The Lovesac Company (LOVE) Earnings Call Transcript & Summary

Thanks. Morning, everybody. Joining me today are Shawn Nelson, our Chief Executive Officer, Jack Krause, President and Chief Operating Officer, and Donna Dellomo, Chief Financial Officer. Before we begin, please keep in mind that certain things we discuss will contain forward-looking statements about upcoming events and how our finances will perform in the future. That covers statements regarding our expectations going forward, projections for the financials, and our plans and prospects. What actually happens could differ materially from what those statements lay out. To understand these risks and uncertainties, please look at the company's filings with the SEC, including the press release issued today. You shouldn't treat our forward-looking statements as forecasts of what will occur. Every forward-looking statement we're making on this call rests on assumptions and beliefs held as of today. We take on no duty to revise them, except where applicable law demands it. Today's discussion will also cover non-GAAP financial measures, among them EBITDA and adjusted EBITDA; these non-GAAP measures ought to be viewed alongside our GAAP results, not as a replacement for them or on their own. A reconciliation from the most directly comparable GAAP financial measure to that non-GAAP financial measure appears as supplemental financial information in our press release. I'll now hand the call over to Shawn Nelson, Chief Executive Officer of The Lovesac Company.

Thanks, Rachel. Morning, everybody, and I appreciate you being with us today. Only 8 weeks have passed since our year-end call, when I went into considerable detail about what we achieved in fiscal 2021, how we think about operating under CTC, and where Lovesac is headed strategically. My comments will be short this morning: I'll go over the key points from our Q1 financials and operational results, then Jack will describe how we progressed during the first quarter on our main growth efforts. Donna will close out the prepared portion by walking through our financial results and a handful of additional matters tied to our outlook. On the whole, we feel great about what we delivered in Q1, since we keep extending the momentum built last year. Keep in mind, we lapped the arrival of the pandemic and the showroom shutdowns that followed it late in Q1. Business results were still extremely robust versus the first quarter of fiscal 2021 even when measured over 2 years, with combined two-year comps reaching 98.9%. Let me walk through what stood out in Q1. Total net sales for the quarter came to $82.9 million, which is 52.5% higher than the same period a year earlier. Total comparable sales rose 48.8%, and we remain highly encouraged by how broad-based the strength is and by the demand for our products from both new and returning customers. Growth was solid in showroom and other, partly offset by lower internet sales, which shows the channel moving back toward our showrooms now that they are completely open. Adjusted EBITDA climbed 193.7% to $5.3 million, the first time we have turned a profit in Q1. This robust beginning to the year reflects demand that keeps holding up, together with our emphasis on bettering our offering, the customer experience, and our go-to-market positioning as we pursue greater share of this highly fragmented industry. During the quarter, we continued to advance our strategic priorities, and Jack will cover the details. There are a few items I want to flag. To start, regarding our brand visibility via showrooms and channel partners, the comparable figures speak for themselves, yet we're also experiencing strong performance from our Best Buy shop-in-shops. We're pleased that all showroom leases we planned to sign for the remainder of the year are now executed and moving toward launch. Our innovation agenda and engine remain powerful. In addition to the launches already scheduled and on track for later this year, we're quickly adding talented engineers and designers to the team so we can scale more rapidly in the future. On the widely talked about supply chain situation, I want to begin by acknowledging our team and the excellent job they have done, and keep doing, steering through what is still a tight supply chain landscape. Having diversified our supply chain around a small number of core products, along with the international redundancies that created, has allowed us to remain in stock and satisfy demand in Q1. Looking forward, we'll need to navigate this carefully throughout the year. When it comes to ESG, we're still building out our direct to consumer, or CTC, approach, which keeps driving how we operate. With this CTC model, we aim to launch additional premium, sustainable long-term product platforms across multiple home-related categories, and to combine them with services meant to generate enthusiastic fans and build enduring ties with them. A long-term emphasis on all things is fundamental to the direct to consumer approach. In addition, through our continuing ESG work, together with our environmental and sustainability initiatives, we are advancing on the governance front as well. Just this week, we announced that Sharon Leite has joined our board of directors as a new member. At present, Sharon holds the CEO role at The Vitamin Shoppe. Her background is broad and varied in businesses that face consumers, covering things like creating new products, distributing through various channels, and building loyalty along with personalization. As we continue growing and expanding the Lovesac brand, her insight will prove incredibly useful. Sharon steps into the seat previously held by William Phoenix. We want to express our gratitude to Bill for all his work during his four years on the board. To wrap up, our Q1 performance makes us quite happy, as does the ongoing progress we're making on our strategic priorities. Turning to what's left of the year, with conditions shifting around us, our attention remains on growing the brand, further improving how customers experience us, and reinforcing the base we'll need for the substantial expansion still to come. At this point, I'll pass things along to Jack, who will walk through our strategic priorities and how they're progressing. Jack?

