Build-A-Bear Workshop, Inc.

Greetings and welcome to the Build-A-Bear Workshop first quarter 2019 results conference call. At this time, all participants are in a listen-only mode. A 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. I would now like to turn the conference over to your host, Ms. Allison Malkin with ICR. Thank you. You may begin.

Good morning. Thank you for joining us. With me today are Sharon Price-John, CEO, and Voyne Todorovich, CFO. For today's call, Sharon will begin with a discussion of our 2019 first quarter performance and review the progress made on our strategy. After, Voyne 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 webcasts 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. And now I would like to turn the call over to Sharon.

Thank you, Allison, and good morning, everyone. We are pleased to announce a solid start to our fiscal year. As total revenues increased $1.2 million to $84.4 million, retail gross margin expanded over 90 basis points, and SG&A as a percent of total revenues improved by 130 basis points, all of which contributed to a first quarter pre-tax income of $2.4 million and which is a $1.8 million increase compared to the same period in the prior fiscal year. We also maintain a strong balance sheet, ending the quarter with over $20 million in cash and no debt. As noted in this morning's press release, we are reiterating our previously stated annual guidance for total revenues and pre-tax income. We feel that this quarter's results reflect the impact of the successful execution of our stated objectives for the year, combined with our ongoing efforts to create new ways to leverage the power of the Build-A-Bear brand. I am particularly pleased with the team's focus on delivering these results following a 2018 full of bumps and transitions caused by much of what we believe to be unusual impacts, such as Brexit and the Toys R Us closure. On today's call, I will discuss the drivers of our revenue growth and highlight the actions we are taking to build upon this promising trend through our efforts to diversify sales and income streams beyond the four walls of traditional mall retail stores, as well as other key initiatives. From a top line perspective, the overall growth in total revenues is due to a significant increase in commercial revenue, which includes wholesale and outbound licensing fees, reflecting some of the work that has been done to evolve the business model beyond traditional retail. Our consolidated net retail sales were positive in North America, This momentum was offset by Europe, which posted a double-digit decline. This decrease is largely attributed to continued challenges in the UK associated with Brexit and the implementation of the new privacy laws. Accordingly, the North American region generated a profit for the quarter, which was partially offset by the loss in Europe. On a positive note in the UK, as a part of our focused effort to mitigate some of the issues in the market, We recently implemented a new technology-based bonus club enrollment process that is compliant with the new European privacy regulations. Since then, we have seen significant growth in the option rates of bonus club members, which we believe will benefit the business on a go-forward basis. We also saw sales from our e-commerce channel continue to gain momentum, posting a strong double-digit growth rate, continuing our trend of double-digit growth every quarter since the new site launched in October of 2017. Our Build-A-Bear.com strategy to expand our consumer base and increase the levels of gift-givers and fan-driven affinity purchases is paying off as we leverage our improved digital capabilities. These are large, addressable markets that tend to prefer to shop online. We are engaging through unique merchandising efforts and promotional events by primarily highlighting gifting occasions and licensed products. It is important to note that licensed products were one of the key contributors to the overall growth in revenue in the quarter as well. This expected benefit was the result of a slate of family-centric movies that premiered throughout the period. Highlights included an immediate positive response in the quarter to the products associated with the How to Train Your Dragon movie franchise, which significantly contributed to our sales throughout the period. Although there were moments when we were not in perfect inventory situations, for the most part, we were able to leverage our omni-channel capabilities to support our brick-and-mortar retail store sales with an order-in-store, ship-to-home option. This was followed by the positive impact of the record-setting Avengers Endgame that drove sales of our products associated with the film, which were further enhanced by Marvel's generous and welcomed nod to Build-A-Bear in the movie's first ten minutes When Tony Stark commented to Rocket the Raccoon, I thought you were a Build-A-Bear. This serves as just one more example of Build-A-Bear's pop culture presence and power. And later in the quarter, the Pokemon movie Detective Pikachu brought renewed interest to this product line, which has been a consistent top performer for our business. This property is a favorite of our fan-based affinity segment, and they have responded positively, resulting in an average transaction value of over $70.00. more than 50% higher than our overall average. Throughout the year, we have planned a wide array of promotions and product launches to take advantage of several highly anticipated major films, including the recent release of Aladdin and the upcoming releases of The Secret Life of Pets 2, Toy Story 4, The Lion King, Frozen 2, and Star Wars Episode IX. As we have shared, it is