Big Lots, Inc.

Ladies and gentlemen, good morning, and welcome to the Big Lots first quarter conference call. Currently, all lines are in a listen-only mode. A 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 Bruce Thorne, President and Chief Executive Officer, and Jonathan Ramsden, Executive Vice President, Chief Financial and Administrative Officer. Before starting 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 company's press release and SEC filings, and that actual results can differ materially from those described in the forward-looking statements. The company's first quarter earnings release and related financial information are available at biglots.com slash corporate slash investors. Also available on the website is a previously released January investor presentation highlighting the company's long-term strategy and financial goals. I will now turn the call over to Bruce Thorne, President and Chief Executive Officer of Big Lots. Mr. Thorne, please go ahead.

Good morning, everyone, and thank you for joining us. As you will recall from our comments in March, our first quarter got off to a solid start, but trends materially slowed in April and drove the need to be more promotional. We believe the slowdown was caused by spending pressure our consumers felt from higher gas prices and broader inflation, which is affecting discretionary purchases across the retail industry. We felt the early brunt of this due to our lower-income customer being the most immediately affected. More broadly, it's increasingly clear that the economy is going through a major transition. Over the past two years, consumer spending on discretionary purchases, especially those that enhance the home, were buoyant. We are now in a new chapter where high inflation is greatly limiting the ability of consumers to make discretionary purchases, especially of high-ticket items. We know that many Americans now are once again living paycheck to paycheck. Our business did very well over the past two years as we benefited from strong home-related spending. And as Operation North Star transformed many aspects of our business, delivering new omni-channel capabilities, demonstrating agility, and improving how we serve our customer day in and day out. And I want to be very clear that we expect to do very well going forward. In a more challenged economic environment, we have many advantages, including our opportunity to draw trade-down customers, our deep experience in closeout, the tremendous value we offer across a broad merchandise range, and the fact that we serve and support consumers across a wide range of income levels. We believe all of this will stand us in very good stead going forward. In the meantime, we are in a transition where, alongside others, we have found ourselves over-inventoried against softening underlying trends and with some of our opening price points too high. We will fix this quickly, but in the short term, our financial results will be significantly impacted. Our goal today is to review Q1, lay out expectations for Q2, and speak to what we think is an achievable and acceptable level of performance in the back half and going forward. Our first quarter results got caught in a number of cross currents, but do not diminish our belief in our Operation North Star strategy. Thanks to Operation North Star, we are in a much stronger position to manage through this than we were pre-COVID. In the midst of this difficult period, we can't miss the forest for the trees. While we need to make near-term corrections, we don't intend to be sidetracked from the tremendous longer-term value creation opportunity we see ahead of us. or most importantly, from our noble purpose to help her live big and save lots. We will be right there with her as she works to manage her family budget that is being severely buffeted by inflation. Turning back to our Q1 results, we missed our sales plan for the quarter by close to $100 million, the vast majority in April. Seasonal performed well in February and March, up 40% on a three-year comp basis. But historic builds into April did not materialize, and comps were much softer. While our indicators pointed to an acceleration in April, we saw the opposite. Furniture, another discretionary high-ticket category, and soft home, correlated with furniture, were also well down to plan. In total, these three divisions drove 90% of our sales miss for the quarter. Why? It's clear that the lower-income customer has been directly impacted by all-time high gas prices and is worried about ongoing inflation. Consumer confidence is at a low while real disposable income is declining, and consumer balance sheets have depleted as stimulus recedes into the rearview mirror. In this environment, there was a pullback on discretionary purchases, especially higher-ticket items. Poor spring weather didn't help, and we saw particular softness relative to plan in the Midwest, while the Southeast did better. And we had bought up big in seasonal, chasing what we thought was a big opportunity, but quickly found ourselves with too much inventory as trends slowed markedly in April. All of that meant we needed to be more promotional than expected. It is clear we were not alone in all of this. as other retailers saw the same slowdown and sought to move through elevated inventory levels. Across seasonal, furniture, and soft home, we know that we need to clear through excess inventory, strategically adjust our opening price points, and through closeouts and otherwise, be positioned to offer our customer truly compelling deals they cannot get anywhere else. Moving into the second quarter, we have continued to be promotional through May and have seen success in driving much stronger comps, up mid-teens for the month on a three-year basis, likely also helped by more favorable weather. This improvement shows that our customer is still ready to shop when we can deliver great value to her. Seasonal three-year comps are up around 50% month to date, with one-year comps up to high teens and many of our seasonal customers are higher-income customers who are trading down. Import freight rates in Q1 were also much higher year over year, and we have continued to incur significant detention and emerge charges due to supply chain congestion. These effects were incrementally more significant than we expected. Freight and markdowns