Thank you, Shawn. Good morning to all of you. Our performance in the first quarter has left us quite happy, and so has the significant headway our team keeps achieving on the strategic priorities that matter most to us, which I'll go over now. First, marketing and merchandising that operate efficiently. We're putting to use what we learned during the back half of fiscal 2021, and we keep generating greater efficiencies along with robust returns from what we spend on marketing. Among the tactics fueling these gains: extending media flights so they run across key events, boosting reach along with our target customer by ramping up nonlinear buys such as Hulu and OTT; beyond that, we're aiming our linear buy at achieving greater reach. On top of that, we're raising our digital expenditures since we recognize that customers devote more of their time to digital research for their home furnishing purchases. These increases cover both putting more money into platforms we already use and bringing in new channels, for example TikTok, where we've already witnessed success. Second, how our showrooms operate. During Q1 we launched eight showrooms, and we're still on schedule to launch roughly 25 across this year. Showrooms remain a vital piece of our omni-channel model, and what's more, added capabilities such as mobile concierge, appointments, on-the-spot scheduling, and showroom post-purchase specialists are taking the Lovesac shopping experience even further. Along those lines, during the first quarter, appointments produced roughly 25% of our showroom business, which drove solid productivity. We also intend to trial a fresh consumer touchpoint during the second half by adding as many as 10 branded kiosks into our real estate strategy; at first these spots will concentrate on trade areas where our core consumers reside yet no physical touchpoint currently represents our brand. We think they'll additionally act as extra touchpoints in trade areas where we can capture incremental business in an asset-light manner. The third initiative, broadening our presence in other channels; we remain enthusiastic about our partnership with Best Buy and our expansion plans to launch more shop-in-shops during the second half of this year and early next year, with preliminary plans to launch more than 15 additional shop-in-shops. We're extremely happy with how strong the Costco business is, which we carry out through our online roadshows. Costco and our team are delighted with this relationship and intend to broaden our digital presence while also looking into possible physical touchpoints down the road. We'll keep chasing opportunities with additional partners too, and we'll share updates whenever there's noteworthy news. Besides the kiosk test just mentioned, we'll be starting a bigger mobile concierge pilot during the second half of this year as we keep testing touchpoints and look to expand our brand physically while getting the most out of our capital. Fourth, making infrastructure investments with discipline. Our brand is still in its infancy, and we're constructing a platform with the infrastructure and capabilities required to sustain the long, appealing runway for growth that awaits us. Like we said earlier, our attention is on the product configurator and the post-purchase side of the customer journey, since buyers are growing more at ease purchasing premium priced items over the internet; our combined sales and service strategy keeps delivering results, and that includes the ongoing development of the post-purchase specialist program we tested last winter. These associates contact customers after their purchase and proactively help them through that stage, covering order confirmation, shipping information, and check-ins throughout setup and installation; every one of these associates has cross-training in other showroom sales and customer service duties, yet they've been essential to our post-purchase experience while global supply chains keep recovering from the pandemic; our new e-commerce platform keeps performing well, with traffic rising 65% and conversion rising 55% for the quarter compared with two years ago. Also, as we noted, the make an appointment feature has been an especially significant software release. Appointments during Q1 made up 25% of demand sales in showrooms and contributed to a 163% gain in average order value against that same two-year comparison period; on the supply chain side, we keep improving in areas such as delivery, cost reduction, efficiency gains, and risk mitigation. As Shawn noted, we take great pride in our team's agility, which has allowed us to handle the industry's supply chain pressures so far. Like others in the industry have said, we are dealing with raw material shortages, freight cost pressures, and port delays. So far, we've used a decrease in promotions to counterbalance those pressures, which has largely been made possible by the favorable promotional environment. We are expanding and continuing to diversify our global production capacity across Vietnam, Malaysia, Indonesia, China, and the United States; before this year ends, we'll roll out our new supply chain ERP system to help us scale and keep driving optimal in-stocks for our customers. We'll keep pulling every lever to steer through what we anticipate will stay a tight supply chain environment. To sum up, we're quite happy with our strong start to the year. Pandemic tailwinds remain in the home furnishings category, and everything our teams are doing helps reinforce the Lovesac brand and value proposition. Looking ahead to the rest of the year, we know the environment is still dynamic, and we'll keep carrying out our vision and strategy with discipline, concentrating on creating long-term value for all our stakeholders. I'll hand the call over to Donna now so she can go through our first quarter financials. Donna?

