Good morning, and welcome to the Arhaus Fourth Quarter and Full Year 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow formal remarks. Please note that this call is being recorded, and the reproduction of any part of this call is not permitted without written authorization from the company. I will now turn the call over to your host, Wendy Watson, Senior Vice President of Investor Relations. Please go ahead.

Good morning, and thank you for joining Arhaus for the fourth quarter and full year 2023 earnings call. On with me are John Reed, Co-Founder, Chairman and Chief Executive Officer, who is joining us this morning from Italy; and Dawn Phillipson, Chief Financial Officer. After prepared remarks, they will be joined by Jen Porter, our Chief Marketing and eCommerce Officer for the Q&A session. During Q&A, please limit to one question and one follow-up. If you have additional questions, please return to the queue. We issued our earnings press release for the year ended December 31, 2023, before the market opened today. Yesterday, after market closed, we filed an 8-K to inform investors that we identified an error in our unaudited, condensed consolidated balance sheet as of September 30, 2023, related to certain leasehold and landlord improvements prior to showroom completion being incorrectly included in prepaid and other current assets rather than property, furniture, and equipment net. This error resulted in inaccurate cash flows ascribed to the operating and investing activities in the unaudited condensed consolidated statement of cash flows for the nine months ended September 30, 2023. As such, we will restate our financial statements for the third quarter of 2023 and revise the December 31, 2022, comparative balance sheet that will be included in the amended third quarter 10-Q. For more details, please refer to the 8-K. Those documents are available on our Investor Relations website at ir.arhaus.com. As a reminder, remarks today concerning future expectations, events, objectives, strategies, trends, or results constitute forward-looking statements. Actual results or events may differ materially due to a number of risks and uncertainties. For a summary of these risk factors and additional information, please refer to this morning's press release and the cautionary statements and Risk Factors described in our most recent Annual Report on Form 10-K and subsequent 10-Qs as such factors may be updated from time to time in our filings with the SEC. The forward-looking statements are made as of today's date, and except as may be required by law, the company undertakes no obligation to update or revise these statements. We will also refer to certain non-GAAP financial measures and this morning's press release includes the relevant non-GAAP reconciliations. A replay of this call will be available on our website within 24 hours. Now, I will turn the call over to John.

