Earnings Call Transcript - SBH Q3 2020

Operator, Operator

Thank you. Good morning, everyone, and welcome to the Sally Beauty Holdings Third Quarter Earnings Conference Call. Before we begin, I will remind everyone that we have made a presentation available for today's call that can be viewed from the link provided on our investor site at sallybeautyholdings.com/investorrelations. In addition, given the impact of COVID-19 and consistent with our recent disclosures, we will be providing limited supplemental disclosure for some operating and financial metrics for the months of April, May and June within the quarter. I would also like to remind you that certain comments, including matters such as forecasted financial information, contracts or business and trend information made during this call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. Many of these forward-looking statements can be identified by the use of words such as believe, project, expect, can, may, estimate, should, plan, target, intend, could, will, would, anticipate, potential, confident, optimistic and similar words or phrases. These statements are subject to a number of factors that could cause actual results to differ materially from expectations. Those factors are described in Sally Beauty Holdings' filings with the Securities and Exchange Commission, including its most recent annual report on Form 10-K. The Company does not undertake any obligation to publicly update or revise its forward-looking statements. The Company has provided a detailed explanation and reconciliations of its adjusting items and non-GAAP financial measures in its earnings press release and on its website. With me on the call today are Chris Brickman, President and Chief Executive Officer; Aaron Alt, President of Sally Beauty Supply and Chief Financial Officer; and Marlo Cormier, Senior Vice President of Finance and Chief Accounting Officer. Chris will start by offering thoughts on our third quarter as well as why Sally Beauty Holdings is uniquely positioned to take advantage of consumer trends, respond with agility to the COVID environment and generate cash. Aaron will then discuss our third quarter consolidated and segment financial results, touch on our liquidity and provide some perspective on our fourth quarter. Finally, Chris, Marlo, Aaron and I will be available for your questions. Now, I'd like to turn the call over to Chris.

