Destination Maternity's (DEST) CEO Anthony Romano on Q1 2016 Results - Earnings Call Transcript

| About: Destination Maternity (DEST)

Destination Maternity Corporation (NASDAQ:DEST)

Q1 2016 Earnings Conference Call

May 26, 2016 09:00 AM ET

Executives

David Courtwright - SVP, Corporate Controller

Anthony Romano - Chief Executive Officer and President

Analysts

Mike Wasserman - Moors & Cabot

Bill Wolfenden - Cottonwood Investments

Steven Rabinowitz - Private Investor

Operator

Good day, ladies and gentlemen, and welcome to the Destination Maternity First Quarter Fiscal 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will be given at that time. As a reminder this conference is being recorded.

I would now like to hand the meeting over to, David Courtwright, Senior Vice President and Corporate Controller. Please go ahead.

David Courtwright

Thank you, operator. Good morning everyone and welcome to Destination Maternity’s first quarter fiscal 2016 earnings call. The earnings release that was disseminated this morning is available on the Investors section of our website. Additionally, we will file our 10-Q with the SEC later today. The earnings release contains definitions of various financial terms, as well as reconciliations of certain non-GAAP financial measures we will be discussing in today’s call.

This call will include certain forward-looking statements within the meanings of the Federal Securities Laws. These statements relate to expectations, beliefs, projections, trends and other matters that are not historical facts and are subject to risks and uncertainties that might affect future events or results. Descriptions of these risks are set forth in the Company’s SEC filings.

Also, I would like to remind you that today’s call cannot be reproduced in any form without the expressed written consent of Destination Maternity.

Joining me on the call today is Anthony Romano, our Chief Executive Officer. Tony will open with an overview of the quarter and the progress we’ve made toward our long-term plan. I will follow with additional commentary on our financial results. Tony, will then provide closing remarks and we will be available to take your questions.

It is now my pleasure to turn the call over to Tony.

Anthony Romano

Thank you, Dave. Good morning, everyone. We appreciate you investing your time with us today. We are pleased to report solid incremental improvement in our earnings performance generating $13.2 million of adjusted EBITDA before other charges in the first quarter of fiscal 2016, a 10.2% increase as compared to $12 million of adjusted EBITDA before other charges in the first quarter of fiscal 2015.

This improvement was on the strength of a 370-basis point improvement in gross margin and 8.2% decrease in SG&A expenses despite an overall sales decline of 12.1%. The sales decline was driven by a comparable sales decline of 5.4% in the first quarter of fiscal 2016 as well as the closure of unproductive and less profitable locations as part of or real-estate optimization strategy including the previously announced exits from our Sears and Gordmans leased businesses, and the first reductions against our wholesale shipments to Kohl’s which will phase out by February 2017.

During the first quarter we continued to see progress in our turnaround. Our inventory management efforts continued to improve with more cohesive assortments, less SKUs and lower overall unit inventories, which allow less promotional and mark-down activities and an approximately 5% increase in average selling prices as compared to last year.

The improvements and mark-downs and the average selling price were the primary drivers of the 370-basis point improvement in gross margin year-over-year. Our gross margin also benefited from the sales mix as we exited lower margin businesses.

Lower expenses driven by proactive expense management were also a key contributor to our improvement as we reduced SG&A by approximately $5.2 million in the first quarter of fiscal 2016 as compared to the prior year first quarter. However, with lower sales we did deleverage SG&A by 200 basis points to 47.2% as compared to 45.2% in the prior year first quarter.

Also, as planned we successfully launched our new allocation system at the end of the first quarter starting with just two merchandize classes, knit tops and pants. We will continue to roll-other classes through the second quarter and expect to see some incremental benefit beginning in the third quarter of this year.

Importantly, we continue to make significant advances with our inventory management disciplines, leveraging the investments we have made in building new tools, establishing new processes and the streamlining of our merchandizing organizational structure in January 2016.

Our overall unit inventory at the end of the first quarter was down 6% compared to last year. Even better, our in-store unit inventory was down approximately 10% as we seek to reduce the SKU breadth to better focus our assortment. We believe there is further in-store unit SKU reduction necessary to achieve our preferred operating vision.

Inventory dollar value was down $3.8 million on a year-over-year but higher than planned as a result of our comp sales mix. While we continue to consistently and systematically reduce our overall and aged inventory, comp sales misses may continue to pressure gross margins and average selling prices.

As we look forward, our mom-to-be remains at the center of everything we do as we work to provide her with the best possible in-store and online customer experience through our industry-specific expertise and personal attention that she won’t find anywhere else.