Good morning, everyone, and thank you for joining us on the call today. We delivered a strong fourth quarter 2023 with net revenue of $344 million, net income of $31 million, and adjusted EBITDA of $51 million, and are very pleased to have exceeded our top and bottom line outlook for the quarter. Turning to our 2023 performance, it was another exceptional year for Arhaus, fueled by our long-term growth strategies to one, increase brand awareness; two, expand our showroom base; three, enhance our omni-channel capabilities and technology; and four, invest in growth to build scale and to enhance long-term margins. Highlights from our 2023 full year results include net revenue of $1.3 billion with our showroom channel up 2% and our e-commerce channel up 17%, on top of growth of 57% and 43% in each of these channels in the full year 2022. Comp growth of 1% and demand comp growth of 8%, both at or above the high end of our outlook for the year and cycling comp growth of 52% and a demand comp growth of 14% in the full year of 2022. Net and comprehensive income of $125 million and adjusted EBITDA of $203 million. Given our strong cash generation and balance sheet strength following 2023's outstanding performance, I am pleased to announce our Board of Directors approved a special cash dividend of $0.50 per share payable on or about April 4 of 2024, to shareholders of record at the close of business on March 21, 2024. We are very pleased to be able to return value to our shareholders while retaining the balance sheet strength that will allow us to continue investing in the Arhaus growth. Dawn will cover our fourth quarter and full year 2023 financial results in more detail later on in the call, but I want to congratulate our team for delivering these results. I'm astonished by what our team has accomplished in the short time since we went public on November 4 of 2021. At that time, we had 77 showrooms. Today, we have 92 showrooms, adding almost 20% to our showroom total, and we expect to add another 9 to 11 this year. Over the last three years, we believe the U.S. premium home furnishings market has grown 50%, while our growth has been more than three times that of the industry. We have increased our net revenue by 154% or $780 million, increased our net income by 634% or $108 million, and increased our adjusted EBITDA by 193% or $134 million. As impressive as this growth and the execution by our team has been, it is our future potential that is so significant and has me so excited. Going forward, we expect to continue to grow faster than the market by executing on our strategy. Starting with showroom growth, which is the number one way we expand our brand awareness. In 2023, we completed the largest number of showroom projects in our history, opening eight new showrooms, two new design studios and one new outlet location, along with eight renovations, relocations, and expansion projects. Remember, our new showroom economics are very strong and we target new traditional showrooms that generate at least $10 million in revenue by year three, with target adjusted EBITDA margins averaging 32% and average investment payback in two years or less. In 2024, as I mentioned, we expect another year of above record showroom growth with plans to equal or exceed the number of 2023 showroom projects, including four to six new traditional showrooms, two design studios, three outlets, and to renovate, relocate or expand several existing showrooms. With wonderful feedback from our clients and the continued word of mouth awareness building around our showrooms and the incredible products they showcase, we look forward to introducing the Arhaus brand and experience to many more clients over the next several years, especially as we continue to work towards our target of 165 traditional showrooms. The number two way we expand brand awareness is through recommendations from friends and family. Our incredible product and the value proposition it offers is at the heart of these recommendations and we enjoy persistent demand for our product throughout 2023 driven by the success of many of our newer product collections. We frequently describe traveling the world to seek inspiration, meet with incredible artisans, and ensure we continue to delight our clients with beautiful products from across the globe. As Wendy mentioned, I am joining you from Italy today where members of our product development team and I are working on some really exciting new products. Last year, I told you I thought 2023 was going to be the best year ever for new product lineup and I think we have exceeded even that very high bar with the product introductions and category expansions in 2024. Our spring and outdoor catalogs and showrooms are currently showcasing this product and I encourage all of you to go to the showrooms and spend some time on arhaus.com to judge for yourself. During 2023, we also continued to make some important growth investments to enhance our omni-channel capabilities and technology. We are growing our insights from website engagement and have launched our incredible story campaigns online and in print, highlighting artisans from Mexico and Italy. These campaigns not only tell our product stories, but they elevate our brand at a time when we are introducing Arhaus to many new clients across the United States. This is also a great time to highlight the volume two launch of the story campaign, Bellissimo Segreto, a beautiful secret. As a reminder, we developed the story campaign in response to our clients asking to know more about the talented craftsmen behind our beautiful products. The introductory volume of stories rooted a story not common, highlighted a family of woodworking artisans in Mexico and was released last fall. The current campaign is a testament to our Italian partnerships, some of which we established decades ago and all of which have been instrumental to building our brand. We are thrilled to continue this series and look forward to telling the Arhaus story through future volumes. We are also continuing to make strategic investments to upgrade the technology that supports our business and long-term growth plans and enhances our capabilities in warehouse management, inventory planning and allocation, and manufacturing, delivery and efficiencies. Our teams have been working around the clock on these initiatives. I'm excited about our technology roadmap and the long-term advantages and expected margin enhancements it will create for us. These investments and enhancements will continue in 2024 and Dawn will give you more detail on the size and scope of these investments. These are near and long-term prospects combined with the team's strong and disciplined execution of our strategic priorities and buttressed by our debt-free balance sheet, has us well-positioned to deliver on our financial and operational goals. As we look to 2024 and beyond, I'm excited about the opportunities of our business and our brand, both of which in many ways are still in the early days. Even though I've been at this for close to 40 years, I generally feel that there are no collections like our collection, there are no people like our people and there is no potential like our potential. Arhaus stands out and Arhaus stands alone. Our product is designed using the best materials and with an unparalleled focus on quality and comfort. We are curious world travelers, and our mission to design and craft the best furniture and décor leads us to work alongside some of the most talented designers and craftsmen on earth. Our showrooms are an authentic expression of who we are. We curate inviting spaces, carefully layered footprints, and compelling digital presentations to take every visitor on the journey of their choosing, always letting inspiration lead the way. With our clients' experience, we aim to build authentic relationships, inspiring and supporting our clients at every step in the journey. We encourage exploration, customization, and we are never defined by a single style. Instead, we encourage and help our clients curate the unique styles of their homes and I believe we have the best team in the industry. We are a team of designers, dreamers, and doers, as passionate as we are curious. Finally, I want to personally congratulate our team for a great job in 2023 and thank them for their dedication to Arhaus and our clients. I'm looking forward to what we will continue to build in 2024 and beyond. Now, I'll turn it over to Dawn.

