Conns' CEO Discusses Q4 2014 Results - Earnings Call Transcript

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 |  About: Conn's, Inc. (CONN)
by: SA Transcripts

Conns Inc. (NASDAQ:CONN)

Q4 2014 Results Earnings Conference Call

March 27, 2014 11:00 AM ET

Executives

Theo Wright - Chief Executive Officer

Mike Poppe - Chief Operating Officer

Brian Taylor - Chief Financial Officer

David Trahan - President, Retail

Analysts

John Baugh - Stifel

Peter Keith - Piper Jaffray

Rick Nelson - Stephens Inc.

Laura Champine - Canaccord Genuity

Brian Nagel - Oppenheimer

Brad Thomas - KeyBanc Capital Markets

Scott Tilghman - B. Riley

Operator

Good morning and thank you for holding. Welcome to the Conns, Inc. Conference Call to Discuss Earnings for the Fourth Quarter and Fiscal Year Ended January 31, 2014. My name is Danielle, and I will be your operator today. During the presentation all participants will be in a listen-only mode. After the speakers’ remarks you will be invited to participate in the question-and-answer session. As a reminder, this conference call is being recorded.

The company's earnings release dated March 27, 2014 distributed before as the market opened this morning and slides that will be referenced during today's conference call can be accessed via the company's Investor Relations website at ir.conns.com.

Before I turn the call over to Mr. Wright, I must remind the audience that some of the statements made on this call maybe forward-looking statements within the meaning of the Securities and Exchange Act of 1934.

Any such statements reflect Conns views, expectation or belief about future events and their potential impacts on performance. These statements are based on certain assumptions and involve risk and uncertainties that could impact operations and financial results and cause our actual results to differ materially from any forward-looking statements made on today’s call. These risk are discussed in Conns’ fourth quarter and annual 2014 earnings press release, in Conns’ Form 10-K and other filings with the Securities and Exchange Commission.

In addition, certain non-GAAP financial measures are defined under SEC rules maybe discussed on this call. Reconciliations of any non-GAAP measures or comparable GAAP measures can be found on the company’s website.

Joining Theo Wright, Conns’ CEO in today’s call are Mike Poppe, the company's COO; Brian Taylor, the company's CFO; and David Trahan, the company's President of Retail.

I would now like to turn the conference over to Mr. Wright. Please go ahead, sir.

Theo Wright

Good morning. And welcome to Conns fourth quarter and fiscal 2014 earnings conference call. I'll begin the call with an overview of our retail segment and comments on the credit segment, then Mike will discuss our credit segment further and Brian will finish our prepared comments.

Conns completed a successful fiscal year 2014. We achieved record earnings for the year with adjusted earnings increasing 58% from a year ago. Our new store model is proving itself and we achieved our gross margin goals.

We have work yet to do to improve execution but our business is growing while delivering an 18% return on equity. Profitability has improved at the same time we have been taking market share.

Conns’ earned $0.74 per share in the fourth quarter on an adjusted basis. This compares to an adjusted $0.54 in the same quarter a year ago, an increase of 37%. We're affirming our guidance for the fiscal year 2015 of $3.40 to $3.70.

Same-store sales for the fourth quarter by category are on slide two. Same-store sales increased by double digits in all major categories.

On slide three, we show product gross margins by product category for the fourth quarter. Product gross margin percentages were up across-the-board. Total retail gross margin percentage for the quarter was 40.6%, an increase of 370 basis points over the prior year. The company set a longer-term goal of 40% retail segment gross margins. We met this goal in the third and fourth quarters.

Fiscal -- first quarter fiscal 2015 to date same-store sales are up about 15%. This is in line with our forecast which anticipates higher same-store sales increases in the early part of the year, comparisons become more difficult as the year progresses. Gross margins for the first quarter to date appear in line with our expectation.

We expect SG&A to be effected by the new store opening pace, we have nine stores scheduled to open between April and July. Late first quarter advertising expenses and advertising expenses through Q2 will be elevated offsetting some of the operating leverage in our mature markets.

Same-store sales trends by months during the fourth quarter were November up 33%, December up 37% and January up 18%. There were no changes to underwriting or marketing strategy from December through January, through the first week of February same-store sales were up only low single digits.

Weather-related store closures affected all of our Texas market except the Rio Grande Valley at points during the quarter. Our second largest sales market, Dallas/Fort Worth was repeatedly impacted. Weather impacted our sales trends, as well as credit consumer payment trend, customer disposable income was also affected by reducing hours work and increasing utility bills.

Turning to electronics, electronics same-store sales trends during the quarter were November up 24%, December up 27% and January down 14%. Current quarter to date, electronics same-store sales growth is about 3%, well less than our overall average. We are expecting full year comparisons in this category to be flat to slightly negative.

Longer term we are more confident, 4K model televisions will benefit our business as prices decline. 4K now represents about 3% of our total sales. We expect this to increase over the year and help us maintain prices and margin in the category. At some point we think that adoption of the technology should drive a more aggressive replacement cycle but that’s inflection point isn’t yet visible.

The appliance category continues its steady growth, market share in the category is increasing and we think we can continue to take share. We are allocating more of our advertising exposure to the category and we will be increasing our assortment this year.

