RH (RH) 2004 Q1 法說會逐字稿

I will now turn the program over to your moderator, Pat McKay. Go ahead please.

Thank you. Good afternoon everyone, and welcome to Restoration Hardware's first quarter 2004 earnings release conference call. My name is Pat McKay, the Company's Chief Financial Officer. I would like to remind you that the call is being recorded and will be available for replay via webcast on our site at www.restorationhardware.com under Company Information Investor Relations Event Calendar. Leading our call today is Gary Friedman, the Company's President and Chief Executive Officer. At the end of our remarks we will open up the college to questions.

Before we begin let me read our brief statement regarding forward-looking comments. Certain statements and information on this call will constitute forward-looking statements within the meaning of the federal Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve both known and unknown risks, which may cause the actual results or performance to be materially different. These statements will include without limitations financial guidance and statements related to the implications of the Company's first quarter 2004 results and on periods thereafter, and statements regarding management's opinion and expectations regarding the business. Important factors that could cause differences are contained in the Company's filings with the Securities and Exchange Commission. And now let me turn the call over to Gary.

Good afternoon. I will begin today's call by commenting on our results this past quarter, giving you an overview of our progress as it relates to the repositioning the Restoration Hardware brand, a review of few of the key initiatives the Company is focused on for 2004. And then I'll turn the call back to Pat for a detailed financial review of the quarter.

We are pleased to report strong topline performance in both our retail indirect channels. Total Company revenues were up 21 percent over last year despite the fact that we operated two less stores than a year ago. Comparable store sales increased 9 percent versus an 11.9 percent increase last year. The Company's comparable store sales have out performed its home furnishings peer group over a two year period in every quarter, excluding the fourth quarter, since we launched the first phase of our remerchandising strategy in April of 2002.

Included in that peer group are Williams Sonoma, Pottery Barn, Cost Plus, Pier 1, Linens and Things, Bed, Bath and Beyond, Home Depot, Lowe's and Ethan Allen. This clearly reflects the customer's growing response to our efforts in building predictable core businesses that position Restoration Hardware as the destination for high-quality hardware, bathware, furniture, lighting, textiles and accessories.

Our direct business grew 94 percent in the quarter on top of the 72 percent increase in the first quarter a year ago, significantly outpacing anyone in our competitive set. Our Catalog business is up 72 percent and our Web business increased 132 percent in the quarter. We were able to increase catalog circulation and page count while significantly improving earnings performance in our Direct Division. On a fully allocated basis, our Direct Division was profitable in the first quarter. This is a strategically important development which I will comment later on in this call.

We were able to reduce our loss per share in the quarter to 12 cents versus a loss of 17 cents last year. This was done despite investments made to improve our process and leadership in our supply chain and distribution network.

Now let me comment on our progress as it relates to the repositioning of the Restoration Hardware brand. The challenges we faced were -- in repositioning this business were insufficient sales volumes in our retail stores to leverage our fixed expense base, and low merchandise margins due to poorly balanced product mix and a small percentage of products being directly sourced offshore.

The strategy we put in place included, one, building dominant and predictable core businesses which included hardware, bathware, furniture, lighting, textiles and accessories. Two, balancing our low margin high distribution cost furniture business with a high margin low distribution cost premium textile business, thus creating an improved overall product margin mix. Three, growing our direct product sourcing from 15 percent of our business to 50 to 60 percent, enabling us to improve merchandise margins and deliver significant value to our customers. And four, aggressively and profitably growing our direct business, increasing our circulation in store areas to create awareness of the Restoration Hardware brand and drive store traffic, enabling us to leverage our fixed expense base.

Thus far we have more than doubled our bathware business, increased our textile business from 4 percent to over 20 percent of our business, improved our average store sales volume from 3.1 million per store in 2001 and trending to be in the range of 3.7 to 3.8 million per store in 2004. We have increased our direct product sourcing from 15 percent to an excess of (indiscernible) percent of our business this year.

And five, we have demonstrated that we can exponentially grow our direct business and profitably increase circulation in our store areas. As I mentioned earlier, this is one of the most important strategic developments as we are now building a highly profitable direct channel that creates strategic alternatives to the Company, whether it be continuing to aggressively increase catalog circulation and growing this profitable channel by simultaneously driving increased floor traffic, improving store level profitability to the possibility of growing our direct business through category expansion.

