Sally Beauty Holdings Inc (SBH) 2010 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Sally Beauty Holdings Second Quarter Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. (Operator instructions).

I would now like to turn the conference over to your host, Karen Fugate, Vice President of Investor Relations. Please go ahead.

Thank you. Before we begin, I would like to remind you that certain comments, including comments on matters such as forecasted financial information, contracts or business and trend information made during this call may contain forward-looking statements within the meaning of Section 21-E of the Securities Exchange Act of 1934.

Many of these forward-looking statements can be identified by the use of words such as may, will, should, expect, anticipate, estimate, assume, continue, project, plan, believe, and similar words or phrases. These matters are subject to a number of factors that could cause actual results to differ materially from expectations. Those factors are described in Sally Beauty Holdings' SEC filings, including its most recent annual report on Form 10-K for the fiscal year ended September 30th, 2009.

The Company does not undertake any obligation to publicly update or revise its forward-looking statements. The Company has provided a detailed explanation and reconciliation of its adjusting items and non-GAAP financial measures in its earnings press release and on its website.

With me on the call today are Gary Winterhalter, President and Chief Executive Officer, and Mark Flaherty, Senior Vice President and Chief Financial Officer.

Now, I would like to turn the call over to Gary.

Thank you, Karen, and good morning, everyone. Thank you for joining us for our fiscal second quarter earnings call. I will begin today's discussion with a high-level review of our results followed by an overview of our business initiatives. Mark will then take you through the fiscal 2010 second quarter results in more detail.

As you saw from our press release this morning, we had an exceptional quarter and strong year-to-date results across the business. For the fiscal 2010 second quarter, we reported consolidated same-store sales growth of 4.8%, representing strong growth over positive comps of 2.1% in the second quarter of last year. Net sales grew 12.3% with gross profit margin expansion of 70 basis points. On a year-to-date basis, consolidated same-store sales grew 4.3% with net sales growth of 10.7%, and gross profit margin expansion of 40 basis points.

Net earnings growth over our 2009 second quarter GAAP and adjusted net earnings were 40.5% and 48.5% respectively. On a year-to-date basis, net earnings growth over prior year's GAAP and adjusted net earnings were 49.3% and 44.1% respectively.

Quarter-end store count was 3,953, an increase of 146 stores or 3.8% over last year's second quarter.

Turning to highlights for the business segments. For the second quarter, the Sally segment reported same-store sales growth of 4.3% compared to 2% growth in the second quarter last year. Net sales were $453.6 million, growth of 10%. Sales performance was positively impacted by growth in store transactions and our higher average sale.

Gross margin was up 100 basis points, primarily due to a shift in product and customer mix. Contributing to this mix shift was the success of our CRM program. Our investment in this campaign continues to post positive ROI results in the mid-teens and we expect to further our efforts in light of this success.

Operating earnings at the Sally segment improved by 13%, primarily due to growth in sales and gross margin. The Sally US business launched several new hair care products during the quarter. The customer response to these new products has been extremely positive and we expect to launch additional new products in the second half of the year.

The Sally UK business continues to improve. In the second quarter, they grew sales and expanded gross profit margins. If you recall, one of the Sally UK improvement initiatives including retrofitting the UK stores in an effort to attract more retail customers. We are pleased with the results. Stores which have been completed are realizing average sales improvement of greater than 10%. We expect to have the majority of the UK stores retrofitted by the end of fiscal 2011.

Our Inter Salon business based in Santiago, Chile, opened two new stores this quarter, bringing their total store count to 18. The earthquake last February briefly interrupted operations. But within days of the quake, the majority of the stores were opened for business. By mid March, all stores were operational and exceeded our original expectations for the quarter.

Now turning to BSG, BSG performed very well this quarter with same-store sales growth of 6.1% compared to growth of 2.3% in the second quarter last year. Net sales grew 16.4% to reach $266.8 million. Approximately 9% of this sales growth is due to acquisitions. In addition, growth in store traffic and stronger performance in the consulting business also contributed to strong results.

