Duluth Holdings Inc. (NASDAQ:DLTH) Q3 2023 Earnings Call Transcript

Duluth Holdings Inc. (NASDAQ:DLTH) Q3 2023 Earnings Call Transcript November 30, 2023

Duluth Holdings Inc. misses on earnings expectations. Reported EPS is $-0.32 EPS, expectations were $-0.31.

Operator: Good morning, and welcome to the Duluth Holdings Inc Third Quarter 2023 Earnings Conference Call. All participants are in a listen only mode. [Operator Instructions] After today’s presentation there will be an opportunity to ask questions [Operator Instruction] Please note this event is being recorded. I would now like to turn the conference over to Nitza McKee. Please go ahead.

Nitza McKee: Thank you-, and welcome to today’s call to discuss Duluth Trading’s third quarter financial results. Our earnings release, which was issued this morning, is available on our Investor Relations website at ir.duluthtrading.com under Press Releases. I’m here today with Sam Sato, President and Chief Executive Officer; and Mike Murphy, Vice President, Chief Accounting Officer and Interim Chief Financial Officer. On today’s call, management 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 by the use of words such as estimate, anticipate, expect and similar phrases.

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-K 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. And with that, I’ll turn the call over to Sam Sato, President and Chief Executive Officer. Sam?

Sam Sato: Thank you for joining today’s call. Reflecting on what has remained a dynamic consumer environment in which we continue to see customers gravitating to value. Our third quarter performance was hampered by lower traffic in both our direct and retail channels as well as an under penetrated position in spring/summer goods following strong unit sell-throughs during the second quarter. In addition to managing the business prudently on both the inventory and expense fronts, we strategically post a higher-than-planned level of events, combined with select pull-forward of fall/winter receipts enabling us to maintain high levels of in-store shopper conversion as well as improve our conversion and retention rates in our direct channel.

To be clear, we are not satisfied with our performance, and we’ve made adjustments to improve the trend in the business for the final quarter of the fiscal year. I’m pleased to report that we’ve experienced a solid improvement in business trends over the Black Friday through Cyber Monday period, which gives us confidence. That tactical adjustments we are making are resonating with our customers. Let me outline at a high level the actions we’re taking to improve our business performance. In the fourth quarter, we’re introducing more new products than we ever have as well as pulling forward select items from our spring 2024 assortments. We’re chasing and, in some cases, expediting freight for targeted best sellers to capitalize on these winning products throughout the holiday season.

And we’ve added back global events and pulsed our Black Friday deals throughout November. Despite the challenging third quarter results, we registered notable merchandising wins highlighting that our brand and sub brands remain strong, and our product innovation engine is creating winning assortments. Key wins for the third quarter included continued strength in our garden landscaping and planting category, which now represents over 10% of our total women’s business. Our Arlon Garden Collection posted triple-digit growth in the quarter over last year, fueled by new prints and colors and expanding offering into extended sizes and a very successful line version of the Arlon gardening bib. The customer is loving the added warm from the line bib, so she can wear her favorite overalls year-round.

The Arlon gardening bid is our newest hero product. In fact, this product is the first purchase for nearly 40% of all new female customers and is number one in organic search for the Garden overhauls. A clear indication that our apparel styles have a foothold in this space. We’ve continued to see strength in women’s bras, which posted another quarter of year-over-year growth of 50%. [Indiscernible] is responding well to innovation in the broad category with an emphasis on soft fabrications and the seamless look and feel. Our top collections include Armachillo, gestabust and Free range. Our newest bra, our Armachillo TeeLUXE, which leverages our Jade infused Armachillo fabric, and first ever molded cup bra has quickly become our #1 style. Women’s AKHG had another solid quarter of growth and increased by just under 20%.

Customer continues to respond well to our melt water collection and we’re also seeing a strong start to outerwear sales driven by the Puffin collection. We also introduced the first women’s parka in AKHG, and she’s loving the added length and new waterproof innovation. Duluth continues to show strength in its core programs. Within men’s, Duluth Flex Fire Hose and denim were up double digits, supported by our pants destination marketing our Duluth Flex Fire Hose pants delivered solid growth in the quarter with notable strength in standard and slim fits an indication that these fits are attracting a younger customer. Now a brief review of our third quarter results. Total net sales for the third quarter were $138 million, down 6.1% with our retail channel down 9%.