Chris Brickman, CEO

Thank you, Jeff, and good morning, everyone. It has been an incredible couple of months. In our last earnings call, we highlighted our aggressive response to the COVID-19 pandemic, our successes in transformation initiatives during the second quarter, and the positive comparisons our business experienced before COVID began. During that May call, we discussed changes in consumer behavior, the recession-resistant nature of our categories, and our efforts to minimize cash burn and access additional liquidity. Since then, we have shared various updates related to COVID across these topics. Throughout, the message has been one of agility, resiliency, and decisive action as we grow our cash reserves and maintain liquidity while swiftly reopening our stores, recalling our team from furlough, and advancing our digital business initiatives. Progress continues, and our team should be proud of their efforts this quarter. Despite the challenges posed by COVID, we accomplished a lot. Here are some key highlights from the third quarter. We temporarily closed our entire store fleet and reopened, so we are now operating everywhere except for a few stores in international areas. We quickly shifted to e-commerce, introducing ship-from-store and same-day delivery. We also set up contactless curbside pickup at many locations as COVID forced customer-facing operations to shut down. We experienced significant digital growth over last year while store sales rebounded as we reopened. As the quarter progressed, we saw strong demand, although overall sales showed a decline due to COVID and the shutdown. As the network reopened, sales began to recover robustly. Both Sally Beauty and Beauty Systems Group reported positive same-store sales in June, even with parts of the network closed at the month's start. Beauty Systems Group achieved its highest monthly sales ever, generating $155 million in June as stylists and salons restocked supplies in response to strong customer demand. We exercised remarkable discipline regarding costs and cash management. We effectively managed our working capital, with inventory dropping to a six-year low during the quarter. We revamped our inventory process and cleared out excess inventory in Europe and the U.S. Our cash reserves grew to $839 million. We restructured in the U.S. to focus on our digital capabilities, consistent with our transformation plan, accomplishing all this while much of our staff was on furlough, enabling us to regain sales momentum quickly and bring back most of our team by mid-June. I want to share some insights into our consumers. Data suggests that consumer sentiment improved until mid-June, aligning with state reopenings and hope for overcoming COVID. However, sentiment declined later in the quarter as fears resurfaced. We observed changes in purchasing behavior as consumers initially curtailed spending due to job losses and uncertainty but grew less cautious over the quarter despite ongoing unemployment fears. While we can't quantify this precisely, we believe increased spending resulted from three factors: First, consumers historically prioritize spending on appearance over other expenses. Second, consumers may have extra discretionary income as they spend less on dining, entertainment, or travel, or receive stimulus payments. Lastly, third-party data suggested beauty consumers were lagging behind others in categories like housewares, but we did not see that in our demand, believing it reflects our leadership in attractiveness categories. We're navigating an uncertain landscape, and investors seek assurance from companies demonstrating strong fundamentals for future performance, especially in retail and specialty retail. An investment manager remarked that companies catching investors' attention share three characteristics: They leverage consumer trends driven by COVID, demonstrate effective operation in a COVID-affected environment, and maintain strong cash flow and balance sheet liquidity. Sally Beauty Holdings embodies all three traits. Let's discuss how we capitalize on COVID-driven consumer trends. We're witnessing trends uniquely align with our business. First, there's a DIY movement. Consumers have turned to home projects due to COVID fears, which includes hair coloring. Sally Beauty is the industry leader in professional home color products, providing customers with the necessary products and online resources, such as instructional content and trained associates. Second, we see creative experimentation as consumers spend more time at home. With remote work and online learning, customers are seizing the chance to express themselves with their appearance. We've noted a surge in demand for vibrant colors in our Sally retail business, which grew 22% in the quarter versus last year, even with store closures. This category now accounts for 27% of total color, up from 20% the previous year. Customers eagerly sought to return to their stylists once restrictions eased, and our Beauty Systems Group was ready with supplies for stylists and salons. We believe we've been more agile than some competitors in quickly resuming operations, leading to BSG's strongest month ever in June and gaining market share by better serving professionals during this challenging period. The fund manager emphasized the importance of companies proving they can navigate the ongoing COVID-affected environment. Our swift actions over the past three months showcase that we fit this description. We successfully launched new products to protect both retail and professional customers and maintained stock levels of essential items, such as hand sanitizer and PPE, even before the crisis peaked. We were recognized in national media as one of the few places to find hand sanitizer during the crisis. While supply for these items has stabilized, we anticipate ongoing demand for personal protection in salons and will continue to include these items in our inventory. Additionally, we adapted our service model for COVID, offering customers more choices for interaction and access to inventory. We prioritized safety, mandating masks and gloves for staff, installing plexiglass, enforcing social distancing, and maintaining clean stores. These measures extended to our distribution centers, where we increased capacity. We introduced curbside service and revitalized it in areas experiencing COVID spikes. We launched same-day delivery at Beauty Systems Group for busy stylists and offered ship-from-store capabilities at Sally Beauty to broaden retail inventory availability. We continually optimize and expand these services. Moreover, we operate effectively in the COVID environment because we aren't reliant on mall traffic. Most of our small stores are in strip malls or near large retailers like Walmart or Target that remained open during the crisis. This structural advantage means we aren't subject to mall crowd fears affecting our customers. Lastly, regarding our cash flow and balance sheet, we highlighted our efforts to enhance liquidity, including expanding our revolver and issuing $300 million in bonds. We also noted our rigorous cash management, yielding positive free cash flow of $180 million for the quarter, which was intentional. Our cash reserves reached $839 million at the end of the third quarter. Transitioning our focus from profit to cash at the crisis's onset has been beneficial. Our cash generation success relied on tactics such as reducing promotions, limiting advertising, managing working capital proficiently, and negotiating rent abatements. This will remain our ongoing strategy as we move forward, and I want to stress our strong liquidity position. In closing, I want to underscore why we believe Sally Beauty Holdings is well-positioned to thrive as the world navigates the ongoing pandemic and economic downturn. Our categories are in high demand, and customers prioritize their hair and beauty routines. Our business has proven relatively resilient during recessions, benefitting from a built-in hedge between Sally Beauty and Beauty Systems Group. As DIY trends surge, Sally may see more benefits than Beauty Systems Group, but we anticipate opportunities within BSG as well from PPE growth and smaller distributors downsizing. We're not burdened by mall locations, alleviating the concerns consumers may have about crowded malls. Additionally, our small store footprints facilitate easy social distancing. We're rapidly enhancing our digital platforms and will continue to prioritize investments in digital capabilities and delivery models to better serve customers and drive growth amid disruptions. Our team is actively pursuing transformation while building on the success of restarting our expansive store networks, prioritizing safety for our customers and team. This positions us well to meet our customers' needs, strengthen our leadership in professional color, and grow our business despite ongoing COVID impacts in the upcoming quarters. Now, I'll turn it over to Aaron to discuss our financials and liquidity in more detail.