Thank you, Jack. Good morning to all of you. I'd like to start by going over what we achieved in the first quarter, and after that I'll give you an update on the framework I walked you through last quarter regarding our approach to fiscal 2022. Net sales rose $28.5 million, which is 52.5%, reaching $82.9 million in Q1 of fiscal 2022, compared with $54.4 million during the same period a year earlier, and that was fueled by our showroom sales along with other channel sales. Those channel gains were partly offset by a decline in our internet sales, which were up against a stretch of elevated digital sales last year because of pandemic-related showroom closures. Showrooms net sales grew $30.9 million, or 170.4%, hitting $49 million in the first quarter of fiscal 2022 versus $18.1 million in the prior year period. That growth came mainly from a $26.7 million rise in comparable showroom sales, reaching $41.3 million in Q1 of fiscal 2022 compared with $14.6 million a year earlier, which resulted from the temporary shutdowns of every one of our showroom locations. As a reminder, point of sales transactions means orders placed through our showrooms, and that doesn't always reflect the moment control transfers to the customer. Once control transfers, net sales get recorded. Other sales, covering pop-up shop sales and shop-in-shop sales, climbed $2.6 million, or 41.4%, to $8.8 million in the first quarter of fiscal 2022 versus $6.2 million in the prior year period, and that gain stemmed from the closures of every pop-up shop and shop-in-shop location caused by COVID-19 during the prior year period. Internet sales made directly to customers through our e-commerce channel fell $4.9 million, or 16.3%, to $25.2 million in Q1 of fiscal 2022 compared with $30.1 million a year earlier, which was driven by the comparisons against the elevated digital sales in the prior year period that I just referenced. Looking at product category, our Sactional sales were up 68.9%, while our other category sales, which covers decorative pillows, blankets, and other accessories, rose 94.3% as well. Our Sac sales dropped 26.1% versus the prior year period because there was less promotional activity in fiscal 2022 compared with the first quarter of last year. Now on to our gross margin: the 540 basis point gain over the prior year period came from a 400 basis point improvement resulting from a reduction in promotional discounts, a higher overall Sactional product category and premium cover mix impact, and lower product costs tied to vendor-negotiated tariff mitigation initiatives driven by higher volume. Distribution expenses saw a 140 basis point improvement over the prior year period thanks to higher leverage of 490 basis points in warehousing and distribution costs, partly offset by roughly a 350 basis point increase in inbound and outbound freight costs. We came in above the net sales and gross margin guidance for the first quarter that we provided during our previous call. The main reasons were warehouse throughput on shipped orders coming in higher than we had estimated, along with less promotional activity than planned during the final weeks of the quarter. Beyond that, we saw the benefits of greater leverage on warehousing and distribution costs stemming from the larger net sales volume. The 18.9% rise in SG&A compared with a year earlier was mostly the result of higher employment costs, rent, and overhead expenses, partly offset by a decline in selling-related expenses. The jump in employment costs came largely from added hiring at both headquarters and our showrooms, positions that had been paused during the same period a year ago because of COVID-19 related financial resilience measures. Rent went up in connection with our growing showroom count. Overhead expenses rose because of infrastructure investments and insurance expense tied to the company's growth, partly offset by lower equity-based compensation and travel-related expenses due to COVID-19 restrictions. Selling-related expenses fell because of reduced in-store pop-up shop fees, partly offset by higher credit card fees tied to the net sales increase. SG&A expenses as a percent of net sales dropped 10.5% thanks to expense leverage across multiple areas, including infrastructure investments, selling-related expenses, employment costs, rent, equity-based compensation, travel, and insurance. SG&A expense came in below what we expected in the first quarter, mainly because our infrastructure investments and hiring shifted to a level that had been anticipated at both our headquarters and showroom locations. We expect these expenses to be higher during the second half of the fiscal year. Our advertising and marketing investments rose $2.5 million, or 30.3%, reaching $10.7 million in the first quarter of fiscal 2022, versus $8.2 million a year earlier, because marketing spend was reinstated to support sales growth now that showroom locations are fully open. Advertising and marketing expenses represented 12.9% of net sales in the first quarter of fiscal 2022, compared with 15.1% of net sales a year earlier. That 220 basis point decline resulted from leverage on the net sales increase. Depreciation and amortization grew $800,000 from the prior year period, hitting $2.4 million, mainly because of capital investments for new showrooms. In the first quarter of fiscal 2022, operating income reached $2.3 million, versus an operating loss of $8.4 million in last year's first quarter, with the improvement attributable to the net sales and gross margin gains, along with the SG&A leverage I just mentioned. Net interest expense for the first quarter came to roughly $44,000, mainly from unused line fees on our revolving line of credit. Tax expense in the first quarter of fiscal 2022 was $153,000, compared with $25,000 a year earlier, tied to minimum state income tax liabilities. Prior to discussing net income, earnings per share, and adjusted EBITDA, I'd ask that you look at the terminology and the reconciliation between each of our adjusted metrics and their most directly comparable GAAP measurements, which can be found in the earnings release we put out earlier today. For the first quarter of fiscal 2022, net income came in at $2.1 million, or $0.13 per diluted share, versus a net loss of $8.3 million, or $0.58 per diluted share, in the prior year period. Adjusted EBITDA was positive at $5.3 million in the first quarter of fiscal 2022, compared with a loss of $5.7 million on the same basis in the prior year period. Moving on to the balance sheet, our liquidity is still solid: we closed the first quarter of fiscal 2022 with $65.7 million in cash and cash equivalents along with $18.1 million of availability on our revolving line of credit, and $42,000 of debt outstanding on the revolver tied to the timing of ABL fees being charged to the revolver. Additional information about our first quarter 2022 fiscal performance can be found in our earnings press release. As for our outlook, we noted on our Q4 earnings call that we continue to operate in a pandemic environment, which means a wider range of possible outcomes for fiscal 2022.

