Tandy Leather Factory Inc (TLF) 2012 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Tandy Leather Factory third-quarter 2012 earnings conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions). As a reminder, today's conference is being recorded.

I would now like to introduce your host for today's conference call, Ms. Shannon Greene. You may begin, ma'am.

Thank you. Good afternoon and thank you for joining us for our third-quarter 2012 earnings conference call. I am Shannon Greene, Chief Financial Officer of Tandy Leather Factory, and I'm joined today by Jon Thompson, our Chief Executive Officer, and Mark Angus, our Senior Vice President.

Before we begin, I will call your attention to the fact that these conversations will contain forward-looking statements. To the extent we speak today of any future events or make other forward-looking statements, you are reminded of the inherent uncertainties of looking into the future that there are risks to Tandy Leather Factory that could prevent these events from occurring in the manner foreseen. Please see our Form 10-K for 2011 and subsequent Forms 10-Q for a discussion of some of these risks. Copies of these documents are available through the SEC's EDGAR system and from our investor relations office.

Also statements made today by us as management of Tandy Leather Factory are made as of this moment and we disclaim any duty to update those statements.

Our third quarter ended with mixed results. Sales were up. Gross profit margins were up. But earnings were down. As mentioned in the press release, we took a one-time charge to earnings of almost $1 million to settle a lawsuit and while it negatively impacted our third-quarter earnings, we still generated a profit for the quarter. Excluding that charge, our operating income would have been up 34% for the quarter instead of being down 47% and earnings would have been up 10% for the quarter instead of being down 66%.

Inventory remained unchanged this quarter at just under $30 million, up $10 million from year-end 2011. Cash was down $7.7 million primarily due to the inventory increase.

Now for the numbers from today's press release, our third-quarter consolidated sales increased 10%. Current quarter sales for $17 million compared to last year's third-quarter sales of $15.4 million. Wholesale Leathercraft sales were $6.2 million this quarter, up 2% from $6.1 million in the third quarter last year. The same stores posted a 9% sales increase reporting sales of $5.8 million compared to $5.4 million in the third quarter of 2011.

Our Natural Account Group posted a 47% sales decline reporting sales of $421,000 compared to $789,000 last year. Our Retail Leathercraft division reported sales of $9.9 million, a 14% increase over last year's third-quarter sales of $8.7 million. All stores are considered same-store in the third quarter, so same-store sales were up 14% as well.

Our International Leathercraft segment which consists of three stores located outside of North America, reported sales of $810,000 for the quarter compared to $491,000 in last year's third quarter, a gain of 65%. The same-store sales were virtually flat against the third quarter of 2011, reporting sales of $492,000 compared to the $491,000 last year. The two stores opened in October 2011 and January 2012 added quarterly sales of $318,000.

Consolidated gross profit margin for the quarter was 61.2%, improving from last year's third-quarter margin of 60.1%. Wholesale Leathercraft gross profit margins was 65.9% compared to 60.7% in the third quarter last year. Retail Leathercraft's gross profit margin was 58.8% compared to last year's third-quarter gross profit margin of 59.2%.

International Leathercraft gross profit margin for the third quarter was 55%, down from 66.5% last year. Consolidated operating expenses were $9.8 million or 57.4% of sales in the current quarter compared to $8 million or 52.1% of sales last year, an increase of $1.7 million or 22%. As mentioned earlier, $1 million of the increase is due to the legal settlement.

Wholesale Leathercraft reported operating expenses totaling 70.6% of its sales versus 55.9% last year. Retail Leathercraft reported operating expenses totaling 48.9% of its sales compared to 50% last year and International Leathercraft operating expenses for the quarter were 60.5% of its sales compared to 43.3% last year.

Income from operations was $645,000 for the third quarter, down 22% or $576,000 compared to the third quarter 2011 operating income.

On a year-to-date basis, consolidated sales increased 10%. 2012 sales were $52.1 million compared to 2011 sales of $47.2 million. Wholesale Leathercraft sales were $19.7 million this year, up 2% from last year's sales of $19.3 million. The increase is the result of a 6% same-store sales gain with sales this year of $18.2 million compared to $17.1 million last year, partially offset by a 35% sales decline for national accounts with sales this year of $1.4 million versus $2.2 million in 2011.

