The Container Store Group CEO Discusses F4Q2013 Results - Earnings Call Transcript

Apr.29.14 | About: The Container (TCS)

The Container Store Group, Inc. (NYSE:TCS)

F4Q2013 Results Earnings Conference Call

April 28, 2014; 04:30 p.m. ET

Executives

Kip Tindell - Chairman & Chief Executive Officer

Melissa Reiff - President & Chief Operating Officer

Jodi Taylor - Chief Financial Officer

Farah Soi - Investor Relations

Analysts

John Heimbach - Guggenheim

Gary Balter - Credit Suisse

Daniel Binder - Jefferies

Chris Hovers - JP Morgan

Matt Nemer - Wells Fargo

Alan Rifkin - Barclays Capital

Denise Chai - Bank of America

Operator

Greetings and welcome to The Container Store, fourth quarter 2013 earnings conference call.

At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions)

I would now turn the conference call over to your host Farah Soi. Thank you. You may begin.

Farah Soi

Thank, you operator. Good afternoon everyone and thanks for joining us today for the Container Store’s fourth quarter and fiscal year 2013 earnings call.

On today’s call are Kip Tindell, Chairman and Chief Executive Officer; Melissa Reiff, President and Chief Operating Officer; and Jodi Taylor, Chief Financial Officer.

After management has made their formal remarks we will open the call to questions. I need to remind you that certain comments made during this call may constitute forward looking statements and are made pursuant to and within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements.

Those risks and uncertainties are referred to in The Container Store Press Release issued today.

The forward-looking statements made today are as of the date of this call and The Container Store does not undertake any obligation to update their forward-looking statements.

Finally the speakers may refer to certain adjusted or non-GAAP financial measures on this call, a reconciliation schedule showing the GAAP versus non-GAAP financial measures is available in The Container Store’s press release issued today. If you do not have a copy of today’s Press Release you may obtain one by visiting the investor relations page of the website at www.containerstore.com.

I will now turn the call over to Kip. Kip.

Kip Tindell

Hello everyone. Thank you for joining us today on, well our second conference call as a Public Company. I’m looking forward to talking to you today not only about our fourth quarter and fiscal year 2013 results, but also spend a bit of time giving you some additional insights and updates as we look forward to fiscal 2014.

Fiscal 2013 was a momentous year for the Container Store. We celebrated our 35th anniversary, opened six brand new stores, landed on FORTUNE Magazine’s list of 100 best companies to work for in America for the 15th year in a row and executed a – well a highly successful IPO that we were just thrilled about.

And while 2013 was for sure an exciting year for due to -- well, 2013 was so exciting due to the historically unusual amount of winter storms; we did conclude the year with a difficult fourth quarter, which is always the most important quarter of our fiscal year. I think that’s a little different than it is from any retailers and that our fourth quarter is actually our best. It was the worst weather we’ve ever seen in our 35-year history, which impacted nearly all of our stores throughout the country.

These weather conditions were exacerbated by a shortened holiday shopping season with two of the three most important weekends between Thanksgiving and Christmas having hard hit weather and snowstorms and store closures as well.

So it is important to note that our stores in less weather impact regions achieved a store comparable store sales increase. Those areas and those stores that were not weather impacted achieved a very strong comparable store sales increase, well over planned for our fourth quarter.

In fact the difference of performance between stores impacted by weather and those not as impacted was quite dramatic. That delta, that differential is approximately seven points of comp store sales. Of course some of our highest volume stores were the most impacted by the historical weather as well. It’s also extremely important to understand that unlike most of retail where January and February are low kind of volume clearance sales months.

At The Container Store these months are our most important to sales and also to profitability as we conduct our Annual Elfa Sale from December 24 through mid-February. So we not only have the holiday session, we have the all-important Elfa sale as well. In fact, at least 60% of our adjusted net income and approximately 40% of our adjusted EBITDA have typically been derived from the fourth quarter.

Okay, so fourth quarter which as we noted in our press release was a 13-week quarter as compared to the 14-week quarter in 2012. Net sales for the fourth quarter were $216.8 million, an increase of 5.6%, excluding the 14th week in the fourth quarter of fiscal 2012.

Adjusted net income per share was $0.22 approximately flat with the prior year. Excluding the impact of the 14th week in the fourth quarter of fiscal 2012 it was flat. On a full year basis, again excluding the impact of the extra week in 2012 we delivered sales of $748.5 million and adjusted earnings per share of $0.33, which represents increases of 7.7% and 6.5% respectively.

We are in the process now of – we are coming out of being a private equity owned company and into a public owned company. We also pay close attention to adjusted EBITDA, given our capital structure and having just been private equity owned for seven, seven and a half years.

Our debt on our balance sheet primarily originated from our 2007 private equity transaction with Leonard Green & Partners, which has been just a wonderfully happy marriage, where all of our stakeholders have thrived. But prior to that, we had little or no debt in our history. We are determined to reduce our debt modestly and steadily, while simultaneously achieving sector-leading growth targets.

As such we consider adjusted EBITDA to be an important metric that we’ll continue to use and reference in addition to net income and earnings per share. We’re proud that our adjusted EBITDA ranged from an impressive 11.5% to 12.4% of sales in each of the last three fiscal years.

About new store growth. I’m excited to tell you about the new store growth that we are looking for this fiscal year and into the medium-term future. We communicated our 2014 store openings plans in our press release and with respect to 2015 and beyond. Also we’re happy to announce that we are raising our previously stated 10%-plus annual square footage growth guidance, to 12% minimum annual square footage growth, from 10% to 12% minimum internally, operationally, human resource wise, execution wise 12% annual square footage growth is very achievable and well within our capacity for new store growth.

Operationally and employee talent wise, we’re ready to run, like a horse has been in the barn too long. People join our company and we are proud to say that with our employee-first culture, they rarely leave. So our part time people who we call prime time are eagerly awaiting full time positions. Our full time people are in many cases anxiously awaiting a new store to open to that a Store Manager or a General Manager position kind of open.

New store growth is and always has been one of our key core competencies. We are excited to announce 10% minimum, going to 12% minimum. Our new store growth traditionally and recently has been among the very highest in the housewares industry. In addition the seven new stores that are already signed and slated for this year, we even hope to find and build an incremental store for this fiscal 2014-year that we are in now.

It normally requires eight to 10 months for us to open a store once the lease is signed, but we’re working hard and optimistically to even add that additional store in this current fiscal year and of course our new-store pipeline for fiscal year 2015 and beyond is quite robust and we believe we can exceed and likely – we believe we can meet and likely excited our new 12% number.

Until fairly recently, we thought we had to primarily open stores in only the biggest metropolitan areas, areas like New York, Chicago, Los Angeles. But we’ve been thrilled to discover that when we open stores in more mid-sized markets with approximately 1.5 million GMA, Greater Metropolitan Area, places like Indianapolis, Raleigh, Charlotte, Nashville these stores are extremely successful.

What we’ve discovered is the very best retail real estate development and say Indianapolis costs a great deal than it does in, say Chicago, and the sales are –they are surprisingly not that much lower. So we’ve recently opened stores in those Raleigh, Charlotte, Las Vegas-type markets and we’ve just been the results have been thrilling with the results.

