Tile Shop Holdings Inc (TTSH) 2015 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Tile Shop Holdings Incorporated Q3 2015 earnings conference call. (Operator Instructions) I would like to introduce your host for today's conference call, Mr. Adam Hauser, Director of Investor Relations. You may begin.

Thank you, operator. Good morning to everyone on the call, and welcome to the Tile Shop's third-quarter earnings call. Following our prepared remarks, the call will be opened for analysts' questions. Questions will be limited to analysts, and we would appreciate if participants would limit themselves to one question with one follow-up.

As a reminder, certain statements made during the call today may constitute forward-looking statements made pursuant to and within the meaning of the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995 as amended. Words such as but not limited to plan, expect, anticipate, believe, estimate, target and any other similar words to identify forward-looking statements may be made.

Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in our earnings press release issued today and in the Tile Shop's filings with the Securities and Exchange Commission. The forward-looking statements made today are as of the date of this call, and the Company does not undertake any obligation to update these forward-looking statements.

Today's presentations may also include certain non-GAAP measurements. Please see the Company's earnings release for a reconciliation of those non-GAAP financial measures, also available on the investor relations section of our website at investors.tileshop.com.

With that, let me now turn the call over to our Chief Executive Officer, Mr. Chris Homeister.

Thanks, Adam. Good morning, everyone, and thank you for joining us today. I'm here with Kirk Geadelmann, our CFO, and we appreciate you joining us this morning as we report our results for the third quarter.

We're very pleased about the results our stores and business teams drove in the third quarter, results that continue to signal strong progress on our key initiatives. We have now completed several quarters during which we have continued to refine and built upon the same set of fundamental initiatives, and results continue to improve each quarter. We are proud of these results, as these efforts have been broad and significant. At the same time, we are continuing to refine these actions, and we know we still have opportunity to further improve the strength of our business. We continue to gain new and actionable insights as we execute our initiatives, and these learnings will serve as well as we enter into the first quarter of 2015 and beyond.

Turning our attention to the third quarter, we were able to over-deliver on many key metrics. Sales for the quarter were $72.4 million. The $72.4 million of revenue represented growth of 15.3% versus last year, including comparable store sales growth of 9.7%. Strong comparable store sales growth occurred throughout the entire quarter, and our efforts to improve sales at our stores that were opened in 2013 and 2014 continued to lead to strong results for the stores, which Kirk will explain in greater detail shortly.

Additionally, our COGS were strengthened by the strongest quarter of growth since 2013 from our more mature stores. Importantly, our top-line strength was coupled with a 70% gross margin rate in the quarter. Our adjusted earnings per share in the quarter was $0.08, adjusted EBITDA grew 40% and adjusted EBITDA margin was 19.3% during the quarter, an improvement from the prior year of 340 basis points.

Now let me walk you through some of the specific highlights of Q3 in relation to our key initiatives. I will begin by discussing our progress on retail talent identification and training. We added 5 additional market managers during the third quarter, and we now have approximately 3/4 of the store base being led by market managers. Stores under their leadership again exceeded sales expectations during the quarter and also played a strong role in continued turnover reductions. Recent additions have been in less mature markets, and we're excited to see the continued impact these leaders will have on the performance in these markets.

Employee turnover continued to decline for store managers, assistant managers and sales associates. From prior-year levels, turnover rates were down significantly across all three of these groups in the third quarter. During 2015, we feel reduce turnover has played a significant role in our success, and we look for to continued progress on this front.

Average store manager tenure continues to be at a level not experienced since 2012. Manager tenure continues to be an important driver in successfully deploying our in-store strategies. Our bench of manager candidates continues to strengthen as a result of our ongoing training and development efforts, which is critical as we plan to open 3 to 4 stores in the fourth quarter and increase our store openings in 2016.

Our next key initiative is expanding our focus on the professional customer. During the quarter, we continued to execute on various efforts to build our pro business, including direct marketing, employee training, additional new product offerings, improved in-store merchandising and store-hosted events. In the third quarter, our pro sales growth again outpaced the balance of our business by a meaningful factor, ultimately leading to an increase in our total pro sales mix of over 300 basis points from Q3 of last year.

The mix increase continues to be driven by less mature markets where our emphasis on building the pro business has been most focused. The opportunity for greater penetration with this customer segment is still very significant as we move forward.

Finally, I continue to be very pleased with the progress of improving our marketing effectiveness. In the third quarter, we again invested advertising dollars toward some of our 2013 and 2014 new store markets as we continued to build increased awareness in traffic. Consistent with prior quarters, we were highly encouraged by the sales results in these markets, and we will continue to invest in a wide array of local media in our newest markets.