So because of that, we aren't giving formal guidance for the whole year, but we'll give you an update on the framework we laid out on that call, which should help as you revise your models. We're aiming for one more year of robust sales growth, with roughly 25 showroom openings, and we expect to bring back expenses that had been cut in fiscal 2021 because of the pandemic. We'll keep making strategic infrastructure investments to back the considerable multi-year growth opportunity ahead of us. If we add those new showrooms and sales growth comes in around the mid-30% range, our expectation would be adjusted EBITDA margins somewhere in the mid-single digits. The margin would be down compared with last year, and two things would drive that: pressure on gross margin, plus the expense and investment factors I just described. Freight headwinds are getting stronger across the industry, and our teams are putting in serious effort to reduce their impact. On the expense line we intend to stay highly disciplined so we can partially counter these inflationary pressures. That's why we continue to view mid-single-digit adjusted EBITDA margins as a sensible result under a scenario in which sales rise in the mid-30% range. Looking ahead to the second quarter of our fiscal year, we anticipate sales will climb by somewhere in the high 40% range, while adjusted EBITDA dollars come in a bit below what we posted in the equivalent quarter a year ago. The reason for that modest dip in expected adjusted EBITDA dollars comes from money we're putting back into strategic expenses and infrastructure build-outs that the company needs to fuel its expansion — items we had paused during fiscal 2021 when we were taking steps to keep our finances resilient through COVID-19. Even so, we continue to anticipate generating cash from working capital during fiscal 2022, and CapEx should land somewhere between $15 million and $18 million. To wrap up, our first quarter was exceptionally strong on both net sales and profitability. We're concentrating on executing with discipline while steering through shifting market conditions and setting up Lovesac for durable growth over the long run. With that said, we'd like to hand things back to the operator so they can begin the Q&A portion. Operator?