Aaron Alt, CFO

Thank you, Chris. Good morning. I want to begin by expressing my gratitude to the associates at Sally Beauty CosmoProf and Pro-Duo in our stores worldwide. Their dedication and ingenuity during the COVID crisis have been truly remarkable. Today, I’ll provide some insights into the complexities within our quarterly results. Starting with revenues, consolidated revenue was $705 million for the quarter, a decline of 27.7% from last year. Consolidated same-store sales dropped 26.6%. The main reason for our revenue decrease this quarter was the halt in customer-facing operations due to COVID, which affected all of April, May, and June. We also lost one selling day in our largest sector, the Sally U.S. retail business, due to a one-day total network shutdown amid civil protests for racial justice, costing us an estimated $5 million in sales for the quarter. Additionally, we operated 27 fewer stores because we paused store remodels, relocations, and new store openings due to COVID. We also faced negative effects from foreign currency translation, about 30 basis points on reported sales. On the positive side, our global e-commerce business showed significant growth. E-commerce sales reached $137 million for the quarter, growing 278% compared to the previous year. This growth was fueled by three main factors: our quick transition to digital options for customers, a notable shift from stores to e-commerce early in the quarter, and a substantial influx of new customers, with nearly 50% of our e-commerce customers being first-time buyers. As our stores reopened, our e-commerce business decreased slightly but still showed strong year-over-year growth, with growth rates for April, May, and June at 353%, 317%, and 115%, respectively. We also witnessed robust consumer demand in our stores as they reopened. The COVID disruptions impacted the first two months of the quarter more significantly, but as stores reopened, we observed substantial improvement, with same-store sales down 72% in April, down 90% in May, and up almost 11% in June. The U.S. and Canadian businesses reopened stores more quickly than others, followed by Beauty Systems Group, Europe, and our Latin American operations, which still have some stores closed. However, as June progressed, we experienced significant pent-up demand and opportunities from competitor disruptions, especially within Beauty Systems Group. BSG attracted nearly 38,000 new customers during the quarter, particularly in June. The strong demand, even with new customers, was due to higher overall ticket sizes driven by increased units per ticket and higher average unit prices, although this was somewhat offset by lower traffic and, in the case of BSG, lower transaction counts, which have yet to fully recover as consumers respond to COVID. While store traffic hasn't returned to pre-COVID levels, our data suggests our recovery has outpaced that of other non-grocery and non-mass retailers that use the same tracking system. As I mentioned earlier, this quarter presented several complexities affecting sales, but we are pleased with how quickly our teams adapted, particularly in June and July, suggesting potential for continued improvement. Turning to gross margin, this quarter presented a complex situation as well. Consolidated gross margin was 45.6%, down 390 basis points from 49.5% last year. The changes in gross margin stem from a mix of eight factors, with four positive and four negative. On the positive side, a combination of base prices and field promotions boosted gross margin by more than 500 basis points, driven by stable pricing across categories, a positive mix shift towards higher-margin items like hair color and PPE, and significantly reduced promotions across all businesses. We also experienced slight geographic benefits for gross margin since our e-commerce business grew during the quarter. However, due to diminished promotional activities and our purchasing of inventory, we recorded less vendor income, offsetting about half of the previously mentioned margin increase, leading our gross margin before clearance actions to hover around 52.4%, which is still a respectable increase compared to last year. Uniquely, this quarter, we faced three types of clearance actions impacting our results. In the absence of other promotions and in support of our inventory reduction efforts to maximize cash flow, we executed aggressive clearance sales within our Beauty Systems Group and Sally Beauty networks in the U.S. and Canada, which impacted gross margin by 280 basis points. Had we stopped there, our gross margin would have been roughly equivalent to last year's level. However, our teams opted for more aggressive clearance actions, writing off and destroying aged inventory in Europe and recognizing losses on private label components from key suppliers as we transitioned to lower-cost suppliers in our brand portfolio. After reducing our inventory significantly during the quarter and running percentage-off clearance sales, we still had unsold inventory in stores. Rather than holding that inventory for future sales, our merchandising teams chose to permanently mark it down in our systems. Consequently, we incurred a cost loss accounting charge for that inventory even if it hasn't yet sold. This initiative is part of our merchandising transformation to reset