Build-A-Bear Workshop, Inc.

Greetings, and welcome to the Build-A-Bear Workshop fourth quarter 2018 results conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Allison Malkin of ICR. Thank you.

You may begin. Good morning. Thank you for joining us. With me today are Sharon Price-John, CEO, and Boin Todorovic, CFO. For today's call, Sharon will begin with a discussion of our 2018 fourth quarter and fiscal year performance, review the progress made on our strategy, and the priorities we set at the start of fiscal 2019. Boin will review the financials and share our guidance. We will then open the call to take your questions. We ask that you limit your questions to one question and one follow-up. This way, we can get to everyone's questions during this one-hour call. Feel free to re-queue if you have further questions. Members of the media who may be on our call today should contact us after this conference call with your questions. Please note, the call is being recorded and broadcast live via the Internet. The earnings release is available on the investor relations portion of our corporate website. A replay of both our call and webcast will be available later today on the IR site. Before I turn the call over to management, I will remind everyone that forward-looking statements are inherently subject to risks and uncertainties. Actual results could differ materially from those currently anticipated due to a number of factors, including those set forth in the risk factors section in the company's annual report on Form 10-K. We undertake no obligation to revise any forward-looking statements. In addition, I want to remind you that given the previously announced fiscal year change, references to the prior year results are based on the unaudited recast results for the fiscal year ended February 3, 2018. Finally, during this call, we will refer to adjusted results, which are non-GAAP measures. The press release we issued earlier this morning includes a reconciliation table presenting gaps to adjusted total revenues for the 53 weeks ended February 3rd, 2018, to the 52 weeks ended February 2nd, 2019, and a reconciliation table presenting gaps to adjusted pre-tax loss for the fourth quarter and full fiscal year. as well as gap net income and EPS to adjusted net income and adjusted EPS. And now I would like to turn the call over to Sharon.

Thank you, Allison, and good morning, everyone. 2018 was financially disappointing for Build-A-Bear and for me personally, as after delivering four consecutive years of profitability, we posted the first full year loss for the company since I took the helm in mid-2013. We believe there were a number of major headwinds unique to the year which were reviewed and communicated in January. Even with the impact of these significant and arguably anomalistic disruptions, we had starkly different results geographically as our largest market, North America, posted a low single-digit sales decline and a modest profit on an adjusted basis. However, the negative impact from our largest international market, the United Kingdom, more than offset the North American performance as uncertainty surrounding Brexit weighed on consumer confidence, the currency, and our business results throughout the year, manifesting in a double-digit negative sales persistent decline in the UK. The business was further challenged in May with the enactment of new consumer privacy laws, commonly known as GDPR, which significantly impeded our ability to effectively and directly communicate with our core consumer base for the balance of the year. In addition to the UK-specific issues, other 2018 challenges included the closure of our single largest and most profitable multi-million dollar retail location, the unforeseen bankruptcy and subsequent liquidation of Toys R Us, the impact of new accounting standards and tax policies, and the significant reduction in high-impact family-centric licensed movie properties. Although we believe any one of these headwinds would have been disruptive to the business, The convergence over the course of a single year could have stressed the company to the point of strategic disruption. However, I am proud that our team has remained resilient and focused on managing both the short-term and the longer-term strategic objectives. During the year, we systematically attacked each situation by focusing on the things within our control and continues to drive toward the execution of our overall multi-year strategy to diversify our business model and and become an intellectual property company leveraging the strength of the Build-A-Bear brand with retail as one of our channels, while simultaneously carrying out one of the most remarkable brand substantiating PR events in recent history. Given that backdrop, in contrast to the overall financials, we believe the year represented a productive period on the operations side. We progressed or completed several key milestones that are foundational to advancing our capabilities to deliver long-term sustained profitable growth while leveraging the memorable, emotional, and engaging power of the Build-A-Bear brand. With over 90% brand awareness and affinity numbers that rival some best-in-class kids' properties, we believe that this brand has the potential to be monetized across a number of revenue