Earnings Call Transcript - ETD Q1 2021

Operator, Operator

Greetings, and welcome to the Ethan Allen Fiscal 2021 First Quarter Analyst Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow this formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Matt McNulty, VP of Finance. Thank you Mr. McNulty, you may begin.

Matt McNulty, VP of Finance

Thank you, Victor. Good afternoon and welcome to Ethan Allen's conference call for our fiscal first quarter ended September 30, 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.

Farooq Kathwari, CEO

Yes. Thank you, Matt. And thank you all for participating in our call. As we advised in our press release, we are making very good progress in growing our sales, profits and strengthening our balance sheet. A few important highlights. And I believe in this new world, we have to compare our results to last year and also the COVID impact in the last six months. Sales of $151 million for the quarter ended September 30 increased 65% from our delivered sales in the fourth quarter ended June 30, 2020. Sales were lower by 13.1% from September 30, 2019. Our written business at retail division increased 79% from the fourth quarter ended June 30, 2020 and also increased 10.8% from September 30, 2019. We are pleased that we are positioning well after major challenges faced due to COVID-19 in the quarters ended March 31, 2020 and June 30, 2020. We have strong backlogs as follows. For our retail division backlog at September 30, 2020 increased 43% from June 30, 2020 and increased 39% from September 30, 2019. We also improved our gross margins. At September 30, gross margins of 56.8% increased from 56.3% from September 30, 2019 and 53.3% from June 30, 2020. The gross margin of 56.8% was achieved despite our manufacturing operating at below optimum levels during the quarter. Our adjusted operating income margin of 81% at September 30, 2020 compares to a negative gross margin of 5.4% at June 30, 2020 and 7% in the previous year quarter ended September 30, 2019 and also impacted by the lower production in our manufacturing. We have continued to focus on strengthening our balance sheet by paying down $50 million of debt and, at September 30, 2020, ended with cash of $62 million and debt-free. Now after Corey provides a brief overview of our financials, I will provide some information on our initiatives to grow our sales and profits. Corey?

Corey Whitely, CFO

Thank you, Farooq. During the first quarter of fiscal 2021, our teams remained focused on serving our clients and keeping our workplaces safe. Our fundamentals continue to be strong, with retail written orders and backlogs reporting double-digit growth compared to the prior year both within our design centers and from e-commerce. Production levels throughout our manufacturing increased steadily during the quarter and are getting back to pre-COVID-19 pandemic levels, which we expect will reduce the high undelivered order backlogs and reduce delivery lead times in the near term. Consolidated net sales for the quarter were $151.1 million, compared with $173.9 million in the prior year quarter. While net sales decreased, written orders accelerated during the quarter. Retail segment written orders were up 10.8% over the prior year, including 26.5% growth in August and 11.8% growth in September. Our e-commerce orders reflected 112% growth for the quarter compared to the prior year quarter, as we have continued to focus on refining our digital experience for our clients. As Farooq mentioned, we continue to see very strong retail written order trends for October with month-to-date orders up over 50% compared to the prior year. Wholesale segment orders, while benefiting from the strong retail growth were negatively impacted for the quarter by the timing of GSA and other government orders due to COVID-19 pandemic-related disruptions that are delaying issuance of new orders. The delayed orders are expected to be issued in the coming months. Excluding GSA and other government orders, wholesale segment orders increased 9.2% for the quarter. Our adjusted gross margin increased 50 basis points to 56.8%, primarily due to expansion within the wholesale gross margin partially offset by a decrease in the sales mix and lower manufacturing production from COVID-19-related disruptions. Adjusted operating margin, which excludes the impact of pre-tax charges from restructuring initiatives, asset impairments and other corporate actions increased to 8.1% compared to 7% a year ago, primarily due to strong gross margins and cost containment resulting in a 14.3% reduction in adjusted operating expenses. Adjusted operating expenses for the quarter were lower due to reductions in selling expenses and reduced compensation expense as we are operating more efficiently with 23% less headcount compared to September 2019. Adjusted diluted EPS was $0.36 compared with $0.35 in the prior year first quarter. Our GAAP EPS was $0.37 compared to $0.53 in the prior year quarter. As you may recall, last year our GAAP EPS results for Q1 included a one-time net pre-tax gain of $4.9 million, or $0.18 per share from the sale of our Passaic New Jersey property, net of restructuring activities. As of September 30, 2020, our balance sheet remains strong with cash and cash equivalents of $62 million and inventory of $127 million. During the first three months of fiscal 2021, we generated $42.2 million of cash from operating activities, and as Farooq mentioned, we paid the remaining $50 million in outstanding debt using available cash on hand. With that, I'll turn the call back over to Farooq.

Farooq Kathwari, CEO

Yes. Thank you, Corey. Our focus remains on the following important initiatives to grow our sales and profits and to have a strong balance sheet. Number one is to continue focus on strengthening our talent. We have a strong team managing our vertically integrated enterprise. During the last year, we have strengthened our retail, marketing and product development teams. Second is focus on service. It's critical. Our advantage of making about 75% of our furniture in our North American facilities provides a competitive advantage, especially during these challenging times. We are adding to plant capacity and investing in technology. As we indicated, we expect to catch up on most of our backlog by the end of this quarter and some early next quarter. We have maintained strong marketing initiatives including television, direct mail, digital and print. We have also introduced digital magazines in categories such as mattresses, outdoor, lighting, and rugs and have seen an increase in business in these categories. We plan to continue our strong marketing in the next three quarters of this fiscal year. Fourth, combining personal service with technology is a strong competitive advantage. Our investments are providing tools such as augmented reality and 3D floor planners, making it possible to have our interior designers interact with clients even during the pandemic periods. Fifth, operating our business with high standards of safety, protocols, following CDC guidelines for safe store, manufacturing, and logistics operations for our customers and our staff is important and an important focus. Finally, as advised in our press release, we are very pleased to have continued strong business increasing by 50% month-to-date in October written orders compared to October 2019. This is a result of strong product programs, personal services, and technology. Also to some degree, it was helped that last year written was impacted by the introduction of the Member Program. We look forward to continuing our progress and remain cautiously optimistic. With this, we are happy to open for any comments. Operator?

