Flexsteel Industries Q1 2024 Earnings Call Transcript

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Provided by Quartr
November 1, 2023

There are 6 speakers on the call.

Operator

Morning, and welcome to the Flexsteel Industries First Quarter Fiscal Year 20 24 Earnings Conference Call. All participants will be in a listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Derek Schmidt, Chief Operating Officer and Interim Chief Financial Officer for Flexsteel Industries.

Operator

Please go ahead.

Speaker 1

Thank you, and welcome to today's call to discuss Flexsteel Industries' 1st quarter Fiscal year 2024 financial results. Our earnings release, which we issued after market close yesterday, Tuesday, October 31, is available on the Investor Relations section of our website at www.flexsteelindustries.com under News and Events. I am here today with Jerry Dittmer, President and Chief Executive Officer. On today's call, we will provide prepared remarks and then we will open the call to your questions. Before we begin, I would like to remind you that the comments on today's call will include forward looking statements, which can be identified using words such as estimate, anticipate, expect and similar phrases.

Speaker 1

Forward looking statements by their nature involve estimates, projections, goals, forecasts and assumptions and are subject to risks and uncertainties that could cause actual results or outcomes to differ materially from those expressed in the forward looking statements. Such risks and uncertainties include, but are not limited to, those that are described in our most recent annual report on Form 10 ks as updated by our subsequent quarterly reports on Form 10 Q and other SEC filings as applicable. These forward looking statements speak only as of the date of this conference call and should not be relied upon as predictions of future events. Additionally, We may refer to non GAAP measures, which are intended to supplement, but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information be discussed today, as well as the reconciliation of GAAP to non GAAP measures.

Speaker 1

And with that, I will turn the call over to Jerry Dittmer. Jerry?

Speaker 2

Good morning and thank you for joining us today. I am pleased to share with you our Q1 fiscal year 2024 results. While our industry faces challenging business conditions and several of our publicly traded peers have seen double digit sales decreases in the recent quarter. We have leveraged our growth initiatives to offset these challenges and deliver sales within 1% of the prior year quarter. This year over year sales comparison is adversely impacted by the elimination of ocean freight surcharges, which reduced revenue by approximately $7,000,000 compared to the prior year quarter.

Speaker 2

In the prior year, we used this surcharge mechanism to pass through a higher cost of ocean container delivery, which were significantly inflated due to supply chain issues. Container delivery costs normalized throughout the last fiscal year and we subsequently eliminated this surcharge. Excluding the $7,000,000 impact From this ocean freight surcharge elimination, sales growth related to unit volume and product mix was a robust 6.8%, reflecting our strong sales execution and the momentum of our growth initiatives. Our ability to drive growth in a difficult industry environment reinforces that we are competing well and gaining share. In addition, we continue our focus on operational efficiency and cost savings, which propelled a gross margin of 19.5 and growth initiatives, while still delivering improved operating income of $1,900,000 compared to $400,000 in the same quarter of the prior year.

Speaker 2

We expect the business environment in the near term to remain challenged. The industry It's arguably already in a recession as consumers have shifted discretionary spending to experience based expenditures Like travel and entertainment and away from higher priced hard goods like appliances, electronics and home furnishings. The list of headwinds working against the economy and consumer spending continues to grow. High interest rates and mortgage rates, rising fuel prices, geopolitical concerns, U. S.

Speaker 2

Government uncertainty, Student loan payment restart, shrinking pandemic savings and rising credit card debt. Despite these external challenges, Our team isn't deterred and remains intensely focused on profitably growing our business in fiscal year 2024. We entered the 2nd quarter with positive momentum and are confident in our ability to grow sales both compared to last year and the Q1, while also improving gross and operating margins over the Q1. Our strategies are working. We'll continue to innovate, Drive expedient and relevant new product development and build strong brands.

Speaker 2

Regardless of demand uncertainties, we remain aggressive in identifying new growth opportunities, while prudently managing costs and investing for future growth and profit enhancement. I'll now turn the call over to Derek to discuss our strategic initiatives and financial results as well as our outlook for quarter 2 2024. I'll be back at the end of the call with some closing comments on what we see ahead.

Speaker 1

Thank you, Jerry, and good morning, everyone. Like Jerry, I'm confident in the outlook for our business, while cognizant of the near term headwinds we may face. At the recent October market in High Point, North Carolina, We held numerous encouraging conversations with customers, suppliers and others in the industry. I'll share a few highlights of the quarter, What we took away from High Point Market and how they shape our view of the remainder of the fiscal year. First, We debuted our new showroom at the October market along with 36 new product groups.

