Hooker Furnishings Corporation (HOFT) Q1 2017 Earnings Report, Transcript and Summary

Greetings, ladies and gentlemen, and welcome to the Hooker Furniture Quarterly Investor Conference Call reporting its operating results for the First Quarter of 2017. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Paul Huckfeldt, Vice President, Finance and Chief Financial Officer for Hooker Furniture Corporation.

Thank you, Shannon. Good afternoon, and welcome to our quarterly conference call to review our sales and earnings for the fiscal 2017 first quarter, which ended May 1, 2016. We certainly appreciate your participation today. Joining me are Paul Toms, our Chairman and CEO; Michael Delgatti, our President; and George Revington, President, Chief Operating Officer of our Home Meridian segment. During our call, we may make forward-looking statements, which are subject to risks and uncertainties. A discussion of factors that could cause our actual results to differ materially from management's expectation is contained in our press release and SEC filings announcing our 2017 first quarter results. Any forward-looking statement speaks only as of today, and we undertake no obligation to update or revise any forward-looking statement to reflect events or circumstances after today's call. This morning, we reported consolidated net sales of $121.8 million and net income of 2.5 million or $0.22 per diluted share for our fiscal 2017 first quarter. This marks the first quarter to include consolidated financial results from Hooker’s acquisition of the business of Home Meridian International, which was completed on February 1, 2016, the first day of our fiscal year. Home Meridian's results are not included in the company's prior year fiscal year results that will be referenced on today’s call. For the quarter, consolidated net sales doubled compared to a year ago, primarily due to the Home Meridian acquisition. This increase was partially offset by a 7% sales decrease in Hooker Furniture's legacy business, driven by lower sales in the Hooker Casegoods segment. Earnings per share decreased to $0.22 per share compared to $0.32 a share in the prior year quarter. The acquisition of Home Meridian this quarter resulted in some expenses that are typically not part of our operating results. I want to take a minute to put those costs into perspective before we discuss the results of our operations. We incurred about $1 million in deal-related costs in the quarter. We’ll have some of those additional costs in future quarters as we continue to integrate HMI into our organization, but they are expected to be at a much lower level going forward. As part of the acquisition, we recorded significant intangible assets, trade names, goodwill, the value of customer relationships and the property-acquired backlog. Some of these assets are considered indefinite lived assets; others would be amortized mostly over a 10-year period. However, $1.8 million of profit in acquired backlog will be amortized over the first half of this year, much of it in the first quarter. This had a $1.3 million impact on the quarter’s operating income and will continue -- and will impact Q2 by about 500,000. Overall, we expect to record $3.2 million of Home Meridian-related amortization of intangibles during this year and then about 1.4 million going forward. Now, Paul Toms will comment on our first quarter results.

