Earnings Call Transcript
WILLIAMS SONOMA INC (WSM)
Earnings Call Transcript - WSM Q4 2022
Operator, Operator
Welcome to the Williams-Sonoma, Inc. Fourth Quarter 2022 Earnings Conference Call. I would now like to turn the call over to Jeremy Brooks, Chief Accounting Officer and Head of Investor Relations. Please go ahead.
Jeremy Brooks, Chief Accounting Officer
Good morning, and thank you for joining our fourth quarter earnings call. I'd like to remind you that during this call, we will make forward-looking statements with respect to future events and financial performance, including guidance for fiscal '23 and our long-term outlook. We believe these statements reflect our best estimates. However, we cannot make any assurances these statements will materialize, and actual results may differ significantly from our expectations. The company undertakes no obligation to publicly update or revise any of these statements to reflect events or circumstances that may arise after today's call. Additionally, we will refer to certain non-GAAP financial measures. These measures should not be considered replacements for and should be read together with our GAAP results. Specifically, we recorded an impairment charge of $17.7 million in the fourth quarter to write off certain software and hardware costs and goodwill associated with Aperture, a division of our Outward subsidiary. This impairment charge does not affect our ongoing use or strategy of the Outward Technology in our portfolio of brands and in our design and room planning functionality. Accordingly, our non-GAAP results for the fourth quarter and fiscal year '22 have been adjusted for this impairment charge. A full reconciliation of non-GAAP measures to the most directly comparable GAAP measure appears in Exhibit 1 to the press release we issued earlier this morning. This call should also be considered in conjunction with our filings with the SEC. Finally, a replay of this call will be available on our Investor Relations website. Now I'd like to turn the call over to Laura Alber, our President and Chief Executive Officer.
Laura Alber, President and CEO
Thank you, Jeremy. Good morning, everyone, and thank you for joining the call. At Williams-Sonoma, Inc., we're proud that despite the declining macro environment, we delivered another year of record revenue and record earnings. With our relentless focus on compelling products, customer service, and profitable growth, we continue to outperform our peers. We continue to gain market share, and we continue to distinguish ourselves as the world's largest digital-first, design-led sustainable home retailer. And what are these things that distinguish us? No other home furnishings company offers our in-house design capabilities and vertically integrated sourcing organization. It allows us to deliver high-quality, sustainable products at the best value to market that cannot be found anywhere else. No other home furnishings company offers our digital-first but not digital-only channel strategy that's transforming the customer experience. With our proprietary e-commerce platform, we are one of the largest e-commerce players in the United States. Our in-house CRM and data analytic teams optimize our digital spend and customer connections. And our great stores not only deliver an outstanding customer experience, but also in 2022, we expanded our services with ship-to-store as we transition our stores to also service design centers in omni fulfillment hubs. And no other home furnishings company has our strong record on value that many consumers want today. In Q4, we are proud to be named to Newsweek's list of America's most responsible companies. The Morgan Stanley Capital International ESG assessment gave us a AAA rating, the highest possible. And we were included on the 2022 S&P Dow Jones Sustainability Index for North America, the only new retailer added to the North America list in 2022. Along with our key differentiators, our success and profitability has been driven by our new growth initiatives that are cross brand and/or outside of our core brands. Our largest cross-brand growth driver is business to business. Williams-Sonoma, Inc. is no longer just a home furnishings company. We furnish our customers everywhere from restaurants to hotels, from football stadiums to office spaces. We set the ambitious goal this year to reach $1 billion in demand in our B2B business, and we came very close, driving 27% year-over-year growth and 166% on a 2-year basis. And we continue to win B2B accounts due to our design capabilities and a wide range of products offered in our multi-brand portfolio. Another successful growth initiative is our expansion into global markets. In the massive market of India, our new partnership with the Reliance Group is off to a very strong start. With our exclusive and differentiated product line, our 3 stores and websites in India are outperforming our expectations in a market where we see tremendous opportunity. And in Canada, we relaunched our website and saw improvements in conversion and average unit retail across brands. In our new businesses, Rejuvenation and Mark and Graham have also provided incremental growth. Together, in fiscal 2022, they represented nearly $270 million in revenues and drove nearly a 10% comp on the year. These 2 brands service white space needs of customers. At Rejuvenation, we're expanding into remodel categories related to kitchen and bathroom, including vanities, cabinet hardware, and custom wall lighting. And at Mark and Graham, our high-quality gift and personalization business is resonating with our customers, and we see outsized growth in the travel space, including luggage and accessories. Our core brands, Pottery Barn, Pottery Barn Kids, Pottery Barn Teen, West Elm, and Williams-Sonoma are also key contributors to our strong fiscal 2022, together growing at 6.4%. Put it all together, our key differentiators and our growth initiatives, and you see the results that we are reporting today. We're proud