Tile Shop Holdings Inc

NASDAQ:TTSH

Earnings Call Analysis

Tile Shop Faces Headwinds but Improves Margins and Cuts Costs

In a challenging third quarter, Tile Shop's comparable store sales dropped by 7.9% due to reduced store traffic and low housing turnover. Encouragingly, gross margins improved to 66.5%, a 180 basis point increase from last year, supported by lower inventory costs and improved delivery rates. The company aims to cut structural SG&A expenses, projecting annual savings of $2.8 to $4.1 million. They have also closed a distribution center and reduced corporate staffing. Despite industry headwinds, CEO Cab Lolmaugh remains optimistic about potential home sales growth driven by Federal Reserve rate cuts.

Navigating Industry Headwinds

The Tile Shop is currently facing macroeconomic challenges that have negatively impacted the home improvement industry. Key indicators show that housing turnover reached its lowest level since 2010, affecting traffic to stores. In the third quarter of 2024, comparable store sales fell by 7.9%. Despite this downturn, the company remains proactive in strengthening relationships with professional customers and enhancing service offerings.

Gross Margin Improvements

An encouraging development is the increase in gross margin rate, which rose to 66.5% in the third quarter, up 50 basis points from the previous quarter and 180 basis points from the same period last year. This improvement can be linked to effective sourcing strategies that reduced inventory costs, stabilizing international freight rates, and enhanced collection rates. Year-to-date, gross margin has improved from 64.4% in 2023 to 66.1% in 2024.

Cost Management Strategies

Operating expenses have also seen a decrease, with SG&A expenses falling by $700,000 to $56 million compared to the third quarter of 2023. This reduction has come from lower variable compensation, depreciation, and advertising costs. The company intends to further cut structural SG&A expenses, primarily by closing its distribution center in Dayton, New Jersey, and downsizing its corporate office in response to ongoing revenue pressures.

Effective Use of Cash Flow

The Tile Shop finished the quarter with a solid cash position of $25.1 million and no bank debt, having generated $28.5 million in operating cash flow year-to-date. This strong balance sheet appears to provide a cushion against ongoing market volatility, allowing the company to navigate challenges effectively.

Future Revenue Growth Initiatives

Looking ahead, management's strategy includes a relaunch of the Superior line of private label installation products aimed at enhancing sales to professional customers. This initiative, alongside an expansion of competitively priced entry-level products, is expected to cater to consumers looking for budget-friendly remodeling solutions. Annualized benefits from recent cost management actions are projected between $2.8 million and $4.1 million, contingent on subleasing efforts for the closed distribution facility.

Design Partnerships and Product Expansion

The company is actively cultivating relationships with notable designers to create unique tile products tailored for core customers. A new partnership announced with designer Nikki Chu aims to expand the product lineup while enhancing the brand's appeal. Additionally, new product lines like the Arbour collection of luxury vinyl tile are anticipated to enter stores by spring 2025, aiming to drive customer interest and broaden the product range.

Outlook and Market Position

While challenges remain, including lower store traffic, Tile Shop is focusing on improving customer experiences both in-store and online. With a firm commitment to product innovation and enhanced operational efficiency, the company is positioning itself to capitalize on potential improvements in existing home sales, stimulated by recent interest rate cuts by the Federal Reserve. Overall, the outlook paints a picture of cautious optimism as the company adapts to current market dynamics.

Earnings Call Transcript 2024-Q3

[Operator]

Good day, and thank you for standing by. Welcome to the Q3 2024 Tile Shop Holdings, Inc., Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded.

I would now like to hand the conference over to your first speaker today, Ken Cooper with Investor Relations. Please go ahead.

[Ken Cooper, executive]

Thank you, and good morning to everyone. Welcome to the Tile Shop's Third Quarter Earnings Call. Joining me today are Cab Lolmaugh, our Chief Executive Officer; and Mark Davis, our Chief Financial Officer.

Certain statements made during the call today constitute forward-looking statements made pursuant to and within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. 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 described in our earnings press release issued earlier and in our filings with the SEC.

The forward-looking statements made today are as of the date of this call, and we do not undertake any obligation to update those forward-looking statements. Today's call will also include certain non-GAAP measurements. Please see our earnings release for a reconciliation of those non-GAAP financial measures, which has been also posted on our company website.

With that, let me now turn the call over to Cab.

[Cabell Lolmaugh, executive]

Thank you, Ken. Good morning, everyone, and thank you for joining us today for an update on our business. Macro headwinds affecting the home improvement industry continued to persist throughout the third quarter. Despite these challenges, we have continued to be proactive, driving connections with our professional customers, expanding our assortment, enhancing our e-commerce capabilities and maintaining our unwavering commitment to provide exceptional service.

Together with our strong balance sheet, we're in a great position to serve our customers in our stores and online. I was encouraged by the recent actions taken by the Federal Reserve to cut interest rates and signal further cuts in future periods. We believe that an easing interest rate environment could potentially lead to an improvement in existing home sales trends, which we see as a leading indicator for home improvement demand.

However, the most recent existing home sales report from September shows housing turnover at the lowest level we've seen since 2010. During the third quarter, sales at our comparable stores decreased by 7.9%, which reflects the challenges of the current environment.

Over the next few minutes, I'll provide an update on our key business initiatives, and Mark will review our financial results in more detail as well as several actions we're taking to manage expenses given the headwinds facing our business.

