Anne Rakunas - Investor Relations, ICR, Inc. Daniel Griesemer - President and Chief Executive Officer Michael Henry - Chief Financial Officer.

David King - ROTH Capital Partners Jeff Van Sinderen - B.Riley & Company, Inc. Richard Jaffe - Stifel Nicolaus & Company, Inc. Alex Pham - Mizuho Securities USA Sharon Zackfia - William Blair & Company, L.L.C..

Good day and welcome to the Tilly’s Incorporated Second Quarter 2015 Results Conference Call. Today’s conference is being recoded. At this time, I’d like to turn the conference over to Ms. Anne Rakunas at ICR, Inc. Please go ahead, ma’am..

Thank you. Good afternoon, everyone. Thank you for joining us today to discuss Tilly’s second quarter fiscal 2015 earnings results. On today’s call are Daniel Griesemer, President and CEO; and Michael Henry, CFO. A copy of today’s press release is available in the Investor Relations section of Tilly’s website at tillys.com.

Shortly after we end this call, a recording of the call will be available as a replay for 30 days in the Investor Relations section of the company’s website. I’d like to remind you that certain statements that we will make in this presentation are forward-looking statements.

These forward looking statements reflect Tilly’s judgment and analysis only as of today and actual results may differ materially from current expectations based on a number of factors affecting Tilly’s business. Accordingly, you should not place undue reliance on any of these forward-looking statements.

For a more thorough discussion of the risks and uncertainties associated with the forward-looking statements to be made in this conference call and webcast, we refer you to the disclaimer regarding forward-looking statements that is included in our second quarter 2015 earnings release, which was furnished to the SEC today on Form 8-K, as well as our filings with the SEC referenced in that disclaimer.

Also for today’s call, we have a limit of one hour. So when we get to the Q&A portion, please limit yourself to one question at a time to give others the opportunity to also have their questions addressed. And with that, I will turn the call over to Daniel Griesemer, Tilly’s President and Chief Executive Officer..

Thank you, Anne, and good afternoon, everyone. Thank you for joining us today. During my discussion, I’ll provide you with an overview of our second quarter results and share with you the continued progress we are making on our key initiatives.

Then, Mike will review our financial results in more detail and provide our outlook for the third quarter fiscal 2015. I’ll provide a few closing comments and then we’ll open up the call for your questions.

During the quarter, we achieved net sales growth of 6% and comparable store sales growth of 0.5%, slightly better than the midpoint of our outlook range. These results were driven by continued improvement in conversion in response to our marketing and digital initiatives.

This was partially offset by continued weakness in traffic which caused a slow start to the second quarter as we described on our last call. We experienced strength in the remainder of the quarter up until the last week, which softened meaningfully due to shifts in back to school related dates and tax-free holidays.

We continued to manage our inventory well to ensure a constant flow of newness and excitement, while at the same time exiting the quarter with clean and current inventory.

While our product margins declined modestly due to the prudent decisions we made to ensure we did not carry over excess seasonal product into the third quarter, they were still at historically healthy levels.

Our inventory composition reflects opportunistic buys for the back to school season and increased inventory to support the planned growth in our e-commerce business as we discussed on our last call. Overall, we delivered diluted earnings per share of $0.02.

We ended the quarter with debt free balance sheet and cash and marketable securities of $77 million, a 34% increase over the prior year period and we are encouraged by sales trends so far in August, reflecting solid execution of our merchandising, inventory and marketing strategies.

During the quarter, we continued to advance our three key initiatives, and I’d like to update you on each of these now. As it relates to our first initiative, increased product differentiation and innovation, strength in conversion and average transaction value support that we have right product offering for our customers.

During the quarter, we invested in dominant on trend products and categories, introducing more products and brands that are new, unique or exclusive to Tilly’s. I’m pleased with the performance of brand expansions, new brands, and the exclusive products, collections and collaborations we introduced during the quarter.

Turning to our digital initiatives, one of our key digital initiatives is to further leverage our state of the art e-commerce platform, dedicated e-commerce fulfillment center, and omnichannel capabilities that we’ve invested in over the past two years.

These enhanced capabilities, in addition to an expanded online product offering, drove strong e-commerce sales growth that was much higher than our overall growth in the quarter. We also continued to realize greater efficiencies from our dedicated e-commerce fulfillment center.

