Good day, and welcome to the Haverty's Third Quarter Financial Results Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Richard Hare. Please go ahead..

Thank you, Operator. During this conference call, we will make forward-looking statements, which are subject to risks and uncertainties. Actual results may differ materially from those made or implied in such statements, which speak only as of the date they are made and which we undertake no obligation to publicly update or revise.

Factors that could cause actual results to differ include economic and competitive conditions and other uncertainties detailed in the company's reports filed with the Securities and Exchange Commission. Our President, CEO and Chairman, Clarence Smith, will now give you an update on our results and provide commentary about our business..

Good morning. Thank you for joining our third quarter conference call. We were pleased with the solid third quarter sales and profit performance with written and delivered comparative store sales both up 2.6% and income before taxes $11.2 million versus $9.7 million last year. Earnings per share were $0.39 per common stock versus $0.28 last year.

The two hurricanes have hit the south this year were not as disruptive to our stores as compared to last year's major Hurricane Irma that impacted Florida. We did not have any store damage to our stores, but we have several store closings and the impact on some of our communities was significant.

The most significant disturbance was from Hurricane Florence which hit our Carolina markets. We expect to see recovery from the storms in the next month. Our average ticket increased 5.9% with overall traffic down to similar percentage.

We were pleased to see our closing rate on store traffic increase which demonstrates that we're engaging better with our customers and our message on the web and then our advertising is consistent with what our customers see in the stores. Well over 80% of our customers visit our website doing a transaction as part of their purchase journey.

Clearly, our categories are significantly pre-shopped on the internet. Our omni-channel experience is smoother and provides a seamless process for our customers to interact and transact with Haverty's whether online or in the stores. We're dedicated to fulfilling our mission of delivering an outstanding customer experience.

We undertook several operational moves this year that have helped us to be more efficient. These include closing five underperforming or redundant stores, renegotiating significant leases and contracts and consolidating distribution operations.

Our companywide efforts over the past several years to reduce handling damages and returns, as well as closeouts has helped us increase our gross margins by reducing markdowns.

Our merchandising team has a significant number of higher quality collections arriving this quarter which we believe will be exciting for our customers, H Designers and sales teams. These introductions feature a combination of more fashion-oriented products and regions specific merchandise.

Our teams are keenly focused on the China 10% tariff and the potential for the upcoming 25% tariff at the first of the year. Our merchants have been working very closely with our vendors to reduce the impact and we feel there will be minimal effect this quarter.

However, the announced 2019 25% tariff will cause some retail price increases, disruptions, product changeovers and delays from relocating to factories outside China. We continue to strengthen our strong quality control team both domestically and in Asia.

We're dedicated to making sure that all Haverty's product meets our quality standards for immediate delivery and can stand up for the style, finish and use that our customers demand.

Our quality control team is a significant factor that separates Haverty's quality from the competition and is particularly important as we relocate the factories in different countries. We're continuing with major investments in new systems and technology to improve our supply chain and distribution procedures all the way back to the factory floor.

This will give us full transparency throughout the entire product cycle. We're driven to be the most efficient provider throughout the customer order cycle and to provide the quickest delivery on special orders at the best pricing with excellent quality.

We're investing in business intelligence systems, third party research and internal staffs to more closely understand our customers' shopping behaviors and their reactions to our stores, products and promotions.

We have a wealth of information on our customers' buying behaviors because unlike other retailers and take with retailers, we deliver to our customers' homes. We plan to have 2.2% less retail square footage with the late year addition of a store in Chattanooga, Tennessee. We will end the year with a 120 stores.

We're planning to open new stores and fill in markets within our distribution footprint in 2019. We will announce planned new store locations when leases are finalized. We feel that our product and store presentations are well positioned to grow our sales for the fourth quarter and into 2019.

We are in excellent shape with our upgraded store presentations, strengthened marketing and H Design is an exciting that are hitting out for us. We have a strong inventory of best sellers and our sales and delivery teams are inspired and energized.

We're taking advantage of the opportunity to separate Haverty as the source for the best home furnishing values and service during this rapidly changing retail landscape. I'll turn the call back over to Richard..

Thank you, Clarence, and good morning. In the third quarter of 2018, sales were $210.5 million, a 1.4% increase over the prior year quarter. Our comparable store sales were up 2.6% for the quarter. Our gross margin - our gross profit margin increased 90 basis points to 54.8%.

Merchandise pricing and mix and reduced product markdowns contributed to the increase in gross profit margin. Selling, general and administrative expenses as a percentage of sales was 49% for the third quarter of 2018 versus 49.2% for the third quarter of 2017. Total SG&A increased $1.1 million to $103.2 million.

This was largely driven by increased warehouse and delivery cost due to higher wages, increased fuel cost and higher administrative costs which were partially offset by reduced occupancy cost and reduced medical cost.

