Q3 2020 Earnings Call
Greetings and welcome to the at home third quarter fiscal 2020 earnings call. At this time all participants are in listen only mode. A question answer session will follow the formal presentation. If anyone should require operator systems. During the conference. Please press star zero on your telephone keypad. Please note. This conference is being recorded I would now like turn the comfort towards.
Your host Mr., Arvind Bhatia, Vice President Investor Relations. Thank you you may begin.
Thank you Devin good afternoon, everyone and thank you for joining us today.
Third quarter fiscal year 2020 earnings results conference call.
Called today, our chairman and Chief Executive Officer LIBOR.
It does that Chief operating officer Peter of course.
<unk> Chief Financial Officer, Jeff.
After the team has made their formal remarks, we will open the call to questions.
Before we begin I need to remind you that certain <unk> comments made during this call may constitute forward looking statements that are made pursuant to and within the meaning of the safe Harbor provisions of the private Securities Litigation Reform Act of 1995.
In particular statements about our outlook and assumptions for financial performance.
Our fiscal years, 2020, and 2021, and our long term growth targets as well as statements about the markets in which we operate expected new store openings real estate strategy potential growth opportunities future capital expenditures future cash flows and the impact of terrorism.
Forward looking statements.
Such forward looking statements are subject to both known and unknown risks and uncertainties.
I could cause actual results to differ materially from such statements.
Those are referred to.
I Hope this press release issued today Anda filings that makes it the FCC.
The forward looking statements made today are as of the date of this call.
Home does not undertake any obligation to update any forward looking statements.
Finally, the speakers may refer to certain adjusted or non-GAAP financial measures on this call such as adjusted EBITDA adjusted operating income adjusted net income at adjusted earnings per share.
A reconciliation schedule showing the GAAP versus non-GAAP financial measures is available and I Hope This press release issued today.
You did not have a copy of today's press release, you may obtain one by visiting the Investor Relations page.
I'm, sorry, <unk> investor taught at home Dot Com.
In addition from time to time at home expects to provide certain supplemental materials or presentations for investor reference on the Investor Relations page, if that's what I'm sorry.
Now I'll turn the call orderly Lee.
Thank you are in good afternoon, everyone and thank you for joining us to discuss our results for the third quarter fiscal 2020.
We delivered a healthy third quarter performance were nearly all of our guidance guided metrics exceeding our expectation.
Strong new store productivity drove more than 19% sales growth, representing our 23rd straight quarter of at least high teens revenue growth.
We continued our west coast expansion with stores in Canada, with Washington, Riverside, California, We also opened new stores in Wisconsin, Nebraska in Chicago suburbs, and we expanded along the east coast from Ellington, Florida to turn as Bill New Jersey.
Overall, our total sales outperformed.
Outperformance helped drive Q3, adjusted operating margin and adjusted EPS above our expectation.
Third quarter comp sales were down 2% within our guided range and comp store traffic was above the industry average.
On a two year basis, our comp store sales increased 3.2%, which includes an estimated 120 basis point tailwind.
In fiscal 2019, I'm hurricanes in the previous year.
Our merchandising standpoint, our category reinvention strategy continues to deliver incremental newness and positive comps and our visual merchandising efforts.
Focused around end caps vignettes and feature tables drove some of their highest growth in years during Q3.
Our Halloween in fall categories were particularly strong driving nearly double digit comp.
On the marketing front in September we shared our plan to reallocate our media mix in the back half of the year towards our most effective traffic drivers digital outreach and direct mail.
In Q3, we distributed more direct mail pieces in delivered 350% more digital impressions year over year.
Our total and unaided brand awareness grew once again and our loyalty program continues to expand at 6.2 million members currently.
The growth in this program, which represent a meaningful portion of our total customer purchase as.
Well enable us to be even more targeted inefficient in our digital communication in fiscal 2021.
Especially as we launch SDLP, plus and our byline pickup in store test.
In total our media mix continues to drive a positive return as we continue to reach both new and existing customers.
