LL Flooring Holdings Inc (LL) 2017 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to Lumber Liquidators Fourth Quarter 2017 Earnings Conference Call. With us today from Lumber Liquidators is Mr. Dennis Knowles, Chief Executive Officer; and Marty Agard, Chief Financial Officer.

As a reminder, ladies and gentlemen, this conference is being recorded and may not be reproduced in full or in part without permission from the company.

I would now like to turn the conference over to Steve Calk. Please go ahead, sir.

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

Let me reference the safe harbor provisions of the U.S. securities laws for forward-looking statements. This conference call may contain forward-looking statements that are subject to significant risks 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 this call is accurate only as of the date discussed. Investors should not assume that these statements will remain operative at a later time, and Lumber Liquidators undertakes no obligation to update any information discussed in this call.

Now I'm pleased to introduce Mr. Dennis Knowles, CEO of Lumber Liquidators. Dennis?

Thank you, Steve, and good morning, everyone. I am joined by Marty Agard, our Chief Financial Officer.

2017 was an important year for Lumber Liquidators as we took a number of important steps to establish a solid foundation for our long-term success. Let me begin by thanking those who are ultimately responsible for our progress. Our associates at each of our stores have worked tirelessly to improve at the local level and enhance our customer experience. At the same time, our teams here at the corporate headquarters have been motivated, enthusiastic and creative as we've looked for ways to make Lumber Liquidators better from sourcing all the way to the customer's completed installation. Team, I'm proud of your hard work, and I look forward to a successful 2018.

Marty is going to walk you through some numbers, but let me touch on a few key items that I'm particularly excited about. In the fourth quarter, we reported net sales of $259.9 million, an increase of 6.1% compared to the prior year period. Comparable store net sales increased 4.5%, driven by positive ticket and traffic. We also continue to improve our margins from a year ago, both at the gross and operating level. And we opened 6 new stores during the quarter, bringing us to a total of 393 stores.

In addition, in Q4, we completed the rollout of installation services in all our locations across the country and are already seeing good momentum as the do-it-for-me customers continue to enjoy our complete solution to their flooring needs. The pro business also continues to perform to our expectations and above the company average.

This quarter was also a bit of a milestone in that we were finally able to see how our strategies are playing out in terms of supply chain, product mix, marketing tactics, installation and pro. Our ability to accurately compare quarter-over-quarter results and test enhancements to our business levers have put us in a much better position to manage the company. As we have discussed last quarter, this is clearly letting us move toward a more sophisticated approach to specialty retailing with a focus on product, expertise and value rather than our legacy deep discounting combined with heavy advertising model, most of all, though, I'm excited about what I'm seeing at the local stores. In my store visits, I'm seeing better training, but also recruiting and retention and that is driving increased confidence among our associates. They are truly excited about having trend-right products available along with installation service in a more systemic outreach to the pro.

Remember, typically, our stores have 3 to 4 associates, all of which must be at a highly trained and enthusiastic level when the customer walks in. And that can be the difference between a lost customer and an extra sale that day. So when I see that intangible but important enthusiasm, it tells me we have crossed a key threshold in delivering our value proposition to a growing base of customers.

We have measured this and the overall customer experience historically through our Secret Shopper program. As we have grown our corporate capabilities, we've expanded our customer feedback protocols to include national surveys. This has given us a much wider sample set and ability to address many more topics, including the installation experience. This past quarter, we anniversary-ed the implementation of traffic counters in a subset of our stores. With this information, we can better understand our traffic and how it responds to a range of events, to provide another dimension of measuring our marketing effectiveness. In addition, we can match that data up with close rates to ensure once the customer is in our store, we are exceeding their expectations. The result is data that is more holistic, accurate and actionable.

Let me touch on a few more things before handing it over to Marty. I mentioned in the last quarter that we held our first ever vendor partner summit here in Virginia in Q4. We hosted over 80 of our vendor partners from 4 continents to discuss the industry and customer trends and to improve best practices across our supply chain. We are committed to building exceptional relationships with our partners, best-in-class sourcing and, ultimately, a market-leading, trend-right product set, all of which are critical to our competitive positioning. The result of our increased focus on selection and style has been encouraging. When customers get to our stores, they are finding everything they want, and our ability to convert them is improving. I believe this focus is also transforming the image of Lumber Liquidators from a low-priced DIY-focused shop to a more customer-focused, full-service expansive experience. In particular, we formed an in-house trends team that works with our merchants on product development. An example of this effort is a new EVP called Rose Canyon Pine. This highly scratch resistant, waterproof floor is almost 10 inches wide with an exclusive look and unique texture that cannot be found anywhere else.

On the legal front, we have no material updates other than to say we remain committed to fully cooperating with the government on the DOJ and SEC investigations and that the MDL settlement is progressing under the terms of the MOU previously announced, with funding likely to fall in the third quarter.