The first year, four wall adjusted EBITDA margin on our new stores has averaged approximately 23%. 23% fourth walls adjusted EBITDA on those new stores and the store earnings its invested capital back in about 2.5 years.

Never before have our new stores contributed more to our profitability and there are many, many, many Indianapolis-like opportunities ahead of us. We will still open great locations like our wonderful Farmer’s Market next to the Grove opening this year in L.A, bur our focus is on these mid-sized markets. Mid-size, they are biggest than mid-size; 1.5 Greater Metropolitan Area markets.

We’ve delayed plans to even open in Canada, that we are getting ready to do. Because of the rare business opportunity we think that this Indianapolis thing of The Container Store brings us.

Yes, we’ll do Canada some day, but right now we’re going to focus on this Indianapolis thing, because the risk is lower, the results are proven and we are very, very excited about that growth.

Additionally, we are delighted to find ourselves in the enviable position of being top of mind, so often to first, one of the very fist calls by the best real-estate developers in the country for their site. The Container Store is not ubiquitous in everybody’s center. So we are often, the very first call the developer makes and we are getting what used to be known as department store anchor type pricing on those great locations.

You know it takes a retail brand its whole lifetime really to reach that status and we believe that this, along with the improving economy and accelerated real-estate development in the United States, will bring us more and more Indianapolis-type markets, and more retail real estate creates one of our most exciting business opportunities that we see in the medium-term ahead.

The greater the real-estate development is and I think this is so important. The most real-estate development the country is going through the more turnkey new store leases have become, and the more turnkey our new store leases become the more new stores we can open in any given year.

We believe in the medium term, a continually improving macro economy that leads a more and more retail real-estate development in the U.S., which will lead us to more turnkey developments and obviously we can open more stores on a finite amount of CapEx dollars when there are more turnkey as oppose to when they are less turnkey.

So again, we are raising at a 12% minimum annual square footage growth and we just cant wait to experience that even this year and in the coming years ahead.

Moving on from new stores, I want to take some time to share a little additional perspective about The Container Store related, the unique mode that insulates us from competition.

Back in the 80s there were 100s of direct competitors, Susie’s Container’s, store this, store that, back then everyone from Mom-And-Pop stores to many of the biggest retails in the country. We’re trying to sell some form of storage and organization.

Today, other folks, Dabble in-storage and organization, they Dabble in it a little bit and some devote several aisles to it. But nobody singularly focuses on storage and origination they way we do.

We are the only national retailers solely devoted to it in the country. We originated the concept and we still lead it. As the phase of modern life accelerates and people realize that being organized in not just a luxury anymore, but its actually a necessity. Think about that; it’s not a luxury it’s a necessity in this lifestyle that we all live in today. It makes our customers more productive, more relaxed and happier and our goods and services become vitally important and The Container Stores help make customers lives better through the joyful, calming and timing saving gift that comes with being organized.

A lot of that magic, the heart and sole that you just can’t copy has to be with our vendor relationships; the relationships we have with the manufactures of our products. Our culture embodies a deep devotion to creatively crafting mutually beneficial relationships with our vendors. This results in a differentiated and innovative product development and unusually high gross margins.

Our retail business gross margin has increased steadily over time and has primarily only seen a reduction year-over-year when the dollar fell as compared to the Swedish Krona. Purchases of Elfa products, our biggest selling product are done in local Swedish currency, manufactured in Sweden and this creates a currency fluctuation from time to time. But overall, our gross margin has increased steady year after, year after, year.

In fiscal 2013 we experienced a weaker U.S. dollar, however economic predictions are pretty universally calling for a stronger U.S. dollar to most European currencies, medium term and that would of course be beneficial to gross margin at The Container Store.

But the reason that we are able to have a best-in-class retail gross margin to begin with is because of our culture and our relationship with the vendors. Is our business philosophy. We have these incredibly long-term relationships with vendors that are the brightest and most innovative in the housewares industry and these are relationships that have been built over decades, and that we believe really results in an unassailable competitive advantage as we are able to create product appears nowhere except the Container Store with those long-term relationships.

We’re known in our industry for our proficiency in world wide product sourcing as we create products with these wonderful vendors to our exact specifications, while using the vendors financial resources and their CapEx dollars and together producing it anywhere in the world where is most efficiently and effectively produced. If its wood, we’ll make it in Estonia; if its injection molded plastic, we’ll make it as close to our Dallas distribution center as possible, because there is no labor in injection molded plastic and there is plenty of freight.

We have our finger on the pulse of the customer we believe and more importantly our manufacturers believe that, so they look to us for the leadership in those products and these vendor relationships all not only us filling the holes in the market with this product, but for that product to be exclusive in nature, not available anywhere else and invariably those were the products that become our best selling and highest margin products and that’s a rate feet in business, something that we really focus on at the Container Store making sure that our best selling products are also our highest margin products.

Wonderful new and differentiated products are our lifeblood. So these long-term business relationships would have enabled us to grow our gross margin and more and more exclusives in product insulating us from the competition.

But vendor relationships like this only happen when you’re the leader and innovator of your niche and the manufactures believe in you as that and come to you and want to create that product with you. This vendor partnership and collaboration is one of the many reasons why we love our work as merchants. We find it so joyful and glorious.

We’re able to develop unique proprietary products with best in class retail gross margins at approximately 59% of sales. SG&A, Selling General Administrative expenses including new store pre-opening costs is also high, approximately 48% of sales and yes, while that’s higher than many in the industry in order to provide unparallel service to our fanatical customers and foster our employee-first culture.

We believe that overtime, even short to medium term, that 48% SG&A can go, we believe to somewhere in the mid-40s and our gross margin can go from its 59% to even the low 60%. At not even quire a $1 billion in sales, our fixed costs like occupancy, have great leverage to growth and we feel that these relationships with our manufacturers and our position in the industry allows the gross margin to not only be maintained, but to even grow slightly as we go forward.

Our business model will never be a low SG&A comparable to other housewares change perhaps. That would we feel like destroy our culture and our customer service no one would thrive. We are calling for that 48% SG&A to perhaps make it to the mid-40s, but we not trying to go into the 30s.

There are a lot of reasons that we are so excited about our growth and I tell you, one is because of with our foreseeable scale still being so medium-size, that even a little bit less than $1 billion it means tremendous opportunity for us to increase our profitability going forward, so wonderful vendor relations that result in exclusive proprietor products.

If you remember that The Container Store merchandize is more than 10,000 such products. Each of this in a store, online and well over half of our sales come from those products that are exclusive proprietary products. In other words, half of the products that we see in the store, well over half, are propriety or exclusive in nature and simply can’t be bought elsewhere. Additionally, we don’t sell items. We sell solutions. That’s what the employees and the customer service of The Container Store are all about.

We are not solutions based, we are solutions based, we are not items based and when you are selling solutions made up of exclusive proprietary product, you can’t find that anywhere else and it helps insulate you from the general competition, but particularly helps insulate you from giant internet retailing competition. Consumers can’t show room exclusive proprietary products, and you can’t show room solutions as opposed to items.