streams via retail, geographic, consumer, and category diversification. With this in mind, on today's call, after providing you with some 2018 details, I intend to update you on the forward movement of our key priorities while providing additional insights as to how we expect to continue to execute our strategy to position Build-A-Bear for sustained growth in 2019 and beyond. First, for fiscal 2018, consolidated revenue decreased by 4.9% on an adjusted basis with a low single-digit decline in North America and a double-digit drop in Europe. As I mentioned, the North American region generated a profit for the year on an adjusted basis, which was more than offset by the loss in Europe. E-commerce sales rose double-digit, with consolidated growth of 14%, led by an increase of 18% in North America. We have seen our digital sales gain momentum, with the recent fourth quarter reaching 10% of net retail sales compared to 7% in the prior year's period. We expanded our business and commercial revenue, which includes outbound licensing and wholesale, as well as international franchising by over 15%, and we ended the year with a solid balance sheet, $18 million in cash, and no debt. Interestingly, consistent with other retail financial reports, the final weeks leading into the fourth quarter holiday were disappointing. But notably, post-Christmas, we saw positive momentum buoyed by gift card redemptions and our National Hug Day promotion. In addition, we saw a strong reaction to an amped-up Valentine's gifting effort, and we have had promising sales from products tied to the How to Train Your Dragon movie franchise, which we believe is an indication of the potential licensed property tailwind for 2019. Both initiatives appeal to a diversified consumer base and help to end the quarter on a positive note. Before I move on to our growth initiatives, I would like to dimensionalize just one of the headwinds in 2018 to highlight what we believe is a large opportunity in the current year. As I believe you may have already heard from other toy and children's companies, a comparable lack of family-focused licensed character movie properties in any given year can have a measurable impact on the business. Although our proprietary product sales increased in fiscal 2018, we posted a decline in licensed property sales of over 20% versus the prior year on a segment of business that typically represents about 40% of our total retail sales volume. Looking below the surface, it's important to understand that kids' movie releases can elevate the business in multiple ways beyond the direct sales of the licensed product themselves. First, they tend to drive overall traffic. Given that over 80% of Build-A-Bear workshops are located within two miles of a movie theater, our total footfall can benefit from the millions of dollars spent on the movie marketing, simply because it gives families with children a reason to go to the mall. Second, these popular properties tend to broaden our purchaser profile. Traffic further benefits as many of these films attract an affinity audience that is older than our core ticket consumers. This broadened traffic profile tends to drive our teen plus purchasers to a higher than average rate, both in-store and online. Third, the movie properties tend to contribute to higher conversion rates because more consumers tend to cross the lease line on a mission to buy a beloved character from the film, perhaps having just been to the theater. And fourth, the movie properties tend to generate more spend per transaction as products generally command a higher retail price and often include incremental add-on items such as a sound chip with the music from the film or the voice of the character. So solid movie property partnerships tend to benefit the total sales volume at Build-A-Bear Workshop beyond just the license themselves by positively impacting multiple retail levers, traffic, conversion, units per transaction, and dollars per transaction. Finally, licensed properties have historically overperformed in the UK, which was yet another drag on that market's results throughout 2018. That's the bad news. The good news is that you may already know 2019 boasts a powerful family licensed movie property lineup with films premiering throughout the year, which I will highlight shortly. But before going there, I would like to first review some of the progress made on our strategic priorities in 2018 while providing insights on expectations for 2019. Our first priority in recognition of the ongoing and significant shifts in the retail industry is has been to evolve our retail business model to drive sales by diversifying locations, formats, and geographies, while maintaining high levels of optionality as we simultaneously enhance and expand our digital business model. The shopping patterns and habits of today's families are clearly rapidly changing. Online shopping is on the rise. and the mall is no longer the ubiquitous go-to place for family fun and entertainment. As such, both the amount of traffic and the composition of traffic going to malls has changed significantly in recent years. Although not all malls are created equal, and we expect to continue to successfully operate in a meaningful number of these locations, overall mall traffic is estimated to have declined