will continue to put significant pressure on gross margin in Q2, and we expect more erosion for the quarter than in Q1. Importantly, we view this gross margin rate pressure as transitory. Moving beyond Q2, we expect the environment to remain challenging, but we see significant opportunities ahead while remaining highly focused on managing the business prudently, including, first, getting inventory back in a cleaner position by the end of Q2, which will increase our open-to-buy, enabling us to leverage our muscle to go after closeout opportunities. Second, getting back to an acceptable gross margin rate in the high 30s by Q4. Third, continuing to accelerate our expense reduction efforts. In addition to the $150 million of SG&A we have taken out over the past three years, we expect to take out an additional $70 million this year. These savings will come from store payroll, supplies, and other goods not for resale and headquarters costs. We have reorganized and redoubled our efforts on cost reduction with much more to come. And fourth, lowering cap backs as we prudently slow store growth and pull back on other spend. We are now planning around $175 million for the year versus our original guidance of up to $230 million. We have completed around 150 project refresh stores year to date, bringing the cumulative total to over 200, but are putting additional refreshes on hold for now. we are reducing 2022 net store openings from 50 plus to 30 plus and reducing and deferring other capex. More specifically on gross margin, our key priorities include a strong focus on lowering opening price points to drive traffic, having more open to buy to chase closeout, where we expect there to be significant opportunities, which we are already starting to see. minimizing detention and demerge charges as our new FDCs and lower receipts reduce the pressure on our supply chain. On a trailing 12-month basis, we have incurred around $50 million of detention and demerge charges, and we will drive that back to much lower levels starting in Q3. Being more targeted and efficient with pricing and promotions. Our early work in food and consumables indicates a $20 million annualized gross margin opportunity, that we are already actioning. We are optimistic that the results of our efforts on shrink will become more evident as the year progresses. Improving our supply chain visibility, where we are in the midst of rolling out a new tool that will enhance inventory flow to both support sales and drive down costs. In addition, we are starting to see important container rates turn. This effect will take some time to come through in our numbers, but we believe it can be very substantial over time. In Q1 alone, we incurred over $60 million of additional import charges versus 2019. We are committed to ending Q2 with cleaner inventories as we drive higher sell-throughs and reduce receipts. Once again, we are excited about our ability to go after closeout later in the year when we will have more open-to-buy opportunities. We expect total inventory at cost at the end of Q2 to be up around 30% to 2019, which will represent a substantial narrowing of the sales to inventory spread from where we ended Q1. The net effect of all the above will be that we will again lose money in Q2 driven by gross margin rate erosion. We are not providing full year guidance at this point, but Again, our primary focus is to get our gross margin rate, expenses, and inventory in line to deliver a sustainable operating margin during these inflationary conditions. We are confident we can do that by Q4 and end the year in a very different place than today. Overall, as I stated a moment ago, we continue to believe the goals of Operation North Star are achievable and can deliver tremendous value. During the quarter, there were many proof points of the progress we're making. Our e-com business remains a standout, with record sales of around 7% of total business and a growing impact on our business. Same-day delivery grew 20% as we continue to serve our customer when, where, and how she wants to shop us. Despite tough traffic versus the stimulus-fueled quarter a year ago, we added 1.2 million new rewards members, holding total rewards members at around 22 million. And our customers are loving the shopping experience we provide, with an all-time high net promoter score of 85% in Q1. Our easy leasing program and the Big Lots credit card picked up momentum during the quarter, and we are glad to have these options available to our customers as the economic environment becomes more challenging. Roy Hill and Real Living continue to do well, and we believe our private label offering will be critical in helping us go after trade-down opportunities in the quarters ahead. Across all divisions, private label represented close to 30% of our business, up notably from the mid-20s last year. Our new furniture sales model is continuing to do very well in delivering strong double-digit lifts in the stores where we have fully rolled it out. And thanks to the amazing success we have seen with Broyhill over the past two years, we were recently recognized by Furniture Today as leader of the pack in the furniture business. And last but not least, our new stores continue to perform well, with both 2021 and 2022 openings on average running ahead of plan despite the Q1 slowdown. That said, we are prudently scaling back on store growth this year, as well as other initiatives, while we weather current conditions. Having said that, let me be clear that we continue to believe in our long-term store growth opportunity, and we will be well positioned to pick up the pace of openings again when the time is right. Overall, 2022 will be another challenging chapter to add to the ups and downs of the last two years, but we are highly focused on navigating near-term headwinds and confident in our ability to see much stronger results later in the year and to deliver on Operation North Star over time. As ever, I know we can count on our fantastic team of 35,000 associates to do that, and I thank them for all their tremendous efforts. We will grow through this as we go through this and emerge stronger. And we will not lose sight of our noble purposes to help our customer live big and save lots. Now over to Jonathan, and I will return in a few moments to make some closing comments before taking your questions.