Well, we're pleased with the progress we're making in our business. We have faced some challenges as we move through the back half of fiscal 2020, primarily in our seasonal product as I mentioned fallen Halloween offering were very strong in Q3, However, our Christmas assortment, which represents a significant portion of our Q4 sales volume.
Has performed well below our expectations.
We believe a more promotional environment in the later Thanksgiving this year are causing a change in holiday shopping behavior.
It is significantly impacting our seasonal performance.
Additionally, we believe our Christmas assortment versus the competition was not as compelling as it had been in prior years, which has an opportunity for us in fiscal 2021.
However, keep in mind that with the calendar shift we're still in the middle of our largest volume weeks of the year. Therefore, it's still too early to fully diagnosis season, and diagnosed or action plan and just in design or action plan.
To a lesser extent recently, we've also seen more customer is this and particularly in our furniture related categories. Just some of the retail price increases we took in response to Tara.
Our last earnings call I discuss how our buyers sourcing teams in product partners have been relentless in finding ways to mitigate tariffs over the last year through a mix of cost negotiation direct sourcing country diversification strategic price increases.
As more of the price impacted products have arrived in our stores. Our analysis has shown that are more unfavorable sales impact began in Q3.
While we believe the price position of our assortment is competitive among our peers.
The customers begin to pull back from higher prices on certain tariff impacted items.
With that said, we have a clear plan to address these challenges and we are taking immediate action through disciplined strategy.
First our initial analysis customer sensitivity indicates that we need to implement selective price reduction, which we are executing in the next coming weeks.
Second we believe the launch of our upcoming SDLP plus go to market strategy in January it'll be an excellent way to highlight our low prices and compelling value to customers.
Third as online penetration continues to grow in our industry.
We believe more strongly than ever and giving our customers an omnichannel auction.
We look forward to launching our buy online pickup in short castle across 28 stores in late January to confirm the operational requirements and the economics for our model once confirmed we expect to expand it to approximately 100 additional stores during fiscal 2021.
Hey, Jeff will discuss shortly although we are pleased with our third quarter performance, we're reducing our full year guidance to incorporate the softness in Christmas and the traffic excuse me the tariff related headwinds.
Our team is solidly focused on mitigating these issues before I elaborate on the actions, we're taking let me provide some context.
When we faced a comp a compressed holiday calendar and more traffic challenged environment, our merchant and marketing teams diligently prepared for the Q4 holiday season throughout this entire year.
We repurchased our traditional don't November flash binds to early Black Friday decor Busters.
We increased an emphasis on hosting an entertaining as areas of product leadership.
We also expanded and extended our typical black Friday deals.
These deals highlighted not only our holiday product, but everyday product throughout our store to appeal to a broad set of customers.
We also introduced more gifting options than in prior years.
I'm really proud of our our home office team developed and our field teams executed these initiatives.
However, the environment or a category is proven to be more promotional than we originally anticipated.
As a result of soft trends continuing to black Friday weekend, beginning today, we are launching new discounts on our Christmas assortment.
As for the furniture related categories, most affected by tariff induce price increases.
We're still finalizing our strategy on an item by item basis, however will be executing price reductions.
In the upcoming weeks.
The fourth quarter price reductions on both our Christmas and selected everyday categories are incorporated into our revised fiscal 2020 guidance.
Going forward our approach on tariff effective product will include additional value engineering.
Order to reduce both cost and retail price.
Our direct sourcing program is off.
Is on track to exit fiscal 2020.
To exit at 15% of purchases and we plan to explain to expand the program to 20% next year.
The team is also working through additional country diversification efforts that should reduce our tariff exposure overtime.
With respect to SDLP, plus our merchant and marketing teams are geared up for the for full rollout next month the strength of our model is our broad base assortment product newness and everyday low prices.
However, our customer research has shown that we have an opportunity to better emphasize these strengths to our customers.
LP plus as a way to highlight these unique and compelling aspects of our model in a more prominent way.
Through focus campaigns around specific categories in seasonal events.
It's important to remember that on its own it's not a change in our pricing.
It's a shift how we visually merchandise our stores and layer on storytelling through marketing to drive customer interest and highlight the incredible value in constant refreshes that are in stores today, but not as the obvious to our customers as they should be.