Speaker 1

Our sales team was energized and excited to take customers and suppliers through the new showroom, which provided an excellent showcase for both our current and new product lines. The feedback from customers was extremely positive. Many noted that the traffic and energy levels were exceptionally that Zecliner, our new sleep solution recliner has been a big success. Through the Q1, We have over 760 retailers that have placed the product on their floors with even more committing to initial placement orders at the October market. Notably, we have seen repeat orders in excess of 60% from retailers who initially placed the product, demonstrating strong adoption by consumers.

Speaker 1

We also recently engaged an independent third party to conduct a sleep study of individuals who don't regularly sleep in a bed. The study compared their experience Sleeping in the regular recliner chair or sofa over a 4 week period to sleeping in the ZCLINER over the same time period. Analyzing over 700 nights of sleep, this study found that ZCLINER significantly improved perceived sleep among people who originally slept at least part of the night on a different recliner chair or sofa. The study results also showed that 95 of individuals felt Zecliner was a better solution than other products they used in the past and 84% felt Zecliner helped improve their sleep. These results show the strength and potential of our product in this category, and we plan to expand our marketing using these study results.

Speaker 1

In addition, at the October market, we introduced an extension to our line with Zofa, a sleep solution Zofa. We plan to continue to innovate and expand offerings in the sleep solution space. 3rd, we continue to expand the distribution of Flex, Our modular seating line to traditional brick and mortar retailers where it is placing well. We also want Several differentiated functional pieces to the Flex line at October market, including a technology hub, storage center, pet bed and a sleep kit. We will continue innovating and expanding this platform to drive future growth as well.

Speaker 1

Finally, we continue to grow our big box distribution, notably with Costco through costco.com. Revenue generated through this customer contributed to the 10.7% growth and e commerce sales in the quarter. In addition, we recently expanded our marketing effort through our first Costco in store roadshow event to showcase our Flex Modular Furniture collection. We have several more of these events scheduled throughout the remainder of the fiscal year and look forward to using these in store events to further our brand awareness and customer reach. The positive energy from our interactions at market and the success of our strategic initiatives provides us Confidence that we are well positioned to navigate the choppy near term industry conditions and deliver sales and profit growth for the fiscal year.

Speaker 1

With that, I'll now give you some additional details on the financial performance for the Q1 and the outlook for the Q2 of fiscal year 2024. For the quarter, net sales were $94,600,000 within our guidance of $92,000,000 to $100,000,000 provided during our Q4 fiscal 2023 earnings call. As Jerry noted earlier, sales growth related to unit volume and mix, which excludes ocean freight surcharges, was a strong 6.8% in the quarter, and we feel we have The company delivered operating income of $1,900,000 or 2% of sales in the Q1, which was within our guidance range of 1% to 3%. Moving to the balance sheet and statement of cash flows. The company ended the quarter with a cash balance of $3,000,000 working capital of $118,300,000 and a balance on our revolving line of credit of $33,000,000 Working capital and our debt balance did increase from the 4th quarter due to a reduction in payables and the normal timing of several large Annual payments occurring at the beginning of our fiscal year.

Speaker 1

Going forward, we expect inventory reduction and profit improvement to be meaningful sources of cash in fiscal year 2024 to aggressively pay down debt. Looking forward, sales guidance for the 2nd quarter is between $94,000,000 $100,000,000 which represents sales growth of 1% to 7%. Similar to the Q1, Year over year net sales comparisons will be unfavorably impacted by the elimination of ocean freight surcharge revenue of approximately $4,000,000 Excluding the ocean freight surcharge impact, Growth related to unit volume and mix has been forecasted between 5% 12%, reflecting the strong momentum of our growth initiatives and continued share gains. Regarding profitability, We expect 2nd quarter gross margin to improve from the 1st quarter with a forecasted range of 19.6 to 20.6%. We expect gross margins to grow throughout the fiscal year with expected sales growth and Continued realization of our cost savings and operational efficiency initiatives.

