Good day, and welcome to Havertys' Second Quarter 2019 Financial Results Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Chief Financial Officer, Richard B. Hare.Please go ahead, sir..

Thank you, operator. During this conference call, we'll 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 SEC.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 second quarter conference call. Second quarter comparative store sales decreased 2.3%, with written comparative store sales down 3.1%. While we were not happy with the decrease, we are pleased to see the improvement from the first quarter.Q2 earnings of $0.29 per share were equal to last year.

While we've worked through several significant product flow issues and have mostly resolved the movement of product from China to Vietnam in reaction to the List three 25% tariff implemented in the quarter, we have set in motion with several of our suppliers the transition to production in Vietnam.And while there are still challenges throughout this major movement, we will see some gaps in the production flow cycle.

I believe that our team has effectively mitigated the China tariff issues as well or better than any of our competition.Because of the additional Chinese tariffs, we will see some gross margin impact.

We've negotiated with all of our suppliers and increased some prices strategically, which impacted some of our best selling products, but we believe that most of that negative is reflected in the projected margin in our press release.We're heavily investing in new systems and technology to improve our customers' experience and to reach our target customers with the message that will help us gain her confidence and grow market share.An increasing percentage of our CapEx is invested in 3D technology; enhanced cloud based platforms, the latest mobile sales tablets and faster devices for all of our team members.I expect that heavier IT investment trend to continue in the next years.

The significant growth in our average ticket and customer order product is directly related to the growth of our H Design sales. The second quarter average sale is up 5.3% over last year to $2,341.

Our merchandise team is focused more on style and fashion and our product and presentations.Working closely well with suppliers, we've shortened the special-order lead times to better serve our customer and to help her feel more comfortable with waiting a few weeks versus months for custom product.

H Design sales are right at the 25% target that we outlined when we started the program, and in several markets, this figure continues to grow.We are providing a service-level, product quality, affordability and timely delivery that our customers desired but has not been available in the marketplace.

We're dedicated to continuing to provide the professionalism and quality level to grow the average sale and custom product sales to help make our customers' vision of their home a reality.For the third quarter, we're pleased to see a positive written sales trend for the first time in many months, following a strong Fourth of July sales period.

Our written sales and our undelivered backlog are up in the high-single digits for the first time this year.Quarter-to-date, deliveries are up in the low-single digits.

For the holiday events, we were a bit more aggressive with our promotions, and I believe that our marketing message was clear for our customer.We're very excited to be returning to the St. Louis market next month with a significant store location in the Chesterfield Commons area. We're returning to St.

Louis since we left the market in 1908.Our founder, J.J. Haverty, opened the St. Louis store in 1891 when he moved there with his young family.

Our teams are thrilled to again serve that major market in our distribution footprint.We will open a new branch store in Newnan, Georgia, a fast growing area southwest of Atlanta in September; and our November store relocation in Baton Rouge with a significantly improved site, highly visible on I-10.

We expect to end 2019 with a slight increase in selling square footage.We're looking at several locations within our 16-state distribution footprint next year, which will complement our existing store base.

We're encouraged by our solid start to the third quarter.We're optimistic that our better fashion-oriented product, the improved in-stock position, our enhanced store presentation, combined with our top rated sales and H Design teams are set for a solid second half.I'll now turn the call back over to Richard..

Thank you, Clarence, and good morning.

In the second quarter of 2019, sales were $191.9 million, a 3.5% decrease over the prior-year quarter, and our comparable store sales were down 2.3% for the quarter.Our gross profit margin decreased 20 basis points to 54% due to merchandising, pricing and mix and slightly higher product and freight costs during the quarter.Selling, general and administrative expenses decreased $3 million to $95.8 million.

This was largely driven by reduced selling and delivery costs due to lower sales volumes. We recorded slightly over $100,000 of other income in the second quarter of 2019, and we recorded a loss of $183,000 in the prior year quarter.In last year's quarter, we recorded a loss from a sale of a closed location.

We recorded net interest income of $340,000 in the second quarter 2019.We recorded net interest expense of $454,000 in the second quarter of last year, resulting in a variance of $794,000 over the prior year period.

This variance is a result of the adoption of the new lease accounting standard we adopted in the first quarter of 2019.Income before income taxes decreased $200,000 to 8.2 million in the second quarter of 2019 versus $8.4 million in the same quarter last year.

Our tax expense was $2.2 million during the second quarter of 2019, which resulted in an effective tax rate of 26.6%.In the prior year period, tax expense was $2.2 million, resulting in a tax rate of 26.1%.

The primary difference in the effective tax rate and the statutory rate is due to state income taxes and additional tax expense associated with vested stock awards.Net income for the first quarter of 2019 was $6,046,000 or $0.29 per diluted share on our common stock, compared to net income of $6,214,000 or $0.29 per share in the comparable quarter last year.Now turning to our balance sheet.

At the end of the second quarter, our inventories were $109.2 million, which was essentially flat with last quarter, and up 3.4 million over the fourth quarter of 2018. We ended the quarter with $56.1 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 our uses of cash flow. CapEx was $4 million during the quarter. We also paid $3.6 million in regular quarterly dividends, representing $0.18 per common share.

