Good day and thank you for joining us. Welcome to the Q4 2021 Tile Shop Holdings Inc. Earnings Conference Call. All participants are currently in listen-only mode. Following the speakers’ presentation, there will be a question-and-answer session. I will now turn the conference over to your speaker today, Mark Davis, Vice President of Investor Relations and Chief Accounting Officer. Please proceed.

Thank you. Good morning to everyone and welcome to the Tile Shop's fourth quarter earnings call. Joining me today are Cabby Lolmaugh, our Chief Executive Officer; and Karla Lunan, our newly appointed Chief Financial Officer. Certain statements made during the call today constitute forward-looking statements made pursuant to and within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in our earnings press release issued earlier and in our filings with the SEC. The forward-looking statements made today are as of the date of this call and we do not undertake any obligation to update these forward-looking statements. Today's call will also include certain non-GAAP measurements. Please see our earnings release for a reconciliation of those non-GAAP financial measures, which has also been posted on our company website. With that, let me now turn the call over to Cabby. Cabby?

Thanks, Mark. Good morning, everyone and thank you for joining us today. We had a fantastic finish to 2021 and look forward to carrying this momentum into 2022. From a top line perspective, we continue to perform at a high level. The $90.2 million of fourth quarter revenue represents the highest level of fourth quarter sales in our history. Full year revenue of $370.7 million established a new annual sales record for the company. I'm incredibly proud of what our team has been able to accomplish by focusing on execution on our stores, our supply chain and our digital capabilities. We continue to believe that there's a significant opportunity to grow both sales and profits within our existing 143 store footprint. Not surprisingly, retail execution at a store level remains a key point of focus for us as we move into 2022. We recently made several important enhancements to our IT systems and are excited to leverage additional capabilities that will be introduced throughout the next year. We expect these changes will directly translate into an even better customer experience online and in our stores. Our store and support teams are committed to attaining our retail execution goals. And I believe that this focus will help us sustain the momentum we've established in 2021. Throughout 2021, we've made it a point to limit distractions and ensure we can achieve our goals. A number of our stores took a nice step forward in 2021. And we believe that we have many stores that are positioned to take another leap ahead and deliver great results in 2022. As of today, we plan to keep our focus on our existing store base and forego opening any new stores in 2022. While it's possible we may open stores later this year, we are seeking additional financial improvements within our existing store base particularly those stores that have fallen behind our expected sales targets as we have made system changes and discontinued promotional discounts to retail customers in recent years. Once we feel good about our existing store base being back on track with our historical economic model, we will look at store growth. Our second priority for 2022 centers on our supply chain. Over the last quarter we've made nice progress securing delivery of inventory from our vendors and reduced our back orders to levels more in line with historical norms. As of the end of the year, our inventory balance was $97 million demonstrating our commitment to build our inventory in response to the strong demand for our products. We continue to see cost pressure across our supply chain. While international shipping rates have started to come down from peak levels, the rates we're paying today are still much higher than they were in the past. Further, many of our suppliers have implemented price increases due to labor shortages, rising energy costs and other inflationary factors. Collectively, this cost pressure has impacted our gross margin which was 66.1% during the fourth quarter of 2021. In response to this cost pressure, we are shifting sourcing to vendors who are able to offer comparable products at more competitive prices, as well as diversifying our supplier base and the countries we source products from. We believe these changes will result in stabilizing costs over time. However, it was still necessary to implement price increases during the fourth quarter of 2021 and in the first quarter of 2022. Further, we're closely monitoring the impact of the conflict in Ukraine, which could present new challenges towards supply chain results in higher energy costs, create further inflationary cost pressure and heightened cybersecurity risks. In the near term, we anticipate that the pressure on our gross margin will persist and that it may be necessary to continue to take additional pricing actions. Longer term, we anticipate that the inflationary pressures will subside and that the actions we are taking will help ease some of the cost pressure we're currently experiencing. I'd like to share one other point on gross margin. As you know, we're willing to add lower gross margin products to our assortment if there's a compelling business reason and to generate incremental gross profit. For example, we have continued to make progress on initiatives to strengthen our relationships with our professional customers. One area where we've had success is in our offering of best-in-class installation products that help reduce the time spent on each project and improve the quality of the installation. These products are typically sold at a lower markup than other items we carry in our assortment. Continued success winning pro business and increasing our sales mix of pro installation products is expected to result in incremental gross profit dollars, but may result in a lower gross margin rate. Similarly, in the past year, we have taken steps to test luxury vinyl tile products in our stores and have planned to expand this offering in 2022. While LVT sales represent a small portion of our current sales mix, the expansion of our LVT offerings, which typically carry lower gross margin rates than our existing tile assortment could negatively impact our consolidated gross margin rate. In both of these examples we will gladly make the trade for more gross profit dollars at a lower margin rate since it adds to store performance and supports our customer base. Improving execution in our stores, navigating supply challenges, sourcing high quality products and above all, providing an unmatched experience for our customers would not be possible without our team. That is why our third area of focus for 2022 surrounds our Tile Shop team. Over the past few years, we have taken steps to invest in training and development programs to help cultivate our next generation of leaders. We find this investment has a strong return since many of these leaders now have a direct impact on improving the performance in our stores. We continue to develop training content to enhance our team's knowledge of the latest installation techniques and design trends. We've made investments over the last year to grow our team particularly in our stores to expand our store hours, our distribution centers given the increase in demand and our technology team as we pursue initiatives to further leverage the investments we've made in our systems. And before I close, I'd like to thank the entire Tile Shop team for an incredible 2021. What you do every day is truly inspiring. We accomplished a lot and the future is bright. I'd also like to take a moment to introduce you to one of the newest members of our Tile Shop team, Karla Lunan, our Chief Financial Officer. Karla is a seasoned financial professional with a fantastic track record of leading teams that deliver great results in previous roles at MasTec, Black & Veatch and Ernst & Young. Karla joined us in January and has hit the ground running. I've been impressed with how quickly Karla has been able to get up to speed and integrate throughout our organization. With that, I'd like to hand the call over to Karla. Karla?