We recorded $700,000 of other expense during the third quarter of 2018, which includes the loss on the disposal of property that had been used as a delivery truck drop site. Net interest expense was down $233,000 to $260,000 in the third quarter.

This decrease is primarily the result of increased interest income on our cash and cash equivalent balances. Income before income taxes increased 15.3% to $11.2 million in the third quarter of 2018 versus $9.7 million in the same quarter last year.

Our tax expense was $2.9 million during the third quarter of 2018, which resulted in an effective tax rate of 25.5%. In the prior year period the effective tax rate was 38.4%. The Tax Cut and Job Act of 2017 became effective in the fourth quarter of last year and reduced the company's federal tax rate from 35% to 21%.

The primary difference in the effective tax rate and the statutory rate is due to state income taxes and additional tax expense or benefit associated with vested stock awards.

Net income for the third quarter of 2018 was $8,353,000 or $0.39 per diluted share on our common stock compared to net income of $5,983,000 or $0.28 per share in the comparable quarter last year. Now turning to our balance sheet, at the end of the quarter, our inventories were $108.3 million which was up $8.7 million over the same period last year.

We ended the quarter with $96.3 million of cash and cash equivalents and our $60 million revolving credit facility remains untapped. As a reminder, we have no funded debt. Looking at some of the uses of cash flow, capital expenditures were $18.2 million for the first nine months of this year.

We expect to spend approximately $20 million in CapEx for this calendar year. During the first nine months of 2018, the company paid a total of $11.3 million of cash dividends to the holders of its common stock and Class A common stock.

We increased 20% to $0.18 per common share in the first quarter of 2018 which followed a 25% increase in the third quarter of 2017. We purchased an additional $5.2 million or 235,695 shares of common stock during the quarter.

Year-to-date, we have purchased $14.5 million or 687,562 shares of common stock and we have $5.5 million remaining under our current authorization. Our earnings release list out several additional forward-looking statements, indicating our future expectations of certain financial metrics.

I'll highlight a few, but please refer to our press release for additional commentary. In 2018, we continue to expect our gross profit margin for the full year to be approximately 54.5%. Fixed and discretionary type expenses within SG$A are expected to remain in the $257 million to $259 million for 2018.

Variable SG&A costs for 2018 are expected to be 18.5% as a percentage of sales. We expect our overall effective tax rate in 2018 to be 25% excluding any impact from the vesting of stock based compensation awards. Our federal tax rate is expected to be 21% and state and local taxes make up the remaining difference.

The United States recently enacted tariffs on furniture accessories and components used in the manufacturing of furniture imported into the United States from China. The tariff of 10% was effective September 24th of 2018 and will rise to 25% on January 1, 2019.

As previously disclosed, we continue to expect there will not be a significant impact from the tariffs on our business in 2018. We are currently working with our vendors to determine the overall impact of the 25% tariff beginning in 2019. This completes our commentary on the third quarter financial results.

We appreciate your participation in today's call. Operator, now we would like to open the call up for some questions..

[Operator Instructions] Our first question will come from Budd Bugatch with Raymond James..

Good morning, Clarence. Good morning, Richard. Congratulations on the solid third quarter, performance looked very, very solid. One number that jumped off the page to me was the rise in average ticket. I don't think I've seen nearly a 6% rise in average ticket in the previous report, at least not for the last six or seven quarters.

Well, that's a big number.

Can you talk a little bit about what's changed and what the character of that is and what may drive that?.

Well, we're doing a lot more special order and custom now with our H Design team, Budd and those are at higher price points. And our best-selling upholstery groups which are our top numbers are at a higher price point than we've ever had before.

So, dealing with a designer who gets now the whole room puts together the whole home as opposed to just an item or a sofa adds to the ticket. And then on top of that, we're doing more custom, more special order and higher pricing.

So, we did have - at Labor Day, we had a 60 month financing program for short period of time which also helped drive our average ticket during that promotion. And that was a new move, we haven't done before that we did on the Labor Day..

So, is the average ticket now around at $2,200 or $2,300?.

Yes, it is..

Okay, interesting. I look for whether you had disclosed what percentage of your cost of goods sold are coming from China and I don't know that I was able to see that, maybe you have discussed that in other calls, I don't recall it.

Can you give us maybe a feel of what percentage comes from China?.

Sure. Budd, if you look back what we've disclosed is if you look at our 2017 annual numbers, $100 million of our cost of sales came from China, of which $12 million of that $100 million were direct imports the remaining were indirect. So, they went to the third party. So, that's kind of the quantification of our exposure..

Okay. And what do you think you can do and what do you - what have you done for the 10% to offset the impact of that.

Is it just a timing issue for the fourth quarter or is there something you have done to mitigate that effect if we look to just 10% going into the first quarter next year?.

