Big Lots, Inc.

Ladies and gentlemen, good morning and welcome to Big Lots' fourth quarter conference call. Currently, all lines are in listen-only mode. The question and answer session will follow the prepared remarks. If you require operator assistance, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. On the call today are Jonathan Ramson, Executive Vice President, Chief Financial and Administrative Officer, and Jack Purcello, Executive Vice President, Chief Merchandising Officer. Before we start today's call, the company would like to remind you that any forward-looking statements made on the call involve risks and uncertainties that are subject to the company's safe harbor provisions, as stated in the company's press release and SEC filings, and that actual results can differ materially from those described in the forward-looking statements. The company would like to also point out that, where applicable, commentary today is focused on adjusted non-GAAP results. Reconciliations of GAAP to non-GAAP adjusted results are available in today's press release. The company's fourth quarter earnings release and related financial information are available at BigLots.com forward slash corporate forward slash investors. Also available on the website is the previously released January investor presentation highlighting key themes from this call. I'll now turn the call over to Jonathan Ramston, Executive Vice President, Chief Financial and Administrative Officer of BigLots. Mr. Ramston, please go ahead.

Thank you and good morning, everyone. Unfortunately, Bruce Thorne is not able to join the call this morning due to an urgent medical situation involving one of his parents. Our thoughts are with Bruce and his family. I'm going to read Bruce's prepared remarks this morning and then continue with my own commentary on our financial performance. After the prepared remarks, Jack Postello, our Chief Merchandising Officer, will join me for the question and answer session. The following are Bruce's prepared comments. I'm glad you are joining us for this morning's call, as we have a lot of exciting ground to cover. Today, I want to focus on updating you on the forward-looking opportunities that we more fulsomely introduced last quarter and discuss the excellent progress that we are making. As you know, we are fully committed to delivering tremendous shareholder value through Operation North Star. Our confidence continues to strengthen in our strategy, our long runway for profitable growth, and our ability to generate consistent, strong cash flow and shareholder returns. All of this leverages our clear positioning as a home discount retailer, our unique assortment, rapidly developing omnichannel capabilities, and growing base of loyal customers. Perhaps most importantly, we know that value never goes out of style. The path to grow the top line of our business by several billion dollars over the coming years is clear and is driven by three key pillars. merchandising productivity, real estate growth, and e-commerce, each of which strengthen and accelerate our positioning as a value-obsessed home discount retailer, the home of the hunt for a broad and diversified assortment not easily replicated on a national scale. These drivers were evident in 2021, which ended as our second best year ever in terms of sales and adjusted earnings per share, despite unprecedented dislocation in the global supply chain. For a second year in a row, we delivered sales above $6 billion, far above where we hovered for a decade leading up to 2020. And we delivered phenomenal customer experiences in 2021 as our net promoter score averaged over 80 in the top quartile for retailers and our recent trends are at or even better than last year's levels. Our team of over 36,000 associates delivered this excellent 2021 while navigating many uncertainties throughout the year. from early Q1 stimulus through a frenetic January with weather, Omicron and supply chain volatility. The team provided countless excellent experiences in-store and online so that our customers could continue, despite what was going on in the macro environment, to live big and save lots. Thank you, team. 2021 was a win, but for more than just our financial results. During 2021's journey, our team took away many important lessons from the year through the constant need to be agile and nimble, through our test and learn culture, from our investments in the supply chain, from our accelerated real estate program, and through our strengthening vendor relationships. All of these lessons are being woven into and are enhancing our Operation North Star strategies, and I have never been more excited. I encourage you to reference our January investor presentation where we provide more color on our strategies and financial goals. Our long runway for growth begins with our assortment, and I would like to update you on the progress we are making to strategically increase our productivity and improve our assortment through new in-store programs, new tools, and by leveraging our rapidly growing own brands. In 2022, we are accelerating our next generation