Thanks, Cabby. Good morning, everyone. While I can't claim to be fully up to speed yet, I can tell you that I have enjoyed my first two months here at the Tile Shop. It's been great to get to know the team and work closely with Cabby, Nancy and Mark. I've been incredibly impressed with how welcoming everyone has been and the passion everyone has for the Tile Shop. I'm honored to have the opportunity to work with such a talented and dedicated team. There are a number of reasons why this opportunity was very exciting to me. First, I felt my experience could quickly make an impact. My previous experience in planning and analysis, cost oversight, identifying opportunities through process improvement techniques and leading a streamlined support structure to assist operational teams will certainly be brought to bear here at the Tile Shop. Second, I was not coming into something that needed to be fixed. The finance function here is strong. But as with everything in business, if there is a vision, things can become even stronger. I see that opportunity here. Lastly, I love the energy and people-first culture. I truly feel I have found a home here at the Tile Shop. Moving to the financial update. As Cabby mentioned, we set several sales records, one for the highest fourth quarter in our history, and the other was an annual record. Sales at comparable stores increased by 10.3% during the fourth quarter and 13.8% for the year. The increase in comparable store sales for in the fourth quarter and the full year is largely attributable to an increase in the average ticket. In my first two months with the company, I have been focused on examining our existing store base. The company went through a period of rapid expansion between 2012 and 2017 that was predicated on a business case that stores would attain certain levels of sales and profitability as they mature. While there have been stores that have been very successful, there are also stores that have not yet achieved the level of sales and profit that the company targeted at the time the investment decision was made. Many of these stores were able to take a meaningful step forward in 2021 as demand for home improvement products picked up and the company's initiatives surrounding retail execution took hold. Perhaps the best leading indicator is average sales per store. Our average sales per store increased from $2.3 million in 2020 to $2.6 million in 2021. While this is very encouraging, I still believe there's room for continued improvement. There's a clear blueprint for success underlying the company's retail execution strategy. I appreciate the wisdom underlying the decision to prioritize improving the existing store performance ahead of unit growth at this time. The gross margin rate during the fourth quarter was 66.1%. During the quarter, continued cost pressure outpaced the rate of our price increases, which resulted in a 210 basis point sequential decline in gross margin between the third and fourth quarters of 2021. For the year, the gross margin rate was 68.3%. As Cabby alluded to in his remarks, we expect that the cost pressure will persist in the short term, which may result in lower levels of gross margin. We have and will continue to diversify suppliers and adjust our prices to help offset the impact of the cost pressures we are experiencing. We are also pursuing opportunities to expand pro installation products and LVT sales that are expected to provide incremental gross profit, but may result in a lower overall gross margin rate given the lower margin profile of these offerings relative to the gross margin on our tile products. Our selling, general and administrative expenses increased by $3.4 million in the fourth quarter of 2021. The increase in SG&A expense was primarily due to a $3.2 million increase in payroll and benefit costs stemming from an increase in headcount driven by additions made to our store, distribution, and technology teams. For the year, our selling general and administrative expenses increased by $17.4 million. A portion of the increase in our SG&A expenses is due to an increase in variable selling costs, which included a $7.3 million increase in variable compensation, a $1.9 million increase in transportation costs, and a $1.1 million increase in credit card fees. Additionally, a portion of the increase in SG&A expenses can best be described as getting back to normal business. Over the last year, we've increased staffing levels which has resulted in a $5.4 million increase in payroll and benefit costs as well as our marketing spend, which increased by $1.4 million over last year. During 2021, we also recorded $700,000 of asset impairment charges. Net income during the fourth quarter increased by $400,000 and our diluted earnings per share was $0.04. For the year, our net income more than doubled and our diluted earnings per share in 2021 was $0.29. During 2021 we generated $39.7 million of operating cash flow. We used approximately $11.1 million in cash to fund capital expenditures over the same timeframe to build one new store opened during the first quarter, relocate one store during the second quarter, remodel existing stores, invest in information technology and enhanced merchandising assets. We were also pleased to return capital to our shareholders by declaring a $0.65 special dividend which resulted in a $32.9 million cash outflow during the fourth quarter. Looking ahead to 2022, we anticipate $13 million to $18 million of capital expenditures to remodel our stores, invest in technology, maintain our internal fleet and distribution centers, and enhance our merchandising assets. At this time, we are not planning to relocate or open any new stores in 2022. Again, I am very happy to be here and look forward to meeting many of you over the coming months and years as we drive shareholder engagement and shareholder returns. With that operator, Cabby and I are happy to take any questions you may have.

