La-Z-Boy Inc (LZB) 2009 Q3 法說會逐字稿

Greetings and welcome to the La-Z-Boy Incorporated fiscal 2009 third-quarter conference call. (Operator Instructions) As a reminder this conference is being recorded. It is my pleasure to introduce your host, Mr. Kathy Liebmann, Director of Investor Relations and Corporate Communications for La-Z-Boy Incorporated. Thank you, you may begin.

Thank you, Melissa. Good morning and thank you for joining us on this morning's call to discuss our fiscal 2009 third-quarter results. With us today are Kurt Darrow, La-Z-Boy's President and Chief Executive Officer and Mike Riccio, our Chief Financial Officer. Kurt will begin today's call and Mike will speak about the financials and the more unusual items of the quarter. Following Kurt's concluding remarks, we will open the call to questions. As is our custom, the time allotted for this call is one hour.

A telephone replay of the call will be available for one week beginning this afternoon. These regular quarterly investor conference calls are one of La-Z-Boy's primary vehicles to provide guidance and to communicate with investors about the Company's current operations and future prospects. We will make forward-looking statements during this call so I will repeat our usual Safe Harbor remarks. While these statements reflect the best judgment of management at the present time, they are subject to numerous future risks and uncertainties as detailed in our regular SEC filings. And they may different materially from actual results due to a wide range of factors. We undertake no obligation to update any forward-looking statements made during this call. And with that, let me turn over the call to Kurt Darrow, La-Z-Boy's President and Chief Executive Officer. Kurt?

Thank you, Kathy. Good morning, everyone. Yesterday afternoon, we reported our third-quarter results, which included a number of large and unusual, primarily non-cash charges. These charges clouded the Company's actual operating performance in what continues to be a very difficult environment due to macroeconomic conditions. Mike will walk you through the various charges in just a moment, but before that, I want to make several points which I believe speak to the progress we have made in changing our operating model and how those changes position us to weather the storm and operate efficiently in this environment.

First, without the various non-cash charges. On an $85 million or 23% decline in sales, our adjusted operating loss was limited to $5.4 million. Second, we generated $28 million in cash from operations during the period, even though our inventories increased 3%. Third, we paid down our debt by $28 million. Over the past 12 months, we have decreased our total debt by more than $60 million. And finally, we believe we have the ability and resources to navigate through the changing marketplace.

We have over $300 million in tangible net assets, and with the many changes made to our business model over the past several years, we have built a strong and competitive infrastructure, one that requires minimal capital expenditures in the foreseeable future. Importantly, we will continue to make the necessary changes to our business structure to properly position La-Z-Boy for success in what we believe will be a protracted recession. I will turn the call over to Mike now so he can walk through the various charges for this quarter. Michael?

Thank you, Kurt. We reported net sales of $288.6 million down 22.7% from year-ago levels, and a net loss of $1.25 per share. Let me comment on the unusual items for the period so you can understand how we get to the adjusted operating loss of $5.4 million. I would like to note that we included a chart in our press release to illustrate the impact of the various noncash accounting charges and adjustments. These adjustments are in dollar terms rather than per share terms as it is difficult to apply our current, effective tax rate to the charges to calculate a per share figure.

Due to the dramatic changes in the stock and credit markets, the impact of the economic conditions to our business and the conditions of the banking industry and the overall squeeze on global liquidity, the pressure on our long-lived assets and intangible assets have grown. With our market cap below the Company's book value, the requirement to test the valuation of our intangible asset was triggered earlier than our usual fourth-quarter annual testing. The result has been a significant impairment of our good will and trade name valuations. Mainly due to the decrease in our market capitalization over the past couple of months, our discount rate increased when calculating our enterprise value using the discounted cash flow methodology. This was the largest factor in the impairment charges during the quarter.

