Rh (RH) Q2 2021 Earnings Report, Transcript and Summary

Good day and thank you for standing by. Welcome to the RH Second Quarter Fiscal 2021 Earnings Conference Call. [Operator Instructions] I would now like to hand the conference over to your first speaker today, Ms. Allison Malkin. Ma’am, please go ahead.

Thank you. Good afternoon, everyone. Thank you for joining us for our second quarter fiscal 2021 earnings conference call. Joining me today are Gary Friedman, Chairman and Chief Executive Officer and Jack Preston, Chief Financial Officer. Before we start, I would like to remind you of our legal disclaimer that we will make certain statements today that are forward-looking within the meaning of the federal securities laws, including statements about the outlook of our business and other matters referenced in our press release 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 this call, 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 these 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.rh.com. With that, I will turn the call over to Gary.

Great. Thank you, Allison and thank you everyone for joining us today. I am going to start with our shareholder letter and then we will open the call to questions. To our people, partners and shareholders, we are pleased to report another quarter of record results with adjusted net revenues increasing 39% to $989 million versus $710 million a year ago, up 40% compared to the second quarter of 2019. RH continues to set a new standard for financial performance in the home furnishings industry and our results now reflect those of the luxury sector as adjusted operating margin increased to 26.6% versus 21.8% last year. We generated $263 million of adjusted operating income in the quarter, up 70% compared to $155 million a year ago. Adjusted net income increased 105% to $252 million and adjusted diluted earnings per share reached $8.48 versus $4.90 in the second quarter of last year. This year’s adjusted net income benefited from an unusually low tax rate of 1.3% versus 16.1% a year ago due to an increase of stock options exercised in the quarter and the nearly 3x increase in our average stock price. If our tax rate in the second quarter was comparable to last year, adjusted diluted earnings per share would have been $7.21, an increase of 47% versus $4.90 in the second quarter of 2020. We generated $290 million of adjusted EBITDA in the quarter and $95 million of free cash flow. The second quarter ended with total net debt of $296 million and trailing 12 months adjusted EBITDA of $1 billion, a new milestone for RH. While inventory on the balance sheet increased 32% to $646 million, inventory on hand was $400 million, up 12% to last year as in-transit inventory of $163 million increased 85% to a year ago – compared to a year ago. Raising fiscal 2021 outlook, based on the continued strength of our business and the power of our operating model, we are once again raising our outlook for fiscal 2021. We now expect revenue growth of 31% to 33% versus our prior outlook of 25% to 30% and adjusted operating margin in the range of 24.9% to 25.5% versus our prior outlook of 23.5% to 24.3%. We are also raising our ROIC outlook for the year to 70% versus our prior outlook of 60%. Our demand growth has accelerated during the third quarter on a 2-year basis and has continued to build momentum despite cycling the most difficult comparisons from a year ago and the continued supply chain challenges that have been amplified by the spread of the Delta variant. We believe the data and current trends support the argument of a more long-term sustainable step change in consumer spending on the home. An important point to consider when analyzing the strong demand in the housing market is the migration of consumers to larger suburban and second homes. This trend is resulting in substantial square footage growth that is driving increased furniture and furnishings demand. Add to that, historically low interest rates, a record stock market and the reopening of several large parts of the economy and elevated spending on the home could very well have a long tail. Looking forward, several factors lead us to believe fiscal 2022 is shaping up to be the most exciting year on record for the RH brand as we are planning the largest new product cycle in our history, highlighted by the launch of RH Contemporary in the spring of 2022, plus our latest RH Interiors and Modern Source Books, which have not been mailed since the spring of 2020; the opening of RH England, The Gallery at the historic Aynhoe Park, a magical 73-acre estate designed in 1615 by the legendary English architect, Sir John Soane that we will introduce RH to the UK in a dramatic and unforgettable fashion; the unveiling of our first RH Guesthouse in New York; a revolutionary new hospitality concept for travelers seeking privacy and luxury in the $200 billion North American hotel market; the launch of the World of RH, a digital portal presenting our integrated ecosystem of products, places, services and spaces, all designed to elevate the RH brand and communicate our authority as a thought leader, taste and place maker. As it relates to the ongoing supply chain challenges, the Vietnamese government recently ordered a shutdown of manufacturing facilities due to the rapid spread of the Delta variant. This began with partial shutdowns in early July and expanded to full factory closures by late July. We are currently expecting manufacturing to restart in Vietnam in October with production ramping to full capacity by the end of the year. Additionally, suppliers globally continue to experience a number of challenges, including sourcing raw materials and we are seeing price increases in the majority of our product categories. Shipping also continues to be a headwind with longer transit times and higher transportation costs. As a result of our accelerating demand trends and compounding supply chain challenges, we are delaying the launch of RH Contemporary until spring of 2022. Additionally, we are pushing out the mailing of our fall source books to enable manufacturing partners to focus on reducing the backlog of core products, while ramping and refining production on new collections to meet our elevated quality standards. Based on similar supply chain challenges and uncertainty of how the Delta variant will impact the hospitality industry this winter, we have made the decision to delay the opening of our first New York guesthouse – our first guesthouse in New York City until spring of 2022. Our plans to open new design galleries with integrated hospitality in Chicago, Jacksonville and San Francisco this fall remain intact. The long view, the RH business vision and ecosystem. We believe there are those with taste and no scale and those with scale and no taste. And the idea of scaling taste is large and far reaching. Our goal to position RH as the arbiter of taste for the home has proven to be both disruptive and lucrative as we continue our quest to build one of the most admired brands in the world. Our brand attracts the leading designers, artisans and manufacturers, scaling and rendering their work more valuable across our integrated platform, enabling RH to curate the most compelling collection of luxury home products on the planet. Our efforts to elevate and expand our collection will continue with the introduction of RH Contemporary, RH Couture, RH Bespoke, RH Color, RH Antiques & Artifacts, RH Atelier and other new collections scheduled to launch over the next decade. Our plan to open immersive design galleries in every major market will unlock the value of our VAS assortment generating revenues of $5 billion to $6 billion in North America and $20 billion to $25 billion globally. Our strategy is to move the brand beyond curating and selling product to conceptualizing and selling spaces by building an ecosystem of products, places, services and spaces that established the RH brand as a global thought leader, taste and place maker. Our products are elevated and rendered more valuable by our architecturally inspiring galleries, which are further elevated and rendered more valuable by our interior design services and seamlessly integrated hospitality experience. Our hospitality efforts will continue to elevate the RH brand as we expand beyond the four walls of our galleries into RH Guesthouses, where our goal is to create a new market for travelers seeking privacy and luxury in the $200 billion North American hotel industry. Additionally, we are creating bespoke experiences like RH Yountville, an integration of food, wine, art and design in the Napa Valley; RH1 and RH2, our private jets; and RH3, our luxury yacht that is available for charter in the Caribbean and Mediterranean, where the wealth and affluent visit and vacation. These immersive experiences expose new and existing customers to our evolving authority and architecture, interior design and landscape architecture. This leads to our long-term strategy of building the world’s first consumer-facing architecture, interior design and landscape architecture services platform inside our galleries, elevating the RH brand and amplifying our core business by adding new revenue streams, while disrupting and redefining multiple industries. Our strategy comes full circle as we begin to conceptualize and sell spaces, moving beyond the $170 billion home furnishings market into the $1.7 trillion North American housing market with the launch of RH Residences, fully furnished luxury homes, condominiums and apartments with integrated services to deliver taste in time value to discerning time-starved consumers. Our ecosystem of products, places, services and spaces inspires customers to dream, design, dine, travel and live in a world that thoughtfully curated by RH, creating an emotional connection unlike any other brand in the world. The entirety of our strategy is designed to come to life digitally as we launch The World of RH, an online portal, where customers can explore and be inspired by the depth and dimension of our brand. Our authority as an operative taste will be further amplified when we introduce RH Media, a content platform that will celebrate the most innovative and influential leaders who are shaping the world of architecture and design. Our plan to expand the RH ecosystem globally, multiplies the market opportunity to $7 trillion to $10 trillion, one of the largest and most valuable addressed by any brand in the world today. A 1% share of the global market represents a $70 billion to $100 billion opportunity. Taste can be elusive and we believe no one is better positioned than RH to create an ecosystem that makes taste inclusive. And by doing so, elevating and rendering our way of life more valuable. The right people are our greatest asset. At RH, we believe deeply that the right people are our greatest asset. We value people with high energy who have the ability to energize others, people who are smart, creative and have a point of view, people who see the answer in every problem versus those who see the problem in every answer, people who are driven, determined and won’t take no for an answer. We value team players, people who are more concerned with what’s right rather than who is right. DeMonty Price, our Chief Operating, Service and Values Officer, often says, the right people are our greatest asset and the wrong people are greatest liability. He also reminds us that the right people are a reflection of all 11 tenets of our people value above. I want to thank the right people who bring our vision and values to life each and everyday. The 11 out of the 11s as DP would call them. Thank you for your energy, your point of view, for not taking no for an answer, and for being more concerned with what’s right rather than who is right as we continue our quest to become one of the most admired brands in the world. Carpe Diem. At this point, I will open the call to questions. Operator?