New stores appliance sales start more slowly than other categories, but we are encouraged to see these stores gain appliance sales as the locations mature and brand awareness increases.

On slide four, you can see a three-year trend in furniture and mattress sales. Same-store sales of furniture and mattress increased 60% in the fourth quarter on top of 40% increase year ago. For the fourth quarter of fiscal 2014, furniture and mattress sales were 26% of product sales and 37% of product gross margin dollars.

Sales of furniture and mattresses represent over 30% of product sales in March to date. Expanded assortment, store remodels, store relocations and improved in-store merchandising are all contributing to same-store growth.

The company previously set a longer-term goal of 35% of sales from furniture and mattresses with more new stores, continued remodeling and relocations along with enhancements to our offering we can reach this goal.

Slide five shows the performance of our new store model, in past quarters we use the hypothetical store example, this slide now shows average results from the five stores opened in fiscal 2013 to their full year 2014 performance.

The payback in ROI is impressive. We don’t believe stores opened in fiscal 2014 will be significantly different. Stores we are opening today also require less cash investment than the stores we opened in fiscal 2013 as our company's credit spending improve, landlords have been willing to provide larger improvement in allowances.

The stores opened in fiscal 2013 haven't yet reached maturity. Our past experience is that it takes about three years to reach full maturity. During fiscal 2014 purchases in these stores as repeat customers were about 70% of our overall average.

We opened 14 stores and closed three stores in the 2014 fiscal year. Our plan is to open from 15 to 20 stores in fiscal 2015, two stores have closed thus far this fiscal year. Our plan is to close an additional eight stores over the course of the fiscal year. This represents the completion of our overall evaluation of our store base. For many of these stores we have been pursuing exit strategies for years.

This additional store closures will have a modest effect on sales volume about 2% for the year and will benefit profitability in returns on capital. Total closing cost since most of these locations are at or near lease maturity is estimated to be around $1.5 million.

With the planned store closings, store openings, remodels and relocations for the year, all the five of our stores will be in the Conns HomePlus format by the end of the fiscal year. Our customers will have a better and more consistent experience. We can than advertise our appliance and furniture and mattress categories more aggressively with confidence the customer will have right store experience.

Our net store count is expected to increase five to 10 units in fiscal 2015. We believe we can manage this growth rate effectively. In the fourth quarter of fiscal 2014 eight new stores opened with minimal distraction to our retail operations.

Turning to our credit segment, the company made good progress in the third quarter of fiscal 2014 addressing the issues we experienced in the second quarter with our credit collection system. We were on track to meet our timetable of four to five months from the second quarter conference call to fully address the affects of these issues on our portfolio.

As announced on our prior conference call, November 30, greater than 60 days delinquency was down 20 basis points from the end of August. This is a better trend than normal for November.

In December 60 plus delinquency was flat, followed by an increase of 30 basis points in January, normal seasonality in December and January for the growth in the portfolio from higher fourth quarter sales to offset the lower payment rate in this period. We didn’t see the normal trend this year.

In the fourth quarter the portfolio grew to 52% annualized rate, collection headcount grew from 450 agents at August 31 to 650 agents at January 31. During this period late-stage delinquency was also increasing. We won’t able to get newer collectors up to speed fast enough to be effective collecting late-stage delinquency.

The variation of performance between an effective tenured collector at Conns and a newer ineffective collector is substantial, a good collector is 100% or 200% more productive, not 10% or 20%, a shortage of fully trained tenured collectors in our most challenging collection session led to increasing delinquency and charge-offs.

Add to this, weather impacted the portfolio by reducing payment activity. More than 50% of our payments are received from the customers in store. Portfolio growth and portfolio growth rates for the first quarter will be much lower than in Q4. Our hiring pace has decreased.

With delinquent balances declining, we are able to give our agents time to build the experience to become fully effective. Portfolio growth will also be impacted by lower same-store sales growth, store closings and elimination of the lawn and garden category, which is about 4% of sales in the first half of the year and 1.8% for the full year.

Turning to underwriting, on Slide 6 is our average FICO score in the portfolio for the last five years. The portfolio has been in a narrow range of credit quality with average income increasing each of the last four years. The unexpected delinquency increase in the fourth quarter was not a result of the deterioration in underlying credit quality or a meaningful change in underwriting standard.

A few supporting data points. Fiscal 2012 originations Q4 delinquency increased 2.2% in the quarter. Fiscal 2013 originations increased 1.6% and fiscal 2014 originations increased 1.7%. The deterioration was consistent for all years of origination.

Using 600 to 649 FICO scores as an example, this score band saw increased delinquency year-over-year of 60 basis points. All FICO score bands delinquency increase. Said differently, the deterioration in delinquency was evenly distributed in portfolio and not caused disproportionately by higher risk accounts. The increase in delinquency was also consistent between new and repeat customers.

In Q3 and in early Q4, we made some minor changes to our underwriting to reduce risk. For declining some accounts, we would have previously proved reducing credit limits for some accounts and demanding more and larger down payments for some accounts.

In Q1 of this fiscal year, we made additional changes although not as significant as the changes we made in Q3 and early Q4 of last year. The aggregate impacted these changes is estimated as the reduction in sales rate from Q3 of 2014 of 5% to 7%, most of which was fully reflected in Q4 sales rates.