In addition, the significant reduction in our market capitalization caused us to test the recoverability of our long-lived assets. The result was an impairment of some of our fixed assets in our retail group. For the quarter, we had an intangible writedown of $46 million and $7 million impairment of property plant equipment. After recording these impairments, the remaining balance of our good will and trade names not including our VIEs was $3.1 million. We believe that any future impairment of our property plant equipment will be minimal, as well as any future impairment of our remaining trade names.

In the other income expense line, we had one of the most significant illustrations of what the stock market has done over the past 12 months. In the third quarter of fiscal 2008, our investments in one of our rabbi trusts had unrealized gains of $3.5 million. At that time, we decided to realize those gains in order to utilize capital losses we had for tax purposes. This increased our cost basis in those investments since we reinvested those proceeds in the same investments. Over the past year, particularly during the past quarter, the market value of those assets has dramatically decreased resulting in a significant unrealized loss of $5.1 million. Since it appears that our losses will be other than temporary as defined by the SEC, and we plan on selling those investments in the near future, we have had to record those unrealized losses as an expense during the current quarter. So we had a $3.5 million of gains in the third quarter of 2008 and a $5.1 million loss in the third quarter of 2009 related to these investments.

Regarding the expense taken for bad debts, the credit market, as well as the weak retail environment, particularly in the Florida, Michigan and West Coast markets have negatively impacted our expectation to collect on past-due accounts. And therefore we had to increase our allowance for bad debts. Going forward we will continue to monitor closely the credit of our dealers. In the meantime, however, we believe our bad debt reserve of $35.8 million is adequate. During the quarter, we also had restructuring charges of $2.4 million related principally to severance cost following the employment reductions announced in November and to some extent the closure of one of our Baja upholstery facilities. And there is one additional item in the quarter which did not impact our consolidated results but affected the segment reporting. Because we are bringing in independent dealers to our warehouse system, the reporting of the retail warehouse operations was changed to the Upholstery Group from the Retail Group. This resulted to a one-time adjustment to La-Z-Boy's inner company sales and inner company profits between the upholstery segment and Corporate and other. It resulted in a reduction in inner company sales and operating income and operating income for the upholstery segment of $12.1 million and $3.3 million respectively with corresponding offsets recorded in consolidation.

Now turning to the balance sheet, our debt-to-capitalization ratio decreased from prior quarter to 22%. Although we paid down our debt by almost $28 million during the quarter, our ratio was impacted by the change in shareholders equity, driven primarily by the writedown of intangible assets. We decreased our accounts receivable during the period by $43.4 million which includes the $9.4 million of additional reserves. Our inventories did, however, increase during the period, reflecting the long lead times associated with foreign sourcing. When order rate flowed dramatically back in October, we had a lot of product on order and in production overseas. With a 12-week lead supply chain, it is difficult to shut it down immediately. We will work to decrease our inventory levels this quarter and our objective is for reduction of about 10%. In the meantime, we have significantly reduced our cash requirements for foreign source products over the next 120-day period.

Our excess availability under our credit facility January 24, 2009 was $57.2 million. You should note that our excess availability fluctuates based on our outstanding borrowings, eligible receivables in inventory among other factors such as outstanding letters of credit. We also had $18.7 million in cash and cash equivalent on the balance sheet.

Due to the overall macroeconomic environment and the Company's objective of conserving cash and increasing its financial flexibility, the Board of Directors thought it prudent to suspend the Company's quarterly dividend to shareholders. Our tax rate will continue to be impacted by various discreet items and whether or not we will be able to reverse valuation allowances or utilize tax benefits in the future based on our level of income. Our capital expenditures for fiscal 2009 will be in the range of $18 million to $20 million. IT upgrades associated with the consolidation of our warehouse, as well as our new cut and sew center Mexico are the two strategic projects that Cap Ex will be allocated to on a go-forward basis. We believe that our fiscal 2010 Cap Ex will be 20% to 30% below our depreciation run rate for 2010. Depreciation amortization will remain in the $23 million to $24 million range. I will now turn back the call to Kurt to talk about the segments.