Thank you, John, and good morning. As John mentioned, we are incredibly proud of our 2023 fourth quarter and full year financial results and our operating performance throughout the year. We delivered a solid fourth quarter that concluded another year of record net revenue and exceeded our expectations for both revenue and earnings. Key items from our fourth quarter 2023 income statement include net revenue of $344 million with a 6.8% comp decline against a comp growth comparison of 47% in the fourth quarter last year that reflected strong backlog delivery. We were pleased with our demand comp growth in the quarter, which was 1.6% on a one-year basis and 91.4% on a four-year stacked basis. Demand comp growth in the quarter was impacted by promotions in November of 2022 that we made a strategic decision not to repeat in November of 2023 to preserve margin. Our fourth quarter gross margin decreased $17 million to $141 million, driven primarily by lower net revenue, transportation costs, and showroom expenses, partially offset by lower costs related to the reduction in net revenue. Gross margin as a percent of net revenue decreased 330 basis points to 41%, driven primarily by product mix related to the sell-through of SKUs that were price-actioned in June of 2023, as well as increased showroom costs and transportation investments. Fourth quarter SG&A expense increased $7 million to $100 million, primarily driven by strategic investments in the business to support our growth and increased selling expense related to new showrooms and higher demand, partially offset by lower warehouse expense. Fourth quarter 2023 net income decreased $16 million to $31 million. Adjusted EBITDA in the quarter decreased $23 million to $51 million from $74 million in the fourth quarter of 2022. The fourth quarter net revenue of $344 million and adjusted EBITDA of $51 million resulted in a 15% adjusted EBITDA margin in the quarter. For the full year, key income statement items include net revenue of $1.3 billion, comp growth of 1.4%, and demand comp growth of 7.6% on a one-year basis and 91.4% on a four-year stacked basis. During the year, demand was strong in both showroom and e-commerce channels as our products and marketing continued to resonate. Our net revenue growth was driven by both our strong demand and the delivery of approximately $75 million in abnormal backlog in 2023. Gross margin as a percent of net revenue decreased 70 basis points to 42%, primarily reflecting higher showroom expense, transportation investments, and credit card fees, which were partially offset by favorable product costs. Product costs improved due to the flow-through of container cost favorability versus prior year and promotion management, partially offset by the impact from price action SKUs. Full year SG&A expense as a percent of net revenue increased 150 basis points to 29%. The increase was primarily driven by strategic investments to support and drive the growth of our business, including increased expenses as new showrooms open and we invest in technology and the donation to the Nature Conservancy. These increases were partially offset by lower warehouse expense and the non-recurrence of costs related to the 2022 opening and setup of our Dallas distribution center. Full year 2023 net income decreased $11 million to $125 million. Full year 2023 net revenue of $1.3 billion and adjusted EBITDA of $203 million resulted in a 16% adjusted EBITDA margin for the year. I want to reiterate John's appreciation of the exceptional work of our teams across the company over the past year, which was instrumental in driving 2023's strong performance and record net revenue. Turning to this morning's special dividend announcement. One of our competitive strengths is our strong debt-free balance sheet and the financial flexibility it affords us. Following several years of outstanding performance, growth, and cash generation, and having ended the year with $223 million in cash, our Board of Directors is pleased to return approximately $70 million in capital to shareholders in the form of a special cash dividend. We are pleased to know even with this special dividend, our growth and strategic investments remain unchanged, as we are also in the enviable position of having both a long runway to continue to grow our showroom footprint and high returns from that growth. Investing in the business to drive profitable growth remains our top priority. We will continue to build on that profitable growth with our planned CapEx investment of $80 million to $100 million in 2024, with the majority allocated to showroom projects. Next, I'd like to turn to our outlook for 2024. With continued macroeconomic uncertainty and lapping prior year backlog delivery, we have assumed a range for comp growth of negative 4% to negative 2%. As a reminder, we are comping approximately $75 million in abnormal backlog delivery in 2023. While we enter 2024 with a normalized backlog, our comp growth metric will not normalize until 2025. For the full year 2024, we expect net revenue of $1.33 billion to $1.37 billion, which represents growth of 3% to 6%, comp decline of 4% to 2%, net income of $95 million to $105 million, and adjusted EBITDA of $185 million to $200 million. We expect full year adjusted EBITDA margins to be lower than 2023. Deleverage will be most significant in the first half of the year and is driven by comping prior year backlog delivery and strategic investments we are making this year. 2024 strategic investments include our robust number of showroom projects and operational improvements to enhance our capabilities and drive our success long-term. We expect most of the deleverage to come from SG&A, with a lesser amount of deleverage in gross margin. We expect to invest approximately $10 million to $15 million in corporate strategic investments this year as we work to streamline operations and drive a best-in-class client experience. Strategic investments for the year, in addition to new showrooms, include a new warehouse management system in our Ohio distribution center, planning and allocation software, and a manufacturing ERP. We will also continue to invest in our in-home delivery experience as well as other growth initiatives such as e-commerce and our in-home designer and trade programs. For the first quarter of 2024, we expect net revenue of $260 million to $270 million, a comp decline of 23% to 20%, net income of $1 million to $3 million, and adjusted EBITDA of $11 million to $15 million. As the range indicates, in the first quarter of 2024, we expect net revenue to be down low-teens compared to the first quarter of 2023. This is primarily due to the implementation of our new warehouse management system in March and weather-related impacts in January. Quarter-to-date, our demand comp in January declined high-single-digits as weather impacted traffic, with February accelerating to mid-single-digit demand comp growth. We expect significant adjusted EBITDA deleverage in the first quarter. Of the deleverage approximately a third is coming from gross margin due to deleverage of fixed costs on the revenue decline and continued delivery of price action SKUs. The balance of the deleverage is in SG&A due to the revenue decline and as we continue to make strategic investments. As our full year outlook implies, we expect net revenue growth in the balance of quarters this year. We expect deleverage in both gross margin and SG&A in the first half of the year with inflection expected in the second half as the P&L impact from the June 2023 price action product is complete and revenue and earnings from new showrooms positively impact our P&L. We will update you on our second quarter expectations when we report first quarter financial performance in May. For all other details related to our 2024 outlook, please refer to our press release. We are also reiterating our long-term growth goals. We expect the investments we are making in the near-term will enable us to achieve these goals. Over the long-term, we target mid-single-digit comparable sales growth and mid to high-single-digit showroom growth, leading to high-single-digit net revenue growth and low-double-digit adjusted EBITDA growth. In closing, I want to again acknowledge the hard work and dedication of our teams. Our success in 2023 reflects our focus on and execution of our strategy, which remains unchanged. We believe our strong debt-free balance sheet is a competitive advantage, enabling us to execute on our growth plan and make the necessary investments to build on our share gains in the highly fragmented $100 billion premium home furniture market. We believe we are well-positioned to meet the needs of our clients in any economic environment and remain keenly focused on driving value for all stakeholders. Thank you. And we would now like to open the call up for questions.