Thanks, Paul, and good afternoon, everyone. First quarter results were impacted by weaker casegoods demand that we and we believe the overall industry have experienced since late last year. Slowdown at retail we first noted during the 2016 fiscal year Q3 conference call persisted through the 2017 fiscal year first quarter. We believe the weakness was caused by a combination of factors including lower consumer confidence, driven by volatility in the stock market, temporary pause in housing activity and depressed oil prices that negatively affected certain regions of the country in Q4 of last year and Q1 of this year. In general, retailers of all sizes have not been as willing to make large inventory investments as they were in the prior year. And high ticket deferrable product categories, like casegoods, have been hardest hit during the retail slowdown. However, in spite of lower sales and about 1 million in acquisition-related costs, we were able to deliver nearly a 7% operating income margin in our legacy businesses. Since the end of the quarter, we’ve been encouraged to see stabilization of demand and a strengthening of casegoods orders both at Hooker and Home Meridian in May, which improved sequentially over April. During the same period, there's been an uptick in consumer confidence, recovery of the stock market and a rebound in housing. We expect these factors may result in an improved furniture retail environment with less hesitation on the part of retailers to invest in inventory, less hesitation on the part of consumers to make larger ticket purchases like casegoods. Beginning with this quarter, we’re very excited to now have Home Meridian as part of our company. Long term, we believe our expansion into lower price points and additional channels of distribution that Home Meridian offers will be extremely beneficial to our company, and are confident that Home Meridian is a significant contributor to both our top and bottom line. During the quarter, Home Meridian's orders were also impacted by weaker demand and not up to internal expectations for recent growth trends. In addition, seasonality is a bigger factor at Home Meridian with the first quarter of the year typically representing just 20% of their annual volume, due to the company's business model and impact of Chinese New Year on production activity. Our Upholstery and All Other segments delivered positive results during the first quarter. Upholstery outperformed casegoods both in our company and we believe the industry as a whole during the most recent two quarters. Overall, our Upholstery segment reported a low single-digit sales increase compared to the prior year quarter and we were particularly gratified to see a robust increase in our imported upholstery line, Hooker Upholstery. Bradington-Young, our domestically-produced premium leather line, continued the trend of low-single-digit increases and solid operating profitability. Our custom upholstery specialist, Sam Moore, reported an operating income improvement of nearly 50% over the first quarter of fiscal '16, despite a 5% net sales decrease due to exiting low or unprofitable sales in the prior year. In our All Other segment, which includes two new business startups begun in 2014, H Contract brand continues to grow with shipments up 82% over last year and a three-fold improvement in operating income compared to last year. At Homeware, we have not yet felt the impact of the repositioning of the product line as that is still in process. While sales were down, Homeware cut operating losses in the half. Overall, Homeware had minimal impact on our results in the quarter. At this time, I’d like to turn the call over to Hooker Furniture President, Mike Delgatti to give us more details about the performance of Sam Moore, Bradington-Young, and Hooker Upholstery this quarter along with a report on the recently concluded April High Point Furniture market, and tactics we’re employing to stimulate demand in sales. Mike?

Thank you, Paul, and good afternoon. As Paul mentioned, the Upholstery segment performed relatively well this quarter, which had a sales increase and an overall profitability increase of 20% year-over-year. Within the Upholstery segment, our imported upholstery line Hooker Upholstery led the way with double-digit net sales increase and significant gains in operating income compared to last year. Several factors are driving the improvements including some successful programs with major retailers and expanded product lines with a better value proposition and a higher in-stock position on bestsellers. At Sam Moore, we reported an operating income improvement of nearly 50% spike and net sales decrease in single digits due to exiting low or unprofitable sales programs in the prior year. Sam Moore's ongoing improvements and profitability, which began last year, we achieved our first profitable fiscal year and continue to be driven by greater manufacturing efficiencies, a better job of managing inventory obsolescence, cost reductions and higher gross margin products and programs. In addition, we now have in place about 75 Sam Moore studios, which are dedicated branded retail display programs. Studio program is gaining traction of boosting sales at the retail level. In addition, a quick-ship program on best-selling recliners and sofa chair groups introduced at the April market is having a positive impact on orders. Moving on to Bradington-Young, our premium leather upholstery brand, was off to a good start this year. Sales for the quarter were relatively flat year-over-year but incoming order rate has been fairly positive through May. Bradington-Young’s performance continues to be boosted by the ongoing success of the comfort-at-home retail display program and more recently by the luxury Leather Motion upholstery program introduced last fall. We believe this is the most comprehensive and versatile premium motion upholstery program in the industry and it is selling well at retail and continuing to gain new retail placements. During May, we’ve been encouraged to see incoming order rate improvement on a year-over-year basis, which is a stabilization of the downward order trends we had seen in the previous two quarters. Another encouraging sign of strengthening retail environment were the positive reports referred for Memorial Day weekend sales. In an effort to further stimulate demand, we have developed a comprehensive calendar of promotional events for the year, with each event focusing on a major category of our product lines. These events typically have hundreds of retailer participants and are supported by extensive digital advertising. We began with a national spring savings event in April with 450 retailers spanning 600 locations participating and receiving a discount on all Hooker, Bradington-Young and Sam Moore products. Savings were advertised both locally by participating retailers and across multiple national digital channels. That was followed by a campaign in May to introduce the Cynthia Rowley for Hooker Furniture Brand to consumers as we roll the line out in retail stores. Later this month, we plan a Father's Day event savings on recliner chairs. And throughout summer and fall, we have promotional events scheduled focused on product areas such as home office, home entertainment, Bradington-Young Luxury Motion line, Sam Moore Upholstery and our top-selling Sanctuary casegoods collection. The recent April High Point market was not one of our strongest in terms of attendance or written orders. We have found that our post-market sales have been stronger than usual, especially on a couple of new casegoods collections. One of these collections [indiscernible] is a casual European traditional group in our best price point category, while the other Sandcastle is a coastal cottage group in our better price points. We will be accelerating delivery of both these collections to dealers early in the third quarter so that we can derive full benefit from the fall selling season. Now, I’d like to turn the call over to George Revington, President, Chief Operating Officer of Home Meridian to give us an overview of their quarter.