So when we look at what we accomplished in 2017, I have to say that I'm extremely pleased. We've improved the assortment in our stores with style and trend-right products. We added infrastructure at the corporate level to support installed, pro sales, merchandising and customer care. We rolled out a comprehensive nationwide installation services program. Our vendor relations have never been better. We are seeing innovative products and have worked with them to ensure all our floors are GREENGUARD Gold and FloorScore certified. We've invested significant resources to ensure our products are safe, compliant and at the highest quality for all of our customers. And we are one of the first to offer phthalate-safe vinyl flooring. We enhanced our marketing spend and leverage, increasingly targeting regional needs and demographics, while building better effectiveness and analytics. And we closed out a number of important legacy legal and regulatory issues. We still have work to do, and I'm very proud of what we've accomplished in 2017.

I'll be back in a moment to talk about 2018 and beyond, but will now hand it over to Marty to discuss the numbers. Marty?

Thank you, Dennis, and good morning, everyone. Let me start again by covering the top line highlights.

For the fourth quarter, net sales were $259.9 million, an increase of 6.1% over last year, with comparable stores net sales up 4.5%. This consisted of merchandise comps up 2.4% and installation comps up 31%. The overall 4.5% comp growth was split between average ticket expansion of 3.4% and traffic growth of 1.1%. These results were in line with the Q3's pace of growth, but a little below our initial projections, which we mostly attributed to less than expected. In fact, no meaningful storm recovery benefit in Florida and a soft final tweaks of the year, which wasn't helped by the cold snap after Christmas. I'd also point out this is a fairly clean comparison and that it's against the fourth quarter 2016 that generally had our current full assortment and similarly lower reliance on clearance and discounting that we've strived for in 2017.

We did have a few milestones and 2 key growth strategies. First, we completed the installation rollout, entering the large markets of Florida and California in the fourth quarter and now offer that service in all of our markets nationally. Installed sales grew in our comp store set by 31% and grew 8% in the market it's been offered in for more than 13 months. The second milestone was opening 6 new stores, a pace not seen since 2015, bringing us to 10 net new stores in 2017 and a total of 393.

Let's take a look at gross margin, which came in at 35.4% for the quarter and had no significant unusual or legacy activity affecting it. Last year's gross margins was 32.9% and also had no significant unusual activity affecting it. So the current quarter was better by 250 basis points, driven by improved mix of manufactured products and improved margins, most notably within the bamboo and engineered categories.

Comparing sequentially to the third quarter, gross margin was down 60 basis points from Q3 2017, primarily due to increased promotional activities.

Now let's look at SG&A. SG&A expense for the fourth quarter was $91.5 million compared to $89.7 million in the fourth quarter of 2016. SG&A in the recent quarter included incremental legal costs of $3.4 million and $1.7 million of costs related to the disposal of the Chinese laminate products we've been holding since discontinuing the sale of those products in 2015. The year ago quarter included 2 nearly offsetting unusual items in both periods. Items are tabled out in the press release and the 10-K. When excluding these items, SG&A expense for the quarter was $86.4 million or 33.3% of sales and a decrease of nearly $3 million from a year ago. This drove over 300 basis points of leverage in terms of SG&A as a percent of sales. The reduction in spend consisted of $1 million in lower payroll-related costs, $1 million in lower advertising and the remainder across the range of operational areas. If compared sequentially and again excluding the items tabled in the press release and the 10-K, SG&A was down slightly.

I'll move down the P&L to operating profit. For the quarter, we recorded operating profit of $600,000 compared to an operating loss of $9 million in Q4 2016. Both the current year ago quarters had several unusual items that impacted these results as scheduled in the 10-K and our press release, and we think it's useful to look at our results with these items set aside. When excluding those items, we had an operating profit of $5.7 million, in line with our third quarter results and well ahead of last year's nearly $9 million operating loss.

As you work down the net income, you'll see a credit and a provision for income taxes. This stems from the Tax Cuts and Jobs Act law changes that resulted in 2 main impacts. First, we revalued downward our deferred tax assets due to the lower rate. But because we've had a valuation allowance against these assets, this impact did not flow through to tax expense. Second, due to the elimination of the 20-year limit on loss carryforwards, we were able to recognize approximately $2 million in deferred tax assets we previously had a valuation allowance against. This along with other smaller adjustments did flow through as a benefit in the tax provision in the fourth quarter. On the year, this impact was partially offset by adjustments stemming from the IRS audits of years 2013 through 2016 discussed in the third quarter call and small amounts of state taxes owed, leaving us with a near 0 tax expense and effective tax rate for the year.

