RH (NYSE:RH) Q3 2022 Earnings Call Transcript

RH (NYSE:RH) Q3 2022 Earnings Call Transcript December 8, 2022

RH beats earnings expectations. Reported EPS is $5.67, expectations were $4.7.

Operator: Ladies and gentlemen, thank you for standing by, and welcome to the RH Third Quarter Fiscal 2022 Earnings Conference Call. I would now like to turn the call over to Allison Malkin of ICR. Allison Malkin, please go ahead.

Allison Malkin: Thank you. Good afternoon, everyone. Thank you for joining us for our third quarter earnings conference call. Joining me today are Gary Friedman, Chairman and Chief Executive Officer; and Jack Preston, Chief Financial Officer. Before we start, I would like to remind you of our legal disclaimer that we will make certain statements today that are forward-looking within the meaning of the federal securities laws, including statements about the outlook of our business and other matters referenced in our press release issued today. These forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially. Please refer to our SEC filings as well as our press release issued today or a more detailed description of the risk factors that may affect our results.

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Please also note that these forward-looking statements reflect our opinion only as of the date of this call. And we undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements in light of new information or future events. Also, during this call, we may discuss non-GAAP financial measures, which adjust our GAAP results to eliminate the impact of certain items. You will find additional information regarding these non-GAAP financial measures and a reconciliation of these non-GAAP to GAAP measures in today’s financial results press release. A live broadcast of this call is also available on the Investor Relations section of our website at ir.rh.com. With that, I’ll turn the call over to Gary.

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Gary Friedman: Great. Thank you, Allison, and thank you, everyone, for joining us today. I will start with our prepared remarks from our shareholder letter to our people, partners and shareholders. We’re pleased to report better-than-expected results for the third quarter with net revenues of $869 million versus $1.006 billion a year ago and up 28% versus third quarter 2019 net revenues of $678 million. Gross margin contracted 50 basis points in the third quarter, primarily due to fixed occupancy deleverage, partially offset by an increase in product margins as we continue to resist promoting the business. As previously mentioned, widespread discounting continues across our industry. And while it’s been almost two years since we’ve deployed a promotional e-mail, we’ve been receiving two sale e-mails per day for many home furnishings retailers.

Although the stark contrast in strategy may lead to a short-term risk of market share loss, we believe there is certain long-term risk of brand erosion and model destruction for those who choose the promotional path. It’s that discipline and long-term thinking that has enabled us to set new standards for financial performance in the home furnishings industry and our results now reflect those of luxury brands as we delivered 20.8% adjusted operating margin in the third quarter, also exceeding our outlook despite the dramatic slowdown in the housing market. Our results are inclusive of investments related to the launch of RH Contemporary, the opening of our first RH Guesthouse, the development of RH International and the rollout of RH In-Your-Home, which led to approximately 200 of the 640 basis points of adjusted SG&A deleverage in the quarter.

Additionally, we experienced adjusted SG&A deleverage due to lower revenues versus a year ago. Our business generated $102 million of adjusted free cash flow in Q3, ending the quarter with $12.5 billion in cash on our balance sheet — $2.15 billion in cash on our balance sheet, total net debt of $375 million, and trailing 12 months adjusted EBITDA of $1 billion. Fiscal 2022 outlook. As noted in our previous shareholder letter, we expect our business trends will continue to deteriorate as a result of accelerating weakness in the housing market over the next several quarters and possibly longer due to the Federal Reserve’s anticipated monetary policy and the cycling of record COVID-driven sales and backlog reductions. Based on our current trends, we now expect fiscal 2022 revenue growth of negative 3.5% to negative 4.5% versus our prior outlook of negative 3.5% to negative 5.5%, and adjusted operating margin in the range of 21.5% to 22% versus our prior outlook of 21% to 21.5%.

While we expect the next several quarters to pose a short-term challenge as we cycle the extraordinary growth from the COVID-driven spending shift and shed less valuable market share, we believe our long-term investments will enable us to continue driving industry-leading results. RH business vision and ecosystem, the long view. We believe, “there are those with taste and no scale, and those with scale and no taste,” and the idea of scaling taste is large and far reaching. Our goal to position RH as the arbiter of taste for the home has proven to be both disruptive and lucrative, as we continue our quest to build the most admired brand in the world. Our brand attracts the leading designers, artisans and manufacturers, scaling and rendering their work more valuable across our integrated platform, enabling RH to curate the most compelling collection of luxury home products on the planet.

Our efforts to elevate and expand our collection will continue with the introductions of RH Couture, RH Bespoke, RH Color, RH Antiques & Artifacts, RH Atelier and other new collections scheduled to launch over the next decade. Our plan to open immersive Design Galleries in every major market will unlock the value of our vast assortment, generating revenues of $5 billion to $6 billion in North America and $20 billion to $25 billion globally. Our strategy is to move the brand beyond curating and selling product to conceptualizing and selling spaces, by building an ecosystem of Products, Places, Services And Spaces that establishes the RH brand as a global thought leader, taste and place maker. Our products are elevated and rendered more valuable by our architecturally inspiring Galleries, which are further elevated and rendered more valuable by our interior design services and seamlessly integrated hospitality experience.