We purchased $17.8 million of common stock, which equates to 1,005,226 shares during the second quarter of this year, and we have $8.4 million remaining under current authorization in our buyback program.As previously disclosed last quarter, on January first 2019, we adopted a new lease accounting standard that requires companies to capitalize their lease obligations on their balance sheet along with additional qualitative and quantitative disclosures.Further details regarding our implementation of the standard are included in the notes with the financial statements in our Q2 2019 earnings press release.In addition, our earnings release list out several additional forward-looking statements indicating our future expectations of certain financial metrics.

I will highlight a few, but please refer to our press release for additional commentary.In 2019, we expect our gross profit margin for the full year to be approximately 54.1%.

Fixed and discretionary type expenses within SG&A are expected to be in the $256 million to $258 million range for 2019.Variable SG&A costs for 2019 are expected to be 18% as a percentage of sales. Our planned CapEx for 2019 is $90 million, which includes opening the three locations Clarence previously mentioned.

We expect our overall effective tax rate in 2019 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. This completes our commentary on the second-quarter financial results.

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

Thank you sir. [Operator Instructions] The first question will come from Anthony Lebiedzinski with Sidoti & Company. Please go ahead with your question..

Yes, good morning and thank you for taking the question. So Clarence, I just want to get a little bit more color as to the solid start to the third quarter. You mentioned also Fourth of July event as doing well.

So obviously, the industry has struggled for the first half of the month.So can you just share -- I know you touched on it, but maybe can you share with us some more details as to why do you think we've had this pick up here? Is it just pent-up demand? Or something else perhaps driving the improved sales so far?.

Well, I think we had better coordination in our media for the event. I think we structured it better. We had a better combination of the digital, direct mail and the television. The message was clearer release than we've done in the past, I think.We were very pleased to see it. As you know, clearly, we haven't had that kind of trend.

So -- and through the month, I gave the range of where we are now. So I think we're in better stock than we have been.We had a stock issue in the second quarter and some of the first quarter due to the tariff questions. We are able to deliver a little better. I just think it’s a little better positioning. It is pleasing to see.

I don't have a real clear answer to why it jumped like that, but we're certainly happy to see it..

Sure. Okay. So obviously, as far as the whole industry itself, it is moving more to Vietnam from China. So now everyone is rushing to get into Vietnam. Now the infrastructure in Vietnam is clearly -- has a lot of catching up to do relative to China.

So do you think that Havertys' overall is in a favorable position versus competitors to ensure adequate and sustainable inventory flow?.

I do think we're in a better position. We've got very good relationships with the key suppliers there, and we've had those relationships with them. I think they like dealing with us because we do the right thing, but they also have the visibility vis-a-vis what we're just talking about here. We're a public company. They know who we are.

They know we pay our bills on time, all of that. So I think we have a very good relationship with the vendors in Vietnam. There are going to be challenges because of the infrastructure.It's not the same as China, and there's a lot of pressure on a lot of them to add more and get it out quicker. So our team has just returned.

I met with them yesterday, and we feel good about it. And I think we do have a better position than most of our competition..

Got it. Okay. And lastly, I just want to get a better sense -- longer-term, what are your thoughts on your store base? I'm particularly interested in how you're thinking about store growth in markets where you only have like a single location, for example, St. Louis now or Wichita or Columbus, Ohio.

Just -- if you could just give a better sense as to like how you're thinking about store locations?.

I think we'll grow stores as we see the demand and the need to do so. We are going to St. Louis with one significant store into what we believe is the exact right location for our customer and for who we are. We will look at another store later, but that's not our intent to begin with.

We do have one store, which we think is a great location in the Columbus. I don't think we will look for another one unless we had more demand where we are.We do think that one significant store in these kinds of markets can provide enough support to grow the business and to be profitable.

We do have several stores in several markets, but to tell you the answer, we're going to grow within this footprint. We do see some opportunities to add stores, but we have not got the sales per square foot efficiencies that we need to really start rolling out a lot more.We're about $185 a foot.

We want to get back to over $200-a-foot range, and we are continuing to do that by closing the weaker stores and opening in better markets, better locations, just like we're doing in Baton Rouge with the relocation there. So I don't see a big growth. I see a sustained single-digit growth in the next several years of number of stores..

Got it. Okay. Well, thanks very much. And best of luck..

Okay. Thank you..

Thank you, Anthony..

Thank you. [Operator instructions] The next question will come from Brad Thomas with KeyBanc Capital Markets. Please go ahead with your question..

Hi, good morning Clarence, good morning Richard..

Good morning..

Good morning, Brad..

Let's see here. Maybe we could start with gross margin. I think the new outlook is for gross margin to be 50 basis points lower than what we thought when you gave guidance at the end of 1Q.

I guess, Richard, can you talk a little bit about some of the puts and takes and what's changed?.

Yes. Absolutely, Brad. Thanks for the question. When you look at that 50 basis point decline in our projected gross margin for the year, it's primarily two things. One is tariffs. And with tariffs, it's two categories within that.