And our direct channel down 4%. As I mentioned, the third quarter was impacted by lower traffic across channels and our under penetrated position in spring/summer goods during the first half of the quarter. To maintain brand integrity, we remain competitive with our offers, but made the strategic decision to limit the depth of discounts in the third quarter. And while this may have also contributed to lower top line sales, we believe holding the line on price integrity is paramount to the long-term health of our business. Further, our product gross margin declined to last year stabilized considerably in the third quarter. And the erosion that we did see was almost exclusively from mix as customers shopped less at full price and gravitated to maximizing their spend during periods in which we post events.

When looking across our full price, promotional and clearance sales buckets, product gross margins were essentially flat to slightly up in each. We’ll continue to balance our efforts in the fourth quarter to stay competitive and drive the business while preserving the long-term price integrity of our brands. Mike will provide greater details on the P&L but our net loss per share in the third quarter was $0.32 versus a loss of $0.19 in the third quarter last year. As our teams continue to optimize efficiencies in our marketing spend, and with customers gravitating to a greater mix of promotional sales throughout the quarter, we made the strategic decision to pull back on advertising spend. And delevered ad leverage in the third quarter. Our Q3 marketing spend effectively balanced brand awareness and high converting digital tactics within our media mix.

Digital conversion media achieved strong year-over-year performance within both paid social and e-mail, which drove an 11% increase in reactivated customers. Importantly, our inventory is in a very healthy position with a significantly higher level of newness coupled with a 30% decrease in clearance inventory. Our quarter end inventory balance of $174 million was 15% below last year with a strong mix of fall/winter and year-round goods. Our continued focus on effectively managing our inventory will enable us to increase profitability, enhance cash flows and better serve our customers both now and in the future. As touched on last quarter, we’re also excited about our pipeline of new and innovative products that we have begun to introduce during the fourth quarter.

This includes newness in our core categories of buck naked and fire hose as well as within our sub-brand, AKHG. Our customer loves the performance of our Dry on the Fly technology, so we’ve added this to underwear and also to a new team. This high-performance fabric has superior wicking and drying benefits that derives from the special fiber shape and fabric blend, which is unique to Duluth. The new T combines the performance of a technical fabric the weight and hand feel of a cotton tea and comes in both Longtail and on long tail silhouettes. We will also be offering a new men’s fire host Carpenter pants featuring the strongest Flex fabric on the marketplace, but still with a lighter weight than our original Flex firehose. We’re confident this will be a hero product and another example of Duluth’s DNA by offering customers innovative products that solve a problem.

In November, we also delivered newness in No-Yank. This is our favorite layering tank, and we’re offering it in a new rip fabric in 2 different styles and also brought in a boat next silhouette in our core fabric. She’s told us she loves this collection, and now there will be even more options to complete her outfit. And finally, as I mentioned earlier, women’s AKHG continues to deliver significant growth. We’re very excited to announce this January, we will be launching a new women’s AKHG fitness apparel line, which will include an assortment of styles from tanks, shorts, to hybrid jackets and after sweat sweats. We’re bringing in product for the new year as customers are focused on self-care and starting the new year off right. Given the strong start to the holiday season over Black Friday through Cyber Monday, coupled with our strong assortment of new and innovative products, we’re positioned well heading into the remaining weeks of peak holiday selling.

There’s still a lot of business in front of us and the trend we are seeing gives us confidence that our high-quality solution-based products will continue to resonate with our customers, gift givers and new-to-file consumers. Looking forward, we remain resolute on executing critical foundational strategic investments, and I’d like to provide updates on a few key components that represent cornerstones to our Big Dam Blueprint. We’re making great progress on several important initiatives that will serve as enablers for long-term profitable growth, including our global supply chain strategy, our sourcing and product innovation strategy as well as our technology road map. First, as I shared during the second quarter call, our new highly automated fulfillment center in Adairsville, Georgia went live in September, with a ramp-up plan to process up to 60% of all online orders and store replenishment volume by the end of Q3.