Now let's look at liquidity and cash flow. As of December 31, we had total liquidity of $146 million, and we had borrowings under our ABL facility of $15 million, which was down from $32 million in borrowings at the beginning of the quarter. Our inventory ended the quarter at $263 million, up slightly from $253 million at the beginning of the quarter. We do expect inventory to climb through the first quarter to the $270 million to $280 million range as we prepare for the spring season.

With respect to guidance, Dennis is going to walk through some of the highlights of our strategic work. And we believe that the initiatives planned will sustain 2017's trend into 2018 in terms of steady but modest comp store sales growth in the mid-single digits and gradual expansion of our gross margin. On SG&A, excluding any unusual legal costs, we expect a modest increase in dollar spend due to increases in advertising and technology initiatives and the additional SG&A related to new stores, but still expect to achieve leverage on SG&A as a percent of sales in 2018.

The gross margin expansion and the SG&A leverage combined to what we expect to be 100 to 200 basis points improvement in our adjusted operating margin to the low single digits. That said, Q1 comps are looking more like low single digits at this point, stemming from a soft January that did not benefit from the same year-end promotion ending in January a year ago, coupled with particular softness in our Northern division. February has rebounded nicely, and we have a strong program lined up for March, but adding it all together points to low single digits.

On the investing side, we expect to open 20 to 25 stores in 2018 and spend $15 million to $20 million from capital during the year.

Given the attention on taxes, I'll also note that while profitable on an adjusted basis, when we include the legal and settlement costs, we were in a taxable loss situation in 2017 and are likely to be in a loss position in 2018 as we fund the MDL obligation. As a result, we do not pay cash taxes currently and do not benefit from the tax law change in the near term.

In terms of earnings and EPS, we continue to carry a valuation allowance on our NOLs and other deferred tax assets, which has a result of leaving us with a very low effective tax rate from a GAAP perspective. We expect that to continue in 2018 and potentially beyond, but our base outlook is that as we move through 2019, we would expect to revert to statutory rates, which for us will be approximately 25%, including state taxes. So to be clear, we will certainly benefit from the tax change within the next few years and generally expect that to flow to the bottom line and EPS.

To wrap it up for me, looking at the year 2017, we're pleased with the position we now have the company in and the platform in place. We've resolved the CPSC matter and disposed of the related inventory. We fully expect to settle the MDL litigation. We expanded our installation business, and we fully restored our product assortment. Along the way, we consider we strengthened the balance sheet. While we believe the foundation is as strong as it's been in years, we also see opportunities to build our brand and improve the company's profitability.

So let me hand it back to Dennis to cover that.

Thank you, Marty. Over the past few months, we have spent a good amount of time refreshing and preparing our strategy and operating plan for 2018 and beyond. I want to give you some of those highlights as we head into the new year.

First, we have worked to refine our overarching mission, which is from inspiration to installation, our passion is to make beautiful floors possible and easy for all. In this statement, we are reflecting our unique business model that is well positioned to serve 3 key segments: the DIY customer, the do-it-for-me customer and the professional installer. Our research among these segments have confirmed that these groups respond well to our strengths. The knowledge and availability of our store associates; the breadth of our assortment across material, function and style; our value through its unique items and promotional opportunities and specific to the do-it-for-me segment, integrated installation services. As we've deployed the core components of our strategic plan, we kept this mission in view. Our plan for 2018 and beyond also builds upon what we accomplished in 2017 and adds layers of refinement.

The first component is what we refer to as operational excellence and is focused on refining and improving the strengths I just mentioned: service, assortment and value. We are taking steps to ensure that each of these components are impactful to the customer. In terms of our merchandising, we have rebuilT our categories, cycled through a stable assortment and are now focusing on price point adjacencies to ensure easier, more relevant step-up choices for our customers.

I've also mentioned our new customer focused survey, which not only talks to customers who buy, but at also customers who don't. We can adjust our interaction with the customer's journey as needed. In addition, we are integrating our freight forwarder with our purchase order system to ensure compliance and improved visibility to inventory.

Our second focus is to accelerate our value proposition, what we referred to as enhancing the customer experience. This is a series of objectives to improve how the customer interacts with our brand at various touch points. A few of the notable elements here include upgrades to our integration of online and in-store environments and the expansion of our store stocking strategy. For instance, in our online program, we are working to greatly expand a number of products available to our customers that would not be stocked in the stores or DCs or tie up our capital. We are also working to ensure that customers can interact with us seamlessly from online to mobile to in-store. We believe these first 2 strategies alone will help drive modest but consistent comp store merchandise growth.

Our third strategy continues what we started in 2017, expanding our business. This includes additional enhancements of our installation program, further integration into the sales process and tactical support by more than 2 dozen dedicated customer care representatives, a team we built over the past year. With installation services now available in all our stores, we can advertise nationally and scale the systems and people infrastructure.

