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Executives

Farooq Kathwari - Chairman, President & CEO

David Callen - VP of Finance & Treasurer

Analysts

Robert Higginbotham - Goldman Sachs

John Baugh - Stifel Nicolaus

Brad Thomas - KeyBanc Capital

Budd Bugatch - Raymond James

Joe Feldman - Telsey Advisory Group

Joel Havard - Hilliard Lyons

Presentation

Operator

Mr. Callen, you may begin.

David Callen

Thank you Nikki, good morning and welcome to the Investor And Analyst Call for the Fourth Quarter Ended June 30, 2010 for Ethan Allen Interiors Inc. I am David Callen, Vice President of Finance and Treasurer, and joining Mr. Farooq Kathwari, our Chairman, President and CEO, in this quarterly discussion. After I read a few administrative notes, Farooq will provide his opening remarks. I will then review some of the important financial highlights from the quarter and fiscal year. Then Farooq will close our prepared remarks with a detailed review of the business initiatives of the company and then open the phone lines for questions.

Please note that in the earnings release and in the course of our prepared remarks, reference has been made to certain non-GAAP information, which excludes the effect of restructuring impairments, transition charges and unusual income and tax impacts in the reported periods.

A reconciliation of this non-GAAP information to the most directly comparable GAAP measure was provided with the tables attached to the press release. As a reminder, comments from this call should be considered in conjunction with the company's reports filed with the SEC.

Any forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking comments reflect management's current best judgment and are subject to various assumptions, risks and uncertainties.

Actual future events or results could differ materially from those contemplated in the forward-looking statements. The company assumes no obligation to update or provide revision to any forward-looking statements at any time, for any reason.

Now to Farooq Kathwari for his opening remarks.

Farooq Kathwari

Yeah thank you David. And also thank you for participating in the earnings call. As you note, we had a good quarter, we continue to focus on our eight strategic priorities. The first seven focus on continuing to strengthen important aspects of our vertically intergraded structure, the eight and the last priority is to have strong financial results.

I believe, as we continue to improve the first seven priorities we will end with decent financial performance as well. During the quarter, our delivered sales increase by 17.8%, our retail division retail sales increase by 18.5%, our return or booked orders for the retail division were 23.5% with comparable return up 31.3%, our liquidity improved with cash and investments of 102.2 million as on June 30, 2010 compared to 53 million as of June 30, 2009.

Dave will provide more detailed financial information and after that I will discuss our strategic initiatives and also comment on the business prospects as we see them today.

Also while keeping in real that it is very hard to make future predications in these uncertain economic environment.

And with that back to Dave.

David Callen

Thank you Farooq. Net sales for the quarter were $163.3 million, up 17.8% from the prior year quarter. Our retail segment reported net delivered sales of $121.2 million up 18.5% versus the prior year quarter and comparable design in our net sales increased 25.2%, return ordered book in retail increased 23.5%, with comparable design center return sales up 31.3% versus the prior year quarter. The difference there largely attributable to having 14 fewer retail division design centers in this year end versus last.

Wholesale net delivered sales were $100.1 million up 17.5%, compared with the prior year quarter.

Consolidated gross margin for the quarter was 49.5%, compared to 48.7% in the prior year quarter, as we have previously discussed, we continued to incur some transition charges related to book our growth plan and for the ramping up of production and the convergent to custom case goods during the quarter.

These costs totaled $1.2 million or about $0.03 per diluted share, excluding these costs, our consolidated growth margin would have been 50.3% in the quarter.

We expect transition cost in our first quarter of fiscal 2011 to be about above half of what we have in this quarter as we began to offset those cost with improved yield over the coming quarters.

Pretax income reported for the quarter was $11.6 million, compared to a pretax loss of $23 million, in the prior year quarter. The current year quarter included a net benefit of $4.3 million, primarily from a change to our design commission plan that benefited the results by $5.2 million.

The US GAAP reconciliation table attached to the press release show the break up of these charges between the segments. A majority of the wholesale items affected cost of sales, and the retail items affected operating expenses.

Excluding these benefits, and the restructuring, impairment and related transition charges, the profit before tax would be $7.3 million, compared with a pretax loss on a comparable basis last year of $10.1 million.

With the conclusion of our fourth fiscal quarter, the company had a cumulative three year pretax loss. And as a result concluded that it was prudent to record valuation allowances against the deferred tax assets.

This resulted in a $34 million of tax expense charges in the quarter, these non-cash reserves may reverse in future quarters, resulting in tax benefits that will cause fluctuations from a normalized tax rate of between 36.5% and 37%.