As part of this initiative will invest more in store labor to reflect reflect the highlighted categories prior to their event.
Consolidate clearance inventory to improve it sell through.
And flow in new and fresh product will also position a portion of that category in front of the store in the center aisles, making our stores more dynamic and improving the treasure hunt for our customers.
We will display new price point signage that will emphasize our deep everyday price.
Finally, our traditional flash bind to better align with the category or season highlighted.
And they will last the duration of the multi week event.
Well, our marketing outreach has reflected the storytelling focus since August .
The merchandising aspect the VLP plus will rollout in late January .
We believe that overtime LP, plus we'll give customers a better appreciation for the breadth of our assortment.
Continuous product newness and most importantly exceptional value proposition of our everyday low prices.
Finally, we're also excited about launching our byline pickup in store test next month.
We are driving more customers than ever to our website in fiscal 2020 and half of the customers that we surveyed indicated they would buy more if we offered a store pickup option.
We plan to learn from this past across the selection of 28 stores in six markets and we look forward to analyzing the learnings for a broader rollout next year.
Switching gears, we continue feel good about how we're strengthening the company's foundation in managing it operationally.
I'd like our President and Chief operating Officer, Peter courses to discuss the team's continued focus on inventory management controlling shrink and ramping up our second DC to increase products be to stores Peter.
Thanks, Julie and good afternoon, everyone.
With over 50000, Skus in our broad assortment the health of our inventory is Paramount I.
I'm incredibly pleased with the effectiveness of our targeted efforts to improve our clearance inventory sell through.
We've invested invested in store labor and consolidated clearance and select categories.
Our store teams are focused on markdown compliance cleanliness and merchandising.
Operational standards have risen and weve normalize record levels of inventory growth.
Additionally, the warmer dryer fall enabled us to sell through more of our patio and garden clearance in Q3 than we originally plant.
As a result of our focused efforts year over year inventory growth has moderated substantially.
From 44% in Q1 down to less than 24% at the end of Q3.
We expect yearend inventory growth to be in line with full year sales growth.
We have driven a notable improvement and strength compared to Q4 last year by investing in internal and external labor to better prepare stores for inventory counts several weeks in advance.
So far the results of outperformed our expectations.
We've refined and inventory playbook. This year that we can carry into future periods to benefit us operationally and improve customer shopability.
Lastly, our largest operational initiative has been the launch of our second distribution Center and Carlisle, Pennsylvania.
I could not be prouder of the Carlyle teams execution of this new facility not only did it opened on time, but it has repeatedly come in under budget.
In fact, our team in Pennsylvania has ramped so efficiently they already service more stores than and our as productive as our original Plano facility.
Our plan ODC has also improved its productivity this year and both facilities have driven labor savings as a result.
We look forward to seeing more of the transportation savings from the Carlyle distribution center flowing through gross margin in Q4 and into next year.
Overall the success of these fiscal 2020 initiatives is driving savings and operational efficiencies that in turn enable us to reinvest in our strategic priorities and lower prices for our customers.
With that I'd like to turn the call over to Jeff.
Chief Financial Officer, excuse me, Jeff to Knutson, who will recap our Q3 financial performance at our outlook for Q4, Jeff.
Thank you Peter and good afternoon, everyone.
As a reminder, additional information is available on our earnings release, which is posted to our Investor Relations website and includes reconciliations illustrating our non-GAAP results as if the new lease accounting standards had been effective in fiscal 2019.
Our discussion of adjusted metrics on the rest of this call will be on a lease adjusted basis with fiscal 2019 results recast to illustrate the standards impact.
During the third quarter, we drove topline growth of 19.3% to 318.7 million.
Comparable store sales decreased 2% inline with our outlook, but towards the lower end due to customer sensitivity to tariffs related price increases.
Our topline was driven by a strong store opening plan.
During the third quarter, we opened 12, new stores slightly weighted to existing market.
Cannibalization from new store expansion inline with our expectations.