Our Retail Leathercraft division reported sales of $30.1 million, a 14% gain over last year's sales of $26.3 million. Sales from the one new store were $299,000 this year compared to $75,000 last year. The 76 comparable store posted sales of $29.8 million, an increase of 14% compared to last year's sales of $26.3 million.

Our International Leathercraft segment reported sales of $2.3 million so far this year compared to $1.5 million last year, an improvement of 51%. The same stores posted a 1% sales decline reporting sales of $1.5 million, $21,000 less than last year's sales. The two new stores added sales of $803,000 so far this year.

Consolidated gross profit margin for the year was 62.8%, an increase from 2011's gross profit margin of 60.6%. Wholesale Leathercraft gross profit margin improved from 65.6% last year -- try that again -- Wholesale Leathercraft gross profit margin improved to 65.6% this year compared to 60.9% last year.

Retail Leathercraft gross profit margin increased from 60.1% last year to 61% this year. International Leathercraft gross profit margin declined from 65.2% last year to 61.9% this year.

Consolidated operating expenses increased $3.3 million or 14.1% to $27 million or 51.9% of its sales in the current quarter compared to $23.7 million or 50.2% of last year's sales. Wholesale Leathercraft reported operating expenses totaling 55.3% of its sales compared to 52.1% last year. Retail Leathercraft reported operating expenses totaling 48.9% of its sales currently compared to 49.3% of sales last year and International Leathercraft reported operating expenses totaling 63.2% of its sales this year compared to 43.2% last year.

On a consolidated basis, the most significant operating expense increases were employees compensation, rent, and the one-time legal settlement charge. Income from operations of $5.7 million, up 16% compared to 2011.

Looking at the balance sheet, at September 30, 2012 compared to December 31, 2011, total assets and current assets are both up approximately $3 million. Cash is down $7 million to $3.5 million at the end of September. Inventory is up $10 million.

Current liabilities increased $2.4 million due to an increase in accounts payable and accrued expenses compared to the year-end 2011. We also borrowed $1 million against our new line of credit during the third quarter. Our current ratio is 3.9 EBITDA for the first three quarters of 2012 with $6.5 million. There are four Tandy Stores with operating losses as of the end of September. That loss totaled $66,000. All of the Leather Factory Stores are profitable as of September 30.

A few more things before we go to questions. As mentioned last quarter, we obtained a $4 million line of credit from our bank in July. We borrowed $1 million against it in the third quarter but expect to repay it in the fourth quarter.

Also as mentioned last quarter, we are in the process of constructing a 23,000 square foot building to house our flagship store. Total cost is a approximately $2.6 million and we have already spent $1.1 million toward that total so far. The construction is on schedule and is still expected to be completed in the first quarter of 2013.

Regarding the legal settlement charge, while we maintain that we properly paid all compensation owed to our store managers as required by state and federal wage hour laws, we also believe that the settlement is in the best interests of the Company, our employees, and our stockholders at this time. The amount expensed in the third quarter is the maximum amount that will be paid out to class members, attorneys and administrators in the matter.

It is possible that there will be a reversionary amount returned to the Company from the settlement fund once the fairness hearing is held in February 2013 but we do not believe it is possible at this time to estimate what that amount if any might be.

We are looking forward to a strong fourth quarter. October sales were solid as we reported an 11% sales gain over October 2011. As we've discussed in the past, our stores are well stocked and we expect that to continue to have a positive impact on sales.

That concludes our prepared remarks. Operator, we are now ready to take questions.

(Operator Instructions). [Jeff Bailey].

Good morning. Great quarter. It's nice to see that the lawsuit is behind the Company or I guess the settlement behind the Company. I'm wondering what the tax status is of that settlement payment?

As far as the tax effect to us?

Will it be deductible to the Company?

Yes.

Okay, at the standard tax rate?

Correct.