our inventory baseline and reestablish vital retail fundamentals such as a robust open-to-buy process and a defined strategy for clearance inventory, allowing us to have a plan for unproductive items before making inventory purchases. The combination of the inventory restructuring write-off and the cost loss write-off resulted in a 390 basis point reduction in gross margin, which brought us to 45.6% for the quarter. While the final gross margin for the quarter is below historical levels, I want to stress that these actions were necessary for the business and will position us for better gross margin performance moving forward. Due to these actions in Q3, our Chief Merchant, Pam Kohn, does not foresee the need for further aggressive clearance activities in Q4. Selling, general and administration expenses presented a positive narrative for us. SG&A decreased by $45.6 million or 12.7% from last year, mainly driven by stringent cost controls, slightly offset by $8.8 million in COVID-19 related personnel expenses from early furloughs. As a percentage of sales, SG&A was 44.6%, compared to 36.9% last year, impacted entirely by sales losses and higher personnel expenses. GAAP operating earnings and margins for the third quarter stood at $1.4 million and 0.2%, respectively, down from $120.1 million and 12.3% last year. After excluding charges for COVID-19 furlough expenses and restructuring costs from both years, adjusted operating earnings and margins were $16 million and 2.3%, compared to $122 million and 12.5% last year. GAAP diluted earnings per share for the third quarter were a loss of $0.21, compared to a profit of $0.59 last year, primarily due to lost sales from the shutdown of public-facing operations and aggressive clearance actions affecting gross margin. Interestingly, the non-cash inventory write-offs equated to about $0.17 of EPS. These challenges were partially mitigated by aggressive SG&A cost reductions and lower income tax expenses. Adjusted diluted EPS was a loss of $0.11 in the third quarter, compared to a profit of $0.60 last year. In the third quarter, the company reported a net loss of $23.5 million compared to net earnings of $71.2 million last year. Adjusted EBITDA was $73.3 million for the quarter compared to $151 million last year, with usual adjustments for charges related to share-based compensation, restructuring costs, and COVID-19 expenses. This quarter also included add backs for the non-cash inventory write-down of $27.1 million and a modest impairment charge of $0.9 million. Now, let’s discuss segment performance. The global Sally Beauty segment brought in $415.5 million this quarter, a 27.7% drop from last year, primarily due to declines in same-store sales from COVID-19 impacts, 14 fewer stores, and negative foreign exchange effects of about 40 basis points. Segment same-store sales fell by 25.9% for the entire quarter. However, similar to our consolidated same-store sales, our store network saw a sequential improvement as they reopened, with same-store sales down 67.3% in April, down 16.1% in May, and up nearly 5% in June, largely due to the U.S. and Canadian business, which posted same-store sales growth of 10.2% in June. Our Sally U.S. and Canadian e-commerce business experienced remarkable growth amid store shutdowns, maintaining its strength even after stores reopened. As previously mentioned, part of this growth stemmed from new customers discovering Sally Beauty. Sally U.S. and Canada reported a staggering e-commerce revenue growth of 555% for the third quarter, with April, May, and June growth rates of 872%, 585%, and 200%, respectively. The gross margin for the accounting segment was 48.7% this quarter, down 710 basis points compared to last year, impacted by various positive and negative factors as mentioned earlier. Segment operating earnings stood at $3.1 million for the quarter, a 96.8% decrease from last year, primarily due to lost sales from COVID-19 and declines in gross margin linked to inventory cleanup and clearance, albeit partially offset by lower SG&A driven by cost controls. Operating margin for the segment decreased to 0.7%, compared to 16.7% last year. Now for the Beauty Systems Group, net sales fell to $289.8 million this quarter, down 27.6% compared to last year, driven mainly by the impact of COVID-19, same-store sales reductions, 13 fewer stores, and foreign currency translation issues of about 20 basis points. Segment same-store sales decreased by 27.9% for the entire third quarter, similar to the Sally segment. As BSG stores reopened, we saw sequential improvements with same-store sales down 81.5% in April, down 25.4% in May, and up 23.1% in June, thanks to strong demand from stylists and salons in the professional channel. Additionally, the e-commerce platform for BSG surged by 158% for the third quarter, buoyed by steady demand throughout. BSG’s gross margin reached 41.2% for the quarter, reflecting a 90 basis point increase from last year, due to substantially reduced promotions and a positive shift in P&L geography from customers moving from stores to our e-commerce business, only partially offset by the earlier mentioned clearance activities. Segment operating earnings for BSG were $40.1 million, down 34.9% compared to last year, principally due to COVID-19 induced lost sales but partially countered by improved