Thank you. [Operator Instructions] Your first question comes from the line of Steven Forbes from Guggenheim. Your line is open.

Good afternoon, Gary, Jack, Allison. Gary, given the combination of supply chain challenges, rising cost pressures, which I believe is driving rising retail. Curious if you could just discuss at a high level whether you are seeing any changes in customer engagement or customer conversion trends as well as cancellation rates. And the idea is just trying to gain a level of comfort here on what’s driving your conviction to raise guidance yet again this year as we look towards the back half without having, right, this new product launch, potentially stimulating more demand?

Yes. Well, Steve, I’d start with the fact that we have insights into the quarter. We are relatively well into the third quarter today and we have accelerating demand in the quarter kind of month over month already. So – and we can see – just stand back and think about newness is going to add to a very large business we have here. It’s not going to replace the very large business that we have. So, the underlying business is very healthy. We went through a period of our highest out of stocks and highest back orders that we ever experienced. Our inventory levels are starting to get better. And even though we are delaying the launch of Contemporary, we are delaying once again all the newness that would go into RH Interiors, RH Modern, RH Rugs, RH, everything else, beach house, ski house, everything else we would normally mail. The guidance is our best view of what we see. And I think if you just, I don’t know look at the last 4 or 5 years of history since we kind of reconceptualized the supply chain and moved to membership in 2016, I don’t think we have missed a quarter in 5 years. So, I don’t know how much more conviction or pattern recognition you would need.

No, that’s helpful. And then just a quick follow-up, as I think back to the first quarter letter, there was commentary about the broader international pipeline. I think it was 5 leases were signed, 5 in final negotiations. Any update on how that pipeline has come together? Any update you can provide would be helpful? Thank you.

Yes, nothing really new or we would have talked about it in the letter. It’s a little difficult to kind of travel and negotiate an international business right now, so – and coordinate the kind of meetings and conversations. But nothing has changed. I think we still – we have kind of 5 deals that we are moving forward with. We have multiple deals, 5. We are looking at more. The pipeline as far as opportunities that we are looking at is going to continue to grow. As you know, our galleries are very, very unique and not somewhere you could just walk to a street and find a building that we need. So – but we are confident that we are going to be able to scale the brand. We are one of the only people in Europe with any kind of a specialty business that can sell up multiple levels and multiple floors that can use gardens and rooftops and so on and so forth. So – but our focus to launch the brand is the number one priority in the company right now that and the expansion of our product. And our hands are a bit tied on the product and less tied on the international expansion, but unless something else drastically changes in the world or with new strains of the virus, we feel very confident that we are going to deliver everything that we have just put out in this letter. So, this is our best thinking today and we are really confident about this. If something new changes, I don’t think when we talked last, there was much of a Delta variant or anything that was happening yet. So, I went on vacation in July and – but like masks are off. And while it wasn’t that interesting, threw all my masks away and came back to work and needed to buy new masks. So, the world is changing quickly here and I think we have all got to learn to improvise, adapt and overcome at a whole new level, but you build new muscles. And I am extremely proud of the team for our execution thus far. If you would have asked me a year ago, when we were running 47 comp in August, I think that was our peak month guys, right, in the core business. Were we going to come around in comfortably comp 47, I wouldn’t have said that I would be confident about that. Based on the fact that August is in the rearview mirror and the first couple of weeks of September looked really good and our in-stocks are starting to get better a bit. And we have flow of goods coming, but we focus the flow on our core business, on our best sellers and the things that drive our business and as we should by the way. The customer is not going to walk in and go, oh, where is that? I thought you were going to have that. They have never seen that. They have never seen anything new. There is no expectation, right. And our business is one, if you think about it it’s not really an impulse business. I mean you are furnishing a home. It’s not a big impulse business. You are planning it, you are shopping, you are working with designers, our time with the consumer is weeks and months to do an order. So, even if the newness comes in, there is a multiple month kind of ramp period. But I will just say – I would stand back and say what would – like if we were selling cheap goods, a lot easier to kind of bring in cheap goods in the market right now, right. We are selling the highest quality goods at scale in the world in the home business. So – and we are trying to elevate the quality of the goods. So, the next round of goods is a whole another level of quality and design. You don’t rush quality. You wait for it. And guess what, people pay for it. And so like if someone thinks they want to measure us in a pandemic where there is a lot of people that are sick and dying in Vietnam right now. And I feel terrible for what’s going on there. You have people that – their lives depended on it to feed their families and they can’t work. So we are going to be okay here. Our business is ripping. So, we have like – I mean maybe somebody else has 40% 2-year growth, not many. I don’t think anybody is going to have the 2-year growth that we are going to report in the third and fourth quarters because our business is accelerating. So – but I’d just focus on the big picture and what’s really important. And what’s really important is our demand is building. We have had some of the best business in the industry. We are taking market share. We are expanding operating margins and there is people sick and dying out in the world today. And you have got to make the right decisions, help them prioritize their lives, do what’s right for the long-term, not – it’s like I have told the team from the very beginning of this pandemic. We are not going to chase every sale here. We are lucky. We have had a tailwind. Most of the world has had a headwind. People are sick and dying for almost 2 years now in this world. Our business is doing great. We feel blessed.

Thank you.

Thank you. Our next question comes from the line of Michael Lasser from UBS. Your line is open.

Good evening. Thanks a lot for taking my question, Gary. Are you planning for your path over the next few years from a sales and a margin perspective to be linear? You have all these initiatives in place, some of them are being delayed from this year to next year, that’s going to mean some costs shift from this year to next year. So, should we be modeling your business that sales and margin over the next few years continuing to build year after year?

Yes. Michael, we are not giving kind of detailed guidance over the next couple of years. I would say – it’s like someone will ask me, well, gosh, you are saving money. So, your earnings are up because you are not mailing your catalog. Well, we don’t mail our catalog and get to zero and we don’t mail our catalog to lose money. So we are not mailing our catalog, so we are not getting revenues. Yes. So we invest in things that drive revenues and drive profit. Where we have got new business investments, where we have got to make some infrastructure investments as we launch Europe and things like that, of course, you are going to have some initial period to ramp. What does that look like when we open in a new country, let me see, let me look at past data. Oh, I am sorry, I don’t have any. I don’t mean to make a joke about that. But I just like – there are some things – if you can waste a lot of time thinking about, I think what we have got to do is open great consumer experiences in Europe, we have got to launch with a great website. We have got to launch with real intelligent marketing. We have got to be prepared to execute whether the first year is $50 million or $250 million. You tell me like, hey, let’s stand back and think about this for a second. There is 39 million people in California. If I had new exciting design galleries in California, California would be, I don’t know, an $800 million business for us, maybe a little bit more. There is 68 million people in the UK. There is relatively similar demographic, slightly wealthier in California, but more people. So I would say, California, when we continue to expand the brand looks like a $1 billion business. Let’s call the UK $1 billion business. Let’s call the UK today, $800 million. What happens when you have a brand that’s really well-known in a very small market like ours, right, like we are at the top kind of – they are very top of the pyramid. There is not a lot of people there. They have a lot of money. They have a lot of homes and they spend exponentially on the home. They directionally – I mean, that some of the data we have seen and some of the research we have seen from some of our large investors who have done pretty deep research, done their own research and have research – interior designers in the UK and in France. And what percent of interior designers know us like 80%, 90%, so almost 100% in some cases – so they know us. They are a key customer for our business. High end consumers, I think pretty much know us and admire us. So, what happens when you open an incredible 73-acre estate probably will be one of the most exciting, innovative retail experiences in the world. Granted, it’s a bit outside London, but our business is a destination and what happens when you have launched with the website with – you have 40,000 SKUs and the most dominant assortment in the country. And you have relatively high awareness. I don’t know, I got to believe it’s going to be better than other people that target a big, wide audience and don’t have high recognition, because they have got to spend a lot of time getting known. So, I don’t – I really don’t know if first year sales in the UK will be $50 million or $250 million. That’s our range. I know directionally what we have to spend, but I am just trying to be honest with everybody here, no matter if it’s $50 million or $250 million, it’s going to be really big over the next couple of years. So we are going to learn a lot when we get going. And I think I say that to kind of go into a long ramble on a question. And I say that so I don’t get the same question four times in a different way, yes.

