Earnings Call Transcript - SPWH Q1 2023

Operator, Operator

Greetings, and welcome to Sportsman's Warehouse First Quarter 2023 Earnings Call. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Riley Timmer, Vice President of Investor Relations and Corporate Development. Thank you. You may begin.

Riley Timmer, Vice President of Investor Relations and Corporate Development

Thank you, operator. Participating with me on the call today is Joe Schneider, our Interim-CEO and Chair of the Board; and Jeff White, our Chief Financial Officer. I will now remind everyone of the company's safe harbor language. The statements we make today contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, which includes statements regarding expectations about our future results of operations, demand for our products and growth of our industry. Actual results may differ materially from those suggested in such statements due to a number of risks and uncertainties, including those described in the company's most recent Form 10-K and the company's other filings made with the SEC. We will also disclose non-GAAP financial measures during today's call. Definitions of such non-GAAP measures as well as reconciliations to the most directly GAAP financial measures are provided as supplemental financial information in our press release included as Exhibit 991 to the Form 8-K we furnished to the SEC today, which is also available on the Investor Relations section of our website at sportsmans.com. I will now turn the call over to Joe.

Joe Schneider, Interim CEO and Chair of the Board

Thank you, Riley, and good afternoon, everyone. As a member of the Sportsman's Warehouse Board of Directors for 9 years now, I have been deeply involved in the oversight of the company's strategy and execution. And now as Interim-CEO, I have gained additional insights into the day-to-day operations of the business over the last several weeks. These additional insights will benefit me as Chairman and the rest of the Board together in the long term. And with those insights, I'm even more confident that we have a clear path to achieving our strategic objectives that we have previously outlined for 2023. Those key strategies are; growing our store footprint, further developing our omnichannel capabilities and growing sales from sportsmans.com, leveraging our customer databases and engaging our customers. The leadership team at Sportsman's are talented individuals with extensive experience in their respective areas of expertise. This allows them to execute at the highest level to further the success of the business. As I've gotten involved in the day-to-day of the business, it's been exciting to work with each and every one of them personally as we carefully navigate the current environment and execute on our key initiatives for the year. While we have been faced with weather-related short-term headwinds and tough macroeconomic conditions, which Jeff will address in a few moments. The underlying foundation of the business remains strong. Our real estate funnel is strong with 15 planned new stores opening this year. We have a robust omnichannel platform, allowing us to leverage our inventory and provide excellent service to our customers. Our industry-leading assortment and in-store expertise gives us confidence in our competitive position within our hunting, shooting sports department as well as the other key categories we offer outdoor enthusiasts. We stand firmly committed to our right to win as a consumer's first choice for their outdoor needs. Finally, before I turn the call over to Jeff, I want to reiterate both my and the board's focus on finding a permanent long-term CEO to lead Sportsman's Warehouse. We are working expeditiously but prudently to find the right person with deep retail and omnichannel experience, a passion for the outdoors and a proven ability to return value to our shareholders. Egon Zinder has helped the Board create a strong pipeline of qualified candidates, and we are energized by the enthusiasm for leading this company that we hear from many of the candidates we have spoken to. I'll now turn the call over to Jeff to go through the first quarter's results and discuss our view on the second quarter.