gross margin and a reduction in SG&A expenses from aggressive cost controls during our focus on cash and liquidity. Segment operating margin decreased by 160 basis points to 13.8%. I would now like to address cash and liquidity. During the third quarter, the company generated $198 million in cash flow from operations, a significant increase of 112% compared to last year. Capital expenditure payments for the quarter totaled $18 million, reflecting our initial slowdown in spending, but we quickly recognized our ability to manage COVID's impact while growing cash and continuing investments in our business transformation. This made it possible to complete the rollout of our point-of-sale system to all Sally and Beauty Systems Group locations in the U.S. and Canada, sustain our investments in e-commerce platforms, restart our JDA and North Texas distribution center projects, and work towards launching our private label credit card program, which is currently in testing. Our free cash flow for the quarter was $180 million, an increase of 146% compared to last year. The company did not retire any debt or repurchase shares during the quarter. By the end of the third quarter, the outstanding balance on our increased $600 million revolver was $375.5 million and included a fully funded separate FILO loan of $20 million. As previously mentioned, we executed a $300 million senior secured note offering in April, gaining proceeds of approximately $295 million, none of which has been utilized. I want you to understand that the company has substantial liquidity; we haven't fully drawn our upsized revolver, and we haven't spent the proceeds from the secured notes. We have managed cash flow effectively and demonstrated the ability to significantly reduce cash burn when needed. Overall, we are in a strong position regarding liquidity. The company’s leverage ratio stood at 4.81 times at the end of the quarter, with $839 million in cash on the balance sheet. Given the ongoing uncertainty surrounding COVID, particularly in California, Texas, and Florida, we will not be providing full-year fiscal 2020 guidance at this time. However, I will share some forward-looking insights for Q4 that may be beneficial as you consider our business. We will continue emphasizing safety for our employees and customers and monitor developments in mass retail. Demand was solid in June and has remained strong in July; we expect mid-single-digit positive same-store sale comps for Beauty Systems Group, Sally Beauty U.S. and Canada, and Sally Europe for July, the first month of our fourth quarter, thanks to the previously discussed factors. Naturally, we can't predict demand trends for August and September, but we believe we have positioned ourselves to effectively meet customer needs and can adapt our offerings based on changing circumstances. I should mention that unless there is a significant change in the COVID situation, we will not provide separate updates for July, August, or September in our next report in early November alongside our quarterly results. In Q4, we anticipate gross margins will at least match or exceed historical levels, benefiting from a more moderate promotional strategy compared to last year. Cash and liquidity will remain a priority across our global operations while we reinvest in inventory to keep up with the robust sales we experienced in June and demand in July. Maximizing cash continues to be our top priority, and we will closely monitor all investments to maintain our flexibility and strong cash position. While we are hopeful to avoid store closures due to COVID at the state or local level, we have demonstrated the ability to act quickly and create cross-channel options for our customers. In this regard, we will benefit from our ongoing investments in new service models and digital capabilities, such as curbside pickup, ship-from-store at Sally, and same-day delivery at BSG. We expect to see sustained digital growth at moderated levels as our entire store fleet reopens and as consumers adapt to a new COVID normal. We have completed the first phase of a detailed analysis of our store fleet with Intellitix. The results confirmed our belief that our fleet is a strategic asset and that we have opportunities for profitable sales growth by expanding the fleet alongside digital growth. However, the analysis also indicated that we need to close a number of lower return stores, and we will proceed with the closure of approximately 50 of these stores during Q4, including 23 of our 29 clearance locations, which have fulfilled their roles. We will continue investing in our transformation plan. Notably, we are nearing the issuance of our first inventory purchase orders for our new North Texas facility, expecting to process receipts and begin serving a limited number of customers by the end of our fourth quarter. Finally, regarding capital allocation, we will prioritize investing in our business in light of our large cash position, planning to maintain cash reserves on our balance sheet. As we assess the situation surrounding COVID-19 at the end of the calendar year, we'll evaluate our options. For now, expect us to hold cash and manage any increased interest expense incurred. Thank you for your attention this morning; I will now hand the call back to the operator for Chris and me to take your questions.