As we move to China, the 25% rate with the higher prices, and as we drop certain products as well, that's going to have an impact on our margins, as well as what we project our anticipated LIFO had to be. We think that will certainly impact that.So, about half of the decline relates to those two things.

And then the other piece, during the second quarter, we had our annual renegotiations on our freight rates with our carriers, and we saw some slight increases there on freight. So between those categories, we felt we needed to reduce our guidance for gross margin for the rest of the year..

Got you. That's helpful.

And as you think about maybe level of promotion, is there any change in how you're thinking about level or degree of promotions in the second half of the year?.

I think we'll be aggressive. I don't think it's going to be significantly more aggressive than last year. I think it's going to be better coordinated. We are using free credit promotion, which others do also, and we pay for that in a discount rate, as you know. So, that cost would be reflected in our SG&A.

So, I think what our plan is just to make sure that our message is very clear, very coordinated and promotional when it needs to be -- aggressively promotional when it needs to be. And I think we'll do a better job of that..

Great.

And then, Clarence, with respect to some of the stocking issues, are we, at this point, through most of that? And as you look back and reflect on 2Q and the first half of the year, any better sense on how to quantify maybe what the impact on same-store sales was for you?.

I don't know if we can quantify that. Anthony asked me a question of why things are better now. I really think the best part of it is that we are in stock on our best sellers where we weren't before. And I think we're getting more credit for that. I think the whole industry has struggled with this.

And I believe that we're in a little better shape than some of our competition that which is probably the reason that we're gaining a little share there. So I don't have much more on that, Brad. It is a challenge. I think we're in a little better position..

That's all great. Thank you so much for my answer my questions. And good luck in the second half..

Thank you, Brad..

Thanks, Brad..

[Operator Instructions] The next question will come from Bobby Griffin with Raymond James. Please go ahead with your question..

Good morning everybody, and thanks for taking my questions..

Hey, Bobby..

First of all, can we talk a little bit more about China and maybe get an update on what your exposure is now and how some of the progress has been in shifting your -- some of the products off to Vietnam?.

When all this started, I think we were importing about 125 million from China. The new -- where we are now is in the 80s. We want to continue to drive that if we can, but some of our best sellers are still made in China, and they're not going to move.

So that's going to be an issue, but I think it's now baked into where we are and baked into the estimates we have here. So we negotiated with these vendors the best we could. They're sharing these tariffs with us, some more than others. It's just a matter of how much they could give.

So, I don't think -- it's not going away.China is going to be important. They're the best still in certain categories, particularly in leather. So and that's an important area for us.

So, I think it's something we've got to live with and also figure out the flow of product from Vietnam when they don't have the infrastructure and support in the back end that China does..

Okay. That's helpful. And then for the best-selling items that you referenced, I assume those are some of the items you've been strategically passing through some price increases on because of the tariffs.

Have you seen any change in unit volume on those items at all because of higher pricing for consumers?.

We do initially. And what we've started to see is it recovers because they're just better value overall anyway..

Okay. Very helpful.

And then, what about for list four? How are we positioned for list four if that does come in at 25%? And does the gross margin guidance for the year assume anything on that side?.

We've already got the 25% in our cost of goods coming from China now..

For everything? Okay. Okay, that's very helpful. And then -- and I guess to just circle back on the quarter itself. A pretty big inflection point here in July.

Did you see it kind of build though throughout the second quarter as your in-stocks got better? Your marketing message got a little better? Or is this something all of a sudden just flipped in 3Q?.

I hate to call it a flip, Bobby. We are certainly pleased to see it. It was directly related to the Fourth of July event. And events are more important. Holidays are more important for this industry, and I think you'll see that across the board. We're doing a better job with the better goods.

We're getting more credit for the fact that we're selling good-quality merchandise.

And in mattresses, we're selling the better product, and that's been a category that's been good for us.So I think we might be to the point where we're getting a little better credit for the fact that we're offering the service levels, that we're offering the design service.

And that's recognized in the average ticket, which was already up last quarter, and it's continuing to go up. So I don't have a really good answer other than I think we're getting a little better credit for what we do..

Yes. And I'd just -- as Clarence said earlier, I think, the way I look at, it -- we came up on a big promotional event. We got better communication of a marketing message in our promotions. Couple that with better product availability, and that was a game changer for July..

Okay. That's very helpful. It's great to see the inflection point. Really happy to see that, happier for the product's you guys are making.

I guess lastly, Richard, can you give us the breakout for our models of the fixed and variable portion of SG&A for the quarter?.

Sure. For the quarter, the variable was 35,224,000. That was 18.4%. And fixed and discretionary was 60,560,000 for 31.6%..

All right. I really appreciate it. Best of luck going into the back half of the year..

Thank you, Bobby..

I'm showing no further questions at this time, sir..

Well, we thank you for your participation in today's call, and we look forward to talking with you in the future when we release our third quarter results..

Thank you ladies and gentlemen. This concludes today’s event. You may now disconnect your line..