A second component of our digital initiative has been to grow our Hookup loyalty program. The signups in the first 18 months have been exceptional and we’re very pleased to be laying the groundwork for further customization and personalization of our execution.

E-commerce continues to represent an extraordinary opportunity for us and I believe we’ve made the right omnichannel investments to further build the Tilly’s brand through customer awareness and loyalty and drive traffic and sales both online and in stores.

In terms of our real estate strategy, we opened three new stores in the second quarter, bringing our store count to 216 stores. As a group, our new stores opened in 2014 and 2015 continue to perform well and in line with our store economic model, validating our long-term objectives.

We also made progress in our store refresh plans, designed to further improve sales and profitability by elevating the customer experience. These enhanced in-store experience is being well received by customers which continue to support and validate our strategy.

I’d now like to turn the call over to Mike for more detail on our financial performance in the second quarter and provide our third quarter fiscal 2015 outlook.

Mike?.

Thank you, Dan, and good afternoon everyone. My remarks will compare our operating results for the second quarter of fiscal 2015 to the second quarter of fiscal 2014. Net sales were $130 million compared to $123 million, an increase of $7 million or 6%. Total comparable store sales, including e-commerce, were up 0.5%.

Our comps were driven by stronger conversion, offset by lower traffic versus the prior year period. We saw relative strength in women’s and kids, with other categories slightly below our overall comp. We ended the quarter with 216 stores compared to 203 at this time last year.

Gross profit increased to $36.6 million from $34.7 million based on the sales increase. Gross margin was just slightly below last year at 28.1% compared to 28.2%. This 10 basis point decline in gross margin was composed of a 40 basis point decline in product margins, partially offset by buying, distribution and occupancy leverage.

Product margins declined due to markdown decisions we made to ensure we ended the quarter without significant carryover of summer seasonal inventories. Buying, distribution and occupancy expenses leveraged due to improved labor efficiencies in our distribution centers, partially offset by occupancy deleverage on a 0.5% comp.

SG&A expenses were $35.5 million compared to $32.3 million and deleveraged 100 basis points on the 0.5% comp. Approximately $0.9 million of this SG&A increase was attributable to a combination of non-cash retail store impairments and an accrual for a potential legal settlement.

Other SG&A increases were related to our marketing initiatives, higher store payroll associated with 13 net new stores year over year and increased employee costs. Net income was $0.6 million, or $0.02 per diluted share, compared to $1.3 million, or $0.05 per diluted share last year. Weighted average diluted shares for the quarter were 28.4 million.

Turning to the balance sheet, we ended the quarter with cash and marketable securities of $77 million and no debt under our credit facility. As Dan mentioned, cash and securities are 34% higher than at the end of the second quarter last year.

We ended the quarter with inventories up approximately 7% on a per square foot basis, which is below our original expectations.

We believe our inventory composition is clean and current, reflecting the implementation of certain key merchandise initiatives, opportunistic buys for the back to school season and increased inventory to support the planned growth in our e-commerce business as we noted during our last earnings call.

We currently expect inventory per square foot at the end of the third quarter to be up in the mid single digits in order to support the growth of our business. Cash used for capital expenditures during the quarter was $6 million compared to $7 million last year.

We now expect fiscal 2015 capital expenditures to be in the range of approximately $27 million to $29 million, primarily for the opening of new stores, refreshes and remodels of existing stores and investments to further improve our digital capabilities as we have previously discussed.

Turning to our outlook for the third quarter of fiscal 2015, we currently expect third quarter comparable store sales growth to be positive low single digits and net income per diluted share to be in the range of $0.12 to $0.16.

This assumes an anticipated effective tax rate of approximately 40% and a weighted average diluted share count of 28.8 million shares. Now, I’d like to turn the call back over to Dan for some closing remarks..

Thanks, Mike. I’m pleased with our accomplishments during the quarter. We executed on our initiatives and achieved positive sales comp. We leveraged our e-commerce investments, drove strong e-commerce sales growth and significantly added to our loyalty Hookup members.

These further enhanced our differentiated product offering and finished the quarter with clean and current inventory, while maintaining healthy product margins. We ended the quarter in a strong financial position with $77 million in cash and marketable securities and no debt.

