hhgregg’s Inc. (HGG)
F2Q09 Earnings Call
November 6, 2008; 09:00am ET
Jerry Throgmartin - Chairman, Chief Executive Officer
Dennis May - President, Chief Operating Officer
Don Van der Wiel - Chief Financial Officer
Andy Giesler - Director of Investor Relations
Rick Nelson - Stephens Inc.
Brian Nagel - UBS
Brad Thomas - KeyBanc
David Magee - SunTrust Robinson Humphrey
Peter Keith - Piper Jaffray
Michael Lasser - Barclays
Anthony Lebiedzinski - Sidoti & Co
Scott Tilghman - Hudson Square Research
Previous Statements by HGG
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Good morning everyone. With me today are Jerry Throgmartin, our Chairman and Chief Executive Officer; Dennis May, our President and Chief Operating Officer; and Don Van der Wiel, our Chief Financial Officer.
During today’s call, Jerry will make some opening comments; Dennis will provide highlights from our second quarter; and Don will conclude with a discussion of our liquidity and capital resources and an update of our earnings guidance. At the end of our prepared comments we will have until 10:00am Eastern Time to discuss any questions that you might have.
Let me take moment to reference the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. During this call, we will make forward-looking statements which are subject to significant risks and uncertainties, which include the future operating and financial performance of the company.
The company believes that the expectations reflected in its forward-looking statements are reasonable and can give no assurance that such expectations or any of its forward-looking statements will prove to be correct. We refer you to today’s earnings release, the MD&A section of our Form 10-Q and the “Risk Factors” section of our Form 10-K for additional discussions of these risks and uncertainties.
In addition, we will discuss net income and diluted earnings per share as adjusted to primarily exclude the impact of the loss from the early extinguishment of debt for the debt refinancing completed in connection with our initial public offering in July 2007, which are considered non-GAAP measures. We use these measures to highlight operating performance.
Please refer to our reconciliation of net income and diluted earnings per share as adjusted in the non-GAAP disclosure section on our Investor Relations website, which can be accessed through www.hhgregg.com.
With that, I would like to turn the call over to Jerry.
Thanks Andy and good morning everyone. Macro economic trends presented stiff headwinds during our second fiscal quarter. Turmoil in the financial and credit markets coupled with growing unemployment compounded a tough economic climate already buffeted by the sub-prime mortgage crisis and a downturn in existing home sales. These factors among others have shaken the roots of consumer confidence, resulting in a slowdown in consumer spending.
Similar to other retailers, our customer traffic has worsened since the middle of September. To be clear, this trend has not been steady. It has been marked by significant volatility, not unlike that exhibited in the financial markets.
Anticipating strong headwinds for our appliance business during the second quarter, we developed and executed a plan to deliver stable gross margins and effectively leverage our SG&A expense, excluding the impact of certain growth investments. However, we maintained an aggressive advertising posture to maximize store traffic in existing markets as well as ensure our differentiated model as well as it was well introduced in our new markets.
These tough economic times are a tremendous test of the resiliency of a business model. As evidenced by our SG&A leverage this quarter, we have a very resilient model. The more important and frequently overlooked key to our resiliency is our highly variable labor expense structure.
Sales commissions, delivery commissions, manager bonuses, and executive compensation are highly variable. In fact, the majority of our total compensation, in turn which comprises approximately one-half of our SG&A expense on a normalized annual basis, is variable or at risk. Therefore, when comparable store sales fall, our SG&A expenses maintain their relative leverage as a percentage of sales quite well. These tough economic times are also a test of management team’s acumen for balancing short-term working capital management but long-term growth opportunities.
During the second quarter, we closely managed our inventory levels and working capital while adding six new stores. As of September 30, 2008, we had reduced our average inventory per store to $1.5 million as compared to $1.8 million as of September 30, 2007, all while maintaining a stable gross margin compared with the comparable prior year period.
We were able to maintain store growth because our economic model is highly efficient. Over the past five fiscal years, our working capital has averaged 2.6% of net sales; our capital expenditures have averaged 2.2% of net sales; and our inventory has averaged seven inventory turns per year.
When coupled with our strong store level returns, the business has generated significant cash flow that has been used to fund our growth and de-lever our balance sheet. This year is not expected to be an exception. We currently expect our projected 20% unit growth for fiscal 2009 will be funded in its entirety from free cash flow. Stated another way, we do not expect to be drawn on our revolving credit facility as of our fiscal year end March 31, 2009.