When adjusted for the items noted above in both periods, the earning per diluted share for the quarter was $0.16, compared to a diluted loss per share of $0.23 the prior year, demonstrated the positive drop through from the 17.8% increase in net sales and the lower cost structure.

Net sales this fiscal year were $590.1 million, compared with $674.3 million last year.

The retail divisions net sales were $438.5 million this year, compared with $508.6 million last year.

Wholesale net sales were $362.5 million, versus $403.4 million last year.

Consolidated gross margin this fiscal year was 47.5%, versus 51.5% in the prior year, including effects of lower manufacturing volumes, consolidation actions and transition cost for last 18 months.

Operating expense after adjusting for the special items previously discussed in both periods was 50% of net sales this year versus over 51% of net sales last year, again showing the impact from cost reduction efforts despite the 12.5% decline in net sales year-over-year.

Excluding restructuring impairments, transition charges, commission plan impacts and unusual tax items in both years, the diluted loss per share for fiscal 2010 worth $0.15 versus the $0.16 loss per share the prior year when revenues were 12.5% higher.

Our total cash and investment as Farooq mentioned was $102.2 million at the end of fiscal 2010 a 93% increase from last year, demonstrating a disciplined working capital management employed by the company.

Inventories were reduced $22.4 or 14.4%, especially meaningful when you remember that near a half of our inventory is display product on the floor of our retail design centers.

During the year, we realized $13.2 million from the sale of properties and re-invested $9.9 million in capital expansions. We’ve also paid $5.8 million in dividends to our shareholders year-to-date. At the end of June and beginning of July, we purchased in the open market 387,000 shares of our stock for $5.4 million, leaving us with a remaining authorization for the purchase of approximately 1.2 million shares.

With our increased cash position and continued availability of the 16 million revolver, we believe that liquidity and balance sheet of the company are well positioned for us to execute against our business initiatives and strategies going forward.

Now back to Farooq, for detailed comments on business initiatives.

Farooq Kathwari

Thank you Dave I will provide a very brief update. Then open it up for your comments and questions. Our first priority as I have been discussing for some time is to continue to develop a strong network of interior design associates. This [great] recession has given us an opportunity to add strong professionals during the quarter, the first quarter we added 52 very qualified interior design professionals to the retail division, our licensees also have been adding to their staffs.

We also continue to make progress in attracting to our IDA that is the Independent Designer Affiliate program as of June 30, we have 1300 associates, 350 added in the fourth quarter, our next priority has been to build an affective marketing program to drive more traffic into our design centers.

During the fourth quarter, we continued a strong advertising program including national television, direct mail, print. The digital media continues to be an important and growing medium. We continue to invest in developing a strong websites we are utilizing electronic magazines.

Now also in the beginning of July, we implemented a price increase averaging 7%, at the same time when we implemented this price increase, we offered a unique savings offering which is currently ongoing under the umbrella of two ways to save, 10%percent savings on the total purchase or a 24 month no interest offering, these have been well received by our associates and customers.

The great recession also gave us an opportunity to improve our product programs in diversity of products, in improving quality and also migrating the custom in domestic (inaudible). During July, we had a retail conference here in Danbury, where we introduced a very focused products and product program which are being delivered to our network by end of this month.

Our next priority has been to strengthen our design centers. As on June 30, 2010 we had 281 design centers with the company operated 145 and independent 136. As of June 30 2009, we had 293 design centers with 159 company operated and 134 operated by independence. And as you will note we closed and consolidated several retail division design centers during the year.

During the last decade, we have made major investments in repositioning and relocating the retail division design centers, as well as by our licensees, as we have relocated design centers to prominent locations in several markets, we had design centers that were trading dollars, one of the main reason our comparable return sales in the retail division increased at the level they have is due to these consolidations and it was because of that we also, did not mentioned that in our pre press release because I think you have to keep in perspective that comparable returns in our retail division, also reflects its consolidation of our design centers and our existing design centers got the business.

Today our retail network is much stronger, and as I said during the last ten years we have made major capital expenditures in relocating our design centers, in fact 60% of the company retail division and in fact very close to our independence are relocated in the last 10 or 15 years, we expended a great deal of capital expenditures.

For instance our fiscal 2008, our capital expenditures were $63 million, and the good news was that we had completed most of those relocation by that time. Some will continue, but most has been done. In 2009, we spent $23 million in capital expenditures, again mostly on retail in 2010. The fiscal year just ended, we spent 7.6 million and 2011 we’ll spend about $12 million or $15 million in capital expenditures.