In addition to details related to our key initiatives, there were several other (technical difficulty) from the third quarter that I would like to highlight. Our gross margin rate was 70%, which was the first time we have achieved this rate since the third quarter of 2013. Gross margin rate was a significant improvement from both Q2 and the third quarter of last year. Free cash flow was over $8 million in the quarter; but on a year-to-date, free cash flow to nearly $40 million. We paid down approximately $6 million of long-term debt during the quarter, bringing our debt reduction of 2015 to nearly $30 million. Our quarter-ending inventory decreased 1% versus the third quarter of 2014 despite 15% sales growth and 7% store unit growth.

Our adjusted EBITDA margin percentage increased significantly, 340 basis points better from the prior year. As discussed previously, we continue to believe we can deliver many years of adjusted EBITDA margin expansion.

Finally, as indicated in our press release this morning, we increased our guidance range for sales and improved the range for both adjusted EBITDA and EPS.

During the third quarter, we opened one new store in the Dallas, Texas, market and still expect to open a total of 7 to 8 stores this year. As we look towards 2016 and beyond, we continue to feel that 8% to 12% annual store unit growth is a solid expectation for the foreseeable future, with opening scope that's largely in existing markets, with a major new market expansion expected in 2016.

From a product category perspective, we are very pleased with the performance of the new SKUs we've added to the assortment this year, including a variety of SKUs allowing the Company to compete at all price points within our product family, allowing us to attract customers in the marketplace at a wide array of price points. We will continue to augment our assortment with additional colors and geometric patterns that fit the latest design and building trends.

We are very enthusiastic about the results of our third quarter and the first nine months of 2015. We continue to diligently work on making additional progress in the quarters ahead on our journey to becoming the nation's leading specialty tile retailer.

And with that, let me now turn the call over to Kirk for further discussion on the quarter and our outlook for 2015.

Thanks, Chris. Today, we reported net sales of $72.4 million for the third quarter of 2015, which represents an increase of $9.6 million, or 15.3% over sales of $62.8 million in the same quarter last year. Comparable store sales growth was 9.7% in the quarter, which represented significant sequential improvement from the second quarter of 5.7%.

Importantly, we were very pleased with sales results across all vintage classes in the quarter. Our 2013 vintage stores improved from high-teens comparable store sales growth in Q2 to greater than 20% in Q3. Our 2014 vintage stores had comparable store sales growth of greater than 50%, as they are still very new to the comp base. And as we discussed, they achieved lower year-one sales than normal. But their weighted contribution to the Company's overall comp continues to increase as more of these stores enter the comp base and their sales dollar value increases.

Perhaps most significantly, our more mature stores opened in 2012 or earlier improved from low single-digit growth in the first half of the year to mid-single-digit growth in Q3. The strength of revenue performance across all vintages was an important accomplishment during our third quarter and a testament to the impact of the work done on our key initiatives throughout the year.

Gross profit increased $7.3 million in the second quarter, or 16.7% over last year. Gross margin of 70.0% represented a significant increase from Q2 and approximately 80 basis points from Q3 of last year. The strong gross margin performance was driven by several factors.

First, as we discussed on our last call, pricing tests conducted during Q2 had an unfavorable impact to our overall gross margin in the second quarter. As we discussed on the second-quarter earnings call, we significantly reduced the number of stores and product SKUs included in those pricing tests towards the end of the second quarter.

The third quarter also included more disciplined discounting. And finally, the negative mix impact of customer deliveries moderated through both increased collection of customer delivery revenue and lower customer delivery volumes.

Our selling, general and administrative costs for the quarter were $44.0 million as compared to $39.8 million in the third quarter of last year. Third-quarter 2015 SG&A included approximately $0.2 million of nonrecurring costs related to litigation expenses. We concluded the third quarter with 111 stores, a 7% increase versus the conclusion of last year's third quarter when our store account was 104. Depreciation and amortization, rent, property taxes, utilities and other occupancy costs related to store growth represented approximately $1.5 million of SG&A growth versus the prior year during the quarter. Growth in variable compensation related to improved business performance was also a key driver of SG&A growth in the quarter.

Finally, stock compensation and benefit costs were higher than normal in the quarter due to lower employee turnover. Pre-opening expenses were approximately $114,000 in the quarter.

Adjusted EBITDA was $13.9 million in the third quarter, representing growth of 40% versus the prior-year period. Adjusted EBITDA margin was 19.3%, an increase of 340 basis points versus the prior year, driven by enhanced operating leverage from sales growth that exceeded 15% while SG&A costs grew less than 11%, as well as a gross margin of 70%.

We continue to expect to increase our full-year adjusted EBITDA margin by 100 to 200 basis points in 2015. The non-GAAP net income presentation in the earnings release adjusts our GAAP quarterly results by eliminating unusual or nonrecurring costs and then applies the tax rate to the result. This presentation results in non-GAAP net income for the quarter of approximately $3.9 million, growth of 139% versus the prior-year period. The current-year non-GAAP net income translates into a basic and fully diluted Q3 earnings per share of $0.08, growth of 167% versus Q3 of last year.