The first initiative I'd like to touch on relates to the relaunch of our enhanced line of private label installation products sold under the Superior brand name. We relaunched Superior line in June, seeking to, one, generate more opportunities to sell tile to professional customers who develop a preference for using our high-quality, cost-efficient Superior products; and two, support ticket averages by improving attachment rates of installation products.

So far, we're off to a nice start. The Superior launch is just one of the many changes we're making to refine our assortment. We've also been focusing on an initiative to expand our selection of entry-level competitively priced products. Demand for these products is tracking in line with our expectations. We believe this expansion of our assortment will help strengthen our value proposition with customers seeking to complete a smaller remodel project on a budget.

We also believe the addition -- selection of entry-level price products strengthens our competitive positions with Pros, especially when they are working on smaller projects for their end customers. While many of the additions to our assortment have started to work their way into our stores, we still have more on the way that should be ready in time for our 2025 spring season.

One particular line that I'm excited about is our Arbour collection, which is a new line of high-quality LVT products. By direct sourcing this line, we're able to offer this collection to our customers at attractive price points and while maintaining the ability to expand our margins. The new collection is beautiful, and I look forward to hearing the feedback from our customers as the Arbour collection makes its way into our assortment.

We've also been working on new additions with our design partners. Over the years, we've cultivated relationships with popular designers like Annie Selke, Jeffrey Alan Marks, Laura Ashley and Morris & Co. These design partnerships give us the ability to create unique tile products that appeal to our core customer and more broadly across the design community. During the third quarter, we announced our newest partnership with Nikki Chu. Nikki has been great to work with, and the projects I've seen that use her tile are absolutely stunning.

In closing, while the headwinds facing our industry still persist, we're focusing on curating the best assortment of tile products in the industry, giving our customers the ability to design a space that differentiates their home and providing exceptional service to all customers who visit our stores. We believe this commitment to excellence will position us for future success.

With that, I'll now hand the call over to Mark.

[Mark Davis, executive]

Thanks, Cab. Good morning, everyone. Third quarter sales at comparable stores decreased by 7.9% compared to the third quarter of 2023 due to lower levels of store traffic. This result is consistent with the results we've seen throughout the year against the backdrop of lower housing turnover and softer demand for home improvement projects.

As Cab noted in his remarks, we believe further rate cuts by the Federal Reserve could accelerate existing home sales turnover, which we see as a catalyst for remodel demand. Our gross margin rate during the third quarter increased to 66.5%, which represents a 50 basis point sequential improvement from the second quarter and a 180 basis point improvement when compared to the third quarter of 2023. The improvement in margin was attributed to our efforts to source products at lower price points, which helped reduce our inventory costs.

Additionally, our field teams have improved customer delivery collection rates, which contributed to the sequential improvement in gross margin over the last quarter. On a year-to-date basis, our gross margin rate improved 170 basis points from 64.4% during 2023 to 66.1% during 2024. The year-to-date improvement in gross margin is attributed to stabilizing international freight rates and the progress we've made lowering our inventory purchasing costs.

Third quarter SG&A expenses of $56 million were $700,000 lower when compared to our third quarter in 2023. The decrease in SG&A expense was primarily due to a $700,000 decrease in variable compensation expenses, a $600,000 decrease in depreciation expense and a $600,000 decrease in advertising costs, which were partially offset by a $500,000 increase in occupancy costs, a $200,000 increase in IT-related expenses and a $200,000 increase in shipping and transportation costs.

For the year, SG&A expenses decreased $1.2 million to $172.5 million as of the end of the third quarter in 2024. This decrease was largely due to a $2.6 million decrease in depreciation costs, a $2.5 million decrease in variable compensation expenses that were partially offset by a $2.6 million increase in occupancy costs, a $900,000 increase in IT expenses and an $800,000 increase in shipping and transportation expenses.

In response to the continued pressure on our top line results, we've made it our priority to reduce structural SG&A expenses. Over the last 90 days, we made some important decisions, which we believe will deliver long-term value for the company. For instance, we've closed our distribution center located in Dayton, New Jersey, reduced staffing levels at our corporate office and closed our trading company office located in Beijing, China. Asset impairment and severance costs incurred in connection with these actions were not material.

With regard to our Dayton distribution center, we anticipate exiting this facility during the fourth quarter. The property is currently under lease through the fall of 2026. We are actively working with our landlord and a commercial broker to identify a sublease for our space.

We anticipate that the annualized benefits stemming from the aforementioned actions will range from $2.8 million to $4.1 million, depending on our ability to sublet the distribution space under lease in New Jersey.

Turning our attention to the balance sheet and cash flow information. We ended the quarter with $25.1 million of cash and no bank debt. Year-to-date, we've generated $28.5 million of operating cash flow. We believe we're well positioned to navigate the challenges of the current environment with a great team, strong balance sheet and the enhancements we're making to serve our customers.

With that, Kevin and I are happy to take any questions.

[Operator]

[Operator Instructions] I'm showing no additional questions at this time. I would now like to turn it back to Ken for closing remarks.

[Ken Cooper, executive]

Thank you for listening to our earnings conference call. We anticipate filing our Form 10-Q later today. Thank you for your interest in the Tile Shop, and have a great day.

[Operator]

Thank you for your participation today in today's conference call. This concludes our program. You may now disconnect.