Clearly this has been a difficult period for everyone operating in our industry. Rising unemployment levels, coupled with declining consumer confidence do not bode well for the furniture industry. Last fall, when there was a precipitous curtailment of demand following the collapse of the financial and credit markets, our management team reacted swiftly and made immediate changes to our operating structure beginning in early November. Every month since then, we have continued to make adjustments. Since that time, we have removed approximately $60 million of annual structural cost from the business in the form of employment reductions, changes to employee benefit plans, including our bonus programs, 401(k) matching and profit-sharing plans, and the closure of a Baja upholstery facility. Every person remaining in our organization is focused on customer satisfaction, cost control, and productivity.

In our upholstery segment, our sales declined 29.5% to $199 million for the quarter and our operating margin was a negative 1%. Had we not had the adjustment to sales and profits resulting from the shift in the warehouse structure, we would have been profitable even on the significant decline in volume. This is a testament to the many changes we have made to our operating structure, not the least of which was the conversion of our La-Z-Boy-branded facilities to the cellular production process. Additionally as Mike spoke about earlier, we incurred a significant charge for bad debt which primarily related to the upholstery segment and impacted its performance.

There are two major strategic initiatives afoot within our upholstery operation. Our new cut and sew facility in Mexico and our warehouse system. Last month we opened the Mexican based cut and sew facility and I am pleased to stay opened on time and on budget. Today we have 140 people working there and have hired almost 100 additional people who are going through the process of training. As we shift our entire custom order cut-and-sew operation to Mexico, we will continue to see the benefit of the new facility coming through to the bottom line. Once fully transitioned, we expect to realize savings of approximately $20 million annually with a full benefit realized in fiscal 2011.

The second initiative under way is the rollout of our regional distribution centers to the entire network of La-Z-Boy Furniture Gallery dealers. To date, we have brought in six independent dealers representing 12 stores to our warehouse system which as discussed earlier is now managed by our Upholstery Group. The benefits of taking over the warehouse inventory and delivery functions for the entire network, including increasing the base of inventory for our independent dealers, giving them the ability to focus on the front end of their business, and decreasing the accounts receivable for the Corporation.

For fiscal 2009 third-quarter, same-store sales across the network of La-Z-Boy Furniture Gallery stores were down 12.5%, reflecting the continued weakness in the furniture space. While this is a difficult operating environment, the teams in both the Company-owned stores and independent dealer stores are working to provide better service for the customer, increasing the average ticket, and strengthening the overall performance of the network.

Now let me turn to the Casegoods segment where we essentially broke even on a 20% decline in sales. We are finding that Casegoods business to be particularly challenged in this environment, with our customer base placing orders only when they write them rather then warehousing any inventory. Because we are able to deliver product to them in two weeks or less, this is their preferred method of doing business in this environment. Our Casegoods team will continue to focus on sku management and aligning their cost structure with their incoming order rates.

In our retail segment, we made progress during the quarter. On a 19% decline in sales, we decreased our operating loss by $1.4 million compared with last year's third quarter. While we are still losing money in the segment, we are pleased with the improvement made during the short time since our new Chief Retail Officer, Mark Bacon has been at the helm. Mark and his team are completely overhauling the way in which we run our retail business. They are making changes to staffing, management, and compensation plans while testing new concepts within each four-wall structure to ensure that the store is run as efficiently as possible. I am encouraged by Mark and his teams approach to the business and am confident we can continue to see improvements in our performance in spite of the difficult environment.

Before I make my concluding remarks, I want to draw your attention in case you didn't see it already to an announcement we made late yesterday appointing Janet Kerr to our Board of Directors. Janet, a lawyer and professor of law, is an expert on corporate governance matters. She is an entrepreneur and a world-renowned author and lecturer on security matters. In addition to serving as a consultant to the US Department of Commerce and numerous countries, she also sits on the boards of two other companies that were highlighted in the press release. One is a public company and the other is a private clothing retailer. We are delighted to have someone of Janet's caliber on our Board, and I am confident she will make a significant contribution to our company.