Our expansion strategy also includes further enhancements to our value proposition for the pro. Here, we will pursue opportunities to introduce pro requested assorted items and service and convenience upgrades. Expanding our business also addresses our unit growth strategy. Our real estate team has been hard at work and has identified existing and new markets where we plan to add stores in the coming years. We have good muscle here and an attractive pipeline that will support approximately 25 new stores per year, reaching 500 stores by 2022.

Our fourth strategic element, consistent with our historical initiatives, is improving profitability. We made good progress on this front in 2017, but we know we have much more work to do. In 2017, we captured some low-hanging fruit, both in terms of costs and SG&A. Going forward, Marty, Marco and the teams are moving to the next level, gradually expanding our gross margin via sourcing and operational tactics and scaling our SG&A infrastructure. This includes optimizing both the level and mix of advertising. We believe we can do this while funding IT investments that will drive our customer experience for the DIY, the do-it-for-me and the pro segments. We do see a little incremental investment here in the IT stream and perhaps more advertising if we see it effective in driving traffic. On balance, though, we see these investments as modest. And while there may a gradual rise from the current dollar level of SG&A spend, we will still expect to leverage SG&A as a percent of sales.

Taken altogether, we believe these initiatives can drive 3 to 5 points of operating margin improvement over the next 3 years. We consider this strategy evolutionary, not revolutionary, as we still have some work to do to put legacy legal matters behind us while steadily improving the franchise. As we execute on these plans over the next 3 years, we believe we can achieve continued improvement in our operating results and have established 2021 financial goals that include annual comp store sales growth in the mid-single digits, total annual sales growth in the mid- to upper single digits and adjusted operating profit in the upper single digits with a long-term target of 10%. We expect that our march towards upper single-digit adjusted operating profit will unfold over the next 8 to 12 quarters. However, we currently expect that we can achieve the top line targets, that is comps in the mid-single digits and total sales in the upper single digits by the second half of 2018, particularly as we bring new items to the market and gain traction on our pro initiatives. However, as Marty indicated, the first quarter is running a little below that objective due to promotional timing differences from a year ago that negatively impacted January and a particularly slower start to the year in our North division. The adjusted operating profit margin for 2018 will likely expand modestly to the low to mid-single digits as we expand gross margins and scale SG&A.

I look forward to sharing more of these strategies and our progress against these goals in the coming quarters. In closing, I am very excited about what we've accomplished and where we are going. I believe we have the right plan in place and the right people to execute on that plan. And as a senior management team, we are looking forward to leveraging this great business model and expanding to touch an increasing number of customers throughout the country.

With that, operator, we'd like to open the call to questions.

(Operator Instructions) Our first question is from Simeon Gutman with Morgan Stanley.

It's Simeon Gutman. My first question is on the product comps. It looks like if we take away the installation piece, the product comps are lagging the industry a bit. When do you expect that to turn? And more specifically, can you talk about the catalyst for this to change?

Well, as I said, we were still pleased. This was the first quarter, as Marty mentioned in his comments, where we had kind of comparable numbers. Still making some adjustments to our assortment, but feel really good about the performance achieved in each of the categories. And then we went through a fair amount, as I mentioned last year, of work on our solid business, our solid hardwoods and our engineered hardwoods. So we're expecting to see a little lift in that area this year, but we are pleased with the progress we're making.

Okay. And then my follow-up. It sounds like you're fairly confident about the margin expansion for next year, both SG&A leveraging and gross margin. I would ask if there is risk to one of those items more than the other, whether it's SG&A doesn't lever as much as you think or GM doesn't expand as much as you think? Which one do you think -- and I was trying to hold sales constant here. Which one do you think there could be more risk to, if any?

Yes, it's Marty. I'll field that one. I would say, I hate to say, but I'd say similar. We are looking for something like a little bit more margin leverage from the gross margin than SG&A, but some of both. And I would put the risk, I guess, probably a little bit more on the SG&A side, I guess. We feel confident enough about the gross margin plans.

Our next question is from John Baugh with Stifel.

I wonder if you could help us roughly what the comp has assisted in '18 from the full year of installation being available.

Yes. I don't have a specific model, but I would say it's been running about 2 points, and I think it'll still be in that north of 1 point, 1.5 points. We still have those big markets. Florida and California are big, and they will be kind of year-over-year expansion that shows up as comp tailwind. And then as you can see, we report each quarter within the markets where the installs has been in place at full year, it's been comping well. It was 8% this quarter. That's actually -- and it's been in that sort of near double digit kind of rate. So that's also tailwind. So I would say 1.5 type-ish range.

Okay. And then could you walk through January in a little more detail again. Discussed the timing of promotion. But I'm particularly interested, are your comps in the nonweather impacted areas, in the mid-single digit or stronger areas?

