Good afternoon. My name is Kyle [ph] and I'll be your conference operator today. At this time I'd like to welcome everyone to the RH Third Quarter Fiscal 2014 Q&A Conference Call. [Operator Instructions] Ms. McLaughlin, you may begin your conference.

Thank you. Good afternoon everyone. Thank you for joining us for RH's third quarter fiscal 2014 Q&A conference call. Joining me today are Gary Friedman, Chairman and Chief Executive Officer, and Karen Boone, Chief Financial and Administrative Officer. We hope you've had an opportunity to view the video presentation posted to our Investor Relations website prior to this call, which highlights the company's continued evolution, recent performance and outlook. Before we start, I would like to remind you of our legal disclaimer that we are making certain statements today that are forward-looking within the meaning of the federal securities laws, including statements about the outlook for our business and other matters referenced in our press release and video presentation issued today. These forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially. Please refer to our SEC filings as well as our press release issued today for a more detailed description of the risk factors that may affect our results. Please also note that these forward-looking statements reflect our opinions only as of the date of this call and we undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements in light of new information or future events. Also during our call today, we may discuss non-GAAP financial measures which adjust our GAAP results to eliminate the impact of certain items. You will find additional information regarding the non-GAAP financial measures and a reconciliation of these non-GAAP to GAAP measures in today's financial results press release. A live broadcast of this call is also available on the Investor Relations section of our website at ir.restorationhardware.com. With that, I will turn the call to the operator to take our first question.

[Operator Instructions] Your first question comes from the line of Matt Nemer from Wells Fargo Securities. Your line is open.

Afternoon. Thanks so much for taking my questions. First, I wanted to ask about the strong growth in the online channel. Obviously stores are critical to those sales, and it only really reflects where sales are completed. But does it change the way you think about allocating capital and do you think there's a need to significantly increase your digital investment over the next few years?

Hi, Matt, this is Gary. We have significant plans to continuously upgrade our digital presence, as I think any retailer would in today's world, because you're just going to have the web part of the business is going to become more and more important and we believe more significant. But the real key to our growth there is, you have to remember, we are consistently kind of merchandising beyond the four walls of the store and sizing our assortments to the potential of the market versus limiting those assortment to the size of the store. So if you think about the books we mailed last year at roughly 1,600 pages and the books we mailed this year at roughly 3,300 pages, and the fact that we haven't -- we can't expand the store assortments in the legacy stores, so you're just inevitably going to have much faster growth on the direct side of the business, as well as that being kind of turbo-charged by the continued evolution of technology and the consumer interface constantly getting better, right? But we are completely agnostic to where the sales go, but believe we are investing wisely to build the right multichannel platform to capitalize on the opportunity that -- to enhance our market share.

Okay. And then just secondly, on the gross margin, it doesn't look like you needed to dip into the merch margin in Q3 to drive sales. Is there anything that you see in the current environment in terms of promotional activity that would cause you to need to do that? And is it possible that the Q4 gross margin could in fact be a little stronger than what your guidance implies, or does the preopening cost headwind really limit that?

Yeah, let me take part of that and Karen take part of it. First, I'd say that, since 2008 and 2009, I think there's been a permanent change to the promotional environment in retail in the United States. And that promotional environment, I think many of us thought would change post that time, but it really hasn't. There's -- we're in a constant promotional environment. And the way we think about our business and how we focus on winning is we focus on the top line and the bottom line, right, in an integrated way. And all the lines in between those, the middle of the P&L, we use ever lever we deem we need to, to maximize market share and profitability for the company, right? And so we will guide directionally but we will fight to fight daily in the business and make the decisions we need to, whether it's in gross margin or SG&A, to win the fight. So I would say that the key is to kind of stay focused on our top line and our bottom line growth. And our goal is to always grow our bottom line faster than our top line. But the middle of the P&L is -- they're all levers for us to use in a way to win the fight.

Understood.

Yeah.

Yeah. And then with respect to Q4 gross margins, we're still tracking exactly kind of what we guided on the last call, which was that 50 to 100 basis points of improvement on the half. So you're exactly correct that the Q4 guidance does imply less gross margin expansion than we've seen, and that is due to other things outside of the merch margin category. So, retail preopening rent we talked about, the preopening costs with the new West Coast DC that's going to open in early Q1, and then less shipping efficiencies than we've seen as we anniversary some of the good things that had been happening. So, still great things happening in all three buckets, but just not the same leverage that we've seen.

Great, understood. Thanks --

And that's intentional, I would say.