I’m pleased to report that we reached this goal and the facility is fully operational and exceeding output expectations thus far in the fourth quarter. In addition to shortening delivery times to keep pace with evolving customer expectations, the enhanced capabilities in this facility will provide both labor and shipping efficiency gains. In October, we already benefited from lower cost per unit to fulfill an order in this facility, which is less than half the cost of our 3 legacy fulfillment centers and will result in meaningful cost savings over time. We also continue to make progress with the growth of our sourcing and product innovation functions, which we believe is another critical strategic initiative to drive sustainable long-term profitable growth.

Several team members were onboarded in the second quarter, and I’m pleased to share that we have recently hired a new Vice President of sourcing, someone with deep and extensive sourcing experience who previously led large sourcing functions, including at J.Crew. This initiative will enable us to further accelerate the introduction of high-quality innovative products more frequently while increasing our speed to market at a reduced cost. In fact, as we move into and throughout next year, we expect this initiative to deliver significant improvement in our initial markups across our assortments and these will continue to build over time. Finally, we have also made great strides with completing several foundational initiatives to execute our technology and transformation road map.

Which becomes the primary focus of our capital expenditure outlays in fiscal 2024. That said, total capital spend in 2024 will be down considerably compared to 2023. With the successful completion of Adairsville, and the progress we’ve made on our sourcing and product innovation and technology initiatives, our confidence only continues to grow in the investment strategy outlined by our Big Dam Blueprint. I look forward to sharing more on our fourth quarter call, and we’ll now turn it over to Mike to provide more details on our third quarter results. Mike?

Mike Murphy: Thanks, Sam, and good morning. For the third quarter, we reported total net sales of $138.2 million, down 6.1% compared to $147.1 million last year. which brings our year-to-date sales decline to 2.5% versus last year. Our direct channel sales declined 4.4% as lower web visits were partially offset by increased conversion of 70 basis points. However, sales on mobile devices increased roughly 2% with even greater improvement in conversion up 80 basis points, indicating that our investments and continued focus on the mobile experience is paying off. Our retail channel sales were down 8.8%, driven by a store traffic decline of more than 6% compared to last year, coupled with a moderate decrease in shopper conversion.

Total men’s division sales decreased 7% during the quarter, while women’s was down 3%. Women’s momentum from the previous 3 quarters slowed but continued to grow as a percentage of our overall business as compared to the prior year. As Sam mentioned, the actions we are taking have resulted in improvements in business trends over Black Friday through Cyber Monday. We are pleased with our improved quarter-to-date sales trends, but we also recognize that we have many important selling days ahead of us leading up to Christmas. That said, we are lowering our guidance largely based on our Q3 results which I will provide more details on shortly. Our third quarter gross profit margin was 50.2% compared to 52.3% last year, and reflects a lower mix of full price sales this quarter versus last year, while gross profit dollars of $69.4 million declined 9.8% from last year.

As mentioned last quarter, we started to see our year-over-year product gross margin decline stabilized at the end of Q2, and that remained consistent throughout Q3. However, as noted by Sam, we continue to see customers gravitate towards value and choosing to purchase during sale events more often. Turning to expenses. SG&A for the third quarter decreased 2.9%. To $81.8 million or 59.2% of sales compared to $84.3 million last year or 57.3% of sales. This included an increase of $700,000 in general and administrative expenses, a decrease of $1.8 million in advertising and marketing expenses and a decrease of $1.4 million in selling expenses. Selling expenses as a percentage of net sales increased 10 basis points to 17.2% compared to 17.1% last year, driven by higher outbound shipping costs that resulted from contractual rate increases as well as lower average order values on our direct channel orders.