Its very difficult to sell complete solutions over the web, yet that is our entire focus on our own website business and we’ve been literally and successfully designing closets over the telephone and online for years. It’s not an area that most online merchants are going to get into, those selling solutions and designing closets over the internet.

However, one of mentors and great friends Gordon Segal at Crate & Barrel always said, stay humble and stay paranoid and we certainly do that. But we do want to point out that the exclusive nature of the products and the solutions based form of the way that we approach selling as opposed to items does provide an unusually high help against giant internet competition.

You remember that Elfa is the Container Store’s best selling and highest margin product. There’s that point again, best selling and highest margin product. It’s our premier shelving and drawer system that can be customized for any space in any customers’ homes. The Container Store owns Elfa, its based in Sweden. We bought it in 1999 where the product is manufactured and in 2013, approximately 85% of Elfa’s sales came from either The Container Store or Scandinavia.

The reason that The Container Store purchased and continues to own Elfa is because of the efficient vertical integration, where we are the manufacturer, the importer, the distributor, the marketing agent and the retailer for the product. That provides a wonderful, vertically integrated consolidated gross margin. That leads to a consolidated gross margin in fact that is not only enormously high, but also an unusually efficient value laden, great price value to the consumer.

Elfa, like all other European-based retailers was hit hard by the difficult recessionary climate over the past several years. Europe as you know has been more in the sustain down environment than the U.S. has been and Elfa’s largest customers in Scandinavia or DIY, major retail chains, whose sales have plummeted during the past fourth or five years of the downtrend in Europe.

The Economists are predicting however that GDP growth in European will improve in 2014. We certainly hope that’s the case and we certainly believe that it looks as through it will be. And importantly, we are very pleased to see evidence of this improvement with strong third party sales at Elfa this quarter, already into this new year, and we are optimistic and hopeful that that encouraging improvement from our cousins in Elfa as like to call them will continue throughout fiscal 2014.

So to reiterate, we believe we can grow square footage at a double digit rate and we do set some SG&A as a percentage of sales with scale, while maintaining and even increasing gross margin and with only 65 stores, I certainly think we are one of only a handful of retailers that can confidently state that we can conservatively at least quadruple our store account here just in the United States. Lots of differentiation, lots of installation from competition, lot of super abundance of opportunities for sure.

You know I also just love when someone said about our IPO, that the Container Store, our IPO is not an exit strategy for leadership or for the company, but rather our IPO, its an entrance strategy into serving everyone with greater enthusiasm and commitment than ever.

It’s about the work at The Container Store that we have ahead of us over the next five, 10, 15, 30 plus years that’s most inspiring. To continue to build an organization where everybody can and will thrive in the medium to long term, where everyone can thrive; our employees can thrive, our customers can thrive, our vendors can thrive, our communities, as well as the shareholders.

Thank you very much and now I’m going to turn it over to our fabulous President and Chief Operating Officer, Melissa Reiff. She’s going to go into a little more detail on a bunch of the most exciting things that we’re working on in the next coming months.

Melissa Reiff

Great. Thanks Kip and hey everyone. I’d first like to review just a few of the exciting initiatives that we have planned for this year and are designed of course to drive the incremental traffic, raise our already strong average ticket, as well as of course I’ll be providing inspiring and motivating our customers, so they get completely organized and dancing in their closets and yes, everywhere in their home.

As Kip said, we’re opening seven new stores in fiscal 2014, including one relocation. We’ve opened two of those stores already. King of Prussia in the Philadelphia area, we opened that on March 8, and also one in the Seattle area in Tukwila, Washington at Westfield Southcenter mall just a couple of weeks ago on April 12. And then the additional stores that we’ll open in fiscal 2014 are one in Providence, Rhode Island, Garden City Center opening May 17; the relocation of our current Oak brook store to the Oakbrook Mall opening June 28.

We’re going to open in Los Angeles, California at Farmer’s Market as Kip mentioned, which is right next to the Grove if your familiar with that area opening August 9. Salt Lake City, Utah, here we come, opening October 18 at Fashion Place Mall and then lastly in Chicago in the South Loop Area in what’s called the Roosevelt Collection, opening November 15. And of course we’re all working hard on that additional eighth store that Kip talked about earlier, so stay tuned for that location.

We’ve opened all of these stores and we’ll continue to open our stores with our magical grand opening strategy, building buzz and excitement months leading up to the opening and partnering with wonderful non-profits that our target customers supports and are passionate about as we donate 10% of our grand opening weekend sales to those non-profits.

I also want to talk a little about some of the new programs and services that we are executing to engage customers even more and yes, drive incremental visits and sales. But first I’d like to reiterate that because of our unique employee first culture and our incredibly vast more training for our employees and other retailers. We do 263 hours of training in a full time employees first year and 150 hours in the following years, again, way, way, way more than industry average. We’re in this wonderful position to continue to raise our average ticket through our high level of exceptional customers service and of course our solutions, a baked approach to selling.

As Kip says, we sell complete solutions, not just items, which again drives comp store increases. And actually you know, come to think of it, probably we are one of the few houseware stores that customers actually use shopping carts, which of course helps tremendously to increase average tickets. You know in our early days our average ticket was about $20 and now its approximately $60, yet we know we still have big opportunity to raise it.

In fiscal ’13 our comp store average ticket was up a stellar 5.6% to the previous year and this is our sustained trend. In fact our fiscal ’13 average ticket is up 15% over the past five years going back to fiscal ’09.

So when speaking of driving average ticket and frequency, we’ve made additional headway and positively impacting this with the following programs that we’re super fired up about this and we’re going to roll them our in fiscal 2014.

First, is our POP! Program, the Perfectly Organized Perks. Our customer engagement program, which we had been testing in our 10 California stores since last July and which we will roll out to all stores by the end of this July.

Our goal of POP! is to deepen customer engagement by creating and executing a program that delivers value and appreciation and one that results in strengthening customer loyalty, driving incremental visits to our stores and increases revenue and department channel usage.

And in creating this program we really base it on kind of four guiding principals. One, the program had to be simple and relevant. We wanted to treat our best customers even better. The program needed to be emotionally engaging and of course we designed it to be profitable by, yes, driving incremental revenue. And in serving our customers prior to testing POP! in the California store. They told us that they love The Container Store.

They have a passion for our brand and want to be even more a part of it and when we asked them what’s the number one thing they wanted in the customer engagement program, they simply said more communication. They want to hear more from us, even be more a part of our brand. They want more information, more tips on storage and organization. How we can help them make their lives better, easier, just simply more communication. More kind of hugs as we call it.

So what we developed is not another typical point based, me too loyalty program that gives away gross margin and no return on investment. POP! is a program that rewards customers monthly with special communications, surprise and delight gifts and exclusive offers.

We’re already seeing great results in our California stores, in fact fabulous positive customer response. POP! is producing great adoption and conversion with 46% of all California sales now coming from our POP! Stars. Yes, that’s what we call them when they enroll in our program and believe me, they do smile when we tell them they are now a POP! Star.

So we’re seeing increased frequency from our POP! Stars, more visits to our stores and our POP! stores also have a higher average ticket. Again, our plan is to roll out POP! to all stores by the end of this July and those customers who don’t have a store near them will be able to enroll in the program online in August.