Yes. So the first thing is on the promotional timing, we had a promotion that wrapped into January a year ago and left us with a really strong first week of the year a year ago that this year, we did not carry that promotion into the new year. So January started off in a hole there. And then in the North region in particular, it was considerably different than the rest of the country, and I would say the rest of the country has been in line with our kind of guidance and our objectives for the year. So it was -- we hate to talk about weather, but this was just a notable pattern regionally in our store profile.

Okay. And then, finally, on transportation costs, I know trucking in particular is tight here, but obviously there's containers and the whole host of transportation items. Could you walk through your expectations, '18 versus '17, on transportation costs?

Yes, it moved up a little bit in the fourth quarter. So sequentially, it cost us a little bit, not much. Year-over-year, it did end up costing us a bit in that comparison. And it continues to be a risk, but this is the kind of risk that I've put in the 25 to 50 basis point kind of thing. It's not going to overwhelm the other kind of gross margin drivers that we have in place. But it is a risk and something moving against this year in the current environment.

Our next question is from Rick Nelson with Stephens.

Dennis, can you speak to the competitive environment? And what do you think is happening with market share now that we have a full year behind us?

Well, I think we saw it kind of play out similarly as we talked about in Q3. I think arguably, the hard surface flooring category in general is probably as competitive as it's ever been, but we like that. We see lift when others promote as well as when we do. So I think it really -- what I like about what we've done to prepare ourself for this is just the complete full assortment, really focusing on trend and style and then the addition of our installation services as well. So I think that kind of gives us a leg up in terms of being able to offer a complete solution. So we're thinking that we like our share gains in some of the emerging categories. We know we've got some work to do in other categories as well. But overall, it's really brought some good innovation to both what I would call the manufactured categories. We just went out to Las Vegas for the annual SURFACES show, and I've got to tell you both vinyl and laminate vendors are really stepping up. And we're excited about what this has brought in terms of attention to this particular category. So I think it's always been our work to do to make sure that we're staying ahead of everything in terms of fashion and innovation. But we really do like the attention that it's given. You can definitely tell, when you look at the sheer difference between what soft flooring had a year ago and we've all seen this coming, but it's really given the vendors a reason to step up their game as well. So I expect it to remain competitive.

Also I'd like to follow up on your comments about 3 to 5 points of operating margin expansion over 3 to 5 years. What sort of pace are you planning for that to come off of? Is that the 2018 base type of operating margin? Do you think we can get back to those double-digit operating margins? Or is there structural changes that will prevent that?

Yes, Rick, it's Marty. We're walking -- those comments are all off of the adjusted operating profit. First, that's non-GAAP measure and it's tabled out and reconciled to GAAP in the 10-K. And for 2017, it was a little over $10 million of adjusted operating profit on $1 billion in sales, so that's 1%. It was a little higher than that in the back half, but there is a seasonal pattern to that and so forth. So it is off of that 1% that both Dennis and I are talking about advancing into the low to mid-single digits. Nothing structural. It's leveraging the gross margin. Back to Simeon's first question, leveraging the gross margin and leveraging SG&A. We think we can get 1 point, 1 point plus out of both, but there's some risk around it and it just comes down to how well our top line initiatives work and, to some degree, the competitive landscape and so forth. But that's how what we're talking about, nothing really structural in there.

Great. Also like to follow up on your promotional plan, your advertising plan, 2018 versus 2017. If the comps don't materialize as you expect, what are the tools you have to drive that better?

Well, as I said earlier, we spent a fair amount of 2017, really most of the year, really extracting the data that lets us know where we are effective, when we are effective and what channels work best for us. And so 2018 is -- as I said, '17 was about resetting the baseline for us, understanding what our assortment looked like, what our -- how our stores worked with less turnover, focusing on training. So we're able, as I mentioned, now we've got the traffic counters, we've cycled that, we really can tell where -- what advertising vehicles are effective for us. And so we'll be leaning into that this year. I -- in answer to the question if the comps don't materialize, that's a tough one for us because we don't expect that to happen, but we would make sure that we're leaning into the tools that we have to drive traffic. So it's kind of what we've spent the entire year working on and we're starting to see that really play out in Q3 and Q4, so...

Our next question is from Matt Fassler with Goldman Sachs.

My first question is a follow-up on the promotional theme. One of your competitors, obviously, had a very tough time citing the promotional environment. And you said that the environment is as promotional as it's been. Why do you think that is? Is there an issue with demand? Is there -- is your recovery and the emergence of other competitors creating more capacity? Was it a seasonal thing for Q4, now that flooring should necessarily be a holiday item? What do you think is catalyzing this change in the backdrop?

Well, I think, hard surface flooring, Matt, has continued to gain popularity. It's for several reasons. But I think when -- if you look at the flooring industry and you look at, just say, the 2 biggest players, and the lion's share in the past and their business has been soft, has been flooring, carpet, and if carpet's on the decline, you've got a lot of volume that you've got to make up. And I think the success that you've seen in the vinyl categories and even the waterproof laminates, I think has really just made that more -- it is just more competitive. So that's my take on it. That coupled with the fact that you've got a competitor that's relatively new in the space, that's gaining share purely by growth and then I'd like to think that we've brought a little attention to that as well in our recovery.