Our first question comes from Mark Smith from Lake Street Capital. Your line is now open.

Hey, guys, wanted to look first at the price increases that you guys have taken? Can you quantify or discuss that a little bit more? Did you take enough in Q4 to cover what you're seeing from cost pressure?

Thanks for the question Mark. This is Cabby. When we did our Q4 price increases, we were seeing additional cost pressure throughout the same timeframe. So as we looked at our assortment, we made adjustments. It was different between each category. But as we went into January, realizing things weren't slowing down, we needed to do another one. And so we feel good right now. You could look back and analyze it and say we could have raised more in the first round. But we feel comfortable with what we did in the first and the second round. So we're pretty happy where we are right now.

And then how has that been received on the customer side so far? Any pushback on that? And maybe discuss opportunity to continue taking price if needed?

Absolutely. We really haven't heard much of a pushback. I think this is a great environment when you're forced to raise prices because across retail, everyone's in the same boat. We're all dealing with the same pressure. So not a lot of pushback and we feel there is opportunity. We feel it's necessary in the coming months. If we have to do it again, we will.

Okay, perfect. And then can you just give us an update on the Pro business, how that's trending, any increase or decrease, kind of what you're seeing out there?

The Pro business has been very strong for the Tile Shop. We developed our Pro market manager program just over about two years ago. And it's really taken hold in driving more and more accounts into our stores. So it's strong, but as we all hear across the board, Pros are backed up. They're still busy because the remodeling sector is strong. So the Pro business is increasing for the Tile Shop and we're really happy with the results.

Perfect. And then the last one for me. You said early in the call not planning on opening any new stores this year. If you did, it would be late. As we look at your store base and your focus on improving the existing stores, anything that's planned in now that we should be watching for as far as bigger remodels or any relocations or any stores that maybe you make a decision on cutting?

We are actively moving forward with remodeling our stores and will continue this effort. Currently, there are no new stores in the pipeline, but it's only a matter of time. My main priority is to restore the chain to its optimum state. We made significant progress in 2021, and the team is focused on multiple initiatives that are proving effective. We believe we have substantial growth potential in 2022 if we stay concentrated on these efforts. If any opportunities arise towards the end of the year, we will be open to them. We continually assess potential sites and remain aware of real estate developments, so if the right opportunities come up, it's just a matter of timing.

Okay, great. Thank you, guys.

Thanks, Mark.

Thank you. Our next question comes from the line of Eric DeLamarter from Half Moon Capital. Your line is now open.

Good morning Cabby. Welcome, Karla. Could you elaborate a little bit more on the IT initiatives you referenced earlier in the call and what that encompasses?

Absolutely. When we talk about our priorities of retail execution, supply chain, and people first, it's funny, it all ties back to technology at some point. And with our new ERP system, we have a lot of opportunities to bolt on different tools and products to enhance the lives of our customers and our employees, especially in supply chain as well. So we have a lot of teams focused on new tools to really upgrade where we were in the last few years and get us more streamlined, and it's been working, like I said, there is more work to do. Automation is the new thing. We want to continue to focus on how we can be more efficient across the board. So a lot of the new enhancements will be coming this year and we're pretty excited about it.

Got it. Will that alleviate some of the need for the vignettes? Or will that continue to be a focal point in the store?

Vignettes have always been a core strength of the Tile Shop. It's something where customers have that expectation of seeing something when they come in. And we always feel that there's room to test. When you think about technology, we launched our new visualizer on our website, and that's been very successful. And so we're always thinking of how to incorporate new and exciting technology into the store experience. So I think we're on the right track. I think we have some things planned.