Thank you, Mike, and good afternoon. Before discussing the performance and strategies of the Home Meridian division this quarter, I thought it might be appropriate to provide some overview of our operations. Home Meridian has five marketing divisions. Pulaski Furniture provides better casegoods. Samuel Lawrence provides more modest price casegoods. Samuel Lawrence Hospitality provides custom products in the three and four-star hotels. Prime Resources does motion upholstery. And finally, Right 2 Home focuses on our e-commerce products and services. While each of the divisions has its distinct positioning in the marketplace, the best way to understand our business is to look at it by channels of distribution. Five years ago, we changed our strategic direction by clearly defining distinct channels of distribution and organizing focus on the channels that were growing faster than industry average. These emerging channels require that we were able to provide custom products and services to the biggest and best customers in those channels. That continues to be our strategy today. Our largest channel of distribution, which we call Mega Accounts, these are the largest traditional furniture retailers, wholesale clubs and mass merchant accounts that have the potential to generate $10 million in sales or more annually. What differentiates them is that these customers require proprietary products and services that are large enough to justify the resources required to serve. We have 15 of these traditional Mega Accounts. In Q1, the generated approximately 51% of our total sales and grew 3% over the prior year. We have strong programs in place with these accounts and a robust portfolio of design projects in the pipeline of this class of customer. Our fastest-growing channel is e-commerce. Sales to e-commerce accounts totaled 15% of our sales and grew 44% over the same quarter last year. Sales in the e-commerce channel include customers that are 100% online retailers and the dot-com portions of our club and mass merchant customers. Our e-commerce sales have grown by a compounded average rate of 36% in the last six years. This channel is supported by four of our five Home Meridian marketing divisions, including a dedicated division Right 2 Home, which develops custom products and services for the channel. Home Meridian participates in both the white glove and the drop-ship portion of the business and is dedicated to making continuous investments in terms of both specific product, warehousing, inventory systems and logistics improvements. We have major initiatives into the hospitality and international channels as well, which constitute 8% of Home Meridian sales and grew 18% over the prior year during the quarter. We expect continued growth in these channels, especially in hospitality, with favorable market conditions for building and refurbishing hotels in the U.S. on the upswing. We expect a positive environment for hospitality to be sustained in the foreseeable future. These channels have typically grown faster than the overall industry as evidenced by Home Meridian expense [ph] of 7% compounded growth over the last six years. Balance of Home Meridian sales totaled 26% of the division’s total sales. This portion of our business includes traditional, large and small independent furniture retailers and rental customers. This portion of our business actually declined in Q1. These channels, particularly rental, were affected by more of a recent downturn and traditionally have not grown as fast as the other channels. While Q1 orders were soft in the first three months of the year, we had a sizable uptick in May which made the year-to-date orders virtually flat. The May increase in orders was due in part to better business, part to major account reorder cycling through excess inventory. Typically, these orders go out in the 90-day lead time between order and ship. In terms of operating performance, in Q1, Home Meridian sales were even with the prior year. The general industry slowdown was the slowdown in orders from several of our major customers as the inventory cycle dampened growth we projected. However, we believe that our competitive position with our major comps has not changed. Our gross margins are better than the prior year period as a result of pricing improvements, customer mix and lower prices. However, investments in marketing and warehouse reduced operating profits slightly. With business lower than projected, the marketing and warehouse investments are being reviewed and reducing them is part of a series of countermeasures we have in place to increase operating profit. From our perspective, Home Meridian also had an excellent April market. Our Eric Church licensed furniture brand rollout, the largest license collection of HMI's history, was successful with first production shipping into retail floors and additional key customers picking up the line. Also, our Samuel Lawrence division launched a major collection called Urban Vintage which combines natural and rustic looks but urban industrial elements addressing the current emerging style trend. Being flexible in product design and following emergency style trends is a big part of our value proposition. We believe our core strategies are working and that we are on target in both our emerging channels and our style collection. We are enjoying our new relationship with Hooker and we are learning a lot. We look forward to a stronger second half. At this point, I’d like to turn the call back to Paul Huckfeldt.