Yes. It's kind of playing out exactly as we had intended and as we had previously communicated.

Perfect. Thanks and happy holidays.

Thanks, Matt.

Thank you.

Your next question comes from the line of Matthew Fassler from Goldman Sachs. Your line is open.

Thanks a lot. Good afternoon. First of all, love this format. Thank you for doing it. My first question relates to the cadence of openings for next year. If you can talk about the drivers of that cadence, you know, particularly the second half of the year dynamic, and whether that four openings you're looking for today represent kind of the max you'll do or sort of the minimum that you think you'll get opened in 2015?

I think today, Matt, that's, you know, directionally what we plan to open next year in 2015. But I think -- but that number will build year over year as you look out into our plans. So -- but these are, you know, these are big, complex developments where, you know, we don't play in the middle of the mall anymore, right? We, if you think about our real estate strategy, we are either an additive new anchor or mini-anchor, and so you have a landlord developer having to basically develop a new pad for us, or we are developing something off the center or in a lifestyle center, or we are taking a historical building and doing an adaptive reuse, right? All three are very different than most retailers that are playing in the middle of the mall where you're basically taking a storefront, building a storefront, and then filling in a box. So these are complex development deals. They have long lead times. We believe we've got the pipeline full to be able to achieve our plans. But this is not something we, you know, you'll find out kind of midyear that, oh, a new deal came out, then we can get built in 16 or 26 weeks. These are one-year to a year-and-a-half builds and year-and-a-half to two-year development deals.

Got it. And then if I could follow up on the openings, I'm trying to sort of reconcile the four openings with the square footage number, Karen, that you talked about on the video. So, can you give us the rough size muscle, whether there are going to be closings as well as some of the smaller boxes alongside these openings?

Yes. So, Matt, you're exactly right that the -- those four that we talked about on the call or on the video, the Chicago and Tampa markets, are more in Q3, and then Denver and Austin are Q4. So we talked about them being back half. What's changing or what might play between the 30% and 35% is what we might do with some of the 7,000 square foot legacy locations. Some of those are still in play, for example, if we wanted to take one of them and put another concept such as Baby & Child. As we have those plans, we will continue to communicate those. So what we do is some of the closings, et cetera, and then in addition, other markets that are coming up for lease, whether we decide to renew them or [indiscernible] market [ph]. So the delta between the 30% and 35% is both the final square footage size of those four as well as what we're doing with some of the small legacy locations.

Yeah. And I would add to that, that there will be some flexibility and fluidity that we have to manage too. For instance, we have a plan in each market where we want to open and then how many of the legacy stores will close and consolidate into the new store. In some cases we may be offered a development deal from a landlord in a specific legacy market or mall or shopping area that we plan to close, and we may be offered a development deal to do a new next-generation gallery at favorable economics that, when we look at the market, our returns will be greater than if we had decided to just do one. And those are, you know, there's lots of different discussions happening today. So, you know, and if we'll kind of be market by market, store by store. And there will be fluidity. So we may have plans to close the store today, and that may -- that plan may change based on the development deal we're offered. We may keep the existing legacy store open and then develop another store, or we may close more than we think based on the transfer rates and the economies of scale of the big stores. And we're learning and testing and getting smarter every month and every year here. So there will be a little fluidity within this because of those factors.

Got it. Thank you so much guys.

Thanks, Matt.

Your next question comes from the line of Brian McGough from Hedgeye Risk Management. Your line is open.

Great. Thank you. Hi everybody.

Hi, Brian.

So I have a couple of questions about Atlanta specifically. I mean it's an amazing store, it sounds like, anything I've ever seen than anything I think you've got operated. I'm wondering, as the look of stores you've opened in the past, like Houston and a couple of others, that had really big ramps in the first year, and it's arguably been because the stores had been a lot smaller than they probably should have been, which is why I think you're growing the size of the Houston store, so here's the store in Atlanta, and I'm just wondering how you gauge if it's actually according to your plan really, like as its own, it's like, what, four, five stores in itself, and you haven't ever really had anything like it. So how do you tell if it's working or not?