The trouble in the financial and credit markets and broader economies continue to have a significant impact on our business. In my 30 years with La-Z-Boy, I have never seen such a precipitous drop in order rates as we have experienced this past fall. Near term, La-Z-Boy will be operating with a lean and efficient platform. The work we have done over the past 4 years enable us to combine efficient modern domestic production with the inherent advantage of speed-to-market with a cost benefit of foreign source component parts. We have built a competitive infrastructure and one that will need little investment in the near term.

While the past few months have been extraordinary challenging, we are pleased that we were able to generate cash during the quarter, pay down our debt, and are on target to complete our two remaining strategic projects, Mexico and our regional distribution center system. Over the next quarter, we plan to decrease our inventory levels, continue to pay down our debt, and increase the availability on our credit line. As I said earlier, we have done a substantial amount of work to our business model and cost structure, and we will continue to make whatever changes are necessary to thrive in this challenging environment. By maintaining a focus on our sales process and customer relationships, while aggressively managing our expense structure and balance sheet, we are confident we will play a significant role in the reshaping of the furniture industry by remaining the leading brand in North America. Thank you for being on our call today and for your interest in La-Z-Boy. I will now turn the call over to Kathy to begin the question and answer period.

Thank you, Kurt. We will begin the question and answer period now.

Thank you. (Operator Instructions) Our first question is from Mr. Budd Bugatch with Raymond James. Please state your question.

Good morning, how are you? I want to make sure I understand the retail op margin, the warehouse change. You say it affected the upholstery by I think $3 million or $3.3 million if I remember right and $12 million of sales of he upholstery margins. What impact would it had have if it was accounted the old way on the retail segment?

Well, Bud, we also made a lot of changes within the warehouse structure by eliminating some duplicate costs and taking out some people, so we are in the middle of that transition at this period of time. But obviously some of the savings that we had in the retail section, what was attributable to changing the warehouse, but I would say it is about half to some of the other things we have done.

About half of the $3 million impact on the upholstery segment, if you had left it under the retail operation, your retail margins would have been $3 million or $1.5 million less?

No, we sell to our different divisions, we have to account for whatever that profit was in inventory. The $3.3 million is just eliminating the profit and inventory. It is a one-time charge and has nothing to do with the warehouse operations. That is just moving the inventory back onto upholstery's books and taking the profit out of the inventory that we eliminated in consolidation.

Gotcha.

That has nothing to do with the operations of the warehouse. The going forward will be what the cost to the operation of the warehouse are versus what we are charging retail for that.

It was essentially unsold inventory that you would ship to the warehouses that had been in underneath the retail segment so you had to report it as intercompany sales and intercompany profit.

Exactly.

Okay. I get that. So no impact. So there is nothing to read that this change had any impact on the retail operating margins themselves? That's what I am trying to get to, Mike.

But I would -- I would answer it this way. There are three substantial improvements this quarter in our retail business, and they probably all had close to equal weight. One was an improved gross margin, two was more effective marketing spend, and three was the warehouses. Then collectively they make up not only the $1.5 million improvement but also the recovery of the loss profit on the loss sales that we would have had a higher degradation had we not had all of those changes.

I see. So what you are telling me the warehouse operation by itself is still operating at a loss. If it is a stand-alone business it is no the a profitable business.

Yes.

By removing that from the retail you remove that drag.

Yes. But I would tell you -- and it is our intention within the next six months, maybe a little bit earlier, as we bring in some more dealers into the warehouse system, it will be self-sustaining.

I understand that.

Okay.

I think I understood that. Let me ask a couple of just housekeeping questions and then I will defer and then get back in the queue. Simply, the beginning cash on the cash flow statement does not jive with the ending cash for the second quarter on the Q. It is about $600,000 difference. What did we miss here?