Gross margin for BSG was up 60 basis points over last year. Gross margin performance is due to favorable customer mix and positive product mix resulting from targeted marketing initiatives. During the quarter, BSG acquired the distribution rights for Paul Mitchell products in Southern Florida. This acquisition further strengthens our position in the South Florida region.

The BSG segment ended the second quarter with 1,007 stores, including 159 franchise locations for a year-over-year increase of 8% or 73 stores. The number of sales consultants totaled just over 1100 in the quarter.

In conclusion, we had an exceptional quarter and strong year-to-date results. We believe the key drivers of our performance will continue to boost our momentum as we head into the second half of the year.

Now, Mark will provide more financial detail for the second quarter. Mark?

Thanks, Gary. Consolidated net sales for the 2010 second quarter were $720.5 million, a 12.3% increase. This increase was driven by same-store sales growth of 4.8%, growth from acquisitions of 5.1%, and a positive impact of foreign currency exchange of 1.8% of sales. Consolidated gross profit was $344.3 million or 47.8% of sales, a 70 basis point improvement from the fiscal 2009 second quarter.

Second quarter SG&A expenses including unallocated corporate overhead costs and shared based compensation were $247.5 million or 34.4% of sales, a 40 basis point increase from the year ago quarter. This increase was partially due to additional rent, occupancy and payroll expenses associated with the opening of new stores and acquisitions.

Unallocated corporate expenses including share based compensation were up $1.9 million or $18.8 million [sic]. This increase is partially due to higher share based compensation driven by a higher share price and as anticipated higher payroll related cost and IT expenses from international expansion.

As a reminder, in the first half of fiscal 2009, we deferred certain costs including merit increases and some variable expenses related to benefits and payroll as well as new hires. We reintroduced these programs as our business continued to perform during the economic crisis. Our guidance for the fiscal 2010 year for unallocated corporate expenses including share based compensation is in the range of $85 million to $90 million.

Consolidated operating earnings ended the quarter up 16.8% to reach $84.4 million. Operating earnings as a percentage of sales increased 40 basis points to 11.7%. This increase is primarily due to higher gross margins in both business segments.

Interest expense net of interest income for the second quarter was $28.4 million. Interest expense declined $3.6 million over last year's quarter primarily due to lower rates on our term loan facility.

If you recall, our interest rate swap agreements with a notional value of $350 million did not qualify for hedge accounting and expired last November. Therefore, beginning in the fiscal 2010 second quarter, we are no longer required to adjust net interest for the changes in the fair value of the swaps. However, on a year-over-year comparison basis, we will continue to report current net earnings and earnings per share results versus the prior year GAAP and adjusted results.

Income taxes were $21.4 million with an effective tax rate of 38.2% for the fiscal 2010 second quarter. For the 2010 fiscal year, we now expect the effective tax rate to be approximately 38% versus previous expectations of approximately 39%.

Our net earnings for the fiscal 2010 second quarter were $34.6 million with earnings per share of $0.19. Net earnings growth over the fiscal 2009 second quarter GAAP and adjusted net earnings were 40.5% and 48.5% respectively.

Adjusted EBITDA for the second quarter was $99.2 million, an increase of 16.3% compared to the $85.3 million in the prior year quarter. This increase is primarily due to higher gross margin and segment operating earnings.

And turning to the business segment starting with Sally Beauty, same-store sales for Sally Beauty grew 4.3%. Net sales reached $453.6 million, a growth of 10%. The sales growth was driven by same-store sales, new store openings, currency impact and recent acquisitions.

Gross profit for the quarter was $240.9 million or growth of 12.2% over the year-ago quarter with a gross margin of 53.1%, 100 basis point improvement. Gross margin was positively impacted by a shift in product and customer mix and improved performance in the UK business.

The Sally segment reported second quarter operating earnings of $79.5 million. Operating margins were 17.5% of sales, up 40 basis points from the fiscal 2009 second quarter.

Turning to the BSG business, during the second quarter, our BSG segment grew same-store sales by 6.1%. Net sales were $266.8 million, a growth of 16.4% over the prior year's quarter. Sales growth is primarily attributed to recent acquisitions, new store openings, and growth in same-store sales.