Sure. Brian, that's a good question. With each one of these endeavors, we're kind of in uncharted waters to a degree, as you're pointing out. In some ways it's no different than going from a 1,600-page collection source book to a 3,300-page collection source book. It's all, you know, it's all based on math and bridges. And it's funny, I had analyst investor say to me a couple of quarters ago that, "Jeez, Gary, you're talking about -- more about the science of the business than the art of the business." And I asked them to please clarify, what do you mean art? Because I said, this is -- our business is all about math, right? And it's all about creating the right equations and formulas that allow us to kind of transfer our logic into the future and build a bridge of what we think will be. Because almost everything we're doing hasn't been done before, right? So you can't guess at it. There's nothing, you know, artful about it. It is a lot of math to get there. So let me just give you a little background on Houston or Bev Boulevard where a lot of the learnings were and the math that we're extrapolating going forward. In each of those markets, we know based on, you know, taken a legacy store from 7,000 feet of selling to roughly 20,000 feet of selling, what the math looks like, what the math looks like in year one, what the math looks like in year two and in year three, right? And what -- so we have an assumption that the stores will open based on a Houston or L.A. model, and what will be the increase in year one, what will be the increase in year two, what will…

Yes. Yes. One other point on Atlanta or one question, is, I have to think that any property developers who you could be working with in the future, if they haven't already seen Atlanta, they probably will be seeing Atlanta. So, is there any who have seen it? What have they told you? And how could this help your economics down the road?

It's transformative to our economics and our deal structure and the enthusiasm and excitement around our brand, as is Los Angeles and the Melrose store. So, you know, and that's why I mentioned on the video, you got to see it to believe it, in both of those stores. Personally, I've invested over the last several years hundreds of hours into the design and development of those stores. You think, if there was anybody who would expect to kind of know how it would feel when they showed up and know what it would, you know, what would it feel like and be like, it would be me. And I would tell you, in both locations, in Los Angeles on Melrose, on Peach Tree in Atlanta, both stores, you know, both galleries were beyond my expectations, you know, beyond my imagination. And I think that's happening in the development community. People have seen presentations, they've seen pictures, they've seen renderings, yada, yada, yada. You know, they see pictures from everybody, right? So our pitch may be better, our pictures and renderings might look better, but until you've seen it, until you've seen it, you can't really quite appreciate the level of quality, the level of design, the level of innovation, and I'd say, the level of preparation of this concept from everything else in the marketplace. And that's how we talk about it internally, right? What is the degree of separation between our business and everybody else's business, right? From a customer point of view. And the amount of separation. I think we've just leapfrogged ourselves here, right? I mean Houston in and of itself, for people who had never been to Houston, there's developers that go to Houston today and they're awe-inspired and overwhelmed, and then they want to do a deal with us. Atlanta is almost three times the size of Houston. It is, you know, three times more intelligent than Houston because we're three years smarter than we were when we built Houston, right, and designed and developed Houston. So the impact on the development community I think is going to be exponential.

That's a great answer. Everybody, thank you very much.

Sure. Thank you.

Thanks, Brian.

Your next question comes from the line of Aram Rubinson from Wolfe Research. Your line is open.

Hi there. Thanks for taking my question. Well, that was original and interesting, so, thank you for spicing up our day. Yeah. I had a question about your customers, and I guess in keeping with the video, kind of an art and a science type of question, but on the art side, can you tell us about your customers and their willingness to follow you, i.e., are you making subtle changes in design to make sure that the customer is going to follow you beyond a single aesthetic? And then on the numeric side, can you tell us about your sales growth, how much is coming from existing customers versus new customers to help kind of validate that? Thank you.

Sure. Again I can say the art side, that always dapples me because there's, you know, the art is the final touches here, but again the logic and the math is what leads us to where we want to go. The -- we say internally that we don't have an aesthetic, okay, a specific aesthetic. We have a point of view. And we curate those products and ideas that we love and then we integrate those products and ideas that we love. And through that integration, we present a unique and an authentic point of view regarding our brand and our business. And so if you just start with that idea, right, that methodology that we take, we don't go out and look for any specific aesthetic. We go out and we look for products and ideas and categories and we look for things that inspire us, that we love. And as anything in this world, we're in an evolving world. So those things we love, all of us, right, not just us here, are constantly evolving. It is -- we're in a world that is constantly evolving, we're in a world that is constantly changing. There is new ideas and new choices each and every day. So we're curating from an ever-evolving world which has an ever-evolving aesthetic. And we're choosing those products and ideas and people and inspiration in a constantly evolving world, right? So by definition, we will be a constantly evolving brand, right? This is not a brand that's, you know, I talk internally sometimes, and I can say this publicly because they don't exist anymore, those of you that's been alive long enough know about the Bombay Company, right? The Bombay Company was kind of English-inspired reproductions of English-American furniture and antiques. Their whole business…

What's that?