Do consumers respond to price? What's the efficacy of -- I guess, if you could really speak most appropriately to your own promotional calendar? What kind of promotions tend to actually earn the kind of return that you would seek as you come to market?

Well, I don't know and I want to share all our details, but I would tell you that one thing that we are excited about in 2018 is that we can now advertise our services across the country. And that's been something we've seen a good response to is the installation. In fact, I think if you talk with anybody at the builder show or anybody out at SURFACES, if you talk to anyone in the industry, their big concern right now is labor. And this certainly puts us in a position where we can -- we've got kind of a curated group of installed providers that Charles and his team have worked really hard this year to make sure we had in place. So I think that puts us in a unique position we can start to talk about that.

Just briefly by way of cleanup, as you look at the anticipated legal costs, not things like the multidistrict settlement, but the actual legal and professional fees that you've been breaking out, that was about an $11 million item for the year. Do you have a rough sense as to where that ends up in 2018?

Matt, it's Marty. That's hard. The MDL side of that should run down and out as we get into the middle of the year and we've got that MDL in execution mode. The DOJ one is just very open-ended for us. We don't know -- as Dennis said, we just -- it's hard to make any comments. We don't have a good time frame around that. So I would hope, on balance, this thing is tapering down and out over the course of the year, but it's hard to say exactly what can really happen there.

Our next question is from Dan Binder with Jefferies.

It's Dan Binder. A couple of questions. First, within your comp outlook, I was wondering if you can give us a little more color on how much of that you would expect to be traffic versus ticket. And what the drivers of ticket would be if it's as much as half? And the second question was really around assortments. And obviously, in the showroom space that you have, you've -- it sounds like you've done a lot of work and the results show that. But just curious as you think about some of the comments you made earlier about players with broader assortments and even a prior management team at this company, are you trying new formats? Where is your head now on the possibility of going beyond the current box to get bigger in the category?

I'll just quickly respond to the first question around. We would expect certainly in the first quarter where we'd kind of call that down a little bit, traffic will be very low. It's been running 1%, so it could be in that range or, I guess, even towards 0. We continue to see good ticket growth. We've got as the pro business expands, that's a good ticket. And then the install, and installed attached ticket, merchandise and install and all is quite a large ticket and is very good for that. So we expect that momentum to continue through the first quarter and on into next year.

Yes. And now as far as the store goes with the expansion, it gives us the opportunity to do something we haven't done in prior years and that's started to tinker with what the showroom looks like, the footprint, if you will. We have some plans for a couple of different tests that we are going to run this year, one format, one market size. So we'll kind of feel like we're in that position now where we should be doing that and looking at both, like I said, where we have our stores located and as well as what they look like.

Okay. If I could just squeeze one more in on the gross margin, the targets longer term, just in light of your expectation that the industry will stay competitive and certainly everything would sort of suggest that just given growth of some of the competitors. When you think about that gross margin target longer term, how much do you think will end up being required to be reinvested in terms of better sourcing? Can you break it into buckets of how much is sourcing versus mix? And then what piece of that needs to get reinvested to drive -- to keep this comp store sales trend running?

We -- as you think about kind of our year in 2017, it was really built -- we were rebuilding our assortment, rebuilding our vendor base. And I would tell you a fair amount -- without giving you exact numbers for how that breaks out, we have a fair amount of opportunity as it relates to sourcing. But we also feel like the intelligence that we've gained this year from our pricing initiatives will help us manage that from a regional perspective. And so we'll be able to continue to lean into both of those to make sure that we're optimizing our pricing as well as the other thing that we've done a much better job that won't be such a drag on margin for us is just managing our obsolescence. I would tell you that in the past years, we've had obsolete inventory. That was as high as 30% of our total inventory, and we're nowhere near that now. And so we're much more strategic in how we optimize our markdowns and prepare for incoming new assortment. So all of those will have -- are opportunities for us to improve margin, and it is a big focus for us in 2018.

Our next question is from Brian Nagel with Oppenheimer & Co.

So my question, I think, it's a follow-up to some of the prior questions, but really on traffic. As I look at the results today, and there's a lot of things you guys have been well here, including 2017 was a nice rebuilding year for you. But the one factor in my mind that remains still a bit soft and somewhat of a drag is traffic. So as we look into 2018 and recognizing that traffic did improve sequentially through the year, but is there -- I guess the question I have is, are there levers you can pull to drive traffic? You had mentioned pulling the traffic counters in your stores is some advertising. But is there a lever you could really pull? And is the company now in position to handle better traffic?