And then there’s our exciting ATHOME, personalized design and organization service, which we’re currently testing in select Texas stores. Its been our most requested service in all of our 35 years. Our customers don’t want DIY. They just want someone they can trust to do it for them, organize every area of their home, soup to nuts, which makes their time starved, busy lives more efficient and enjoyable.

Our ATHOME organizers go directly into customers’ homes and design solutions for them, organizing every space in their home, using of course The Container Store products. This includes organizing plans for all types of spaces, whether its closet, pantry, garage, kids room, linen closet, many times using Elfa of course, which is as we believe the foundation of every organized space.

Our ATHOME organizers can also help our customers unpack and organize a new home or stage a home for sale, prepare even a baby’s nursery. Really, it is a soup to nut offering. The point is, the customer wants us to do it for her A to Z and that’s exactly what we will do.

We’re finding already that an ATHOME customers’ average ticket is much, much higher, close to $2,000. So obviously there is enormous opportunity with this program and our plan is to launch ATHOME in additional markets in Texas, followed by addition key markets such as Manhattan, Los Angeles, Chicago and the Washington DC market by the end of this calendar year.

Since 1978 we’ve always worked diligently to maintain our position in the market with closet domination and we are continuing to pursue this year additional product offerings that will give our customers any and everything she wants to make whatever her dream closet is even more beautiful. Its too soon to share specific details, but we are confident in this initiative and know it will enhance greatly our current offering and will correlate beautifully too with our ATHOME service.

We’re elevating also this year the essence of our business-to-business sales channel at The Container Store. We’re actively working to drive sales at The Container Store products to businesses such as residential and commercial real estate contractors, developers, hotels, hostels, schools, educational facilities and architects. These types of companies need and want us specifically to help enhance their commercial development or they may need other products that we offer in big quantities, to help organize their business or their clients. Many times too they want The Container Store gift card for their company to use for incentives or special gifts. We’ve assembled a team of sales specialists who are leading our business sales efforts and we really are excited about the opportunities in that part of our business.

I just real quickly want to share our major campaigns for fiscal 2014. We completed our Have Fun Getting It Done office sale that started February 12 this year and ended March 23. We’re currently in the middle of our Project Spring, spring organization sale that ends Sunday, May 5 and simultaneously we’re offering our Elfa preferred program in May and June, where our best customers and brand new customers receive a special invitation to save 25% off Elfa and 25% off Elfa installation for them, as well as a card for them to share with a friend to enjoy.

Then that will be followed by our Love Your Luggage, Go Organize travel sale from May 5 to June 22, followed by our Happy Organize Home sale beginning June 23 through Labor Day, September 1 and included in that time period is also our focus on college and dorm, lunches and lockers, our back to school time.

Our annual shopping sale begins August 25 and runs through October 19 and then we’re into Christmas with our just beautiful Gift Wrapped Wonderland that begins October 20 through December 24. Finally December 24 will be the first day of our Annual 30% off Elfa sale and it runs through February 10, 2015, a busy year. And of course we will continue big time to focus on both externally and internally about who we are, what we are, our culture, our foundation principals and our commitment to conscious capitalism and conscious leadership.

In addition to continuing to enhance content and engagement on our blog, whatwestandfor.com, we will also continue to share our story with customers via a variety of marketing tools like direct mail, in-store signage, online and with all of our social channels. The feedbacks, the response from our customers and employees and our efforts in communicating this has been overwhelmingly positive.

And I wanted to close today by sharing something that we launched this past February. Actually we launched it on February 14, which is the day that we here at The Container Store celebrate National, We Love Our Employees Day and its something we’re very proud of. It’s The Container Stores Employee First Fund.

It’s a separate non-profit entity that provides financial assistance to our employees during emergencies, medical situations, a catastrophic event that they are not possibly able to handle financially, and I can tell you first hand, after visiting about a third of our stores these past two months and speaking directly with many employees, they are, we all are so proud and so grateful and so excited about this program.

The Container Store funded the program with an initial $100,000 and all employees, vendors, really any of our stakeholders can contribute as they wish. It’s a way for us to honor the care, commitment and compassion we have for each other and also a formalization of the spirit of generosity that our employees have always shown for each other during times of crisis and need and you know what’s really cool about this, is we’ve already had vendors and other friends of The Container Store contribute. So we just think that’s incredible and we’re very, very thankful.

So those are just a few exciting things we’re working on this coming fiscal year and now I’m going to turn it over to our wonderful CFO, Jodi Taylor, who is going to go over the financials in detail.

Jodi Taylor

Thank you Melissa and good afternoon everyone. I’d like to begin my remarks with a review of our fourth quarter and our full year results and then discuss our outlook for fiscal 2014. Before I discuss the results, I’d like to remind you that 2013 was a 52-week year as compared to 2012, which was a 53-week year.

The financial impact of 2012 due to the additional 53rd week was approximately $11.7 million of revenues and $0.03 of diluted earnings per share, as well as $3.1 million of adjusted EBITDA. I also want to point out that I will be referring to adjusted numbers since our non-recurring IPO costs had a significant impact on our annual GAAP results. Please refer to our press release for our GAAP results and a reconciliation of GAAP to adjusted numbers.

Net sales in the fourth quarter were $216.8 million or up 5.6% on a 13 week basis. Sales in The Container Store retail business were up 5.6% on a 13-week basis to $193.8 million and our third party sales at our Swedish subsidiary Elfa were $23 million, up 5.3%, compared to $21.8 million in the fourth quarter of 2012.

We ended the quarter with 63 stores and approximately 1.6 million of gross square footage as compared to 58 stores and approximately 1.4 million of gross square footage at the end of the fourth quarter 2012.

Our comparable store sales for the quarter increased by 1.4% on top of 2.7% in the fourth quarter of 2012. The 1.4% comp was driven by 6.5% increase in average ticket. As we all know, there was historic record-breaking weather across much of the country. This diversely impacted our sales during the quarter and because weather hindered the ability of our customer to visit our stores, we extended the annual Elfa sale in order to allow our customers to take advantage of the extraordinary value offered during the Elfa sale period.

Looking at the aggregate performance of the 28 stores in the areas of the country that were most impacted by weather, including the East Coast, the Midwest, mid Atlantic and the Southeast; comps were down approximately 3%. Our remaining comp stores, most of which also had weather impacting them, but just to a slightly lesser degree saw performance of comp of plus 4.1%. Of course, some of our largest volume stores were most impacted by weather. This comp variance stands in start contract to what we typically see in our stores, which has no meaningful divergence and comp performance by geography.

Moving onto our Swedish subsidiary Elfa, the 5.3 increase in Elfa third party sales was due to a notable improvement in scales from the Scandinavian countries. In fiscal 2013, approximately 39% of Elfa sales were derived from The Container Store and approximately 46% were derived from Scandinavia, with the remaining balance of 15% coming from other parts of the world.

We are optimistic as we continue to see improving sales trends in Europe, as the direction of Elfa sales is currently largely determined by how The Container Store and the Scandinavian country perform.