You know, you'll see it when it's unveiled, right? We've decided -- no, seriously, I'd make this point. I'm usually the worst to tell a secret to, right, because if I'm excited about it, I tell the world about it. And so, you know, but I learned my lesson. I don't know, it was the conference call a year or two ago, we were public, a newly public company, we just, you know, we beat the estimates by the biggest we've ever beat it, we raised second half guidance by 17%. I talked about all these new things we were doing. And I think everybody panicked and thought we were doing more than we should. And I think we also eliminated a source book mailing and whatnot. I thought our stock was going up 10 bucks, and actually it went down 10 bucks. And I said, you know what, we are now taking the apple approach. And I think it comes to what I said in the video, right? You have to see it to believe it. I think it's hard for people, for us to talk about things that we are so intimately involved in, that we can see, that we are working on, and then tell you about something that we've never even showed you, and expect you to get excited about it or understand the logic about it, right? And so you will see our ideas when we unveil them. And then they will make sense and they will be logical and I think you'll get it. And as opposed to frightening anyone, I think we'll inspire more people that way.

Thank you. And any way to get a number, Karen, on kind of the mix between --

Yeah, we don't disclose those metrics, traffic ticket, et cetera. We do track them and we're pleased with how we're performing, but that's not something we disclose publicly.

And same with new customers, you're not talking about it?

Yes. So, neither.

All right. Well, thanks again for being refreshing.

Okay. Thanks, Aram.

Your next question comes from the line of Jessica Mace from Nomura. Your line is open.

Hi, good afternoon.

Hi, Jessica.

My first question is a follow-up on kind of the process of the real estate transformation and you alluded to on another question about being three times smarter than you were when you opened Houston. So, given the lead times in these development deals, can you talk about how you've been able to apply the learnings from previous openings and maybe some of the changes you expect to implement as you kind of tweak your evolution in the future?

Yeah. Well, so I would look at Atlanta, if you visit Atlanta and you walk Atlanta, you know, and maybe the best thing to do is fly to Houston, right, and go to Houston and walk Houston, then go to Atlanta and walk Atlanta, and I think you'll see it. It's all right there, right? You'll see the space allocations that -- to each of the businesses, the expanded core, the addition of Baby & Child, the addition of Small Spaces, you know, the organization and flow of the businesses, the expansion of our interior design efforts, the expansion and integration of outdoor space. So there's -- customers, they're probably not good enough, right?

Understood. My second question is about the positive free cash flow in the 12 to 24-month horizon. Is there any color you can give us or near-term capital requirements you're expecting or kind of internal benchmarks to -- that you can achieve in order to be positive?

We’re not -- we were kind of vague on the timing, the 12 to 24 months, on purpose, because we don't have a specific -- we have many different levers we're pulling, with everything from inventory to capital, but also just as we continue to grow and our earnings expand, the cash flow we're generating with our business and the real estate builds we're seeing, all of that is going to kind of come together and we expect to again achieve that important goal in the next 12 to 24 months. There are internal metrics we're tracking all the time, but we're not going to probably get into a lot of that process on the call today.

Great. Thanks for taking my questions.

Yeah. Thanks, Jessica.

Your next question comes from the line of Adam Sindler from Deutsche Bank. Your line is open.

Yes, good afternoon. Thanks for taking my question. I wanted to switch topics for a minute and talk about the new credit program, the RH Finance. Just maybe what were some thoughts around rolling that out, given that you do typically have a much higher income customer. And then secondly, just because you have a higher-income customer, probably more sensitive to security and things of that nature, what steps you've taken to help sort of minimize the impact of breaches and things of that nature. And then I have a quick follow-up.

Sure. I'll take that. You know, what we're trying to do is make our brand as accessible as possible. And while the top of our customer list, that would be very true characterization, does not need credit, I think there are people and customers who are -- maybe shop in other places, that if they could stretch and shop at RH, they would, and the ability to open up credit and provide the kind of credit people need to make large purchases and have the monthly payment system, should open up the aperture of the market. I don't think that happens immediately, right? Because we haven't had credit before. So I think as we have credit available, as customers are interfacing with our brand and it's -- I use the example of, if we all stand back and say, how many people buy a car with cash in the world today and how many people make a monthly payment? And if the car industry was -- if you had to buy -- we all had to buy cars with cash, they'd probably sell a lot less cars. And by having the ability to have monthly payments, I believe, allows the market to open up. You know, and how many people that might have to drive, you know, a Ford or a Toyota because of credit and they look at their monthly payment, that they say, hey, you know what, I'm going to stretch up and I'm going to get a BMW. And so I think that, you know, the consumers always want to buy and associate themselves with where they want to go. All of us purchase that way, we're all victims of a material world. And the things that we acquire and the places that we live are reflections of kind of who we are and kind of how we've established ourselves and is a reflection of our success in the world. And that's why people buy luxury brands and buy things at ridiculous prices, right, because they can differentiate themselves. And I think that you've got a consumer that is always in a quest to rise to their highest level and differentiate themselves, but it's all within a bandwidth of what they can afford. And so the ability to allow more accessibility to our brands, especially as we roll out Small Spaces, right, which is also an ability not only from a size point of view to access our brand, but from a price point of view, because the goods are smaller, the goods are more accessible from a price perspective.