We’re already seeing the benefit as these changes as first payment default rates decline and the entry rate into early stage delinquency is low by our historical standards as shown on Slide 7. These changes to underwriting reduced pressure on our collections operations. We don’t believe additional changes to underwriting are necessary now and none as planned.

Currently about 40% of our portfolio balances were originated after November 1, reflecting most of the enhancements to our underwriting. Because of the rapid turnover in the portfolio, the effects of our changes to underwriting should be fully realized within the next few quarters.

To address many questions, we received more investors about portfolio performance, please refer to Slide 8. Cash options at short term, no-interest financing accounts have lower delinquency and loss rates than interest earning accounts. Static losses are lower on these originations compared to other accounts.

These originations are promotional only in the sense of being advertised. The underlying credit quality is actually better. New customers for Conns in our portfolio were 47% of the total portfolio at January 31st. New customers 60 plus delinquency was 9.6% at January 31 compared to 8.5% for repeat customers.

The new customer share of the portfolio increased by 10%, the 60 plus delinquency would be expected to increase by 10 to 15 basis points. Keep in mind that high rate of repeat purchases, the percentage of origination is higher than the percentage of the portfolio represented by new customers.

As we’ve commented on several earlier calls and increasing percentage of sales to new customers pressures delinquency and loss rate. This has always been true in our portfolio but the impact is modest.

The delinquency rate by product category are on Slide 9. Normalized for credit quality, there is no material difference in delinquency. First payment default, customers don’t make the first payment due that proceed the charge-off from worst to best by category are home office at 3.3%, home electronics at 2.3%, furniture and mattresses at 1.5% and appliances at 0.7%.

The shift to higher sales in furniture and mattress category is not putting pressure on delinquency. New market delinquency is 8.3% compared to 8.8% in mature markets at February 28. In Arizona, New Mexico, our underwriting has been slightly less restricted -- restrictive until recently because we can charge a higher rate of interest.

Of our portfolio, 85% originated in Texas. Our underwriting in collections operations are centralized, not managed locally or by state like many other consumer credit companies. Our collections practices are largely consistent across states. We wouldn’t expect significant variation by geography and we don't see variation by geography.

None of our markets are experiencing local trend in employment that might cause a divergent trend in delinquency. In the fourth quarter, we demonstrated the strength and resilience in our business model. Despite a weak performance in our collections operations, we delivered solid profitability in earnings growth.

Our commitment to the business remains intact. Our returns on investment and equity justify continued investment in the business. New store openings are performing better than expected. We believe the best use of the company's capital to execute our growth strategy.

Now, I’ll turn the call over to Mike. Mike?

Mike Poppe

Thank you, Theo. As Theo commented, credit segment performance was impacted by number of factors this quarter particularly the rapid portfolio growth and related lack of seasoned collection agents. As a result, delinquency in charge-off trends deteriorated. The recent delinquency charge-off in reaged trends are shown on Slide 9 and 10.

As of January 31, 60 plus day delinquency was up 30 basis points from October month end. This compares to 10 basis point increase through the same period in the prior year. 60 plus delinquency was down 10 basis points in February consistent with the prior year trends.

As we look at the portfolio performance today with a few days less than the month, early stage, 1 to 60 days past due delinquency declined seasonally and compared to last year in February and should end up lowered in the prior year in March. Late stage 60 plus day past due delinquency as a percent and in turn to the absolute amount and number of account is trending down seasonally.

Although we are closing the gap as compared to March of last year, benefiting from the improved early stage trend is started in February. The delinquency rate per account 1 to 90 days past due is lower now than it was at the same time last year. We would anticipate these trends which are reducing the workload on our collection operations to continue to the later stage delinquency buckets over the next four months.

Turning to the payment rate as the average rate of receivables in the portfolio declined, the payment rate will decline. At January 31st, the average age of an account was 8.2 months compared to 9.3 months in the prior year due largely to portfolio growth. As a result, the payment rate declined from 5.1% in the fourth quarter last year to 4.8% this year.

This is due to the fact that finance contract have a fixed monthly payment. So the payment rate is at its lowest right after the sale is financed. The net charge-off rate increased during the quarter as we indicated on the last earnings call but was higher than anticipated due to execution issues.

Additionally, we did not complete any sales of charged-off accounts during the quarter which would have reduced the net charge-off rate. We expect the charge-off rates remain elevated in the first quarter than not as high as the fourth quarter and then decline thereafter.

Slide 11 shows static pool loss information for the portfolio over the past 10 fiscal years. Static pool loss rate shown at the cumulative charge-off rate based on the fiscal year of origination. Other than fiscal 2009 which was significantly impacted by the recession, static pool loss rates have been fairly stable over time at around 6% while charge-off and provision for bad debt rates were volatile.

During fiscal 2012, changes were made that shorten contract terms and the time period before charge-off including limiting re-aging. Credit accounts are now paying down more quickly and charge-offs are occurring sooner in the contract life. Since the receivables pay off quickly, only small balances remain from recent fiscal year originations.

Less than 1% of fiscal 2011, 7% of fiscal 2012 and only 26% of the balances have originated in fiscal 2013. The more conservative re-aging and charge-off factors result in the balances that remain under portfolio being higher quality than in the past.