Operator, Operator

Our first question comes from Brad Thomas with KeyBanc Capital Markets. Please go ahead with your question.

Farooq Kathwari, CEO

Hello, Brad.

Brad Thomas, Analyst

Hi, Farooq. Good afternoon. Thanks for taking my question. I wanted to talk a little bit more about working through the strong backlog and strong written orders that you've generated. Could you help us think about your ability to convert these orders into GAAP reported revenues in this upcoming quarter and how we should try to triangulate these strong written trends to revenues going forward?

Farooq Kathwari, CEO

Yes, Brad. Of course that is critically important. Our manufacturing is almost close to operating at the pre-COVID levels. Now having said this, we still have issues relating to some raw materials from fabrics, but we are catching up. I believe that if I had to give an estimate, I would say that perhaps 60% to 70% of the backlog we would be able to produce this quarter, and some of it in the next quarter. Another issue is that we also have to see customers' ability to take products. We have products. We are getting them into our service centers across the country. And now we are working to see that the customers can accept them because there are issues on that side too. Most of it should be delivered by December and some in January and February.

Brad Thomas, Analyst

That's helpful, Farooq. Can you talk a little bit about the competitive and promotional landscape? I think broadly what we're seeing out of the industry is because of the strong demand and some inventory availability that many competitors are dialing back on the promotion. Can you talk about your ability to get stronger margins in this upcoming quarter?

Farooq Kathwari, CEO

Yes. So Brad, that's an important question. In nearly 80% of what we sell is custom, which makes a big difference. We don't have a lot of excess inventory. This period, people are in a hurry. They've been sitting at home and they want products and they want them immediately. We can do some of that, but we cannot compete with those who have lots of inventories on hand and can sell products directly from their warehouses. This has been an impact. We've seen many people who operate more of a commodity business are also running out of stock and waiting for shipments from overseas. In our case, we manufacture over 70% of our products in our own workshops. We had to scale back production due to COVID-19 in the March quarter when we had to close all our plants. When operational, we benefit greatly from margins and service. However, if we are not operating at optimal levels, it does influence our margins. Currently, as our manufacturing ramps up, our retail operates at higher volumes, and logistics improves, we have a great opportunity to achieve margins. Therefore, there’s a good news; our manufacturing is operational, and we have the chance to fulfill this backlog, which also helps us improve cash flows and margins.

Brad Thomas, Analyst

Very helpful, Farooq. Thank you so much and good luck.

Farooq Kathwari, CEO

All right, Brad. Thanks.

Operator, Operator

Thank you. Our next question comes from Bobby Griffin with Raymond James. Please proceed with your question.

Farooq Kathwari, CEO

Hello Bob.

Bobby Griffin, Analyst

Good afternoon, Farooq, Corey. Hope you are doing well?

Farooq Kathwari, CEO

Great, you too.

Bobby Griffin, Analyst

So I guess the first question I want to ask was maybe on October trends. Understanding that the prior year comparison is a little different with the membership model. But can you just talk about October in reference to September, which would help us think about the strength of the business? Did you see the business and orders get stronger in September— I mean in October versus September sequentially? That way it takes the weird comparison out of the equation?

Farooq Kathwari, CEO

Yes. Bobby, I had included this October data only yesterday in conversation with Corey. I mentioned that we've got to prepare for questions about our performance in October. I can say that this 50% increase is significant. It reflects the impact of both the COVID and the membership impacts from last year. If I had to estimate, I would say that about 30% of this increase is due to current demand and perhaps 20% due to the impact of the membership model last year.

Bobby Griffin, Analyst

Okay. That's very helpful. I appreciate that, Farooq. Did you change your marketing message at all, or anything interesting in October versus September, August, or is it just the customer coming back with more strength?

Farooq Kathwari, CEO

Actually, we had several factors at play, starting from June. Keep in mind that in the March quarter up to June, we had closed almost all our design centers. In September and October, we began bringing people back in. We maintained strong marketing efforts through direct mail, digital advertisements, and television. Additionally, we have increased our manpower in design centers and extended operational days of sales. That all contributed to our improved business performance in October.

Bobby Griffin, Analyst

Okay. Farooq, I understand it's still early in this build-up of recovery. However, you are operating with less headcount and lower SG&A expenses, a significant difference compared to last year. How much of this do you think you can maintain going forward? Do you still need to bring some of those SG&A costs back?

Farooq Kathwari, CEO

Most of our manufacturing staff is back, although we are still operating with fewer employees in retail. Currently, our total headcount is about down 23% compared to the previous year. As we move forward, if business continues to increase, we will likely maintain our current levels while possibly adding staff, especially in our manufacturing. We are hiring in Vermont, North Carolina, and looking towards Mexico and Honduras. By the end of this quarter, I anticipate our headcount could drop to about 10% to 15% down from last year.

Bobby Griffin, Analyst

Okay. This has been very helpful. Best of luck in the quarter.

Farooq Kathwari, CEO

All right, Bobby. Take care.

Operator, Operator

Thank you. Next question comes from Cristina Fernández with Telsey. Please proceed with your question.