Ethan Allen Interiors Inc Q2 FY2021 Earnings Call

Greetings, and welcome to the Ethan Allen Fiscal 2021 Second Quarter Analyst Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow this formal presentation. Please note this conference is being recorded. I will now turn the conference over to our host Matt McNulty, Vice President of Finance. Thank you. You may begin.

Thank you, Diego. Good afternoon and welcome to Ethan Allen's conference call for our fiscal second quarter ended December 31, 2020. This conference call is being recorded and webcast live on ethanallen.com, where you'll find a copy of our press release, which contains reconciliations of non-GAAP financial information referred to in the release and on this call. A replay of today's call will also be made available via phone and on our website. After our prepared remarks, we will open the call to questions. As a reminder, our comments today will include forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially. Please refer to our SEC filings for a complete review of those risks. The company assumes no obligation to update or revise any forward-looking matters discussed during this call. Joining me today on the call is our Chairman and CEO, Farooq Kathwari; and our Chief Financial Officer, Corey Whitely. I'm pleased to now turn the call over to Farooq Kathwari.

Thank you, Matt, and thank you all for participating in our quarterly call. As we all know, the last 12 months have been traumatic, challenging, and also rewarding in many important changes to strengthen our enterprise and also achieving strong results. This has been an amazing journey. Nine months back, I had to furlough about 4,000 associates, closed all our manufacturing and most of retail, our stock price, like most enterprises, bottomed to close about $8. As you know, the good news is written sales have continued to grow. Quarter ending December 31, 2020, increased 45% from the previous year's quarter. Our adjusted earnings per share of $0.69 increased 155.6%. Our backlog for retail division increased 146%, and after Corey provides a brief overview, I will review our initiatives.

Thank you, Farooq. During the second quarter of fiscal 2021, our teams remained focused on serving our clients and keeping our workplaces safe. Our retail segment written orders continued to accelerate, achieving 44.9% growth compared to the prior year. Our e-commerce orders reflected 194% growth for the quarter. We are pleased that our January retail written orders are continuing the upward trend. Consolidated net sales for the quarter were $178.8 million, a 2.4% increase compared to the prior year's quarter. Wholesale net sales increased 10.5% as production levels throughout our manufacturing steadily improved, and our peak production weeks during the quarter matched the pre-COVID-19 production levels. Wholesale segment written orders increased 28.1%. Excluding GSA and other government orders, wholesale segment orders grew 39.7%. We continue to see COVID-19 pandemic-related disruptions that are delaying the issuance of new GSA and other government orders. Our retail net sales increased 4.1% for the quarter. At the end of the quarter, both retail and wholesale had high order backlogs that we expect to get caught up over the March and June quarters. Our adjusted gross margin increased 80 basis points to 56.9%. The increase in consolidated gross margin was due to higher productivity in our manufacturing and a change in the sales mix. Retail sales as a percentage of total consolidated sales were 81% compared with 79.7% a year ago, which positively impacted consolidated gross margin. Adjusted operating margin, which excludes the impact of pretax charges from restructuring initiatives after the impairments and other corporate actions increased to 13.1% compared with 5.4% a year ago, primarily due to a 3.9% increase in gross profit and an 11.4% reduction in adjusted operating expenses. Adjusted operating expenses for the quarter were lower due to reductions in selling expenses, including advertising costs and reduced compensation expense as we are operating more efficiently with 19% less headcount than in the prior year period. Our GAAP EPS was $0.67 compared to $0.27 in the prior year's quarter. Our adjusted diluted EPS increased 155.6% to $0.69 compared to $0.27 in the prior year's second quarter. As of December 31, our balance sheet remained strong with cash on hand of $80 million, inventory of $126.7 million, and no outstanding borrowings. During our fiscal first half, we generated $65.9 million of cash from operating activities, a 181.8% increase from the prior year's period. We paid regular dividends of $5.3 million during the quarter. In November, the regular dividend was increased by 19%, and we just paid $6.3 million in regular dividends on January 21, reflecting the increased $0.25 per share dividend. With that, I will turn the call back over to Farooq.