Understood. That’s helpful. My follow-up question is you are articulating a lot of enthusiasm and confidence for the back half of the year in part because of the quarter-to-date trends, the demand comp the 2-year accelerating based on what you experienced in the second quarter. Can you give us what the second quarter demand comp was so we can have a calibration for our models on how that metric unfolded?

Yes. It’s just too crazy right now. Look, I don’t want to make it a habit. We gave demand comps during the most kind of crazy time of the pandemic in the first year. And I don’t want to give demand comps for the rest of our lives, right. It’s – I think – again, I would – just like I answered Steve’s question, I think we have a pretty good track record of doing what we say we are going to do. I don’t think we have a track record of guiding aggressively. So, the numbers may look aggressive to you. I am sure Q1 looked really aggressive to everyone, right. We took the numbers up pretty big when we reported Q1 earnings and our stock went up $100 in one day. And yes, I have got a lot of questions like how do you really picked the numbers up? Do you think you’re going to make them? Yes, yes. So I don’t know – so, it’s not like someone hands me a sheet and says, here is the recommended guidance, Gary. I sit here with 20 people for hours and hours and hours going through categories and trends and every detail on our business. We turned over every rock. We gain alignment and clarity. We gain clarity and then we gain alignment on where we believe the numbers are going to be. And we have been doing it long enough that we have gotten pretty good with it even in a time like this. So, I think we were one of the first ones to start giving an outlook. Now, lot of people didn’t even give any kind of directional guidance for [indiscernible] we did. So – and we did because we are confident that we know our business. If something massively changes in the world, got it, all bets are off, but based on what we know today, based on the data you are looking at and we are looking at yes, this is our guidance. It’s generally not too aggressive.

Thank you very much and good luck.

Yes, yes. Perfect.

Thank you. Your next question comes from the line of Max Rakhlenko from Cowen & Company. Your line is open.

Great. Thanks a lot. So a couple of bigger picture questions here. So, the first one is, Gary, what do you think is your share of the luxury segment of the market today. You had a comment in one of your recent letters that your competitors are closing or downsizing their stores. And with RH continuing to transition the galleries, longer term, where do you think your market share could go over time?

Yes, I say we have a clear line of sight to $5 billion to $6 billion in North America. And that maybe bigger depending on the product innovation and elevation and all the concepts that I have articulated, which are really not all of them are even in that number, right. So I’d say to not hit the $5 billion to $6 billion, something would have to go really wrong here. If we just continue to transform existing galleries to design galleries and launch contemporary and it does directionally what we think it’s going to do, continue to expand and upgrade our product assortments and interiors and modern, expand our rug business, build and dimensionalize our textiles business, continue to build and expand our lighting business and add the new categories and if we are directionally right, does that number get bigger than $6 million, more likely than not. But today, we are very confident about $5 billion to $6 billion in North America. So, I think to do that we have to take market share, right, like take Marin County here. We had a gallery that’s doing about $18 million. And we have a new gallery that we opened – I mean, I might even be able to throw a football and hit our old gallery from our new gallery standing on the roof, maybe, but it’s not very far. It’s like a 20 yard pass. And I don’t know how many people have done this before, but we are – we opened a new gallery and it’s trending, what guys did about $50 million, somewhere in that range. And I think it’s a combination of us creating a new market, because people are seeing products that they have never seen before presented in a way they have never seen before in an environment that’s inspiring and interactive and full of light and fresh air and theatrical presentation. We call them galleries, because we say it’s an artful abstraction of home furnishings in a gallery setting, right. So, we don’t really just merchandise our stores. We create kind of artistic installations of home furnishing. So, people haven’t seen anything like this before. So, I think it – from some degree, it creates a new market. But some of the math I give people an example say it’s like if you take our Marin’s – RH Marin because we are talking about that one right now, yes, 5 years ago, 4, 5 years ago, there were 32, what I’d call higher end home stores from Sausalito to Santa Rosa, including the Napa Valley. And I am not going to name them, because who knows – people are sitting on the phone listening to our call, but yes there is small boutiques, mom-and-pops some regional players. And their stores are about 3,500 to 15,000 square feet. Our gallery was about 6,500 square feet. So, it’s kind of in the middle. In our gallery here in Marin, we – I think we had 5 sofa collections – 6 sofa collections, right, 5 dining collections and 5 or 6 bedroom collections in the gallery. So, the other galleries, if we are right in about the middle, we had – yes, we looked like everybody else kind of we weren’t really differentiated. And by the way, in that gallery when we closed it, it had less than 2% of our assortment, right, like 2% call it, maybe 1.5% of our assortment. So, you couldn’t really see our assortment in that gallery. That’s why we mailed really big books, right. Because if you saw our big book hit your doorstep and other people’s thin books, you would go, hey, those guys have a lot more than everybody else, because if you just went in the physical world, we don’t look like we have any more than anybody else where we have our traditional galleries. Now, our galleries in and of themselves are legacy galleries probably outperformed competitors, 3 to 4:1 in the same square footage. But when we open a big gallery, I always tell people that the 32 is going to – 32 kind of call it maybe could be competitors, higher end home boutiques and generally more expensive than us, long wait times, don’t have the infrastructure. And – but I’d say half of them go away pretty quickly. And we will do another survey and do the count of did it go after year 1, did it go from 32 to 25, did it go to 32 to 18, did it go to 32 to 10? But yes, we are not – it’s just not completely a new market we are creating, but it’s like I compare it – don’t take this wrong – they will probably write this on some letter, Gary Friedman now in comparison to Apple, like I can’t remember who had last time you said something that was claiming that I compared us to some – to Hermes, that’s right, it’s talking about the financial model. But Apple was kind of the last people into the cell phone game, but they created a new game. They created a new market. It was more than a phone. So, it created a new market and it also took massive market share. I think directionally, we are kind of similar to that. We are creating a new market and we are taking market share pretty aggressively on both sides at scale. And I think when I – when we look at Europe, just to kind of talk about that for a second, if the competitive landscape in Europe is significantly weaker than it is in the U.S. So I think we will be even more disruptive and differentiated in Europe, and that’s why we’re very confident about it.

Great. That’s very helpful. And can you discuss your cash deployment priorities. You’re now sitting with almost $300 million of cash on the balance sheet. And with free cash flow set to accelerate over the coming years, you’ll have a lot of opportunities. So how are you thinking about reinvesting back in the business versus M&A or ramping up share repurchases? Thank you.

Thinking about all of the above, Jack, I don’t know what.

Yes. I was going to say the same thing.

And even more things, yes, but I mean...

This is every quarter, and I think we answered it so...

Yes. We have a cash chessboard sitting here. So we – there is all kinds of moves and just waiting for the right time to make the right moves. But we’re looking at a lot of things whether it’s investments into the business and innovation in the business, whether it’s investments into M&A and acquisitions that will strengthen our positioning or elevate our business and brand. We’re thinking about share repurchases and everything you think that we’re probably thinking about we’re thinking about. So – but we tend to be opportunistic. And so – and patient. So we will – at the right time, I think we will make a good move on our chessboard. Right now, all the pieces are still there. We haven’t moved anything yet but we contemplated a lot.

Understood. Best regards.

Thank you. Thanks, Matt.

Thank you. Your next question comes from the line of Adrienne Yih from Barclays. Your line is open. Excuse me, Adrienne. Can you please unmute your line? Your line is open now.

Hi, Adrienne. You might be unmute.

Hello. Can you hear me?

Yes, we can hear you. Hi, Adrienne.

Hi, sorry about that. I just – I don’t know that happened. Congrats on the consistency of the success and the progress. Just awesome to see this. Gary, I wanted to continue to focus on the European opportunity. The $15 billion to $20 billion outside of North America, can you talk about specifically the TAM in Europe. And I guess really what I want to know is it really feels like RH Contemporary is going to come online. It sounds like there is more investment, more design, elevating the product overall. And as you shift into the international market, do you feel that the target household income or the demographic is materially different than sort of where RH has been, maybe, say, over the past 5 to 10 years. Just seems like there is a greater appetite and appreciation for luxury brands and goods when we kind of cross the pond. Thanks so much.