Thanks, Bruce. And I would like to add my thanks to the incredible team we have here at Big Lots. I'm going to start by going into more detail on our Q1 results and then address our outlook for Q2 and beyond. A summary of our financial results for the first quarter can be found on page 8 of our quarterly results presentation. Q1 net sales were 1.375 billion, a 15.4% decrease compared to 1.626 billion a year ago. The decline versus 2021 was driven by a comparable sales decrease of 17% below our original guidance of a low double-digit decrease. As Bruce mentioned, the miss was driven by seasonal furniture and soft home. Our three-year comps were 1.9%, with April, the biggest month of the quarter, coming in flat. Our first quarter net loss was $11.1 million, compared to $94.6 million of net income in Q1 of 2021. The loss per share for the quarter was $0.39 versus diluted EPS of $2.62 last year. Sales were the biggest driver of the year-over-year reduction in EPS, with the gross margin rate also being a major driver. The gross margin rate for the first quarter was 36.7%, down approximately 350 basis points from last year's rate, significantly underperforming our guidance. This included significant impacts from both freight and higher markdowns. Turning to SG&A, total expenses for the quarter, including depreciation, were $518 million, down from $531 million last year, with the reduction driven by bonus accruals and equity compensation offset by increases in distribution and transportation. Outbound transportation costs came in higher than planned by $6 million, driven by higher fuel and trucking costs, and we expect these headwinds to continue through Q2 and into the back half of the year. Operating margin for the quarter was negative 1%, compared to a profit of 7.5% in 2021. Interest expense for the quarter was 2.8 million, slightly up from 2.6 million in the first quarter last year. The income tax rate in the first quarter was 27.3%, compared to last year's rate of 21.8%, with the rate change primarily driven by discrete items related to the settlement of equity awards and the impact of audit settlements, offset by employment-related tax credits. Total ending inventory cost was up 48.5% to last year, at 1.339 billion, with units up modestly, while average cost accounted for most of the increase. driven both by inflationary increases and mixed effects. This was above our beginning of quarter guidance due to the sales miss and some earlier than expected receipts. However, a substantial part of the increase was planned as we continued to improve our in-stock positions and also deal with inflationary impacts on inventory. During the first quarter, we opened seven new stores and closed four stores. We ended Q1 with 1,434 stores and total selling square footage of 32.8 million. Capital expenditures for the quarter were 44 million compared to 32 million last year. Depreciation expense in the first quarter was 37.4 million, up 3.4 million to the same period last year. We ended the first quarter with 62 million of cash and cash equivalents and 271 million of long-term debt. At the end of Q1 2021, we had 613 million of cash and cash equivalents and 32 million of long-term debt. The year-over-year change reflects share repurchases executed during fiscal 2021 and the rebuilding of inventories. We did not execute any share repurchases during Q1, but have 159 million remaining available under our December 2021 authorizations. At the end of Q1, we had over 300 million of remaining availability under our revolver, and we expect to generate around 100 million of free cash flow during Q2. We announced today that our Board of Directors declared a quarterly cash dividend for the first quarter of fiscal 2022 of 30 cents per common share. This dividend is payable on June 24, 2022, to shareholders of record as of the close of business on June 10, 2022. Turning to the second quarter, we expect three-year comps to be well above Q1 and in the positive mid to high single digits, equating to a mid to high single digit negative comp versus 2021. Net new stores will add about 150 basis points of growth versus 2021. Our current expectation is that promotional activity will drive our Q2 gross margin rate into the low 30s. We expect SG&A dollars to be slightly up to 2021. Overall, this will result in another significant operating loss for the quarter. We expect a share count of approximately 28.6 million for Q2. We believe we will be positioned to deliver much better results later in the year when our corrective actions have taken effect. We expect sequential improvement in gross margin rating in each of Q3 and Q4, ending the year with a Q4 margin that is approximately in line with the prior year quarter. as promotional intensity moderates and we begin to see benefit from our other gross margin rate actions. It is important to note that on a full year basis, higher inbound freight costs, including detention and demurrage charges, are approaching 400 basis points of gross margin rate erosion versus 2019. In addition, outbound transportation expense is driving around 100 basis points of operating expense deleverage versus 2019. While it will take some time to see all of this turn, we continue to believe that normalization of supply chain costs will be a significant margin tailwind over time. In the near term, as Bruce referenced, we are planning to significantly reduce detention and demurrage costs, which have run at around 50 million on a trailing 12-month basis. On a full year basis, we now expect SG&A to be down around $100 million to our original plan, driven by expense flex on lower sales, lower bonus accruals, and $70 million of additional cost reductions, partially offset by higher distribution and outbound transportation expense, including the impact of higher fuel rates. We expect total inventory at cost to end Q2 up in the low 20s versus 2021, and up around 30% versus 2019. representing a significant reduction from Q1 ending inventory levels. We now expect 2022 capital expenditures to be around $175 million. On a net basis, we expect total store count to grow by about 30 plus stores in 2022. This is our prior guidance of 50 plus, as we have intentionally reduced the number of 2022 openings. We expect full year depreciation of around $153 million, including approximately $38 million in Q2. To reiterate Bruce's prepared comments, we are navigating through a challenging transition, but remain confident in our long-term runway for growth and expect to deliver outstanding shareholder value as Operation North Star continues to fulfill its potential. I will now turn the call back over to Bruce.