This fall we will complete the remerchandising transformation of the Restoration Hardware brand. The final phase of our remerchandising effort includes furniture and accessories. This fall you will see significant newness across all categories of furniture, including bedrooms, dining, occasional and upholstery. Approximately 65 percent of the furniture assortment will be new versus a year ago. We believe the fresh look of our furniture will create a dramatic perception of change and freshness in our stores, catalogs and online.

We have also reengineered our entire accessories catalog. So you will see approximately 70 percent newness in this category this fall. We have created a compelling and stylistically unique assortment that will synergize with the premium positioning of our other categories. All of this, combined with the continued refining of our efforts in hardware, bathware, lighting and textiles, completes the merchandising overhaul of the brand.

As I previously communicated, we plan to launch a completely redesigned catalog this fall. Our objectives in redesigning the catalog include, one, clearly communicating our authority and the quality differentiation inherent in our new strategy. Two, projecting category dominance in our core businesses. And three, creating a style guide for our customers. We believe there's a tremendous opportunity to present our product in a more aspirational manner, with styling and presentation that inspires our customers to buy the complete Restoration Hardware look for their homes. As well, we have simultaneously been updating the design presentation and functionality of our Web site to achieve the same objective.

Let me also comment on two of our key initiatives for 2004. One, first is to deliver strong holiday results. As I have said before, we believe the disappointment of our holiday performance was directly related to our efforts being focused on building the core businesses that would position Restoration Hardware as a brand that withstands the test of time.

That effort, combined with aggressively editing the over assortment in discovery items, led to less than impressive fourth quarter results as our core hardware, bath hardware, textiles, lighting -- and lighting businesses do not have the seasonal ramp in the important gift giving period. This is why we have added significant resources and focus to the accessories and gift giving categories this year, and believe we have built a compelling holiday assortment.

We have doubled the resources in this area, and have quadrupled management's time invested in product development, merchandising and marketing efforts versus a year ago. Second, we're making the necessary changes in investments to ensure our distribution and supply chain operations enable us to deliver our desired performance this year.

I previously communicated that the Company had hired a supply chain and logistics consultant to lead the process improvement efforts in our distribution centers and home delivery network. We're also in the final stages of discussions, and plan to announce the appointment of a Senior Vice President of our Supply Chain Operations in the near future. Now let me turn the call over -- back to Pat.

Thanks, Gary. First, I will take you through our financial performance for the first quarter of 2004, and then I will provide guidance with respect to our expectations for the second quarter and the current fiscal year. At the end I will open the call up for questions.

First quarter net revenue was up 21 percent to $98.9 million versus 81.8 million in the first quarter of last year. Comparable store sales for the quarter were up 9 percent on top of an 11.9 percent increase in the first quarter of fiscal 2003 as customers continue to respond positively to our core businesses in the quarter.

As we have previously disclosed in prior quarters, we had been experiencing higher than normal levels of unfilled customer demand, which included back order, special orders and the like. We estimate that during the first quarter the effect of the normalization of this unfilled customer demand positively impacted our comp store sales by 1.5 to 2 percent.

In the direct channels, which includes sales from both the catalog and Internet, revenue was up 94 percent to $21.9 million, on top of a -- excuse me -- a 72 percent increase in last year's first quarter. Catalog revenue grew 72 percent in the quarter to $12.5 million, and Internet sales grew 132 percent to 9.4 million for the first quarter.

Catalog circulation for the first quarter grew 25 percent to 8 million books, with pages circulated up 69 percent. Our catalog continues to be a growth catalyst for our direct channel, and also provides significant product and overall brand exposure in our retail trade areas.

Gross profit for the quarter grew 37 percent to $27.4 million from 19.9 million in the first quarter of the prior year. This was the result of increased revenue coupled with a 330 basis point improvement in gross margin, expressed as a percentage of revenue to 27.7 percent from 24.4 percent in the same period last year.

The improvement in the gross margin rate is attributable to leverage achieved on store occupancy expenses, on the higher sales levels, and the expansion of product margins, which benefits were somewhat offset by higher levels of customer shipping and distribution costs.

Selling, general and administrative expenses were $33.5 million in the first quarter of 2004 or 33.9 percent of net revenues compared with 28 million or 34.3 percent in the prior year's first quarter. During the quarter we were able to achieve expense leverage on higher sales, as well as reduce store payroll and supply costs through specific cost reduction efforts and the implementation of tools to facilitate payroll spend management.

As expected, we also incurred higher cost of advertising, including the cost of catalog circulated to Web marketing, costs incurred related to the improvements in customer order and delivery processes, and professional fees associated with the implementation requirements of Sarbanes-Oxley Act, particularly Section 404.