Okay. That actually -- sorry. Yes, please, Karen, go.

Go ahead.

No, no. Please, please.

I was just going to say, also this isn't a new program. If you look at high-ticket purchases, and this is a very similar program than the one offered by Home Depot and Lowes --

Right.

-- macros companies. You know, this is really just an extension of our current platform, so this was with our existing credit card provider. This isn't something that we did in-house ourselves. So it's a pretty plain vanilla program that again we're using a reputable third party. So your credit question, I think, the credit in this day and age, that's the risk to all retailers. I don't think it's anything that's new. We've offered these credit programs before, we don't think this increases our risk anymore.

Yeah.

Okay, great. And then actually my follow-up to that was sort of, you know, as you moved into Baby & Child and as you've moved into Small Spaces, it does seem to be someone who doesn't own a house or maybe owns a smaller house or maybe younger in age, the exact reason is to -- this was sort of the thought process behind offering the RH Finance, to try and draw that customer in, and then sort of convert them longer term. Is that the right way to think about it?

I think that is the right way to think about it. And I think it's just not people that don't own a home. I think there's lots of people that own a home and they can't really afford to furnish that home today.

Okay.

You know, and so that next level of spend, if it's thought of more like, you know, if you think about how everybody buys a house today, you don't really buy a house based on the price of the house, you don't really even buy a car based on the price of the car. You buy a house and you buy a car based on the monthly payment, right? And what is the monthly payment you can afford? So if all of a sudden you transition the perception of someone furnishing their house from, gosh, it's going to cost me $40,000 to $70,000 to do this house, to where it's going to cost me $1,200 a month, that's a completely different perception and a way to make the brand acceptable. So we're just -- we're trying to make our product acceptable to people that want our product.

All right. Thanks so much, I appreciate it. Congrats on a good quarter.

Thank you.

Your next question comes from the line of Peter Benedict from Robert W. Baird. Your line is open.

Hey guys. Thank you. Just a quick one here. Karen, what do you think -- what kind of distribution center footprint do you need to support kind of that longer-term plan that you guys kind of articulated on the -- in the video?

Well, we have the newest one coming in 2015. We've been saying that we may need to add them every 18 to 24 months. So this is right in line with that. As we begin to expand more, you know, our sales come more from square footage growth as opposed to assortment growth, our inventory will get more efficient. So that's something that could stretch that 18 to 24 months to 24 to 36 months. But that's something that we'll continue to assess. This next DC is over a million square feet, so this one should be, you know, should keep us in good graces for a while.

Yeah. I would piggyback on this point, is -- and it's an important distinction when you think about our model versus other models. When you grow a business horizontally as we've referred to it, and we're broadening our product offer, right, that's the most inefficient way to grow a business from an inventory point of view, right, because we're adding new products and new categories that we don't have history on and we haven't been able to optimize that inventory, right? So if you just think about our growth this year versus last year, the page counts run from 1,600 to 3,200, right, we didn't expand square footage by double, right? We expanded our assortment in a meaningful way. And we had a lot of new things, and you're never going to optimize your inventory. And so your investment cadence from a distribution point of view and an operational perspective are not going to be optimized. When you start to grow vertically versus horizontally, right, when you start to grow through unit growth, right, that's when you move from an under-optimized model, growth model, to a more optimized growth model, which is what -- which most people are used to looking at in retail, right? Most, you know, 99% of the stories in retail look like that. Somebody develops a box that looks like this, they carry those things. They've got 30 stores or 50 stores and they think they can have 300 or 500, right? So, a really easy model. You can think about inventory turns and inventory optimization in a real vertical sense versus a horizontal model which is the model we've had, you know, to kind of get to where we are today as we've been trapped in these legacy stores, is, from a cash and return on investment point of view, because we've got a big capital workload, and an under-optimized investment in inventory, when we start growing vertically and we start using square footage, the model shifts. And then you start to get a model that will be highly optimized. And I would anticipate in the future that the inventory turns and the optimization to this model from, not just an inventory point of view but a cost point of view, will look very different in the future, which is reflected in the long-term potential of the company as Karen laid out in her presentation.