Thanks, George. I’ve already mentioned the deal-related costs in the intangible amortization that’s had a significant impact on our results but are not regular components of our operations. Looking at some of the more typical items; consolidated net sales increased due to the addition of Home Meridian business, which contributed about 65 million of net sales. In our traditional Hooker businesses, net sales for the fiscal 2017 first quarter declined about $4 million or 7% compared to the first quarter of fiscal '16, primarily due to decreased unit volume in our casegoods segment, which was partially offset by increased average selling prices in all three segments of the legacy businesses. Unit volume decreases in the casegoods segment were primarily due to lower incoming order rates reflecting a softer demand environment that Paul Toms noted earlier. Our direct shipments to retailers were particularly hard hit as retailers work through their inventories and showed a little less willingness to commit to larger import positions at present. This shift from container to non-container sales contributed to higher average selling prices, as did continued lower discounting. Upholstery segment net sales increased almost 3% on higher average selling prices which offset a small decline in volume. Although still a small component of our overall business, net sales in our All Other segment grew over 50% year-over-year on higher unit volume and average selling prices, reflecting the steady growth at our H Contract business. Overall, our average selling prices in the traditional Hooker business increased 4.5% during the quarter, primarily due to the mixed product shipped and some price increases. Consolidated gross profit increased with the addition of Home Meridian results. For the traditional Hooker business, gross margin improved but gross profit dollars declined primarily due to decreased volume placement, which negatively affected gross profit by about 1.6 million and more than offset modest decreases in product costs driven by lower freight rates and improved upholstery segment gross margins resulting from modest sales increases as well as lower freight costs for imported upholstery and lower manufacturing costs for Sam Moore thanks to improvements in materials management resulting from the ERP implementation last year. Consolidated selling, general and administrative expenses also increased with the addition of Home Meridian. Excluding the amortization of intangibles, Home Meridian SG&A expenses are lower as a percent of sales compared to the traditional Hooker business. So companywide SG&A costs as a percentage of sales were lower than the prior year. Within the traditional Hooker business, SG&A expenses were higher than the prior year primarily due to about $1 million in acquisition-related professional fees as well as higher marketing-related costs which offset lower commission expense due to lower sales. For these reasons, operating income for the fiscal 2017 first quarter was 4 million or 3.3% of net sales compared to 5.2 million or 8.6% of net sales for our legacy Hooker business in fiscal 2016 first. Pro forma first quarter FY '16 operating income for the consolidated business would have been about 4.8 million or 3.9% of sales if the transaction had occurred a year earlier. Our balance sheet remains strong despite the use of $25 million of our cash on hand and our decision to take on debt in order to invest in the asset Home Meridian. At the end of the quarter, we had cash and cash equivalents of over 32 million available to provide the required working capital and to service our acquisition-related debt, which stood at 52 million as of the end of the quarter. We also have access to a $28 million revolving credit facility and about 22 million of cash surrender value of company-owned life insurance, which gives us additional financial flexibility. In today’s release we also announced a quarterly dividend of $0.10 per share, which represents a 1.8% dividend yield at current share prices. Now, I’ll turn the call back to Paul Toms for his outlook.