I would tell you, yes, we are in a much better position mark and the store teams have really focused on training and retention in the stores. And we really enjoyed a much better, probably our best turnover ratio since I've been here at the store manager level in the latter half of the year. That coupled with the fact that we're now fully deployed for installation gives us the ability to market, like I said earlier, across all the categories but also drive the services. And then I really like some of the -- the work that we're doing with the pro, I think, is really going to give us an opportunity to drive additional footprints in our store in a way that we never have. And we're working to build some capability to help accentuate that opportunity. But at the same time, last year for us was really -- we stood up the pro team, we started to kind of clean up our database and kind of work through our existing customers and then learn how we could market to that customer. We did not do a lot of marketing for pro customer. And so our plan this year is to have that group of customers more inclusive in our total advertising plan. So with installation and the pro, in addition to what we're doing with our assortment, I think gives us, as Marty mentioned, we will lean into advertising this year because we don't have any holes in our assortment. We feel like we've got the people in place in our stores to drive that into conversion. So that's one of our biggest focuses this year.

Great. So let me -- I am going to just follow up on that. So there was, obviously, a lot of talk about competition within the space. You have a new competitor coming in aggressively. You've got the larger format boxes, if you will, at least in this category, now pushing further. So as you look at this, I mean, you believe then that Lumber Liquidators could be more aggressive in driving traffic and that will work despite this with likely a more competitive environment?

Absolutely, absolutely. We see the response with our customers as it relates to our advertising and marketing spend. As Marty said, our pro, while it's still at about 20% of our business, our comps are outpacing the company. And we believe that there is even more to gain there. And what really gives me that confidence is when we run, promote -- certain promotions and we see the growth in our new orders, we know that we're starting to fire on all cylinders as it relates to having the right product, having the right advertising cadence and then leveraging that against the experience in the store. It is clearly more work for us to do. We realized that 2018 is a year that we've really got to mix -- stay focused on both those metrics, both conversion and traffic. So -- but we believe even in the competitive environment we have what we need to drive traffic, and they will respond.

Got it. There is a one more I'm going to slip in, if I can. On Florida, you mentioned -- I guess, it was in your prepared comments that you really haven't seen in any significant way the hurricane recovery there. That's consistent with what we've heard from other companies. Is that business still on the come? Or is it just not going to happen?

I think it is. Particularly down in Southern Florida, down in the keys, we've deployed some mobile -- a mobile showroom to kind of help. But just -- I think it was a different kind of damage than what we saw in the Houston market. And I think it's either -- it was either roof damage and wind damage or total devastation. And in Southern Florida, it seems that, that was more total devastation and so it's going to play out over a longer period of time.

Our next question is from Greg Melich with MoffettNathanson.

A couple of questions. One, sort of a near-term one, then longer term. Is comps are a little slower in the first quarter? Is that basically driven by all traffic or is this ticket part of that? Then I had a follow-up.

Yes, it feels -- so far the first quarter feels proportional, a little softer traffic. Average ticket, I'd say, is probably close to what it's been at in terms of the year-over-year progress. So I'd say proportional.

Okay, great. And then maybe to tie together the strategy with the cash flows, just to make sure I got these right, Marty, the inventories were down last year. But then you mentioned, they should be coming up in the next quarter or 2. Where is the right number for sort of inventory and working capital now? And if you could sort of put your guidance on a framework of cash flow, that would be great, the CapEx numbers and D&A for this year?

Yes, so a year ago, we were really overhauling the assortment and kept a position in both the sort of older products and the newer products. We were particularly conservative around the Chinese New Year potential disruptions and so forth. So we really, I guess, took at a conservative building inventory position that we didn't replicate this year and that's part of the year-over-year big decline. We would always have this sort of seasonal build that goes on along about now where we are preparing for the spring season and, to some degree, we're bringing in new items while we still have the old onboard. So I would say, the pattern I called out in terms of ending in this $270 million, $280 million range at the end of the first quarter feels about right. It tends to slide down in the second quarter and down further into the third quarter, hits a low point somewhere along there towards the end of our third quarter. And so that's pretty comfortable. It's generated cash year-over-year. But certainly, we've handled that type of seasonality in the inventory just fine. The AP cycle tends to lag it a little bit, so you'll see that, that fluctuating a bit. In terms of the rest of the CapEx, kind of guidance, opening 20 to 25 stores, many of these will be where we invest in those openings, but again, spread over the years -- over the course of the year, that's handled in the $15 million to $20 million of capital. Some of those stores may be turnkey, where the landlord invests some and that lowers our capital requirement. We think we've got a mix of that and that the $15 million to $20 million of CapEx manages that. So liquidity is -- ends up being solid all the way through the year really, including the ability to sort of handle the MDL types of obligations that will come up. Certainly, the first $22 million is known likely to be in the third quarter when inventory is at its lowest point. So we don't expect any kind of pinch point there either. So we're pretty comfortable with the balance sheet and liquidity.