that we achieved our fiscal '22 annual guidance and delivered a 6.5% comp on the top line and an operating margin of 17.5%. At the same time, we drove EPS growth of over 11% to $16.54 per share from $14.85 last year. As I said at the top, we continue to outperform our peers in a year where the industry grew 1%, we grew more than 5%. All of this is particularly impressive given the declining macro backdrop in Q3 and Q4 of 2022 and the record demand that we are up against in 2021. Stepping back for a moment and looking at the last 12 years, it's clear that we've consistently delivered. And more recently, since 2019, we've grown our revenues more than 47%, adding $2.8 billion to the top line. We've also more than doubled our operating margin from 8.6% to 17.5%. Now let's talk specifically about Q4. Our Q4 results were achieved while the macro backdrop weakened. Our demand comps were in the negative mid-single-digit comp range and were inconsistent across our portfolio of brands leading to a net revenue comp of negative 0.6% total company. In addition, although supply chain cost increases pressured our margins, we were able to offset these headwinds with SG&A cost savings producing an operating margin of 19.9% and earnings per share of $5.50 in Q4. Now let's talk about our brands for Q4 and for the full year. Pottery Barn ran a positive 5.8% comp in Q4 and a 14.9% on the full year. On a 3-year basis, Pottery Barn generated a 54% comp. Pottery Barn's inspirational product offering and successful execution of its growth initiatives like the Accessible Home, Apartment, and Marketplace drove the performance. Also, our holiday offering was successful. As we look to the year ahead, the brand has a strong lineup of product offerings, including new products with great design and sharp price points. The Pottery Barn Children's business ran a positive 4% comp in Q4 and a positive 0.4% on the year. On a 3-year basis, the Children's business generated a 28.6% comp. Growth continued to be driven from Baby and Dorm. And another highlight is our successful introduction of our exclusive collaboration with the trending fashion brand, LoveShackFancy, which is outperforming our expectations. Also, in both Pottery Barn Kids and Pottery Barn Teen, we're excited to have launched a new native shopping app, which brings enhanced functionality and provides customers with an easy-to-use interface. We've only been live with the app for a short time, but we are seeing a positive response, and we'll continue to read the results to determine if we should launch apps for our other brands. In Q4, the Children's business benefited from an improved in-stock position, which is critical to this life stage business and will continue to benefit us this year. The West Elm brand was most affected by the tough macro environment. In Q4, West Elm ran a negative 10.7%, coming off very strong multiyear comps. On a full year basis, West Elm ran a 2.5% comp and very strong operating margins. On a 3-year basis, the West Elm brand generated a 50.8% comp. Looking ahead, we're very excited about the recent announcement of Day Kornbluth as the new brand president effective April 3. Day has a proven track record and previous success growing home furnishings brands. To lead West Elm through its next chapter of growth with a focus on 4 areas: industry-leading design and value; increased brand awareness and customer acquisition; expanding into product white space; and leveraging channel growth opportunity. Given the cautious consumer, we continue to see short-term softness. But with Day Kornbluth leading this brand, the total addressable market opportunity and the focus on those 4 areas, we continue to be very optimistic about the long-term growth trajectory of West Elm. Finally, the Williams-Sonoma brand had a successful holiday season, but ran a negative 2.5% comp in Q4, largely driven by softness in January. On the full year, the brand ran a negative 1.7% comp. On a 3-year basis, Williams-Sonoma generated a 32.6% comp. And while the housewares market has become extremely promotional, the Williams-Sonoma team remains focused on increasing product exclusivity, innovation, relevant content, and full price selling. We have a pipeline of innovative product launches and chef collaborations planned throughout the year, and we see new opportunities from the integration of the Williams-Sonoma Home Furnishing's assortment into our kitchen business. Looking ahead, we recognize that with the weak housing market, layoffs, and a possible recession, there's a lot of uncertainty with the consumer. Nevertheless, we remain confident with our key differentiators and our growth initiatives, we're confident in our top line. With our focus on reducing costs and managing inventory levels, we're confident on our bottom line. And with the home furnishings market remaining large and fragmented, including the B2B market at an estimated $80 billion TAM, we're confident that we will continue to gain market share. With our relentless focus on compelling products, customer service, and profitable growth, and as inflation and costs, including shipping come down, we're confident that will drive operating margins of more than 14%, as Jeff will discuss in more detail. Looking even further out, we remain confident in our long-term growth algorithm. I believe we're going to get through the coming environment better than any of our peers. We are going to keep delivering profitable growth, and we believe we can deliver a mid- to high single-digit top line growth and sustain our operating margin of at least 15% once the external environment improves. This is a great company with great brands and with our culture of innovation and talent, our values, and the strength of our team, we're moving ahead with our vision to furnish our customers everywhere. As we do, we're confident that we will continue to outperform our peers and deliver for all of our customers, employees, and shareholders. And with that, I'll turn it over to Jeff.