All right. Thank you, Corey. I am also pleased to provide a brief overview of our initiatives, which, as we have discussed previously, focuses on five important areas. The first is talent. Talent development is key and a continuing process. Crisis does create an opportunity to review talent, and I'm pleased we have greatly strengthened our leadership in our retail network, merchandising, marketing, manufacturing, finance, technology, and other areas of our vertically integrated enterprise. The second area is marketing. We continue to refine and invest in various mediums, most importantly in the digital mediums. Digital mediums have enabled us to increase our reach to more potential clients while reducing our marketing costs. The third area is service. We continue to make progress despite many challenges due to COVID-19, the transportation issues in getting products from East Asia, and the shortage of raw material. However, our advantage of making about 75% of our products in our North American workshops is an advantage; and as reported, we expect to catch up in the next few months, and we are also investing in our North American manufacturing. Our logistics network of delivering products in white glove service across North America is a strong advantage, and we continue to refine it. The fourth area is technology. Combining technology with personal service from about 1,000 talented in-house professional interior designers has been key to increasing written business at retail. We also, as Corey said, have experienced a major increase in our e-commerce. We are investing in technology in various areas, including retail networks, manufacturing, and operations. The fifth area is social responsibility; we’ve always been at the forefront in this area not because of external pressures, but because it's the right thing to do for the welfare of our associates and our clients. Now as we indicated in the press release, we see that our January written orders continue the upward trend. Also, the government orders that were postponed have started to come in in January, and with this brief overview, I'm pleased to open up for any questions and comments.

Thank you. At this time we will be conducting a question-and-answer session. Our first question comes from Brad Thomas with KeyBanc Capital Markets. Please state your question.

Hello Brad.

Hi, good afternoon Farooq, good afternoon Corey and Matt. Thanks for taking my question. Farooq, I was hoping to ask about this important topic of converting these orders into revenues, particularly because the order trends that you've been seeing are just so extraordinary. I mean this is the best that I can recall in over a decade of covering the company. I know that this is an unusual world that we are in. There are logistical challenges. It sounds like you'll be able to make some progress here in your fiscal third quarter, but could you talk a little bit about what a reasonable revenue growth rate might be given the strong backlog that you have to work through? Thank you.

Yes, Brad, this is a very important issue and has been a challenge. I won’t go into all the specifics, but you’re likely aware of the transportation and raw material issues we're facing. Our strong point is that 75% of our production is done in our North American facilities, and we have increased our capacities. We have put in significant effort to secure raw materials, but we do face challenges since we don't produce the fabrics ourselves. However, we manufacture 100% of our upholstered products, which is our largest category, in-house. Things are improving, and I expect to see increased performance in the upcoming quarter, with potentially more improvements in the fourth quarter, but we will have to monitor the situation closely, Brad.

Okay. Is there any sort of way you could help frame up what’s a reasonable revenue range or reasonable revenue growth rate might be for this March quarter, because in a normalized year if your supply chain, your factories were 100%, one would think that we would be seeing double-digit revenue growth this quarter. Can you help give us any perspective on what reasonable growth might be for this quarter?

No Brad, I mean obviously we have a 146% increase in our backlog in our retail division. We have a measure in the wholesale. I would say that I'm just thinking out loud right now because again there are so many factors beyond our control. I would say that we should increase our delivered sales that we are talking about this quarter. I would say that at least anywhere between 10% - 15% - 20% in that range is what I would like us to increase our delivered sales.

That's very helpful Farooq. And lastly for me I was curious if you could just give us some sense of how you're managing some of the inflation that we are starting to see bubble up. Obviously, some of the raw material prices are increasing, transportation costs, etc. How do you feel like Ethan Allen is positioned to deal with some of those in the quarters ahead here?