Consolidated gross margin decreased by 90 basis points to 58.2% from 59.1% in the prior year period. Gross margin in The Container Store retail business decreased 160 basis points to 56.7%, primarily due to the appreciation of the Swedish krona versus the U.S. dollar year-over-year and TCS does purchase all of our Elfa products in Swedish krona, as well as also to a lesser extent slight increased discounting of seasonal holiday product due to the shorter weather impact and holiday selling season at The Container Store.

The Container Store gross margin decline was partially offset by the increase in Elfa gross margin of 140 basis points to 40.6%. The Elfa gross margin increase was driven by ongoing efficiency improvement in manufacturing operations and the mix of products sold.

As a percentage of sales, consolidates SG&A increased to 44.5% from 43.4% in the fourth quarter of fiscal 2012. This increase was driven primarily by cost associated with being a public company that weren’t incurred in the prior year fourth quarter, as well as the impact from the loss of the 53-week that benefited expense leverage in the fourth quarter of fiscal 2002. Additionally also incurred higher sales and marketing spend in conjunction with the 65th anniversary campaign.

Our net interest expense in the fourth quarter of 2013 was $4.3 million compared to $5.4 million in the fourth quarter of fiscal 2012. Interest was lower due to lower interest rates achieved through refinancing of our term loan facility at The Container Store during 2013.

Our tax rate on adjusted net income for the quarter was 35% compared to 39.9% in the fourth quarter of last year. During the fourth quarter we were able to release $6.4 million of valuation allowances, uncertain of our domestic differed tax assets, which created an unusual tax benefit of 12.5% in the current fourth quarter, compared to tax expense of 11% in the fourth quarter last year. I will speak to 2014 taxes in more detail in a moment when I discuss our outlook.

Before I discuss net income and earnings per share, I want to point out that for both the quarter and full year I will be referring to adjusted net income and earnings per share in both periods. A reconciliation of GAAP net income and net income per share to these adjusted numbers on an adjusted share basis can be found in the financial tables included in our earnings press release issued today.

As a result of the factors I just described, adjusted net income for the quartet was $10.7 million or $0.22 per diluted share, based on 48.9 million adjusted diluted shares outstanding as compared to $12 million or $0.25 per diluted share, based on 47.9 million adjusted diluted shares outstanding in the fourth quarter of last year. As noted, the results for the prior year include approximately $1.3 million or $0.03 per diluted share earnings benefit due to the 53rd week. Additionally, the current year’s fourth quarter includes $0.001 of incremental expense per diluted share related to being a public company this year, which was not incurred in the prior year.

Our earnings press release includes details of our full year financial performance, so I’m just going to touch on a few highlights. Sales increased 7.7% on a 52-week basis to $748.5 million. This was driven by a 9.8% increase in The Container Store retail segment on a 52-week basis and a 5.7% decrease in office third party sales.

Our comparable store sales for the year increased by 2.9% on top of 4.4% last year, driven by a 5.6% increase in average tickets. Consolidated gross margins were flat year-over-year at 58.8% of sales. Consolidated SG&A as a percentage of sales increased from 46.9% in fiscal year 2012 to 47.3% in 2013. This was driven primarily by a larger percentage of net sales coming from The Container Store, where our SG&A expenses are higher as a percentage of sales and at Elfa. The container store also incurred expenses in preparation for our November 1, 2013 IPO and cost associated with operating as a public company that were not incurred in fiscal 2012.

Adjusted net income was $0.33 per diluted share based on 48.9 million adjusted diluted shares outstanding or $0.34 per diluted share based on 47.9 million adjusted diluted shares outstanding last year. However as noted, the results for the prior year include approximately $1.3 million or $0.03 per diluted share earnings benefit due to the 53rd week.

We ended fiscal 2013 with $18 million in cash on our balance sheet; $351.3 million in outstanding borrowing and combined availability with cash on hand of $87.7 million. The Container Store had no balance outstanding on our $75 million US revolver facility and Elfa’s $27.3 million Swedish revolver facility had $16 million outstanding at fiscal year end.

We also ended the year with inventory of $85.6 million as compared to $82.4 million at the end of last year. From an inventory standpoint, we entered the first quarter very well positioned with just a 3.9% increase year-over-year despite inventory owned related to five incremental new stores.

Now I’d like to turn to our outlook. For fiscal 2014, consolidated net sales are expected to be $827 million to $837 million based on our announced store openings and an increase in comparable store sales up 3% to 4% for the year.

Net income is expected to be $0.56 to $0.61 per diluted common share based on estimated adjusted diluted weighted average common shares outstanding of $49 million. This is utilizing a tax rate of approximately 38.8%, which is higher than recently experienced, due to the expected split of earnings between The Container Store and Elfa, as well as elimination of our valuation allowances on certain domestic deferred tax assets in fourth quarter 2013.

With our prior approximately 35% tax rate, our net income for diluted common share would have been approximately $0.04 per share higher. Our annual interest expense at today’s LIBOR rate is expected to be approximately $17.5 million.

Our normalized tax rate in the U.S. is approximately 39.6% using statutory state and federal rates and our weighted offer is approximately 30%. The split of earnings between The Container Store and Elfa determines our consolidated tax rate, which is estimated to be approximately 38.8% in 2014 again.

A few things I would like to note with respect to the cadence of our results throughout the year. First, on the seasonality of our revenues. Over the past three years, only 21% of our consolidated sales were derived in the first quarter when over 30% came from the fourth quarter. Our fiscal fourth quarter includes the months of December through February, which encompasses the peak holiday sales, as well as our all-important Annual Elfa sale.

We are more bullish on sales in the back half of the year, as the initiatives we are rolling out begin to impact our sales performance and importantly of course as we cycle the weather impacted results in the fourth quarter of 2013.

Second, because of the significance of the fourth quarter to our annual results, we typically target investments and planned initiatives for the first half of our fiscal year. This means that our expenses are generally higher as a percentage of sales in the first and second quarters. This will be the case in fiscal 2014 with our planned storewide roll out of the POP! Program, and the planned ATHOME rollout of that program into several stores.

The impact of the cost associated with these programs will be more significant in the first two quarters of the year. As a result we expect consolidated SG&A as a percentage of sale to delever in the first quarter from the 52.2% level in the first quarter of 2013. In the second quarter of 2014, we expect SG&A as a percentage of sale to be roughly flat with the 46.6% level in the second quarter of 2013.

Third, the seasonality of our profitability. Our profitability has historically been heavily weighted to the fourth quarter, with an excess of 60% of our adjusted net income being generated in the fiscal fourth quarter and approximately 40% of our adjusted EBITDA.

We would expect similar seasonality in 2014. First quarter on the other hand is historically by far our lowest quarter for the sales and profit contribution. In fact the first quarter has historically been a loss quarter for us and we expect no difference in fiscal year ’14, but we expect our loss per share to show slight improvement from the loss per share of $0.07 in the first quarter last year.

In fiscal 2014 we will also have incremental costs, including additional payroll and professional fees associated with becoming a public company. Representing roughly $1.3 million beyond what was incurred in fiscal 2013 for a total of approximately $2 million. We expect to incur approximately $47 million in CapEx, net of tenant allowances or $54 million in CapEx before tenant allowances in fiscal year 2014. The vast majority of this will be spent on our new store construction and related costs. The rest will go towards our existing stores, our new and existing distribution and protection facilities and our corporate infrastructure.