Jeff Howie, CFO
Thank you, Laura, and good morning, everyone. As Laura said, because of our key differentiators and growth initiatives, 2022 was another record year of revenue and earnings with our relentless focus on compelling products, customer service, and profitable growth. We have outperformed our peers, and we continue to gain market share. Now I will walk you through our fiscal 2022 results, our Q4 results, and then 2023 guidance. More specifically, full year 2022 net revenues grew in line with our guidance of mid- to high single-digit growth, finishing at $8.674 billion, a 6.5% comp on top of the 22% comp in 2021 and a 17% comp in 2020. With our digital-first but not digital-only platform, we saw growth across both channels, with e-commerce growing 4.5% comp and retail 11.1%. E-commerce now represents 66% of our total revenues. Gross margin at 42.4% of net revenues, deleveraged 160 basis points from last year. That happened as we absorb the ongoing impact of COVID supply chain disruption and global inflationary pressure. With our strong financial discipline and cost control, we were able to materially offset these headwinds in gross margin as SG&A at 24.9% of net revenue, leveraged 140 basis points from last year. Operating margin of 17.5% was consistent with our full year guidance of being materially in line with our fiscal year '21 results and demonstrates the resiliency and profitability of our operating models. Diluted earnings per share of $16.54 grew 11% over last year's $14.85, another record year of earnings for our shareholders. In fact, we're proud that 2022 constitutes the fourth consecutive year of EPS growth for our shareholders, another example of how we've consistently delivered. Likewise, our fortress balance sheet and consistent ability to generate free cash flow allowed us to fund our business operations, increase our capital investments to $354 million to support our long-term growth, and returned over $1 billion in excess cash to our shareholders. Dividend payouts were approximately $217 million or $3.12 per share, representing the 13th consecutive year we have increased our dividend. Coupled with our share repurchases of $880 million, this shows our strong commitment to maximizing total returns for our shareholders. And here's another example of our financial discipline and commitment to driving long-term growth for our shareholders. Our 49% return on invested capital, inclusive of our higher capital investments and increased inventory levels, our ROIC is among the best in the retail industry. December 2022 results, we're proud to have delivered another year of record revenues and earnings. I want to thank all our associates for their hard work and dedication in driving these great results. Turning to our Q4 results. As Laura said, we continue to outperform our peers. This was despite the quarter's ongoing demand choppiness and declining macroeconomic backdrop. With our ability to gain market share through the strength of our proprietary in-house design and our family of strong and stable brands, our top line outperformed the industry. Our resilient operating margin demonstrates the power of our operating model to sustain profitability. Net revenues came in at $2.453 billion, with comparable brand revenue growth at negative 0.6%. Demand on the quarter was in the mid-single-digit negative comp range, decelerating from Q3's demand trends. We saw a strong holiday season book-ended by a soft early November and a soft January. Our net revenues were driven by strong order fulfillment, ongoing momentum in our growth initiatives, and our continued ability to take market share even as we continue to experience inconsistent demand. Moving down the income statement. Gross margin of 41.2% was in line with our expectations, coming in 380 basis points below last year, it reflects the impact of the higher input costs flowing through our income statement, including higher product costs, ocean freight, detention, and demurrage as well as our efforts to meet our customer service expectations. Merchandise margins decreased from last year as we started to absorb the capitalized costs from higher product costs, ocean freight, detention, and demerge into our income statement. This was partially offset by the higher pricing power, our proprietary products command and by our ongoing commitment to forgo site-wide promotions. The gross margin decline was also attributable to higher outbound customer shipping costs. We continue to incur these higher costs to best serve our customers by shipping from out-of-market distribution centers, and, in some cases, shipping multiple times for multi-unit orders, which typically would have been fulfilled in a single shipment. We're working hard to rebalance our inventory composition and regional inventory location to improve our customer service. We expect customer service to gradually improve over the next few quarters. Occupancy costs at 8.3% of net revenues were 60 basis points above last year, with occupancy dollars increasing 5% to approximately $204 million. Our ongoing retail store optimization initiatives partially offset incremental costs from our new distribution centers on both the East and West Coast. These new distribution centers will support our long-term growth, improve service time for our customers, and drive cost efficiencies over time. Our SG&A rate continues to be at a historic low at 21.3%, leveraging 270 basis points over last year, showcasing our financial discipline and ability to control costs. Employment leverage to last year as we manage variable employment costs in accordance with our top line trends and adjusted incentive compensation