That's great. And maybe the last question would be the transition there on the growth. And I guess, you put up just a handful of stores the last couple of years, less than 10, but now ramping up to 20 to 25. I know you're owning some more retail areas as opposed to industrial. What other differences are you looking at as you put up those stores, either geography until -- and retail versus industrial that we should be watching for?

Greg, I would tell -- as we've mentioned before and you mentioned this, we are focusing more on A and B sites. And the performance of our new stores over the course of the last year have been really good, and we look forward to kind of seeing that. But I've also mentioned, we've also taken a different advertising approach to a new store as well, but we'll continue to focus on driving -- we've got several markets, and that -- I would tell you that we've got a balance of new and existing markets that we'll be going into that's pretty even. But our focus as it relates to how we open those stores will not change. We'll continue to conduct a grand opening when we open. And then as I mentioned earlier, we'll also focus on -- we're going to look at a couple of new formats. But as it relates to where we'll put them, we'll continue to put those stores in A and B sites.

Our next question is from Peter Keith with Piper Jaffray.

We have been in your stores in recent months and they do look a lot better and that the service is great, so congratulations on the stability and turnaround. I was curious, if you could provide us a quantification of the sales lifts in the fourth quarter from Houston rebuild around the hurricanes.

I mean, it was a solid rebound. We don't want to break it out per se, but it was supportive. It wasn't off the charts, but it was a strong comp in that market. We only have 8 to 10 stores depending on where you draw the storm ring around that, so it's a very small part of our business and just didn't have that strong contribution.

Okay, fair enough. I guess, to pivot to the bigger-picture question when I asked is around that the comp guidance for the year. If we look at the last 3 quarters, we'll call it Q3 to Q1, your comps have averaged, we'll call it kind of 3% to 4%. So the full year comp guidance of mid-single digit does seem to imply some pretty healthy acceleration. The comparers aren't necessarily easier. So I guess, I'm getting some e-mail questions on this. Could you just help us get comfortable with the comp guide and maybe the overall drivers to the business as we look out towards the back half of the year?

Yes. I would tell you that when you think about this year versus last year. As Marty mentioned, we rolled out -- we completed the rollout of installation services last year in 2 of the biggest states, especially for us in terms of store count, so you've got California and Florida. So we're expecting lift, obviously, from those. And then we also see our penetration grow in our existing stores as they become more comfortable with the installation and the process. And we continue to refine our installer provider base. So both of those we expect to grow -- to provide some nice lift. And then the pro customer, I don't want to not emphasize the expertise that we've spent 2017 installing not only in our stores, but at the corporate headquarters, and we really think and expect that to start driving some of our comp growth beyond what we've provided for us in 2017. So we think both of those are big opportunities for us in terms of comp drivers.

Okay. Maybe just a question for Marty to narrow down the margin outlook. So you've given the range in the press release of low to mid-single. But I think just in the Q&A here, you've talked about gross margin, SG&A maybe getting 1 point, 1.5 points, which would imply kind of an aggregate 2 to 3 points of margin expansion. So is that maybe the fair way to think about it for the year, where you're coming up at 1%, you're going to end up at around 3% to 4% for 2018?

Yes. I think, that's right. The reason we hedged it down just a little bit from that is just the risks around. Well, we talked a little bit about transportation costs. We've talked a little about the competitive environment. And so we don't want to just count on being able to drive the top line at the full mid-single digits while getting all of the best outcomes kind of on gross margin and SG&A. So we ended up with that range of low to mid-single digits. But your math is about right. We're just trying to identify that there are some risks out there.

Okay, fair enough. Last question for me, more big picture around the brand. So it sounds like you guys have been thinking strategically long term. How do you think about the overall Lumber Liquidators brand going forward? And also just the tagline with hardwood floors for less, given that some of your new product focus is on nonhardwood product. Is there a way that you think you might be able to tweak the brand? Or have you decided you're just going to stay steady going forward?

Now, Peter, it's a great question, one we ask ourselves every day. It is something that we feel like we have the time now really to take a serious look at. We just had so many things last year I would tell you and even in 2016 that were, to me, more important. And now is the time I think for us to really take a hard look at this. And so we plan to do that over the course of the year to kind of double down on our research to understand how -- what the brand awareness is and what opportunities that we have, if any, for rebranding. But I feel like now is the right time for us to do that.

Ladies and gentlemen, we have reached the end of the question-and-answer session. I would like to turn the call back over to Mr. Knowles for closing remarks.

Thank you, operator. Let me say, thanks again to the Lumber Liquidators' team, our vendors, our customers and our shareholders for your continued support. We look forward to updating you next quarter.

Thank you. This concludes today's conference. You may disconnect your lines at this time, and thank you for your participation.