Speaker 1

We continue to prudently manage SG and A spending, while investing in our growth initiatives and expect SG and A costs between $16,000,000 $17,000,000 for the quarter, similar to the Q1. We are projecting operating income as a percent of sales in the range of 2% to 4% for the 2nd quarter and expect The most significant drivers of variability in the 2nd quarter guidance range continue to be consumer demand and competitive pricing conditions, both of which will be shaped by macroeconomic factors. Regarding our cash flow outlook, working capital is expected to be a major source of cash flow in the Q2 and full year as we anticipate inventories to steadily decline throughout the year. Near term priorities for cash remain Reducing debt, resourcing new innovations and funding modest capital expenditures, mainly related to cost savings projects and continued modernization of IT systems. We expect debt levels at the end of fiscal 2024 in the range of $0,000,000 to $15,000,000 For the Q2, we expect capital expenditures between $1,500,000 $2,000,000 The effective tax rate for fiscal 2024 is expected to be in the range of 29% to 32%.

Speaker 1

Now, I'll turn the call back over to Jerry to share his perspective on our outlook.

Speaker 2

Thanks. While we expect business conditions to be choppy in the near term, I am confident We are well positioned to successfully deliver improved earnings and an even stronger balance sheet over the remainder of fiscal year 2024. With that, we will open the call to your questions. Operator?

Operator

The first question is from Anthony Lebiedzinski of Sidoti. Please go ahead.

Speaker 3

Good morning and thank you for taking the questions. So I guess first just a quick comment. I thought it was Helpful that you guys provided the impact of freight surcharges for Q1 of last year and that you gave an indication about the 2nd quarter. So as we look beyond the second quarter as far as the second half of last year, was there anything meaningful as to call out as far as Rate surcharges or was it less of an issue? If you could just remind us about that.

Speaker 1

Yes, Anthony, it's Derek. So it dissipates throughout the year. So for the Q3, the impact The surcharges would be a little less than $3,000,000 and in the 4th quarter, it's a little less than $1,000,000 So we unwound those ocean freight surcharges gradually throughout the year, hence why you see A decrease in the year over year impact to revenue.

Speaker 3

Got it. Thanks, Derek. And then in terms of the growth initiatives, Can you perhaps maybe quantify how much that impacted your first quarter sales results? And As far as your outlook for the balance of the year, just looking to get more clarity about how much is Flex, ZCLINER and Big Box

Speaker 1

Yes. I know that the color I can provide Anthony is I prefer not to give you exact numbers, but the growth initiatives were a substantial factor in terms of our growth. If you were to take those out, I mean, our business would probably be down not as large as certainly our External kind of peers, but it would be down probably in the high single digit, low double digit range. So Really the growth initiative the good thing is the growth initiatives are working. We're building momentum and we believe again There's room for the revenue from those growth initiatives to continue to expand, which we believe at this time will allow us to grow Every single quarter here year over year for the remainder of the year.

Speaker 2

The other piece of that too, Anthony, is we continue to come out with more extensions and more of these growth initiatives are going to also help us in the future. You might remember at market both Flex and ZCLIMR, there are additional SKUs and Products that we brought out to enhance those even more.

Speaker 3

Got it. Yes, yes. And certainly, the new showroom looked pretty good as well. So as far as the gross margin improvement, certainly nice job there as well. And it sounds like you expect continued Improvement there.

Speaker 3

So I mean, given the overall improvements to the business, I mean, as we look out beyond fiscal Or I mean, can we get to I mean, what's your sense as to like Where gross margins could go to assuming of course a normalized demand environment?

Speaker 1

Yes, I think certainly our target to end the year would be closer to 21%, So exit this year closer to a 21% gross margin, and then continue to kind of grow the top line and leverage fixed cost to expand that into

Speaker 3

All right. That's very helpful. And then in terms of SG and A dollars, so those were up around 13% looks like So this quarter here. So and I know you gave guidance for Q2 as well. But then kind of Looking beyond that, I mean, I know you guys are investing in your growth initiatives, but I guess longer term, I mean, How fast will those expenses grow?

Speaker 3

I mean, what is your outlook for that?

Speaker 1

Yes. I would expect, Anthony, for the remainder of the year for SG and A, quarterly SG and A to kind of be within that $16,000,000 to $17,000,000 range per quarter. I think as we think about fiscal year 2025, I would expect SG and A to grow at a lower rate than the overall top line. So we would expect To leverage fixed costs, including SG and A investments kind of going forward. So there is more investment there to be had to continue to Propel the top line, but it would grow at a rate, lower than our overall top line in future years.

Speaker 3

All right. Well, sounds good. That's all I have. I'll pass it on to others. Well, thank you very much and best of luck.

Speaker 3

Thanks, Anthony.

Operator

The next question is from Budd Bugatch of Water Tower Research. Please go ahead.