We go from the -- you are talking for the --

When you are looking at the cash flow statements. Your cash and equivalents at the beginning of the period $15,116 million. And the ending cash in the second quarter Q was $14, 400,000 million and change and I am confused as to what caused that difference.

Bud, I will have to get back with you on that. I don't have the last quarter's Q in front of me.

Okay. All right, and you talked about an allowance for doubtful accounts I think of $35.8 million. And on the balance sheet, it shows $31 million. Now I suspect that's down in other long-term assets so if could you break out for us, I guess other long-term assets include kind of notes receivable where dealers -- you may have converted some dealers accounts receivable to longer-term nodes.

That's correct.

What portion of that $66.9 million might that be?

A little more than a third of it I would say. Our notes together -- I am just trying to think that off the top of my head, because -- I don't know if we had that disclosure anywhere else. I would say about 40% of that balance. I'll have to confirm that with you. But just in round numbers, about 40% of that balance in other is notes.

Okay. And finally, the good will is less to $5.1 million. What is that associated with? Is that Kincaid or (inaudible)?

That's a VIE.

That the VIE?

Yes, sir.

The only thing left in goodwill?

Yes, sir, that is all.

And that passed the test. What was the discount rate? What was the discount rate change do? How much was it?

The thing that triggered the test for our company-owned goodwill was the market cap change. The VIE is not part of the market cap, so we will have to re-evaluate that within the fourth quarter.

Ah, so do you think that is likely to get written down?

I don't know, Bud, because a lot of different factors that affect that and the same discount rates won't be applied to the VIE as they are for the company. It is a little odd duck to analyze that since we don't own them.

And since if these were not on the books, you wouldn't have this goodwill on the books and the goodwill would essentially be zero.

Correct.

Wow. All right, thank you, Mike.

Thank you. Our next question is from the line of Matt McCall with BB&T Capital Markets. Please state your questions.

Thanks, good morning, everybody.

Good morning, Matt.

You talked about the retail changes, and you gave, I think, a broad look. Any more details you can pass along there and then more specifically, the impact of the new initiatives on the break-even point in that business?

Well, I think we covered most of that, Matt, in our comments either in our press release or my comments. We are managing the business more aggressively. We have some outside retailers who have joined our organization in terms of leadership and in running some of the markets. And so every aspect of the business is being looked at, changes are being made, the significant ones were in the three areas I talked about, the gross margin, the marketing and the warehousing, and we can continue to make some progress in that regard. However, as I stated on the last call, without more volume, we will not be in a position to break even in that business, and the break evens are continuing to come down as we make changes to the operating model, but we need some top line longer term to have it be a profitable business, but in the meantime, we believe we can make reasonable progress in losing less money in that business on a go-forward basis.

Okay. And anything the past, Kurt, you may have talked about a volume increase that was necessary to get the break even. So that volume increase has improved I guess or decreased, but you can't tell us how much?

We we may be able to do that in a quarter or so once we understand the new run rate of our operating expenses, but I don't want to speculate on that right now.

Okay. All right then, you mentioned the Casegoods business being impacted by the desire for lower inventory levels. Any way you can quantify the impact in Q3 of the destocking? Sounds like that you have occurred in that business?

Well, the primary issue, Matt, is, you know, with 10- to 12-week supply chain and when business stopped in October as fast as it did and came down, we had anticipated better business in the Fall, business through late Summer and early September had been tracking the plan, so you have that supply chain coming over from primarily Asia in our case, and you just can't put the brakes on. The dealers can put the brakes on buying it from you.

Right.

But you have to take it in. And so we've done that. And we have got inventory in all of our groups. Both our best sellers and our slow sellers and so we are going to go through a process of curtailing a lot of our purchases and systematically move that inventory through our sales the next 90, 120 days to get our inventories back in line.

Okay. And then, Mike, on the covenants, the excess availability, can you quantify what that excess availability is at the end of the quarter?