We express the final static pool loss rate for the recent fiscal year to be in line with the historical experience that there maybe modest upward pressure as a result of the recent execution issues and for the current fiscal year due to the increased volume of new credit customers. However due to the rapid pay-down of the receivables, we now experience, we expect the final static pool loss rates under reasonably foreseeable scenarios end up around 7%.

Turning to underwriting trends for the quarter, as shown on Slide 12, roughly 94% of our sales in the quarter would pay for using one of the three monthly payment options offer. The increase in the percent of sales under our finance program is driven largely by the changes in our advertising program as well as merchandise mix changes which drove higher ASPs and reduced the volume cash tickets.

The approval rate under our in-house credit program increased by 1.5% in the prior quarter level and the average credit score underwritten during the quarter was higher at 605 compared to 599 in the third quarter. The average credit score origination for the month of February was 602.

As we look at expected profitability in the credit segment going forward, the portfolio of yields should increase modestly over time as we benefit from increased originations volume in our new markets that have higher interest rates than our legacy markets.

SG&A expense as a percentage of portfolio of balance should decline as collector effectiveness improves and we leverage fixed costs as the portfolio grows and the provision for bad debts should decline based on the reduction in delinquent balances during February, March that will fluctuate quarter-to-quarter based on the levels of portfolio growth during the period.

We expect the improving delinquency trends seen in February and so far in March to continue over the coming quarters, as we are more appropriately staffed for the portfolio growth and with the increased focus on training and monitoring of daily execution.

Now, I will turn the call over to Brian Taylor. Brian?

Brian Taylor

Thank you, Mike and good morning. Net income was $27 million or $0.74 per diluted share in the fourth quarter after excluding the lease termination benefits. This compares to adjusted net income of $19 million or $0.54 per share last year.

On a reported GAAP basis, fourth quarter net income was $0.75 per diluted share versus $0.50 a year ago. Results for the current period included pre-tax benefit of $700,000 related primarily to the termination of a ground lease. The prior year quarter included charges related to facility closures, severance costs, office relocations and the early extinguishment of debt.

Fourth quarter retail sales were $302 million, expanding 45% over the prior year quarter. This growth reflects the impact of increased traffic in the existing stores and our addition of 14 new stores in fiscal ’14. We opened eight Conns HomePlus stores this quarter and closed one less productive location.

We will see the full benefit of the four new stores opened in January in the first quarter of fiscal 2015. The reported 33% same-store sales growth in the fourth quarter met our expectations, but we saw the pace of growth slow in January as Theo discussed.

Looking forward, in February, we lowered our fiscal 2015 same-store sales guidance to reflect the industry trend in televisions. Our guidance also reflects our decision not to sell lawn equipment in 2015.

Retail SG&A expense was 25% of sales this quarter as shown on slide 13, down 300 basis points from last year, reflecting the leverage impact of higher seasonal sales volumes. Our investment in future store openings and supporting infrastructure and higher advertising expense to new markets tempered the leverage impact of revenue expansion.

We estimate that such expenses including rent and personnel totaled $1 million or $0.02 per diluted share in the period. Adjusted operating income for the retail segment increased to 147% to $49 million this quarter, driven by same-store sales growth, gross margin expansion and SG&A leverage.

Retail operating margins on an adjusted basis expanded 680 basis points over the year-over-year to 16.3% of revenues. Credit segment revenues were $59 million this quarter, an increase of 42% over last year.

Annualized interest and fee yield equaled 18.2%, down 60 basis points from a year ago due to an increase in the relative mix of short-term no-interest receivables and higher estimated future interest charge-offs.

Advertised short-term no-interest receivables were 36% of the total portfolio balance at January 31st as compared to 27% a year ago. We do not expect the relative mix of no interest receivables to increase substantially in future periods.

General and administrative expenses for the credit segment were 49% above the prior year period due to increased staffing levels. SG&A expense was 39% of revenues this quarter, up 190 basis points from the prior year period. About 90 basis points of this increase was due to the impact of the lower interest yield level on revenues.

Provision for bad debt equaled $38 million, reflecting the impact of rapid portfolio growth and elevated delinquency in charge-offs. As a result of higher than anticipated delinquency at January 31 and charge-offs in December and January, annualized provision for bad debt was 15% of the average portfolio balance in the fourth quarter. The provision rate was 11% on a full year basis.

Based on current trends, we expect the bad debt provision rates to range between 8% and 10% of the average portfolio balance for fiscal 2015. We expect the provision rate to be lower in the first half of the year and higher in the second half. We reported the credit segment operating loss of $1.9 million this quarter due to the elevated provision for bad debts.

Interest expense increased $715,000 over year-over-year with the impact of higher borrowings substantially offset by a reduction in our overall effective interest rate. The lower rate reflects the repayments of our asset-backed notes in April 2013, as well as a reduction in the rate under our revolving credit facility.

I will now turn to our balance sheet and liquidity. As of January 31st, 70% of our $132 million in inventory was financed with outstanding accounts payable. Our inventory turn rate was 5.2 for the quarter. Inventory levels declined in February.

As presented in Slide 14, our customer receivable portfolio balance rose $123 million during the fourth quarter to almost $1.1 billion. Our allowance for bad debts rose 40 basis points over the prior year quarter levels to 6.7% of the total portfolio balance at year end.