Jeff White, Chief Financial Officer

Thank you, Joe, and good afternoon, everyone. Over the past three years, our business has grown tremendously, nearly doubling in size. We anticipated that the business would start to normalize eventually, and we are currently seeing a moderation in demand over the last few quarters. We believe much of this is due to significant inflation and its impact on our consumers. Our sales in the first quarter were also affected by unfavorable weather conditions in the Western United States, with record levels of rain and snow putting pressure on the spring camping and fishing seasons, leading to lower than expected demand for products in those categories. Beyond the weather, we continue to face pressure due to challenging macroeconomic conditions, and we are not seeing the increase in store traffic that we had anticipated, which has affected our spring-related merchandising categories. Because of these trends, we are carefully managing our spring product assortment and merchandising efforts, while making necessary adjustments to keep our inventories seasonally relevant and ensure healthy in-stock levels for turning merchandise. During Q1, our hunting department outperformed most other categories, driven by strong firearm sales during the quarter. Our top-tier firearms assortment, combined with excellent omnichannel capabilities, enabled us to better serve our customers and succeed at the point of sale. However, we did notice a decline in ammunition sales and lower margins for ammunition compared to last year. This was expected as we compare with Q1 2022 when the industry returned to an in-stock position, prompting customers to make earlier purchases. During the quarter, the team focused on organic growth and opened five new stores as we expand our store presence. We have six stores set to grand open in the second quarter and four more planned for early in the third quarter as we approach the hunting and holiday season. It's essential that we maintain diversity and flexibility in our approach while being disciplined in our financial targets, specifically a 10% four wall EBITDA and 20% ROIC, as we navigate the macroeconomic pressures affecting our business. New store openings have proven to be an effective way to generate a positive return, yielding over 110% ROIC over the past five years compared to the total capital invested. These returns are achieved by our new stores reaching profitability on average in five to six months, even after accounting for pre-opening costs. We remain confident in new store growth because of significant white space opportunities spurred by increased firearm ownership, outdoor participation, and a decrease in competition. We are also investing in our omnichannel platform by adding new functionalities to drive additional sales and reach new consumers outside our immediate area while making the customer experience as seamless as possible. This strategy allows us to leverage our inventory and expand product offerings on our website. We will continue enhancing our digital marketing efforts to attract new customers and encourage existing ones to shop online. Our website now reaches a penetration rate in the mid to high teens and is a part of the business that is positively comping year over year on both a quarterly and annual basis. Now, looking at our Q1 results. Our results for the first quarter aligned with our guidance for both sales and earnings per share. We achieved net sales of $267.5 million compared to $309.5 million in Q1 2022. The decline was primarily due to adverse weather and lower overall sales demand linked to consumer inflation. These declines were somewhat offset by the opening of 11 new stores over the past year. Same-store sales were down 17.8% for the quarter compared with the same quarter in the prior fiscal year. Gross margin was 29.9% for the quarter, down 210 basis points compared to the same period last year, primarily due to a reduced sales mix in our camping and fishing departments, which typically have higher margins, and lower margins for products like ammunition. Selling, general, and administrative expenses in the first quarter totaled $99 million, a slight increase from $96.1 million in Q1 2022. As a percentage of net sales, SG&A expenses rose to 37% compared to 31% in the same quarter of the previous year, mainly due to higher rent, depreciation, and pre-opening expenses from the 11 new stores. In terms of earnings per share, we reported a loss of $0.39 per share for the quarter. To provide some clarity on this loss, the reduction in sales due to weather and lower penetration in our camping and fishing departments accounted for $0.18 of the EPS decline. Additionally, expenses from new store openings contributed an extra $0.03 per share to the loss year-over-year, along with increased interest expenses reducing EPS by $0.04 year-over-year. Now, turning to our balance sheet and liquidity. First quarter ending inventory was $469.5 million, which we expect to be the highest point for inventory this year, as it includes the stock needed for new stores as well as seasonal products for the summer and early fall selling season. Despite planning to add 15 new stores in 2023, we anticipate year-end inventory to be around $400 million as we refine our terms and improve efficiency with better regional and seasonal assortments, resulting in an approximate 10% reduction in inventory purchasing. Our liquidity remains strong, ending Q1 with $150.3 million available on our line of credit. Total liquidity, including cash on hand at the end of Q1, amounted to $153.5 million. Looking ahead to the second quarter, we estimate net sales will range from $310 million to $340 million. Same-store sales for the second quarter of 2023 are expected to decline between 17% to 9%. This guidance factors in a 3% to 4% same-store sales headwind versus Q2 last year, influenced by political rhetoric following a recent unfortunate event. EPS for the second quarter of 2023 is projected to be between $0.02 and $0.15. Additionally, over the past year, we initiated cost reductions across many stores, particularly focusing on store labor, achieving a year-over-year cost reduction of 6% per store. However, we continue to experience pressures from the macroeconomic environment and a slowdown in demand within our camping and fishing categories, resulting in reduced traffic to our stores. In response, we will implement a company-wide cost reduction initiative to align expenses with current sales trends during the second quarter. It's crucial that we uphold financial discipline as we navigate the current consumer challenges. This concludes our prepared remarks today. I will now turn the call back to the operator for questions.