important to note that a strong family-centric film lineup tends to positively impact our business in multiple ways. First, traffic tends to increase in our stores as millions of dollars in movie marketing stirs interest to give families and children a reason to go to the theater, which is often located in or near a mall. In fact, for the quarter, traffic to Build-A-Bear stores outpaced national trends with the highest positive impact noted at times when the movies launched. With 80% of Build-A-Bear workshops located within two miles of a movie theater, it would be reasonable to expect this trend to continue if films launch throughout the year. Second, many of these popular movie properties tend to broaden our purchaser profile to include affinity consumers who are over the age of 13 and, as noted, tend to prefer to shop online. Our goal was to launch products and marketing efforts to strategically leverage this fan-based audience as each film rolled out. As such, we saw our e-commerce business gain momentum at an increasing rate versus prior quarters with the strong sales of movie-related products. Third, we have seen that movie properties often contribute to higher conversion rates both in-store and online. This hypothesis held true in the first quarter as brick-and-mortar and e-commerce conversion rates improved across both North America and Europe. We believe this benefit is a result of more consumers tending to shop with a mission to buy a beloved character, perhaps having just seen the movie or shopping in advance with the intent to take the character to the movie with them, as is often suggested in our marketing communications. And fourth, select movie properties tend to generate more spend per transaction, with our first quarter results remaining consistent with past trends. In fact, our average transaction value on purchases that included movie-licensed products was 20% higher than the average transactions without licensed products in the period. This higher ticket is driven by a combination of premium retail pricing that character properties generally command and the tendency for the consumer to include incremental items, such as a sound chip with the music from the film or the voice of the character. In addition to the movie property benefit, we also had a successful Valentine's Day, which is historically our second largest holiday time period after Christmas. In addition to our typical in-store family approach, this year we increased our efforts on the gifting business. To reach beyond our core consumers, recognizing that our brand is beloved on a multi-generational level, we developed a new product line for Valentine's Day that took on a more romantic, grown-up voice to encourage gift givers to think outside the chocolate box and give a personalized furry friend to someone they love. We achieved some impressive metrics with our break-frame Build-A-Bear After Dark email, which had high engagement with an open and click-through rate rivaling those of key movie launch messaging. We kept the adult gifting momentum going by launching an April Fool's activation, teasing young adults to enroll in the new Build-A-Bay dating app designed for people who love Build-A-Bear. At the reveal of the April Fool's joke, guests were bounced to an e-commerce site, driving incremental sales. Our April Fool's campaign ultimately hit many of the best April Fool's pranks lists, helping it deliver nearly 250 million media impressions, likely driving top-of-mind awareness with this emerging consumer segment. Next, I would like to update you on some longer-term key strategic priorities. Our primary, broader strategic objective is grounded in the recognition of the ongoing and significant shifts in the retail industry. As such, we have been evolving our experiential retail model to include, one, the use of lower capital flexible formats like concourse shops, which are designed to help navigate the market uncertainty and which can be used as a tool to drive favorable lease discussions, particularly in traditional malls. Two, the use of a kit-of-parts fixture solution designed to be able to open stores in non-traditional retail locations, then increase the overall accessibility to Build-A-Bear beyond traditional malls. And three, an enhanced offering of retail and branding options designed to take advantage of the unique nature of tourist locations. On the traditional mall front are lower capital options like concourse shops, have been beneficial in the negotiation of favorable rent deals, often on a percent basis, and or securing short-term lease extensions. Negotiating on a case-by-case basis has resulted in Build-A-Bear now having over 60% of leases coming up for renewal in the next two to three years, providing us with tremendous brick-and-mortar retail flexibility and leverage. Beyond traditional malls, our goal has been to broaden consumer accessibility to our brands, I am pleased to let you know that we are actively working with Walmart to add up to 25 locations this year on top of the six initial pilot stores that opened last fall, which is intended to expand the reach of Build-A-Bear to a broader array of consumers. Additionally, we believe the combination of our unique retail experience with the power and presence of the largest retailer in the world at a time when both the retail and toy industries continue to recalibrate and redefine themselves presents a very exciting opportunity. We are also happy to share, thus far, that shoppers at the Walmart locations are largely incremental to the Build-A-Bear consumer base, as the data indicates that approximately 60% of guests that purchase were not previously enrolled in our bonus program. And finally, on the tourist location front, we