nearly 50% in the past five to six years. and data indicates that shoppers are less likely to take children with them to the mall, even in the critical holiday timeframe, which was once considered a reliable tradition. Because we recognized this change in retail dynamics several years ago, we began proactively pivoting our business model to include a broader offering of retail locations that attract families. We also began aggressively developing a variety of new, lower-capital, flexible formats, like concourse shops, to navigate the market volatility. Our goal was to provide creative solutions for efficiently entering new non-traditional retail areas while simultaneously securing significant mall lease optionality with the negotiation of favorable rent deals and short-term extensions, which have resulted in now having over 60% of our leases coming up for renewal in the next two to three years. As such, we currently expect to close up to 30 stores over the next two years with about half of those outside of North America. We strongly believe that this lease optionality, along with the fact that Build-A-Bear's experiential retail offering is widely considered to be more a part of the solution than part of the problem, should provide us with additional favorable opportunities in the future. While we have been proactively managing the mall portfolio, We have also been diversifying away from traditional malls to broaden consumer accessibility to our brands. In October, we piloted a half-dozen full-service stand-alone Build-A-Bear stores inside select Walmart locations, combining our unique retail experience with the largest retailer in the world at a time when billions of dollars of toy sales are transferring due to the closure of Toys R Us. The early results indicate that new consumers are being introduced to our band, with the majority of bonus club enrollees at the Walmart sites identified as first-time Build-A-Bear guests. Based on the pilot stores, we are currently working with Walmart to identify expansion plans for 2019 and beyond, with the expectations that this would offset some of the revenue lost from the aforementioned planned closures. In regard to assuring that we remain in places where families go for fun and entertainment, We have strategically added tourist sites with new locations in 2018, such as our very successful Shop and Shop at FAO Schwartz in New York City and a store near the London Eye in the UK, which has been a bright spot for that market, further validating the importance of our tourist strategy. We expect to continue to open select additional tourist locations going forward. As an extension of the tourist strategy, we recently announced a new relationship with Great Wolf Lodge, America's largest operator of family-focused indoor water park resorts. Four shops were opened in the fourth quarter, and we expect them to expand to 17 locations in 2019. Of note, this is a wholesale relationship whereby Great Wolf furnishes and operates the space and purchases goods from us, similar to our arrangement with Carnival Cruise Lines. While we've been actively evolving our physical retail footprint, We have also been making critical investments in our e-commerce business model to take advantage of the expanding digital economy. As such, our e-commerce sales have risen at a double-digit pace for five consecutive quarters, with our online business continuing to benefit from an upgraded web platform and enhanced capabilities that support our key initiatives. We continue to make strategic investments to expand key functionality, including refined predictive and suggestive selling, upgrading our CRM capabilities, and optimizing our mobile-first consumer experience. During the holiday season, with the momentum rolling into Valentine's Day, we were pleased with the performance of our expanded gifting offering designed to appeal to an older consumer. As we have seen stronger site traffic, improved conversion and transaction metrics, as well as bonus club enrollments, and we expect to further evolve our digital strategy to drive double-digit growth in online sales in 2019. Regarding our ongoing efforts to expand our geographic presence, 2018 saw the addition of a new franchise agreement in India, a country with the world's second-largest population and one of the fastest-growing global economies. Our multi-billion-dollar partner, Lulu Group, recently opened the first Build-A-Bear location in Bangalore to much fanfare, followed by two additional stores within the week. Separately, we saw growth from our franchisee in China, which ended the year with eight locations. Between India and China, we expect to expand to 40 stores in these regions in fiscal 2019. Finally, I'm happy to announce we recently finalized a new franchise for Chile, allowing us to establish a presence on the continent of South America. Our second priority has been to diversify and expand our consumer base with a focus on acquisition, engagement, and increased lifetime value. The year saw growth in new guest acquisition and consumer engagement in North America, which is key to growing lifetime value. We accomplished this in part by relaunching and invigorating our birthday program, beginning with the Pay Your Age Day promotion in July. This highly successful event was the kickoff to