Operator, Operator

Our first question comes from the line of Eric Wold with B. Riley. Please proceed with your question.

Eric Wold, Analyst

Thank you. Good afternoon, guys. A couple of questions. I guess, Jeff, you noted that firearm sales were a strong point in the quarter. Can you maybe talk about what attachment rates you're seeing with those purchases? People coming in, are they buying a similar level of accessories and ammo that they may have previously? I know that ammo sales are down. But in terms of people buying firearms at that time, are you seeing some level of attach rates? And then same kind of question along that line, I think kind of make their way through the store twice once for the background check and once to pick up the firearm. Are you seeing them kind of buy a similar level of other basket items as they make their way back, or is that being impacted as well? And then I have a follow-up.

Jeff White, Chief Financial Officer

Yes, Eric, great question. In terms of firearm and the attachment of accessories onto the firearm, we're still seeing a very good attachment rate for items specifically relating to the firearm purchase. So a holster, a security product, ammunition to the extent that they need it to go use. Where we're seeing the customer back off from purchases is the attachment rate to other items within the store. So the consumers are coming in, they're purchasing the firearm, they're approaching the associated accessory with that firearm, but then they are not shopping other areas of the store, such as camping, fishing, apparel, footwear, places like that where we used to see a higher attachment rate.

Eric Wold, Analyst

Got it. Okay. And then my second question, obviously, you noted the kind of the weather impact you saw in Q1 has kind of lingered into Q2. What does the guidance imply that 9% to down 17%? I mean, have you seen any turn so far in those regions of demand coming back? Are you getting a sense that kind of pent-up demand is coming back in the stores? Do you think those sales may be lost? I guess is that wide range? Are you assuming that you start to see some turnaround, assuming it continues? Or is it one end, assuming no turnaround and the other end as we turn around?

Jeff White, Chief Financial Officer

Yes, that's a great question. In terms of the guidance, the guidance figures in that the pattern continues with our current business trend. We gave a large range on the guidance just because we have seen some areas start to turn in camping and fishing penetration, but not at the rate that we were hoping or expecting them to turn. And so with the guidance that we gave, we've kind of factored in the downside risk and then the upside opportunity if those trends start to change in the business, and we get further penetration into fishing and camping and other seasonal merchandise.

Eric Wold, Analyst

Jeff, just to clarify, the low end of the range is assuming current trends continue at the better end of the range and assuming improvement or is the low end of the range assuming a further downturn from here?

Jeff White, Chief Financial Officer

I think the low end of the range assumes a further downturn from our current business patterns. The midpoint right now is in line with what we're seeing in current business trends.

Eric Wold, Analyst

Got it. Perfect. Thanks, Jeff.

Operator, Operator

Our next question comes from the line of Justin Kleber with Robert W. Baird. Please proceed with your question.

Justin Kleber, Analyst

Hi Jeff. Good evening, everyone. Thanks for taking the question. Just a first follow-up there on firearms specifically, Jeff, did that business comp positive in the first quarter or not?

Jeff White, Chief Financial Officer

It did not comp positive, Justin, but it outperformed the rest of the company in terms of comps for the quarter.

Justin Kleber, Analyst

Thank you for that. Could you help us break down the gross margin in the first quarter further? Can you explain the impact of the product mix compared to the challenges from lower margins in ammunition? Specifically regarding ammunition, how are we progressing with the normalization of margins? I understand we had higher earnings in that category during the pandemic, but where do we currently stand in terms of margin reversion for ammunition?

