Shannon Greene - CEO Tina Castillo - CFO

Good morning, ladies and gentlemen, and welcome to the Tandy Leather Factory Fourth Quarter 2017 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Ms. Shannon Greene, Chief Executive Officer. You may begin.

Thank you. Good morning, everyone and welcome to Tandy Leather Factory's 2017 Earnings Conference Call. We will be discussing our fourth quarter and fiscal year 2017 results as well as providing an update on our strategic plan and our 2018 guidance. I'm Shannon Greene, CEO and I'm joined today by Tina Castillo, CFO. Mark Angus, our President who normally joins us on these calls is not available to participate in today’s call. Before we get started, our earnings release and related SEC filings are available on our Investor Relations section of our website and a replay of this webcast will be available later today. Also, I need to remind everyone that there may be forward-looking statements on the call today. Statements would include words like expect, believe, anticipate, plan, intend, target or words with similar meaning and are based on our beliefs and expectations and are subject to certain risks and uncertainties that may cause actual results to differ materially from our forward-looking statements about those results. The risks are detailed in our various filings with the SEC such as the most recent Form 10-K and 10-Q as well as in news releases and other communications. We do not undertake to update or revise any forward-looking statements which speak only as of the time they are made. I'm very pleased to be hosting this call today. I know for some of you, since we no longer report monthly sales results, it probably feels like a long time has passed since our last earnings call back in November and yet we’ve completed our busiest season. So thank you for your patience, support and interest in Tandy Leather. I believe this is a great timing for me to share my thoughts as we wrap up one year and begin another. As you…

Thank you, Shannon. Before I go into the details, I wanted to remind everyone that as we disclosed in our press release and the past three calls, we now operate in two segments, North America and international. You may recall that prior to January 1, 2017, we operated in three segments, wholesale, retail and international. To better reflect how management analyses the business and allocates resources, we combined wholesale and retail into North America effective January 1, 2017, while our international reporting segment remains the same. All prior year data discussed throughout this call had been recast to conform to the new reporting segment structure and there is no change in the reporting of our consolidated financial positions or results. Our fourth quarter consolidated sales totaling 24.5 million increased 1.7% from last year's fourth quarter sales, with our North America segment reporting a 2.1% increase, offset by an 8% decrease in our international segment. North American contributed 96% of fourth quarter 2017 total sales, while international contributed the remaining 4%. The $490,000 improvement in our North America fourth quarter sales was primarily due to 679,000 in contributions from the 7 new stores opened or reopened since October 2016, offset by a 0.8% decrease in same store sales. This decrease in same-store sales was the lowest we’ve seen all year, but consistent with the overall trend of our customer mix, shifting from non-retail to retail. Sales to our business customers declined by 5% in the fourth quarter while sales to our retail customers increased by 7%. The $88,000 decrease in international fourth quarter sales was primarily due to overall softness across all of our overseas locations, despite the weakened US dollar. Consolidated gross profit margin for the quarter was 62.4%, improving from 60.2% in last year's fourth quarter. The improvement was…

Thanks, Tina. So looking into 2018, we estimate sales to be in the $82 million to $84 million, fully diluted EPS in the range of $0.63 to $0.68 based on 9.3 million of average shares outstanding and an effective tax rate of 21%. As of the end of February, sales are approximately 2% higher than at the end of February last year. Our top line forecast includes a flat to 2% same store sales improvement plus the addition of two more stores. Our bottom line forecast assumes a flat to slight decrease in our gross profit margin, as we increase our efforts to grow sales to our business customers and add higher ticket, but lower margin products to further expand our product lineup. From an OpEx standpoint, we expect a slight reduction in overall dollars spent as we make changes to our advertising and marketing spend and other home office costs. As for the 21% effective tax rate, that's our best estimate at the current time. We are still evaluating the impact of the new taxes on certain foreign sourced income as well as the impact of eliminating the domestic manufacturing deduction and limitations on certain business deduction. So, our estimated effective tax rate may need revision as we get additional guidance and clarification to the new reg. Looking at our inventory levels, we do expect there will be continued investment as we expand our merchandising for higher ticket products. Regarding our 2018 capital expenditures, we're expecting CapEx to be approximately $1 million to $1.2 million to cover new store openings, six store relocations and enterprise data analytics platform to help drive more insightful data and analytics as well as routine computer replacement. Looking out even further than 2018, we believe our long term strategy to drive sustainable growth in…

[Operator Instructions] We do have our first question from the line of George Kelly, he is a private investor with the company.