Thanks, Paul. To be clear, we were disappointed in our performances this quarter which fell short of analyst expectations as well as our own internal expectations. However, we’re confident that the drivers of this underperformance are short term, primarily caused by the decrease on the topline and Hooker Casegoods and the resulting impact on earnings, as well as $1 million in acquisition-related costs. We continue to believe the fundamentals of our business and of our business model sound. Upholstery grew in both sales and earnings this quarter and our new startup ventures, especially H Contract did well. Home Meridian was very close to internal projections in sales and earnings, given the 1.3 million impact on the quarter’s operating income from the amortization, the acquired backlog margin Paul Huckfeldt discussed early. We also anticipated Q1 being a weaker sales quarter based on HMI's history of shipping only about 20% of their annual volume in the first quarter. We’re more convinced than ever that the Home Meridian acquisition was an excellent strategic decision for Hooker Furniture. Long term, our expansion into lower price points and additional channels of distribution that are growing much faster than the traditional channels will be extremely beneficial to our company. We remain very confident that Home Meridian will be a significant contributor to both our top and bottom line going forward. Based on the improving May casegoods order rates, generally good Memorial Day sales results and the timely placement of new products and programs at retail we are planning for late summer, we are optimistic about the second half of the year and very confident about the long-term success of this company. We look forward to delivering improved results in Q2 and the second half of the year. That concludes the formal part of our discussion. At this time, I'll turn the call back over to our operator, Shannon, for questions.

Thank you. [Operator Instructions]. Our first question is from Matt McCall with BB&T Capital Markets. You may begin.

Good afternoon, everybody. This is Reuben on for Matt.

Hi, Reuben.

George, if I may I’ll start with you. I just have a couple of questions. I appreciate the color you gave on the breakdown of your business, it’s very helpful. Can you talk about what – maybe what changed in the quarter from your expectations within those different sub-segments? You mentioned your Mega Accounts. I know you gave us the growth rates for each but maybe was all of the disappointment, if there was any, in the quarter in that 26% of your business that’s the traditional large and small independent or did you see a slowdown in some of your other business as well?

So large and small [ph] was pretty close to the expectation both in the top line and the bottom line, but it could have been better and kind of the shortfall occurred I think as some of the major retailers were inventory cycling in the time period. I think some of them over planned the flow into Chinese New Year and then that slowed down their requirements in the second quarter.

And you said that that was recouped in May more or less, right? Is that the --?

Order flow in May was much better. Some of those orders will flow in the second quarter, some will flow in the third quarter.

Okay, great. And you guys have been helpful with Q1 seasonality. It’s generally 20% of revenue. Can you give us any help as far as profitability? What’s normal in the first quarter for Home Meridian and maybe a little bit of help for Q2 and then the back half just to give us an idea of how the businesses generally breaks out?

Q1 is pretty significant. It’s below the other quarters. Because of the leverage on the sales, the lower sales volume, I would say that the split is typically 15% profitability in the first quarter and then up to 20%-ish.

That’s directionally correct. A big part of it is covering the fixed cost and the increased sales will get in the second quarter really pretty significant.

And then the remaining two quarters, I guess the balance for the next two quarters is pretty evenly.

Second and the fourth quarters are largest.

Second and the fourth quarters are advantaged by shipments to some of the clubs, which are episodic with flow in the spring and the fall.

Okay, that’s helpful. And then maybe how about your demand within different price points. I know you guys cover a broader range now with Home Meridian but can you talk about within maybe the Hooker legacy business where you saw relative strength or weakness and then was there any particular – I guess within casegoods and upholstery where you saw better demand?