Turning to our balance sheet, as of September 30, we ended the quarter with $14.6 million of cash and $57.6 million of long-term debt. Our free cash flow of over $8 million during the quarter allowed us to pay down $6.2 million of debt in Q3. We are pleased with our $63.2 million quarter-ending inventory, which represented a 1% decrease from last year during a quarter with over 15% sales growth and finishing the quarter with 7 more stores than the prior period. Capital expenditures were approximately $5.8 million in the quarter, primarily related to new store investments, store remodel and merchandising activity. Year-to-date capital expenditures are $12.8 million.

As detailed in our earnings release this morning, we are providing updated expectations for the full year based on where we are to the conclusion of the third quarter in our current outlook for the remainder of the year. I will highlight the handful of items that were updated this morning from our last guidance provided in July.

First, from a top-line perspective, our full-year sales expectation has increased from $280 million to $290 million to $289 million to $292 million. From a bottom-line perspective, the starting point of our expected range for both full-year non-GAAP earnings per share and adjusted EBITDA were again increased. We now expect non-GAAP earnings per share of $0.31 to $0.33 versus previous guidance of $0.28 to $0.33, and we now expect adjusted EBITDA of $57 million to $60 million versus previous guidance of $55 million to $60 million.

Finally, our capital spending expectation is now $18 million to $20 million versus our prior expectation of $17 million to $20 million.

From a modeling perspective, we expect Q4 SG&A growth from the prior year to be in the range of high single digits to approximately 10%.

With that, operator, we can now turn the call over for questions.

(Operator Instructions) Peter Keith, Piper Jaffray.

Congratulations on the good quarter. I did want to dig into the improvement you saw on your mature stores to a positive mid-single-digit comp. I know there's a lot of things going on at the store level, but could you maybe point to maybe one or two or three things that you think helped to drive that fundamental improvement? Or perhaps do you think the industry backdrop has strengthened a bit for you?

Good morning, Peter. This is Kirk. Thanks for the question. I think it's all the things we been talking about primarily. I think all the work we've done on our talent initiatives certainly has played a big role there. I think the focus on the pro business has also helped. And those are really the main drivers. Obviously with existing home sales being up year over year in July and August, 8%, that certainly hasn't hurt either.

Okay, very good. And then just looking at your comp and revenue guidance for the full year, it seems to imply a fairly wide range for the fourth quarter and even would put in the potential that Q4 could be your lowest comp of the year. Could you just frame up -- have you not changed your expectations for Q4, or is there something that might keep you a little bit concerned about the Q4 revenue outlook?

Well, I think we feel good about the position we are in. The Q4 comp is implied at [3%]. I think the main thing is just the first half of the year, our more mature stores did a low single-digit comp, as we talked about on the last couple of calls. We certainly had a stronger quarter in Q3, with the mature stores doing a mid-single-digit comp. But one quarter doesn't make a trend. And so we are -- we're just -- we're watching that. But we like where we are at, and we feel like we're gaining momentum.

Okay, that's great. Thank you very much.

Daniel Moore, CJS Securities.

Just looking at SG&A, you mentioned pre-opening expense, I think, was just over $100,000. What are your expectations built into the guidance for Q4 for pre-opening expense?

Pre-opening expense -- opening 3 to 4 stores in Q4, Dan, will likely be a little higher than that. As we talked about a little bit in the scripted remarks, the SG&A ticked up a little bit due to lower turnover. We had higher stock comp expense and some other items related to lower turnover as well.

Very helpful. And with the strides you've made already, you've reiterated obviously for 2016 your outlook in terms of new store openings. Are you tempted at this stage to think about the higher end of the range? Has your thinking changed at all with regard to the speed or acceleration potentially of new store openings going forward?

Hi, Dan. This is Chris. I really don't have any further color to add pertaining to new store growth openings outside of the 8% to 12% stores unit growth that I talked about in my prepared remarks. Clearly, we are very pleased with the quarter and the progress that we've had throughout the course of 2015. We will continue to look at opportunities that we see -- that fit within our model, but also having all the other elements that go along with opening stores. It's just not having real estate but having a strong team to go into it, having our marketing plan well scripted, have our inventory plans in place.

So we feel really, really confident in our ability to execute on our 8% to 12% unit growth for next year. But at this point in time, I wouldn't model anything further on the upside from that.

Very good. One last one. Just one of the biggest improvements underneath the surface of the balance sheet here, continued to pay down cash at a pretty quick clip. You could be debt free in a year or two. Have you started to think about capital allocation beyond just new store openings on a go-forward basis?

Yes Dan, this is Kirk. We certainly have had quite a few discussions on that. Right now, our near-term focus is going to be to continue to pay down debt. We certainly wouldn't mind having a little bit of excess cash just to have some flexibility in the future, but our focus will be on organic growth.