I don’t know what I could add to that. That’s how we see it. No. But we have – I mean, let’s start with the global opportunity. Again, it’s directional math. It’s based on looking at the pie in many ways, wealth, consumers, housing markets, the high net worth, ultra high net worth ratios. It’s based on looking at luxury brands and penetration in volume. And in – so we’ve looked at the math in multiple ways, and I think we’re directionally right. If you were here, you’d see a big giant room where about 40 people get together, generally on Thursdays, big cross-functional team. And we’ve got all of Europe. First, we had the whole world and it’s just too much to look at. So we said like, yes, right now just get the rest of the world in the next room. Got it at top line, but let’s really break down Europe and understand it, understand each country. Go deeper. Look at other people’s approaches and real estate strategies, whether it’s – not everybody that has an app phone shops at RH. But most people at the high end of the market, spend a lot of money at Apple, I’d say. So we look at where the Apple stores, where are the iconic Apple stores, where are the big suburb Apple stores. Where are other businesses that we’re familiar with. Where are the luxury – players in the suburbs. The hardest thing in, I think, in Europe is going to be – we don’t know their suburbs like we know our suburbs. We don’t know their market like we know their market. Now we’ve expanded our team. I think we’ve got a great leader. He knows Europe very well. But there is no one like us, right? There is not a real comp. But there is enough similarities that gives us confidence as we dimensionalize what we believe the market opportunity is at least today. So – and again, I – as I look at it, I think – and I believe most of our senior team and not – I don’t think it really influenced by me because we tend to just debate everything here. And what I usually say – if Eri Chaya – if I say something and she goes, Gary, like it’s like usually – sorry, Eri, she’s sitting right here. But she says that all the time, by the way. I would say she keeps me out of the ditch. But – so – yes, but we spend a lot of time together cross functionally debating this. We’ve had people who we have a lot of insights on European expansion and so on and so forth, we feel good about that. As we – I think we’re going to be some directionally right. And that’s all you need to be at this stage. You don’t really want to boil the ocean. It doesn’t – it’s – I say like it’s like the settlers that came to America some people said, hey, go West young man, there is gold in them there hills. Some people just go West, and they kind of hit a Sierra Nevada and there is gold. Other people like we’re sitting in Boston, trying to figure exactly where on the West Coast they want it to be. And by the time they have gotten their horse and carts, the other people were – they were like getting to the Sierra, Nevada. So we don’t exactly – does it really matter if we’re $10 billion off? Would we not do what we’re doing today? It doesn’t really matter, right, like if the opportunity is only $15 billion or $10 billion in Europe, does it matter? Would you not go? That’s – I mean, that’s the kind of stuff I say to the team, so just being transparent. You just – you go and you go to Europe first. It’s the most familiar, it’s the most connected. So anyway – and then I say the idea that the target demographic material is different than where RH has been over the past 5 to 10 years, yes. Here it is, and it’s going to be there. And it’s going to continue to evolve. We’re going to continue to go up. I think we will continue to shed consumers at the bottom, and then we will grow consumers at the top of the funnel, where there is exponential spending. And by doing that, I think all of a sudden, long-term, will pull people up because the brand will be more aspirational, people will save to buy our sofa. There is a demographic that will be younger and less affluent. But they will have great taste and style and they would rather have a few good pieces, then a whole bunch of crap. And that’s the way I grew up. I remember when I bought my first [indiscernible], it’s like at $65 a week. I mowed a lot of lawns to get that intensity. I didn’t buy a crappy Montgomery rewards bike and so I mean it’s that kind of stuff. And I’m sorry I don’t mean to overly simplify it. But there is going to be consumers that they want a part of a part of the very best in life and they aspire to it. Like nobody thought the Apple phone was going to be the number one phone in the world. Nobody thought the Apple phone was going to sell in China. It became the best-selling phone in China. Like people want better quality all the time. I mean, Gavin Grover, our lawyer says this to me all the time history has proven that people want better and better quality. And the world is generally – heads in that direction. So we think, again, we’re going West. There is gold in them there hills. We’re going in the right direction. Yes, we’re going to be fine.

Gary, I love it. It’s great. Fantastic. Appreciate it.

Thanks, Adrienne.

Thank you. Your next question comes from the line of Chuck Grom from Gordon Haskett. Your line is open.

Good afternoon. Nice quarter. Gary, just curious on the long-term opportunity as you see it for RH Guesthouse. And then in your prepared remarks, you spoke to the migration of consumers to larger homes and the demand that’s driving. I was just wondering if there is a way to contextualize the size of that demand. Thanks.

Yes, I don’t think anybody has got the real data on it. But the key is there is been an exodus from cities. COVID was the stimulus for that. And I’m not the one that made this up. Actually, one of our big shareholders identified this early on. And they said they did math – their math on this and it was going to exponentially they thought, play in our favor. And then we did some kind of smaller research you indicated, but that’s what’s happened, right. You’ve had people migrating to suburbs, migrating to second-home markets, places like Napa, Aspen, the Hamptons, Palm Desert, kind of second-home markets like that, that are drivable for people that they are at some distance where they could work part time in the cities but live out of the cities. Those markets have exploded. You can’t buy homes in the nice suburbs. I mean it’s just multiple offers and rising prices. So – And so the simple math is this, like take a – someone lives in a 2,500 or – foot apartment in New York or very nice 3,000 square foot apartment and they have moved to a house in Greenwich, what’s the comparable house in Greenwich 6,000 to 10,000 square feet, could be 2 to 3x a square footage. Those rooms aren’t going to be empty, not if they can afford to furnish them. So that’s kind of a good thing for us. And that’s why I think that even without any newness for almost 2 years, our 2-year comp is growing. So – and what’s the main thing that changed is we’re in a much better stock position like back orders are down 10 points or more. It’s like with the latest word. I mean they don’t tell everybody just hold your fingers up to me. But like the last time I looked at a couple of weeks, go down about 10 points, even more than 10 – more than 10. So as back orders are going down, demand’s going up, right? And that makes sense. Like I mean, our back orders at their peak were 4x normal. Yes, 4x normal. And so now they are down to probably 2.5x normal. Yes. And they should get better because I think we’ve done a good job prioritizing production and flow. And I’m glad we didn’t try to newness because newness usually takes longer – I think it’s going to be great. I think we will have the best newness introductions we’ve ever had in our history. We’ve had more time to refine samples, to get things right, quality sure things are – we’re not rushing our manufacturing partners. And so we will have – by the time newness launches, we will have 2 years of newness, four seasons of newness. I don’t – we’ve never launched that much newness at one-time. I like people are going to think it’s like Christmas again at RH, we don’t even sell Christmas stuff, but it’s going to be like what the heck just happened. I think that the aesthetic evolution and the quality evolution of the brand will be shocking to the consumers. It looks so good. I mean I seriously I wish everybody on the phone, including all our people because I know we usually have like a lot of our teams, all our galleries probably have an open line. Our DCs have an open line, and there is probably a couple of thousand people in our company listening to this call, maybe more. And like I wish I seriously right now, we were out of COVID. We can get everybody together and take everybody through what’s coming. Contemporary is shocking. It’s so good. It’s like I thought modern was great, contemporary the best work we’ve ever done. It’s just going to open up the aperture of the brand. I think people at the highest end, the highest end interior designer is going to go, what did they just do? Like it looks so good and this maybe 20 interior designers in the world that we’re not going to completely impressed. It’s like they are really silly rich people that use them. Like everybody else, yes, they are just going to go, we better joined that movement there or we will get less behind. It’s really, really great stuff in the pipeline. And we’ve had a lot of time to refine it and make it better. We will probably have – we will launch with the lowest returns, the lowest damages, all the kind of things that happen when you ramp up new goods, new factories, if you have new materials, new materials, new construction, especially with a big aesthetic move an opening of an aperture like we’re going to a contemporary. But even the product interiors to modern the new stuff and the quality impact that our teams that are working on couture and bespoke, we have like some of the greatest experts from the highest end of the industry. So I wish I could talk about them, but I am not allowed to announce anything. But like a couple of them are sitting in the room right now, they look like they are going to – like they have their masks on, but you can tell they are smiling and turning red. But like the best. Now, we have some of the best people in the industry. When the industry here sits on our team, everybody is going to go. So it’s just great stuff coming. I couldn’t be more excited. I just wish everybody to be here and see it. And yes, but that’s okay. We will just make it. The good news is, like we keep making it better. So every season, we delay it like it gets so much better. So it’s between now and next spring, it’s going to continue to get better. The presentation, the execution and so we’re super, super excited. And I think that the market is – I think there is – look, I was the guy – I have the guys thought there’d be a recession in the last 5 years. I was like I was ready for a recession the last 5 years. I’ve been really wrong. Instead what happened, the pandemic. So – but now I’m finally thinking, okay, I called this wrong, I never thought we’d be comping 47 comp with no new goods. And back orders at 3x historical rates, 2.5x historical rates, and – but we are. And so I think that again, the home business, the home – people buy a home, they don’t furnish it all immediately. It’s over a period of time. It takes a long time. I mean, right now, you can’t get a contractor to remodel a bathroom. You can’t get interior designers are all backed up. Our teams have been backed up like customers complaining like how come I have to wait so long for an interior designer. I mean they are all busy. Professional services around the home are all busy. There is not enough homes. There is not enough people to build homes. There is not enough people to design – do interior design. There is backups everywhere. So, even if – and we are at record levels everywhere. So even if the market slows down. If you go to the home business is a little offer, Pulte took numbers down a little bit. The question is, did Pulte take numbers down a little bit. How are those numbers compared to historical numbers? They are still really good numbers. And so if you’re in our position and you’re kind of a brand without a lot of peers and building a market of one, and you’re the place to go and especially where we have these new galleries that are having outsized growth, right, there is – like we’re in a really good place today. So I just think that I’ve gotten more optimistic. And look, my fault that we have the highest back orders too. I cut the inventories too aggressively. And then when the trends went to 20, I said by 10. When the trends went to 40, I said, they’ll never stay there by 20. They are only going to be there for 2 weeks and then they didn’t stop. So listen, the fish thinks at the head, right? Like I kind of screwed a lot of the stuff up too because I didn’t make some of those calls were just kind of risky. You don’t want to – you all a sudden buy a 40% increase. And then you’re kind of pregnant with all the inventory and the sales dropped from 40% to 8% to up 8% and you’re like. So we’ve been chasing the whole time, probably a lot of – I’m probably not the only person that was too conservative by an inventory. So I think the pent-up demand and some of the commentary in the home business about pent-up demand, I think it’s all kind of right. And even I think about why I got the economy wrong over the last 5 years. I think there is a new economy. When you think about the dynamics of the current global economy, the stock markets and what’s driving everything, there is new businesses. There is new kind of companies. There is new industries that are being formed. They is faster and faster innovation and technology is changing the world in an exponential way. So look at the last recession, which was now like they can’t believe like go ‘08 or ‘09, it was like going on 14 years, ‘08, right like we are going to be in ‘22 pretty soon. The long – I think the longest economic expansion in the history of the United States before that was 11 years, right? So we’ve never seen this, right? And even through a pandemic, which was like a kind of, I guess, a recession, but not normal, right? Like so I think there is this underlying structure of a new economy that is making businesses more productive I think about how much more productive we are because of technology and the things we’re doing inside the company, at all levels, and how other companies must be more productive in all the new innovative kind of companies that are changing the world. And I mean in ‘08, ‘09, I think there was two companies that were $500 billion like GE and Exxon, right, or something like that. Like maybe Apple, I think, was getting close. Now there is multiple $1 trillion companies and many more $500 billion companies and they are growing. So I think that there is a lot of things that are different that probably are harder to see because of the pandemic. But when I try to listen to the people that are way smarter than I am about this, there is a lot more optimism in the smartest people I know who have generally been more critical and pessimistic. So – and yes, they try to listen to them and connect the dots as it relates to our business. So – But I think things are very different. I think the pattern recognition of before, there is probably just going to be all new patterns that we have to be prepared for.

