, which is a pretty strong event for us. And we were very pleased with the way that went this year. As far as what the shutdown did, don't want to say that's not going to have any impact. That's why our guidance is a little bit wider with just one quarter go than it might normally been. So, even though we haven't seen it, it doesn't mean that it's in front of us. But what I can say is we had a strong promotion in October which is the second year we've had this very strong promotion in October.

And as we mentioned, through the third quarter sales were consistently strong; demand was consistently strong. And to Dan's point, thus far we have not seen any impact.

That's great. My other question was regarding the store of the future; obviously, you have more remodels under your belt at this point. Any learnings that you care to share with us from that process that allows you to get better added or is it cookie-cutter at this point?

Well, their absolutely are some learnings, which is why we paced ourselves this year and used 2013 as the test year to roll them out. I mentioned in my prepared remarks that we have been adding resources to the real estate and store transition teams. So that is one of the learnings that we saw as we were implementing this new store of the future that it caused -- it drove a need for us to standardize and systematize how we were opening our stores and make it more cookie-cutter, to your point. And we been learning through that process this year and developing those teams and those processes and those vendor relationships to make sure it is seamless. And we feel really good about it. As we mentioned, the fourth quarter is going to have our biggest number of new and remodeled stores ever with close to potentially up to 19 of them. We're confident in the team's ability to get them done and to get them transitioned. And if it's a remodel, hand it over back to the store team seamlessly.

So assuming that goes well, what do you think your capacity would be to do next year in a given year? How many do you think you could pull off?

Yes, we are assessing that right now, and we will give some clear definition of around that when we give guidance for next year when we announce the fourth quarter. But as I mentioned in my remarks, we intend to absolutely pick up the pace compared to this year in both the remodels and new stores.

Great. Thanks.

Thanks.

Laura Champine, Canaccord Genuity.

So in the 10-Q this morning it looks like you are now sourcing most of your product out of Asia. South America is down to 7%. How do you like your mix of source regions and how might that change over time?

Laura, we saw a pretty dramatic drop in the South American percentage really back in 2008 when we saw the financial collapse. That was also when laminates began to play a more prominent role in our assortment; bamboos did, some of the lower average retail price products.

Where we are right now has been about the same percentages between Asia and North America and South America we have been for the last few years. And we're pretty pleased with the way it is right now. We certainly look forward to a time where we might see some strength in the solid hardwoods come back, maybe see some volume boost ticket. And at that point we may see some strength come back towards hardwoods, whether it is North America or South America.

Thank you.

Joe Edelstein, Stephens.

Just wanted to follow-up on the comments on October again. Could you remind us what October represents as a percentage of the overall fourth-quarter mix?

Joe, we have never given that. We usually don't break out what the individual months are in a quarter, but we can tell you that -- you've heard us talk for years about the April sale and how strong that is. And that not only is invoice sales but it creates new order build that also supports May. It's one of the reasons the second quarter is seasonally stronger than the other quarters.

October is an event, a event, this yard sale that we put into place last year. We had some nice results from that. And we saw a repeat of good, strong results in 2013. So that's about as much as we want to say at this point. Don't really want to get into parsing the quarters out by month.

Sure. Would it be at least safe to say that the majority of the quarter is done by the holiday season?

Well, it used to be. We used to have a falloff as people started to shop for Christmas in earnest in mid-December. But we are actually running some promotions in December the last couple of years that are after-Christmas events that have been quite strong.

And this is Rob. I would really back up what Dan is saying that given our new approach to a broader consumer segments, investing in additional advertising reach and frequency programs and additional events, you can definitely see, I would say, a decreasing of seasonality across our entire calendar and particularly in the fourth quarter, I would say, relative to a few years ago. It is pretty -- I would say it is pretty evenly distributed.

And to Dan's point, we are finding that as we improve our marketing strategies and our events and our products and as we have reached out to these new customers, these programs are resonating with them and they are shopping all year long. And that business is not falling off. We are actually creating that demand and bringing them in.

Sounds great, guys. I appreciate you taking my question.

John Baugh, Stifel.

A terrific quarter. Just a couple of things quickly. You've talked a lot about the sales productivity at the store level. And I guess there's two components of that the mixing the customer up as well as not giving in on price. I'm curious on the latter issue, if we used list prices to 100%, what percentage of the way are you already there to where you basically not going to allow discounting or the discounting you are going to allow is at a level where you are comfortable?

John, this is Rob. I will tell you, I am going to talk about our team out there in the field and how aligned the field organization is with the functional teams up here in Virginia in terms of our overall strategic initiatives. And I have never seen in my career a corporate organization and a field organization coming together as one team and work so well together. So the stores are trusting in our products, and our supply chain services, and our promotional and pricing, and our marketing team in terms of driving customers into the stores. So they have so much confidence that they're going to have of the products they need, that they are going to be able to take care of their customers.

And then we're advertising and driving a whole bunch of customers into their stores and that they don't have to wheel and deal in the aisle. So we're very pleased with the contribution from the stores' operational excellence to the margin, to the ASP, to the ticket. They are just doing such a great job out there.

And we continue -- I expect and look forward to potentially several years of that as a driver. That is why as we talked we still even now with what we've done with margin, we still seem very confident about it going forward on a multi-year basis because, as Dan mentioned in his prepared remarks, it is a portfolio of initiatives. The foundation started a couple of years ago with sourcing and the acquisition of Sequoia and driving basic line review and negotiation processes into the Company to get us competitively sourcing better. But we've added all these other equities to the portfolio, if we could say it that way. And I'm so pleased with them and they go across operations, to your point in the store, in these store pricing disciplines.