Gross profit for BSG in the second quarter increased 18.3% to $103.3 million with a gross margin of 38.7%, 60 basis points higher than the prior year's quarter. Segment operating earnings for BSG in the second quarter increased 27.8% year-over-year to $26 million.

Operating margins at BSG improved 90 basis points to reach 9.8%. This margin improvement is the result of cost reduction initiatives, improved gross margin and savings from the warehouse optimization initiative.

In looking at our balance sheet for the fiscal 2010 second quarter, cash and cash equivalents at March 31st, 2010 were $37.4 million. Inventories increased $19.3 million from September 30th, 2009, and included additional inventories from acquisitions and new store openings.

Capital expenditures year-to-date totaled $23.2 million. For the fiscal year 2010, we continue to expect capital expenditures to be in the range of $45 million to $50 million.

We ended the quarter with a zero outstanding balance on our ABL facility and approximately $336 million of borrowing capacity. Our debt at the end of the quarter, excluding capital leases, totaled approximately $1.6 billion. During the quarter, we paid down $50 million of our long-term debt, which includes a mandatory repayment on the senior term loan facility in the amount of $22.3 million.

As stated in previous earnings calls, we are very comfortable with our existing debt facility and are in an enviable position of not needing to do anything with our debt at this time. However, we have initiated discussions with our ABL lenders regarding the renewal of our facility, and we'll continue to proactively consider our refinancing options and the conditions of the debt market. There is nothing more specific I can tell you now and we will let you know more about our thoughts in the months ahead.

Now I'll turn it back over to Gary.

Thank you, Mark. In summary, we had a great quarter. And year-to-date, our performance is strong. For the second quarter, we posted 4.8% growth in same-store sales, expanded gross margin by 70 basis points, and grew GAAP net earnings over 40%.

On a year-to-date basis, consolidated same-store sales grew 4.3% with net sales growth of 10.7% and gross profit margin expansion of 40 basis points. We believe our momentum will continue as we head into the second half of the year.

We will now turn it over to the operator to take your questions.

(Operator Instructions). And our first question is from the line of Grant Jordan with Wells Fargo. Please go ahead.

Good morning. My first question is, maybe you can just give us an update on the rollout of your CRM project and how many more markets we should see this year?

Good morning, Grant. This is Gary. What we are doing with the CRM program now because it's really been successful for us, instead of adding individual markets one at a time, we are adding deciles of the program. Meaning that instead of going into a new market, we are going to go into all markets, but start with the higher deciles, which based on our experience so far should even give us stronger results with the program. And, then as we finish the top decile, we will go into the second decile, and so forth.

So kind of in terms of percentage complete as to where you want to be, where would you say you are right now?

We are probably less than 25%. But keep in mind that as population trends change and as our information on the deciles of the customers that are duty club card customers and the ones that we pair up against those that are not changed that can be a fluid number going forward.

Okay, thank you, that's helpful. My second question, if you could update us on any thoughts on additional expansion in the Latin American markets?

Yes, as we said when we went into Chile, Grant, we want to learn that market really well by expanding in Chile. We are expecting to open more stores in Chile at this fiscal year. And I think after we feel comfortable there, we fully intend to look at a couple of the other countries in that market. We are very pleased with that business so far.

Okay, great. Thank you.

Our next question is from the line of Emily Shanks with Barclays Capital. Please go ahead.

Good morning. I was hoping you can give us a little color around what the acquisition pipeline looks for you all and how multiples have been trending?

What was the second part of the question, Emily?

Sorry, just how multiples have been trending?

Well, the acquisition pipeline is probably no different than it normally is. We are always looking at acquisitions. There is nothing eminent right now. As you saw in our press release, we did add a small acquisition in South Florida to the BSG group this past quarter and we will continue to do so.

Multiples, as we have also said in the past, really vary on how we value the acquisition. It's a fold-in that's going to bring us a lot of synergy. We are willing to pay a little better multiple because the end result of that is very accretive for us. If it's an acquisition that's going to get us into a new market, we will also pay a different premium for that. Other than that, I think the multiples in the six or seven times EBITDA range have been close to what we've done over the years.

Great. And then, just looking forward for 2010 around working capital, this past year you guys had a nice source, you rolled up the new initiative, but I was just wondering how we should think about working capital this coming year?