Within our selling costs, expenses related to variable labor across the store fleet and the fulfillment centers declined to last year. And the year-over-year leverage gain as a percentage of sales in Q2 nearly doubled in Q3. This is a direct result of the efficiency gains we continue to realize from the investments made across our fulfillment center network most notably our new highly automated center in Adairsville, that went live in September. As Sam mentioned and worth repeating, the cost per unit we achieved in October at this new facility reflects savings of more than 50% on compared to our other 3 centers. We expect the cost per unit benefits to be even more meaningful in Q4 and continue into fiscal 2024. Advertising and marketing costs were $17.8 million in the third quarter compared to $19.6 million last year, and as a percentage of sales decreased 40 basis points to 12.9%.

Compared to 13.3% last year. Our investment in brand awareness through national ad channels and TV streaming increased slightly versus last year, while our digital media channel spend was reduced. During Q4, we will continue to balance brand awareness and conversion marketing tactics with new cutter creative concepts and a planned increase of digital media investments. These digital media investments focus on social media and influencers and online video and streaming supplemented with a strong investment in search and shopping channels. We expect to deliver greater year-over-year advertising lever in the fourth quarter compared to what we experienced in Q3. General and administrative expenses during the third quarter were $40.3 million, or 29.1% of net sales compared to $39.6 million or 26.9% last year.

The increase in G&A expenses over last year reflect incremental costs associated with the aforementioned strategic initiatives. Including depreciation and personnel expenses associated with the new Adairsville, fulfillment center as well as additional personnel costs to support the growth of our sourcing and product innovation functions. We expect our fourth quarter overhead expenses to be slightly less than Q4 of last year. Adjusted EBITDA for the third quarter was negative $1.6 million or negative 1.9% of sales compared to a positive $1.7 million or 0.7% of net sales last year. Our net loss per share was $0.32 versus a net loss per share of $0.19 in the third quarter last year. Moving on to the balance sheet. We ended the quarter with net working capital of $62 million, including $8 million in cash and $36 million outstanding on our $200 million line of credit.

Our Q3 debt levels were in line with plans, and importantly, we expect all outstanding debt balances to be fully paid off by the end of next week. Our inventory balance ended the quarter down 15% compared to the third quarter last year. We planned inventories down year-over-year throughout 2023, which is reflective of our continued focus on being more efficient and driving increased inventory turns. Importantly, we feel good about the current mix between year-round and seasonal goods heading into the peak selling season. With total clearance units on hand down by more than 30% from last year, driven by higher sell-through of spring summer items in Q2. We remain on track for our total capital expenditure plan of approximately $55 million this year, which will be funded by cash.

And as we’ve shared on previous calls, the bulk of which relates to our new fulfillment center in Adairsville, Georgia. Now moving on to full year guidance. We are updating as follows: net sales in the range of $640 million to $655 million. EPS in the range of negative $0.25 to negative $0.15. And adjusted EBITDA in the range of $35 million to $39 million. These estimates reflect a full year gross profit margin decline of approximately 150 basis points and full year SG&A expenses as a percentage of sales to be roughly flat to up 70 basis points compared to last year. Our teams remain focused on prudently managing the business, controlling what’s within our control and continuing to execute on a strong peak season. On behalf of Sam and the entire leadership team, I’d like to wish everyone a happy and healthy holiday season.

With that, we’ll open up the call for questions.

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Q&A Session

Operator: [Operator Instructions] And our first question will come from Janine Stichter of BTIG.

Janine Stichter: I wanted to ask about Black Friday and Cyber Monday specifically, understanding it was very strong Sam starts the holiday season. How do you think about extrapolating that into your go-forward outlook? Just knowing that, I think, for you and for the industry in general, we’ve seen consumer shopping more around promotions. And then I have a follow-up.

Sam Sato: Yes, I mean, we’re obviously pleased with the solid start to the holiday shopping period and saw a solid trend improvement in the business from Black Friday through Cyber Monday. Obviously, we continue to see the consumer sensitivity around price. And certainly, the Q3 results as we look at it by price bucket is a clear indicator of that. And so while the trend certainly improved, we’re taking a slight tempered look to the remaining upcoming weeks, still a lot of business to do, and we’re watching that closely. I still think that there’s some consumer sensitivity and we’re watching that closely. At the same time, as we continue to share while we’ve got to be promotional and in the case of Q3, we post events more frequently than we have historically.