It is a byproduct of strengthen our position in existing markets, but it has had a larger impact on comp store sales throughout fiscal 2020 due to the mix of stores opened in the last year.
We are very pleased job opened all of our fiscal 2020 pipeline within the first three quarters of year, which enables new stores to deliver our fall holiday headquarters experience during the fourth quarter.
By comparison, we opened 20% of our pipeline during Q4 last year.
Third quarter gross profit decreased 0.7% to 85.4 million.
Adjusting for the newly standard gross margin decreased 430 basis points to 26.8% slightly ahead of our expectations as planned gross margin continued to be impacted by product margin contraction, including incremental markdowns as we normalize our inventory position this year.
Overall, we have been very pleased with the sell through of clearance merchandise following the adverse weather in the first half of the year.
We remain on track to make solid sequential progress in our inventory and expect yearend inventory growth to be in line with full year sales growth.
Net operating costs from our recently opened second distribution center were also a headwind to gross margin of approximately 75 basis points better than our 110 basis point expectation due to the DC productivity Peter mentioned earlier.
Finally, we incurred occupancy cost deleverage on lower comp store sales. In addition to approximately 50 basis points of increased occupancy costs from sale leaseback transactions.
Adjusted SDMA of $74.9 million improved 80 basis points to 23.5% of net sales.
Above our expectations due to lower incentive compensation expense.
We delivered eight and a half million dollars of adjusted operating income and our 2.7% adjusted operating margin was above our outlook of 1.9% to 2.4%.
While average interest rates decreased slightly during the quarter interest expense grew to $8.5 million due to increased borrowings to support our growth initiatives, including a 23% increase and open stores year over year.
We recognized 8.1 million of income tax expense in the third quarter, which was primarily driven by $9.3 million of deferred tax expense related to the cancellation.
A one time CEO stock option grant that was made in the second quarter fiscal 2019.
By comparison, we recognized only $1 million of income tax expense in Q3 last year, which included $1.4 million a tax benefit related to the exercise of stock based awards.
In total we were pleased to deliver flat adjusted EPS for Q3 above our guidance of down four cents to down a penny.
During September we generated $50.5 million and proceeds on a four store sale leaseback transaction and we ended the quarter with $140 million of total liquidity.
Looking to the fourth quarter.
As Lee mentioned, we have seen much softer performance in our Christmas offering and to a lesser extent tariff related challenges in certain everyday categories.
Based on current trends, we expect to generate $385 million to $393 million and net sales, representing 9% to 11% growth year over year.
We expect our comp store sales to be down four to down 6% in the fourth quarter compared to comp sales increase of 2.1% last year.
Our fourth quarter guidance assumes adjusted operating margins of 8.8% to 9.6% or our lease adjusted decline of 290 basis points at the midpoint.
We expect continued gross margin pressure from occupancy deleverage due to lower comp growth and fiscal 2020 sale leaseback transactions as well as product margin contractions from markdowns and tariff driven cost inflation.
This outlook also incorporates roughly 40 basis points of second DC net operating costs.
For context, the second DC was a headwind of 115, 85, and 75 basis points, respectively. In the first three quarters of fiscal 2020.
We're very pleased with the sequential improvement expected in Q4 due to distribution center efficiencies flowing through gross margin as inventory turns.
We expect the overall gross margin headwind in Q4 to be partially offset by improvement in shrink as well as SGN a rate improvement from reduced store and distribution center preopening expenses as well as lower incentive compensation.
In all we expect Q4, adjusted net income of $20 million to $23 million inclusive of a 23% adjusted tax rate versus 19.3% adjusted rate in the fourth quarter last year.
Assuming approximately 64 million shares outstanding our Q4 outlook calls for adjusted EPS of 31 to 36 cents per share.
As we've shared previously we expect fourth quarter to represent a significant portion of full year earnings in fiscal 2020.
Primarily due the timing dynamics around sales volume the second DC, new store preopening costs shrink improvement and a more comparable tax rate year over year.
Turning to the full year, we expect net sales to be in a range of 1.352 billion to $1.36 billion, representing strong 16% to 17% growth over fiscal 2019.