That's helpful, and that leads me kind of partially to the next question which, 100 basis points of I guess merch margin, shipping margin improvement kind of implied over the longer term here. What role does mix play in that? Do you guys envision kind of the furniture mix being roughly where it is today, higher, lower, when we kind of get to that endpoint?

Yeah. We're not disclosing that for competitive reasons, but we take all -- we would take all the pieces and assumptions you would take, right, in building our model. So we would say that the model is reflective of our plans today.

Okay, fair enough. Thanks very much guys.

Thanks.

Your next question comes from the line of Budd Bugatch from Raymond James. Your line is open.

Hi guys. This is Bobby [ph] filling in for Budd. I appreciate your taking my questions, and congrats on a very good quarter.

Thank you.

Most of my questions have been answered, but just two quick [Audio Gap] most of my questions have been answered, but just two quick ones real quick, is, one, on the mix between furniture and non-furniture, did that change significantly this quarter versus some of the quarters in the past?

There was a little bit, about a point or so, and that's in our 10-Q, which will be filed this afternoon or tomorrow, so it's about 150 or so basis points of lower furniture versus a year ago.

Is that something that you expect to continue going forward and is that surprising in any way?

Again, it's not something that we disclose based on competitive reasons. We don't people to know how we're thinking about growing our business in a specific way. But no, it was not a surprise.

All right, fair enough. And then to follow up on the inventory, the question previously, when does the product assortment, Gary, for you get to a level where you feel comfortable with and we can kind of start to expect the inventory growth to kind of slow down below the total revenue growth? If you look out in the business and your long-term trajectory.

Yeah. What's your definition of comfortable?

Well, I mean we -- just kind of glancing at the above revenue -- I mean above inventory growth, above revenue this quarter, I mean, how big do you see or how big do you want the product assortment to go?

I think I want to see this company continue growing and gaining market share in an exponential rate versus the competitive set, so the strategies that will support that growth. Again if you want to -- if you're looking at history and you look back, it's pretty easy to look at that and say this is how we've gotten to where we are. As you look forward, I think we've given you some indications and directionally how we plan to grow, in some cases more specifically than others. But we have a big real estate transformation. And as Karen said, we have probably the most exciting product pipeline in the history of the company as we look out over the next five to seven years. So, God, I hope there doesn't come a day when we don't have any new ideas.

Yeah. And I would just add to that that we do feel very comfortable with the inventory growth. It's been actually a great thing for our business and making sure that our back-orders aren't kind of getting out of control and that the -- it's a good experience for the customer. So, very similar to the cadence of inventory growth versus sales growth that we saw in 2013 is what we're tracking to this year, such that by the end of the year, the sales growth will be more in line with the inventory growth. So that's again what we're expecting this year. And I don't mean to -- my prior comments about the product assortment. Really what we're talking about is, as we have more unit volume and more of the full line design galleries, we'll just see more productive inventory. That doesn't mean we're going to stop innovating with respect to product.

Yeah. I'd also piggyback on that. There's -- again, if you're just looking at the business based on conventional wisdom, you'd say your inventory growth should be in line with your sales growth. That's not necessarily the right answer, right? Because again if you're growing the business horizontally, there's no way your inventory growth is going to keep up with your sales growth, or you're going to under-optimize the business, right? So -- and you have to, from an inventory point of view, you really have to be looking ahead. You can't just be looking at today. So I would say, you know, I would not be surprised if our inventory grows faster than sales during the period that we're expanding the business horizontally and we were adding new businesses and new categories because we will not -- those businesses and categories and products will not be as optimized as the core existence, right? Once we've had 12 months to look at a product, once we've had our vendor base be able to manufacture a product for 12 months, they're more efficient. Once we've seen the selling characteristics of that product or that category for 12 months, then we can start to optimize. But in the first year of any new introduction, any new product, any new category, you're going to be under-optimized. So the way I'd think about the retail industry, right, is if a company is just growing vertically, they've got a better chance to optimize their inventory and their inventory, they might get leverage under inventory, because they're getting better. If a company has been growing like we have, horizontally, expect inventory to grow slightly faster than sales. Otherwise, we're not going to optimize the business and the market. Right? There's no way we could. You'd need some kind of computer algorithm that would be exactly right, and all we know is on any product, any new product or any new category, our inventory bed is going to be some degree of wrong. We're either going to be over-bought or under-bought, right? And so we operate in a bandwidth. But that bandwidth and that investment on new product, we are going to have to over-invest and be slightly under-optimized. So that's how you should think about our company. Once the real estate square footage becomes a bigger part of the story than the assortment expansion, expect leverage in our inventory. And till that point, don't expect too much leverage in our inventory. In fact, there may be cases when our inventory is going to grow faster than sales, and that's not a bad thing. Don't look at it like a typical model because you'll miss.