Jeff White, Chief Financial Officer

Yes, that's a great question, Justin. So in terms of the gross margin for the quarter, if you look at the degradation year-over-year, I'm down about 200 basis points in totality. I will tell you that mix accounts for roughly half of that and then the margin impact in the quarter equates to about the other half of that. So the big driver on the margin degradation is going to be in terms of ammunition. We knew eventually, we would see some degradation in ammunition margin, but it was not going to stay at the levels that it was at during COVID. We are now seeing that in the market, but we're still seeing a margin that is much higher than what it was pre-COVID. So there is an expected change in the margin profile on ammunition, and that took a larger basis point decline in overall gross margin in Q1, just given softness in some of the other categories like fishing and camping, which tend to carry higher gross margins.

Justin Kleber, Analyst

Thank you for the clarification. I have a follow-up question regarding margin. Could you share your expectations for the gross margin rate in your earnings guidance for the second quarter? Are we expecting year-over-year declines, and do you think they will lessen from what we experienced in the first quarter, or have conditions worsened? Any additional insight would be appreciated. Thank you.

Jeff White, Chief Financial Officer

Yes. In Q2, we're really looking at the penetration into some of the other categories. Back to Eric's question, the midpoint of the guidance assumes that our current penetration trends in areas like camping and fishing continue for the rest of the quarter. If we start to penetrate higher in those categories, those carry overall accretive margins to the overall gross margin. So we will see better profitability from a gross margin perspective. If the current trend continues, where we penetrate heavily into firearms, then we're going to see a continuation of some of the margin difficulties we saw in Q1.

Justin Kleber, Analyst

All right. Thanks guys. Best of luck.

Operator, Operator

Our next question comes from the line of Mark Smith with Lake Street Capital Markets. Please proceed with your question.

Mark Smith, Analyst

Hi, guys. First off, Jeff, can we dig into the ammo business, just a little bit more. You've talked a bit about the profitability. Just any changes that you're seeing fundamentally in that business as far as competition, kind of where your inventories are today? And as we think about competition and kind of your initiatives to online, are you seeing more consumers move to online purchases of ammunition?

Jeff White, Chief Financial Officer

Yes, Mark, regarding ammunition, let's discuss the current state of the industry. The market is robust, with ample ammunition available. Consumers are now purchasing only what they need rather than excess quantities, and they can easily find a wide variety of products on the shelves. There hasn't been any significant change in consumer behavior. As for competition, we have observed some declines in margins, but there hasn't been any aggressive promotional activity like what we experienced before COVID, when there were high stock levels. I haven't seen significant promotional offers recently. Moving forward, I expect a return to a normal promotional pattern, with good deals during holiday seasons, Father's Day, hunting seasons, and similar events as we progress.

Mark Smith, Analyst

Perfect. And then as we think about the rest of the business as far as inventory. Some of these categories that are fairly spring based, some of the camping and fishing. Do you feel like you're going to have to clear out some of this inventory? Will we see some bigger markdowns? What kind of hit do you think you could take? Or do you feel pretty comfortable with where the inventory is and your ability to move that over the next few weeks or quarters?

Jeff White, Chief Financial Officer

Yes, Mark, I'm very comfortable with the inventory position as we sit here today. We saw the slowdown in spring merchandise and goods early in the season. And like we've been doing for the last year, we made the necessary choices and reactions in order to ensure that we do not have too much inventory at the end of the season. So you're going to see us move through our in-stocks in a normal promotional cadence through the spring, through the summer season into the fall season. But at this point, if I look at the overall health of my inventory, I'm not worried about having to do any flash sales or fire sales in order to rightsize my assortment.

Mark Smith, Analyst

Okay. And then last one for me. Just can you talk big picture, just about your comfort with leverage, where you think that maybe could go where you're comfortable? And then maybe big picture desire to keep the foot on the accelerator for store growth and what kind of gives you the comfort to you growing at this rapid rate?