Speaker 4

Good morning, Jerry and Derek, congratulations on a good quarter. I had a couple of questions. I know that the sales growth in dollars were 6.8%, excluding the freight surcharge on an apples to apples basis. But On a units basis, you talked about units and mix. Can you give us an idea on units how that growth was like for Example, upholstery seats, how did that grow year over year?

Speaker 1

Yes. The way we think about the product categories, Budd, Manufactured kind of stationary and source soft seating are probably our largest categories. They encompass almost about 90% of our sales. So to give you some perspective on units, our source soft seating business and units was up 13.7% Year over year and manufactured stationery was up 3.7%. So we feel good about both of those numbers And I think they're reflective of the fact that we're competing well in the market and gaining share.

Speaker 4

And the Factured growth is where you would get leverage on cost of goods sold. Is that the way to think about that? The source Product is primarily variable cost, Nick?

Speaker 1

Primarily, I mean, there's 2 ways to think about it. Certainly, we'd be leveraging our fixed cost structure related to our plants, but we also have 3 distribution centers. And so The way I think about growing our source business that does leverage the fixed costs of our distribution network as well.

Speaker 4

Okay. Thank you. That gets me into the cost of goods sold and the composition of it. I think if I remember right and correct me if I'm wrong because My memory is always like I am and failing. You had talked about a couple of years ago Maybe getting gross margins into that 20% range and that kind of was the target.

Speaker 4

And if I look back historically, I think the Largest, the highest gross margin percentage that I see going back 5 or 6 years ago, particularly for that Q2 was like about 22.6 For the end of the year, maybe close to 23%. Is that the high watermark? Where are you looking to And how do you get there?

Speaker 1

So first of all, when you look back 4 or 5 years ago, you have to remember that the composition of our business It was much different than it is today. Recall that we exited hospitality, healthcare, commercial office, RV seating. Those businesses, many of those businesses had a higher gross margin, but they also had a significant SG And so the split between gross margin and SG and A as a percent of sales has changed because of that mix. So one, the historical comparisons aren't the best benchmark. That said, going forward, We've talked about our aspiration is to get gross margins up in that 22% to 23% range.

Speaker 1

And I think with continued top line growth, with prudent management of our fixed cost structure And continued cost savings, we have a path to get there over the next several years.

Speaker 4

Okay. And MLO or the components of cost of goods sold, how should we think about that? Materials, In the manufactured, somewhere around 50%, the labor, 10% and the balance between overhead and distribution and transportation. How do you get there?

Speaker 1

Yes, you're not probably too far off, Budd. Materials, It's a little bit difficult because on the source side, we're buying finished goods. So I don't have visibility in terms of the break between materials, labor, overhead for our source business. But in general, Materials 50% to 60%. You're right.

Speaker 1

Labor and overhead kind of in that 20% to 25% range and then logistics about 15%.

Speaker 4

And the logistics would impact primarily the I mean, not primarily, but the sourced goods would be primarily a logistics hit to cost of goods sold. You bring the inventory in and you add the logistics Cost to the inventory and it works its way through as it's sold. Is that the way to think about that? And that's where you get the leverage?

Speaker 1

No, the inbound costs, so container costs And then drayage for source goods into our DC, those are all capitalized parts of the finished costs. So when I talk about logistics, that 15%, That is the cost of outbound shipments to our customers as well as our distribution centers and then any inner Plant interd. C. Kind of transfer costs as well.

Speaker 4

Got you. Okay. That's very helpful. And other for me on the Sales, you talked about Costco and the sales lift of 6.8%. How much of that was due to Costco For the quarter and what's the how much is due to maybe gaining you're competing well, so I would tell me you're gaining new accounts.

Speaker 4

So can you Look at sales that way?

Speaker 1

Yes. If I decompose the 6.8% growth, Costco probably made up about 2.5% of that. So take that away, we still feel like we're competing really well in our core business within our traditional retailers.

Speaker 4

So that 4.3, how much is same Same customer and how much would be new customer?

Speaker 1

There's not a lot of new customers. For the most part, I mean, where we're driving penetration is with our largest, most strategic retailers, We believe are going to be the winners in the future within the business and that's really where we're gaining share.

Speaker 2

The other place that we're gaining this year is obviously with the ZCLIMBER and the Flex and other things like that and those enhanced product lines. Those are the other things that are driving a lot of that.

Speaker 4

So that's new floor space in existing retailers, but many of those retailers are dedicated to you, right? Correct. That's a

Speaker 1

good way to look at it. Yes. Okay. The other corollary is, I mean, we track the number of placements that we have for every single one of our products and the number of placements is growing. And we know retail space isn't growing.