Okay, I'm wondering also if management will be willing to talk a little bit about the growth strategy, so the last few stores have been international stores. I am wondering is that because that you don't really see domestic opportunities for growth or is there something in the economy that is sort of preventing any domestic growth or can we expect growth from here on out to be international? What is the strategy as far as the store expansion?

Really the only reason we haven't grown nationally has been we really had a tough time trying to hire managers. I think we spoke a little bit of this in the past. Normally when we hire somebody, we require them to move and for some reason, whatever it is, whenever we mention that to potential employees, that seems to be a deal killer for about 99% of them. People want jobs, want to work, but they don't want to move.

So if we could hire more people, we would probably open more stores. We would love to open six a year if we could but right now it's been pretty slow. We just are getting ready to open one in Eugene, Oregon. We would open more stores and I think there's still quite a capacity for more stores in the East End and the West and Upper Northwest.

So it will just remain to be seen whether or not we can get enough managers. We are going to continue to work at that. We have been doing some shows at the junior colleges and we are going to do some shows at the colleges trying to recruit more managers. We just finished one here two, three weeks ago and again, like I said, we will just continue trying to recruit more people.

Internationally we do feel that long-term we do want to continue to open and try and really push that hard. We feel like there's a lot of growth potential there. We don't have anything, any new stores on the horizon but we're going to spend a lot of time there.

And then as far as the international stores, it was interesting for me to see that you opened the three stores in three different countries as opposed to trying to get some critical mass, say, in one particular city. I'm wondering if you would elaborate on the logic of that strategy.

We always intended to open one large store, which is a leather factory type unit that would be the warehouse or a main store and then allow us to open little stores around it, so our thought was to get them up and running and let them get going before we tried to open stores around them because they needed the volume, certainly, too. And we already had some dealers that we were servicing, so we wanted to try and get in and get those taken care of and then see where we stood, so that was the only reason.

So eventually there is an idea of locating smaller satellite stores around the international stores that you've placed so far?

Correct. The stores we have now are around 7000, 8000 square-foot store warehouses. What the idea was then to go back in and open Tandy type stores around them that are around 1200 to 1800 square foot stores and then let them be serviced out of that main warehouse.

The idea was or the idea is?

Still is, eventually. We don't have a hard time line for it but that's still what the idea is to do.

Okay, and then as far as progress on that, what do you expect as far as a timeline? Do you expect -- for example, I think the UK store is the newest of the international. Is that correct?

No, actually that one is the oldest and --

That's what I meant to say.

Yes, like I said, it has good sales and it certainly would be ready. I've spent some time looking at locations over there but we haven't made any hard decisions. I looked up north, looked down in the southwest. There's some good cities and we think there's certainly some good possibilities there. I went and looked at several sites here just a couple months ago.

If you had to give a rough timeline on that, as far as developing a cluster of stores around that UK store, what would you say? Would you say that you would have five stores within three years or have you gotten that far with the strategy?

It would probably be three to five years down the road for us where we would get -- the idea was what we would like to see is that main warehouse and then we feel like each country could probably support three to five Tandy stores in those countries. They've certainly got the population. If you look at Canada and the population and how many stores we have there, it certainly would work in the rest of them.

Okay and also I was wondering if I could ask a couple of questions about the inventory situation. I'm wondering what criteria was used when the decision was made to go from essentially $20 million in inventory to carrying $30 million in inventory. Are we expecting a higher return on equity? Are we expecting higher gross margin? What was the criteria that was used to make that decision?

What we're doing is if you are familiar with the Tandy stores and how they operated in the past, a lot of those stores carried very tiny inventories and especially in the leather, so what would happen is when you're getting ready, a customer, say, was getting ready to go in and buy leather from those stores, he would go in and normally they were stocking one PC each of everything they had. The problem is with that is normally you can't make anything out of that.

So what we have done is try to increase the size of our stores and how much inventory they are carrying. We come on our side and from the Leather Factory side so I always started out on a wholesale, a larger store basis before I ever -- we ever acquired the Tandy Stores. And what I've seen in the past is you have to have leather to sell leather and a lot of these Tandy stores never had that.