Thank you. Ladies and gentlemen, we will now conduct a question-and-answer session. Our first question is from Peter Keith with Piper Sandler. Please go ahead.

Hi, thanks. Good morning, everyone. Great results. I want to ask about the system rollouts, which are interesting. So ERP systems can send some fear down analysts' spines. So talk about the risk of the ERP and then future benefits of the other systems that could come in the next two years.

Good morning, Peter. John here. Dawn has probably got more information on this than I, but we're kind of laying things out in stages. I don't believe we're doing a full ERP system anytime soon. We're doing a warehouse system and then a management planning system and then a totally separate system for our manufacturing plants that manufactures upholstery. Dawn, do you have anything to add to that?

Good morning, Peter. In the fourth quarter of last year, we intentionally engaged a consulting agency to assess our entire systems and business infrastructure. This evaluation involves not only identifying necessary revisions and updates but also determining the appropriate sequencing and timing to ensure that as we continue to grow our revenue, we maintain the client experience and uphold operational integrity. We are being very careful and considerate in this process. Implementing ERPs can often create concern among everyone involved, so we are managing this carefully. We are eager about some of the new systems, particularly the planning and allocation software, which will enhance the flow of products through our network, leading to both operational and financial efficiencies once implemented. We are also analyzing additional systems, such as an order management system, to ensure products are sourced correctly. Overall, we are taking a responsible and thoughtful approach to system enhancements and infrastructure modifications, with a strong focus on operational impacts.

Okay. Thank you. And then I just say, Dawn, for a little more financial technical question. With the warehouse management system rolling out in Q1, I guess it's probably causing a little bit of sales lag. So Q1 sales got a little bit worse than we thought. Is there a sales shift that you could quantify for us that's going to roll directly into Q2 or maybe also carry into Q3?

We think it's probably about a week worth. So, simple math, you could kind of just take what a typical quarter looks like and divide by the number of weeks in the quarter. That being said, we also did see some impact on deliveries in January related to weather. So if you think about those drivers who are out there, if there's really icy conditions or snowy conditions that are particularly difficult at times, they will delay those deliveries. So I think as we're thinking about 2024, the first quarter certainly has kind of the lowest year-over-year impact or the least favorable year-over-year impact. And then as we look out to the following quarters, we're pretty excited. And we think that as we move through the year, we should see sequential acceleration in the deliveries and net revenue as we move through the year.

Very good. Thank you so much.

Thanks, Peter.

Thank you. Our next question is from the line of Jonathan Matuszewski with Jefferies. Please go ahead.

Good morning and nice results. Thanks for taking my questions. First one is just on underlying assumptions for your 2024 comp guide of down four to down two. Just help us give some color in terms of how you're thinking about large-scale renovations, light refreshes, existing home sales, factors like that that you've said have the most weighting on demand for your business? That's my first question. Thanks.

Go ahead, Dawn.

Good morning, Jonathan. There is definitely a lot of uncertainty in the macro environment. However, our clients continue to update and refresh their homes, and even a simple refresh, like painting a room, is still quite common. We believe there is still a substantial amount of that activity occurring. Additionally, considering our market share within a $100 billion industry, we have significant potential for growth. Currently, we hold less than 2% of the market, which presents a lot of opportunities as we expand our showrooms and as the marketing team enhances brand awareness with innovative campaigns. Jen, would you like to discuss the Italy campaign?

Sure. Hi, Jonathan, good morning. Yes, we're really excited. As Dawn mentioned, we're really excited about opening up those new showrooms, but within marketing as well, we're really excited about the new opportunities that we have to not only present Arhaus in a similar way to more people, but also new ways that we're presenting Arhaus out to the audiences. So as John mentioned, we kicked off our story series with our rooted campaign featuring our Mexican artisans last fall. We just launched our Italy campaign in spring with a big rollout in February. And it really does give us a way to tell those stories, share the craftsmanship, share the things that really make Arhaus unique and special. John talks all the time about how proud we are of our product and what we're delivering to the market. And I think we as a marketing team are just thrilled to really be able to share those stories and let people see into our world. And these are things that we are excited about and have been experiencing for decades. But these campaigns really allow us to go into detail and share those stories with a larger audience. Really, really excited by the responses that we are seeing to those campaigns. We are learning a lot. We are seeing some really great engagement and traffic results, particularly on digital, with those campaigns. So as John mentioned, we decided to start telling these stories because of questions and interest we were getting from current clients. And just seeing existing clients and also future potential clients really engage with them is really, really exciting. So more to come from that, but really excited about what we'll see through the rest of the year there.