Thanks. Morning, and what a strong way to kick off the year. Nice work on the momentum. Donna, my first question is about the guidance you just gave. You mentioned a mid-single digit EBITDA range if sales growth lands in the mid-30s. You also mentioned gross margin pressure coming from freight, and yet the quarter you just reported had roughly 500 basis points — a bit above 500 basis points — of margin expansion. Could you spell out what you're seeing ahead that points to added gross margin pressure beyond the freight expense you're already dealing with, enough to slow the margin profile substantially in the back half of the year? Is it promotions? Is it something else we aren't thinking about? I have a follow-up, please.

Yeah. Morning. Yeah, I'd say we're in the same boat as many others out there in that the freight headwinds simply keep stacking up. When we first set our projections for inbound freight rates — and this is specifically the inbound side, with port congestion and container availability — it's getting harder and harder, even though inventory is in a really good spot for us. It simply costs us far more to bring it in and stay ahead of some of the others who need to get inventory in; that's mainly it — it has nothing to do with discounting. Our discounting is very strong, or rather our reduction in discounting is. We still intend to do that, and it's 100% tied to the headwinds on the inbound freight. I'll tell you it will hit more in Q4. It will be most meaningful in Q4 rather than in Q3 when you're doing your modeling. I think the real positive takeaway is that even with those headwinds, we do have more levers to pull to make sure we can still generate adjusted EBITDA dollars in the mid-single digit range. The teams are working really hard to mitigate from top line all the way through to SG&A.

Yeah. Thanks.

I wanted to jump in on that point. What you observed this quarter, along with the prior few, essentially reflects systemic benefits from how the business is expanding, and we anticipate capturing those. There's considerable momentum around the brand and customer loyalty too, and our belief is that this will keep letting us offer reduced discounts. That said, Donna and her team have done an excellent job sourcing product to offset possible shipping expenses coming in the back half of the year. What we're actually finding is that certain pressures others keep mentioning haven't hit us yet during the first six months, and those pressures will begin appearing in the latter six months. The growth and margins from the initial half stem purely from business scaling and a stronger brand. Clearly, two separate patterns are at play. One is over the long haul, while the other, I believe we'd all concur, amounts to a temporary matter involving freight-related pressures.