So what we have done as the process is trying to beef up that inventory, let the customers know that we're going to have it day in and day out, that they know that they can come in and make a selection, made a choice that we are going to have the leather to make the projects that they need.

So we did it certainly on purpose and we are going to ride that for some time in the future just to make sure that our customers know that they can count on us. And I think it's paying some dividends and like I said, we are just going to continue to make sure that we are -- our people are still out making sales calls and that our customers know we are going to have what they need.

Okay, so then is it fair to say that for example the $10 million in incremental inventory that was added over -- in 2012 so far, is it fair to say that most of that resides at the store level and it's being stocked -- it's available to the customer -- right now for example?

Exactly and that's our thought and mind. For us really having inventory here in the warehouse, having leather in our warehouse does us no good whatsoever. If it's not out there where the customers can see it and it creates excitement and gives our people something to work on, then it's just doing us no good sitting there storing it.

Yes, so as the Company grows, as the incremental store count grows, we can expect inventory to grow essentially proportionally with the store count, right? So if 10%, if seven new stores are added or eight new stores are added, then we can -- actually there is 107 stores -- so if 10.7 stores are added, then we could expect a 10% increase in inventory? Would that be fair to say?

No, again, we still feel like we have adequate levels of inventory here that we could take care of most of those stores where we're at today. I don't see us really jumping that up a lot more than that at all. Again, there's still a lot of inventory still here in the warehouse. We could open several stores, several Tandy stores with what we've got today.

If I'm understanding correctly, then, an increase in store count is not necessarily going to result in an increase in inventory levels?

Correct.

The reason why I'm asking is because as a stock investor someone might look at the company, say at the beginning of the year and think that a special dividend would be paid for -- in 2013 and potentially 2014, but looking at the balance sheet today it doesn't look likely that we would see a special dividend or a buyback in 2013 and that's mostly the way I analyze it is because the $10 million increase in inventory. Is that fair to say and could you just kind of comment on that?

I think if you look at everything that we presented today I think it is an easy conclusion to draw from the building that we are building today and the $1 million settlement and our current inventory levels, I think it's a fair analysis. Again like I said, our intent isn't to try and keep inventory at astronomical levels, but our intent is to experiment with levels that we think will pay dividends at our store level because we've got a lot of people that are ex-Tandy that we've hired back and a lot of people but we're also trying to convince within our own Company that these levels will work for them and will pay off for them.

And we think we have a good strategy and again like I said, we are certainly going to fine tune that as a go down the road, but I don't think it's going to be out of whack or out of line but I think if you look certainly at where we stand today paying a dividend is certainly not in our future. Not standing here today with what you've heard.

Yes, Jeff, historically as you probably know, we did our first special dividend in 2010 and then we did this one in 2012 so once -- yes, we increased inventory. Yes, we've got this legal settlement deal and yes, we are building this building, but cash will catch up with all of that like it always does. That's part of what makes this business and this company so fun is it generates -- the stores generate an awful lot of cash.

So yes, we spent a lot of it this year but assuming that we don't have another legal settlement and we have no plans to build another building, and we are not going to increase inventory $10 million again, cash is going to accumulate. So I don't expect a dividend to be paid or to be talked about in 2013 but 2014, 2015, you know, if all things -- everything goes like it normally does, by the end, we are going to be sitting on a bunch of cash again and we are going to have to figure out something to do with it.

Okay, that was my logic behind asking about the store count and the inventory that was filed with store count, so thank you very much for that clarity.

Last question is you have a large shareholder. Given -- public sources would say almost a third of the stock is owned by an outside shareholder. Does the Board and management have a plan to deal with that in the sense that it looks like there's a possibility as though this shareholder could take control of the Company without paying a premium for it? And I am wondering if there is any plan to prevent that from happening?

No, no plans to do anything that would prevent that stockholder or anybody else at this point from doing anything.