We believe that we are in a solid position to accomplish our previously stated financial objectives that include annual square footage growth of a minimum of 12%, with a strong desire to add a store into fiscal 2014, so that this level of growth can be achieved in 2014 as well. All leases for 2014 are fully executed and we have a robust real estate pipeline for 2015 and both beyond.

And with that I’d like to turn the call back over to the operator, so that we can take your questions.

Question-And-Answer Session

Operator

(Operator Instructions) Thank you. Our first question comes from John Heimbach with Guggenheim. Please proceed with your question.

John Heimbach – Guggenheim

Can you hear me?

Kip Tindell

Yes.

Melissa Reiff

Now we can. Hi john.

Jodi Taylor

Hey John.

John Heimbach – Guggenheim

Hey, how are you? So two things. You talked about sort of Indianapolis versus Chicago. Going forward will there be a sort of conscious effort to do more. Those little markets in Indian and less of Chicago or you think its sort of a 50/50 balance.

Kip Tindell

I think the results of the Indianapolis type locations are so wonderful that we by all rights will focus primarily on that type of location, while mixing in locations exactly like this Grove, Farmer’s Market, LA location or the Stanford Shopping Center location that we just opened. We got a lot of Manhattan left to do. We’re still going to do those things, but the preponderance of it is going to be in this Indianapolis thing, because 23% first year, four walls EBITDA, I think there’s opportunity for – that’s just such a great business opportunity. That would be the focus, but it will be a balance with most of it there. Does that make sense to you John?

John Heimbach – Guggenheim

Yes, absolutely. Then secondly, I wanted drill a little bit on the B-to-B, which I find very interesting. Is that a national effort or is it targeted? How big is that today? I imagine its pretty small and how big is the opportunity, because you would think it’s a pretty sizable one.

Melissa Reiff

Right. Hi John, its Melissa. Its small right now. This is an opportunity that – we’re just beginning really. Its small, but we feel like there is a great opportunity and we will be pursuing this nationally. In the past we really just kind of taken B-to-B that’s kind of come to us John and now we’re going to be as I said, much more proactive and going after it. So I don’t really have a percentage of revenue that we’re going at that right now, the share, but we think it’s a huge opportunity and we’re going to play in that space as well.

Kip Tindell

For 35 years people have begged us to do this as well. Most of these products are not available anywhere else. Businesses need to save time and save space as well and we just really didn’t want to devote the resources to something that wasn’t the core business, but the demand for it has been so great for so long. We got to focus on it and I think its going to be a very high growth area for us for the future.

John Heimbach – Guggenheim

Okay, thank you.

Kip Tindell

Thanks John.

Jodi Taylor

Thank, you John.

Operator

Thank you. Our next question comes from the line of Gary Balter with Credit Suisse. Please proceed with your question.

Gary Balter - Credit Suisse

Thank you. Melissa, you threw out that kind of tantalizing comment when you were talking about the new initiatives. You talked about the ATHOME and right after ATHOME you mentioned what sounded like a rollout of something to go with Elfa.

Kip Tindell

You mean the closet domination Gary.

Gary Balter - Credit Suisse

Yes.

Melissa Reiff

Yes. No, I know that was a little bit of a tease and I don’t have anything, we don’t have anything else to really share right now in this call. But as you can imagine, since 1978 our goal has always been this is kind of closet domination and owning it up, down, in, out all around and we want to offer our customer any and all offerings we can to make her dream closet, whatever it is she wants it to be.

So I have to just kind of leave it at that right now Gary, but know Elfa’s jot such tremendous possibilities at home, have such tremendous possibilities that we want to give it to her anyway she wants it.

Kip Tindell

And product development with our wonderful vendors as we discussed is our favorite thing to do.

Melissa Reiff

Yes, exactly, we love product development.

Gary Balter - Credit Suisse

Yes, no its great that you have all these new initiatives to add on to what’s such a profitable store already, so I would like to see that. Just a technical question, going from 10% growth to basically 12% growth, what’s the implications as we look at the 2015, 2016 in terms of the earnings growth rate. Does that put some pressure on, in you one of expanding of that growth?

Jodi Taylor

You know, Gary, I really don’t think that it does for us. Because as you guys have heard us say before, our stores, they get profitable very quickly, they achieve profitability quite quickly. I know Kip talked about the first year adjusted EBITDA of our recent openings over the last several years being 23%. So we don’t believe that it should be a drag, particularly if we are bale to spread them out throughout the year, which would be our objective, so that we are able to be reap the sales benefit to offset the opening cost.

Kip Tindell

I think the only time they really are is when you have a late third quarter or fourth quarter store opening, then it can be a drag to EPS, but balanced out it’s a plus that’s one of the reasons we are so excited about it.

Jodi Taylor

That’s right.

Gary Balter - Credit Suisse

Yes, and then one last one, then I’ll turn it over to somebody else. Like you mention that the stores were about seven points higher in the better markets and you mentioned the 41. Past the sales line, I assume also they are much more profitable, just because you don’t have the mark down pressures. Is that’s the way we should be thinking about it as well?

Jodi Taylor

You know, I think its important that we address that, because mark down pressures for us is not like you are thinking off for the typical retailer, because we have such little seasonal product in our stores.

We still cleared our holiday goods very, very profitability. We simply didn’t realize quite as high maintained gross margins on those this year than we did last year, because we ended up as we all know going into it, a shorter holiday season, but then it was exacerbated by the inclement weather that occurred on two of those weekends. But our is not a situation at all where its anything like the typical retailer for clearance. So I don’t want it in any way that to be misconstrued, what I said.

Kip Tindell

And you characterize the 7% as being described between the better stores and the worst stores, but that was really the differential between the weather-impacted stores and the relatively non-weather impacted stores.

Gary Balter - Credit Suisse

Yes, I meant to say that.

Kip Tindell

Yes okay.

Gary Balter - Credit Suisse

Okay. Thank you.

Melissa Reiff

Thanks Gary

Operator

Thank you. Our next question comes from the line of Daniel Binder with Jefferies. Please proceed with your question.

Daniel Binder – Jefferies

Hi, good afternoon. My question was around the breakdown in the comp store sales such as the coming year. You see that being evenly spread between ticket and traffic. I know more recently tickets been the bigger driver. Could you shed some color on that?

Kip Tindell

Well, I think that our retail of course, very few retailers were seeing equal space between increased average ticket and traffic. We have, maybe a leg up in increased average ticket, because of the emphasis we placed on our sales people, the pay, the training, all of that. So we’ve been long able to achieve really sector leading, really industry leading average ticket growth and we’re implementing programs now to make sure that our traffic is an increase rather than a slight decrease. There’s so much the industry has seen recently.

The difference between a one point decrease in traffic and a one point increase, when you add that to an average ticket increase of the four so points we’ve been having is of course downstream five and three and so now I think we’ll still do a little bit better. We have historically always done that, but we are trying to close that gap. A lot of the things that Melissa talked about should help us close that gap to where that adds to, the average ticket increase, which we are so proud of rather than flat or even slightly negative to it.