It's both. We were trying to prepare and bringing product in recognition that the tariff could happen which is a part of it, but we've also negotiated with all of our vendors to minimize the impact. They're taking part of the hit; we're taking the part of the hit.

But most of all, the product we have in stock and already coming is without a tariff or minimal part. So, it's just been a process of working with our vendors to minimize the impact at the retail level..

Okay.

And so, of the $100 million that now is at risk, what do you think you can move if you had to or how much of its upholstery augment and little of it's bedroom?.

Well, most of our bedroom we've already moved to Vietnam and we will be moving more of that. As you well know, all of China is trying to move the product or most of China is to Vietnam and they can't handle all that at one time. But most of our case goods have already been moved there. We do have some exposure on some groups that are made in China.

And again upholstery, particularly leather upholstery has been mostly made in China and that is being moved by number of factories as you know. And we're one of the major players. So, we hope that we can get production without any disruption, but we know there will be some if the 25% tariff hits and everybody is trying to move at one time.

So, we're trying to mitigate it through negotiating with our factories and trying to move to different suppliers and different factories in other parts of Asia, primarily Vietnam..

So, if I have to guess or if you have to guess next year that $100 million number from China would be what? What do you think it would be?.

Well, we haven't given that number out. We're still trying to quantify that. But I know everybody needs to know that number, we do too. So, it's something we're continuing to work on. I don't think we have a number for that..

I got you. Thanks guys. Okay. I'll let some others ask questions. Thanks Clarence. Good luck on the fourth quarter certainly into 2019..

Thank you, Budd..

Thanks Budd..

Thank you. Our next question will come from Anthony Lebiedzinski with Sidoti..

Yes. Good morning, gentlemen, and thank you for taking the question. So, I guess first couple of Q3 related questions.

So, as you've closed some stores and optimized your store network, is there a number that you can give perhaps for the impact of reverse cannibalization on your same store sales performance?.

I don't think - we haven't given a number on that. Several of these stores we closed are in existing markets. We are picking up some of those sales in the stores that are in that market. It has helped comps a slight number. I don't think we've given that number out, Richard, yeah. We feel good about these closings.

I mean these were stores that were under-producing. We knew that at the end of the leases we did want to renew them. So, we've really worked through most all of our portfolio. We don't have any planned closings after this year.

And the stores that are closing were actually smaller number; most of them were all under-producing at levels that were not significant as far as sales per square foot. So, we are glad to get out of them. We've relocated the people who wanted to stay with us to existing markets.

And now we're looking at more in-fill markets that are available at good leases. So, we don't see us reducing the count from 120..

Got it, okay. That's good to hear. Okay.

And then as far as for the quarter, is it perhaps possible for you guys to quantify the impact of higher wage and fuel costs?.

Well, in the G&A category, we talked a little bit about that. Our - if you look at - we were up about $1.1 million in G&A, about $600,000 of that was increased compensation cost on administrative side offset by reduced medical. We had about increase of $700,000 in warehouse and delivery.

And that's where you're going to see the higher wages and the fuel costs. And then that was offset by reductions in occupancy. So, it's kind of buried in that $700,000 number..

Got it, okay. That's very helpful. So, I know you guys are still evaluating potential retail price increases assuming the 25% tariff goes through starting in January.

So, when you look at the different product categories that you have, which ones do you think you have the most pricing power in and which ones do you think have the least pricing power?.

Well, that's an interesting point. I would say that with our specific product mix that we make in case goods, we probably have a little more pricing power in case goods because it's not out there at all and those designs are exclusive to us. But most of the case goods are already in Vietnam.

So, where the big risk and where most of the product of that $100 million is in leather upholstery coming from China. So, it's a more competitive area. It's harder to distinguish the looks.

We do that, but I would say you have less pricing power there than you would in case goods, but the risk is less with case goods because most of that's already moved..

Okay, all right. Well, thank you and good luck for the fourth quarter..

Okay. Thank you..

Thank you. [Operator Instructions] We'll take our next question from Brad Thomas with KeyBanc..

Hi. Good morning, Clarence. Good morning, Richard..

Good morning, Brad..

Good morning, Brad..

Few housekeeping items if I could.

Richard, I apologize I missed it, but could you give us the fixed discretionary expense for 3Q or year-to-date?.

Sure. The fixed for Q3 is $65.4 million and year-to-date it's $191.1 million..

Perfect..

You got it..

And then just with respect to stores, how are you thinking about the store base next year? I know Clarence; you said you didn't feel like you should go below 120.

Will we start to see some more growth next year?.

That's the plan; we are working on some locations, new leases filling markets. We haven't finalized those and we do think there's some opportunities for growth where we can serve the customer quite well and where we're known in a number of these markets. So, yeah, we're looking at some locations and we expect to grow this year or in 2019..

