BJ's Wholesale Club Holdings, Inc.

Ladies and gentlemen, thank you for standing by and welcome to the BJ's Wholesale Club Q2 FY20 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. If you require any further assistance, please press star 0. I would now like to hand the conference over to your speaker today, Satyen Sriha, Vice President of Investor Relations. Thank you. Please go ahead. Good morning, everyone. Thank you for joining BJA's Wholesale Club's second quarter fiscal 2020 earnings conference call. Lee Delaney, President, CEO, Bob Eddy, Chief Financial and Administrative Officer, and Bill Werner, Senior Vice President, Strategic Planning and Investor Relations are on the call. Please remember that during this call, we may make forward-looking statements within the meaning of the federal securities laws. These statements are based on our current expectations and involve risks and uncertainties that could cause actual results to differ materially from our expectations described on this call. Please see the risk factors section of our Form 10-K filed with the SEC on March 19, 2020, for a description of those risks and uncertainties. Finally, please note that on today's call, we will refer to certain non-GAAP financial measures that we believe will provide useful information for investors. The presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Please refer to today's press release posted on the investor section of our website for a reconciliation of these non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP. With that, I'll turn the call over to Lee.

Good morning, everyone. I hope you are all safe and healthy. Let me touch on a couple of things briefly before discussing our performance and go forward expectations. First, I'd like to thank our team members for their dedication as we continue to navigate these unprecedented times. This past quarter, we faced challenges that impacted every aspect of our business. I am extremely proud of how our team responded with resilience and creativity to the ever-changing environment and sustained demand for our products and services. Across every function in our company, from the field to supply chain teams to the merchants and marketing team to all our support teams in the home office, people stepped up to deliver exceptional performance across the board. Their dedication and effort enabled us to safely serve our communities and deliver outstanding results. Thank you to all of them. We recognize them through temporary wage increases through July, as well as multiple rounds of bonuses, including a bonus that will be paid in September. Year to date, we have invested $83 million in team member wages and bonuses. In addition, we continue to support an enhanced benefits package and financial assistance through our employee relief fund. Our top and most important priority remains the health and safety of our team members, as well as the members and communities we have the privilege to serve. We continue to practice the extensive safety measures we introduced in March. We will remain vigilant and continue to work with federal and local authorities to ensure we remain ahead of evolving safety and health standards. Year to date, we have spent approximately $24 million in increased safety and sanitation costs. Second, I'd like to take a moment and address the social injustice that garnered worldwide attention this quarter. We stand in solidarity against racism, discrimination, and violence. We are proud to serve an incredibly diverse membership base and work alongside a diverse population of team members. These events reinforce the importance of our ongoing efforts to build a culture of inclusion and diversity. To support and lead our efforts, we created an Inclusion and Diversity Council to implement training, education, recruiting, and development initiatives that drive inclusion and foster diversity. The leadership team and I are passionately committed to this work, which we deem inherent to our values and our success as a company. Now, let's turn to our performance. Q2 was another remarkable quarter with strong top-line growth, profitability, and free cash flow. As I reflect on our results to date and the implications for the future, I believe that we have turned the corner from merely reacting to the pandemic to proactively transforming our business to enable a much brighter future for the company. We have a radically different company than we had just six short months ago. In many areas of the company, we are now years ahead of how we thought our transformation would evolve, and we are actively looking for ways to increase the pace of progress. For the balance of my remarks, let's dive a bit deeper on five key topics, membership, assortment, digital transformation, strategic footprint, and capital structure. From a membership standpoint, we continue to see a strong increase in new members joining BJ's. We now have over 6 million paid members. To put this in perspective, in the past six months, we acquired and retained approximately 18 months' worth of members. This pace, should it continue, would have us experience three years of membership growth in this one transformative year. Not only are new members joining at elevated levels, they skew younger and are more digitally engaged. We believe our membership will be stickier, and we are adding incremental efforts to ensure higher levels of engagement. We have added incremental marketing to support member outreach and have been encouraged by the results in new and existing clubs. We are also focused on ensuring our members remain engaged, especially new members. We are closely monitoring their behavior and utilizing a targeted, personalized approach to keep them engaged in shopping. We will lean aggressively into membership investments throughout the balance of 2020. With assortment, strong underlying demand driven by increased food at home trends and consumer investments in their homes allowed us to considerably accelerate plans to change our product and services offerings. We essentially revamped our assortment in real