with business performance. Our advertising leverage reflects the agile, performance-driven proficiency of our marketing team. Our in-house capabilities, first-party data, and multi-brand platform are an underappreciated competitive advantage that allows us to drive efficient advertising spend in near real time as we see trends evolve in the business. SG&A also includes recoveries from insurance in the fourth quarter. With regard to the bottom line, we delivered another solid quarter of earnings in a challenging environment. Q4 operating income of $487 million and operating margin at 19.9%, which is only 110 basis points below last year, reflects the durability of our profitability, despite significant macroeconomic headwinds and inflationary cost pressures. Our record diluted earnings per share of $5.50 was $0.08 or 1.5% above last year's record fourth quarter earnings per share of $5.42. On the balance sheet, we ended the quarter with a cash balance of $367 million and no debt outstanding. This is inclusive of consistently paying our quarterly dividend and opportunistically repurchasing shares congruent with our commitment to maximizing shareholder value. Merchandise inventories, which include in-transit inventory, at $1.456 billion, increased 17% over last year, while inventory on hand increased 40% over last year. There are 3 important points to emphasize here. First, our inventory on hand increase is skewed by last year's pandemic-related supply chain disruption, creating an artificially low base. An apples-to-apples comparison versus 2019 highlights how we've improved our inventory turnover as our on-hand inventory levels have increased only 21% against revenue growth of over 47% during that time. Second, supply chain congestion eased earlier than anticipated in Q4. Like many retailers, we adjusted our transit times during the pandemic and received receipts substantially earlier than we expected in Q4 as transit times normalize. While this contributed to our increased inventory levels, it enabled us to substantially reduce our backlog to normalized levels. Third, our lower balance sheet inventory growth reflects a 40% reduction in merchandise in transit, as we've aligned our future on order with cautious forward-looking demand given the macroeconomic outlook. To sum up our Q4 results, we've outperformed our industry. Our top line proves our ability to take market share. Our operating margin demonstrates the resiliency of our profitability, and our record earnings per share is testimony to our commitment to maximize shareholder returns. Now let's look ahead to 2023. Due to the macroeconomic uncertainty, we are providing a wide range of guidance for '23. 2023 net revenues are expected to be in the range of down 3 comp to positive 3 comp, with operating margins between 14% and 15%. We expect the first half of the year will be materially tougher. On the top line, our year-over-year demand comparisons and last year's high back order fill, coupled with the declining macro will likely yield negative comps. On the bottom line, we continue to foresee gross margin pressure, as we saw in Q4. The higher input costs sitting on our balance sheet will continue to amortize into our income statement as well as ongoing incremental shipping costs to service our customers. In the back half of the year, these headwinds should turn into tailwinds as our top line year-over-year comparisons get easier and our gross margin pressures become tailwinds that support our profitability. Our capital allocation plans for 2023 prioritize funding our business operations and investing in our long-term growth. We expect to spend $250 million in capital expenditures to invest in the long-term growth of our business. This constitutes a 30% decrease from 2022, with 80% of the spend dedicated to driving our e-commerce leadership through technology enhancements and supply chain efficiency initiatives. We expect to continue to return excess cash to our shareholders in the form of increased quarterly dividend payouts and ongoing share repurchases. For dividends, today, we announced another double-digit increase in our quarterly dividend payout of 15% or $0.12 to $0.90 per share. Again, fiscal year '23 will be the 14th consecutive year of increased dividend payout, which we are both proud of and committed to. For share repurchases, today, we also announced our Board has approved a new $1 billion share repurchase authorization, under which we will opportunistically repurchase our stock to deliver returns for our shareholders. Combined, our dividend increase and new share repurchase authorization continue our commitment to returning excess cash to our shareholders. In fact, we returned over $3.2 billion to our shareholders over the last 5 years, which is yet another example of how we've consistently delivered. As Laura said, we remain confident in the long-term fundamentals of our business as we look beyond 2023. Our long-term growth algorithm will continue to drive mid- to high single-digit top line growth, with operating margins exceeding a floor of 15%. As the world's largest digital-first, design-led sustainable home retailer, we're confident we'll continue to outperform our peers and deliver profitable growth for these reasons. Our ability to gain market share in the fractured home furnishings industry, the strength of our in-house proprietary design, the competitive advantage of our digital-first but not digital-only channel strategy, the strength of our growth initiatives, our ability to control costs, the durability of our profitability, and the resiliency of our fortress balance sheet. With that, I'll open the call for questions.