That's helpful. Thanks Jen for the color there. And then I guess just a follow-up, we could get an update on anything you're seeing regarding cancellation rates, whether you've seen any deviation there from historical levels. And I guess, relatedly, I think last year you called out at one point consumers choosing to postpone their orders and that kind of having an impact on when revenue may have been recognized or I guess postponed their receipt of deliveries. Are you still seeing that dynamic? Any color there would be helpful.

Yes, I don't delay, I'm certain we have not seen any increase in cancellation rates, number one. They hold steady as they have been the last few years. So that's normal. We're actually doing a little better than we had been. And we're not really seeing people now delaying orders either. Sometimes you see that obviously when people are renovating their homes, as we know, people aren't moving as much as they had been, but people are at least in our category, renovating quite a bit. And most builders have caught up at least telling the clients an actual date that they can stick to. So things are getting better in that field. We're not seeing people delaying like we did last year. So we're not seeing that it's going to be a factor at all.

Thank you. Our next question is from the line of Peter Benedict with Baird. Please go ahead.

Alright, guys. Thank you. Thanks for taking the question. Good morning. Kind of a question around the top-line cadence, how you're thinking about the recovery over the course of the year. You talked a little bit about some of the macro drivers there, but just maybe unpack that a little bit. What you're thinking in terms of just sector demand. You guys have clearly been doing better than the sector, but just your view there and help us understand that maybe the cadence of that $75 million backlog release that you saw in 2023. Just so we understand the comparisons on that. That's my first question.

Yes. Good morning, Peter. Dawn, you can help me with this one. But what we're seeing is, as we've been saying all along, last year was strong, very strong. Our new products are just resonating so well. And I think we're just dead on with what people want these days. And it's a very unique product. We think we're way ahead of the curve from our competition on products. So we think people are responding. And as we've opened up so many new stores, every day, we're getting new and more and more new clients coming in, finding out who we are because we're a relatively unknown brand, especially on the West Coast, and they're resonating. It's amazing how people walking in who really don't know our brand are purchasing from us because they just fall in love with our product, fall in love with our showrooms and fall in love with our designers who are just fantastic. So that part is great. And I'm seeing the lineup of new products and so forth strong. And that's what we're all about, selling great products. And the more we have better products and the more people know about us, the better we're going to be. We'll just continue to grow. Dawn, you want to add on to the other part of that?

Sure. So I think just to reiterate what John was saying, we feel so great about the new product introductions, the marketing materials, and the new showrooms that were opened in the fourth quarter of last year. We're so excited with how those are performing and the clients' engagement within those locations. So as we think about demand in the first quarter, January was a bit soft. February accelerated nicely. So I think as we're thinking about the demand cadence, that will impact a little bit in the first quarter, but really feeling great about all of our offerings, how we're engaging with clients and switching to think about net revenue. As we move through the year, we do expect sequential acceleration. So every quarter we expect net revenue to improve a bit. And that's really going to be driven by new showrooms that open not only in the fourth quarter of this year, but showrooms in 2024 are slated heaviest in Q2 and Q3. So we should see some nice benefit in the back half from those openings as well. As we think about backlog in 2023, it's relatively evenly split between first half and second half. It's slightly heavier weighted toward the second half.

Okay. That's helpful. Thank you. And then just maybe on the sourcing side of things, transportation was a benefit for you guys in 2023. Just curious what you have kind of assumed in your plan for 2024. Remind us kind of the geographic exposure you guys have in terms of where your product is coming from and just any thoughts on all the activity, the Red Sea and what that might be doing to your inbound rates, ocean freight. Thank you.

Yes. Almost half of our product is manufactured in the United States, including our upholstery and some other items. This means that nearly half of our business is not impacted. We have strong sourcing capabilities in Mexico and Europe, particularly in Italy, which remain unaffected by the Red Sea situation. While some of our Asian products were impacted, we've successfully rerouted them without experiencing significant cost increases. Overall, we're not concerned about the Red Sea aspects of our business, as it accounts for only about 20% of our operations, if that. Therefore, the impact will not be significant.

Yes. Just to layer on there, I think over the last few years we have seen some slight adjustments in products coming domestic versus international. So the number is a little bit lower coming from domestic these days; it's closer to probably 30% versus the 50% when we IPO'd. But to John's point, we have layered in some slight increases in the back half of this year for freight costs related to the Red Sea, just from a guide perspective. We're cautiously optimistic that we won't see significant increases in the cost. But I think it's prudent just based off of what we know today and what we're seeing, to have something factored in there. And then just to reiterate John's point, we are seeing a few week delay in certain containers, but we're managing that really well up front with the clients and so far haven't seen any kind of client issue or ordering issue related to the Red Sea delays.