Our next priority is sourcing both the United States and offshore today is in a much better shape.

We have made major progress in reposting our North American manufacturing. Currently 70% of our products are produced in our north American facilities, I would say 70% of our sales for our products that are produced in our North American facilities and also adding the domestic source products like carpeting and other products which amounts of our 6% so approximately 76% of our products are made in North America and 23% is sourced offshore.

During the quarter ended June 30, we had no down time, our associates are working 40 hours. As Dave said we have reduced our transition costs and as he said last quarter they were 1.2 million from 2.1 million, and we believe that will go down another 50% in this first quarter of fiscal 2011.

Our domestic case goods is now 100% custom, this was a major, major understating and keep in mind last year at this time we had just started the process. Our next priority has been to continue to invest in technology, both at manufacturing, logistics and retail, and I am very, very glad that we have done that because it is making us look efficient right across the many elements of our business.

And now just comments on business prospects, and as I said earlier its hard to make forecast in these uncertain economics environment, however I will share my thoughts with you. We have strong offerings, a strong and moderated network of licensing and associates, we are offering unique savings and a very strong marketing program, .We expect to continue to get market share in the product, we expect to gain market share in the product and price categories of our purpose.

Our last savings event ended June 30th and was extremely strong, first two weeks of July were slower due to many factors including a strong ending to June, and across the country we also have hearing that more families are taking time off this year compared to last year, we have less urgency at our savings event end September 6, so there is not same kind of urgency as we have and of course that will keep in mind the uncertain economic environment.

Now having said all of this, we have a very strong marketing campaign this quarter. We are increasing our advertising by about 35% this quarter compared to the depressed levels of the first quarter of last year.

Now due to our saving’s calendar, we do tend to get most of the recent business towards the end of these events which is the end of August, beginning of September and in September we have a very strong marketing program which we believe is going to make a strong difference in adding traffic into our design centers.

Now we are also planning to have an investor conference around the middle of September where we will have an opportunity to reveal our new product programs, the change we have made to our design centers into our technology and also there is a very strong marketing program that I mentioned.

With that, I would like to open it up for any questions and comments that you might have.

Question-and-Answer Session

Ethan Allen Interiors Inc. (ETH) F4Q10 (Qtr End 06/30/10) Earnings Call Transcript August 5, 2010 11:00 AM ET

Operator

(Operator Insrtuctions). And our first question comes from Robert Higginbotham - Goldman Sachs. Your line is open.

Robert Higginbotham - Goldman Sachs

I wanted to talk a little bit about your gross margins I am honestly a bit surprised want to a bit surprise they were only of 160 basis points, given the down over 500 basis points compared since last year well you have had some meaningful declines in downtime and you said you are currently at zero and last year around 50% kind of level so you clearly had some benefit on the just absorbed overhead component of gross margin so, it sounded if couple of things are going on either one you are more promotional than I gave you credit for or your initial mark ups are low I am just kind of wondering if you can asses that what the drivers?

Farooq Kathwari

Robert any positive question or all are negatives?

Robert Higginbotham - Goldman Sachs

Only trying to get through you.

Farooq Kathwari

Alright I’ll get to you but okay. You know our gross margins are impacted by a lot of factors, they are impacted by the factors that our domestic case goods in converting it to custom and maintaining, [United States] and then gearing them up by 40, we actually geared them up by 40% in the last six months. When you do all of those things it does have an impact on the gross margins. Our domestic case goods have been operating at almost a breakeven gross margin due to these consolidations.

Second, as volume [is valid] has increased we are still operating about 40% lower than where we were at 2008. We have made progress I am talking of the year-to-year. Now even though we have increased by 18% in this fiscal in this fourth quarter, we are still down about 35% if you compare it to the highs of 2007, ‘08.

Our retail division is now operating also with savings which we have on everyday best price and that also had an impact on our margins. I believe that that’s one of the reasons which we have taken a price increase so that when we give a saving to consumers if we are that at least we have an opportunity to give a saving all of these factors had an impact on our gross margin. The good news is that as we become more efficient in our manufacturing which we are, and as our volume increases we have a leverage of improving our gross margins. As they mentioned we are approximately at 50% or so which is still pretty decent.

Robert Higginbotham - Goldman Sachs

Okay, that’s helpful so how should we think about the trajectory of kind of working out some of those current inefficiencies disruptions if you will that you have seen after the plan consolidation is that a long tail to that or are you is that kind of more in the near term offering?