Operator, Operator
Your first question comes from the line of Anthony Chukumba with Loop Capital Markets.
Anthony Chukumba, Analyst
So my question is on the divergence between, I guess, the Pottery Barn brands and the West Elm comps because even on a 2-year stack basis, Pottery Barn in particular really outperformed West Elm and you said that West Elm was impacted by the macro. I guess I'm just trying to understand why West Elm was much more impacted by the macro than Pottery Barn was in the fourth quarter?
Laura Alber, President and CEO
Can you hear me? Okay, I was saying that the two-year comparisons show that the West Elm stack is somewhat higher than the Pottery Barn stack. However, Pottery Barn offers a broader range of products and had a very successful seasonal assortment. This difference highlights some nuances in the psychographics and demographics of the West Elm customer. We're continuously analyzing customer data to gain insights because any changes present opportunities for us. We're focused on how to better position ourselves during this inflection point as consumers face uncertainty. Currently, income levels seem to significantly influence consumer buying behavior. Additionally, the new mover section of our business has changed dramatically compared to a year ago when the housing market was stronger, which has a considerable impact. Looking ahead, the same foundational opportunities for West Elm remain. We're excited about our new leader joining, whose experience and strong leadership will be valuable. We've seen cycles where we face setbacks but emerge stronger. The design value that West Elm offers is difficult to match, combined with our omnichannel experience in stores and our fresh, engaging locations. We're diligently working on our initiatives and ensuring our marketing remains relevant, just as it was during the pandemic. It's important to note that this time last year, we weren't contending with high interest rates, a wave of layoffs, or recent events that are now heavily impacting consumers. Although there are many challenges, this also presents opportunities. It allows West Elm and our other brands the chance to reduce costs, increase efficiency, and outperform our competitors in service. We can also capture market share as weaker competitors struggle. As I mentioned, this is our opportunity to emerge stronger than anyone else and drive profitable growth.
Anthony Chukumba, Analyst
Got it. Very helpful. And then just one real quick follow-up. B2B sales continue to grow like a weed. Would love just your thoughts in terms of expectation for B2B sales growth in 2023?
Jeff Howie, CFO
Good morning, Anthony. B2B is one of our most exciting growth initiatives, as you know, and we finished this year just shy of $1 billion, growing 27% in the 1 year and 166% on a 2-year. In terms of where we see next year, it should continue to be accretive to our comps, probably in the neighborhood of about 100 basis points to our comps in '23. There's some really exciting things going on in B2B. And as you know, we're not always at liberty to talk about our clients. But in Q4, we saw some notable wins we can talk about. In office space, we outfitted Carl's Jr.'s corporate office. And unfortunately, there was no free food, that was not part of the deal. We also outfitted Google's midpoint office. In stadium space, we furnished the Golden Guardians' esports facility in Los Angeles. And in the hotel space, we saw a large number of hotel projects complete with Marriott SpringHill. Now one thing to remember with B2B is there's 2 customer groups, trade and contract. While trade is more volume, contract is a source of growth. Trade may be more sense of the B2C trends, but contract continues to drive the growth in B2B. We're not seeing a slowdown in the commercial side as there's a backlog of projects coming out of the pandemic, and we have a steady pipeline of RFPs we've gone out of. In fact, Q4 was the largest quarter of contract to date. The key point here is B2B continues to be a winning strategy for us, and we continue to capture market share in the $80 billion fragmented B2B market. It leverages our portfolio of brands, in-house design and global sourcing capabilities, and our digital-first but not digital-only strategy means that we can service the B2B customer in multiple ways.