Looking ahead, we’re encouraged by the solid start to the third quarter and believe we are well positioned to achieve our goals we have set for ourselves in the second half of the year. I’d now like to open up the call for your questions.

Operator?.

[Operator Instructions] And we will take our first question from David King with ROTH Capital Partners..

I guess first off, Dan, in terms of your comment as to how the quarter progressed, I guess, and I may have just misheard you, can you talk about what might have driven that a little bit? I know you don’t have counters in the stores left if I remember....

No, we do. We have counters..

And then in terms of the counters, so then I guess you can answer better in terms of was there improvement in traffic that drove some of that and I guess what I’m also trying to figure out is in terms of the markdowns you took towards probably inter-quarter, to what extent did that potentially drive some increased sales in those categories as well?.

So the sales, maybe a little more color, we talked about this on the last call that we had seen a soft start to the second quarter. We believed that it was largely weather related.

We saw business improve in the month of June and most of July, up until the fourth week of July where we experienced what other retailers have talked about, which was a shift related to some back to school date changes and some tax-free holiday moves, largely attributed to the later Labor Day.

So it was other than the soft start that we had already signaled, the majority of the second quarter was healthy. Traffic trends while still negative, improved during that time period, except for the fourth week..

And then in terms of the categories where you took those markdowns, did that drive any improvement in sales towards quarter-end as well? I guess what I’m trying to get at, in terms of the improvement that you saw apart from that final week and then what you saw in August, how are you feeling about the consumer overall in terms of what you’re seeing?.

So if you look at back to Q4 and look at what most of Q1 was like and what the balance of Q2 was like, aside from the soft start that we talked about to Q2 and the soft end that we had in Q1 and where we’re starting with Q3, generally we’re encouraged by good stability, it’s a reflection of the strength of the unique business model we have, the diversity in the customer base, our dynamic merchandise model.

We’re very encouraged by what we’re seeing as a sustained trend, there were some anomalies that we called out at the beginning of Q2 and the fourth week of Q2. Other than that, we’ve seen some better stability..

And then, Mike, just in terms of the guidance, and then I’ll step back, in terms of the guidance on the operating margin, it seems to me that $0.12 to $0.16 that you’ve guided to assumes a fair bit of margin degradation to operating margins.

Can you just talk a bit about, that’s on a year over year basis, can you talk a bit about what might be driving that versus gross margin, product margin, et cetera, versus SG&A?.

The most significant impact quite frankly is in SG&A. We had a timing shift of a good portion of our marketing spend related to back to school, also associated with those date changes that Dan referenced in his comments..

And we will now go to Jeff Van Sinderen with B.Riley..

Couple of questions for you.

On merchandise margins, which I think you said were down 40 basis points, I’m assuming there was a higher concentration of clearance merchandise this year in Q3 versus Q3 last year, is that right?.

You mean Q2?.

I’m sorry, Q2..

No, actually overall clearance was down slightly, so no, really what we wanted to make sure we did is position ourselves, we said this before, we will not let any kind of challenges like those that we experienced at the beginning of Q2 affect future quarters. We did what was necessary to move through that product and position our inventory properly.

That’s really the end of the story. The product margins are still at historically healthy levels. So it’s just minor changes here..

And then a follow-up to that, if you don’t mind, just wondering if we should expect merchandise margin to be up or down in Q3? And then also maybe you can just touch on inventory because inventory up, I think you said, up 7% per foot.

Just maybe you can explain a little more about that versus the comp trend?.

I’ll take the margin question. So Q3 product margin, we’d expect to be relatively flat, maybe up slightly in Q3..

And on the inventory, the story continues us doing what’s right for the business for the long-term, investing in our significant e-commerce growth that we’re seeing as well as opportunistic buys in things that are low risk. This isn’t fashion exposure, this is things that we have very low markdown rate.

So they’re just – we came in with inventory in line with where we – actually better than we thought, at the end of the second quarter, we continued to manage inventory well..

And we will now go to Richard Jaffe with Stifel..

If you could just talk about the end of July and what the tax-free weeks and the shift, should we look for that to reverse in the first couple of weeks of August and have you seen evidence of that, with the tax-free weeks, traffic has accelerated significantly and consumers have stepped up to take advantage of tax-free and given you some confidence about the shifts you made in inventory and how they’re performing?.