Thanks, Gary. That’s helpful. My follow-up is just you talked about Pulte. And I’m just a little bit curious on RH residences. How that’s going to be implemented. I guess, what’s the time line on that? Just any more color on that would be interesting to hear. Thanks.

Yes, just really long-term. We’re going to test some things in Aspen. That’s where we will have a controlled month of an ecosystem. And a lot of this is going to benefit the brand. It’s just as far as awareness and kind of place making and becoming a tastemaker and a place maker, and a space maker and so on and so forth. So what we learned from these things. I think that’s the other thing that people underestimate when you do new things, it’s not just about the new thing. It’s about building new muscles and getting smarter and solving new kinds of problems, and as human beings growing exponentially, right? And having individuals and an organization in an upward fire of learning and growing. That’s what invigorating for humans. And that’s what makes great companies invigorating. So when you stop inventing and you stop learning, and educating and it’s even like – it’s so funny to think when it grew up with the Gap, we had all these formulas training programs and all this stuff, and I like it’s a training program for everything, like as big manual. And I think like, you got to have all step. And realize like many of those years early in the Gap before Mickey Drexler got there. It’s all about management, right? And it wasn’t very exciting, growing up there back then until Mickey Drexler got there, and then things changed. And I think when you’re inventing and innovating, it’s just really stimulating for smart-driven people because they are learning by doing. They are learning by being involved. They are not learning by studying an operational manual. They are not in some theoretical training class talking about theoretically how you might do this and being taught by someone who has never done it. And so we kind of like do ship here, like we get into it. And we get really involved and we all get really deep and it’s just super exciting. Someone with that, I’d be more excited than any point in time in my life at my age, it’s impossible. I’d say no way. Like I’m so excited I can’t sleep, which is not good for my health. But it’s seriously, that’s – I’m so excited I can’t sleep. Yes. There is no – yes, it’s kind of a beautiful thing for people that really want to create and invent and evolve and grow and do new things. And that’s why one of your questions about what exactly do you think Europe is going to be? I don’t know. Like how much volume did I think the big galleries are going to be, do I think they are going to be as big as they were. It’s been exactly – in November will be exactly 10 years since we opened RH Houston. We opened that, people said it was the best retail home store in the world, maybe one of the most beautiful retail stores in the world. The 10-year lease is up. We’re going to tear it down and we’re going to build a store 4x bigger. Like how many Houstons did we build kind of two. We’ve got one there and we built one in Scottsdale. And then the next thing we did was 2x bigger, then 3x bigger. And then. Like I remember me with some people on the Board at the time that really want like Houston was so great. They said, just roll this out, just do Houston. I don’t think anybody that’s sitting at this table that I’m looking at right here right now or any of the people in our leadership team meetings. I don’t think anybody would be here if we were just rolling out Houston. I think we’d have a completely different, uninspiring management team. And I don’t know if everybody knows this, but we don’t even use the word manager in this company. Like we’re allergic to that word. Management is about kind of arranging and organizing the status quo. Everybody here is titled a leader, right, because leadership is about taking people somewhere they have never been doing something they have never done. And we say leaders have to be comfortable making others uncomfortable because you’re in uncharted waters all the time. And when you get comfortable with that, it’s exhilarating. And – but I think we’d have a completely different team. If we were just like shooting at the same target the same way, just kind of organizing and arranging the status quo. It’s not what we do. We just say here, like, is it directionally right? Is it strategically right? Is it more right than wrong? Is it asymmetrical risk to the upside. We do tons of math. We think really hard, really deeply about it. But then we get going because that’s when you learn. That’s where you grow, and you get going. And then just going to learn exponentially faster than everybody else. And that’s – so residences and stuff like that, like if they are going to come in Aspen might test and try other things. Jack and I met with an incredible guy. He’s probably on this call. I’d say your name, but can’t do that, but incredible. Like super inspiring, grew up in the business. He has sought us out and wants to help put a dent in the universe with us and create a whole different kind of home business. And he knows like so much more than we know about building homes. And it’s exactly – like a lot of times in our organization, what gets these ideas going is the right people, right? Someone comes along and has – knows more than you do, has greater vision about the idea than you do, is ready to go and excited to get going. And then you go, that’s when it’s time to go. We know it’s directionally right. It all makes sense. But you need someone to kind of really lead us all there. And so if you’re on the call, you know what I’m talking about. You got my e-mail the other day. Ping me back because we were traveling for a while so we lost touch. But – and if he joins the team, you’ll probably hear about RH Residences sooner than later. And that’s how it comes together. Yes, so...

Thanks you, Gary. Perfect.

Yes.

Thank you. Your next question comes from the line of Curtis Nagle from Bank of America. Your line is open.

Good evening. Thanks very much. Just I guess, Gary, a product question on RH Antiques. At least to me, that’s a new one. Would you be able to give just – I don’t know, maybe sneak peak in terms of what you envision for this collection and how you might integrate it with the entire offering.