Alright. That was super helpful. Thanks so much, guys. Good luck.

Thank you.

Thank you. Our next question is from the line of Steven Forbes with Guggenheim Partners. Please go ahead.

Good morning, John, Dawn, Jen. I was wondering if you could expand on what's driving the acceleration in demand trends during February. Would it simply be the weather comparing month-over-month? Or is the core accelerating? And any early reads on how the consumer is engaging with the new outdoor collections, noting it may be early, but John, you sound super excited about the product. So really would love to hear your sort of early thoughts on how the consumer engagement is.

Certainly. The main impact in January was concentrated in the first two weeks, which were affected by significant news that alarmed many across the country, excluding California and Florida. After that period, we observed positive trends in the remaining weeks of January and into February. Therefore, we view the early challenges as a temporary issue related to weather. Our product line remains robust and is being very well received. We've just released our best catalog ever for outdoor products. If you haven't received it yet, let us know, and we will send one to you. Our new outdoor team, established about three to three and a half years ago, is fully operational and accelerating into 2024. The initial results have been fantastic, with exciting feedback from our stores and clients. We have innovative offerings that are unique to the market, boasting great style, excellent quality, and competitive pricing. We are confident that the outdoor segment will perform well this year.

Thanks for that. Maybe just a quick follow-up capital structure, extremely strong balance sheet, free cash flow profile. You announced a special dividend, but maybe sort of give us some preliminary thoughts on the 2025 pipeline. Is there an opportunity here to accelerate store growth? Are you thinking about potentially accelerating store growth, or how are you sort of thinking about the right rate of store growth or square footage growth over the coming years?

Right. Right. Well, as you know, we've been saying we did quite a bit of new store growth, renovations last year and also this year going into 2025 and beyond. We're shooting to go back to our very well-planned, very strategic growth plan, which is five to seven full-size stores a year, and then add on a couple more of the design centers as we see fit. So we're not looking to expand beyond what we've been planning all along, and we're going to stick with our strategic plan.

Thank you. Our next question is from Jeremy Hamblin with Craig-Hallum Capital Group. Please go ahead.

Thanks. Congratulations on the strong results. I want to revisit the last point regarding showroom growth and seek clarification to ensure we interpret it correctly. When you mention mid to high-single-digit showroom growth on a long-term basis, are you indicating that on a percentage basis or are we still discussing adding five to seven showrooms per year for fiscal year 2025 and beyond?

Go ahead, Dawn.

Thanks. Yes. So I think on a percentage basis makes sense in the near-term; the five to seven feels like the right number adding on that's five to seven traditional with incremental design studios on top of that.

I see. Okay. That is helpful. And then in terms of just looking at your gross margin profile, I think you had said that you expect to see some nice improvement on that in second half of 2024. And it seems based on where your sales levels are falling, maybe fewer pricing actions dragging on mix on a go-forward basis, are you planning for like kind of a solid step-up in your gross margin profile as well as we get into the out years?

So we don't typically guide to gross margin and you haven't put out medium-long-term goals for the gross margin. But what I will say is that we feel very good about our product cost. In June of 2023, we did take some price actions, really to kind of make sure that our inventory was right-sized primarily, and so we'll clear through those in the first half of this year from a delivery perspective. The second half P&L will benefit having been through that. But as we think about longer-term, we are investing in our in-home delivery experience, which that rolls through gross margin, and we'll kind of continue to invest in that, as we really focus on making sure that client experience is where we want it to be. And I think over time we'll see how that kind of plays out and as we have a relatively dynamic strategy. I think as we continue to scale the top line and really drive some of these growth initiatives that we have around our in-home designer program, our trade program, new showroom expansion, we really would expect to see leverage over time, over the long-term on that revenue, right? So the goal is always to scale those fixed costs. This doesn't mean it won't be linear, like I said, as we continue to reinvest strategically in some of these areas where we feel we can continue to elevate and really provide that luxury premium experience. But yes, we remain laser-focused on driving margins and fixed cost leverage across the board.

If I could just sneak a follow-up on the pricing actions, what would you characterize the impact on kind of Q4 gross margins and then in the first half of 2024, just from kind of the pricing actions and the impact on mix and gross margin?

Yes. We haven't really disclosed from the P&L flow through because a bit of that is contingent upon just timing. But what we did say was that we took about a mid-single-digit price decrease when you're looking at it across the full assortment. So we are really pleased to say that those prices have largely normalized back to kind of where we think they should be as a go-forward assortment. So, feeling good about our price position going forward.

Great. Thanks for taking the questions. Best wishes.

Thank you.

Thank you.

Thank you. Our next question is from the line of Max Rakhlenko with TD Cowen. Please go ahead.

Great. Thanks a lot. So, first, I know it's early, but how do you think about the new unit economics in the West Coast galleries? What could those look like compared to what you outlined for your legacy markets? How much more robust is the revenue side in some of those bigger galleries as costs are higher as well? And then if there's any differences in paybacks that we should be thinking about.