Jeff White, Chief Financial Officer

Yes. On the leverage front, Mark, if we look at the leverage at the end of the quarter and our inventory position, as I stated on the call, we're kind of at the high point for inventory for the entire year. So if you think about the flow of inventory, inventory total dollars reducing through the end of the year, that money is obviously will go to the leverage or to my line of credit. So I'm still very comfortable with our liquidity, with the position the company is in to weather these downturns. This is why we openly communicated that we do not want to over lever the company in order to weather any of these macroeconomic headwinds like the one that we're currently in. So very comfortable there. In terms of the store growth, there's a lot of white space opportunities still in the market for us to explore. I will tell you, Mark, that as we are looking at markets and with retail real estate inventory at the lowest level it's been at for decades. The ability for us to find markets where we can meet our financial hurdles is getting a bit challenging, and I will not open up stores just to hit a number. So if it does not meet my financial hurdles of 10% four wall EBITDA and 20% ROIC I'm not going to sign a lease, and that's something that we're going to continue to monitor as we move forward into the store expansion.

Mark Smith, Analyst

Excellent. Thank you.

Operator, Operator

Our next question comes from the line of Mark Herrmann with R5 Capital. Please proceed with your question.

Mark Herrmann, Analyst

Hi, guys. Thanks for taking my call. I think you just answered part of my question, but I'm kind of looking out to next year's store growth plan. Are there any thoughts on changes to location selection, especially box size CapEx changes? Anything that you're thinking differently for next year based on how things have been going in the last couple of months?

Jeff White, Chief Financial Officer

Yes, Mark, I'd go back to the statement of the retail real estate inventories at the lowest level that it's been for decades. A, real estate is still real estate. So you have a long line of retailers lining up to sign a lease on any of the boxes that we're looking at. So as we think about further expansion, we're going to continue to target the right MSAs, we go into any market targeting that 30,000 square foot box is our starting point, and we adjust up and down accordingly based on market conditions, the right real estate, the size of the box that we can find and then consumer trends and demand we're going to continue to hone those trends as we look at real estate expansion. For me, my primary focus right now is ensuring that any box we do go into, I am confident that it can hit our financial metrics that we've laid out.

Mark Herrmann, Analyst

So have you seen that those hurdles are more easily met with a smaller size box yet? Or is that not the case?

Jeff White, Chief Financial Officer

I would say that we target a 30,000 square foot box because it's really the right space for presenting our SKU assortment in those smaller boxes. We need to have a good understanding of the SKU assortment, and it must be in markets that we know well. We only include the top SKUs in those locations. The 30,000 square foot box gives me the ability to offer a wide variety of products and helps me meet our financial goals more easily.

Mark Herrmann, Analyst

Okay. Thanks. And then maybe a follow-up to that. Just on the e-commerce side, can you quantify what happened this quarter and e-com?

Jeff White, Chief Financial Officer

Yes. As we stated on the call, e-commerce for us is a continually growing highlight of the business. Where other retailers, and I'm sure you've seen them come out are pointing to declines in their e-commerce sales. That's an area for us that continues to comp positively year-over-year. So we're really happy with what our e-com team has done to the business. We continue to penetrate into new geographies and acquire new customers. And we're excited about the opportunity that gives to the business on a go forward.

Mark Herrmann, Analyst

Thanks.

Operator, Operator

Our next question is a follow-up from the line of Eric Wold with B. Riley. Please proceed with your question.

Eric Wold, Analyst

Thanks. Hi Jeff. Just a quick follow-up. I want to make sure I understand one of the previous questions on gross margin. I understand the decline year-over-year was ammo margins coming in and then the mix with lower camping and fishing. But if we take out of it and take mix out of it. On an apples-to-apples basis, kind of how are these categories comparing to last year or camping margins apples-to-apples up down versus last year, you get into sort of categories, but just I'm trying to understand ex mix, what margins are doing besides ammo.

Jeff White, Chief Financial Officer

Yes. Outside of ammo, Eric, the margins with categories are very similar to the prior year. We have not seen a lot of pressure from the margin front in those categories. Obviously, we keep a very clear eye on the competitive landscape and make our pricing is in line to match with our low price guarantee that we have, but we have not seen much pressure in the other areas of the business outside of ammo.

Eric Wold, Analyst

Perfect. Thanks, Jeff.

Operator, Operator

There are no further questions in the queue. This does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.