furniture sales strategy. As we have discussed during prior calls, this initiative is delivering a strong, positive sales and margin impact, driving close to a 15% lift to the furniture business in stores where it has rolled out. This initiative increases furniture productivity, lifts the entire box, is accretive to our rewards program by adding members, our beginners, and greatly improves the home furnishing buying experience. The program is currently in over 120 stores and will initially scale to around 650 stores by Q3 of 2022, which we believe will drive close to two points of annualized comp for the entire company. A key aspect of optimizing our merchandise assortment is curating across each key product category the correct penetration of bargains, treasure hunt items, and reliable convenience essentials. It is important to dive into this a bit further. Historically, we talked about closeouts versus other product. As we have worked through Operation North Star, it has become clear that we have to have standout bargains, whether driven by big buys or closeouts. We have to have unique treasures representing seasonal or trendy items, and we need to have never out of stock convenience items. Having bargains, treasure hunt items, and convenience essentials in balance creates outstanding value for our customer, a great customer experience, and repeat trips. penetration of how much bargain hunt product will differ by category and will continue to evolve as we see opportunities to better serve customers, grow market share, and further strengthen our differentiation from competitors. It is part of the active category management that our merchant team is now employing. Turning to seasonal, one of our highest margin categories, you will see that we will continue to lean even further into this category in 2022 and beyond, for both major moments such as Christmas and for what we are calling small season opportunities, which drive sales through more frequent newness. In addition to Valentine's Day and Easter, we have expanded our assortment in summer with pools and indoor plants, as well as tailgating supplies and fall cleanup, all in an effort to be seasonally relevant every month of the year. Moreover, these additions help improve our overall space productivity with more consistent sales throughout the year. Within our key-owned brands, Broyhill continues to grow strongly and accounted for approximately $140 million in Q4 sales, up 7% over the same quarter in 2020. Similarly, Real Living continues on its strong trajectory, up over 20% versus Q4 of last year. In 2021, Broyhill drove over $700 million of sales and Real Living drove over $600 million, and both are clearly on their way to becoming established billion-dollar brands. These own brands will be pivotal in 2022 as we navigate through the current inflationary environment, enabling us to deliver great value opportunities at excellent margins. Perhaps most importantly, the quality and value of these brands will provide an exciting trade-down opportunity for new customers to Big Lots, who will quickly join our rewards program and provide repeat shopping experiences when they discover our great bargains, treasure hunt, and home essentials. As we introduced last quarter, we have other new initiatives on their way as well. Our lots under $5 offering represents a further opportunity to drive higher productivity. We have successfully tested the program, which will sit at the front of our stores and will enhance our value image as well as the treasure hunt factor discussed earlier. The product line will rotate every two to three months with a mix of $5 and under price points, items driving impulse of basket expanding purchases. The product will be a mix of seasonally appropriate items, as well as unique treasures and finds at unbeatable value. Net store growth is another critical area for acceleration in 2022. In 2021, we opened 23 net new stores, and these stores are performing ahead of our expectations, underscoring our confidence in our growth strategy. And while we have opened great new stores in our urban markets, such as in our backyard of Columbus, Ohio, We have also opened superbly performing stores in smaller markets, such as Hummelstown, Pennsylvania, Southport, North Carolina, Weirton, West Virginia, and Lebanon, Missouri, which are a mix of single big lot store markets and multiple store markets. These stores are outperforming their plans, specifically in furniture, proving that we have white space opportunity as these customers have been hungry for big lots, and we are moving in. In 2022, we are on target to meet or exceed 50 net new stores, and we expect these stores to be margin accretive, driving 10% EBITDA returns. We expect further acceleration of new store opportunities after 2022, and we are seeing a strong deal pipeline to support this. Turning to e-commerce, we have grown this business profitably, and it is now three and a half times 2019, well north of $300 million. We continue to plan for this to be a billion-dollar business with 10% to 15% penetration to the entire business. Our approach