Farooq Kathwari

Robert I think that we have the opportunities of continuing to improve it, as our now that also depends upon our continued increase in sales, continued increase or at least maintaining the manufacturing operation that we have, so there is lot of certain things, but as business continues to improve, we have the opportunity of leveraging and increasing out gross margins.

Robert Higginbotham - Goldman Sachs

Okay, and one last question on sales, you guys seems to pretty meaningfully be bucking the trend I mean when you look at the rest of the world [derivable] has clearly slowed down, while you guys why’d you slope for a brief moment in time seem to be re accelerating, I mean what do you feel is driving that I mean? It doesn’t feel it was you are being incrementally promotional although I know you are in a clean appropriately so probably and is you would what do you think is really driving your differentiated performance?

Farooq Kathwari

I would say that maintaining our network in this very tough economic environment, we have maintained our retail network even though we have closed our design center as I meant but they were done strategically so that we were not trading dollars. We have maintained, the core of our associates in the retail network are professionals. We have also offered big savings as you know that we were offering everyday best price and we got caught in to a situation that consumer said no everyday best price is not good enough we want savings also. And also finally, I think that even though we have done very well we are also comparing to numbers depressed numbers of last year.

Operator

Your next question comes from John Baugh from Stifel Nicolaus. Your line is open.

John Baugh - Stifel Nicolaus

What is due to the sales commission mark us through the what you did in the rationale?

Farooq Kathwari

Yes John, in 2007 and 2008, we worked towards creating a king concept in some of our independence troop, but of course we implemented in the retail division. And that’s what we did at that time was we gave our associates interior designers a base salary which represented 75% of what they were doing in the previous year, and then after that it was based on their getting a bonus.

Now in 2009, that the base of the 75% was working against us and we were the whole of 2000 fiscal 2000, most of fiscal 2009 we felt that we have to go back to getting people on commissions because of the fact that to be more entrepreneurial it would also give us an opportunity of creating a very well cost, but we did not do it for six or eight months because right in the worst of that recession taking it all would have given a very bad signal.

So it cost us fair amount of money, but we felt that we had to maintain our network and that goes back to Robert’s question of why our business has increased? We paid the price of maintaining our people, and this early this year when we saw that business was improving, I said this is the time to put them back in to commissions and they appreciated it, because we have somewhat of a we had to reduce the design staff maintain a very strong network of designers and they like to be entrepreneurial, and I think that is also reflected in the business we are getting John.

John Baugh - Stifel Nicolaus

So the drop I think you mentioned a $5 million benefit is comparing the June quarter was this new commission structure in place in the June quarter fully and I guess that’s reflecting depended on that 75% base a reduction that’s the right way to think about it?

Farooq Kathwari

John what you have got to think of is this that when you are on a commission, we pay people on written, but book it when their product is delivered. So when you write more than you deliver you accrue those commissions and in the past, when we had the salary, we paid it. So the difference here was that we had the benefit of writing the business in the past we would have expensed it, this time we accrued it, so that then we would deliver it, it would be charged. Dave is that right?

David Callen

That’s right exactly

John Baugh - Stifel Nicolaus

So that means that the commission rate will come back up when we compare September to September somewhat?

Farooq Kathwari

No I think it will just even out I think by this first quarter I think most right Dave it will just even out, this is one quarter when the change took place, we had to do it but after this it evens out.

John Baugh - Stifel Nicolaus

Okay and then, just unclear you are taking your pricing up 7% across the entire product line then you are you have got a promotion currently running through September 6, where everything in the product line is a 10% off and then I presume that September 7th we are back to the full price and then you mentioned some kind of plan for September I assume your are seeing that could a create a loan business going back to the full price to have on light and any color on what’s you are planning to do post the sale event expiry?

Farooq Kathwari

The time difference between September 6th ending and the next one starting will be two or three days, so we won’t have we will still have to offer what we are doing is just we are offering some very interesting unique opportunities to sale, but we have got to keep on doing that John and we will do that from you know right up to two or three days our next event will start.

John Baugh - Stifel Nicolaus

Okay and I was right that this is the whole product line we are talking about were the 7% increase and then the 10% discounting?

Farooq Kathwari

Yeah, just keep in mind that 7% was average some products we increased some what more, some we did not increase, we merchandize, but it averages out seven, but the 10% is across the board reduction.

Operator

And our next question comes from Brad Thomas from KeyBanc Capital. Your line is open.