Rupesh Parikh, Analyst

Good morning. Thank you for taking my question and congratulations on navigating the pandemic so far. First, regarding gross margin, Aaron, I appreciate the insights you provided for Q4. I was hoping you could share more details about the factors influencing Q4. I'm particularly interested in the e-commerce aspect; while other retailers have seen e-commerce negatively affect gross margins, I recall you mentioning a positive impact. I would like to understand the dynamics related to e-commerce better.

Aaron Alt, CFO

I think your question is, how are we thinking about gross margin for Q4? if I'm... And in particular, on e-commerce. And what I can tell you is this, we are benefiting from all of the actions that we took in Q3. As we carry into Q4, our promotional environment isn't changing dramatically and that we are, in contrast to prior years, running much – far fewer promotions than we have historically and the consumer has still been showing up to buy, and so we've learned from that. And that's true across both the e-commerce business and the store platform. We're also benefiting from the actions that we took in Q3; and, as you heard me allude to in the comments, our merchandising teams do not expect further more aggressive clearance action in Q4 the way we did in Q3, in part because we took the action in one fell swoop in Q3. So we are feeling pretty good about our gross margin opportunity in Q4. And I guess I would add as well, you also heard me allude to the fact that we are buying into inventory being very careful about but buying into it and as we buy into it, as well, that will offset some of the diminish in gross margin we saw around vendor allowances and vendor income.

Rupesh Parikh, Analyst

Okay. And then, just on e-commerce. I think you mentioned that's been positive for gross margins, if you can explain why. I guess for other retailers gross margins related to e-commerce have been a negative impact, I was just wondering if you can just provide some more color on that.

Aaron Alt, CFO

As we evaluate the business, if we disregard shipping costs for a moment, our pricing remains fairly consistent between our physical stores and e-commerce for most items. The profit and loss statement reflects some extra marketing and distribution costs that are impacting SG&A. However, the main difference for us is shipping costs. During the quarter, we implemented minimum free shipping thresholds and made efforts to expedite delivery for customers. While this led to increased SG&A costs related to shipping, it did not negatively affect our gross margin. Given our P&L structure, we do not anticipate it impacting gross margin in Q4. In fact, it should contribute positively to gross margin because some of those costs are categorized under SG&A. I’d also like to note that our e-commerce segment grew significantly this quarter, and we’re pleased with the quick adjustments we've made for future improvements. We acknowledge there’s still work to do, but we are confident that by leveraging our extensive store network as distribution points, we can enhance delivery speed at a reduced cost, effectively optimizing existing labor to fulfill store orders. This strategy is enhancing our economics both in-store and online.

Rupesh Parikh, Analyst

Okay, great. I have one quick follow-up question. Regarding geographical performance, in markets like Florida, California, and Texas, when there are spikes in COVID infections, can you share any insights on how this impacts your business? Particularly in these markets given the recent increases?