Just a couple of questions for you. So first, it sounds like the kind of same-store sales trend has improved versus what you were seeing in 2017. My question is just what's your view of the consumer these days? Does it seem like people are more healthy in your stores? Does it seem like more sort of buoyant consumer environment?

Absolutely. We experienced improvement in our sales top line to retail, what we classify as our retail customers throughout 2017. In fact that’s frankly what carried us, offset by the decline in sales to our non-retail or our business customers. We’re making a concerted effort to be attractive and interesting to a younger set of customers. Part of that’s what we're doing with Pinners and part of that's just the environment we're trying to create in our stores. We're making a concerted effort to improve the quality of the classes. We've got – it’s all about -- in my opinion, it's all about creating the experience that appeals to not only our legacy customers, but a new group of customers which frankly means that they're younger and I think our district managers are playing a key role in helping the stores see the vision and create that type of atmosphere. We're also, if you pay any attention to our Facebook page and Instagram and YouTube, we're really working on that as well to update it and modernize it some. I would admit there are still some videos that look like they were done probably in the 50s than they may have been. But social media, we're really trying to refresh that and keep a contemporary feel to it. So I think all of that contributes to a growth in our retail sales and a growth and expansion of the type of customer that’s interested in shopping with us.

That's helpful. Next question, it sounds like you're reviewing the practices and trying to improve on some of the underperforming stores. So, the question for you is, can you remind me about international profitability and how committed those stores, I think they’ve lagged the US business, whatever you can say about your sort of attitude towards the international store base, how committed you are there?

We are absolutely committed to the stores, not to the point that it’s stupid, but the opportunity internationally for us to be successful is very high, but just like it was similar, just like in the US, there's no one that we're aware of anywhere in the world that does what we do. A chain of stores dedicated to promoting leather craft through education, the one stop shop concept, et cetera, et cetera. So, the potential is out there and we're seeing good things on the international front. The disadvantage that they have is, like, let’s take Australia for example, there's only one store in Australia and it's a big continent. So part of where they're lagging is the ability to pull because their market is so big, they're not going to get customers from Western Australia to come over and take a class, because it's clear on the other side of the continent. It would be like San Francisco to New York. So, they do a lot of web order. They do a lot of mail order. That personal touch to customers is, they can grow their local market that way of course, but the potential to reach beyond -- the personal touch beyond their local market is virtually impossible at this point. So, our approach is, obviously, we have to connect with those customers via email or via social media, via the sales flyers, but it just takes longer and you don't -- customers as you know on the web, customers come and go. So we have – it’s just going to be a slower process because they don't have the footprint that we do here, so to develop that local neighborhood kind of feel in a very large market. Europe is the same way. Obviously, the Spain…

And then last question for me, I guess, it's a two part question. About your cash and so you mentioned on the -- in your prepared remarks 1 million to 1.2 million in CapEx this year. So the first part of the question is, is that a good run rate going forward? And then second question is that, the numbers, as I see it, there's a lot of -- you have a lot of cash in your balance sheet and very strong free cash flow. Why is it best to have that cash on your balance sheet? Are there other sort of places a dividend or share repurchase or how do you think about that stuff?

Sure. So CapEx, I think the last couple of years, the 1 million to 1.5 million in CapEx is about right. So -- and I don't see anything on the horizon that's going to change that. So when you think out years and two and three and four years from now, based on what we know right now, I don't see that changing any time -- certainly not increasing. We're just not CapEx intensive fortunately. So hopefully that answers that first question. The cash, I can tell you that it's a topic on -- at the board meetings all the time. We have a fairly new board. It's a very important -- capital allocation is a very important topic for them. And we probably tend to and we’ll probably always carry more cash on the balance sheet than a lot of people think is necessary, because it allows us the flexibility to make large leather purchases in particular when opportunities arise and if anybody followed us for any length of time, you hear us talking and you’ve heard us talking over the years about these, what I call, opportunity by -- there will be an overrun from an itinerary and they will call us and obviously basically trying to find a sale, trying to liquidate it and turn it into cash as quickly as possible and they know, depending on what it is, most of us canneries know what they'll call it and it's something that fits generally in our wheel house, we'll buy it and they also know that we'll pay for it quickly. So we're having -- and as a result that helps support gross profit margins, et cetera because we get to purchase those overruns or those large lots, generally cheaper than if we were just doing…

[Operator Instructions] Our next question comes from the line of Peter Mark [ph] with Mark Capital Management.