Brad Thomas - KeyBanc Capital

I just want to follow up on your network of professionals and the IDA program and the commercial business that you're working to grow. Could you help quantify at all what benefit you're seeing at this point to sales from these programs?

Farooq Kathwari

Obviously, the first and the most important one is adding professionals to the in-house interior designers. And that, of course, reflects in the increase of business that you are seeing due to the fact of maintaining a strong network. Of course, the people that we are adding, we will continue to see the benefit of that as we go forward.

The IDA, the benefit of those are that we do have, and we have not disclosed the sales, but it is a reasonable amount of sales that we are bringing in, these 1,300 affiliates. And as you know, the program is that they come in and they are partnered with an in-house designer. They work together and we compensate both for the work that they do.

So they have an incentive of bringing in people. We have a [marking] program and it's building. And we are very pleased with it and we are going to continue building that, because they bring in incremental business and they are at the grassroots level, and they are also in many, many markets where we are not. So it sort of gives us an opportunity to expand our reach.

And as I said, it is growing and I think it is going to be a good business. And the other thing is that some of the people who come as these independents, we also have an opportunity of seeing them. And many of them, in fact, have joined us for time two when we are looking to add people.

Brad Thomas - KeyBanc Capital

Okay, great. And then, a follow-up on the price increase. Could you maybe talk a little bit about what you're seeing from a sourcing and an input cost standpoint? Is this price increase supposed to offset something that you're seeing from a price pressure standpoint or could it more than offset that? How should we think about those two sides of the equation?

Farooq Kathwari

Brad, we have actually in the last few years worked hard to reduce our prices. We have not increased our prices. In fact, we have reduced them because of making our products more affordable, both in terms of upholstery, in terms of case goods. And then, on top of it, we have gotten given this savings.

In the near-term, this is the last quarter, domestically, we did not see a price increase in raw materials. Our energy costs based on our volume was up about 5%. Our energy costs were somewhat similar to what they were last year, but on volume related basis they were up 5%. Overseas, there is a pressure of increasing costs, both in terms of, we had to take some price increases overseas in the last few months.

And then on top of it, the transportation costs are increasing. As you know, there is even a shortage of containers, so you really have to work hard to get containers and then pay a higher price. But as that is 24% of our sourcing, we are somewhat less affected.

Brad Thomas - KeyBanc Capital

Okay, great. And then, as we think about the potential for profitability in the coming fiscal year, in the past you all have been very helpful at outlining different operating income and net income levels with different sales levels. Is there anything that's changed in the last quarter as you look at the sales trajectory, the mix of the business, as we think about the price increase and some of the perhaps input costs going up? Is there anything that's changed from a positive or a negative standpoint as you look at profitability potential?

Farooq Kathwari

I think at this stage, those models that we have developed at 700, 800 billion, and to see what the impact would be, I think that those are good models to use. Obviously, at this stage, I don't see anything negative. We're trying hard to make it better, but I think those are good operating models.

Operator

Your next question comes from Budd Bugatch from Raymond James. Your line is open.

Budd Bugatch - Raymond James

As you have moved to custom case goods, can you talk about now the progress of cycle time, where you are on delivering and what your ultimate goal is?

Farooq Kathwari

Yes. Budd, as you know now, domestically we are 100% custom on upholstery and case goods. At this stage our lead time is between six to eight weeks in upholstery and approximately six to nine weeks in case goods. Because the good news has been that in the last six months, as you know, our business has increased 18%.

Not only the last six months, last three months, last 18 months. That has given us an opportunity to increase our capacities in both of Vermont and North Carolina. So they have got decent backlogs, and longer term our objective is to maintain an average of about a six-week lead time on custom products. And we are not that far off on it right now, Budd.

Budd Bugatch - Raymond James

And the efficiencies that you're seeing in the plant, I would imagine they would be increasing kind of week-by-week or maybe month-by-month, however you measure it?

Farooq Kathwari

It is. One of the biggest challenges in case goods was, as you know, it's a 80-year old paradigm we are changing. A number of challenges we had, one challenge was basically the set of time of equipments in case goods. And as you know, that in fact, it has been taking us more time to set up than make the product. But we are learning to make it better. We are looking at how to improve our efficiencies, and every week it is getting better.

We are higher actually, as you most probably might have read. Yesterday, the governor of North Carolina and I, we made an announcement that we are expanding more people in our North Carolina and Pine Valley case goods plant. So they are participating with us on that. So I'm glad to see that after many years, Budd that our people are working full-time, both in North Carolina and Vermont.