Chris Brickman, CEO

Yes. No, Rupesh, it's something we deal with and what we expect we're going to continue to deal with. When you first get the spike, you tend to get a period where consumers are more cautious about going out, and that can last for a couple of weeks or so; and then it seems like it begins to rebound some but yes, there is a consumer reaction when the spikes occur. We see it in reduced traffic in Sally or reduced transactions in BSG and then it tends to normalize after a while.

Aaron Alt, CFO

One interesting aspect to observe, Rupesh, is how different regions of the country respond to COVID and its restrictions. For example, if we notice a decline in traffic in Texas, it is often balanced out by an increase in New York. We are managing our operations on a metro and state level, and despite some troubling trends in certain areas, the overall performance for the end of Q3 and particularly July has been positive.

Rupesh Parikh, Analyst

Okay, great. Thank you.

Mark Altschwager, Analyst

Good morning, everyone, and thanks for taking my question. Nice job managing through these challenging times. So I want to start off and just ask on SG&A. With stores reopened, how should we be thinking about the normalized SG&A run rate from here? And I'm wondering if you anticipate any catch-up spending and some shifts from the aggressive cash management back to your broader transformation agenda?

Aaron Alt, CFO

Mark, it's a great question. We are being incredibly careful, right. We had already been in the process of optimizing our labor, our investments before COVID. And then, as part of bringing the network backup, we've been very careful to focus on the number of people in the stores, focusing on our power hours as well as when do we need to be open. And so, while parts of our fleets are back at pre-COVID hours for instance, right, that is not true for other parts of the fleet as we are testing where are the consumers coming out and when do we need to be open and what's the return on the labor hours that we're allocating. And I offered that as an example, because it helped to drive the decline in absolute SG&A dollars that we saw and it was $44 million, $45 million; I believe down. And we expect to continue to keep very careful control over SG&A as we carry forward.

Mark Altschwager, Analyst

That's very helpful, thank you. I want to follow up on top-line trends. As salons reopened, are you noticing a decline in the DIY trend, and how sustainable is it? Separately, regarding BSG, do you believe COVID has affected the growth potential of the professional industry moving forward? Will there be a permanent shift to DIY or an accelerated move toward booth renting? I would appreciate any broader insights on your outlook for the industry. Thanks.

Chris Brickman, CEO

So Mark, I’ll address the second question and then turn it over to Aaron to discuss some of the DIY trends we're observing. I believe we still lack a clear understanding, as there are many factors influencing the salon industry. For instance, in regions like California, salons remain unable to operate or have been forced to shut down again. We're also experiencing significant disruptions among some competitors regarding supply, and new categories like PPE have notably increased in importance for stylists' spending. While some salons may close, demand doesn’t diminish; often, those stylists transition to other salons or become booth renters or suite renters and continue purchasing from us. In summary, it's challenging to predict when everything will stabilize; many elements are in play. We believe we are better positioned than many others, but it will take time to fully grasp how demand will evolve in the professional channel.

Aaron Alt, CFO

And as for DIY and on the retail side of the house, we are really pleased with both the consumer desire to go DIY and how they're shopping at our stores. And there is an incredible amount of creativity involved; Chris called out earlier, the growth in the vivid color category, which has been across virtually every brand we offer in vivid color, and we see that increasingly in nails as well. And from an enterprise perspective, we have the good news of BSG is up and performing well against its competitive set and supporting the stylist and those that aren't going to the stylist and there are many of them still are coming to Sally. Although, I should also point out that Sally is somewhere between 15% and 20% of its sales are also to professionals.

Mark Altschwager, Analyst

Yes.

Aaron Alt, CFO

And so as salons potentially break up, as stylists go on their own, they can go to BSG or they can come to Sally, and it's driven in part by convenience. So the fact that we have the nationwide network of stores that we do and the new e-commerce options, I think is good news for the enterprise, whether it's BHP or Sally servicing the pro.

Oliver Chen, Analyst

Nice quarter. Regarding the clearance activities and the strategy there, why was it the right time now and as you look forward, what are the biggest changes in the assortment and how that may apply to how you assort the stores execution and pricing good, better, best? We are also curious about going forward, should we expect the BSG trends to outpace Sally in terms of modeling and what you're seeing with that customer dynamic? Thank you.