Our hospitality efforts will continue to elevate the RH brand as we extend beyond the four walls of our Galleries into RH Guesthouses, where our goal is to create a new market for travelers seeking privacy and luxury in the $200 billion North American hotel industry. Additionally, we are creating bespoke experiences like RH Yountville, an integration of Food, Wine, Art & Design in the Napa Valley, RH1 and RH2, our private jets, and RH3, our luxury yacht that is available for charter in the Caribbean and Mediterranean where the wealthy and affluent visit and vacation. These immersive experiences expose new and existing customers to our evolving authority in architecture, interior design and landscape architecture. This leads to our long-term strategy of building the world’s first consumer-facing architecture, interior design and landscape architecture services platform inside our Galleries, elevating the RH brand and amplifying our core business by adding new revenue streams while disrupting and redefining multiple industries.

Our strategy comes full circle as we begin to conceptualize and sell spaces, moving beyond the $170 billion home furnishings market into the $1.7 trillion North American housing market with the launch of RH Residences €“ fully furnished luxury homes, condominiums and apartments with integrated services, that deliver taste and time value to discerning time-starved consumers. The entirety of our strategy comes to life digitally with The World of RH, an online portal where customers can explore and be inspired by the depth and dimension of our brand. Our authority as an arbiter of taste will be further amplified when we introduce RH Media, a content platform that will celebrate the most innovative and influential leaders who are shaping the world of architecture and design.

Our plan to expand the RH ecosystem globally multiplies the market opportunity to $7 to $10 trillion, one of the largest and most valuable addressed by any brand in the world today. A 1% share of the global market represents a $70 to $100 billion opportunity. Our ecosystem of Products, Places, Services and Spaces inspires customers to dream, design, dine, travel and live in a world thoughtfully curated by RH, creating an emotional connection unlike any other brand in the world. Taste can be elusive, and we believe no one is better positioned than RH to create an ecosystem that makes taste inclusive and, by doing so, elevating and rendering our way of life more valuable. Climbing the luxury mountain and building a brand with no peer. Every luxury brand, from Chanel to Cartier, Louis Vuitton to Loro Piana, Harry Winston to Hermès, was born at the top of the luxury mountain.

Never before has a brand attempted to make the climb to the top, nor do the other brands want you to. We are not from their neighborhood, nor invited to their parties. We do have a deep understanding that our work has to be so extraordinary that it creates a forced reconsideration of who we are and what we are capable of, requiring those at the top of the mountain to tip their hat in respect. We also appreciate that this climb is not for the faint of heart, and as we continue our ascent the air gets thin and the odds become slim. We believe the level of work we have introduced this year, inclusive of RH Contemporary, The World of RH, RH San Francisco, RH 1, 2, and 3, as well as the opening of our first RH Guesthouse in New York begins to demonstrate the imagination, determination, creativity and courage of this team, and our relentless pursuit of our dream.

I mentioned at the start of this year that, in over two decades leading RH, I’ve never been more excited about our future and I’ve never been more uncertain about the present. Although my uncertainty regarding the short-term has expanded due to a complete collapse of the luxury housing market, my excitement for our long-term opportunity has grown exponentially as I believe the investments we are making to elevate and expand our product and platform will once again be transformative. As we look forward to 2023, we will introduce the largest collection of new product in our history across RH Interiors, Modern, Contemporary, Outdoor, Beach & Ski House, Baby & Child, and Teen. To amplify this historic launch, we will once again unveil a revolutionary new Gallery design, as well as redesign and remodel all of our current Galleries.

We will be introducing RH to the UK and the rest of Europe this Spring/Summer in the most inspiring and unforgettable fashion with the introduction of RH England, The Gallery at the Historic Aynho Park, a 16th-century, 73-acre estate that will feature three restaurants; The Orangery, The Conservatory, and The Terrace plus The Aynho Architectural Library and The Deer Park, inclusive of the largest herd of White Deer in Europe with viewing from the Grand Lawn. We are also under construction on RH Paris, The Gallery on the Champs-Élysées, scheduled to open in 2024, and RH London, The Gallery in Mayfair scheduled to open in 2024, 2025. We have also secured locations in Milan, Madrid, Munich, Dusseldorf and Brussels, some of which will also open in 2024 and 2025.