Operator, Operator
Your next question comes from the line of Maks Rakhlenko with TD Cowen.
Maksim Rakhlenko, Analyst
So first, can you walk us through the scenarios and market dynamics that get you to both the low end versus the high end of both the comps as well as EBIT margin guidance for '23? And how should we think about the strong comp guide versus demand running down mid-singles in Q4, including softer January?
Jeff Howie, CFO
Maks, well, here's what we're seeing as we anticipate continued choppiness in demand and ongoing macroeconomic uncertainty. Certainly, the events of the past week don't help. And all of this is reflected in our guidance, which contemplates a wide range of outcomes. As we said in our prepared remarks, the first half of the year will be materially tougher. On the top line, our year-over-year demand comps and last year's high back order fill, coupled with the declining macro, is likely going to yield negative comps, as we will see our toughest headwinds on the top line. And we'll also see headwinds on the bottom line as we continue to see gross margin pressure as we did in Q4 from the higher input costs, we've all talked about sitting on our balance sheet and as they amortize into our income statement as well as our ongoing incremental shipping costs to service our customer. But here's the back half is a different story. Our top line year-over-year demand comparisons get easier, especially as we started to see demand decelerate after Labor Day last year. As we've mentioned before, our gross margin headwinds become tailwinds in the back half. So here's the key point I'd like to make. We're uniquely positioned to take market share in any environment. Our key differentiators and growth initiatives position us to take market share in any environment. And our fortress balance sheet enables us to withstand pressures that many of our competitors will not.
Maksim Rakhlenko, Analyst
Got it. That's very helpful. Both your 2023 and long-term EBIT margin outlooks indicate a significant improvement from 2019 levels. Can you explain the factors that give you confidence that this is achievable, as well as your expectations for significantly lower promotions?
Jeff Howie, CFO
We've increased our operating margin by nearly 900 basis points since 2019 due to our growth initiatives, channel strategy, and cost management. In the short term, there are some cost pressures that will negatively impact us through the first half of 2023. However, these pressures are expected to turn into advantages in the latter half of 2023 and into 2024, providing us with confidence in the sustainability of our margins. Looking beyond 2023 and considering the current macroeconomic uncertainties, we remain optimistic about the long-term fundamentals of our business. Our growth strategy will continue to facilitate mid- to high single-digit revenue growth, supported by operating margins that exceed a minimum of 15%. There are six key factors supporting this operating margin floor. The first is our supply chain efficiency, which we believe will turn first-half challenges into long-term benefits for our gross margin. The second factor is our ad cost optimization, which is enhanced by our in-house model utilizing first-party data. The third factor is our pricing power, driven by our proprietary products that command higher price points, allowing us to avoid extensive site-wide promotions. We are committed to maintaining this approach to promotions. The fourth factor involves our cost and inventory reductions, which reflect our financial discipline and effective cost controls. Following that is our growing e-commerce sales, a channel with higher contributions. Lastly, our retail optimization strategy focuses on targeting fewer but more profitable stores. The main takeaway is that our operating margin is sustainable at 15% and could potentially increase with higher revenues.
Operator, Operator
Your next question comes from the line of Oliver Wintermantel with Evercore.
Oliver Wintermantel, Analyst
You mentioned the slow performance in January, but we are already 1.5 months into the first quarter. So, what is your outlook for the quarter? How has the first quarter performed so far? You indicated that the first half is significantly lower than the second half. Could you provide more details on how the quarter began?
Jeff Howie, CFO
Oli, so our recent performance continues to be choppy and inconsistent, much like it was in Q4, and the macro environment is not helping, especially with the events in the past week. All of this is reflected in our guidance, which contemplates a wide range of outcomes. Here's the thing we know. Our 3 key differentiators uniquely position us to capitalize on opportunities to take market share in any environment. So for us, it's not so much about the macro. It's about what we can do to take market share and drive profitable growth in our business.
Oliver Wintermantel, Analyst
Got it. And as a follow-up, you've done a really good job in the cost-cutting areas. How sustainable is that longer term? And what comp would you have to achieve to leverage SG&A?