We have opportunity there. There's markdowns out there. There is these discounts out there that we're going to continue to lever down on over time and you will see that driving margin into the future.

John, there is one other point I'd make there. And you can hear we're really excited about the team. We have a great regional manager team, a great store team. And we didn't turn off their ability to work with the customer on price. The advantages we are seeing are because they understand selling the value. It is in the training. It is in working with the customer and the nature of the customer coming in and then what Rob said about all of the other support functions. So we didn't limit them from doing anything. This is there initiative which they own and control and are taking us forward on.

Okay. And secondly, if we could talk about advertising spend. And of course, you shifted fairly dramatically from it being a source of leverage to deleverage and it's obviously having a huge positive return. I know you are not going to comment specifically on ad spend for 2014, but could you comment in general how you are thinking about it as a percentage of revenue going forward? Thank you.

I would tell you -- I learned this early on when I started in retail at Wal-Mart. Sam Walton used to always say, the stuff that works, keep doing it; and the stuff that doesn't work, don't do it.

So I've got to tell you, you know, we've got to be prudent. We've got to absolutely ensure that the ROI is there. But our sense is we are in the early innings of a housing recovery. What we're doing is working our teams; our head of marketing and advertising is doing fabulous jobless his team, executing on our strategies. And we're going to continue to be on offense and invest there as long as the payback is there.

Great. Thank you.

Budd Bugatch, Raymond James.

Just on the West Coast distribution facility, you indicated the additional cost of goods and SG&A and maybe I missed this, but does that persist? Does any of that persist into 2014? And if so could you maybe give us a help of what that is.

It will, Budd. There's going to be a cost of operating the facility. So the occupancy costs of a leased facility, the incremental people that will drive SG&A higher. And we think that once we get through the startup and we're into full implementation and operation that the benefit that we get from lower transportation costs will more than offset the incremental SG&A expenses. But certainly, the SG&A expenses will persist now that they are underway, occupancy, obviously, and payroll. This is the initial start up. We've had teams there preparing the facility, organizing the inventory and the layout. And transportation is a little bit heavier right now as we're moving some inventory from our East Coast facility to our West Coast facility. So you are looking at a bit of start-up cost but you're certainly going to see a higher SG&A cost as we operate the facility.

Just to make sure I understand, the cost of goods sold impact of the additional transportation, that will be pretty much ended by the fourth quarter. The SG&A persists. And that some point in time during 2014 you will get the leverage return on that. And any guesses to when that comes in 2014? Did I understand it right? Did I frame it properly?

You framed it correctly. And you should see those transportation benefits -- we capitalize international rates into our unit costs. So as the inventory turns you will see that benefit began to come through gross margin. We charge domestic transportation costs for warehouse to store delivery when they are incurred so with those shorter routes we will pick up as soon as we're fully implemented in the first quarter.

So you are going to see the higher SG&A costs in Q4 and probably Q1 and then you will start to see transportation benefits late Q1 and then into Q2, Q3 as the lower international rates come through.

Okay, and finally, just any thoughts on where you want to frame the potential opportunity and gross margin. You've had great product performance from mix and for the product line reviews. What is the additional opportunity there and have you quantified that right now?

We haven't for 2014, Budd. We're excited. We have said all year cumulative multiyear benefit. And we been excited about all the different pieces that are -- I call them a portfolio of initiatives. And that's the way we think about it. We will have to wait to talk about 2014 and further expansion, but we see cumulative multiyear benefit.

I was just thinking beyond 2014 as the long-term, high-watermark. Any way you want to frame that?

Well, we've talked -- we see our operating margin in the mid- to upper-teens over time. That is not necessarily 2014 or 2015, but we certainly see opportunities to continue to drive operating margin higher. And gross margin will lead that, although we will start to SG&A participate.

Very much. Congratulations and good luck on the upcoming quarter and year.

Thanks, Budd.

Thanks, Budd.

Peter Keith, Piper Jaffray.

This is actually Jon Berg on for Peter here this morning. Congratulations on another great quarter result. Just a couple of quick ones for you.

As far as -- I know you guys mentioned you were going to be accelerating store growth and also your remodel effort next year. Any chance you could provide some -- maybe wrap some numbers around what that might look like going out to next year?

As soon as we get them figured out, we will let you know. They are under development, and we're going to communicate those with the fourth quarter release and 2014 guidance.

Yes, and Jon, we have talked about 8% to 12% unit growth on an annual basis over time. And you have certainly seen us ramp up now in Q3 and Q4 the combination of new locations and remodels. So that will give you an indication we are feeling pretty strong, and we think we are in good shape heading into 2014.

Okay, great. And then just a quick follow-up. As far as your mix of moldings and accessories, you have had great gains there. You're up to 18.5% now. Is there any way you can tell us the magnitude that the store of the future is trending ahead of the legacy store base in that regard?

I think we will probably look for that in our 2014 guidance discussion. As you can imagine with the entire assortment displayed in a more organized formats, you are seeing better performance -- underlays, moldings, grills, butcher block, the tools -- all of it is contributing to the success of the store of the future. But I think we're going to have to wait another quarter to really talk about those specifics.

Okay, thanks a lot. Good luck in the fourth quarter, guys.

Thanks, Jon.

Thanks. Thank you for joining us on today's call. We look forward to speaking with you again on our year-end earnings call when we expect to provide our initial outlook for 2014, including outlining our store opening plans and reviewing continued progress in executing our strategic initiatives to achieve our long-term objectives.

8-K, VA.

Thank you. Good morning, everyone, and thank you for joining us today.