This coming year being the current year '10?

Yes, yes.

Well, our working capital will improve slightly primarily because a lot of the acquisitions that we made, we have been able to reduce some inventory by eliminating some distribution centers. We also are on the tail-end of realizing the benefit of the warehouse optimization program in BSG last year, which also helped us from a working capital standpoint. But I wouldn't look for the inventory in particular to be as large of a reduction as it was last year. I believe that our inventory this year on -- sales increased at least through the first half of a little over 10% is closer to 7%, so we are turning the goods a little bit better.

Great, thank you, that's exactly what we are looking for. And then, my final question is just around the ABL maturity, thank you for your prepared remarks that you made around that. When should we expect you to address that maturity, is there a certain timeframe that you are targeting?

We haven't specifically given a timeline. Obviously as we talked about, it matures in November of 2011. So between now and then, we obviously have to do something. But we have not really given a specific guideline to that. We have just initiated some very meaningful conversations with our bank group and there is really not a whole lot of real clarity at this point to give you at this time.

Okay, thanks and good luck.

Thank you.

And our next question comes from the line of Mimi Noel with Sidoti & Company.

Hi, good morning.

Good morning, Mimi.

Couple of questions for clarification. In Sally, can you tell me whether any categories that showed particular strength?

The same ones that have been...

Okay.

The hair extension category continues to do quite well. We are seeing growth in the hair color category. I think most of our suppliers in the professional industry are seeing that as well. We are seeing a bit of a nice bounce back in electrical appliances, but it's pretty much consistent with what it has been.

You said for the bounce in electrical appliances, that is somewhat new is it not?

Not really.

Okay.

We saw that last quarter as well and I think what we are seeing is, pardon the pun, flat iron's flattening out a bit.

Okay.

Curling irons are gaining some strength.

Okay, okay. And then, again in clarification you mentioned in your prepared remarks favorable mix among your customers that would refer to more retail customers versus the skew against professionals, correct?

That's correct, Emily.

Okay. And then, is that a matter of the size of their ticket or actually foot traffic?

It's actually both and I believe that the foot traffic in particular is being driven by the Beauty Club Card and CRM Program.

Great, okay. And then, on the BSG side, somewhat related you're seeing the improved performance there. Do you think that's all tied to a recovery in the salon sector or is it more reflection of -- I guess, more earnest efforts by your direct sales force or, here, any sort of advertising you are doing for CosmoProf?

I would tell you at this point that I believe it's about 75% things that we are doing and share that we are gaining. I do think that the salon industry is coming back a bit but I think we are seeing it at least in BSG and in Sally, I think we are seeing that improvement in more blue printing and small salons as opposed to the higher end salons coming back real strong right now.

And our next question is from the line of Erika Maschmeyer with Robert W. Baird. Please go ahead.

Hi, great quarter.

Thanks, Erika.

In terms of the Sally comps, would you say that of the things that you are doing, CRM is the biggest comp driver?

Yes I would. I think that the Beauty Club Card Program, the CRM Program and the marketing efforts that Mike Spinozzi and his team are putting in place on the Sally side are really making a difference in our traffic. And I would like to point out too as we did in our press release that these comps were on top of positive comps last year in the quarter.

I think it's also important when looking at us comparing us to some of the companies we get compared too is the fact that our average age on our Sally stores is around 10 years and when you can show the kind of comps through the economic crisis and then the comps that we showed this past quarter with the store base that's getting that old, I think that's hell of an accomplishment.

It certainly is. And also with the CRM, have you already made this change and focusing on the highest decile stores or is that something that we'd expect to see in the coming quarters that could further support your comps there?

Yes, the latter is true. We are just in the process of going about that a little bit differently.

And our next question comes from the line of [Henry Kaplan] with Oppenheimer. Please go ahead.

Hello, thanks for taking my question. I guess the first question was that the comp growth was very strong for an almost 5%. I expected to see a little more operating leverage, SG&A was up 40 basis points as a percentage of sales, so I was wondering if you could tell us kind of what was going on there. Was there something that happened in the quarter that was somewhat of an anomaly or is that something that we should expect going forward?