We’re not going to chase bad sales, meaning we’re not going to discount the product to the point where it’s not providing both top line and flow through to the bottom line. And damaging the brand position. So while the trend changed over the course of Black Friday weekend, through Cyber Monday, it was during a highly promotional time. And so we’re just being cautious in terms of extrapolating that throughout the rest of the quarter.

Janine Stichter: Great. And then I also wanted to ask around the inventory. It sounds like there’s a fairly large bifurcation between some of the items that are really working some of the hero products. And then kind of the balance of the assortment. So how does that inform how you think about SKU intensity and bringing product to market going forward? Is there an opportunity to kind of maybe shrink the SKU intensity and invest more deeply behind some of these clear winners?

Sam Sato: Yes, absolutely. So I mean it’s a dynamic kind of fluid scenario. So we’ve got some hero products, key year-round goods that we’re on pretty fast recovery. So we’re writing orders on a regular basis and flowing those goods, whether it’s Flex Fire Hose or some of our key under products. At the same time, we’re looking at these opportunities of products and categories that we’re starting to see greater growth, and we’re working hard to not only ensure that we stay in stock at the right time, but that we’re looking forward and exploiting those opportunities. I think what’s interesting about some of the things we’ve got going right now is the continued innovation against franchise like Fire hose, Carpenter pant that that is coming in, then we identify new categories like our AKHG fitness line across women and men’s.

No-Yank has been a staple for us and the team worked hard to introduce a few new silhouettes and new fabrications. And so it’s kind of we’re looking at new opportunities within new categories that we aren’t currently participating in as well as evolving, expanding kind of true blue categories and items that have really made dilute what we are today.

Operator: The next question comes from Jonathan Komp of Baird.

Jonathan Komp: Sam, I just want to follow up on the topic of promotions and discounting and just understand the strategy. You highlighted clearance units down a lot, you’re not intending to chase sales. But I think through yesterday, you had 40% off everything there’s still more frequency of deals. Just could you maybe go a little more in depth of strategy there, why pursue those deals at all versus maybe a more profitable base of revenue if you didn’t — and then how should we think about the gross margin level you need going forward for this to be a healthy level of profitability to the total company?

Sam Sato: Yes, sure. Thanks, Jonathan. Yes, I mean, it’s a complex and kind of tricky scenario when you’re balancing brand integrity with market competitiveness. And so the whole house, what we call whole house global events that we have, we’re comping those and — and actually, we’re not adding a lot more of those. We are pulsing in certain item kind of promotions. And as I said, it’s considerably more price promotional out there than it has been over the last couple of years. And so in order to remain competitive, yes, we’re having to promote a bit more frequently. But as I said, the depth of our promotion in terms of the discount — discounting is not significantly deeper, and that’s where we’re going to draw the line a bit.

So yes, I mean, we’re always thinking about how much is too much, how much is too little how do we ensure that we continue to drive sell-through brand awareness because all of those things have implications into the future. And certainly, as it relates to kind of mind share, could we do less promoting? Yes. I mean we always could. Does that necessarily improve or help us meet some of our other required measurements like sell-throughs and market share, no, we probably give some of that back margin rate, the rate itself might increase. But total profitability for the company, both near term and in the immediate kind of future would be hurt. So, I mean, it’s tricky. And I know the basis of your question, Jonathan, you and I have talked about this a lot, and I think just know that we’re internally talking about the balance of promotions versus regular price.

The fact of the matter is when we look at our sales mix, as I shared in the prepared remarks, customers are just gravitating more greatly to value. And so when we do run these events, the sales numbers jump during those events and they’re just — they’re choosing to purchase less during regular price periods. The great news is in all of our buckets, clearance included, although clearance is significantly down from a year ago, but all 3 of our buckets, regular price promotions and clearance, our margin rates are actually slightly flat to slightly up in all 3 buckets. And so in totality versus a year ago and even when we look back a couple of years ago, margin rates by bucket aren’t that far off just the percentage of sales are being driven more by that promotional bucket right now than they are regular priced or clearance.