Yes, they are increasing, and I believe you are aware that our exposure to external sourcing is under 25%. However, we are noticing a significant rise in transportation costs, and currently, it seems that everyone is paying a premium to secure container bookings. If our business relied entirely on imports, this would be a major concern. Fortunately, we handle most of our lumber ourselves through our own sawmill, and we source it directly from the forest, so we are in a good position there. The notable increases are mainly affecting the 25% of our imported products and the fabrics. Therefore, I would say that there will be a small retail price increase in the coming months.

Very helpful. Thank you so much, Farooq.

All right, Brad. Thanks.

Our next question comes from Joe Feldman with Telsey Advisory Group. Please go ahead with your question.

Hello Joe.

Hi, how are you guys? So, I wanted to ask with the January backlog up so much, did stimulus help that at all or is it just the demand is so strong? What's driving that? Was it the marketing that helped or are you seeing new customers come in? What do you think that’s behind it all?

Joe, we have got a great company. We have got great products. We have got great people. That's the number one. But also I would say that the result is certainly that people have been interested in home. There is a lot of interest in home and then people are looking at our brands where we have quality. We can deliver the product, and it also goes back to what Brad had asked; we have also given more discounts or savings than we normally would do, and there is a reason for it. Even though our margins have held up, our sales have increased, we have given savings up to 25%, and the reason is that we wanted to make sure that all the new people that are interested in home come to us and become our clients and that's also taking place. So, I would say the benefit of our client base, plus increasing clients through, of course, our marketing, through our name, and also this savings has all helped us increase the business.

Got it and then there was another topic I wanted to ask you about was on the promotional side. I mean have you had to, have you scaled back the promotions this period just given the demand is so high, and how do you envision the environment in the coming six months to round out the fiscal year?

Joe, take a look at this. When you take a look at what we have done, we have given more discounts. We have had somewhat less production. We have been faced with all issues but our margins at wholesale increased and our margins at retail increased with all of this. So, a lot of reasons behind it, but efficiency in terms of operating our business at our manufacturing level, at the retail level has given us at this stage greater margins with all the challenges I have talked about without increasing sales. Now, I am talking about gross margins. Our operating margins have also increased with a lot of reasons and, of course, as Corey just mentioned we have reduced our expenses. We have even reduced our marketing expenses from spending close to 5% to spending less than 3%, not because it has been less, it's less effective. But today digital marketing and all the tools that we are using are helping us to reach more people at less cost.

Understood. If I can just sneak one more in. I guess if I were to walk in today and buy a new sofa what are you telling people these days? Is it 8 weeks, 12 weeks I assume, 14 weeks. Like what's the time frame you are giving them these days?

The good news is it's being reduced and approximately 8-9 weeks is the time we are giving.

Okay.

Keep in mind it's all custom. And we also have an element which we call quick ship which is still made custom but there we are now shipping in less than 6 weeks.

That's great. Thank you. Good luck for this quarter.

All right.

Thank you. There are no further questions at this time. I will turn it back to management for closing remarks. Thank you.

Well thank you very much, and I know of course we have given a lot of information out, and I understand the reason we don't have questions is because we have provided a lot of information and of course the results are good. The objective really is to continue to operate the business. As I said earlier, the first important thing is to do it safely. The welfare of people is tremendously important at all levels, and we are very pleased that our people have really done an amazing job in terms of managing this health crisis. So, we are going to continue to be very proactive. We have a major focus on increasing our offerings to reach a consumer base that we believe is very much relevant to us. We are going to increase our technology. We are going to increase our manufacturing; for instance, we are doubling our production in some of our wood products in North America. We had already invested greatly in the last few years to double our capacities in terms of our upholstery manufacturing, and so we are ready to grow the business and we are ready to service. So again, thanks to everybody for being part of Ethan Allen and to all of our stockholders and also to all our associates for listening. Thank you very much.

This concludes this conference. You may disconnect your lines at this time. Thank you for your participation.