Jeff Howie, CFO
Thank you. Yes, we've been very successful in managing our SG&A. I think it speaks to our operating model and our commitment to financial discipline and cost controls. We believe we can sustain our SG&A and continue to perform and manage those costs effectively. And our leverage comes from a mix of employment and ad costs. The majority of our employment is in our stores, distribution centers, and call centers. So we have the ability to flex the sales. And our advertising leverage reflects the agile performance-driven proficiency of our in-house capabilities. which, again, as I mentioned in my prepared remarks, I think is an underappreciated competitive advantage. So our SG&A leverage shows the flexibility of our operating model, our commitment to financial discipline, and our ability to control costs in any environment, which we're confident we can continue to do so in the future.
Laura Alber, President and CEO
Let me add to that. Jeff and I have been around for a while, experiencing the pandemic and the 2008 recession. While we certainly don’t want to be in this situation, we are well-positioned to withstand challenges and emerge even stronger, as we have demonstrated in the past. Our management team is experienced and knows how to navigate difficult times better than most. Our strong balance sheet gives us an advantage compared to many others. We are proactively cost-cutting and implementing operational efficiencies, which in turn drives better service. Our supply chain costs have faced significant pressures due to increased inbound and transportation costs last year, and we still face some additional customer service costs. However, we anticipate these costs will decline and will become beneficial to us. While our service has improved and back orders have normalized, it still does not meet our high standards. We are committed to investing in our supply chain to reach our desired service level, which will enhance our margins. Additionally, inflation is impacting our vendor costs, and we have noticed increased prices from our suppliers due to rising raw material, labor, and fuel costs. Fortunately, we are starting to alleviate these expenses and seeing costs decrease. Our competitive advantage lies in our channels; for instance, we have a strong e-commerce presence along with physical stores, while some companies focus heavily on one but neglect the other. We understand that multichannel shoppers value a seamless experience, which is why we are expanding our store functions and utilizing them effectively. This allows us to manage inventory better by shipping from stores, enabling customers to pick up items conveniently. We are also analyzing our advertising costs to find immediate reductions. We are equipped to do this effectively because we have first-party data, hands-on experience, and we are continuously investing in technology to optimize our advertising. Regarding labor, we have been cautious about filling positions when employees leave, particularly in Q3 and Q4, which has helped us manage labor costs. However, we have also made some organizational changes to enhance efficiency due to the unpredictable macro environment, allowing us some flexibility as we progress through the year and potentially face continued volatility in the first half.
Operator, Operator
Your next question is from the line of Cristina Fernández with the Tesley Advisory Group.
Cristina Fernandez, Analyst
I have a question about demand. Can you share insights on how consumers are responding, particularly regarding what is performing well and what isn't? I'm especially interested in categories like furniture, which is a core area. I know furniture has been strong over the past couple of years, but how does it typically perform in a context of lower existing home sales and declining home prices?
Laura Alber, President and CEO
It's still early in the year to draw any conclusions, and there's a mixed performance among high-ticket items, with espresso machines selling well while furniture shows some weakness. I'm cautious about making any assumptions for the year as we frequently see fluctuations. The positive aspect is that our diverse portfolio of brands appeals to various life stages, price points, aesthetics, and scales, giving us greater resilience compared to others lacking an appealing Easter or baby assortment. Registry trends remain strong, and people will continue to celebrate holidays and give gifts. Williams-Sonoma brands are well-positioned for gift-giving. Regarding housing, while home sales have dropped by 37%, home values have risen by 40%, making homes the greatest asset for many of our customers. They've developed a fondness for their homes during the pandemic, and as they tighten their spending, dining out becomes expensive. Therefore, dinner parties are making a comeback, which we're focusing on. Additionally, if moving isn't an option, people often remodel, leading to new furniture purchases. These dynamics allow us to leverage our brand portfolio as we navigate what we believe will be another key moment with our consumers.
Cristina Fernandez, Analyst
That's helpful. And then the second question I had, more probably for Jeff. But in the 2023 outlook, just thinking about the gross margin versus SG&A how to get to the decline for the year. It looks like you're controlling costs. So should we expect most of the decline to be due to the gross margin and those headwinds you mentioned in the first half? Or would it be a combination of deleveraging both?
Jeff Howie, CFO
Thank you, Cristina. I'm glad you brought that up. We don’t provide specific guidance on line items, as everyone knows. However, I want to reiterate that our gross margin will face pressure, particularly in the first half due to the amortization of higher ocean freight and product costs, including detention and demurrage. These costs will turn into a positive factor in the latter half of '23 and into '24. Therefore, expect to see pressure from a P&L perspective in '23. Regarding SG&A, we believe our financial discipline and cost control will enable us to manage that effectively. While we won’t provide specific guidance, I hope this gives you a sense of our perspective.