to date has been to replicate the friendliness of our in-store interactions online by removing friction points and allowing our customer to purchase where she wants, how she wants, with what tender she wishes, and to have that product fulfilled through the channel that she prefers. Since the initial rollout of BOPIS in 2019, We now provide curbside pickup, ship from store capabilities, and same-day delivery via Instacart and pickup. And we continue to make investments to scale these offerings. We continue to see approximately 65% of our demand fulfilled through these new capabilities. In the coming year, we will further improve our customers' experience by adding prompts indicating new and best-selling products, providing more personalized shopping experiences, and improving our product content. Finally, in 2022, we are launching a new order management system, or OMS, to further improve the profitability of e-commerce shipments from stores, distribution centers, or direct from vendors. We will also be redesigning our online card to improve checkout and ease of use, focused on mobile first. Further enhancing our online experience, we have introduced real-time apply and buy online with the Big Lots credit card. Our journey to provide a frictionless checkout experience is bearing fruit. Last fall, we rounded out our mobile payment suite by accepting PayPal and Payin4 and have grown our mobile wallet usage to 28% of total transactions, improving our overall conversion. By the way, since launch, a significant percentage of web customers who checked out using PayPal were new to Big Lots, and the customers using PayPal's pay-in-four tend to be younger and spend more than our existing customers, further building our customer file and expanding our average basket size. While our main focus is on our three core growth drivers, we continue to build our enabling capabilities and infrastructure. Throughout last year, we provided updates on our supply chain initiatives as we work to modernize and optimize our ability to get our assortment to our customer how, where, and when she wants it. Last year, we stood up two forward bulk distribution centers, or FTCs, easing flow through our network in the southeast and northeast. In 2022, we will open two new additional FTCs in the Pacific Northwest and Midwest to further increase efficiency in our network, and empower our legacy regional distribution centers to better focus on the throughput of smaller pick and pack goods. An additional key enabler for us is making our in-store customer experience consistent and positive across our fleet. To that point, Project Refresh is well underway with over 50 stores refreshed in 2021 and 200 stores on the docket for 2022. Over time, under Project Refresh, we will upgrade approximately 800 stores that were not included in the 2017 to 2020 Store of the Future program. This project will create a more consistent consumer experience, better represent the Big Lots brand through imagery and signage in each store, and will harmonize internal processes as we are currently catering to too many differently formatted or conditioned stores. As we previously disclosed, the average cost of the program is just over $100,000 per store, far below the prior store of the future conversions. These stores will benefit from new exterior signage, interior repainting and floor repair, the new vestibule experience, remodeled bathrooms, and interior wall graphics. Brand activation is critical to our Operation North Star journey, and we are thrilled with the continued expansion of our Be A Big In Air brand campaign that started last spring. As a reminder, this campaign is grounded in extensive consumer insights around why customers love to shop us. She sees us as the home of the hunt for exceptional bargains and surprising treasures. Our customer is so savvy, she loves to express herself, and we frankly didn't think there was a word in the English language that would suffice. She feels like a million bucks when she's hunting for the best deals at her neighborhood Big Lots. And we are laser focused on continuing to delight her every day in stores and online. As we closed fourth quarter with our holiday beginner campaign featuring Eric Stonestreet and Molly Shannon, we received excellent feedback that the ads are attention-grabbing, likable, and driving intention to shop. In fact, scores were even higher than our launchpots earlier in the year. And our brand awareness for Q4 was at an all-time high. As we have shifted to 2022, we hope you saw our President's Day ads featuring Eric Stonestreet. They were entertaining and highly productive as they perfectly conveyed the exciting values that we can provide to our customer. We are very proud of that holiday weekend's performance during which we drove double-digit com growth over the comparable holiday weekend in 2019. The Big In Air campaign continues to resonate well and with our growing rewards program provides increasing brand awareness consideration, and purchasing from a loyal community of bargain hunters and treasure seekers. This community, our active rewards