We are seeing the shifts play out in August that moved out of week four. We’re very confident in how well we are positioned to execute throughout the balance of back to school as well as for the back half of the year from an inventory, from a product differentiation standpoint and from a marketing and digital initiatives. So we’re feeling good..

And I guess – because it doesn’t sound that good from the guidance numbers, so I’m kind of – given the good trend, you guys are just cautious given what happened in 2Q and trying to put those two together, what would be presumably a pretty strong start to the quarter and relatively a cautious guidance?.

We have talked about this before, Richard, the historical pattern of strength in the peak seasons and then softness in post-peak, we’re incorporating the likelihood of that happening again in our overall guidance, the current performance that we’re encouraged by, the solid start is also incorporated in that view.

And from an earnings standpoint, the real story there is that Mike referenced, which is shifts in marketing spend that have affected – significant impact there, almost $0.03 influence to the quarter. So we’re being realistic about how we think the quarter might unfold from a sales trend standpoint..

Just a quick question, I know you don’t talk about e-comm as a standalone business, but it’s growing so rapidly. I’m wondering if there is some metric you can share with us to describe its size, whether its volume or percent of sales, compound annual growth rate since its inception, just trying to gauge that, if you can help us that’d be great..

Maybe a little bit more color is that we’ve been talking now for quite some time that over the last few years about e-commerce growing at a more rapid rate than the total company. I think you heard us say also that that has continued to increase in its growth rate and we saw that happen in Q2.

We talked about at the beginning of Q2 on our Q1 call, we’re seeing that continue to happen. So we’re growing e-commerce at a nice healthy rate and it’s growing at a more rapid rate than the company and therefore it’s growing in its contribution to the total.

But other than that, this whole omnichannel world, the customer wants what they want, when they want it, where they want it, and they are channel-agnostic, so are we..

And we will now go to Betty Chen with Mizuho Securities..

It’s Alex Pham on for Betty.

I was wondering if you could talk a little bit about from the comp drivers you have for the second half, given that compares get a little bit tougher, there can be traffic or maybe conversion and then maybe talk about some of the categories, can we see some improvement maybe in men’s and hard goods sector, I know you called out women’s and kids as stronger this past quarter..

Obviously not going to share our strategies or major things that we’re planning for the back half of the year, we have a very balanced and diverse business model that has a great balance between men’s and women’s, apparel, footwear and accessories. That’s one of the strengths, the long-term strengths of the Tilly’s business model.

We continue to leverage that. We referenced that other businesses that were below the women’s and kids were just slightly below the company trend.

So it continues to be a strength of ours to have this diversified balanced business model and we look to leverage that along with our e-commerce strategies, our marketing strategies and differentiating our product to drive comps in the back half of the year. That’s really what we’re focused on, delivering better results and increasing earnings.

That’s what we’re focused on..

And then Mike, I was wondering if you could talk a little bit more on the buying and occupancy cost, it seems like we’re able to get a little bit of leverage.

So would a flat comp going forward be enough for leverage on the B&O line?.

No, it wouldn’t. What’s driving that is the new e-comm fulfillment center that we have that is driving a good deal of favorability. So within that bucket, distribution is favorable, occupancy is unfavorable. So overall, we had 30 basis points of leverage from it, but it’s really all driven from the changes in the distribution function that we’ve made..

[Operator Instructions] And we’ll go to our next question from Sharon Zackfia with William Blair..

Just two quick questions. First I didn’t hear any kind of reiteration on store development plans for this year, so I’m wondering if you’re still planning [on at least 15].

And then secondarily, can you talk about where the store impairment was?.

Where specifically, the location?.

Hmm..

We won’t be sharing that and we are constantly looking at the fleet and making sure everything is appropriately reflected in our business. Store development plans remain unchanged. We still see significant opportunity nationally and throughout the balance of the year.

And as we progress through the coming years and continue to validate with the strength of our 2014 and 2015 year openings that they are performing in line with our new store economic model. So we see continued opportunity there..

And we will now conclude the question-and-answer session. I’ll now turn the call back over to Mr. Daniel Griesemer for any additional or closing remarks..

Okay, great. Thank you for joining us and we look forward to discussing our third quarter results with all of you in December. Have a good evening..

Ladies and gentlemen, this does conclude today’s conference. We thank you for your participation..