Outstanding debt increased $113 million during the period and totaled $536 million at January 31st. Outstanding debt as a percentage of customer receivable portfolio was 50%. As of January 31st, we were well within compliance of our restricted debt covenants and our relationships with the bank group is solid, evidenced by our increasing commitments. Both the receivable portfolio balance and outstanding debt declined in February.

Turning now to Slide 15, earlier today, we announced that we increased the capacity under our revolving credit facility by $30 million to $808 million. There was no change in the terms of maturity date of November 2017. We’ve also agreed the terms on the sale on leaseback of three properties subject to due diligence procedures.

Together with the pending sale of purchase property, we expect to receive cash proceeds of approximately $25 million in the second quarter of fiscal 2015. We are currently evaluating other debt capital alternatives to support our longer-term liquidity requirements.

Moving now to Slide 16, our current earning guidance is $3.40 to $3.70 per diluted share for our fiscal year ended January 31, 2015. Full year expectations considered in developing this guidance includes same-store sales growth of between 5% and 10%, 15 to 20 new store openings, our retail gross margin range of between 39% and 40%, credit portfolio interest and fee yield of around 18%, credit segment bad debt provision of 8% to 10%, again dependent on our same-store sales expectations.

Selling and general administrative expenses of between 28% and 29% of total revenues and 37.4 million diluted shares outstanding. Based on the midpoint of our fiscal 2015 guidance, we expect return on equity to approximate 20%. A more detailed presentation of our full year results will be included in your current year Form 10-K, which will follow the SEC in the nearest future.

This concludes our prepared remarks. Danielle, will you please begin the question-and-answer portion of our call?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And our first question comes from John Baugh from Stifel. Please go ahead.

John Baugh - Stifel

Hi. Good morning and thanks for taking my questions. First of all, I was wondering if you could comment at all on the payment rate in February and March.

Brian Taylor

The payment rate in February with the accelerated tax refund actually this season is better than last year. We saw a strong recovery between now then the impact of improving weather. And then, March is a little farther behind than it was in February but still solid payment rate in March.

John Baugh - Stifel

Thank you. And then, Theo, maybe you could talk about your direct marketing plan and I guess I’m interested in terms of the potential applicant you solicited for Roche last year and how that made a change as you went through the year in that same vein, whether you saw higher delinquency rates with online applicants or with higher balanced customers or anything relating marketing to delinquencies? Thank you.

Theo Wright

Okay. Over the course of last fiscal year, we gradually increased the FICO scores that we were mailing in our direct mail program. So earlier in the year, we mailed to customers with FICO scores that were in line with our approval criteria. And as the year progressed and we saw a strong responses from customers, we actually raised the mailing to customers who generally have FICO scores well above our approval criteria. And we also began mailing to customers than we wouldn’t normally think of as our core customer, customers with FICO scores of 650 to 675.

So over the course of the year, we increased the FICO score of the customers we were mailing to and we eliminated mailing to lower scores. As of today, really for the full year to-date, we’re not mailing to the FICO scores below 550 and we’re mailing to quite a few FICO scores above 650. We don’t really see anything that’s material in our Internet applications.

Keep in mind that our process on the Internet is only an application process. The customer still has to complete the sale, their identity is verified and we go to all the same procedures in the score, as we would with the customer that applied in the store. And I don’t see a significant difference in delinquency or loss rate by balance size. The impact of a $100 increase in balance size as an example is about $5 in a monthly payment. It’s just not enough to significant affect the customer’s ability to pay.

John Baugh - Stifel

Thank you. And just one last quickie. Could you explain -- I just don’t understand how provision is calculated and I would have thought the provision rate would be higher early this year and then low in the back half, and it’s going to be reverse of that. Maybe you could educate us on how provision rate is calculated, why that occur that way? Thank you.

Theo Wright

I’m not sure that we have the time here on this call to educate someone on how provision is calculated, especially since ours is fairly complicated with two methods really of provisioning. But why would the provision rate be earlier in the first part of the year, two reasons, lower portfolio growth.

So in the first part of the year, the portfolio will grow more slowly because of the seasonality of sales as well as the seasonality of customer payments with the higher payment rate by customers in the early part of the year. So portfolio growth is one part of the answer. And then the second part of the answer is because of the seasonality of customer payments, the actual delinquency declines in the early part of the year reducing the delinquent accounts that we have to provide for using our provision methodology.

John Baugh - Stifel

Great. Thank you for that color and it answers my questions. I will defer to others.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Peter Keith from Piper Jaffray. Please go ahead.

Peter Keith - Piper Jaffray

Hi, thanks. Good morning, everyone. I want to look at the 60-day delinquency trend sequentially. I think you had said February was down a little bit kind of in line with historical averages. I was curious as you’re thinking about the 60-day delinquency trend for the full Q1. It looks like historically it’s gone down a 100 basis points from Q4 to Q1. Should we expect something in line with that this quarter or perhaps even a little bit better?

Theo Wright

We don’t provide a specific forecast for delinquency, but I think our comments in the call, the prepared comments indicated that we’re performing in line with seasonal expectations and we’re gaining ground on prior year 60-plus delinquency.