members, now stands at close to 22 million members strong and growing. As I hope you could tell, we have deep confidence in Operation North Star and in our ability to achieve our goals. We are correctly prioritizing our initiatives by investing in growth while simultaneously shoring up our foundations. This discipline and these strategies will deliver our long-term financial goals as we scale over the coming years to deliver sales of $8 billion to $10 billion, expanding our operating margins to 6% to 8% and driving returns on invested capital well in excess of our cost of capital. Throughout this evolution, we will continue our track record of excellent access to liquidity, consistently strong free cash flow generation and capital return, Since 2016, we have returned over $1 billion to our shareholders and expect to continue capital return going forward. Thus far, I have discussed our initiatives, our systems, our networks, but I have not talked about our people in the depth that they deserve. What gives us the greatest confidence in our ability to scale this business over the coming years and to achieve the financial goals as referenced in our January investment presentation is the team that we have built in the past three years. new, enhanced, and strengthened teams in every core function, as well as new growth areas such as apparel. This is a team that is focused, collaborative, and fully aligned around our mission to help her live big and save lots. And recently, we returned to the office and found that we are even stronger when we are together. With this team, I am confident we will achieve our goals and become the best destination home discount store. Before turning to an in-depth review of the numbers, I do want to quickly discuss how our fourth quarter of 2021 ended and how we have started 2022. After clearly performing very well during holiday, with plus 9% two-year comps, our fourth quarter ended below our guided sales range, driven by more inclement than expected weather in January, the spike in Omicron's effect on traffic, and some inventory challenges. On a two-year basis, Q4 comparable sales increased 5.4%, while declining 2.3% to 2020. This represented a sequential deceleration in two-year comps that was greater than anticipated, driven entirely by our performance in January. Total sales in Q4 increased approximately 8% versus 2019 with 230 basis points of favorability from our net new and relocated stores. Given that stimulus and other macro traffic drivers have subsided as factors in our results, These two-year sales growth statistics are an appropriate measure of the impact of our Operation North Star strategies. So while we are disappointed with how January actualized, this underscores prior comments on where we are going and provides proof of our momentum. Sales for the quarter again benefit from growth in basket driven by AUR expansion across each category. We did see a drop off in our furniture trend during the quarter driven by inventory availability as we work to overcome supply chain sluggishness in the back half of the year. The fall shutdowns in Vietnam and supply chain shortages with domestic upholstery hurt sales, but we were able to partially offset these pressures with some opportunistic buys in furniture. On a positive note, because of the work we have done internally and with our partners, we are now in the best inventory position in broil upholstery and mattresses in the past year and a half. In fact, despite continued supply chain disruptions, we were able to end the quarter well-positioned in inventory for the start of 2022. With the subsiding of winter weather and the Omicron variant and improving in-stock levels, we are regaining traction. In seasonal, we had a strong November and December through holiday, but a softer January given some similar inventory delays. Again, we expect to be in a progressively better position as we move through Q1. Our adjusted earnings per share for the quarter of $1.75 was below both our initial and updated guidance ranges. As we will discuss shortly, our adverse January shrink results at the end of the quarter drove approximately a 30 cent per share reduction in our earnings as we began our annual cycle of physical inventories. We have strategies in place to fix this issue going forward, which should provide some margin tailwind towards the end of 2022. After a difficult January, we are more pleased with the start we have made to 2022, with trends improving in February despite more weather issues and a slowish start to tax refund season. As I mentioned earlier, we have worked with our global supply chain partners to ensure improved product availability entering the quarter, and this continues to get better every day. This is especially important as we left sales on the table in each of the past two February's given beginning of the year inventory levels. That completes Bruce's prepared remarks and I will now continue with my prepared commentary on our financial performance. While 2021 ended with a challenging month, it is important to reiterate that it was still the second best year in