Yes, I don't have any specific details, but we know that the new stores we opened on the West Coast last year, as well as the upcoming ones, are expected to perform very well. The existing stores are already doing great, and we anticipate that their sales will surpass those of a store in Ohio. The West Coast has more people with disposable income, and our product is really well-received there; people are thoroughly enjoying it. So, we're very confident about our prospects. Dawn, do you have any specific numbers or insights to share?

Yes. I mean, I don't think we'd want to disclose kind of geographically, but what John says certainly holds true. You would expect larger location in California to perform better than maybe a smaller Midwest market. But we still remain focused on kind of the average adjusted EBITDA contribution for a showroom at 32%. And then the top-line is a minimum of $10 million. So some of those locations may significantly outperform; some may come in a little bit under, but we remain laser-focused on the payback, which is under making sure that we have payback within two years. So feeling good about our overall strategy and Dallas opening up that Dallas distribution center really unlocked the West Coast for us. So excited to continue to develop that geographic region.

Got it. And I'm sure I was going to ask a question on Dallas DC, but how is that going? How are those efficiencies? Is that DC now where you need it to be, or is it still ramping? And then what could the stem mile savings look like as over time you will be depending less and less on some of those Midwest facilities as you deliver out to the Western markets?

Yes. Dallas is currently performing, but it hasn't met our expectations for this time. This is mainly due to issues with inventory allocation. We are planning to have the allocation software operational early next year, which will help us improve Dallas's productivity. Until then, we are temporarily relocating products as needed to better align our inventory. It's crucial for us to ensure our clients receive their products on time and have a smooth experience. We are eager to implement these systems to achieve cost savings. I'm focused on this, and the team is too, but we need to establish some major platforms to fully realize these benefits. We expect to provide more information on potential savings in 2025.

Great. Thanks a lot and best regards.

Thank you.

Thank you. Our next question is from the line of Simeon Gutman with Morgan Stanley. Please go ahead.

Hi, good morning, everyone. Hey, John, I wanted to ask you about newness. You've touched on it a bit in prepared and even in some of the Q&A, putting your design hat on and looking across your product. And it's okay if you're biased, but I am curious about trends, where your product stands in terms of style and price point. I heard you made some price adjustments. Just thinking about where it sits. And I know you also said like we're not one design fits all. Can you talk about any specific trends, even within your product assortment, that rung faster than others?

Sure. I’d be happy to share. We're performing exceptionally well with our products. It's an exciting part of the business as consumers are seeking fresh looks for their homes. We've launched numerous new items, particularly in the wood and upholstery categories, where designs have become softer, rounder, and curvier, and the wood finishes have warmed up, moving away from the dark grays that were popular a few years ago. We noticed these trends in advance and have adapted accordingly. When we observe our sales in-store, it's the new products that truly excite our clients. We're actively working on launching large collections, with quite a few set for 2024. Regarding new products, we are pleased with the strong profit margins we’ve established. Our approach is to maintain healthy long-term profitability without being overly greedy, which could alienate half our clients. We ensure our prices reflect how we source our products directly from manufacturers and transport them to our warehouse and out to consumers. This model allows us to offer great value to clients while still achieving solid margins without excess greed. Our customers appreciate this, leading to repeat business and positive referrals. The trends continue to look promising, especially with softer and curvier shapes, which we believe will persist through 2024 and 2025. I hope this information is helpful.

I have a follow-up question for Dawn. It has two parts related to the WMS and the disruptions in the first quarter. I believe the demand comparisons were positive at the end of last year. Please correct me if I'm wrong. I'm trying to understand how you arrived at the expected -20 for the first quarter, even with a negative high single-digit in January. Is this purely a matter of comparisons? Why isn't there enough throughput from the previous demand comparisons to achieve a better outcome? Additionally, regarding the ERP rollout, could you discuss the expected benefits as well as any risks it might present, particularly with the WMS? What do you see as the biggest challenges related to system investments that might have caused disruptions to your business? Thank you.

I want to remind you that the demand comparison is a straightforward year-over-year calculation. However, it's not as simple for year-over-year comparisons because the 2023 base includes backlog. Consequently, there will still be a difference between demand comparisons and the actual comparison figures as we progress through 2024 due to that backlog in 2023. Once we move past 2024 into 2025, those numbers should align more closely. Regarding the ERP system, it's important to note that it is our manufacturing ERP, not the retail ERP. Therefore, its impact on the overall organization is limited; it does not affect delivery or the daily operations of the retail side. We anticipate several benefits, including improved visibility into costs, which will aid product teams as they price items, along with other operational advantages for the manufacturing team. I don't foresee any significant risks to the overall organization; we're closely monitoring and managing the situation, but we don't anticipate any major risks.

Okay. Thanks, everyone. Good luck.

Thank you.

Thank you. Our next question is from the line of Robbie Holmes with Bank of America. Please go ahead.