Great. And just one more. You noted in the footnotes of the press release about, let's say $2.2 million in asset impairment charges in last year. Is that added back to what you're disclosing as the adjusted EBITDA or how should we think of that?

No, we do not add that back into our adjusted EBITDA.

Okay. Great. Thanks. That's all I had.

You bet. Thank you.

Thank you. Our next question comes from the line of David Kanen from Kanen Wealth Management. Your line is now open.

Hi, good morning. Congratulations to your new CFO, Karla. I apologize. Welcome aboard. Best of luck. So in terms of the CapEx guidance that you gave, can you give us more detail on how much is going into technology initiatives versus remodels? It seems like kind of an aggressive number relative to the $11 million that we spent in 2021.

Thanks for the question, David. When we look at our CapEx, we kind of bucket it, and when you think of technology, it's expensive. So it's a big number, but we usually typically go a third, a third, and a third when you're looking at CapEx and how we grow.

Okay. So that being said, the portion of CapEx that is going into remodels, could you share with us let's say it comes in at around $4.5 million, $4 million, $5 million? Can you take me through the economics on the stores that you've already remodeled? And what the payback is?

Sure, absolutely. Now, when we look at remodels, it's a different recipe for different stores. So when we go into a store, we've done million dollar remodels. We've done $500,000 remodels. And then we'll go in with a $200,000 to $300,000 remodel and do a scrape or what we call a freshen up. And if we're in a market with multiple stores, we'll try to hit those stores as well. Typically, when we've done a significant remodel, we look at a two-year payback on that cost when we think about the investment. Now that's not a big investment. We think in smaller investments. It's a little bit more difficult to quantify because you're not investing as much money, but on the larger remodels that we've done in the past, it's typically a two, two and a half year return on that investment.

Okay. That's encouraging. And then can you comment? We're two-thirds of more than two-thirds of the way through Q1, you sound optimistic. I see inventory is up. Is it safe to say that the momentum you've seen in sales has continued thus far this year?

Yes. We've seen strong business, David. And the nice thing is getting our inventory back to historical levels. The back orders have come down. So with strong business compared over last year, not as many back orders, which is nice. So our stores are thriving, and we're pretty excited for Q1.

Okay, and then just a clarification. I think you did a great job and I appreciate you calling out, excuse me, some of the lower margin products and for the street to focus on more gross margin dollars. But could you just further clarify that? The blend may be lower, but you'll get more absolute gross profit dollars. So is it safe to say that vinyl and these other lower margin products are not going to cannibalize or take away from traditional tile?

Correct. Yes, that's something we're very cautious of. We released vinyl in our stores, and we saw what we expected. There were a lot of builders that continue to buy our tile and customers buy our tile, but we'll pick up that LVT for a mudroom or an entryway that typically would be sheet vinyl or something that transitioned to or something lower cost. So it's been working for us without seeing the cannibalization of our assortment. So we have a handful of SKUs. We're going to add a handful more and continue the test. We've picked up a few larger deals, which is great through some of our Pros. In the Pro installation products, as we noted, the Pro is growing and so is the demand for new technology and shower systems and things of that nature. So the Tile Shop really took a great initiative to partner with a lot of well-known credible domestic vendors and the demand is high for their products. Unfortunately, the margin isn't as high, but we want to have those products, have what the customer wants, and we should succeed.

Excellent. And then last question. Given the strong free cash flow and the high returns that you guys are generating, in retrospect, I would have preferred instead of paying a special dividend, I would have preferred, honestly, the company shrink the share count so that we can grow EBITDA per share. So I guess this is a message for you and for the board is on a go-forward basis, if we can buy back in the next few years, $100 million worth of stock, we could potentially shrink our share count by 35% to 40%, which is another lever and value creator. I'd rather see that over the dividend. Now, some shareholders may debate that, but I think until you start to get the respect and the valuation from the market, that would be the best deployment of capital. And then at a later date when you have many fewer shares, I think entertaining a continuous dividend would save cash and generate better returns for shareholders. So just a little bit of feedback there. I think the market is not really showing us the respect for the progress that the company has made. We're trading at a significant discount to our peers. So I think that that would be a way to remedy that over time.

Thank you for the feedback, David. It's really appreciated.

Okay, all right. Well, good luck, guys. And we'll look forward to the next update.

Thank you.

Thank you. At this time, I'm showing no further questions. I would like to turn the call back over to Mark Davis for closing remarks.

Thank you for listening to our earnings conference call. We anticipate filing our form 10-K later today. Thank you for your interest in the Tile Shop and have a great day.

This concludes today's conference call. Thank you for participating. You may now disconnect.