Okay. Thanks again. Congrats on the quarter.

John Baugh, Stifel.

Good morning, and terrific results. I wanted to dig into advertising a little bit. I'm curious on several fronts. Did you increase the ad spend at all in mature markets, or was it strictly in the newer markets? And maybe some color on what kind of contribution or return you are getting on your ad spend. And thoughts about how that may change what historically has been a low ad spend model. Thank you.

Good morning, John. This is Chris. We did not increase within the quarter our total advertising spend in really any capacity. This was -- these results were driven upon really the initiatives that we talked about on the call. One certainly is on our team and teams that we have within the stores at the store manager level, assistant manager level and sales associate level, as well as having this ability within our warehouse team as well, which is an important part of our execution within the store. Second certainly would be on our professional sales, which increased significantly during the quarter.

And we're very pleased on the -- as I mentioned, on the advertising effectiveness happening within our newer markets. We continue the same plan and playbook that we've executed well from through 2015. And mature markets really -- the focus was relatively unchanged across the board. And as I indicated, the total percentage of ad spend dollars was actually less in this quarter than other quarters in 2015.

So as far as our return, our return continues to be above our expectations internally. And we certainly continued to execute upon our strategy for 2015.

Okay, (inaudible). And then any color on the, I don't know, mix ticket traffic, all those kinds of metrics?

Yes, John. This is Kirk. The driver really for us right now is transactions. Our average ticket is also up. It's been up all year, but the real driver is transactions.

Great. Thank you. Good luck.

Peter Benedict, Robert Baird.

Hey, guys. Thanks for taking the question, and nice quarter. Follow-up on John's question on the ad spend because I don't know if you mentioned this. But just in aggregate, how are you guys thinking about the ad spend ratio this year versus last year? I think last year was 2.2% of sales. Is that still expected to delever? I think that was the initial plan, but obviously sales are coming in better. So just curious how you think about that line item.

Good morning, Peter. This is Kirk.

Hey, Kirk.

Similar to historical trends, we should be right around that 2.5%-ish of sales. We do feel like as Chris said that we feel -- we're really making a lot of improvement on getting a more -- higher return out of our ad spend. But it really -- we're not -- other than Q1, where we had some advertising tests going on, and we spent a little bit higher as a rate of sales, for the year and for all the other quarters it's -- I would say it's right around that 2.5-ish% of sales mark.

Okay. Perfect. (multiple speakers)

Something on that as well. If you go back to Q1 of the advertising test that we completed, it certainly helped us in our positioning throughout the entire course of the year. So, remember back in Q1 we spent slightly above our historical rate of 2.5% of sales within that quarter. Those dollars and those tests -- those outcomes certainly helped position us well for Q2 and Q3, has been helping us increase our organic search results, certainly in an online basis. But then also focusing on the most important elements of driving in-store traffic as well, which certainly paid off handsomely within our mature markets in Q3.

That's helpful. Thank you, guys. Just sticking kind of on the expense front, with the sales getting better, Kirk, you gave some info on the variable versus sixth. As we think about going forward, how should we think about that variable component? What should -- any benchmarks you can give us? Are there a percentage of SG&A that variable, or how should we think about that flexing as we have got these comps at a higher level?

Well, I still think, Peter, that that 50% to 55% flow-through that we've talked about with you all is intact there. I don't think that's changing. We have made -- obviously as we have been focusing on talent, we've made some modest investments in market manager incentive compensation, in recruited and training, and some other things -- benefits-related things. But there's sort of a mix of fixed and variable, and they have been relatively modest. And I still think the flow-through that we've talked about is the same. It really remains unchanged.

Okay, that's perfect. And the last question, just on the lower delivery volumes, what is driving that? Is that related to the fact that the pro has increased as a percentage of the sales because they take less deliveries, pick it up more on their own? Or what's the dynamic there?

No, not really, not really. There really isn't a big difference between retail and pro customers in terms of delivery because often, even if it's a pro customer, we're delivering it to the customer's house. It's really more about education. We talked about -- it ticked up in the mix in Q2. But part of it is we need to be smart about collecting the revenue associated with that customer delivery. If the customer truly values it, we should be able to collect the revenue, and we did a much better job of that in Q3. We did a number of things working with our regional managers and our marketing managers, also our store managers directly. But just educate them about what the expectation is in terms of when they do a delivery and also whether they can collect the revenue on it or not.

And then we also -- another thing we introduced within the quarter is a new store scorecard. And that provided a lot better visibility to margin drivers at each of the stores including customer delivery and where each store ranked compared to everybody else in the chain. And I think that was very helpful.

Okay, great. Thanks very much, guys.

And I'm not showing any further questions at this time. I would like to turn the call back over to our hosts.

Thank you very much for joining us. Have a great day.

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