Our updated full year comp store sales outlook is down 2.6 to down 2%.
Our reduce topline expectations have led us to revise our profit outlook for this year.
Based on lower sales flow through and the pricing measures, we are taking to sell through our Christmas assortment within the fourth quarter.
Our new guidance reflects gross margin of 28.2% to 28.5% and adjusted operating margins of 5.65, 0.9% down roughly 375 basis points at the midpoint when compared to last year on a lease adjusted basis.
Compared to our previous full year guidance, our fiscal 2020 interest expense outlook is slightly lower at approximately $32 million and we expect a slightly higher adjusted effective tax rate of 23.9%.
With adjusted net income of $33 million to $36 million and approximately 65 million diluted shares our adjusted EPS outlook is 51 to 56 cents.
We have also lowered our fiscal 2020 outlook for net capital expenditures, primarily to reflect reduced capital spending on the fiscal 2021 pipeline.
We expect net capex of $115 million to $125 million compared to prior guidance of 135 to 155 million.
Each net of $125 million.
Leaseback proceeds.
As we noted last quarter, we have moderated our new store growth rates as the result of our heightened focus on delivering positive free cash flow in fiscal 2001.
With a new store growth rate of 10% in each of the next three years will be better position to balance new store growth and profitability with free cash flow and reduced leverage.
Additionally, a 10% growth rate allows us to be even more selective about the sites. We opened in a given year in order to optimize store level profitability and reduce the cannibalization impact that has played a larger role in fiscal 2020.
It also enables our teams to put even more karen attention into every opening as well as into our existing stores.
We have already made significant progress improving our free cash flow during fiscal 2020 by lowering our inventory investment on a comp store basis.
Between working capital efficiencies and reduced net capital spend we expect to see meaningful sequential improvement in Reeves and free cash flow from fiscal 2019 to fiscal 2020, despite a $23 million reduction in sale leaseback proceeds.
That improvement along with the following initiatives give us great confidence in our path to positive free cash flow next year.
First we have roughly a dozen owned properties that can generate sale leaseback proceeds over the next several years.
Second our new store pipeline for fiscal 2021, which is already fully approved requires less capital than fiscal 2020, given our moderated unit growth rate compared to 36 openings in fiscal 2020, we plan to open 21, new stores next year, including 18 second generation leases.
Okay, and three ground up builds.
Third we continue to work with our large national re partners on new store financing alternatives to more quickly recoup our capital investment on ground up builds we view this step as a critical transition into build to suit and by two transactions over the next several years.
Fourth we are reducing our capital spend on second generation sites due to fiscal 2020 initiatives around value engineering strategic procurement initiatives and a refined market by market approach.
Overall, we are confident in our pathway to positive free cash flow in fiscal 2021. Our teams have also been diligently pursuing several strategic initiatives for next year, including SDLP plus enhancements to our growing loyalty program and our Omnichannel rollout.
We look forward to sharing annual guidance with you.
Fourth quarter earnings call in late March.
With that I'll now turn it back over to leave for his final remarks.
Thank you Jeff.
As we look back on fiscal 2020, and how it's played out we're very disappointed.
Well, we're pleased with the progress we've made on several key priorities, we didnt deliver the outcomes we expected.
We are using our disappointment as fuel to energize does for the year ahead.
We know we have a lot of opportunities still in front of us.
Our teams are working diligently on several exciting organic initiatives, including our LP plus go to market strategy omnichannel opportunities, increasing our direct sourcing penetration traction.
Diversifying our sourcing programs.
And leveraging our growing loyalty program to enhance our marketing effectiveness.
Despite a challenging year, we remain very confident in our business model as well as the long term algorithm, we provided just last quarter.
We have the potential for 600 plus stores nearly three times. Our current side you have a highly differentiated concept stores have compelling unit economics.
And we have strong new store pipeline.
Factors that enable us to play from a position of strength.
In addition, we have an increased emphasis on free cash flow enhancing our liquidity and strengthening our balance sheet and we're well positioned for sustainable long term growth.
With that operator, please open up the line for question.