Budd Bugatch - Raymond James

And full-time is a 40-hour week or is it a 44-hour week? Are you having any over time at all?

Farooq Kathwari

There is some overtime in bottleneck areas. But generally, it's 40 hours with overtime in bottleneck areas.

Budd Bugatch - Raymond James

I see, okay. I think you put out a release a couple of weeks ago on a contract program. Could you talk a little bit about what you're doing there? I may have missed it because I got interrupted on some part of the call.

Farooq Kathwari

Yes. We have been working on it for the last year or so. And as you know, Dan Grow had joined us last year and he has been working diligently in terms of developing the right tools for us to work in the contract area. Our first initial contract is to help our retail network and their designers work on projects that they can do. We're also working on some national accounts where we have hired an outside company for us to work with national accounts.

Our ability now is much greater with customization because, as you know, in contracts they require different fetishes. They require different specs of times. Before it was very hard for us to do it, now we can do it. And so, at this stage, we're doing it at a step at a time. We are not rushing into this. It has its own contract websites. If you get an opportunity, you may want to look at it.

We have our contract catalog, and I'll ask Dave to send it to all of you so that you can take a look at it. So we are now working with our design network. And as we go forward, we will most probably have a specialist in our design centers, whose focus would be to develop on the contract, as we have a specialist in soft goods. So that's how we are proceeding with it.

Budd Bugatch - Raymond James

Any way for us to quantify the market opportunity that might be there?

Farooq Kathwari

As you know, the numbers are big, huge numbers when you look at contract. But I think, let us get a perspective of it. And I think in the next six months or so we'll have a better idea where we are, and certainly we'll share with you.

Budd Bugatch - Raymond James

Okay. And I think in relation to John's question earlier, talking about the promotional calendar and what you're doing in September, and I think you said you were going to be much more active towards the balance of the year, maybe in the future, which is from my standpoint a welcome change. Can you talk about maybe the philosophy of promotion going forward, how you look at that and what the cadence might be?

Farooq Kathwari

Yes. Budd, we have been looking at every, [Christ's grace], an opportunity. And this last year we said we have an opportunity of gaining market share. But to do that, we have to get the message across that Ethan Allen is aspirational but it's also attainable to more people. Now, our current advertising has been well received, but in September you will see even a new attitude in our advertising. And we have now completed it.

We have retained an outside national advertising agency to help us. As you know, we run our own advertising but it's good to always get perspectives from the outside. And we are going to launch television, direct mail, digital prints next month. And I think it's going to be well received. Our whole network was here about two weeks back and they liked what we saw.

Now to do this, we've got to spend more money. I had said this quarter, we have decided to increase our advertising in the company, invest in national advertising and the retail division by 35% more than what we spent this first quarter of last fiscal year. Now, it's a vicious cycle. If you don't invest, if I don't increase our production, we won't be able to deliver it. Last year in December, I got together with our associates and said, let's increase our case goods by 40% or 50%.

If we had not done it with the kind of increases we have had, we would be in a big, big trouble. So we are taking some risks, but on the other hand we are also watching the economic environment. If for some reason the economy is bad, we'll have to pull back. But right now, very cautiously we are going to increase our advertising. We are adding people.

And the good news on the design center side is that a lot of those we had already done, but a few we will do too. We are also very fortunate that one of our biggest growth last year was China. There are 40 now stores in China and they actually have done very, very well. And in fact, 60% of the products they're selling in China are made in our US plants.

Budd Bugatch - Raymond James

Okay. And the last question is one kind of detail, maybe if you'll quantify or talk a little bit directionally about what you're seeing in traffic and average ticket. You obviously had 31% comp store written sales in the company comp stores. What are you seeing in terms of average ticket and what is the composition of that increase?

Farooq Kathwari

In the last year, our average ticket has increased. But like everything else, one has to go behind the numbers. And interesting thing has happened in the last year and the recession has done it. The average age of people buying from us has gone up. For instance, age 46 and up for the last six months is up to 68% from 59% in 2007.

If we look at our age, our income, people making 150,000 and up has gone to 40% of our clients from 25% in 2007. Now it's good news because we are increasing our market share with folks who got the money, who are somewhat 45 and up. And that has resulted in also higher ticket. But of course, our challenge now is to make sure that as we move forward we expand our reach to more people, at both end of the spectrum.

Obviously, we are not at the March level but our advertising, while maintaining the aspirational value, you will see, Budd, is going to reach people, say, 35 and up. We can't get to a lot of people in the 20s, but 35 and up, that's what we are doing. Our average ticket is up but there's also reason behind it.