Sure. Yes, I’d say go into our – one of our new galleries and go, just walk through and count how many antiques and artifacts are in our galleries. A lot. People want to buy them. And we have to say no all the time. Every once in a while, they make us such a silly offer, we say yes, and then we replace them. Well, we have to say no to some of the silly offers. We had some really cool stuff in our galleries and it all renders our product more valuable. And it’s no different than people’s homes where they want to be really unique, and they want some things in their homes that makes it theirs. So while RH Antiques & Artifacts will be limited to a degree because you can’t go manufacture them. What makes them unique and special is there is not that many. And so – and I think we’re good curators of it. I mean we have warehouses of antiques and artifacts. We’re probably – as a buyer of antiques and artifacts, we might be the biggest buyer in the world. If I told you what we spend on a new store in antiques and artifacts, Eri’s shaking her head, I’m not going to tell them, you’d be shocked at the number. But walk a gallery and you could probably take a little pad out or you guys take the phone and do the calculator and you probably walk you probably get close enough if you guessed. But if you really look at it, like, yes, they really help us look unique. And our customers want their homes to be unique. So we have some of our team in here a leader galleries that are all shaking their heads, yes. So that’s how to think about it. It’s about all of these things in integration, not in isolation, right? We don’t think about anything that we do in isolation. When we do, we’re usually wrong looking at it incorrectly. So everything we do has to render everything else that we do more rather than less valuable, right? Usually, when you try to do more, you actually do less. When you try to be additive, you’re actually dilutive because you didn’t think deeply enough about it and think about how will this – how will 1 plus 1 equal 3 or more. So we believe things like RH Antiques & Artifacts will, just like they render our galleries more valuable, they are going to render our customers’ homes more valuable. And our designers would tell you it’s they are going to close a lot more sales. They are going to sell a lot more furniture. They are going to get a lot more unique homes that they may not get today because right now, we don’t have that. And we’ve discussed internally, like, I don’t know, do we open it up, do we let them go shop first dibs, other things for antiques and artifacts and just charge the customer for the service and make a margin on buying it just like an interior designer does. But first dibs, by the way, which I think is great. So I think they have done a great job aggregating the world of antiques. But it’s like you got to look through – to find the needle in the haystack, like that’s – it’s really hard at first dibs. So I mean it used to be a lot easier, it’s much more curated. Now it’s like anybody who sells antiques can be on first dibs. So instead of finding the needle in the haystack, make the haystack out of needles, right? That will be our RH Antiques & Artifacts, like you won’t like have to dig through the haystack to find the needle. The haystack is made out of needles, completely different way to think about it.

That’s very interesting. Appreciate it. Thanks.

Yes.

Thank you. Your next question comes from the line of Tami Zakaria from JPMorgan. Your line is open.

Hi, Gary, Jack and everyone. I hope you are doing well and thanks so much for taking my questions. I have a couple of quick ones, actually. So first, I saw some of the convertible notes you have were moved to the current liability section of the balance sheet. So are these redeemable in the next 12 months?

Well, so the convertible notes became convertible once we exceeded the certain percentage of a convertible price. So they have been convertible for a while, and they are coming in. As you see on the balance sheet, we have remaining converts $652 million, but with redemption requests that have come in, that will be settled momentarily. We’re actually left with $411 million essentially as of today.

Got it. Got it. That’s helpful. And then the second question, can you talk a little bit about the design services market in Europe. And what kind of opportunity do you see there for RH given this has been a great success for you in the U.S. market. So do you plan to have complementary design into your design service in Europe as well when you launch there?

I think our model is going to be almost identical, but it will be just kind of on the edges, it will be modified for the market. So in a lot of ways, some of the things we’re doing, again, you get to things like a beginner, right? Like you’re going to a new market, like you’re not saddled with legacy stores. You’re not saddled with old ways of doing things. You’re not saddled with, well, this is the way we’ve always done it. Like we get to kind of be a beginner again. And so you get to ask a whole lot of questions about what about this and what about that. What if we did this way or that way. Again, it tends to just stimulate a lot of innovation, new thinking and opportunity. So yes, I think for the most part, it will – the brand will be very recognizable. But in many parts and ways, it will be better. I think there is some of the big – when I think about RH England, RH London and RH Paris, they might be the three most interesting stores we’ve ever opened and exciting stores we’ve ever opened, galleries we’ve ever opened. I mean they are so different, it’s so unique. And when I say that in comparison to the competition it’s an even greater strategic separation, so – like I go back and forth, which ones I like the most. Like right now, it’s tough to say England and Paris, and London are just incredible and all very, very different, but spectacular. I don’t think we could have found anything better for Paris. I mean I really don’t. I think it’s perfectly placed. It’s – the world of luxury surrounding us were within two blocks the top executives from many of the top luxury brands in the world. They are going to probably come to lunch at our gallery. They will probably go up to the rooftop and have a glass of champagne and have some caviar and look at the Eiffel Tower. There is going to be some of the – yes, I should – yes, I can’t say what I was going to say. You know what I was going to say about. Yes, I got it. No, no, it’s the people that are talking about us in Oxfordshire, they know we are coming, like it’s exactly the people you want talking about, like if it’s funny. I mean in Oxfordshire, people are asking, what are they doing there, is it a private club. Can I – how do I get on the list to be a member. Like it’s really interesting, like the kind of questions we are getting through sources. So – but yes, we will have design services. Initially, they will be free unless we change our mind between now and then. I don’t think that’s going to happen. But I always say we always reserve the right to change our minds for better ideas and better thinking. So right now, I don’t think so. But what I will say, long-term, you can think about our brand as evolving to have just like you think about couture upholstery, bespoke furniture, other things, who knows, maybe long-term, there could be RH Bespoke interior design, like a whole another level that we charge for that as we continue to kind of pull up and elevate up and elevate the brand and evolve the brand. Yes. So, the good thing in Europe is, again, we get to start with fresh eyes, and we can ask ourselves like what about this, what about that. Like we have never had a gallery with a champagne and caviar bar. I don’t think we would ever even think putting a gallery with a champagne and caviar bar in the gallery, except for in Paris, a beautiful little kind of space. The top floor kind of terraces back and beautiful like a jewel box. And we figured out a way to get up to the roof and use the roof, then we got approval to use the roof and we have a spectacular rooftop garden from the roof and from the level below where the champagne and caviar bar is. You see like two-thirds of the Eiffel Tower. I mean it’s incredible. Like how is that – how does an American company come and get it built like that and all of a sudden you have a champagne and caviar bar. You can’t call it champagne unless it’s from champagne. Champagne’s in France, right. Like we are opening a champagne and caviar bar in Paris on a rooftop with views of the Eiffel Tower with a garden rooftop, like you can’t make that stuff up. Like it just – sometimes, we just think like we are on the right side of good fortune. Like I just sit there and go like, wow, it’s going to be incredible. So – but I think – think about it as you are going to see the new best version of us, right. We will evolve. We will have new and fresh ideas. You will see the first RH architecture and design library at RH England. We have designed one for RH Miami in a location, we are still working on 10 years later, which will be like – if it all comes together, it will be a mind-blowing experience. So, because we are working on an integrated gallery, guesthouse, beach club and bathhouse, right, on the beach in Miami. If it comes together, I mean, it’s designed we are ready to go, so yes. But there is – again, there is always going to be new exciting things that evolve here. And I think they will all render the brand more valuable. And someday, we may charge for all interior designs don’t know. Right now, it’s working pretty good. It doesn’t mean we shouldn’t change it. We – one of our beliefs – we have our values and then we have our beliefs. And our beliefs, we call the RH rules, the rest of the rules. And rule #1 is vision is everything. And we say vision leads the leader and those with vision are leaders, and that vision or managers range and organizing a status quo. And we say leaders have to be willing to destroy today’s reality to create tomorrow’s future. We have to be willing to tear down our very best work to do something exponentially greater and more valuable. And I think we have proven that we do that, right. That’s why it’s 10 years later in Houston in its moment with the best home store in the world. And we only built another one in Scottsdale, and then we left it in the dust, right. And so I don’t feel bad if the team in Houston right now are Scottsdale. We don’t worry, we are working – you know in Houston, we have got a new location, it’s going to be incredible and in Scottsdale, we are working on it.

Great. That’s awesome to hear. Thank you so much and best of luck for the quarter.

Thank you.

Thank you. Your next question comes from the line of Steven Zaccone from Citigroup. Your line is open.

Great. Good afternoon Garry and Jack. Thanks for taking my question. I had a question on the RH Guesthouse. How do you think about the opportunity there relative to the competitive landscape in the hotel industry. And maybe how do you see the TAM opportunity for guesthouses over time?