Thank you. I really appreciate the detail. That answers my question. And best of luck going forward.

Thank you.

Thank you.

Your next question comes from the line of Daniel Hofkin from William Blair. Your line is open. Daniel Hofkin - William Blair & Co.: Good afternoon.

Hi, Dan. Daniel Hofkin - William Blair & Co.: Just a couple of quick questions. First, on thinking about the store growth, so, roughly four of the significantly expanded galleries expected to open in 2015. Is that -- would you say that's sort of a range that you'd be comfortable with thinking about sort of beyond next year as well? Is that sort of what you think is sort of the right responsible number where you're not over-committing and you're making sure you're capturing the best deals and the right locations? Or would you expect that to kind of gradually move up in absolute terms over time?

Yeah. That was the right number for 2015 for exactly the reasons you've articulated. That's exactly how we think about it. You know, how do we get the right deal? How do we optimize, you know, optimize that investment? And remember, these deals are, once we plant this flag, it is planted. This is not a retail concept, we're taking mall space and we can flip in and out of the mall. Right? We are making a significant investment for a long period of time. So we have to be right and we have to be smart. And if it's under-optimized, it's under-optimized for the next 20 years. So the number that we are opening next year is the number based on making really good decisions. And also looking at optimizing the organization, right? Like, how much can we execute in a really good way? There's still a lot to learn here. And it's interesting, in discussions with some of our key shareholders and debates about, you know, how many should we open, how many should we not? Gary, how are you going to optimize this? We are again getting smarter. We think four is the right number next year. The number will be bigger than four the following year. Whether it's six, whether it's eight or more, we haven't decided yet. It depends on the nature of the deals and the rate of investment. But I would assume that every year after 2015, there will be more than four. Daniel Hofkin - William Blair & Co.: Okay, that's helpful. And then as far as your supply chain, I mean it sounds like you guys are continuing to make investments in sort of your own distribution infrastructure. Do you feel like there's more catch-up there or is this -- are you now more sort of in line with your corporate growth, if you will? And then other aspect of that would be your vendors, I'm sure that's kind of an ongoing focus or challenge, if you will, is to make sure that they could scale with you. How do you feel like that stands at this point?

Sure. So let's think about that, you know, the right way to think about supply chain. There's two big parts. We've said, when you think about this, the supply chain infrastructure that we control inside the company or have the possibility to control, which is our transportation distribution home delivery network, that we have been investing in front of that and trying to lay enough track to make sure that the train doesn't go off the tracks here. Because in a business like this with a complex backend, if you get behind, it's very, very painful. So we have been investing there. As we look at it long term, I think our bias is to control more of it than to control less of it. And so as we've learned, as we've in-sourced our home delivery and we learn to control -- to operate those, we see more benefit than less benefit and now probably have a view that we want to control more of it than less of it, if not all of it, right? That in the future, you know, is there a day that 100% of our deliveries in the company, from a furniture point of view, we control. And there's probably more of a likelihood that we do. And there may be a few markets down the middle of the nowhere that you say it just makes completely no sense. But you have to argue that from both sides, to say, like, okay, we're going to, you know, we're going to be a luxury brand, we're going to develop, you know, we're going to deliver really high-end product, but we're going to hand it off to somebody who might screw up that customer experience. There is a certain investment and cost of doing business at the…

We -- our cadence is to unveil our financial guidance at the end of the quarter, right?

Yeah, it's a bit early. We'll provide full guidance for next year on our next call.

Yes. So we're going to stay kind of on that cadence. Daniel Hofkin - William Blair & Co.: Fair enough guys. Well, best of luck. Great job in the quarter.

Great. Thank you so much.

Great. Thank you.

Your next question comes from the line of Lorraine Hutchinson from Bank of America. Your line is open.

Good afternoon. You spoke in the last call about a decision to set your floor sets later after the later catalogue dropped. How did that go? And how was the cadence of the quarter versus your expectations with the later book?

I think it's -- I mean if you look at our results, Lorraine, they would indicate that our results came out slightly above our expectations, which would have said that the things we thought would happen happened.

Okay. So you're happy with that decision.