Camilo, there's another point I'd like to add as well. As you may remember from the earnings call for our fourth quarter, and actually even in Q3 and Q4, there were some significant items that affected gross margin too, namely vendor discounting. We managed to lower our inventory reserves. What we've been doing is beginning to collaborate with our suppliers so that instead of necessarily providing it to us through rebates, the effect of those one-time rebates on the first quarter will be smaller, and what we're actually receiving is better pricing. That price reduction benefits us across the whole year rather than just once. There's still a single vendor we deal with that provides rebates, so the rebate figure simply won't carry the same impact it did in earlier years, since, once again, we're realizing it through discounts on the product. Additionally, we don't expect any benefit of the kind we refer to as coming from a reduction in inventory reserve. That's yet another item to note.

Understood. That's helpful context. My follow-up really centers on what you're observing when it comes to the consumer. Based on a few of the prepared remarks, it seemed as though customers are approaching you asking for additional product and more innovation. Is that accurate? Are you experiencing a sort of pull request from your consumers now that awareness of the brand has undergone a step function change? How does that line up with the anticipated next innovation launch, and what's the latest on when that will happen? Thank you.

I'll begin and then pass it over to Shawn, since I can share a bit about what we're seeing with customers. I believe internal research indicates that our customers value our brand more than they ever have. At the same time, even as we discount less, we're viewed as offering higher value, which I think really stems from the team working hard to build a great product, a great program, and great customer service. That's definitely happening right now; we're also noticing, interestingly, that the more we advertise, the more we're seeing stronger word-of-mouth advertising begin to occur. We've observed that rise considerably as a percentage of our new customers, which tells us we're starting to gain some of that brand traction we've been seeking. We're very happy about that. Regarding innovation, I'll hand it to Shawn Nelson for any comments on that.

On the innovation front, there's nothing fresh for me to report. Our view is that everything remains on schedule. We're anticipating the debut of our new product at some point later in this year, and we feel enthusiastic about what lies ahead. There's plenty more still to arrive.

Okay, that's all from me. Thanks a lot, everyone. Best of luck.

Thanks.

Thank you.

Thank you.

Morning, and congratulations on those really impressive figures. I was hoping you could give us a bit more detail about the patterns you noticed toward the end of April, the ones that fueled such a solid result compared with what you had guided. Donna, I believe you said this mostly came down to warehouse throughput. Were there other factors behind that beat? Perhaps you could explain what made that warehouse efficiency possible, and does it mean any revenue gets recognized earlier than it otherwise would have? I have one short follow-up after that.

Morning. Warehouse throughput is one of those things our finance group has to make an assumption about when we assess what we believe the capacity to be. The warehouse truly stepped up. We didn't ask them to put in additional hours or do anything beyond the norm; they simply managed to move more inventory out the door than our estimate assumed. As I said, we keep that estimate quite conservative, since we don't want throughput to become the factor that determines our revenue. Our approach is to assume quite conservative figures for what warehouse capacity will be as the quarter wraps up. The teams excelled at speeding things up without putting in any added time. That essentially sums it up. Do we believe any revenue was pulled forward? No. Not from what we can observe. Looking at the guidance we gave for Q2, it's clear we don't believe any revenue was shifted ahead into Q1.

Understood, that helps a lot. Second, clearly the showroom expansion this quarter was quite striking. As reopening carries on, how do you view the interplay of showrooms versus online sales?

Our stance has stayed quite steady compared with what we've done before. In trade areas where physical touchpoints get built, we recognize — and showrooms currently serve as our main touchpoint source — that something beneficial happens. What we observe is a force that bolsters the brand and works hand in hand between e-commerce and showrooms. Showroom count will keep rising, and many trade areas will keep getting reached through asset-light approaches, for example the concierges; we've talked about possibilities such as a kiosk trial too, plus what Best Buy might offer down the road. Boosting our touchpoints — our capacity to reach the greatest number of shoppers — remains something we'll pursue vigorously, yet we'll do so while genuinely weighing where capital yields the most, all while providing the finest brand experience. A robust touchpoint approach will keep being built out across the coming 3 to 4 years.

Understood, thanks to you both.

Hello, and good morning. First, let me congratulate you on a fantastic quarter. It's a terrific beginning to the year.