Budd Bugatch - Raymond James

So last question, so at the conference or at the dealer conference a couple weeks ago, did you introduce new product that reinforces that message?

Farooq Kathwari

It does, and those products are going to be delivered, most of them, end of this month to our retail network.

Budd Bugatch - Raymond James

And we'll get to see them, I guess, in September? We will get to see them earlier if they're going to be delivered at the end of this month.

Farooq Kathwari

Yeah, if you go to our design centers where you'll have a full spectrum of what we have, and also, you will see products that we are planning to introduce in fall and early next year, which we also showed to our network.

Operator

And our next question comes from Joe Feldman from Telsey Advisory Group. Your line is open.

Joe Feldman - Telsey Advisory Group

I had a couple of questions for you to follow up. First on SG&A, or total operating expenses, I guess, how should we think about it for the coming year? I guess my question is really are there any costs that you were able to control or cut out in the last year or even the past two years that we should start to think of coming back into the SG&A going forward?

Farooq Kathwari

Yes. As you know, if you keep in mind, in fiscal 2008 our SG&A was $420 million. Now we are running at slightly under $300 million. We did cut out $120 million in SGA and then we also cut down a lot on the cost of goods side. And Robert earlier, from Goldman Sachs, had a good question which was on the gross margin, which is that we did cut all of those, when do we get the benefit.

We will get the benefit as we start getting even more efficient and even more volume in our plants. But on the SGA side, I think that, as I already said, we're going to increase advertising. We are increasing our professionals. So, the way we are adding people, the way of degree are all related to getting more business or producing more products. We are not increasing lot of indirect in any areas of our business.

Joe Feldman - Telsey Advisory Group

Got it, okay. And then, sort of the second part of my question related to the advertising, how should we think about marketing? I guess if you could share like what percentage of sales it was in the past year versus what you expect it to be this coming year. Is it a measurable increase or as a percent of sales it's relatively stable?

Farooq Kathwari

It will be relatively stable somewhat. As I said, we are going to take somewhat more of an aggressive position relatively, a reasonably aggressive position. So it would be slightly higher going forward at this stage, but not too far, because our sales have increased also. In terms of dollars, it will increase as a percentage more or less the same, slightly higher.

Joe Feldman - Telsey Advisory Group

Okay, that's helpful. And then, the last question I wanted to ask and turn it over to somebody else was about stores. And how should we think about your stores for the coming year in terms of openings, closings, and maybe what the goal ultimately is in terms of a longer term store base that you see at this point?

Farooq Kathwari

Joe, our business, as it has migrated more and more in terms of providing interior design solutions, and also combining technology. In fact, we have just completed development of, the whole of last year, a touch screen technology which is now going to be shipped to all our design centers in the next few weeks. We've had it in Danbury.

We've had it in four or five other locations, but that's going to go to all our design centers. End of the day, we want to make our people more efficient. And that, I think you're going to see us have that element across-the-board in our business. And what was the second part of your question?

Joe Feldman - Telsey Advisory Group

The kind of store growth we should expect to see, or more closings, even.

Farooq Kathwari

20 years back we had 300, and now we have 240 or 250 in North America. Our perspective has been that because of the nature of our business, our business is not that of an apparel store or a candy store where the more you open, the more you look at the square footage sales and say, each one is going to give you $700 square foot. Ours is now a service business.

I want to have the right design centers in the country. Look at Manhattan. We used to have three and now we have one. This one, at end of the day, has got to do more than the three. Not right now, but it is actually growing, like another market like Milwaukee. We had three neighborhood stores. Now we have a one major flagship design center.

Same thing we have used in the last 15 years, market-after-market; in other words, having less number of buildings and square footage but having better locations and more people, full-time and also affiliates. So as you go forward, I don't see us increasing a lot of a footprint in major markets.

Now, as we have said in the past, as the economy improves, we have about 60 or 70 very important markets, which are second tier markets, where we need to be and we're going to go there. Our first priority is with independence. We just opened up, in the last few months, a 6,000 square foot in Paducah, Kentucky with our family. And they are doing very well because they also have listed all of our touch screen technology.

And you're going to see that smaller footprint in smaller markets for us. And in some consolidations and markets where we are trading dollars, I'd rather have, if you don't need two stores, I have one. I go out and spend that money on more people and advertising. And that's what you're going to see from us. Some locations like we just opened one in Pittsburgh a few weeks back was a relocation.

