hhgregg, Inc. (NYSE:HGG) Q2 2017 Earnings Conference Call November 8, 2016 9:00 AM ET
Lance Peterson - VP, Finance and Planning
Bob Riesbeck - President and CEO
Kevin Kovacs - CFO
Michael Goldsmith - UBS
David Magee - SunTrust
Brian Nagel - Oppenheimer
Welcome to the hhgregg Second Quarter 2017 Earnings Conference Call. [Operator Instructions]. I would now like to turn the call over to your host for today's conference, Mr. Lance Peterson, Vice President Finance and Planning. You may begin.
Good morning and thank you for joining us. Joining me on our call this morning is our President and Chief Executive Officer, Bob Riesbeck and our Chief Financial Officer, Kevin Kovacs. Bob will provide you with an update on our business operations and top financial highlight and Kevin will provide color and detail on our financial results. After our prepared comments, Bob and Kevin will take your questions until 10 AM Eastern time.
During our call, we will make forward-looking statements regarding our future operating and financial performance which are subject to significant risks and uncertainties. We believe the expectations reflected in our forward-looking statements are reasonable, but can give no assurance such expectations or any of our forward-looking statements will prove to be correct. Please refer to today's earnings release and our current Form 10-K for additional information of these risks and uncertainties.
In addition, we will discuss several non-GAAP measurements which we use to assess our financial performance. Please refer to our reconciliation in the non-GAAP disclosure section on our Investor Relations website which can be accessed at hhgregg.com.
With that, I would like to turn the call over to Bob.
Thank you, Lance and good morning, everyone. Our second quarter sales performance was as expected as we continue to work our strategic plan and position hhgregg as the best option to purchase appliances, furniture and premium consumer electronics. We generated a negative 6.4% comp, driven by continued growth in appliances and furniture, offset by continued decreases in consumer electronics. Our focus on the customer experience also continues to reflect positively as we again saw increases in our customer satisfaction scores.
Appliances continue to be our growth category and we expect this to continue for the foreseeable future. We're extremely focused on driving our appliance business. Appliances accounted for 63% of sales in the second quarter. We had a positive 5.7% comp in the quarter in appliances which was further improvement from the 3.7% comp we delivered in the first fiscal quarter. Our comp was permanently driven by growth in units and market share.
The offerings of free delivery, financing and pricing are adding to our success in this category. We, again, showed modest appliance market share gains in the quarter. During the quarter, we gained 20 basis points of market share across the entire appliance category per track line. We performed strong during the Fourth of July and Labor Day events and continue to drive significant growth with our kitchen package and our washer/dryer combo payer promotions.
Also, we remain on track with our expansion of our Fine Lines format in existing stores. During the quarter, we opened three additional Fine Lines. This makes six opened year to date on our plan of 10 to 15 for the fiscal 2017. We have four remaining openings planned for after the holidays and in fiscal 2018 we expect to open 15 to 20 additional Fine Lines locations.
Home products continues to perform well and meet our internal growth expectations. Our reset initiative has helped us improve our assortment and we remain on track with our 140 store reset goal by the holiday period. This will represent just north of 60% of our store base. The remainder of our 220 stores will be completed by April 1, 2017.
During the quarter, we generated a negative overall comp of 0.7% in home products. This was driven by a positive 9.5% comp store sales in furniture, offset by a decline in bedding. I am excited about the new leadership team we have added in-home products which is quickly driving our plans to significantly increase the growth in this category.
As we move forward, we will continue to increase our investment in this category to drive the growth we expect. Following our resets, home products will represent nearly 30% of our floor, but currently only represent 6% of our year-to-date sales. We expect significant growth in this category for several years. Consumer electronics continue to be a challenge for hhgregg and for most of the industry. This is evidenced by our negative 25.1% comp decline in the quarter. The negative comp sales in consumer electronics was driven primarily by a negative 23.7% comp sales decline in video which makes up nearly 75% of the consumer electronics category. Driving this video comp was primarily a double-digit decrease in units and the remaining decrease from average selling prices.
Our large screen 4K TV growth remain in line with the industry trends with 82.5% growth in units, however, a negative 15.7% decline in average selling prices. The non-4K units is where we lost share during the quarter as we're concentrating our focus on premium TVs.
As we continue to drive growth in appliances and furniture, we expect to continue to rationalize our assortment in consumer electronics which will continue to trend downward as a percentage of our total sales.
However, one investment we're excited about in consumer electronics category is that we have added VIZIO to our assortment. VIZIO currently represents about 21% of the market in unit share. We now carry the four major brands in video. This will replace existing SKUs as, again, we will drive an overall smaller assortment and focus on large premium TVs.