Peter Keith - Piper Jaffray

Okay. And a follow-on to that and somewhat related to John’s question. Just on that provision for bad debt of 8% to 10%, that’s a pretty meaningful step down from where you finished with Q4. I know there is a lot that goes into that calculation, but could you give us some comfort and how you’re getting down to that range, just in terms of the impact of slower portfolio growth on one side and then on the other, the improved delinquency trends?

Brian Taylor

Peter, this is Brian. Our bad debt provision for the fiscal 2014 full year was 11% and that included the impact of execution issues we experienced in the second and fourth quarter. The top end of our guidance for bad debt does not assume a significant improvement from that level. And as I stated earlier, we would expect to see it higher in the second half of the year than in the first.

Peter Keith - Piper Jaffray

Hey, Brian, is it as simple as based on the decelerating into your sales guidance that has 200 or 300 basis point impact on that decline?

Brian Taylor

Yes. I don’t know that we could quantify it exactly that way. I would just say that if you’re looking at the full year, not quarter-to-quarter we get into a little trouble when we look at provision rate quarter-to-quarter because there is some volatility in that rate. When you look at the full year, we’re not really assuming a significant improvement in performance at the high end of our guidance range. And at the lower end of the guidance range, we are assuming that we don’t install another system which we are not going to, as well as we will continue to execute at the level we are executing at today in our credit operations.

Peter Keith - Piper Jaffray

And then the final question for you, Theo. As you look back on this past fiscal year and some of the execution issues, how do you think about the optimal top line growth rate that you think you should run at in order to manage the credit book appropriately?

Theo Wright

I think we can manage the credit book with a range of increases. On one hand, I wish we could sustain a 50% top line growth rate, but that’s not realistic long term even if we wanted to. I think that at the lower rate than that 20% to 40% which is going to vary depending on the season. I think we can manage that effectively. I think a bigger issue than the absolute amount of the increase is the visibility of the increase.

So as far same store sales growth rate accelerated in the third and fourth quarter, unlike new store openings we didn’t have long-term visibility. We didn’t have years planning going into that increase in sales, and so that there was more of an element of surprise in the rapid increase in sales that we achieved in the third and fourth quarter. We didn’t build a plan for our credit operations based on our almost 40% same store sales growth rate in January. And we are not going to repeat that. So I think if the growth is more predictable and we have longer line of sight to that growth, I think we can manage effectively something in the 20% to 40% range in our credit operation.

Peter Keith - Piper Jaffray

Okay. Thanks. That’s helpful and good look this coming year.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Rick Nelson from Stephens Inc. Please go ahead.

Rick Nelson - Stephens Inc.

Thanks. Good morning.

Theo Wright

Good morning.

Rick Nelson - Stephens Inc.

Theo, (indiscernible) loss rates are going to mirror as store count rate given what we’ve seen with delinquencies and the static pool analysis that you’ve provided on page 11?

Theo Wright

That static pool analysis in our comments would say we don’t expect to mirror the loss rate. We actually expect slightly higher loss rate. Really if you look at it on a percentage basis, it’s not slightly higher, it’s meaningfully higher. But we expect those static pool losses in recent years because of higher delinquency to end up higher. We are just going to get there quicker as really the change, our changes in re-aging, our changes in charge-off policy, as the changes in how we underwrite the portfolio with shorter terms for many of our accounts, all of those things are accelerating to charge off.

And one thing that isn’t readily apparent is, if we cheer so to speak, if we get a payment from late stage delinquency customers, that doesn’t really mean that that doesn’t have a high probability of flowing to charge-off later, it means we got more money from them which is a good thing. But to a certain extent, our delinquency increases and our execution issues that’s just been another factor that’s accelerated to charge-off accounts that were likely to end up there anyway.

Rick Nelson - Stephens Inc.

And if I could ask you also about your capital need to look out over the next 12 to 24 months given your growth plans?

Theo Wright

Well, we’ve increased the availability under our ABL. We expect the growth pace to moderate from same store sales growth, the number of net stores we’re going to open is declining from a previous guidance and we believe that we can finance our business using that capital at this point and don’t have any plans to pursue raising equity capital and believe we have that alternatives available to us than the debt capital markets.

Rick Nelson - Stephens Inc.

And the margin of some 39% to 40%, you finished this year at 39.9%, I am curious what that assumes in terms of mix shift towards furniture and mattresses and why we wouldn’t see bigger lift than you are guiding to?

Theo Wright

We assume the furniture and mattresses are going to continue to increase as a percentage of sales but given the volatility in margins in our categories we’re just adding based on what we feel confident in.

Rick Nelson - Stephens Inc.

Fair enough. Thanks, Brian, and good luck.

Brian Taylor

Thank you.

Operator

Thank you. And our next question comes from Laura Champine from Canaccord. Please go ahead.

Laura Champine - Canaccord Genuity

Good morning. Did you grow last fiscal year -- particularly in Q4, did you grow the collection staff in line with your internal expectations for growth in the credit portfolio, and if not, why not?

Theo Wright

We grew the collection staff in line with our expectations. I think what we didn't do was grow the credit staff in advance of those expected increases and portfolio balances. We didn't grow them far enough in advance. It wasn’t we didn't have enough people it's that those people didn't have sufficient tenure and experience to be fully effective.

Laura Champine - Canaccord Genuity

Theo, that sort of seems like basic credit portfolio management and in Q2 to take 2.5 months to find the problem. I'm just wondering if you're considering any different structure, any different personnel in your actual collections management team.