Our operating loss for the quarter improved to $6.1 million as compared to $8.1 million in the prior year. Our net loss for the first quarter of fiscal 2004 improved to 4 million or 12 cents per share from 5.2 million or 17 cents per share in the prior year's first quarter using a weighted average count of 32.8 million shares.

Our line of credit was $34.4 million, up seasonally from the 10.3 million at last year end, and up from prior year's first quarter of 27.3 million. The increase in borrowing levels reflect the increase in inventories, up 14.9 million or 14 percent from year end, and up 17.8 million or 18 percent from the first quarter in the prior year. The increase in inventory levels has been in support of our continuing sales growth.

Capital expenditures for the first quarter were 1.3 million. Depreciation and amortization expense for the first quarter of fiscal 2004 was $4.1 million, with depreciation representing 3.9 million of that amount.

During the quarter we closed one under performing store in Mississippi with minimal cash flow, margin and income statement effect. We also temporarily closed one store for expansion and remodeling. Common shares outstanding were 32.8 million at the end of the quarter. We finished the quarter with 8,600 shares of preferred stock outstanding which is convertible into approximately 4.3 million shares of common stock.

Turning now to guidance for the second quarter and the year. First, we reconfirmed prior full year guidance previously provided. Second, we expect comparable store sales for the second quarter to be in the range of low to mid single digits on top of a 9.9 percent increase in the prior year's second quarter. Third, we expect to see second quarter direct-to-customer revenue increase 60 to 70 percent on top of a 46 percent increase in the same quarter last year.

We expect our net loss for the quarter to be in the range of 6 to 7 cents per share versus a loss of 9 cents per share in the prior year's second quarter on a share count in the current year of 32.9 million shares. Now I will open the call up to questions. Operator?

(OPERATOR INSTRUCTIONS). Lauri Brunner.

It's Lauri Brunner from Craig Hallum. Nice work, Gary and Pat. A couple of questions. Gary, you mentioned so many things. You are so busy. But I guess one of my questions is what is the project that you don't have time to tackle this year that you're going to tackle next year?

What's the project we're going to tackle next year that we don't have time to tackle this year? That is an interesting question. Probably if you look at -- from a merchandising and marketing effort the one area that we have time to put on the back burner until the following year is the tabletop category. And we will be looking -- we're looking at that effort. We will be looking at it later in the third and fourth quarter. And as we communicated before, we have hired a Director of Tabletop Product Development. She's has been working -- mostly focused on the holiday assortment, gift giving type tabletops, dessert plates, etc. And you know we may or may not look at expanding our launch into a full tabletop business in the later part of '05 or the earlier part of '06.

Okay, great. And then I think you mentioned also, Gary, some investment in the supply chain. Could you give us a little more detail on that, or Pat?

Sure. We had brought in an outside consultant to lead our efforts to improve processes in our current facility in Baltimore and on our West Coast in Trinity (ph), California. And we have kind of made some significant changes there in leadership and management and process improvement. And we're doing everything we can to make sure that we're prepared for this fall and holiday season. And we're also, as I mentioned, in some final discussions with some Senior Vice President candidates for our supply chain on a permanent basis. And so there's been a lot of effort and a lot of focus by the Company in that area.

Okay, great. And then last question. With regard to the furniture launch coming up, can you tell us what month you're targeting, and how will that coincide with the catalog? And then in the stores I think, Gary, you mentioned four different kind of subcategories. Is this furniture launch in stages or do we see it all at once in the stores? Thanks.

You'll see all at once in August. The first week of August the stores will be set up in the new fall set. We will mail the catalog in the first week of August, and you'll see the web site presenting all the new products.

Bud Bugatch of Raymond James.

This is Rex on Bud's behalf today. A couple of quick questions. First of all I was interrupted a few minutes ago and I did not hear your discussion of tabletop and where that initiative stands. I know you have discussed getting that done this year, and now it has been put off. Can you give me a review where you stand with the tabletop initiative?

Sure we can. We had mentioned previously that we thought that 2004 might be a year that we would enter the tabletop category based on our holiday performance. We put that initiative off until at least '05 to focus our efforts on the accessories and gift giving portion of our business for '04.

In the meantime though the person we hired to develop the category is hard at work in that effort. Most of her efforts, as I mentioned, are focused on the gift giving portion of that business for this year's third and fourth quarters. And we may entertain, depending on our performance in the third and fourth quarter this year, possibly expanding into a broader tabletop business in late '05 or early '06.