the company's history measured both by sales and adjusted EPS. I would like to thank our associates across the company who made that happen. We missed our fourth quarter guidance driven by transitory issues, namely traffic that was affected by weather and Omicron rates in January and adverse shrink results from our latest physical inventories. We have seen traffic improve in February and we are already implementing strategies that should turn out 2021 shrink impacts into potential late 2022 tailwinds. A summary of our financial results for the fourth quarter can be found on page six of our quarterly results presentation. Q4 net sales were $1.732 billion, a 0.3% decrease compared to $1.738 billion a year ago, but up 7.8% to the fourth quarter of 2019. The decline versus 2020 was driven by a comparable sales decrease of 2.3%, below our original guidance of slightly positive. This miss was driven by January performance. Our two-year comps were 5.4%, buoyed by the holiday period with November at 10% and December at 8%, followed by January down 4%. Our fourth quarter adjusted net income was $53.6 million compared to $98 million of net income in Q4 of 2020 and $93.8 million in 2019. Adjusted diluted EPS for the quarter was $1.75. As a reminder, we reported diluted EPS of $2.59 last year. The gross margin rate for the quarter was 37.3% down approximately 210 basis point from last year's rate and 220 basis points below 2019, underperforming our guidance driven by shrink and freight headwinds. Versus our guidance at the beginning of quarter, shrink drove approximately 80 basis points of gross margin rate erosion for the quarter. We typically begin our annual physical inventory cycle in early January. And by the end of the month, we have completed enough inventories to extrapolate results across the chain. This year, those results showed a significant spike in our shrink rate, which is in part attributable to the well-documented industry-wide retail crime epidemic. Our shrink results were notably worse in California than in the rest of the country. As we have analyzed these results over the past few weeks, we are confident the steps we are already taking will enable us to bring the rate down in 2022. For example, we will be completing needle tagging for apparel where we saw a high shrink rate in 2022. Additionally, we will be accelerating the rollout of shopping cart wheel locking systems in our higher shrink stores during the course of the year and significantly enhancing in-store training and incentives around shrink mitigation. Last, we have already addressed a point-of-sale technology issue that contributed to our 2021 shrink. Turning to SG&A, total adjusted expenses for the quarter, including depreciation, were $574 million, up from $554 million last year. This was slightly better than our expectation coming into the quarter. The increase to last year was driven by incremental investments in labor and in our four distribution centers, partially offset by lower bonus expense. Adjusted operating margin for the quarter was 4.2%, compared to 7.5% in 2020 and 7.8% in 2019. Interest expense for the quarter was $2.1 million, down from $2.6 million in the fourth quarter last year and $3.2 million in Q4 2019. The adjusted income tax rate in the fourth quarter was 24.1% compared to last year's rate of 24.6%. with the rate change primarily driven by prior year tax return true ups, audit settlements, and employment credits, partially offset by disallowed executive compensation and deferred tax adjustments. Total ending inventory was up 32% to last year at $1.238 billion and up 34% to 2019, ahead of our beginning of quarter guidance due to higher in transit inventory, particularly seasonal. The increase versus prior years includes a significant unit cost component. During the fourth quarter, we opened 16 new stores and closed nine stores. We ended Q4 with 1,431 stores and total selling square footage of 32.7 million. Capital expenditures for the quarter were 38 million compared to 32 million last year. Depreciation expense in the fourth quarter was 37 million, up four million to the same period last year. On a full year basis, capital expenditures were $161 million. We ended the fourth quarter with $54 million of cash and cash equivalents and $4 million borrowed on our revolving credit facility. As a reminder, at the end of Q4 2020, we had $560 million of cash and cash equivalents and $36 million of long-term debt. The year-over-year reduction in cash levels reflects our deployment of proceeds from the sale and leaseback of our distribution centers towards share repurchases and our increased investment in inventory. In total, we returned approximately $460 million to our shareholders during 2021 through our quarterly dividend and share repurchase program. During the quarter, we repurchased 2.1 million shares for $90.6 million, with an average cost per share of $43.90. We have $159 million remaining outstanding under our December 2021 $250 million authorization. On a full year basis, we had sales of $6.151 billion, which was down 2.5% on a comparable basis to 2020, but up 