Yes. It will be in our 10Q we file a little bit later. It's $57.2 million is the excess availability. It is pretty much flat with last quarter's.

All right, thank you all.

Thanks, Matt

Thank you. (Operator Instructions) Our next question is from Budd Bugatch with Raymond James. Please state your question.

Mike, could you go over the tax situation. I know that you showed a modest tax benefit, and I thought the Vertaxes had all been eliminated or allowanced for so there wouldn't be that much tax. I know it is as complicated as can be but can you (inaudible)?

I can give you some clarity on that. Let me answer your other question first because it seems like we have done some of this stuff years ago. In the Toronto market, we combined the dealers up there and we now have one VIE, but we can't show the acquired cash on the balance sheet -- not the acquired but the consolidated cash on the balance sheet as an addition to cash. So we had to show this as an opening cash accounts so I didn't know that $600,000 as cash flow from operations. That is the difference in the cash.

So you have to restate the cash essentially?

Yes, so we don't show it in the number. I could have put it as a separate line item that said opening balance of cash consolidated or something, but showed it as one line item.

So before it was incorporated into last quarter's balance sheet in a VIE in a different classification?

No, it was a nonconsolidated VIE.

Oh.

What I mean that by is our Toronto market is split in half, and now it is one market, one person runs the entire market. So that's what we tried to explain that we have a couple more stores that were added into that VIE. The same VIE but it is the Toronto market. But it's just we had his books added on to ours. And so it's one of those things that you don't get that much clarity in the accounting standards on but the $631,000 is the cash that was on his books. So we had them put on as we consolidated so we would not show the effect of the additional cash running through our cash flow.

So it was his beginning cash?

Yes.

Budd, we had two dealers in Toronto. One was a VIE, one was not.

Correct.

The previous gentleman that operated the store as a VIE has left. The two operations became one, and the business that was not a VIE is now as the combined entity.

And now a consolidated VIE.

Yes, that's correct.

Are there any more VIEs or one of your VIEs took over some other stores?

yes, in that market, correct.

How many total VIEs do you have?

Still the same four.

Okay.

Now did I make you forget your question?

No, I didn't forget my question, but, boy, that is not the most easiest explanation for the small amount of money.

That's correct. All right, on the tax. The tax -- the way it works on the trade names, as the good will is normally not deductible for tax purposes, the accounting standards require us to put a deferred tax liability and we booked the trade names so we had deferred tax liability because the trade names were on our books. When we wrote the trade names off we had to take the benefit of those off our deferred tax liability and show them in our P&L. So that is the bulk of that benefit recorded in this quarter. Mainly related to the trade names and the way we reported some of the goodwill is some of that. That $4 million benefit mainly due to the intangible asset write-offs.

So that's not a continuing thing? We are not going to see, quote, unquote, a clean quarter in the fourth quarter, the only tax issues will be essentially state tax issues.

That is my hypothesis right now unless something else changes that I am not aware specify.

Okay. Finally, defend for me a little bit, if you would, the idea of taking the higher allowance out of the operating loss number.

Here is what that was trying to do. And that's why we put selected items in there. We are trying to show the large noncash changes over last year so that others, like yourself, could understand what the components were in there and if you decided not to put them in your analysis I had no issue with that, but such a significant increase in last year in comparing, that we just wanted to illustrate that in the numbers.

Can you quantify the number of dealers that might have been impacted on that?

You know, there are several. We tried to quantify the markets that were causing the largest problem.

Okay. Because, in the past, you would have taken operating income from those sales of those items to those dealers.

You are correct. But we tried to give come quantification, how large it was this time not trying to say it was an unusual item or one time. That is not my intent.

Gotcha. I appreciate that. I thank you for the quantification and I thank you for the disclosure, all right.

(Operator Instructions) Thank you, there are no further questions at this time. I would like to turn the call back over to management for closing comments.

Thank you, everyone for participating on our call this morning. Should you have follow-up questions, please give me a call. I will be available today. Bye-bye.

Thank you.