continue to prioritize tourist areas as a target for Build-A-Bear workshop locations. given that our stores tend to over-index on nearly every key metric in those environments. Some recent examples include the continued success at FAO Schwartz in New York City that opened last holiday, as well as the promise results in a new location near the London Eye. In this vein, last fall, some initial locations opened in select Great Wolf Lodge sites, the largest operator of family-focused indoor water park resorts in North America. Based on the positive initial results, Great Wolf is on track to expand to 17 locations this year. Of note, this is a wholesale relationship which is reported in our commercial revenue. As a reminder, in our wholesale model, as with our successful Carnival Cruise Lines relationship, the partner purchases inventory from Build-A-Bear for resale, in addition to furnishing and operating the location. Our second overarching priority, has been to invest in infrastructure and talent to more effectively take advantage of the growth in the digital economy. We believe we are gaining momentum in our digital transformation, as exemplified by our e-commerce growth, as we leverage enhanced capabilities such as AI merchandise recommendations, CRM improvements, advanced digital marketing programs, and enhanced SEO efforts. As we have refined and strengthened our capabilities We are seeing our investments contribute to stronger site traffic, higher conversion rates, increased order value, as well as engagement with guests prior to store visits and improved bonus club enrollment. We also expect to launch an upgraded mobile-first consumer experience, introduce new site features allowing us to further penetrate the gifting space both online and through omni-channel options for stores, and simplify our online checkout process as we lead up to the key holiday season later in the year. Third, we have prioritized the acquisition, engagement, and increased lifetime value of consumers, primarily through the optimization of our bonus club. We have continued to benefit from the high bonus club enrollment rates resulting from our Count Your Candles birthday program, which began with the Pay Your Age Day events last July. This new program, which requires a bonus club membership, allows children to pay their age during their birthday month for our birthday treat fair any time of the year. In fact, we have helped celebrate over half a million birthdays with this new program, and this fair has consistently been our top-selling furry friend and unit since it launched. Since the program began and impressed 50% of the birthday treat transactions, have originated from new Bonus Club accounts. As these accounts continue to increase, we expect to expand our focus to improve retention with the goal to drive incremental visits and expand lifetime value from the broader membership base. And our final stated priority is to monetize the awareness and trust that consumers have for our brand into incremental revenue streams, including expanding our global footprint, driving our outbound brand licensing and building our presence in entertainment. Regarding our ongoing efforts to expand our global footprint, our franchisees in India and China continue to move their business forward, and we expect our new franchise in Chile to begin to open stores later this year. And while the restructuring of the company and related business disruptions by our Australian franchise negatively impacted this quarter's international results, they have emerged from the reorganization process. On the branded outbound licensing front, we now have programs covering over 25 product categories, ranging from slippers to electronics, including the recent addition of a new subscription box partner with Culturefly and a new bedding partner in the U.K., similar to our bedding deal in the U.S. We are also looking forward to extending our brand presence at the upcoming licensing show in Las Vegas. And on the entertainment front, Build-A-Bear Radio continues to engage hundreds of thousands of listeners each week, which we believe gives us an efficient and sustainable marketing platform to communicate store events and product launches while deepening brand affinity. Separately, we are pleased to note that we are in the late stages of finalizing a number of entertainment agreements, which I expect to share with you in the coming months. In summary... the first quarter marked a solid start to what we continue to expect will be a productive year for Build-A-Bear. We believe that much of the infrastructure is in place to support the comprehensive strategies we have outlined for our company to achieve long-term profitable growth via the broad monetization of over 20 years of earned brand equity. After more than five years of preparation and investment amid one of the most disruptive times in retail history, Our goal is to continue to maintain the same financial discipline that has allowed us to stay debt-free and cash flow positive while simultaneously pivoting the business model to diversify locations, consumers, and revenue streams in our ongoing effort to deliver long-term value for our stakeholders. Looking forward, the promising movie slate, in addition to our hard-fought lease favorability, combined with strategic retail expansion and our enhanced e-commerce efforts, should offset some of the global uncertainty. With first quarter's improved results and our current favorable second quarter sales trend, we remain energized about the future of this remarkable brand and look forward to sharing our progress throughout the remainder of 2019. Now I would like to turn the call over to Voyne to review our financials in more detail.