Speaker 1

So again, that would give us another encouraging indication that we're gaining share in retail.

Speaker 4

That's a great method. You have a percentage that you're willing to share on percentage placement growth?

Speaker 1

Yes, it's been, I mean, over the last couple of years, between 5% 10%, kind of high single digit.

Speaker 4

That's great. And last for me, the receivables look like, you're looking like, if My math is right, somewhere around 32 days versus something closer to 40 days at the end of the year is the health of your retail base. Can you talk a little bit about that. Are those the right numbers?

Speaker 1

No. I mean, we typically run around that 30 to kind of 33 day range. So that doesn't typically change. The only thing is dependent on if we have heavy sales In the last month of the quarter, that will be what SKUs accounts receivable either up or down. So overall, we're feeling good about The overall quality of credit and AR, obviously in this uncertain economic time, We're watching credit concerns closely, but feel good about the quality of AR.

Speaker 1

No concerns or issues there.

Speaker 4

Okay. And so the delinquencies are not particularly significant? No. 30. Okay.

Speaker 4

Great. And 30 is the normal terms, is that your normal would that be your normal terms?

Speaker 1

30 to 33.

Speaker 4

Okay.

Speaker 1

Yes, in terms of

Speaker 3

days. Right. But

Speaker 4

Thank you very much. Congratulations and good luck on the balance of this calendar year and the fiscal year. Thanks,

Operator

from John Deysher of Pinnacle. Please go ahead.

Speaker 5

Good morning. Thanks for taking my questions. Looks like a solid quarter. I just have a couple of quick questions. First, what was the backlog at the end of the quarter?

Speaker 2

It's around $48,000,000 Yes.

Speaker 1

So relatively unchanged from where it was at the beginning of the year.

Speaker 5

Okay, great. Another balance sheet question. I noticed other assets, other current assets are up to 9,200,000 It's been growing and I'm just curious what's in that other assets bucket and why is that increasing?

Speaker 1

Yes. The two things, John, every year in the Q1, we prepay our annual insurance and we also prepay our annual SAP software license. So those two things combined are worth about $2,500,000 So that was the increase in Q1.

Speaker 5

Okay. So that should come down going forward?

Speaker 1

Correct. And that's our normal cadence. Typically, we pay those in full at the beginning of each fiscal year.

Speaker 5

Okay. That makes sense. What's the status of the Mexicali plant? I know you haven't opened it. It's a relatively new plan, I think, built within the last couple of years.

Speaker 5

What's the status of that at this point?

Speaker 2

Yes, John. The status right now is with the current environment, we didn't see a need that we'd be moving in there in the short term. So we basically have it Leased out at this point in time. And it's something we'll come back and visit every 6 to 12 months. But for the next year, it's we basically have it leased out about 95%.

Speaker 5

Okay. And what the leases month to month or year to year?

Speaker 2

They're year to year with obviously with options and there Two different parties in there and we'll just really continue to look at our demand and when we'll need it and continue to work with these folks that are leasing it right now.

Speaker 5

Okay. That's good news. What when does it roll over? At the end of the year?

Speaker 2

Different times. One of them rolls out in the 4th Or the other one will roll out Q1 next year.

Speaker 5

Okay, great. I guess, and finally, on the availability, I think the press release said $27,600,000 That's down pretty substantially from the $45,800,000 At the end of the year, what was the reason for that decline in availability?

Speaker 1

It's largely due to inventory reduction. So I mean at its peak, Our inventory was over $190,000,000 Today, it's $120,000,000 So that line of credit is an asset backed Facility.

Speaker 5

All right. I've got that. But inventory was Pretty steady looking at it over the last four quarters or so between 110 and 122. And your availability was up always above $40,000,000 So it's not clear to me. I mean, the inventory has been about the same.

Speaker 5

It's not dropped significantly. So what why is the availability down so low? I'll

Speaker 1

have to look at the Specific periods and get back to

Speaker 2

you, which I'm glad to do.

Speaker 5

Okay. That would be helpful. Thank you.

Speaker 1

Okay.

Operator

This concludes our question and answer session. I would like to turn the conference back over to Jerry Dittmer for closing remarks.

Speaker 2

In closing, I would like to thank all of our Flexsteel employees for their dedication and outstanding performance during the quarter. Thanks to all of you for participating in today's call. Please contact us if you have any additional questions. We look forward to updating you on our next call. Everybody have a great day.

Speaker 2

Thanks.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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Flexsteel Industries Q1 2024
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