Our e-commerce initiative continues to be a growth driver across our entire organization and we had another positive quarter. During the second quarter, we generated 35.5% growth in online sales which exceeded our overall goal of the year of 20% to 25% growth. We're on track to exceed $150 million of online sales this fiscal year.
EBITDA was negative $6.1 million in the second quarter. This was driven primarily by our sales decline in consumer electronics due to the declines in average selling price and market share in non-4K TVs. This resulted in a $10.4 million year-over-year decline in consumer electronics margin dollars. Year to date, that decline is actually $17.1 million.
As we mentioned during the last call, we combined our Indianapolis and Chicago DCs into a new facility outside Cincinnati, Ohio, during this past quarter. We should begin to see the benefits of this consolidation starting in this current fiscal third quarter. Also, as mentioned during the last call, we closed six stores in the quarter, including the five stores in Wisconsin. We're continually evaluating our entire store portfolio, but we do not have any immediate plans to close any additional stores this fiscal year.
As of September 30, we continue to have no outstanding debt. As of September 30, we had total net availability of $143.2 million.
I would now like to introduce Kevin Kovacs, our new CFO. Kevin was recently promoted into this role, but has been with hhgregg since 2009, most recently as Vice President and Controller. Kevin?
Thanks, Bob and good morning, everyone. Bob provided you with a detailed summary of our sales performance so I will focus on our gross margins and our cost structure. Gross margin rates continue to grow year over year. Overall, we increased our total gross margin rate by 20 basis points to 28.7% versus last year's second quarter. This was primarily due to the sales mix shift, specifically with continued growth of appliances and furniture.
In terms of operating costs, we continue to manage our cost structure to be in line with our sales. Net advertising spend in the quarter was down 60 basis points from the second quarter of last year. We will continue to seek ways to gain leverage in our marketing spend by driving increased efficiency and effectiveness. SG&A was up 260 basis points during the quarter as compared to last year's second quarter. Key drivers of this include increase in free delivery services which accounted for 103 basis points of this increase; increase in occupancy and wages, primarily from the deleveraging effect of the net sales decline - this accounted for 101 basis points of that increase - and increase in costs related to the logistics optimization which accounted for 50 basis points of the 260 basis point increase.
We have adjusted out of EBITDA the costs related to the logistics optimization. This optimization will provide $20 million to $25 million of annualized savings over the next two years with $5 million to $6 million of savings to be realized in fiscal 2017.
For the second quarter of fiscal 2017, we incurred an adjusted net loss of $14.1 million or $0.51 per diluted share. This compares to an adjusted net loss of $9.7 million or $0.35 per diluted share in the second quarter of fiscal 2016. This result was primarily driven by the $10.4 million decline in consumer electronics gross margin dollars.
During the quarter, we continued to feature our proprietary and nonrecourse hhgregg credit card. We recently renewed our agreement with Synchrony Financial through fiscal 2021. Our total penetration increased by 90 basis points to 43.8% compared to the 42.9% in the prior 12-month period.
We continue to balance the investments in financing, free delivery, marketing and other promotional activities to drive sales and profitability. We're making progress on our plan and are optimistic about our holiday season and the second half of the fiscal year.
With that, Bob and I are happy to take your questions.
[Operator Instructions]. Our first question is from Brian Nagel with Oppenheimer. Your line is open.
A couple questions, both pertain to the holiday. First off, with respect to cash, you mentioned in your prepared comments the lack of leverage on the balance sheet, but can you just maybe give us an idea of how, from a cash perspective, you are positioned into the holiday season? I assume we're now pretty much into the inventory build, but I want to confirm that and how you - basically, how you are thinking about cash. And then I have a follow-up.
Yes. At the current moment, we're pretty much utilizing the revolver to finance the buildup going into Black Friday and through the holiday. And - but we do anticipate being back out of the credit line before the end of the calendar year.
Okay. So, as far as - we won't see that as we look at the results, then, basically. And then, my second question -
You won't see that activity throughout the weeks, but you will see it at the end of the fiscal quarter.
And then, the second question, just, again, on the holiday. Any indication - initial indications of what type of promotional environment we're setting up for, either from your standpoint or what you are seeing from your competitors, conversations with your partners?
I think you have seen a lot of it start already, really, in this past week with the beginning of November and you will see it carry through the entire month. I mean, now, that is one of the reasons why we took the initiative of giving our associates Thanksgiving off because we have seen that activity go down significantly on that day over the last couple of years and it is getting spread out further throughout - initially, the week of Thanksgiving, but also throughout the entire month of November now.
So I know it is always difficult to recess, but as it is shaping up now, does it look like this year is more or less promotional than either last year or the last couple of years?
I think it is very similar.