time, selling through old inventory at a rapid pace, simplifying and expanding into high growth and high demand categories where we did not previously compete. Let me share a few examples from this past quarter. First, our merchants did a terrific job engaging with existing and new suppliers to keep us in stock and to expand into highly relevant new categories. We added 32 new vendors to bolster our supply chain in food, paper, and cleaning supplies and to participate in new personal protective equipment categories. Second, we dramatically accelerated the reset of our food business with a new set in nearly 200 clubs that incorporates more healthy and organic options months ahead of our initial schedules. We knew changes here would be important to engage younger members and accomplishing it so quickly should aid our retention efforts with our new first-year members. Third, we continue to expand our general merchandise assortment, delivering great prices on well-known and new brands, including Sony, Puma, Lucky, and Champion. We also reinvented the way we buy apparel to be more opportunistic and capitalize on market disruptions. And finally, from a services standpoint, the team continues to build our capabilities. Our AT&T mobile offering is resonating well with members, and we have further enhanced it by adding buy online capabilities. Our optical business is open again, and we continue to offer great value and convenience, including new digitally-enabled optical services like telemedicine appointments. And we relaunched our home improvement and appliance platforms, offering unbeatable value and enhanced member experiences. Our digital business is crucial to our existing and new members and is stronger than ever. We grew digitally-enabled sales by more than 300% and made dramatic progress rolling out new digital services. After a brief test, we launched curbside pickup in all clubs earlier this month, and we expect buy-online pick-up and club for perishables to be available by the end of the third quarter. The initial response from members has been encouraging. We will move aggressively to add infrastructure in our clubs to handle these rapidly-growing offerings, knowing that our economics are advantaged versus our competitive set. I am also thrilled to announce that earlier this month, Monica Schwartz joined the team as Chief Digital Officer. With great retailers like Home Depot and eBay in our background, Monica's extensive knowledge, experience, and diverse background will be instrumental as we scale our digital business. We remain focused on expanding our footprint in a much more aggressive fashion. Our third club in Michigan opened late in July, and while it's still very early days, we are pleased with the initial membership response and sales trends. We expect to open two new clubs in New York around the end of the fiscal year and can currently see opening as many as six new clubs next year. We are moving aggressively to make those numbers or even larger ones a reality. Our balance sheet is a radically different quality today. We have used the massive amounts of free cash flow to reduce leverage to 1.4 times funded debt to EBITDA versus 2.9 times just a year ago. And we began to selectively buy back shares to offset the dilutive EPS impacts of equity compensation. Stepping back, we expect that consumer trends will likely continue for the foreseeable future. We expect this landscape combined with our considerable transformative investments will increase our relevance to members and prospective members alike. Almost regardless of the level of economic uncertainty, we should be well positioned versus competitors given our low price positioning and the fact that we have grown our membership revamped our analog and digital offerings, increased our rate of new club openings, and transformed our capital structure. In this environment, we will look for additional opportunity to accelerate our transformation, remake our balance sheet, and drive step-change levels of profitable growth. We hope to look back on this turbulent period as our moment in time to radically improve our business. With that, I'll turn the call over to Bob. Bob?

Thanks, Lee, and good morning, everyone. Before I begin, I would also like to thank our team members. Our industry-leading results reflect their performance and the investments we've made over the past few years. As Lee noted, 2020 has been an incredibly transformative year for our business that will catapult us forward into the future. Net sales for the quarter were $3.9 billion. Merchandise comp sales, which exclude gasoline sales, increased by 24% and were driven by both traffic and tickets. We had significantly more members shopping our clubs, consolidating their trips, and growing their baskets. These trends were relatively consistent across all of our geographies. We saw consistently strong comp performance during the quarter, with comps exceeding 20% for each month. We exited the quarter with July merchandise comp growth of 24%, and trends remained strong in August, which is running at a 20% comp so far. Our digitally-enabled sales grew by more than 300% and drove about six full points of our 24% merchandise comp. About three-quarters of the Q2 growth in digitally-enabled sales was driven by same-day delivery and by online pickup and club, or BOPIC. The complexion of this growth is important as it is centered in those fulfillment methods where we have advantaged economics. As you know, we operate a limited SKU warehouse environment with significantly higher average tickets, which allows us to be much more efficient. OPEX sales tend to skew towards higher ticket items, and same-day delivery sales have the same margins as traditional sales in our clubs. Comps in our grocery division grew by 25%. We saw very strong growth rates in expected categories. Paper products, cleaning essentials, fresh meat and produce, frozen, dairy, and beverages. Our team improved our in-stock levels during the quarter, including in certain very high-demand categories. by innovatively working with both existing and