Okay. So you may have some tabletop as gift items in the fourth quarter? Is that still part of the plan?

We will, yes. And we have traditionally had some of that, and so you will seem an expanded gift focus in the tabletop category.

Okay. I wanted to look at gross margin, and your gross margin improvement was pretty impressive. Can you give me any sense of how much of that was leveraged on the store cost and how much of it was merchandise margin?

Probably two-thirds of the improvement was leveraged on the store margins.

Okay.

With the remaining contribution coming from the product margins.

Okay. Is there still significant room in the product margin area?

We believe there is significant room in the product margin area. We're just starting to kind of, I think, see the rewards of our efforts to build a vertically integrated merchandising organization. And our sourcing team here we started to now more seriously invest into our sourcing area and product development areas. And you are going to go see our foreign content expand greatly this year. And there's just a big internal focus in the Company on merchandise market improvement.

Okay. Can you give me a sense of how many basis points -- you know, is that something you talk about at this point?

Over the long-term we think there are significant opportunities.

Okay.

Several hundred basis points.

I think that as we look at this year I think, Ron, Q1 is pretty representative of the opportunities.

Okay. And finally, you mentioned that filling the backlog was what 150 basis points of your comp? Is there any left of that? Is there any more backlog left?

No. I think we have pretty much gone down to normalized levels.

Mike Napolitana from JMP Securities.

I have got a question with respect to your inventory going forward. I think the inventory build is related to maybe some of the demand you're anticipating on the catalog and Internet. Just kind of get some parameters on what you would like to see that roll out over the next couple of quarters?

Mike, we're managing the inventory -- trying to manage and moderate the inventory to our sales levels, so we're reacting to kind of the over performance in the business right now, and make sure we can continue to fill the demand that is happening in both our retail and direct channels.

With respect to the catalog and Internet, can you provide the breakout of revenues between those two?

Yes, let me get that for you.

Then while she's looking for that, Gary, what is the plan for 2Q as far as catalog drops versus a year ago?

It is the same number of drops in the quarter. You'll see circulation in total will be up about 30 percent over last year. Page count will be up about 29 percent over last year.

Okay, and then the revenue breakdown for the quarter was -- on the catalog side was $4.4 million, and the Web was 9.4 for total of the 21.9 in the quarter.

Great. And then, Pat, could you give -- did you give the number for Capex?

1.3 million.

It was 1.3. Great. Thanks. Great quarter.

Kevin Full of Next Generation.

Let me add my congratulations on a great quarter. You guys bucked the trend of the overall midtier home sector this quarter. I kind of want to get a feel for the comp trends by month. I noticed on the midtier guys they kind of saw their sales fall off after Mother's Day. Did you see any deterioration at all?

We saw some deterioration in the later part of the quarter, but not significant. We had stronger trends early in February and in early March.

Okay, and I know you guys -- your furniture line was favorably mentioned on the Oprah Winfrey show. And did you see a benefit from that in the quarter as well?

That is always helpful.

That's what we thought. In terms of you -- just to go back on to the supply chain, and for the fourth quarter what is your confidence level that we're not going to see the backlog issues again? And you know what the new Senior Supply Chain Manager coming on in the next month potentially, does she have enough time to -- does he or she have enough time to affect change in your opinion?

One, I think they will have enough time to affect change, but the change is being affected as we speak. We have brought in a gentleman early in the year that is a supply chain consultant who is very deep in supply chain. He used to be the Senior Vice President of Global Supply Chain Operations for Compaq Computer. You know for years on that, a $1.8 billion budget there. And he has -- he is kind of the intern senior executive overseeing the supply chain. He is working hard on process improvement within our two centers. He is orchestrating management upgrades throughout this, specially focused on the East Coast -- you know, Baltimore Center where we had the majority of our problems, and is helping to coordination with our home delivery effort process improvement and improve management as our third party furniture delivery provider.

Okay. And one final quick question. On the SG&A, the dollars came in a little bit heavier than I was modeling in the first quarter. What are your thoughts for the second quarter and maybe the full year in terms of the dollar? Do you see a significant -- just so I can run the leverage through my model?

Yes, Kevin, we really haven't provided that detailed level of guidance. We provided, as you know, operating margin guidance for the --

For the full year.

For the full year. So --.

(OPERATOR INSTRUCTIONS). Chris Krueger at MJSK.

It looks like you're off to a great start for the year.

Thank you very much.

Most of my questions have answered, but I guess one quick one is your store base growth, is that still expected to stay at about 100 to 103 stores quarter after quarter for the next few quarters?