Thank you at this time, we will be conduction a question and answer session. If you will that does question. Please press star one on your telephone keypad a confirmation until indicate your line is in the question Q.
You mean first start to fuel the terminal your question from the Q4 participants using speaker Carmen and maybe necessary to pick up your handset before presence Sarkies. One moment, please will be pull for questions.
Our first question comes on line of John Heinbockel with Guggenheim Securities. Please proceed with your question.
Good afternoon. This is Steve Kovalsky on for John I wanted to touch on how the categories are performing that have undergone some recent reinventions.
Such as the home soft goods bedding and talus kitchen wires. Thanks.
Yes.
I would tell you are reinvention does I mentioned in my prepared remarks have really delivered really nicely for us they bring incremental newness to the sub category.
And I would say we've had positive comps in total for our reinventing categories across the chain.
Well, what they also do they provide the elevated visual merchandising and newness to the store.
The most recent ones that we launched lamp reinvention was very strong results were pleased with that framed window treatments in homeward also performed well.
And Bath and wedding, which was last fall have had very positive returns and restarted about the sheet reinvention that coming through right now into our stores.
Thank you.
Our next question comes a lot of Simon done with Morgan Stanley . Please proceed with your question.
Hey, there.
I wanted to ask firstly from time to time, given us an assessment if you look across the home furnishing landscape about home value proposition, where it's in a pretty unique place from a pricing perspective from an assortment.
And then others didn't seem to be chasing you're catching up are you seeing that change as part of the landscape and then I have one follow up.
I would say from a overall macro standpoint.
From the home industry standpoint, we still have a very competitive proposition our prices are everyday low prices. We have seen that it's still highly promotional the holiday season, with especially promotional more so than previous holidays holiday Christmas season than we've seen.
And I could it be because as we planned as well for compressed calendar others may it as well I would say as we comp shop, our teamed comp shop every other week I'm really pleased with their efforts to comp shop, we see that we continued to be very competitive we offer the largest assortment at prices below other our competitors.
Sales prices, our everyday categories continue to be very competitive where we saw challenges really wasnt in.
In the areas, where we took price last fall that were in areas that were affected by Terra we saw recent pushback by our our consumers to not pay those prices.
And I would say that the marketplace. It would seem is is that having similar situation.
So what we focused on is making sure that we've got the lowest prices out there and as I mentioned, we will take selective price decreases over the next few weeks in those tariff affected items to make sure that we continue to have the lowest price physician thats. Our emphasis always is to have the low price position as I mentioned about in my prepared remarks about.
Halloween and harvest they outperformed we're thrilled with that we combined.
Low double digit comp. So we're really pleased with that but Christmas did not it's not performing and what I would say as the competition increase their game better than we did I thought we at a very nice assortment I was really pleased with our assortment in the team, but I would say that they increase their game and they became more promotional and with the compress selling season now it had to be.
Even more promotional than before.
And then my follow up realizing you don't have a traditional waterfall, but can you said you may have said this in prepared remarks, which I missed I apologize can you talk about how the newer crop of stores.
Especially with respect to the fourth quarter guide is at universal across stores or are you seeing some of the immature stores more protected or more insulated from some of these some of these trends.
Yes, I mean this is Jeff I would say when we look at our third quarter performance obviously.
Total sales was above the high end of our guided range with comp slightly below the midpoint and that was driven by our new and non comp store performance in the third quarter.
As we've moved into the fourth quarter I would say.
Christmas softness that we're seeing is across the chain both in our comp stores as well as our new and non comp stores and that's reflected in our guidance.
Thanks, guys.
Our next question comes on line of John It diminishes ski with Jefferies. Please proceed with your question.
Yes, thanks for taking my questions. So it sounds like this this holiday was going to be kind of a story of leaning into some newer categories like hosting and entertaining and gifting.
To to capture some additional wallet share this holiday season.
But it seems like kind of efforts there were offset by some of the Promotionality. So maybe just walk us through kind of what the issue was with with that strategic initiative and and.
Rick results, maybe for for those categories and maybe why didn't play out as you anticipated.