new suppliers. Our general merchandise and services division saw a comp growth of 22%, driven by strong apparel sales, TV sales, and other home-related categories. Membership fee income, or MFI, grew by 10.4% during the second quarter to $82 million. MFI growth was driven by new members, renewals, and membership mix. We now have 6 million paid members, which is an exciting milestone for this company. To get here, paid members grew by 10.6% year over year. Cash MFI for the quarter was up 15% due to growth in new members and membership renewals. Despite these gains in the number of members, our higher tier penetration increased to 29%, and easy renewal enrollment is nearly 70%. Let's move now to gross margins. Excluding the gasoline business, our merchandise gross margin rate was flat as CPI initiatives and improved performance in our general merchandise business was offset by COVID costs and cost inflation of certain commodities, most notably beef. We invested meaningfully in price during the quarter in order to sustain our outstanding value to members in these tough times. SG&A expenses for the quarter were $591 million and included approximately $42 million of total costs associated with the pandemic. These costs came in above our expectations as we extended our temporary wage increase longer than anticipated, and we implemented a bonus program to reward and recognize our team members. In spite of these additional costs, we leveraged SG&A by approximately 40 basis points, enabling great flow-through to earnings. Please note that these costs have not been adjusted out in the calculation of our adjusted EBITDA metric. Our adjusted EBITDA grew by 42% to $217 million, reflecting the robust sales beat offset by discipline investments in our team members and their safety and in our business. Adjusted net income in the second quarter was $108 million, or 77 cents per share, and reflected an incredible 97% year-over-year growth. Our earnings growth highlights the strength of our revenues, our disciplined capital expense management, and reduced interest expense. As a result of our outsized performance and working capital benefits, we generated free cash flow of $220 million in Q2 and a record $655 million year-to-date. We bought back $34 million worth of shares and paid down $150 million of our first lien debt. We ended the quarter with $169 million in cash balances and a funded net debt to adjusted EBITDA ratio of 1.4 times. Our balance sheet has been dramatically transformed in the past year. Let's now touch on our outlook. The current environment remains challenging and unpredictable. There are several uncertainties and factors that would impact the overall economy and our business, including the evolution of a pandemic, government stimulus, consumer behavior, the elections, and unemployment levels. As a result, it remains extremely difficult for us to forecast how the second half of the year will play out in specificity. What we do know is that our business has strengthened significantly. We are not the company we were six months ago, six quarters ago, or six years ago. We've added more members and are accelerating investments to improve all facets of our business. Although we benefited from increased EBT and stimulus benefits in the last six months, we have built an underlying strength in the business that will be sustained in the future even after EBT and stimulus benefits are behind us. Change is accelerating, and we believe we will emerge from this situation transformed with a long-term algorithm that significantly outpaces the plan we laid out at our IPO. Let me touch on some high-level expectations for the remainder of the year. First, we expect strong comps for the remainder of the year and to continue to attract and retain new members as we invest and transform our business. Given the uncertainty around stimulus and other matters, it's difficult to predict sales in the second half of the year in detail. Based on our new member growth we've seen in the first half of this year and our current member mix, we would expect MFI on our P&L to grow by approximately 12% in Q3. From a gross margin standpoint, our view remains the same as Q1. We expect to benefit from strong sales, CPI, and private label expansion. There are also manageable headwinds to consider, including the higher cost of freight and near-term inflationary pressures on certain categories. We aren't planning for a margin benefit from our gasoline business for the rest of the year, and in fact, margins could potentially contract a bit. On SG&A, we expect to incur approximately $20 to $25 million of incremental expense associated with COVID-19 in Q3. These costs are related to team member bonuses and ensuring we keep members and team members healthy and safe. Despite these costs and uncertainties, we expect to achieve very strong adjusted EBITDA and earnings growth. Let me touch on capital allocation. This year has been incredible so far. Over $600 million in free cash flow has enabled us to repay nearly $500 million in debt, repurchase nearly $40 million in shares, and accumulate nearly $170 million in cash on our balance sheet. This has been truly transformational. As we look forward, our first priority is the growth of our company. We will fully fund all growth initiatives that meet our strategic and financial hurdles. Next, we will look to continue to optimize our balance sheet. Finally, we may consider returns of capital to shareholders. Our goal is to ensure that we have the appropriate capital structure that would enable the company to succeed over the long term and maximize shareholder returns. To wrap up, we're extremely pleased with our results for the first half of the year, and we feel tremendously well positioned for the future. Our business is more relevant than ever before, and our investments are enabling us to succeed and drive continued profitable growth. Importantly, we have a team that is executing at the highest level and building a truly transformed BJ's Wholesale Club. Now I'll turn the call back over to the operator to begin the Q&A session.