RH also announced today the following acquisitions and hires to accelerate the brand’s transformation and climb up the luxury mountain. The acquisition of Dmitriy & Co, a To-the-Trade custom upholstery atelier, and the hiring of Dmitriy founders, Donna and David Feldman, to create RH Couture Upholstery. The acquisition of the business of Jeup, Inc., a To-the-Trade custom bespoke furniture workroom, and the hiring of Joseph Jeup to create RH Bespoke Furniture. The hiring of Margaret Russell, former Editor in Chief of Architectural Digest and Elle Decor, to create RH Media, an editorial-content platform that will celebrate the most innovative and influential people and ideas that are shaping the world of architecture and design. Today’s announcements, plus our previous acquisition of Waterworks, firmly plant four RH flags at the very top of the luxury mountain, and clearly state our intention of establishing RH as an arbiter of taste and design.

These brands and businesses, thoughtfully integrated and amplified on what we believe will be the world’s most innovative and dynamic global design platform, will begin to fundamentally change the landscape of the luxury home furnishings market and the To-the-Trade design industry. As we approach the holidays and New Year, I would like to express our gratitude to all of our people and partners around the world for your contributions and commitment to our cause, and for bringing our vision and values to life. It’s not easy striving to become the most inspiring brand in the world, and it’s surely not for the faint of heart. It takes courage to lead rather than follow. It takes collaboration to build a brand that can break through the clutter in this world.

It takes teamwork to reach the top of a mountain no one else has attempted to climb. 20 years ago we began this journey with a vision of transforming a nearly bankrupt business with a $20 million market cap and a box of Oxydol laundry detergent on the cover of the catalog into the leading luxury home brand in the world. The lessons and learnings, the passion and persistence, the courage required, and the scar tissue developed by getting knocked down ten times and getting up eleven leads to the development of the mental and moral strength that builds character in individuals and forms cultures in organizations. Lessons that can’t be learned in a classroom, or by managing a business, lessons that must be earned by building one. Or, by reaching the top of the mountain.

Happy Holidays Team RH, Carpe Diem.

Allison Malkin: Ready for questions.

Q&A Session

Operator: The floor is now open for your questions. Our first question comes from the line of Simeon Gutman from Morgan Stanley. Please proceed.

Simeon Gutman: Hey, good afternoon everyone. I wanted to ask a question about written orders in the third quarter. I don’t know if you’ll comment, but if you use that run rate as a proxy for the business, does that get worse? And then my question is that we now — since you beat in the third quarter, we have a slightly steeper slope to the fourth quarter. Is that less backlog? Is it more macro risk? What’s changing from third down to fourth?

Jack Preston: Maybe starting with the second part, Simeon. Look, in the beat in Q3, I think most of that I would characterize as just timing of sales from Q4 to Q3 not necessarily — some of that is obviously relieving backlog faster than expected, but we had expected to relieve that backlog and continue to do so throughout the year. So look, I think on the year, we’re still talking about $3.6 billion in sales. I don’t think our sort of numbers changed materially in terms of that outlook, slightly steeper sure, but it’s not kind of rounding error in a sense with all due respect. But I think it’s pretty consistent with what we talked about before and simply just Q3 had some pull forward of sales from Q4 and a little bit of faster backlog belief.

Simeon Gutman: Okay. And then as a follow-up, maybe more for Gary, knowing that you’re going to continue to invest for the future and still be somewhat responsible here for the near term. Question is what — are you looking at prioritizing things differently? Does anything get sacrificed, love to hear how you think about this, especially as the year keeps evolving with the Fed still tightening?

Gary Friedman: Yes. How do you define responsible?

Simeon Gutman: Yes, I don’t know, if I can answer

Gary Friedman: I’m just trying to understand the question. So I think

Simeon Gutman: cut back on that

Gary Friedman: Yes, we’re communicating what we’re doing. We believe everything we do is responsible. So I don’t quite know how to answer that.

Simeon Gutman: Well, maybe this as the second part, which is, is anything getting sacrificed meaning or some of your longer-term investments putting on pause or no, and that’s maybe that’s just the right way to look at it.

Gary Friedman: We’re not putting any longer-term investments on pause. I mean, we’re playing for the long-term. So we’re not doing irresponsible things that other people are doing like promoting their business and selling. Sending, I don’t know, 30 e-mails to a customer a week with sales time out. That, I think, might be irresponsible. But I guess it depends on your strategy. If your strategy is to stand for price, then maybe that’s an okay strategy. Our strategy is to stand for design and quality and innovation. So it’s positioned the company around product, not price. So I think we’ve been really consistent with our strategy. And as you think about priorities, we reprioritize all the time here. We like to say, you’ve kind of got to get going, get to know are we strategically right?

Are we directionally right? We believe we’re strategically and directionally right. We believe that we make the right long-term investments and build this business for the long-term we’ll become one of the few brands in the world that exist over a long-term period of time. So that’s unusual in our industry. Most people build a concept and then they roll out 300 or 500 stores. And at the end of 10 years, it’s an old concept. So we would like not to get old, and we like to continue to reinvent the business. And whatever the cycles are, if you look at it for us, if you look back at history, since I joined in 2001, there was a recession at that time, and we elevated the product and kind of transformed the brand. We did the same thing in 2008, 2009, the financial crisis.