We are in the process of building one in Estero, Florida between Naples and Fort Myers. One of our retailers is opening our new design center in Austin, Texas. So we're going to have a few of those coming up. But the main great news is that lot of what we have done has been accomplished. Now, we want to leverage on what we have.

Operator

(Operator Instructions) Your next question comes from Joel Havard from Hilliard Lyons. Your line is open.

Joel Havard - Hilliard Lyons

Most questions have been asked. I wanted to go back and get a couple of pretty specific answers to a couple of those that were addressed thematically. First of all, this may be more Dave. Was there any particular or notable charges from that roster of charges that you cited in the press release that was included in cost of goods specifically?

David Callen

Yeah, Joel, as I mentioned in my prepared remarks, the table that we attached to the press release showed on the wholesale side was that there was an adjustment to the operating income for those special charges. The majority of that was in cost of sales.

Joel Havard - Hilliard Lyons

Okay. On that same vein, and sorry I missed that data point, the dollar impact, if you can give a sense of it, of the deferred compensation or deferred commission issue in Q4.

David Callen

Right, that was $5.2 million.

Joel Havard - Hilliard Lyons

And what's the nature of that as far as bringing it back, catching up in future periods, something along those lines?

David Callen

Well, as Farooq mentioned, it's expected to even out in terms of percentage of net sales going forward. And as also he mentioned, what that is we pay commissions based on written business, and when that product is delivered, then we recognize the expense of the P&L.

Joel Havard - Hilliard Lyons

And this is following up on the comment that you all made on the G&A side. Farooq, I know that you're justifiably proud of having cut so much of this cost out, but are we at what you'd consider sort of a safe baseline? And I believe I've asked you this question in previous quarters and you continue to bring it down a little bit more, but I'm concerned that we're running out of room there, particularly if we're starting to see an inflection on the top line.

Farooq Kathwari

I said this Joel that we are going to strategically spend more money. And we'll to do that because our delivery costs, as you know, we deliver products at one cost nationally to our network and those costs are part of our selling expense. So it's unusual because, as you know, most people in our industry deliver FOB and the retailer pays the cost or, in some cases, they put it in cost of goods.

We have both our delivery expenses both from the wholesale to our dealers or our own retail network and also our delivery expenses from our retail to the consumers' home, all are part of our selling expense. And there's a big number based upon increase in business. So keep that in perspective, in mind, that is a variable expense based on business. The second is advertising. Those are important numbers.

Third is the fact that the more business, our first objective, of course, is to leverage more from the people that we have so that they can get more business and make more money. I want our people to make more money at the retail. But then we're adding people, so that also gives us an opportunity to get more business but, again, relative to sales. I think as our business increases, Joel, you're going to see us increase in operating expenses, and most of it variable.

Joel Havard - Hilliard Lyons

Well, thank you for walking me slowly through that. A couple of other broader questions. With the change that you've undergone on the case goods side with the effort that's underway on the contract side, is there a longer term pressure to increase the working capital commitment to that, or does the custom nature of everything now sort of offset that potential impact?

Farooq Kathwari

No, not much additional capital on that.

Joel Havard - Hilliard Lyons

And lastly, Farooq, I know you all don't share too much detail on the credit side, that being third-party, but can you give us a sense of what's going on at the store level, maybe the proportion of applications that are being rejected now versus six, twelve months ago? Is there anything like that that you could?

Farooq Kathwari

Joel, I've always mentioned that the current party that does the financing for us, and they have a 100 major clients, we are at the top they tell us continuously in terms of our customers based having the least amount of delinquencies. Because of the base of customers that we are dealing and I also mentioned earlier the fact that people with somewhat of a higher income have turned in the last year to be our clients.

So, no, we have not seen any. We watch it very carefully. We do have from time-to-time, people have been rejected but it's not something that is of alarming nature anywhere.

Joel Havard - Hilliard Lyons

Could I summarize that then as your customers' credit trends remain sound and that your third-party provider remains comfortable in servicing that portfolio?

Farooq Kathwari

Yeah, I think you said it better than me. All right, I will take one more question. Is there any questions? Vicky, anything else there?

Operator

(Operator Instructions)

Farooq Kathwari

There is no question. I think we have covered most probably a whole breadth of questions over here. And I would like to thank everybody for participating. And if you have any more questions, please give a call to Dave Callen. So, thanks very much.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the conference and you may now disconnect. Everyone have a wonderful day.

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Source: Ethan Allen Interiors Inc. F4Q10 (Qtr End 06/30/10) Earnings Call Transcript
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