Yes. Good question. I think what we are trying to do is to create a new market, right, for travelers seeking privacy and luxury. And I tell people that we believe privacy is going to become a very important thing, and it’s going to become a real market that people are going to – yes. I think privacy is the one thing everybody has given away with social media, and it’s one thing that the Internet has taken away because you can Google anything about everybody, right. So, there is a whole level of privacy that the world has lost. And I think that there is just going to be a desire to find your place, right, to be in that place that’s special to you that gives you that level of privacy and exclusivity and level of luxury that you just can’t find anywhere else because someone is trying to do 200 rooms or 300 rooms or even 50 rooms or 100 rooms. Like our first guesthouses have 9 rooms and 10 rooms. We are going to open in New York with nine rooms and a residence, like with six rooms, three suites and a residence. And residence mean it’s just the top floor and the idea is Mr. Friedman’s residence and he will let people stay there when he is not there and he will approve anybody who is going to stay there. So – of course, I would approve all of you who are on the phone.

That’s good to know. Thank you very much. Good to know. Thank you.

It’s not going to be cheap. But anyway, it’s – we are going to open this smallest hotel, I would say, in the biggest city in the – one of the biggest cities in the world. And it’s going to be like nothing you have ever seen. There are things that no one has ever done in hospitality that you are going to see in our guesthouse. And we think it all makes sense. There is just – when we launch it, you will hear about it, you will know what it is. And I think a lot of people will go, like, why hasn’t anybody ever done that before. I think a lot of it really makes sense. So, we are not trying to be different to be different. We are trying to be better. We are trying to create a new product. And like at this point, I was so excited about, I think, the – the idea of the guesthouse is, again, first and foremost, to elevate the brand and position RH as a kind of thought leader, taste and place maker in the industry. So, it’s not really what anybody thinks it’s going to be. It’s just not going to be that. People ask me, you are opening a hotel. I say, no. What are you doing, I say guesthouse. They go, what’s a guesthouse, I say we are trying to create a new market for guest travelers seeking privacy and luxury. And then they go, oh, I get it. It’s going to be a showroom for your furniture. And I say, no, why would we do that. We have 90,000 square foot showroom 20 steps away. Then I say the thing that kind of like this glazed look, I would say in fact it’s not going to have any of our furniture. And then they say, whose furniture is it going to have. And then I say it’s not really going to have any furniture. It’s not about furniture. It’s about a completely different experience. It’s about a completely integrated, singular-design point of view that no one has ever done before. So, you are just going to see something that you have never seen and executed at the highest level of taste and quality and design. And I think it’s going to break through. I know we all want to stay there. And so that usually works, right. You never want to be – the worst thing is when you are in a meeting and you go like, okay, like somebody is presenting some new products, there is 30 or 40 people in a meeting and say, okay, how many people here – it wasn’t about price, we can afford it, how many people would buy that table. And when all the hands go up or 70% of the hands go up, you kind of know that’s going to be a winner. When none of the hands go up or a couple of hands go up, you go – there is not anybody who has seen our guesthouse whether it’s inside this company or outside this company, the people working on it, the trades, a lot of them said to me personally, like we know we will never work on something like this again. This is the best thing we have ever worked on. Like they are just so proud of it. So, we are taking it to a level that world has never seen. If you want to think about this idea of climbing the luxury mountain when I say we have to create a forced reconsideration of our brand. We are not from the neighborhood. We are not invited to their parties. They don’t really want us to make that climb. You have to do work that is so extraordinary, and so remarkable that you force the people at the top of the mountain to tip their hat. And I would say, pick whoever you want in our industry, who is at the top of the mountain. But I have said his name before. So, you probably know what I am talking about if he shows up and sees the guesthouse, he is going to tip it out. And he just built probably the best hotel in the world that opened this week, so yes. I mean we are doing things to kind of elevate the brand. And by doing – I have always said, one thing that I have learned in my career is when you do extraordinary and remarkable work, you can usually figure out how to monetize it. And that it’s really hard to monetize ordinary and unremarkable. So, I believe and I think we believe that our guesthouse is extraordinary and remarkable and something that the world has never seen before. And we believe we are going to be able to monetize it. But it’s not really in our numbers. It’s like we don’t – we are not sitting here saying, oh, we should have – we are modeling 50 guesthouses or something like that. I think it will become that, but that’s not the idea. The idea is to have a guesthouse in New York, to have a guesthouse in Aspen, Miami, Malibu, St. Barts, maybe a few in Europe and maybe one in Paris and London, and maybe one is Saint-Tropez or a few places like that. We are the wealthy and affluent visit for vacation, the Hamptons, things like that. It’s like we will have a handful. And my sense is – my sense is right now, New York and Aspen, what we have designed, I think there is a real market. I think people will pay a price that will create a new market. I had a really smart person who has like a kind of success in the hotel industry, say, you can never make money in a hotel under 100 rooms. Yes, I also had a lot of people tell me that no one is going to go to your Chicago store just five blocks away from everywhere else. And I had people tell me that nobody does volume in the meatpacking district in New York. No one makes money in flagship stores in New York, who shops in the meatpacking district. It’s a third of the business of Soho and half the business of Flat Iron, you are moving from Flat Iron to the meatpacking. It’s the highest volume home store in all of New York, that’s at the mid to high end. I don’t know what we do in Chicago of $60 million. It makes over $20 million a year, so it replaced it $16 million a year in revenue. So, like we do a lot of things that haven’t been done before, but we focus on doing extraordinary and remarkable work. And when we do that, we usually figure out how to monetize it. So, if you were to tell me like when we open, like we will give you a tour. It’s before we open, like we will be ready to open – we could open it in late-November, December if we wanted to. You don’t give a second chance to make a first impression. I don’t want to open in the winter. We have got the most incredible rooftop park with a 40-foot long infinity swimming pool and private dining terraces that’s mind blowing that has some of the best views in the city. And yes, I just don’t want to hope everybody has got masks on. It’s just weird right now. Like so it was easy to say, hey, like okay, the travel team from Italy is coming in late we could open in November, what do you think and I am just like, yes, we have waited this long, we will wait until spring. We will open it. And it will give us more time to practice and get fine-tuned and nail the service and nail the restaurant. We have got a whole new restaurant concept there, live-fire restaurant the world has never seen. You have never seen anything like this restaurant. And I think we have the most beautiful room I have ever stood in from an experience of a restaurant like there is not a bad seat in the house, it’s still perfectly proportioned. Yes, so like we just have a little bit more time to make it better. And yes, that’s what we do. So, leave no doubt. But again, I would like to say, you can’t rush great quality. It takes time. Yes, so people will pay more for really great quality.

Yes. I appreciate all that detail. Thank you so much and look forward to seeing you in person.

Thank you. Your next question comes from the line of Brad Thomas.

Hi. Thanks for taking my question. Gary, I think you alluded earlier to being interested in potential acquisitions. I believe the last one you did was Waterworks in 2016. And I was hoping you could just talk a little bit about what you learned from that most recent acquisition and how you think about what might fit as an incremental piece of the puzzle here for you?

We have learned a lot from Waterworks. I think that one of the most difficult things challenges, like we work in a very integrated way here. We are very visually oriented. And we made an acquisition of a business that was in Connecticut. So, that’s made it a little, I think, more difficult. You have to kind of – you have been an idea, you can’t just see somebody in the hallway or walk over to where they sit or walk into a room. You can’t walk by the product all the time and see things and talk with people about ideas and talk about what they are excited about. So, I think that’s made it different. I think over time, we have all got to know each other better. Look, we said initially, rule #1 don’t screw it up. It’s the best brand in the space. It wasn’t exactly – we weren’t really ready to buy it when we bought it, but it’s like the things that come along once in a lifetime when it’s for sale, if you don’t buy it, you may never see it again. So, we always admired it, it was actually one of two things on our list, the only two things on our list for the first 15 years of our existence here. And the other one got screwed up with Dean and Deluca. It got screwed up and stuff, but we thought we could do something really great with the Dean and Deluca. And who knows, maybe we still will. We will bring it back to life. Actually put that on the list guys. No. But Waterworks, I think, is going to fit perfectly into where we are going because Waterworks has always been kind of the admired, desired brand. And so we have learned a lot watching how they run their business and how they think about their brand. And so there is – I think we have learned a lot from Peter & Ralph and the team. And I think they have learned a lot from us, and I think there is a lot of respect on both sides. And I think we have really a great shared vision for the future. And a lot of pieces are coming together that I would say – I mean I think a lot is going to transpire over the next just a year. I mean I think we are really close to a lot of things. We could be sitting here 6 months from now, 12 months from now and be talking about a lot of new very exciting things that help catapult us up the mountain and how it will all integrate and come together. So, it’s – and the Waterworks business now, like I think people know that we struggled with in the beginning financially. We had to write-off most of its book value. And now it’s performing really well. I mean it’s – and I think not just because of COVID, I think just because of just learning from each other. And some things we do really well that they learn from us and the things that they do well, we learn from them at the higher end of the market. And I think they are going to have a record year, not by a little, probably by 50% or 60% better than the best year they have ever had in their history at their peak. And I think it’s on the right trajectory strategically. Even if I COVID-adjust it, it’s the best numbers they have ever had. That’s how we think about things, by the way, internally here. We know there is COVID tailwind. We don’t – I don’t mean to sound like, gosh, we think this is just going to be here forever. I mean, I think that one of the great things about – if there is ever – when I just think it’s going to be a much softer landing, and then I thought a much longer kind of tail to this thing. And I think for us, what I like is, as it evolves, as things might evolve from COVID, I think we are going to go into the biggest innovation cycle in the history of the company. And we just might outperform everybody even if there is some slowdown or give back some time in the future. So – but I think the same thing happened with Waterworks. I think the opportunity for Waterworks looks so much bigger now than it ever looked 5 years ago. So – and I think all the pieces of the puzzle are going to fit together beautifully.