Sure. It now I'll remind you were in the middle of our biggest selling weeks right now. Unfortunately, the timing of this call doesn't allow me to have a full diagnosis of where we are we're just telling you where the trends are right now we've still got to finish it out and we've got work to do to do that I can tell you from a preparation standpoint, we were we plan for a compressed calendar.
We re purpose to our flash binds to these black Friday to core busters and had them over.
Much longer period of time to fill that air pocket that we had last year that range.
We put in more deals that were special buys these are not discounts on our existing items. These are special buys like a flash find item. We did add as in as you have brought up hosting entertaining gifting I would tell you we're really pleased.
With that with though is that especially hosting and entertaining. Our early reads right now is that something that naturally falls into the home decor space and decorating and having people over into your home. So we're pleased that our broader assortment.
And we're especially pleased.
Our efforts to expand the product offering, which I think will be good for us throughout the year going forward.
But overall the Christmas business started slower.
In Q3, and that remained and it's been well below our expectations for Q4.
As as we've seen our business gets softer we've also seen other people become much more promotional than we've seen before so I can't speak to what their their performance is obviously, you'll find that out overtime as well, we're just providing ours.
But it certainly affected consumer shopping.
And I would tell you as we looked at our our business, we see opportunities within our own assortment, but we also saw became a lot more promotional so that's why we're actually going to 25% off today, which is which is earlier than we have gone in previous years.
But I would tell you.
We remain price competitive we continue to comp shop, and we arc price competitive and even in those furniture areas that we said we've gotten pushed back by our consumer we found that at that we may be price competitive, but the consumer is not please increased caution for them to spend over these artificial price barriers.
That that are out there and.
And we'll know further as we go through the quarter.
Great and then just a quick follow up.
So with the with the for acute guide.
How should we be thinking about kind of the than medium term.
Comp algorithm of 1% to 2%.
Does the Promotionality.
That you witnessed during the holiday season kind of make you think differently about that I know this quarter was a tougher compare and and they'll be volatility quarter to quarter, but maybe just help us think about that 1% to 2% kind of medium term.
Formula and kind of the.
Bigger strategic initiatives that can help us kind of sequentially accelerate from for Q.
Sure as I mentioned this is localized at Christmas and some areas of the tariff affected categories of furniture and accent furniture.
That's the areas of concern and Christmas will be out of it by the fourth quarter.
I will tell you that we typically we marked down we market down early we our intention is to have had the clean by the ended the quarter, that's our intention to.
So we will will be aggressive in those markdowns to move through it. So that we will have a clean inventory position. So its localized to that will also take price reduction in those tariff affected items before the end of year and those will also be addressed by the end of year. So our intention is to get clean to this year addressed those.
Surgical.
Efforts and and then move forward at the beginning the year, where their everyday low price plus campaigns and be ready for.
To deliver what we've talked about in terms of those low single digit Jeff do you want to add anything to that.
No I would say we will provide full guidance in March on our on our next call and give the outlook for next year, but toby's point, we're very excited about LP plus our BOPUS launch as well as Reenergizing, our loyalty program as well over the next three years to achieve those long term growth targets, we set out.
Last call.
Great. Thank you very much.
Thank you.
Once again, if you will attest to question. Please press star one on your telephone keypad. Once again, if you will like to ask question. Please press star one on your telephone keypad.
Our next question comes on line of Chuck Grom with Gordon Haskett. Please proceed with your question.
Hey, Good afternoon. This is Jon Clark on for Chuck.
I guess first can you guys talk little bit about the cadence during the quarter and I guess, how should we think about november's performance relative to Fourq you guide.
Yes.
Jeff you want to cover key into question with cadence throughout the quarter, Yes, we normally don't get into those intra quarter trends I would say our guidance right now as Lee mentioned earlier, we're in the middle right now so one of our big selling weeks than we've reflected the current trends.
That were seen in that guide of down four to down 6% for the fourth quarter.
Got it and then I guess can you talk a little bit about the progress more recently on the company's direct sourcing program.
Can you that this is lee.