We continue to generate impressive net promoter scores and on a daily basis receive dozens of personalized positive feedback messages regarding her experience. We will continue our efforts to improve the in-store experience with simplified messaging and promotional events that are easy to understand, simple to execute and generate a call to action.

We are working expeditiously to re-platform our web environment to provide us with better tools, to ensure we meet our pre-pregnancy web experiences. Our growing millennial mom-to-be customer expects a seamless shopping experience regardless of the channel she chooses and experience we currently cannot consistently provide.

Importantly, we will lead with a mobile-first mentality, as more than half of our digital traffic is now driven via mobile devices. We plan to launch our new platform by the end of fiscal 2016.

We anticipate the launch of our new website forum to grow our web sales at a double-digit rate for the next three years starting in fiscal 2017 with an ultimate goal to drive e-commerce business towards 20% of sales with limited cannibalization to our physical stores.

We continue to realize savings from the closure of underperforming stores, the closure of underperforming stores is part of a broader-based real-estate strategy whereby we seek to optimize sales and profit market by market as we analyze the appropriate number of store and lease locations in any given market.

Our strategy in terms of new store opening remains to focus on single-brand, smaller footprint stores where we could take advantage of our market-leading unaided brand awareness and unparalleled specialty retail customer service in concert with strategic mutually beneficial lease partnership relationships which enhance our customer reach and customer experience.

Finally, the cornerstone of our strategy remains to drive profitable sales growth through aggressive management of our inventory both quantitatively and qualitatively. We will continue to refine our assortment with less SKUs, create a better balance of the merchandizing pyramid between fashion and basic styles and improved coordination of outfit building.

All of this to be carefully planned by distribution channel, recognizing uniqueness and special needs based on channel, geography and volume allowing micro-merchandizing execution by our new allocation tool getting the right product to the right place at the right time.

I would like now to turn the call over to Dave Courtwright, Senior Vice President and Corporate Controller to provide you more specifics on our first quarter results. Dave?

David Courtwright

Thanks Tony. We are pleased to report improvement in our gross margin as well as growth in our adjusted EBITDA and GAAP net income during the quarter. We remain focused on strengthening our financial position to support our key strategic initiatives. I will begin my remarks with a review of the income statement.

Net sales for the first quarter fiscal 2016 were $124.4 million, compared with $141.6 million for the first quarter of fiscal 2015. The decrease in sales was primarily due to a decline in comparable sales and to a lesser extent the reduction in lease store sales from exiting Gordmans and approximately half of the Sears locations as well as decreased sales related to our continued efforts to close underperforming stores.

In addition, our revenues from, Kohl’s declined as this license relationship will end by early fiscal 2017. As Tony mentioned, comparable sales for the quarter decreased 5.4% compared to a 1.1% decline in the prior year quarter. The primary drivers of the comparable sales decline were lower transactions and unit sales resulting from lower traffic partially offset by an increase in average selling prices.

The challenging retail environment continued to weigh on results which were exacerbated by poor weather conditions during the period.

Gross margin for the first quarter of fiscal 2016 was 54.1% up 370 basis points over the gross margin for the comparable quarter last year of 50.4%. The improvement was a result of a reduction in price promotion and mark-down activity as a result of better managed inventory and lower levels of excess currencies and aged merchandize.

SG&A decreased 8.2% against the comparable quarter last year. The decline in SG&A dollars reflect expense savings actions resulting in lower marketing and advertising expense, reduced store payroll and savings from our continued closure of under-performing stores and home-office headcount reductions.

Adjusted EBITDA before other charges increased to $13.2 million compared to $12 million a year ago. GAAP net income per share totaled $0.30 for the first quarter of fiscal 2016 compared to net income per share of $0.19 in the first quarter of fiscal 2015.

Adjusted net income per share totaled $0.33 for the current quarter compared to adjusted income per share of $0.27 in the prior year quarter. During the first quarter we incurred pre-tax other charges of $0.7 million or $0.4 million net of tax primarily related to management and organizational changes.

In addition, we had pre-tax expense of $0.6 million from store asset impairments, store closings and other asset disposals.

In the first quarter, we opened two stores and closed eight stores. We ended the quarter with 530 stores.

Our inventory at quarter-end totaled $77.2 million down 4.7% from $81 million at May 02, 2015, the end of our fiscal 2015 first quarter.