our ongoing Count Your Candles program, which was designed to build on the fact that birthdays and birthday parties are the number one occasion for a visit to Build-A-Bear, generating up to a third of our store revenue throughout the year. Pay Your Age Day coverage generated over 3 billion impressions, exceeding our expectations on a number of fronts, including consumer turnout, with estimates of over a half a million people visiting our largely mall-based brick-and-mortar retail locations to have the experience of creating their own furry friend on a single day in July, which is traditionally one of the slowest retail months of the year. We also had strong sales, and although we were unable to service all the guests that day, which was disappointing, we believe we achieved multiple objectives, including broadening our consumer base giving more economic accessibility with the hook of paying a child's age for a furry friend. We enrolled over 1 million members into our bonus club loyalty program, drove trial, and successfully launched the Count Your Candles campaign with the featured birthday treat bear remaining our number one unit selling furry friends since its launch. We have continued to communicate and engage with the significant expansion of the new first Time Bonus Club members to increase future visitation and lifetime value. And given the average age of the children participating in the birthday offering is around five years old, we believe that ongoing engagement with families through milestone periods of their lives gives us an opportunity for growth for years to come. Priority number three has been to leverage the power of the Build-A-Bear brand beyond retail through diversification into new consumer categories. primarily through outbound brand licensing and by entering the entertainment arena. In 2018, we grew our outbound licensing revenue with partners in a wide array of categories including footwear and slippers, kids apparel and accessories, beauty and cosmetics, stationery and craft kits, sleepwear and gifts, as well as select toy categories through an agreement with Just Play. We expect to expand into additional categories such as publishing, party supplies, betting, games, and eyewear this year. Finally, as a part of our overall entertainment strategy, we have developed proprietary intellectual properties under the umbrella of Build-A-Bear, which have become recognized brands in their own right, such as Merry Mission, Honey Girls, Promise Pets, and most recently, Kaboos, that are often launched and promoted using content such as apps, games, or music, that have generated millions of digital interfaces, increasing our brand engagement and affinity. In summary, I'm confident in our ability to leverage the investments and operational progress made in 2018 as we now have several of these headwinds behind us. As we start the new fiscal year, consolidated retail sales are positive. Our North American business is up, and e-commerce is growing at a double-digit rate in both of our key markets. which is offsetting the softness in the UK brick-and-mortar locations. We are confident that the company will continue to benefit from one of the most promising movie slates for families in recent years and, as noted, also believe this has the potential to improve the UK business trends based on historical sales data for movie properties in that country. In addition, the How to Train Your Dragon movies from DreamWorks and this year's strong multi-movie lineup includes three highly anticipated Disney offerings with updated versions of Aladdin and The Lion King, as well as the second installment of Frozen. As you might expect, we are preparing a wide variety of innovative marketing and experiential retail events to take advantage of this opportunity. As Voim will share shortly, We expect revenue to expand in 2019 driven by the improved movie lineup, increases in other revenue as we diversify our income streams, and the consistent double-digit e-commerce growth. And while the UK will likely continue to face challenges due to the uncertainties related to Brexit, we believe trends will benefit from the inroads that we have made to rebuild our contact database with the parameters of the new privacy law and the fact that the UK tends to over-index in movie properties, as I noted. Additionally, although we have already taken meaningful action, we intend to continue to aggressively manage expenses in the UK while exploring a number of options to restructure the business. In closing, 2018 will be remembered as a challenging year, but it will also be remembered as a year in which we rose above some of those challenges to achieve key operational milestones supporting our long-term strategy of monetizing the power of the Build-A-Bear brand. We believe the continued execution of this strategy will allow us to capitalize on our strong brand as we evolve the business model to diversify revenue and profit streams. Our goal is to maintain our financial discipline while targeting strategic investments focused on pivoting the business model in our ongoing effort to deliver long-term value for stakeholders. I look forward to sharing our progress with you as we move through the year. And now, I would like to turn the call over to Voyn to review our financials in more detail.