Daniel Binder – Jefferies

Okay and then just to follow-up on that. As you think about the ticket increase for the coming year, do you see that coming more from average unit retail improving or more from mix per transaction? The reason I ask that is because I know you trade out a certain number of skews every year and sometimes you can trade up a little bit on a price line. That’s if the market’s right. Just if you could shed some color on that.

Kip Tindell

Yes, its just what we call man of the desert selling better and better solutions, selling by our wonderful sales staff. We get better and better each year. The quality of the average person we hire each year gets better, our training programs get better, the products get better and so the number of items in the basket increases each year.

We see no inflation at all in our buying or in our business. That’s the only good thing about a still questionable macro economical environment, is you don’t have any of that. So its just better excellence in our store level sales performance that has caused that thing to historically go up, up, up and I expect more of that in the short and medium term.

Daniel Binder – Jefferies

Thank you.

Melissa Reiff

Thanks Dan.

Operator

Thank you. Our next question comes from the line of Chris Hovers with JP Morgan. Please proceed wit your question.

Chris Hovers - JP Morgan

Thanks and good evening. On the guide, so you mentioned in the release that the only difference between your outlook for year versus a few months ago is basically the time indicated in your expenses. So can you conform that you’re thinking about the first quarter from a sales perspective as you were back in October, and could you also quantify perhaps how much the POP! rollout and the ATHOME rollout impact the P&L.

Jodi Taylor

As far as the expense side, let me attack that for you, Chris. On the expense side, our initiatives we do think will add some expenses as I noted into the first half of the year. We tend to for all the reasons I discussed, like to have our initiative rollout to concur or complete it by the end of the first half of the year, before we get into the more important quarters. So yes we do expect to have some incremental spending related to those.

Kip Tindell

You don’t have as many pesky customers getting in your way while you are trying to do them.

Jodi Taylor

Yes, and then as we said Chris, our annual sales guidance and our outlook is unchanged. So its consistent on an annual basis.

Chris Hovers - JP Morgan

But so your not necessarily saying that the first quarter outlook is similar to where you were thinking. Because it seems to read that way in the release – the only thing that’s shifting around here is the timing of expenses in terms of the first quarter and first half.

Kip Tindell

Yes, well I mean we are just not, we are just not really commenting on the year by quarter. So we’re adding a little color to the new initiative, the expense rollout. We are busy as heck in the third and fourth quarter and so we do that work in the early quarters when the store is on its floodable customers. But beyond that we are still trying to avoid – We are talking about the year, but we are not going to get into more color on the first quarter at this time.

Chris Hovers - JP Morgan

Perfect. So just in terms of – helps us with our modeling in terms of how you see the opening, unless I missed it in the release, the opening of the stores on a quarterly basis that will with the pre-open. Thanks.

Jodi Taylor

Sure. I think Melissa went over that in here remarks. Let me grab those exact dates. We’ve got for this year, we’ve already opened..

Melissa Reiff

The dates are in the release.

Jodi Taylor

The dates are in the release. I think they are…

Chris Hovers - JP Morgan

They are okay.

Jodi Taylor

Yes.

Chris Hovers - JP Morgan

All right perfect.

Jodi Taylor

If not, I’m happy to get that for you offline.

Melissa Reiff

Yes, it will be the script which I went through, yes.

Chris Hovers - JP Morgan

Okay. Thanks very much.

Kip Tindell

On the last TBA but it will be late.

Melissa Reiff

TBB.

Kip Tindell

Yeah.

Melissa Reiff

Thanks Chris.

Operator

Thank you. Our next question comes from the line of Matt Nemer with Wells Fargo. Please proceed with your question.

Melissa Reiff

Matt.

Matt Nemer - Wells Fargo

Good afternoon, can you hear me?

Melissa Reiff

Yes, we can.

Matt Nemer - Wells Fargo

Okay, sorry about that.

Melissa Reiff

That was the easiest question of the day. No question at all.

Matt Nemer - Wells Fargo

Yes, softball. So first question, given the focus on the mid-sized markets, the ND type markets, I’m just wondering if you can provide any more color on the economics of those markets. It sounds like the sales per foot is close to the larger markets. Obviously we are taking New York out of this but I’m wondering if you can comment on sales per foot, maybe be four wall profits and then also occupancy in that sort of target, mid-size market that you talked to.

Kip Tindell

Well, generally that Indianapolis type location can have an occupancy expense that is generally high single digit occupancy expense and our overall occupancy expense is still in the high-12s and so the more of those types of things we can accomplish, the more we are bringing down that high-12s. There’s a lot of opportunity for sale with our occupancy expense and it happens a little faster in those markets than it does in the bigger markets. New York is a totally different analysis completely, but…

Melissa Reiff

I mean it goes back to how we model and think about our new store. We have a proven track record of going in and predicting that stores volume and then building the staffing and the entire model around that, so that those stores are pro forma, to be able to achieve at lease at the company average we spoke off for adjusted EBITDA and what we have seen in these markets pretty consistently these stores are exceeding what we expected, their pro forma results to be, so that they are performing even better.

So there’s a range of course in volumes Matt. Its not necessarily just one single point of volume in our openings. It varies depending of course on the market place, but we are adjusting that entire P&L for that individual store, so that we can attain consistent bottom line profitability or relatively consistent bottom line profitability by location.

Kip Tindell

So we’re getting first year four wall EBITDA approach the mid-20s, first year in that and it might take a little bit longer in the Chicago’s and the Los Angeles’s to reach that level.

Matt Nemer - Wells Fargo

Okay, that’s very helpful. And then secondly for the 30 stores that were in better weather markets, the comps over 4%, I assume that there were a number of stores in that set that were in Californian and maybe Texas and I’m wondering if you think that growth initiatives like POP! and Elfa and ATHOME are helping to drive that number to four or if that’s more of a base line number.

Jodi Taylor

It’s a great question, and you are sure right. Those are the regions of the country that were less impacted by weather and frankly because of that it makes analyzing the POP! data in the fourth quarter really challenging, because you can’t attribute the list you see solely over the rest of the chain due to POP! You certainly have to take into consideration the weather.

Melissa Reiff

Evaluate it independently.

Jodi Taylor

Yes, you do. That’s a great question and I think at this point we would say as far as our performance we saw in those stores, in those areas, it wasn’t necessarily anything initiative specifically driven. I think it should be everything we are doing day-to-day in the business, because if you think about it the ATHOME program is currently only testing in the Dallas metro products.

Melissa Reiff

And Florida, we didn’t have ATHOME, so yeah.

Jodi Taylor

So yes, I would say its just everything kind of mixed together. Its not only one specific thing to attribute it to.

Matt Nemer - Wells Fargo

Okay, that’s fair and then just lastly and I’ll let somebody else hop-on. For ATHOME, even though that’s a test in one market, I’d love to know, it sounds like the average tickets are very high, but I assume its also extremely labor intensive sale. What do you think the overall profitability of that business looks like long term? Obviously the dollar profits are very big, but will the parentage profits be above or below average longer term?