Let's see -- we just closed store for remodeling and expansion that will reopen I think in the third quarter. We will also have a new store opening in Southern California in Southwest Plaza in the d quarter. And then --.

One more closure.

And we're closing one more store in June. So we will be in that same range.

Okay, I am looking forward to next year. Is it too early to tell where that might go?

Yes, it is a little too early.

Okay. What is your answer when you get the question about interest rates increasing or the potential for rate increases, and how that affects your customer?

I wish we had a crystal ball, but we don't know, so we're just staying focused on the things we can affect and trying to make sure we merchandise and market our business well, improve our service in our stores and catalogs and web site operations, and make the improvements in our supply chain. And we think there's plenty of upside opportunity in our business. And there's not a lot we can do about interest rates, so we don't focus on it.

Great quarter. Thanks.

Rob Wilson of Tiburon Research.

Yes, Gary, could you talk about what you have done maybe over the last year on trade area versus non-store trade area, catalog circulation and maybe how that may or may not change this year?

Let me think about that one, what we have done differently. I think, as we said early on in our strategy, Rob, that our strategy was to position the book with a portion of the book being catalog only so we can improve the response rates in our store areas. We're currently tracking around 30 to 35 percent catalog only. That has dramatically improved response rates in our store areas. That has given us the ability to circulate more books in more trade areas. And you will see that trends continue.

If you look at our demographic and you look in our core customers they -- the biggest population of those core customers live in those store trade areas. The ability to merchandise the book appropriately and mail into those areas, not only will help the retail stores, but it is where the richest population is as it relates to the ability to kind of mine your business for your direct channel also.

Now that 30 to 35 percent compares to last year might have been maybe half of that? Is that a fair assessment?

Yes, probably 15 to 20 percent, Rob.

And do you see that increasing or this sort of levels off?

I think long-term I think you can see it increasing into the 40 to 45 percent levels. One of the positives about this direct business, if you run it well, and one of the advantages you have a pretty dynamic model to expand categories as they perform. In a store, for example, if we had an exploding bedroom business, bedroom furniture and bedroom textiles, well we can't easily expand square footage. We would have to knock out other categories to expand those categories. In a catalog business, if you have got categories that you're hitting right on you can add pages and expand the category, and you can expand it until you see declining response. And then you can contract it just as easily if you over expand it.

So the dynamic of having a productive catalog and direct channel gives you a lot of flexibility in the business. And it also starts to let you foresee the future and the opportunities in your retail business without taking too much risk in capital of expanding categories without knowing how they might perform and how your core customer base might respond.

Thanks for that explanation. And, Pat, one more, the tax rate is that now 39?

Yes, it is.

Kevin Full of Next Generation.

Just to follow up on the non-core product, you mentioned the core products have very strong results in the quarter. Where there any categories that you weren't that pleased with?

Our accessories category is still in transition. We were disappointed obviously in our fourth quarter of last year with that category. And we're in the process of transitioning. And several components of that business -- when you look at the components of that business you're looking at picture frames, candlelight, vases, garden elements, etc., the garden portion of that business, as well as our discovery items. So a lot of that business is kind of in flux, in transition as we prepare to bring in almost an entirely new assortment for the third quarter. And so we did have under performance in that area.

Okay. I am kind of surprised on the garden portion. I thought with the weather trends it might have seen -- it kind of warmed up a little earlier than expected, at least in the Midwest. It might have helped out, but -- and then on the DC costs that kind of hit the first quarter gross margin, was a portion of that from the higher air ships from the backlog from the fourth quarter? And are we going to see that continue to go forward?

I think in part we had some -- because some of those comps were incremental furniture larger sales, if you well, they are a little bit higher as a consequences of that. But they were just incrementally a little bit higher distribution and shipping costs just as we continue to work on that area and get more normalized for the long haul. So one of the reasons why obviously we're bringing in a Senior VP of Supply Chain is to enable us to moderate those costs.

Okay. And can you comment on trends after the end of the month and of the quarter?

Well, I think we've got some work to do there. So that will be something that will be kind of a longer-term effort for us.

Okay, and then sales, can you comment on sales trends after the quarter, so far this quarter?

We provided guidance for Q2, so that would be the direction I would head you to.

There are no further questions at this time. I will turn it back over to management for closing comments.

Great. Okay, everyone, thank you for your time in listening to our conference call today, and we will talk to you next quarter.

That does conclude today's teleconference. You may disconnect at this time, and have a good day.