Great. Thank you, guys.

Thanks Brad.

Thank you. Your next question comes from the line of Seth Basham from Wedbush. Your line is open.

Thanks a lot. Good evening. It’s Seth Basham. I appreciate taking my question. My question is a little bit more about Europe and just the roadmap in terms of the operations and infrastructure to support as much as $250 million in sales in the first year. Can you give us a little bit more color on how that’s coming along and what the building blocks are there?

Yes. I mean the key building blocks for us are – start with demand creation and how are you going to create demand. So, we believe we have got the right initial real estate building blocks and the ability to launch a website and we are learning going through optionality and thinking about how to market the brand outside of the physical – most of our marketing in the U.S. is kind of physical marketing, and then print and tiny bit digital. I think we are going to be doing more things. We have got some really good ideas and especially as we evolve in the world of RH, and that exercises and open our eyes at some really, really, really good ideas where we can shoot with the rifle and not with the shotgun. So – and those things will be the pieces. First, you got to think about how do I create demand. And that’s a big part of the focus. And then we say now how do we fill demand. And if we are – if we say, hey, if it could be between $50 million and $250 million, what risk do you have to take. Well, how do you structure the distribution platform, home delivery platform, small package platform, how do you handle returns and damages, so you have the reverse logistics and outlet platform. And that’s the major pieces really. Did I forget anything, I mean those are the pieces of the puzzle that we have got to put together. And so yes, so the question is how do you – you hate to kind of say like, oh, you launched this thing, and it’s like people come driving in from Spain and France and the Netherlands and every – they don’t drive. They come train in or fly into England and shop at our gallery and they want to – like, look, today, we have people that buy from us from Europe and arrange to have their own goods shipped. Well, I think they are going to do that a lot more in the UK. We may not be ready yet with the reverse logistics and other things to handle returns and stuff like that. So, we are going to start kind of country-by-country, see what we learn maybe open up a country. I don’t want the first impression to be a reverse logistics outlet store. It’s the first physical experience for RH. Not that – it’s just not the right first experience. It’s an important part of our business. And – but you don’t want to kind of go out there and launch a web business and just your only physical experience in many countries is a reverse logistics outlet store. I think that’s not how you build a great luxury brand. So, we are going to build incredible physical experiences. We will have – we will be launching with the new world of RH digital portal and web experience, which is all new, all simplified, all really user-friendly, you have great navigation, all kinds of great functionality. And then we really have to execute well. Right now, here is the good news. They sell furniture in Europe, and they deliver it to people’s homes. So, it’s not something that’s not done. So, we know that’s done. It’s done every day. We have to be able to execute it really well. So, how are we going to do that with third-parties we have never worked with before. Even though there are third-parties in Europe that we have worked with in the United States the same company, but European division and whatnot, and there is going to get to know people. We are going to have to make sure they understand our standards and what we expect. But we have got to – I think really have an incredible leadership team in that part of the business. And they are super passionate about this. I mean they are ready to go. It’s just like get going. And we have got people now transitioning base there. And so I think – I don’t see any parts of the business that I think that I don’t think we can’t execute really well with the team we have. It’s just more preparing for the unknown – preparing for that range, preparing for $50 million to $250 million. Maybe it will be right in the middle would be $125 million the first year. I don’t think it’s going to be $400 million in the first year, and I don’t think it’s going to be $10 million in the first year. So, I think the range is right. It’s just a really big range. And so if its $50 million, is there a little bit more earnings drag, sure, there is. But you have got to be able to take those kind of risks, right. We can’t – we are not going to get it fine-tuned perfectly. So – but when we know more, we will share it with you.

Thanks. And just a follow-up modeling question for Jack. In terms of the operating margin outlook for the balance of the year, could you give us some color on how to think about gross margin versus SG&A?

We are not guiding at that level. I think at the moment, we are just – we will leave it at the operating income margin. I think you have seen what we have delivered in terms of gross margin and SG&A variances versus last year versus the last 2 years we have talked about. And clearly, there has been – as you look at the SG&A difference, there has been timing and differences of advertising that’s been one of the biggest drivers. So I mean, I think we made comments about that last quarter and then you noticed what our plans are with the change in the books this year. So, just keep that in mind.

Okay. Thank you very much.

Thank you. Your last question comes from the line of Cristina Fernandez from Telsey Advisory Group. Your line is open.

Good afternoon. Thank you for taking my questions. I want to ask on supply chain. On Vietnam, particularly, can you comment on how much of your product is sourced from the country? And do you expect any sort of product categories to be impacted by the manufacturing delays, the shutdowns going on right now. Thank you.

How much product is sourced from Vietnam, you said?

Yes.

Is that what you are asking?

Correct, yes. How much product is sourced and then total…?

Yes. I think we have disclosed in the past the amount in Asia, right. I don’t know if we do it specifically by country.

We have broken out China...

Yes. We have broken out China. Yes. I mean we have a meaningful part of our business in Vietnam and more business is migrated to Vietnam with the tariff situation in China. Vietnam makes really high – had some small boutique, high-quality factories that we got involved with in 2008, ‘09, ‘10, ‘08, ‘09, ‘10. We got people that we have grown with that were maybe $3 million to $5 million. And now we are $50 million to $120 million of volume with them, first cost. So, we have got great relationships in Vietnam. It’s a meaningful production. Especially when you think about – you can’t really buy wood furniture in China for a bedroom, right. You would pay crazy tariffs is exponential, right. So, they make it impossible to buy bedrooms. There is antidumping and so on and so forth. And so there is no bedroom coming out of China. So, that’s always been heavier in Vietnam, Indonesia and other countries. But yes, it’s meaningful. And it’s caused us to push the launch of contemporary and hold on the books because it’s a meaningful part of the newness.

Understood. Is it also a meaningful part of the core business?

Yes. Well, anything that’s meaningful is meaningful to the core towards the – all the sort of business here.

Yes. Okay. And then my follow-up question, would you be able to kind of quantify or comment how much of the delay in RH Contemporary and I assume I guess how can the digital are smaller, but how much of the revenue shifted out of 2021 into 2022?

Alright. It’s all in our guidance, right, for this year. We are not guiding ‘22 yet. But it was supposed to first launch in spring. Then it’s going to launch in fall. Now it’s launching next spring. So, it wasn’t zero.

Alright. Thank you.

Thank you. There are no other questions in queue. I will now turn the call over back to Gary for any closing remarks.

Great. Well, thank you, everyone, for your interest, and thank you for our team who is kind of leading the charge and bringing our vision and values to life. We could not be more proud of the work that everybody is doing and the effort that everybody has put through. And again, we feel super blessed and fortunate to be in the position we are in and our hearts go out to not only the people that are suffering in Vietnam. But it’s just suffering all of the world – it’s COVID and the variants that are continuing to wreak havoc. And even right here in America, and even a much smaller scale, people who suffered just recently here through the hurricanes and the devastation. So, it’s been – it’s hard to feel so good about your business when so many people are suffering. And so – but we have never been more excited, and we have said this is the time to have a lot of edge and a lot of empathy. And so I just want to just really thank everyone and also just send out our very best wishes to the people that are struggling through these times. And to our people, just thank you for making this company more exciting, more innovative, more magical than at any other time that – in our history. And I think we are going to rewrite history as we go forward. So great job, everyone. Thank you. Okay. That’s it, operator. Operator, thank you.

You’re welcome. This concludes today’s conference call. Thank you all for participating. You may now disconnect. Goodbye.