Do you think that there needs -- as I am envisioning worst-case scenario from a shareholder perspective, I am seeing a person accumulate more of the stock, propose -- nominate directors to the Board and then potentially take the Company -- the Company is a fantastic little company, in my opinion, and very, very well run and it looks like there's a potential for it to be taken over without any premium to the shareholders. That would obviously be a somewhat disappointing scenario to all of us because I know all of you are shareholders as well, as well as option holders.

Sure, well, at this point I talk to our stockholders and our institutional shareholders fairly frequently. What everybody's intentions are could change on any given day, but our attitude and impression at this point is that they are supportive, friendly shareholders. Don't get the impression that there's any reason to be -- to think otherwise, so we get good support from them. I don't know what else to tell you. It's -- we don't have any reason at this point to be concerned.

Okay, thank very much for all that clarity. I appreciate it. That's all.

Allan Kaplan.

I had a couple questions on the numbers. Other income, I noticed that went from significantly positive to negative. I assume you are earning less interest but that doesn't seem like it would explain everything.

Well the biggest thing, the other thing that is down there is the currency fluctuations as we do more international business, and we have added the two new stores in Australia and Spain, the fluctuation for the most part there. You're right, there's less interest being earned right now because there's less cash and of course interest rates are what they are, but generally speaking that's going to be currency fluctuations, US dollar to whatever the local currency is in the foreign stores, Canada and the three outside North America.

Okay, the other thing that confused me is if I look at operating income, that includes the settlement, is that correct?

That is correct.

But how does that work by segment?

The charge is all in the Wholesale Leathercraft segment and the reason for that is because the Wholesale Leathercraft segment houses all of the corporate and administrative and support departments. And so that has also -- that unit or that -- one of the admin departments is the one that's being charged for the legal settlement and the legal fees that go with it.

I propose that when we know more about what's going to be paid out and to whom and what stores they were or are associated with, we could break that out differently, but we consider this whole lawsuit, a corporate administrative issue and so because all of the corporate and administrative units are inside the Wholesale Leathercraft segment, that's where that charge gets placed.

But if I added roughly $1 million to the operating income for the Wholesale Leathercraft, I come up with $700,000, which is quite a jump from a year ago.

Say that again.

If I added $1 million, if I took out the legal settlement, then the operating income for Wholesale Leathercraft would be roughly $700,000. Because I'm -- $1 million, right? It would go from minus $300,000 to plus $700,000, which is quite a jump from the quarter last year.

Okay, I'm following. You are talking for the quarter?

Yes.

Okay, so we got an operating loss of $300,000. You add back $1 million and we'd be at $700,000.

Right, compared to only $296,000 last year.

Right.

So that's a pretty big jump.

The operating income would've improved?

Yes, I mean it seems like that's quite a jump in operating income. Can you say anything about that?

You also notice that gross profit margin increased 5 points, which was $400,000, so there is part of it. I'm looking here to see what else. Legal and professional fees are down about $100,000. Employee benefits is down about $160,000 so --.

Then that's all rolled into the wholesale, I think?

Correct.

My last question is -- relates to the discussion of inventory. If you have significant inventory at the store level, then you would think that if you increased the number of stores you are going to have to increase the amount of inventory?

We have inventory still here in the (multiple speakers)

I know you have but you have it in both places. But the retail, what I will call the retail level, the store level inventory should be proportional to the number of stores. I see that the total inventory isn't going to be but the retail level inventory should be proportional. So in other words if you increase your stores by 10% I wouldn't expect your inventory to go up by 10% but you would think it would have to go up.

It might go up a small amount obviously where you didn't have things but again like I said, we've still got quite a bit of inventory here in the warehouse. Normal Tandy store -- we will say for instance we normally stock 65,000. If we beef up their inventory, they've got $100,000, so again we, opened one -- we opened it basically out of the supplies we had so there was no increase in inventory just open a new store in Eugene.

Okay, all right, that answers all my questions. Thank you.

I'm not showing any further questions at this time. I would like to turn the conference back to our host for closing remarks.

Thank you. On behalf of Jon Thompson, Mark Angus, and myself, thank you for your participation in today's call. Have a good afternoon.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect and have a wonderful day.