No, we explained this and prepared everyone forward going into the year. We are making some investment in our CRM program, our Beauty Club Card Program.

Okay.

We have also made some investment in our international IT. We also are lapping a year where we held back on some pay increases not knowing what the economic crisis is going to be doing us in the first two quarters of last year, so those look a little -- on the payroll side, it looks a little high, because we are essentially putting two years of payroll increases at least in the first two quarters against that.

But I think you can see this continue this fiscal year and then next fiscal year we will I think be reaping a lot of the benefit of what we are doing this year and I fully expect to kind of our SG&A percentage of sales getting back in line with what it's historically done, which has not been growing in relation to or as fast as sales.

Okay, great. Is there any way that you could quantify the kind of the impact from the CRM versus the IT and the compensation issue that you mentioned?

No, we really haven't broken that out.

Okay. Is it mostly CRM though, is that fair to say?

No, there is a fair balance between payroll initiative in some of the IT expansion and then CRM.

Got you, got you. And then, in terms of traffic you talked about traffic improving, was that both the Sally and the BSG stores?

Yes, it was

Okay. And you didn't quantify that. Did you?

No, we didn't.

(Operator Instructions). Our next question comes from the line of Jill Caruthers of Johnson Rice. Please go ahead.

Good morning.

Hi, Jill.

Could you breakout your sales by how the percentage of your sales mix that a Beauty Club customer makes up or if she typically shops for more often is that helping as you connect more with the Beauty Club customer?

Yes, once a customer -- once a retail customer becomes a Beauty Club Card customer, they do shop more often and their average purchase is higher.

Have you given a percentage of sales that makes up your Beauty Club?

No we haven't.

Okay. And if you could talk about, you've seen some improvement on the Sally UK business. But, I know in 2009 I think it was just below break even, do you expect it to be break even to profitable this fiscal year?

Yes, we do.

Okay. And then, clearly you are not seeing the impact on the BSG side, but as L'Oreal continues to expand in the distribution center here in the US, how is that impacting the business and are you seeing any type of pricing pressures with that?

No, as far as impacting the business, I think BSG's results speak for that. But, no we are not seeing a lot of price impact there.

Keep in mind that majority of BSG's business is done with brands that we have exclusive rights to in particular geographies and as the L'Oreal brands become less and lesser percentage of the BSG business that actually helps our margin.

And we have a follow-up question from Erika Maschmeyer. Please go ahead.

Hi, thanks so much. In terms of -- could you remind us of what exactly you are doing in terms of the UK store retrofits?

Yes, we have some of our stores that are shifting to a professional-only format and these are stores that have always been located in industrial parks and the retail business we were doing there was insignificant and we've chosen to focus more on the professional in those stores and it also enables us to bring some brands in that we wouldn't be able to bring in if we had the retail consumer in there.

Now we are also taking some of our stores that are on what they refer to as the high street over there which is where the retail consumer is shopping and going in and kind of retrofitting those stores to be more conducive to the retail consumer, not only in the store appearance, but also in the product selection. This also involves issuing a new trade card to the professional customer, very much the same program that we've had here in the US and the UK has had, but they've never done much with that data from this card and we plan on utilizing the data in the same ways that BSG and Sally do to their professional customer.

Excellent. Thank you. And then, and you said the CRM expenses start to normalize at the end of this fiscal year. What proportion of these costs are in gross margin versus operating expenses?

We haven't really given that kind of guidance, but if you take basically the some of the contribution that we get for participation with some of our vendors as well as what we are spending on a gross basis it somewhat nets out overtime.

Okay. And then, how much did you realize from the warehouse optimization in Q2 and is that incremental benefit from that done now?

We realize about $500,000 this quarter. It's right around $2 million for the six months ended. We've given a range of about $2 million to $4 million for the year.

Okay. Great. Thanks so much.

Thank you.

And at this time, there are no other questions in queue. Please continue.

Thank you, operator. Again, we are pleased with our strong results in our second quarter and year-to-date. We intend to stay on course with our long-term objectives to invest in company growth via acquisitions and organic store openings while reducing our long-term debt. Thank you.

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