Importantly units were down 6% as we continue to right-size our merchandize assortment. Additionally, we are focused on maintaining our financial flexibility in order to execute on our turnaround strategy and position destination maternity or sustained profitable growth.

We ended the quarter with $8.8 million of outstanding borrowings under our credit facility. As a reminder, last quarter we announced a new term loan for $32 million and an extension of our existing $70 million credit line with Wells Fargo through March 25, 2021.

We use substantially all of the proceeds of the term-loan to repay a portion of the borrowings under our credit line.

Moving on to our outlook, our financial guidance for full-year fiscal 2016 is as follows. Comparable sales expected to be flat for the full fiscal year with greater improvement in the second half of fiscal 2016.

Gross margin to increase approximately 200 basis points to 300 basis points year-over-year as inventory productivity initiatives continue to generate more profitable sales. SG&A dollars will continue to decline but slightly deleverage as a percent of sales on a full-year basis.

Capital expenditures to be in the $15 million to $17 million range, driven by investments in systems, infrastructure and modest store growth. We plan to open seven to 10 new stores and close 25 to 35 stores.

In closing, we continue to make progress in inventory management to the benefit of gross margin and expect the investments in our systems and allocation tools to improve our product lifecycle from merchandize buys to distribution, enabling us to more profitably drive sales.

Furthermore, we have improved our financial flexibility and plan to allocate capital toward investment return generating initiatives as we progress toward our goal of sustainable long-term profitability.

Lastly, we remain focused on controlling our expenses as we execute more efficiently, grow leaner business model, leveraging our key brands while driving improvement in sales and bottom-line growth.

With that, I will turn the call back over to Tony for some closing remarks.

Anthony Romano

Thank you, Dave. In summary, we are making progress on the key initiatives of our turnaround strategy. And while our sales trends remain challenged, I am confident that we have the right plan in place to achieve our objective of delivering long-term sustainable profitable growth.

I want to thank all of our team-members and leaders who are dedicated and passionate about providing the best experience to our mom-to-be during this exciting time in her life.

We remain focused on providing her with the fashion and comfort and the channel of our choice and with unparalleled customer service in our store locations.

We continue to work hard and give our best efforts to deliver improved financial performance while implementing tools and processes to establish a strong foundation on which to build for future growth for years to come.

Operator, we’re now available to take some questions.

Question-and-Answer Session

Operator

[Operator Instructions].

Mike Wasserman

Good morning. Could you please tell me, what was the interest expense for the quarter versus the prior quarter and versus the first quarter of last year?

Anthony Romano

Good morning, Mike. Just give me a second.

Mike Wasserman

Okay.

Anthony Romano

So, expense quarter-versus-quarter we were at $0.7 million this year versus $0.4 million in the prior year first quarter.

Mike Wasserman

Okay. And while not a projection, do you have a sense of where you expect to be on your total borrowings at the end of this fiscal year versus currently?

Anthony Romano

Yes. So, when we think about the credit line that we believe we’re going to be generating cash this year given the plan and anticipate that line, the borrowings against that line will continue to increase.

Mike Wasserman

Okay, thank you.

Anthony Romano

You’re welcome. Thank you Mike.

Operator

Thank you. And our next question comes from the line of Bill Wolfenden from Cottonwood Investments.

Bill Wolfenden

Hi, good morning. Just following up on the previous question, so you do anticipate being free cash flow positive for the year?

Anthony Romano

We do, we expect to improve our EBITDA year-over-year. We have less capital investments this year targeting $15 million to $17 million, mostly because the relocations are behind us. And we do plan to be cash flow positive.

Bill Wolfenden

Okay, so the total debt - to the previous caller's question - the total debt, which is currently $51 million you anticipate at the end of the year will be lower than $51 million?

Anthony Romano

That is correct.

Bill Wolfenden

Great. A couple other questions, if I may. What is the revenue impact, please, from exiting Sears, Kohl's, and Gordmans?

Anthony Romano

Yes, so, we typically, because of our contractual commitments we haven’t been able to disclose what the revenue losses specific to that. I will tell you that the comp sales mix is about half of the decline. So it can help you do a little bit of the math but all that other sales losses and that’s really just from those lease locations.

Bill Wolfenden

Great, that is helpful. And your e-commerce goal, I believe you said, was 20%. Can you help us understand what your percentage of e-commerce is today?

Anthony Romano

Yes, currently e-commerce is about 12%. Again, I think we really believe that the millennial likes to shop this way and that’s the tool that we have is that really maximizing the opportunity there. And it’s an ultimate goal, I don’t know that even in three years that we could be a 20% but certainly want to climb to the high-teens, we challenge ourselves can we get the 20% without significantly cannibalizing our store locations.