Just two quick kind of follow-up questions. One, just you mentioned real quickly, just in terms of the -- having store premiums on Sundays. Is that – currently, is that being done in any of the stores, I kind of missed that. And then secondly, just in the longer term guidance, 2020 targets, you have a ball point there on the -- providing more incentive based compensation to associates. What are kind of some of the specific tweaks you guys are thinking about there?

Sure. So with regards to the store hours, no, none of our stores are opened on Sundays right now. Historically, we've been open Monday through Saturday, closing at six during the week and 4 o'clock on Saturdays. We are now, as of March 1, we are now staying open till 8 o'clock on Tuesdays and Thursdays and staying open until 6 on Saturday. So added two hours to those days. We also – we’re opening at 10 now instead of 9, which has no impact I don't think to anyone. So, but staying open later Tuesdays, Thursdays, and Saturdays with the idea that customers who work full time obviously get off of work at 5 or 6 o'clock. If we were closing at 6, they couldn't get by the store during the week and then come on Saturday. So, so far, and this just started March 1, the momentum is we've had three days of that. We started March 1, I think was Thursday and Saturday and Tuesday, two days ago. So we'll see what tonight looks like, but those extra two hours, the sales are growing as we've moved through the month so far and we're getting really good feedback from customers that having the ability to come in after work on Tuesdays and Thursdays is great and then Saturdays a little bit later. Our plans are with that as we kind of get everybody stable, we may start doing, we can do classes in the evenings again for customers who can't get there during the day or can't get there before 6 o'clock. We're also toying with the idea of maybe doing a national class and also that on a particular Tuesday night, every store is teaching exact same class, we can advertise it, we can potentially webcast it, we can do a lot of things. So, so far, we're just barely into the extended hours, starting March 1, but it has been good so far for the three days that we've got data for it. We are considering adding Sundays to the lineup. Tandy, to my knowledge, has never been open on a Sunday. I don't know why that was back when the stores were started back in the 50s, but that's neither here nor there. Again Sunday proved to be a strong retail shopping day. I anticipate it would be a half a day, maybe noon to five, something like that. So we've got it -- obviously that will create some staffing issues and things adding going to a seventh day, but we're looking at it because we think we may be missing an opportunity to pick up additional sales and service customers by not being open on Sunday.

Incentives, just any -- you highlighted that in the prepared remarks, just any other detail you could provide.

Well, I will tell you that my personal opinion and I guess I should say this isn't necessarily the opinion of the total management and board, but I think our associates -- I think we're in good shape with our store managers that increased, the salary increase that they got at the end of December, while painful this first year because it was a large increase, I think we are, as I said, much better positioned to attract employees at that level based on the salary. I still think that our associates are underpaid. And that's not a problem that can get fixed quickly. We are not typical retail in that, we don't hire seasonal in the fall in the fourth quarter like a lot of retailers do, because our most successful employees are those that understand and know how to use our products and why we, what tool does what and what leather you're going to need for whatever project and most -- the average person out there doesn't walk around with that knowledge. I compare it to, if I had to go sell shoes, I could because I wear them and I buy them all the time just like everybody else. I could talk about shoes, asking somebody to explain what it is, if you've never seen it and you’ve never seen it work, the average person is not going to know anything about that. So while we are retail and we're hiring retail associates, there is an additional requirement and it's on the job training of course that goes into being really successful. As a result, I think our associates tend to be underpaid. I think the hourly rates that we're paying are lower than -- particularly as the markets get more and more competitive, minimum wages…

Thank you. And I'm not showing any further questions at this time.

Very good. Thank you all for participating in our earnings conference call today. We look forward to speaking with you again next quarter. Have a great day.

Ladies and gentlemen, this does conclude the program and you may now disconnect.