Operator, Operator
Your next question comes from the line of Marni Shapiro with Retail Tracker.
Marni Shapiro, Analyst
I'm here. Hello?
Jeff Howie, CFO
Yes, we can hear you.
Marni Shapiro, Analyst
Okay. I’m not sure why the connection isn’t great, but congratulations on navigating such a challenging environment. Laura, I want to take a step back from the housing market, interest rates, and banks for a moment. You’ve had some successful partnerships, most recently with LoveShackFancy. Can you share some insights on these collaborations? Are they attracting new customers? Are they increasing foot traffic to the stores? Additionally, I wanted to follow up on your earlier comment regarding your stores, where people can actually come in, sit on couches, and this is something I see regularly. Could you elaborate on your future plans for these stores, specifically in terms of how you service them? From my observations in new stores, customers seem to come in ready to buy rather than just browsing. They have done their online research and now want to experience the couches, sheets, or how the dining chairs feel. How has this shift affected your staffing and sales approach in the store model?
Laura Alber, President and CEO
Thank you, Marni. Let's start with collaboration. It's fascinating that while we have our in-house design team, we recognize the wealth of amazing designers out there working in similar areas, sometimes across different categories. Our Children's division has highlighted the significance of collaborations, especially since kids are fans of franchises like Star Wars and Harry Potter. Not offering these experiences to them at a young age feels like a missed opportunity. For years, we worked on various collaborations for kids and then expanded these efforts into our adult brands. We've had great success with historic design collaborations, like with William Morris, and also with trending design groups like LoveShackFancy, which has proven to be incredibly popular with young women. Bringing those designs to children's bedding has exceeded our expectations. Collaborations with chefs are also vital; we engage with them not just for promotional purposes but also to co-develop products, as chefs often have the best insights on what kitchenware works best. We've established exclusive collaborations in our brands, which not only drive sales but also attract new customers who may not be familiar with us. These customers often become very loyal to the collaborators, as seen with Julia B in Pottery Barn. We're planning to keep that pipeline active, with some exciting and confidential collaborations lined up for this year. Regarding storage, we run a top-tier retail business. As mentioned earlier, our stores serve as marketing platforms for our brand while also generating profit. They are beautifully designed and curated with appealing assortments, and we believe they offer us a competitive edge. We maintain their relevance and attractiveness by investing in them and experimenting with new store formats, rather than making abrupt changes. A few years ago, we tested a new Williams-Sonoma design in Corte Madera, and we were pleased with the results. That format is performing exceptionally well. As we renew spaces, we are strategically investing to refresh those stores, allowing us to accomplish more within the same or reduced space. You're correct that customers are coming in ready to make purchases. We aim to provide a pleasant experience, with convenient parking, but when customers arrive prepared to buy, they might also feel inspired to purchase something they hadn't planned on. This is why we believe our diverse mix of furniture, decorative accessories, dinnerware, and tabletop items at Williams-Sonoma attracts more visits than some traditional home furnishings and furniture retailers.
Marni Shapiro, Analyst
That's very helpful. Can I also follow up on the B2B segment? You have experienced remarkable growth, and I believe you mentioned there is still a backlog due to COVID. It seems that some businesses are reevaluating their office spaces, with some downsizing and relocating, which requires renovations. Are you expanding this team, or are you managing to keep it relatively small and agile at this time?
Jeff Howie, CFO
Fortunately, what B2B does is it leverages all of the resources we have as a company, our in-house design team, our global sourcing organization, our supply chain team, as well as our merchandising and inventory team. So we're able to keep this team pretty tight. There is a dedicated team that works with the contract space and customer service to make sure the larger orders are taken care of. But overall, we're able to really leverage our existing resources without much incremental investment to drive the B2B business. It's really more about what we have as our advantages in terms of our portfolio of brands, our in-house design, our global sourcing organic capability, and then our digital-first but not digital-only channel strategy means we can service the customer in multiple ways. So for us, it continues to be a winning strategy, and we continue to capture market share in a fragmented marketplace.
Operator, Operator
At this time, I would like to turn the call back over to the company for closing remarks.
Laura Alber, President and CEO
Yes. Thank you all for joining us and look forward to talking to you next time. Goodbye.
Operator, Operator
Ladies and gentlemen, thank you for participating. This concludes today's conference call. You may now disconnect.