Jodi Taylor

That’s been one of our reasons for testing this so carefully before we rolled it out Matt. Frankly, trying to figure out sort of the right business model that makes sense, because on the things that we learnt and we determined worked best is to located sort of the best professional organizers in each of these market places and to use them on a different basis, not as an employee, but rather these are folks that are independently running their own businesses and of course contractually protecting us all the way we need to, but then paying a commission, so that it gives us a lot of variability to the business model and of course the whole purpose of the program is not only obviously happy, happy customers but is to somewhat contain or sell product, that we want to sell more of our product and to be profitable. We worked this hard before rolling out to feel confident that it is a profitable business model.

Kip Tindell

It goes against our personality a little bit actually, but there are professional organizers in every city in America, many, many of them and they are wonderful and The Container Store is already their primary resource. So they are already very tired into doing business with us and so not to use that labor pool, that expertise is just silly and we feel even though its unlike us to do it that, we feel that really boosts the profitability of this thing to even much higher levels, because you don’t have that infrastructure cost. You are just paying a commission to somebody who’s already an expert on it.

Melissa Reiff

And of course like installation. Our ATHOME organizers that we’ve already identified in the Dallas, Fort Worth area and we’ve already identified the Huston and Austin markets and we are working on Manhattan right now. These are entrepreneurs and they are delighted to be partnering with us and they will go through the typical training that we do for our employees and it’s a great program. So we have tones of confidence that its going to be very, very, very successful.

Matt Nemer - Wells Fargo

I’m very sad that San Francisco is not on the initial list. So be disorganized until you roll it out here, so please jot that.

Melissa Reiff

San Diego is out cost in the fall if that helps.

Matt Nemer - Wells Fargo

Closer. Thanks so much.

Kip Tindell

Thanks.

Operator

Thank you. Our next question comes from the line of Allen Rifkin with Barclays. Please proceed with your question.

Alan Rifkin - Barclays Capital

Thank you very much. Kip, does your acceleration in square footage growth from 10 to 12 imply a greater terminal number of stores that you believe you could have in the U.S. or are we simply getting to the same number, but a little bit quicker.

Kip Tindell

Well, I mean its already what quadruple or quintuple. So at some point you just say well, that 300 number is about – for me that indicates a lot of runway there and so we will see what the ultimate amount is and its going from 10 minimum, to 12 minimum. We have operationally, human resource. We’re kind of hopping for continued better macro economic environment and continued more and more retail real-estate development, which results in more and more turnkey opportunity for us and with the same finite amount of CapEx. Most of our CapEx goes to new store development.

We can obviously open more stores with the same CapEx dollars and a more robust real-estate development, more turnkey real-estate development. So we are, operationally well within our wheelhouse we feel like here and we’re kind of waiting of those factors to help us grow even faster. Does that make sense?

Alan Rifkin - Barclays Capital

Yes, certainly it does and along the lines of your guidance on the SG&A line, going from 48% presently to the mid-40% long term. Should we think of that more as a result structurally or just you folks getting larger and larger or is that improvement in SG&A more so predicated on putting up a higher comp.

Melissa Reiff

That is actually more thinking of us in terms of scale. That’s really a scale discussion and that’s the main driver Alan.

Kip Tindell

Yes, I mean we are not even quite to a $1 billion. We’ve seen the difference throughout our history to scale and that’s why we are excited about going from 10 minimum to 12 minimum. I mean it plays right in hand with that.

Alan Rifkin - Barclays Capital

Okay, and one last question if I may, I think to Jodi probably. With respect to the valuation allowance, can you quantify how much is still remaining and would it be correct on our part to assume that that valuation allowance will not be exercised in Q1 since it’s a loss, since you are projecting a loss in the quarter.

Jodi Taylor

Alan we have taken all of the valuation allowance that we anticipate. There is not anything additional coming in 2015 or 2014 at this point. So we cleared those to the degree we planned to.

Alan Rifkin - Barclays Capital

Got you. Thank you very much.

Jodi Taylor

Your welcome.

Operator

Thank you. Our next question comes from the line of Denise Chai with Bank of America. Please proceed with your question.

Denise Chai - Bank of America

Okay, thank you. So looking longer term, Kip you talked about applied to your gross margin and AG&A. I mean as Alan just referenced, SG&A declining as a percentage of sales as he gain scale. I know we’ve reached your square footage target to at lease 12%. So how should we think about the previous long-term targets that you gave your IPO of a 2% to 4% comp, adjusted EBITDA margin of over 13% and 20% to 25% net income growth. So I’m just wondering, does your accelerated square footage growth can change your algorithm if you will?

Melissa Reiff

Well, I think Denise, right now we are not planning to change that at this juncture. So its not changing anything beyond what we’ve already stated.

Kip Tindell

We are not saying at lease.

Denise Chai - Bank of America

Okay, for the quarter could you break out the currency impact compared to the promotional impact on TCS retail gross margin and will any of that currency impact kind of linger into the first quarter.

Kip Tindell

I’ll let Jodi answer that, but be careful, because the industry experiences such gigantic discounting this holiday season and this was relatively minor. You know you had not just the calendar, but you have the weather and the calendar, which ran we into the three most important weekends. So we got into, very unusually, a little bit of gift-wrap and stocking stuffer promotion late in the season, but nothing like what the industry as a whole. It is still primarily – well go ahead Jodi, why don’t you break it apart?

Jodi Taylor

Yes Denise, the majority of the explanation is FX. We have the benefit last year of some really nice contracts that we had done on a forward basis for purchases of our inventory and so, the rate that we realized for SEK in our cost of goods last year was quite a bit higher than what we were able to achieve for this year when did not have the benefit of those contracts and as you are well aware, well if you track it, the Swedish krona versus the dollar had in fact weakened. So its very much an FX story. Much smaller degree, the markdown discussion.

Denise Chai - Bank of America

Okay, got it, thank you. And how should we think about the first quarter? Did you still have those contracts bought in the first quarter of last year?

Jodi Taylor

You know we’re thinking, no we did – you know, that’s a great question and I need to double-check that for you before I speak. But I can tell you that as it relates to fiscal ’14, we do believe that the comparisons will be more challenging perhaps in the beginning part of the year, but we are absolutely expecting based on everything we know to see some strengthening in the dollar versus the Swedish krona as the year proceeds. So that is somewhat build into the guidance.

Kip Tindell

Most outside forecast are for the dollars, but we don’t control the dollar against the krona anymore than we control weather. We are happy to see the forecasts that are out there and that would tend to say that most people would think that that was coming in.

Denise Chai - Bank of America

Okay. Thanks so much.

Operator

Thank you. That is all the time we have allotted for questions. I would like to turn the floor back over to management for closing comments.

Kip Tindell

Well, thank you all. We are really genuinely very thrilled and inspired about the balance of opportunities and work ahead of us. Never more so as a matter of fact with an incredibly and extremely long runway to go. We have the best employees around, the best management team around and we certainly believe the best culture to deliver all that we are seeing our to accomplish and we never been more committed to successfully executing these remarkable opportunities. The best is yet to come. I want to thank everyone for joining us today and for your support of The Container Store. Thank you.

Melissa Reiff

Thanks everyone.

Jodi Taylor

Thanks everyone.

Operator

Thank you. This concludes today’s teleconference. You may disconnect your lines at this time and thank you for your participation.

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