Chris Brickman, CEO

I'll address that last question and then hand it over to Aaron for insights on gross margin. The truth is, we don't have a clear picture yet. Both of our businesses are performing well at the moment. We believe the DIY trend is closely linked to a consumer behavior that will persist. However, we are uncertain about how competition within the professional channel will evolve and the extent to which the economic effects of the virus will influence salon demand. This uncertainty is one reason we want to remain cautious, concentrating on serving our customers, conserving cash, and advancing our digital strategy to ensure we are making the right decisions for our customers in the long term. The DIY trend remains strong, and we will monitor how competition in the professional channel unfolds in the coming months.

Aaron Alt, CFO

I have three observations. First, unlike many retailers, our inventory is at a six-year low. This is due to our proactive approach during the crisis to restrict inventory and ensure that all available products are accessible to consumers through e-commerce, especially for those unable to visit stores. Our aggressive inventory management allowed us to closely observe consumer behavior and gain insights that we previously lacked, especially regarding switching patterns. As we reduced our inventory, we noticed significant switching among consumers, providing us with better understanding of the value of different categories and SKUs that remained on our shelves. This observation of consumer reactions to our assortment gave us valuable visibility. Secondly, we are currently undergoing a merchandising transformation that has been discussed previously. During the last quarter, we implemented a more rigorous open-to-buy process and improved collaboration among various functions including store operations, merchandising, planning and allocation, and supply chain. This was an opportune moment to reset our baseline moving forward. Lastly, we are focusing on what sells and how we can enhance profitability. We did incur a write-off related to some private label components. This decision stemmed from our goal to maximize cash and operating income, which led us to switch suppliers to more cost-effective options. Sometimes, this transition results in leftover components that must be addressed, and we opted to write them off during the quarter.

Oliver Chen, Analyst

Thank you. You've done an excellent job managing promotions this quarter. What are you observing regarding competition from broader retailers like Amazon, Target, and Walmart in terms of their online operations and how the market looks in relation to your ability to compete? Thank you.

Chris Brickman, CEO

Oliver, I do think in general, it's been a less promotional environment, and I don't know how that will progress; we assume that will slowly work its way back in, perhaps not to previous levels. I think the more important thing to focus on is what does the customer want right now? All right. And they want multiple delivery service models; they want to make sure your stores are safe and that they feel safe in your stores interacting with your associates and they want to make sure that you have the products and the expertise they want as they pursue new things like DIY. So we're very much more focused on that and leveraging our expertise and our strength in these core categories. And so, I think you're going to keep seeing us continue to try and whittle down or keep low the promotional cadence as we go forward and focus more on that. Aaron, I don't know if you want to add that.

Aaron Alt, CFO

There's no escaping the fact that many of our competitors, particularly in mass, continue to be much more promotional than we are, I mean, much more promotional. And we have taken the strategic approach that with the differentiation we provide in our assortment, with the differentiation we provide with the advising store, etc., that the consumer will continue to purchase with us even in the absence of a broad promotional calendar. So if you compare year-on-year Q3 to Q4, and I would observe, coming Q4 versus Q4 last year, our promotional cadence is much smaller than it was previously; that's intentional on a strategy, it'll be true in stores, it will be true in e-commerce because I go back to we're using the benefit of Q3 to reset our operations in a number of ways, and that's one of them.

Oliver Chen, Analyst

Thank you, very helpful. Best regards.

Chris Brickman, CEO

And with that, I'd like to thank everybody for their questions today. If I could summarize, we executed exceptionally well during a disrupted third quarter. The team aggressively managed costs and cash, drove an accelerated pivot to support digital growth and scale our key digital transformation initiatives and we reopened the store network faster than competitors. Because of the speed and agility of our team, we are well positioned to take advantage of emerging customer trends and gain share in a disrupted environment. As we enter the fourth quarter, we will continue to invest in our digital transformation, take advantage of the strong demands for our key categories, and adapt quickly to any new local restrictions or changes in consumer shopping behavior tied to the pandemic, and of course, we will stay disciplined in terms of cost and cash management. Thank you for joining us today.

Operator, Operator

Thank you. And ladies and gentlemen, that does conclude your conference call for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.