Our next question is from Peter Keith with Piper Jaffray. Your line is open.
It is actually John on for Peter. Just, first off, it looks like your inventory per store was down a decent amount in Q2. Can you just talk about some of the dynamics behind that change? Is it just simply the combining of DCs and taking down some inventory or is it something else?
Yes, I think our inventory per store is actually consistent on a year-over-year basis. What you are finding is that productivity of our inventory through the DC consolidation is starting to take effect and that will continue. We still feel that we have got opportunities in optimizing our inventory further.
Okay. And then, I know you are not obviously guiding here, but just given the performance in Q2, do you think it is still in the cards to have positive adjusted EBITDA for the year?
That is our plan, obviously and I think we have got a lot of the year ahead of us. And, even though we slipped a little bit, primarily due to the video margins, in this last quarter, we were very pleased with our performance in appliances and very pleased with our performance in furniture and I think you will see that continue.
Our next question is from Michael Lasser with UBS. Your line is open.
It is Michael Goldsmith on for Michael Lasser today. Thanks a lot for taking my questions and congratulations, Kevin, on your new role.
Can you speak to the level of deflation that you are seeing in maybe LED versus 4K television, how this compares to last quarter and relative to your expectations and we talked a little bit about the promotional environment for the holidays, but do you expect an acceleration leading into the heart of it?
Well, I think if you look at it compared to 4K versus non-4K, just in this last quarter, on ASPs we were down mid 20s% and the market was down mid 20s% also in ASPs. We were down more significantly than the market in units, really just based on our change in strategy and us not wanting to compete in that commodity-driven environment.
When you look at 4K TVs which represents about 33% of our mix as opposed to our competitors, where it represents about 23% of their mix, we were up 83% in 4K units during the quarter, but the ASPs were down 16% and in the industry and ASPs in 4K were actually down 22%. So we're definitely playing at the more premium level which is as planned.
That is helpful. And then, some of the appliances vendors spoke to the cadence of the quarter starting off slow in July and August with trends picking up at the end of September. Is that consistent from what you saw? And then, separately, are you getting the expected sales lift from the free delivery options that you are offering?
Definitely, free delivery has helped us and we performed extremely well over the key holidays. So 4th of July and Labor Day were very good events for us from an appliance standpoint and we did see the back half of the quarter also pick up again in appliances. We're very pleased with our appliance business right now. We could continue to grow, but we're pleased with that result.
[Operator Instructions]. Our next question is from David Magee with SunTrust. Your line is open.
First question, on that large screen 4K category with the industry being up maybe 2% ASPs down, how do the profits look year over year or versus your plan in that subcategory?
I think in 4K, we're doing fine. It is the non-4K where we're struggling.
But I think the industry is also struggling in that area as the MPD data shows.
Right. So the 4K part is relatively healthy?
Even though ASPs are down 16% for us and 22% for the industry, we're comfortable with the margin there.
Okay, because I would guess that that may not be that unusual where we're on the cycle, that ASP contraction, but I don't know.
The impact on us is really the fact that CE category represents 75% to 80% TV for us where the rest of our competitors is a significantly less percent of TV in their CE category.
Right. Are you getting full availability of any product that you want for the holiday? Are all the vendors shipping and everything else as you would expect?
I think there is the typical issues as far as some suppliers being short on supply, but certain vendors are having some issues, I guess, but we're confident with our flow of product.
Okay. So the vendors are confident in what you guys are doing with your repositioning and everything.
There is no doubt. I mean, we have got great support from the Whirlpools, LGs, the VIZIOs of the world.
Okay. If you look out, say, three years from now, how do you envision your CE category, I guess, percent of sales?
Well, I think if you look last year, we represent - CE represented about 41% of our sales and through the first two quarters, it represents about 30% of our sales. I think what you will find is us continue to grow the appliance business, really press the accelerator on the furniture business and the CE will become more in the 20% to 25% of our overall business.
Is that level on which you can compete or is it too small an offering compared to your primary competition?
We still represent 220 doors. So I think our suppliers that supply us with 4K products are going to be very pleased with that equation.
And then, just lastly, have you seen any impact in recent weeks from the election today? It is hard to tell, from our viewpoint, but is it something that may be impacting trends in the last couple of weeks?
We started a new event, especially in appliances, on November 2 that started out very strong and this past weekend, it struggled. And so I do think that this past weekend had an impact. But we also looked at the trends four years ago on that same weekend heading into the election and we actually performed better than we did four years ago on that weekend.
Again, thanks, everyone, for your continued interest in hhgregg and we look forward to talking again in January on our next call. Have a great day.
Ladies and gentlemen, this does conclude the program and you may now disconnect.