Great. And then a question on advertising, every couple of years with the election sometimes that could be a bit distracting.

I guess any commentary about the effectiveness of advertising, cost of advertising that you've been seeing over the last month or so?.

Yeah. So, right at the time, we're talking. We have, as we did with the national election, we backed off of some of our television around election time, which is right now. As you well know, it's a pretty intense and it does get more expensive and you get bumped. We've moved some of that mix more to the digital arena.

But we have had to or we took the strategy of backing off, let's say for the next several weeks until after the election. So, it does have an impact and this particular mid-term is more significant than usual. So, we're recognizing that and backing off at the time..

Got you. Great. And then just as we think about gross margin for next year, you all have done a really admirable job of improving gross margin in the last three years.

Do you think that we can continue to expand gross margin next year or you think we're better off, expecting it to be down somewhat the tariffs?.

Yeah. We're not modeling that because of the tariffs. That's such a significant factor. We are having to take price increases and anticipating that. We're placing orders now clearly and have orders placed now for next year and you have to assume the 25%.

So, no, I don't anticipate in the model that Richard talked about shows I think 54.5 which I would be happy if we can hold that if the tariffs hit. The tariffs don't hit, we do have some pricing power..

You're saying you'll be happy if you can stay at 54.5 next year with the tariffs?.

Correct..

Okay.

And if we get the 25% tariff, is there - can you quantify what you think the price increase would be to the consumer on an average across the store?.

Not yet. We're doing a kind of a bottoms up review right now with our merchandising group going through all of our products, each and every product that we get from China and the impact on our cost and on the pricing as well for our customers. So, that's to be determined, but we're right in middle of that process..

And the real unknown is the salability once you raise these prices; I mean we don't know that. We do know certain areas are very competitive and price increases will be tough, it's just too much unknown. But we will - we're in the process as Richard said of getting a lot more detail on that..

Great. If I can squeeze one more in just on the mattress category, I know smaller business for you, closer to 10% of sales. But with this backdrop where mattress firm is closing some stores is in bankruptcy, Tempur-Pedic obviously has some new products out thinking of their stock of the anti-dumping ruling against the Chinese coming here soon.

I guess I'd be curious if there is any color you could share about how that business is performing and your enthusiasm going forward?.

Well, it's an important category. Yes, it's around 10%. We've had it before 11 or plus and we want to get back. We are in planning to be aggressive in the category. We're a major customer of both major vendors of [indiscernible] and we intend to be. We're also developing our own product which is made domestically.

This anti-dumping issue will impact a land that we bring out of China, but we think that it will be an important opportunity for us to grow our share as we have fewer of those stores in the markets. And we want to grow within our own stores.

We're not planning on opening any of our own sleep stores, but we want to be aggressive and I think we'll - you'll see more of that in the next several quarters..

That's great. Thank you for all the help guys..

Okay. Thank you, Brad..

Thank you. Our next question will come from Budd Bugatch with Raymond James..

Yeah. Clarence, you did mention you were replacing orders in advance of I guess the incremental 15% tariff.

So, can you give us a - quantify what you think inventory might look at it at the end of the year? What do you think you - how much you're willing to commit to pre-buy?.

Well, what we've already committed is already coming here or on the water….

Yeah. I think we were around 108. I don't think it's going to go higher than that. I think it's going to be right around that area.

Most of it's as Clarence said is in route, but I think you'll see next year - it may go up a little bit, but then you'll see it go back down as we - we're bringing in inventory now; when we can get it, when the tariff is lower and in some cases we got it before the 10% tariff was in effect.

So, it might go up slightly more than where it's at now, but then it should come down Q1 of next year and so forth..

So, you ended the quarter at a $108.3 million, you think it will be that or maybe got that bit higher at the end of the year?.

It can go slightly from there, but I don't think you will see a drastic increase..

Okay.

So, a 110 would be kind of what the high watermark?.

Yeah. I mean we built to this on purpose because we were worried about it. So yeah, as Richard said, we'll expect that to come down in later quarters, later months..

And just lastly, the leather upholstery that's coming from China is that at the promotional leather upholstery side or the better goods typically?.

Well, all categories. I mean our best leather comes - I mean we're doing it domestically, but it's still coming from China, much of it. So yeah, most of what we're referring to when we talk about leather from China is the motion leather category which you know is major. And so, that's what's hitting us the most..

Got you. Thank you very much..

Okay. Thank you, Budd..

Thank you. It looks like there are no questions at this time. [Operator Instructions] Okay. It looks like this concludes the Q&A session. I'll turn the conference back over to Richard Hare..

Thank you for participation in today's call. We look forward to talking with you in the future when we release our fourth quarter results..

Ladies and gentlemen, thank you for joining today's Haverty's third quarter financial results call. The call is now concluded. Please disconnect your phones and have a great day..