Yes.

Yeah, we're happy with our results today. I mean our earnings, you know, our adjusted earnings are up 56% in the quarter, our revenues up 22, and our comps were up 22 against I think 39 last year. I mean if you take 22 and 39 and hold that up against anybody else in the industry, I think that looks really good, and it's something to be proud and happy about.

Yeah. And then, Karen, any help with the size of some of the stores for next year and the structure of the deals, whether it's build-to-suit or straight leases?

Nothing to share yet at this point. Most of them will probably be build-to-suit, but we're still going through all the accounting. It's actually a quite complex analysis. So we'll share more details on those leases as we get a little bit closer. But the size, at this point, those markets, they're about in that same target range, when we have a new target of 45. But the final plans and specific square footage, again as soon as all those plans are finalized, we'll give you the exact square footage. But right now they should all be in that ballpark.

Great. Thank you.

Thanks, Lorraine.

We have time for one final question. Your next question comes from the line of Brad Thomas from KeyBanc Capital Markets. Your line is open.

Thanks for taking my questions, squeezing me in here. Just a couple of quick ones here on the source book. I was wondering, as all the dust settles here from the doubling of the page count in the spring source book, what you could share in terms of your learnings and how you might be able to build on that success next spring.

Sure. Well, we're very happy with the results, and the results are in line with what we expect. But again within that, right, there's a whole lot of things that did better than we thought and a whole lot of things that did worse than we thought. Again when you're -- whenever you're in uncharted waters, you're going to -- so many of your assumptions are going to be some degree of wrong, you know, wrong to the plus and wrong to the minus. And the key for us here is to say, when you calculate all these pluses and minuses and try to forecast for it, were we directionally right? And we were directionally right. Again if you look at our business growing 22% up against 39%, those are by far the best numbers in our industry. No one close. And so while there, you know, there's a lot of people, you know, a lot of sideline critics saying like, oh my God, you mailed a monster book, this is not smart, it's stupid, it's not going to work, we try to look at the top line of the business and the bottom line of the business, right, and the investments we make in between those, and do they get a result that we like? We like the results. Now as anything in our business, right, I mean think about it, we opened Houston and L.A., they had the best numbers our industry had ever seen, the highest productivity the industry had ever seen, and the best economic four-wall model I think in the history of home furnishings retail. We're not building those anymore. Right? So, should we expect us to mail the books the same way, organize the same way next year? Of course not. We've never done that for two years in -- we've never done the same thing as we did last year. Ever. We, you know, so expect us to learn and to do things differently. And I think we're very excited that our plans for next year from a direct point of view. We're very excited about what happened, what we just did. But we're even more excited about what we just learned and what we're going to do next.

Great. And with respect to the holiday mailing, the holiday book and the Baby & Child, the page count on those were both up, how important are those catalogs or those source books to this fourth quarter and how has the initial response been?

Well, of course the -- I mean Baby & Child is highly important to the overall positioning of the brand, right? So it's an integrated piece of the brand. But the holiday part of the business we're not commenting on the fourth quarter. But the way, think about holiday, and I think what we're learning, and again the best place to get those lessons is in Los Angeles and in the Atlanta store. As you look at where we're going and how we're trying to position ourselves as a design authority in the marketplace, that the holiday business I believe strategically will be less and less relevant to our brand, and in some ways it's almost distracting to the long-term positioning of RH as a design authority. When you walk into these new galleries and you see stocking, staffers [ph] and things like that and different nostalgic gift items, and so on and so forth, you just say to yourself, does this render the brand more valuable or less valuable? You know, is this -- enhance our positioning as a design authority in the marketplace and leader in the marketplace or does this distract from it? Right? Is it additive, is it dilutive? And my sense strategically is holiday is right now in those new galleries rendering us as less of an authority, less valuable, and it's dilutive. So I think we will keep evolving holiday. I think there'll be parts of holiday that we will -- that will probably be less meaningful, and we will kind of intentionally evolve it in a way that -- to a place where it really should be in concert and in harmony with the long-term positioning of the RH brand as a design authority in the world.

Very helpful. Thanks so much.

Thank you.

Okay. All right. Well, thank you everyone for joining us today. Thank you. I hope all of you had a chance to watch our video prior to the call. If you haven't, I would encourage you to do so. We're very excited about the strategy, as you can tell, and pursuing our long-term vision. And we look forward to talking to you after the quarter and giving you our views for not only our performance then but our views into 2015 more specifically. Thank you and have a wonderful holiday.

This concludes today's conference call. You may now disconnect.