Theo Wright

We've made some significant changes to our collections management team and we've expanded the management structure there as well. So we are making changes. But I would say again that the most important thing we have is a clear understanding of the pace of increases in the portfolio balance and we're getting the staff hired in advance of the need so that they have enough time to gain the maturity and experience they need.

Laura Champine - Canaccord Genuity

Thank you.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Brian Nagel from Oppenheimer. Please go ahead.

Brian Nagel - Oppenheimer

Hi, good morning.

Theo Wright

Good morning.

Brian Nagel - Oppenheimer

I was just wondering if we could step back here, obviously a lot of questions on finance, but just to be clear. So as you go back on the fourth quarter performance with some deterioration in delinquencies. Are you basically saying that in your view and looking all the data this was purely a collections issue? And your collections infrastructure was simply not adequate to keep up with the rapid growth of sales or is there some other factor and how should we think about the breakout in those buckets?

Theo Wright

The issues in the fourth quarter were predominantly collections execution. There was an additional factor which was weather and we saw that in our retail business as well as in our credit business. There was definitely an impact on activity with our customers in January and the early part of February.

Brian Nagel - Oppenheimer

Okay. The next question, I want to make sure I ask this way. I think we’re all aware how big a deal collections is to your business, the execution collection is to your business, but we obviously see the delinquency rate, but can you give us some flavor for what share of your accounts deal with the collections agent? Meaningfully, how many of you -- what portion of your accounts need that reminder sort of to stay on track just in the normal course of business?

Theo Wright

About 20% of the account on a daily basis are 1 plus days delinquent, Brian.

Brian Taylor

So for our customer base, they -- at some point in time during the life of that account, it's highly likely we're going to speak to that customer. And it's not a majority of the accounts but a meaningful minority of the accounts will get more than 30 days past due at some point in their life.

Brian Nagel - Oppenheimer

Okay. And then just finally, as we look at the sales trajectory, that’s laid out here for 2014, particularly early in the year, sales growth is slowing down. How should we think about that? Is that primarily due to comparisons, seasonality of the business or is it more a function of you sort of say tapping the brakes in order to get the retail business growing at a level that your collections infrastructure can support?

Theo Wright

Most of it is tougher comparisons. The comparisons we're going to face in the third quarter and fourth quarter of this year are in the 30% range. So, most of it is comparisons. I think we quantified the potential impact as you said taping of rates is somewhere between 5% and 7%, but the biggest issue is the impact of much more difficult comparisons.

Brian Nagel - Oppenheimer

And then just one more question probably. So the other people asked about the loan loss provision, the 8% to 10% that you’ve laid out for that’s 8% to 10% for 2014. Is there any thought -- I mean coming off the quarter, would that spike up to 15% to maybe lay out a more conservative number just given the issues or is that range basically sort of say spit out from the other guidance you provided?

Theo Wright

I just would answer the question really the same way we answered the question previously that the high-end of our range of guidance assumes no significant improvement in performance, over last year that included two episodes of weak execution, one of which is not possible to repeat. So we're comfortable with that guidance that we have provided.

Brian Nagel - Oppenheimer

Okay. Thanks.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Brad Thomas from KeyBanc Capital Markets. Please go ahead.

Brad Thomas - KeyBanc Capital Markets

Thanks and thanks for taking my question. One is just follow-up on credit and how it's a affecting comp, you are underwriting from 3Q to 4Q did tightened a little bit, your FICO store score in 4Q was still lower year-over-year? Theo, can you maybe give us sort of a sense for year-over-year how much of the benefiting comps and from that underwriting being a little bit looser versus the marketing you have in place which is also clearly a big driver of the comps in the last couple of quarters?

Theo Wright

Yeah. I really can't answer that question because based on the way we approach underwriting. I wouldn't say the underwriting was a looser. I would say it differently, the tightening the underwriting which we did, did reduce the sales rate, but as we’ve said, roughly 5% to 7%.

So if you reverse that logic, I would say, if you looser that’s what it would that's the kind of sales increase that will generate and our sales increases on a same-store basis were much larger than that. So whatever influence underwriting may have had during the year, it was dwarfed by the influence of our changes in marketing program.

Brad Thomas - KeyBanc Capital Markets

And so in terms of the underwriting standards today, would you expect those to hold consistent going forward or your sales are need to -- would we from the outside see those FICO scores up a little bit more from where they are in the fourth quarter?

Theo Wright

We don't feel the need to change our underwriting standards further. As I commented in the prepared comments, I think we're like where we need to be.

Brad Thomas - KeyBanc Capital Markets

Great. And then just to follow-up on the comment on collections about how much experience matters. How long did it take to renew collector to get a material amount of experience?

Theo Wright

It's depends on what stage of collections the collector is engaged in. Early collections are month or two is all they need and as the customers become more and more delinquent the agents need more and more experience. But generally speaking in about six months a collector is capable of doing any stage of collections in our operations if they have the ability and attitude that's required.

Brad Thomas - KeyBanc Capital Markets

Got you. Thank you so much and good luck.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Scott Tilghman from B. Riley. Please go ahead.