13.2% on a comparable two-year basis to 2019. Versus 2020, total sales were down just under 1%, with 170 basis points of growth driven by new and recently relocated stores. On a two-year basis, we had 230 basis points of non-comparable growth from similar real estate impacts. Our full year adjusted operating margin of 4% was down 240 basis points to last year, but up 10 basis points to 2019. Adjusted operating income of $244.8 million was down to 2020's $397.5 million, but up almost 18% to 2019's operating income of $207.9 million, or approximately 50% after adjusting for the incremental sale leaseback expense we took on in 2020. Our 2021 adjusted earnings per share of $5.44 was second highest in the company's history only to 2020. In 2020, our adjusted EPS was $7.35. The adjusted 2021 EPS was up 48% to 2019's adjusted EPS of $3.67. We announced today that our Board of Directors declared a quarterly cash dividend for the fourth quarter of fiscal 2021 of $0.30 per common share. This dividend is payable on April 1st, 2022 to shareholders of record as of the close of business on March 18th, 2022. Turning to guidance, for the first quarter of fiscal 2022, the company expects to report diluted earnings per share in the range of $1.10 to $1.20, compared to $2.62 of earnings per diluted share for the first quarter of 2021 and $0.92 of adjusted earnings in Q1 2019. This earnings per share guidance does not include the impact of any future share repurchase activity. Excluding the impact of additional potential share repurchases, our guidance reflects a diluted share count of approximately 29.3 million shares for Q1. This outlook reflects a comparable sales increase of approximately 10% to the first quarter of 2019, which equates to a low double-digit decline in comparable sales versus the first quarter of 2021. as the company lapsed the impact of stimulus, which we estimate will provide 12 points of calm drag versus last year in Q1 and five points of calm drag on a full year basis. In Q1, we expect to see roughly 130 basis points of growth from net new and relocated stores. The outlook further reflects a decrease in the gross margin rate of approximately 50 basis points compared to the first quarter of last year and a slight increase in expense dollars compared to the first quarter of last year. The decrease in the gross margin rate is primarily due to freight costs, which are above prior expectations, and a higher shrink accrual rate as a result of January physical inventory results. The increase in expense dollars is primarily driven by incremental supply chain expenses, inflationary wage impacts, and new store-related expenses, partially offset by the variable expense impact of lower sales and lower bonus and equity compensation expense. With regard to the full year, the company is targeting both comparable sales and gross margin rate to be approximately flat to the prior year, with operating expenses deleveraging modestly due to inflationary impacts and growth-related investments. Given greater than usual uncertainty resulting from supply chain disruption and inflation, at this point the company is not providing formal full-year guidance. We expect inventory to end Q1 up in the mid 20 percentage range to 2019, including again, a significant in transit component, which may fluctuate as we get close to quarter end. This reflects strong progress in rebuilding our inventories to support lawn and garden and summer sales and improved in stock positions in key furniture items. We expect 2022 capital expenditures to be between 210 million and $230 million. including around 70 store openings, of which under 10 will be relocations. Our capital projection includes approximately 200 project refresh stores in 2022. On a net basis, we expect total store count to grow by about 50 stores in 2022. To reiterate Bruce's prepared comments, despite near-term challenges and uncertainty, we have great confidence in our long-term sales and margin growth opportunities. We believe that a low single-digit sustained comp is realistic once we are clear of the stimulus and supply chain impacts of the past two years and that it will be augmented by consistent store count growth. All of this will enable us to leverage our model and deliver strong margin rate improvement, providing outstanding overall returns. We are committed to achieving these results and confident we can deliver. I'll now turn the call back over to our moderator so that we can begin to answer your questions. Thank you.

Thank you. We'll now be conducting the question and answer session. If you'd like to be placed into the question queue, please press star 1 on your telephone keypad and a confirmation tone indicate your lines in the question queue. You may press star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it might be necessary to pick up your handset before pressing the star key. Once again, it's star one to be placed into the question queue at this time. One moment while we poll for questions. Our first question today is coming from the line of Greg Bedeskanian with Wolf Research. Please introduce your question.