When we think about direct sourcing the benefits going to come in product margin and and for US two years ago. We had nothing direct sourced and then by ask why 19 or actuary was 10%.
Exit rate for F. Why 20 at 15% and I mentioned that next year should be 20%.
It's obviously gives us more flexibility because we'll have lower prices.
The allows us to partially offset tariff impacts.
I would tell you as we've moved towards direct sourcing we've increased our penetration to countries like India in Vietnam and will be more diversified even overtime and the goal for direct sourcing is the goal of over 30% over the next three to four years.
That's our north.
We do have a question from the line of Brad Thomas with Keybanc. Please proceed with your question.
Hey, good afternoon.
My question was just as we start to think about.
Refining our models for 2020.
Maybe Jeff if you could give us sort of latest thoughts on sort of good guys in bad guys. As we think about margins for next year and and what you would hope that we could recapture versus what.
You may still be lapping and may still wrapped into next year.
Sure Brad So as we think about Nextshares, we said, we'll provide full guidance on our March call, but just from a high level that theres a number of puts and takes nextshares it relates to our margin profile.
From a headwind standpoint, obviously, we'll continue to have occupancy costs de leverage from our sale lease backs. We executed this year as well as those that will execute next year. We do have a freight headwind. This year thats primarily isolated in late Q3 and Q4. This year that we'll wrap into next year as well as the tariff costs.
Cost wraps that cost 25 basis points in gross margin. This year that has a wrap impact in the next year as well and then obviously as we take selective price reductions on some of these tariffs impacted categories again, primarily furniture and accent furniture.
That will have an impact on our margins next year as well and then we'll continue to invest in store labor to support our VLP plus initiative and then obviously in a normalized year incentive compensation expense next year will return.
So a normal level from a tailwind standpoint, we would obviously expect both from both seasonal categories patio and garden as well as Christmas soft fewer markdowns next year, we'll also be lapping the DC to investment from this year that will provide a tailwind as well as further transportation efficiencies that we're starting to see in the fourth.
Quarter now and those will wrap in the next year and we will get into more of those details when we speak again in March.
Thats helpful specialist to all the rest the holiday season.
Thanks, Brad happy holidays.
Our next question comes on line of Zach system from Wells Fargo. Please proceed with your question.
Hi, This is Eric going on for Zack I know, it's probably you didnt get a bunch of impact this quarter from the list for tests that just went into effect they've talked in the past about getting your vendors to absorb those headwinds those costs I just wanted to can talk about the progress youve, making there so far I guess from minus your impact or exposure to list for a versus four b.
Sure I would say lists for was effective in September foray with effective September overindex to wall art.
We did ask our suppliers to absorb that.
And we've been able to mitigate half through cost negotiation.
And and I would say I want to thank them for their partnership.
I would tell you that the rest of it we've just absorbed in our own model.
Weve continued to be focused on making sure. We've got the lowest price is out there in our marketplace.
So that for US is the most important thing our partners to been great partner for US We think about lives for B, which is effective December 15th is primarily seasonal in textiles, the seasonal will be for this coming year.
And and four.
For patio and garden.
You think about.
Those have already been purchased and they're rolling into our supply chain already.
And then and then obviously Halloween harvest and Christmas will be affected in the back half of the year, which we've already been working with our suppliers on knowing that that was coming thankfully, we actually had enough time to work with them to value engineer, our products and work on cost reductions to be able to not affect price.
We've continued to focus on price is set by the consumer and not by Tara.
And so we will continue to keep make sure that our prices are always low and we'll continue work with our product partners to mitigate that they've been great partners in factor, our sourcing and product development merchant teams bent were three and half weeks in Asia in Q3 working on these specific areas to make sure that we can deliver on the outcomes that we need for next year.
Since our no further questions left in the queue I will turn the call back over to Mr. LIBOR for any closing remarks.
Alright. Thank you again for joining us. This afternoon, we're excited about the opportunities in front of us and the long term growth ahead, and we look forward to talking to you in next coming days and weeks. Thanks, So much.
This concludes todays teleconference. You may now disconnect. Your lines at this time. Thank you for your participation and have a wonderful day.
Yes.