Scott Tilghman - B. Riley

Thank you. Good morning. I wanted to touch on two items and I apologize if any of this was addressed, I did jump off for a second. On the development side, the store development side, first off, what was the timing of the fourth quarter opening, how late in the quarter did they open? And then as it relates to fiscal '15, it looks like there will be more closings than you had communicated previously, just wanted to get sense on the thinking around that or what. How you are approaching the particular locations, whether they are relocations with part of the new store plan or if they are just areas that are not working out well because of some of the legacy development?

Theo Wright

Okay. Four of the stores that we opened in the fourth quarter opened in January. So the store openings were tilted towards the late end of the fourth quarter. And thinking about closing of stores, these are all stores that for one reason or another wouldn’t justify the investment to get them to our new store model or they wouldn’t accommodated.

A couple of the stores are in very small markets, markets where we wouldn’t enter that market today if we’re looking for new store. Several of them are extraordinarily small by our standard, one of them only 16,000 square feet. We really can’t execute our store model in the space that size.

And then most of them with one exception are relatively close to other stores and our past experiences we will be able to capture most of the sales from those stores once they’re closed. In other stores that have the right footprint and the right presentation. These are stores that we would have ended up closing anyway. I think all we’ve done here is just finalize the discussion and articulate our plans to help investors understand the actual impact on our growth of store count is not as much as they may think because we have these closings that will take place over time as well.

Scott Tilghman - B. Riley

That’s helpful. The other topic I wanted to address is the good old CFPB. We get a lot of questions on that. Was wondering if you wanted to comment on your collection practices relative to what they’re looking at and what you’re saying with other actions that the CFPB is taking industry wide?

Theo Wright

The CFPB hasn’t really done anything on collections practices other than issue a document for discussion and begun a process of identifying issues that they’re going to pursue. But there’s no official action that the CFPB is taken on collections practices and since it peers, they are following a more open regulatory process around collections practices.

We expect whatever changes that result will take some period of time, likely years to be fully completed. We haven’t seen anything in enforcement, or other actions related to other companies thus far that have been publicly disclose that would affect our business. So as of this moment, we don’t see a direct impact on the CFPB’s activities.

Scott Tilghman - B. Riley

Great. Thank you.

Theo Wright

Thank you.

Operator

Thank you. And our next question comes from Ned Debois from (indiscernible) Capital. Please go ahead.

Unidentified Analyst

Yes. Good morning. I want to go back to your credit line. If I recall, you renegotiated the credit line in November. And it seem at that time that you were very close to tripping that account receivable coverage ratio. And I know you’re guiding, you are saying to be able to greatly improve your delinquency problem. What is the trigger point on the line right now? And supposing that you’re wrong and that your delinquency continues to deteriorate and you trip that aspect of the credit line, what would happen to the credit line and what would you have to do about it to run the company?

Theo Wright

So we did in anticipation and the fact that the portfolio was growing. And we saw that and the bank group saw that, everybody agreed it’s prudent to move the payment rate covenant to a level that made sense given the growth in the portfolio. And we consistent with prior year performance relative to debt covenant, we were pretty consistently above the revised covenant level in a range of consistent with prior year performance so.

And then as we move in the fourth quarter, the lowest payment rate of the year, we will be trending consistent with our prior year’s performance in the first quarter, so the payment rate will rise pretty significantly in the first quarter. And we’ll continue not to be an issue from a covenant compliant standpoint.

Unidentified Analyst

But hypothetically, I mean, supposing -- I don’t know -- credit conditions deteriorate or you still have continuing collection and customer relation issues or problems, can you trip that percentage, what happens? Do you just have a higher interest rate or can they call all those lines? I mean, it seems to me that you’re really, I mean, it’s a risk that we are shareholders have to take into account.

Theo Wright

Well, I think, we have visibility into payments through almost all of March and we are far, far above that covenant. We have visibility into the delinquencies is in early stage at this point and we don’t see a concern about that the payment rate covenant at this point. And every companies had covenants in their bank agreements and so do we, and the documents reflect whatever we would need to do in the event of a covenant reach. But we don’t have a concern about an issue with that covenant and the payment rate is in line with our expectations. And as we noted, we just received an additional commitment from the bank based on that package of covenants. So, it’s really not a concern for us at the moment.

Mike Poppe

And the fourth quarter payment rate trend and into the first quarter, our payment rate trend is following our normal seasonal pattern. There is nothing surprising or unexpected happening with the payment rate.

Unidentified Analyst

I guess, one other quick thing, I know that in the past, you had a setup where you could renegotiate the terms with individual borrowers. And then you would discount the projected payments to present value. Are you still doing that as a matter of policy or if you’ve stopped doing that?

Theo Wright

I’m not aware of anything where we discounted or made adjustments like that. We’re using the same collection practices with our customers that we’ve always used.

Unidentified Analyst

Okay. So you haven’t changed it at all unless? The last time you guided, there was a comment on it, I guess, last year sometime about these renegotiations and the restructured loans that you were doing?

Theo Wright

We haven’t changed that. We have our same re-aging practices for extensions that we -- primarily extensions that we’ve always used.

Unidentified Analyst

Okay. Thank you very much.

Operator

Thank you. And I’m not showing any further questions at this time. I would now like to turn the call back to Mr. Wright for any further remarks.

Theo Wright

Well, thank you for joining us today.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today’s program. You may all disconnect. Everyone have a great day.

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