Hi, this is Maddie Chuck representing Robbie Holmes. I appreciate the opportunity to ask questions. You mentioned that showroom openings are expected to peak in the second and third quarters. I'd like to inquire specifically about the outlets, as you're planning three openings this year. Although they still represent a small portion of the overall showroom total, how is the demand for these outlets? How do their economics stack up against traditional showrooms? Additionally, what factors are guiding your decisions on their locations?

Sure. Yes. I mean, as we've more than doubled our business in the last couple of years, we just haven't kept up with the outlet growth. So this is really just balancing out what we needed to keep up with the outlet product. The outlet product is sold at a substantial discount. So certainly, the economics are not as strong as a traditional store. But if you look at it as a percent of sales, we're actually not adding anywhere near what we need to add compared to how much our sales growth has happened, which means we're actually doing a better job delivering things, and less people are returning things and so forth. So we think we're in good shape. Once we get these three open, it'll just steady things out, so we can move on. And then as far as locations, I believe one’s in Colorado, one’s in Pittsburgh, and one’s in Kentucky. And all three are opening, I think in the second quarter, I believe.

Thank you. Thank you. That's really helpful.

You're welcome.

And my last question is about maybe promotions. You dialed back on promotions, which helped margins in November. What are some of your assumptions for the promotional environment in 1Q and the rest of the year maybe just high level?

Yes, at a high level, our strategy remains unchanged. We do run some promotions at specific times of the year, but we are not planning any drastic changes at this moment. We have numerous options available if needed, but for now, we will continue as we have been for the past year. We will engage in promotions and handle upcoming events like Memorial Weekend, which is coming up. Overall, our approach is consistent with what we have been doing. Is that accurate, Jen?

Yes. No, I would agree with that. And Maddie, hi, good morning. What I would add, and this is something that we spoke to on the last call as well. To John's point, our strategy to promotions hasn't changed what we have been doing those really focusing on the messaging of promotions. So we spoke about really focusing on how we assort our sales section on our website, for example, how we speak to promotions, really paying close attention to those elements. But echo John's point about the overall promotional approach has not changed.

That's super helpful. Thank you.

Thank you. Our next question is from the line of Phillip Blee with William Blair. Please go ahead.

Hi, good morning. Thanks for taking my question. You guys have done a lot of remodels and relocations over the past few years and plan to continue in 2024. And you've elevated your store experience, which is clearly having a nice tailwind on demand. Can you talk about how many of your showrooms are still in maybe a legacy format and what kind of lift you see following a remodel or reload? Thank you.

Yes. Dawn, I don't have specific numbers, but I think we're about halfway through where we want to be. Does that sound about right, Dawn?

Yes, I think it does.

Yes, we're working on various factors related to our locations, including leases and landlords. We don't have a fixed plan for moving or renovating stores, but we're dedicated to remodeling existing locations that are performing well and are strategically important. We've noticed an increase in sales from these efforts. It's a long-term investment, and we want to avoid becoming outdated like many retailers have. Staying ahead of the game is crucial, and we believe we are doing so better than our competitors in terms of remodeling and maintaining a fresh, relevant look. This has a positive impact on our customers, particularly our female clientele, who often express excitement about the store's appearance and how it aligns with their vision for their homes. This inspires us and positions us well for a bright future with many opportunities ahead.

Okay. Great. That's very helpful. And then Dawn, maybe a question on inventory is down 11% at the end of the year on a dollar basis. Can you maybe talk about how much is freight and price action versus unit-driven and then how you feel about your positioning heading into 2024, particularly around some of the newness? And then should we expect more muted inventory growth through the first half of the year? Thank you.

Yes. So we feel great that the price actions that we took in June of 2023 really positioned us pretty well as we exited 2023. There's still a little bit to clear through and have delivered in the first half, which we talked about. So I think we feel good, freight has largely, container costs have largely normalized in the inventory relative to kind of the spikes that we saw in 2021 and 2022. So feeling good about kind of where the inventory is sitting as we continue to clear through those price action SKUs in the first half of this year and then really excited for the newness that is going to be launched or that was launched earlier this year and that we have a fall launch as well. And I would say that the team is taking a very responsible approach with buying into that newness. We spoke last quarter around how that backlog that is normalizing slightly higher than it was pre-pandemic, right? As we think about how do we buy into newness and can we make sure that we're getting a really solid read on the business before making meaningful purchases into that product. And we know that clients are willing to wait a little bit longer lead times for that newness because it's exciting, it's different, it's unique. So I feel good about where we'll be positioned in the next quarter and the buy plan for the year.

Great. Thank you. Best of luck.

Thank you.

Thank you. Ladies and gentlemen, as there are no further questions, I would now hand the conference over to Wendy Watson for her closing comments. Wendy?

Thank you, everybody, for participating in our call today, and we look forward to talking to you again next quarter.

Thanks, everybody.

Thank you. The conference of Arhaus has now concluded. Thank you for your participation. You may now disconnect your line.

Goodbye.