Okay. If you looked at the Hooker business I think the weakness was in container direct shipments, so customers – those are typically our larger customers that would buy stock and buy containers. And I think they saw some of what Home Meridian’s large customers saw. They went into the quarter over-inventoried and were less willing to commit to inventory during the quarter. Recently, two of our largest five customers are located in oil-producing regions, Oklahoma and South Texas and those areas I think have been particularly depressed as oil exploration and related industries have been impacted with low oil prices. Beyond that, upholstery outperformed wood as we said upholstery actually grew for the quarter, wood was down low-double digits in demand for the quarter. And beyond that, I would say e-commerce is a faster-growing channel than our traditional bricks and mortar stores. But we had an interesting experience. We have – one of our top five accounts is in South Florida and our shipments with that account were down 50% in the first quarter, but their sales of our products were flat versus the first quarter last year. So, there’s nothing wrong with the demand at retail of our products. They were just over-inventoried going into the quarter and I think we saw that play out both in Home Meridian’s business and in our business. So disappointed that shipments were down that much to a large customer but I’m encouraged that what they’re selling in the quarter was basically flat to what they sold a year ago.

Okay. And the improvements in May, is that what gives you confidence that maybe inventories leveled out or is there anything else in your conversations with customers that leads you to believe that the inventory situation is corrected and from here it will be a little more normalized?

It’s not just that inventories are better balanced to demand now at our customers, I think the environment for home furnishings, particularly for casegoods, is better than it was the previous two quarters. I think in our core consumer demographic, which is 100,000 and up household income, if there is volatility in the stock market like there was late last year, I think it puts people on the sidelines. We’re selling a large ticket postponable purchase and people have to feel good about their investments and their well and their job security before they’re going to go out and spend for something they don’t have to buy at the moment. So I think the stock market has basically recaptured the losses that it incurred late last year. Consumer spending is up. Consumer confidence is fine. And housing I think was in a little bit of a low late last year, early this year. I think housing is more robust now both new homes and existing homes. So to me, the environment is better. Our retailers are placing orders. The post-market period that we just [indiscernible] more optimistic than we did at the end of either one of the last two quarters.

Okay. Thanks, Paul, very helpful. A couple more. In the past, the promotional environment was elevated. I know you guys have some event sales coming up. Do you feel like the customer or consumer getting a little better has eased the promotional activity or do you still feel it’s a pretty promotional environment out there?

This is Mike. I still think it’s a pretty promotional environment out there [indiscernible] it’s still necessary to drive consumers into retail stores. So we will continue down that path and we have, as I outlined earlier, right plan of calendar events between now and the end of the year that will support the promotion of all product categories or most important product categories on the casegoods side as well as the upholstery side.

Okay. One more question, the working capital inventory level as a percentage of sales was a little bit lower year-over-year. Is that just the inclusion of the HMI business or is there some things you guys have done? I know you talked about building appropriate inventory levels for your expectation in the back half of the year. Is it just the way HMI’s business works?

Well, I think the HMI business does change that relationship a little bit because so much of that business is shipped container direct. On the Hooker side, we’ve been trying to adapt and I think we’ve done a really good job in the last couple of years or managing our inventories with a lull inventory cycle. Sometimes that difficult but we are guiding our inventories up and down I think more successfully to match sales. I think inventories will start to climb preparing for a better fall selling season. But we’ve been trying to manage our – I think we’ve done a pretty good job managing inventory levels too. AR is down some because of sales shortfall, casegoods as well but I think most of its inventory management. And then the difference is coming from HMI.

Okay, great. Thanks, guys. I appreciate the color.

All right. Thanks.

Thank you. I’m showing no further questions at this time. I would like to turn the call back over to Paul Toms for closing remarks.

All right. We appreciate everybody joining us this afternoon and we look forward to bringing you better results three months from now in early September. Thanks, again.

Ladies and gentlemen, this concludes today’s conference. Thank you for your participation. Have a wonderful day.