Bill Wolfenden

And the new JDA system, it sounds like it is rolled out in a couple - I think you said knit tops and pants. Is that system working as you expected, or better or worse? Then secondly, on the new system, what is it that you are doing with the e-commerce? I think you mentioned there was a new platform coming in there, too.

Anthony Romano

Yes. So, while the JDA rollout, we’re pleased with the early returns, it’s really too early to see anything. But the tool is working as designed. We’re using what we’re calling our crawl-walk run mentality so we’re really crawling here in the second quarter rolling out new classes, every couple of weeks. And really expect to see the benefits beginning in the third quarter. But we’re pleased so far everything is behaving as designed and remain to be very encouraged about what that tool can deliver for us.

Relating to e-commerce, we are replatforming, we have done a deal with demand where we’re going to be going to software as a service in that environment. They are very kind of industry best-in-class if you will serving the sweet-spot of company’s our size.

And we’re really excited about the dynamic nature of what we’ll be able to do with that tool that we’re not able to do in our current environment with our home-grown system that’s currently in place.

Bill Wolfenden

Great, and we’ve talked over past calls about the long-term model of double-digit greater than 10% EBITDA margin, which you obviously did in this quarter. Is there anything structurally about the new business going forward without the Kohl's and Sears, etcetera that either reduces that goal or extends it meaning potentially the higher EBITDA margins now that dozen businesses are out of the way?

Anthony Romano

Yes. I know, I think the latter part is where we’re really headed with that. Now, it’s really part of the overall strategy to get more, healthy and more focused on our retail business and compliment it with the other lease locations and those sorts of things. So, I would say it’s the execution of the strategy as we see it.

Bill Wolfenden

Meaning, greater than 10% long-term margins.

Anthony Romano

Yes, sir.

Bill Wolfenden

Great. And then finally, could you update us on the CFO search, please?

Anthony Romano

Sure. We’ve been pleased with the quantity and the quality of candidates that have available to us. And I’ve been busy interviewing. Our goal certainly is at this point in time that before we get to the second quarter that we’ll have an excellent qualified candidate in-seat.

Bill Wolfenden

Thanks very much.

Anthony Romano

Thank you, Bill.

Operator

Thank you. [Operator Instructions]. Our next question comes from the line of Steven Rabinowitz, a private investor.

Steven Rabinowitz

Good morning, my name is Steven Rabinowitz. I have two questions. I like to know whether the guidance presented today has any adjustments built-in from the risk of Zika virus spreading in the direction of the markets that you serve in the U.S.

Anthony Romano

Yes, so we don’t have specific haircuts or anything that we’ve put into the plan relative to the Zika virus. It’s unfortunate something like that we’re not going to be able to see until we have significant hindsight available to us. The good news is, we’re generally tracking an industry levels, when we look our industry traffic, we’re little worse than the first quarter of an industry.

So, we would be looking to see if any of those trends seem to amplify in order to have to make an adjustment but nothing specific to Zika at this point.

Steven Rabinowitz

Okay, thank you. My next question is, some option grants have an early vesting at a price of $15. Could you shed some light how the company arrived at that $15 figure?

Anthony Romano

Steve, I’m not familiar with that. Maybe we could do that call offline if you need some more information. I think if there is any $15 option.

Steven Rabinowitz

Sorry, not $15 million spike options, they are the grants that if the price achieved $15, the trigger in early vesting rather than the normal vesting at the time the grants were made?

Anthony Romano

Yes. Steve, those were old that has expired and no longer exist.

Steven Rabinowitz

It is in the proxy for this year.

Anthony Romano

Again, let me…

Steven Rabinowitz

Next week?

Anthony Romano

Sure, I’ll do the research and we’ll get you an answer.

Steven Rabinowitz

Okay, who should I call to get the answer?

Anthony Romano

You could send me the e-mail and we’ll set a time where we’ll get you the answer in e-mail.

Steven Rabinowitz

Thank you.

Anthony Romano

You’re welcome.

Operator

Thank you. And that concludes our question-and-answer session for today. I would like to turn the conference back over to destination maternity for any additional comments.

Anthony Romano

Well, thank you again for joining us today. We look forward to speaking with you. And we report second quarter results in August. Have a great Memorial Weekend. Take care.

Operator

Thank you. Ladies and gentlemen, thank you for your participation in today’s conference. This does conclude the program. And you may now disconnect. Everyone have a good day.

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