Sears Hometown And Outlet Stores, Inc. (SHOS)

[Enterprising Investor]

Sears Hometown and Outlet Stores, Inc. Reports Fourth Quarter And Fiscal Year 2017 Results And Announces Annual Meeting Date (4/19/18)

HOFFMAN ESTATES, Ill., April 19, 2018 /PRNewswire/ -- Sears Hometown and Outlet Stores, Inc. ("SHO," "our," "we," or the "Company") (NASDAQ: SHOS) today reported results for its fiscal year and quarter ended February 3, 2018.

Overview of Results

Results for the fourth fiscal quarter of 2017 compared to the fourth fiscal quarter of 2016 included:

Net loss decreased $12.6 million to $33.2 million from $45.8 million

Loss per share decreased $0.56 to $1.46 loss per share from $2.02 loss per share

Comparable store sales decreased 12.4%

Adjusted EBITDA decreased $3.4 million to $12.4 million loss from $9.0 million loss

Results for the 2017 fiscal year compared to the 2016 fiscal year included:

Net loss decreased $36.8 million to $95.1 million from $131.9 million

Loss per share decreased $1.62 to $4.19 loss per share from $5.81 loss per share

Comparable store sales decreased 8.4%

Adjusted EBITDA increased $4.0 million to $14.5 million loss from $18.5 million loss

Our Annual Report on Form 10-K for our fiscal year ended February 3, 2018, which we have filed with the U.S Securities and Exchange Commission today, includes, among other financial statements, our Consolidated Statement of Operations for our fiscal year ended February 3, 2018, our Consolidated Balance Sheet at February 3, 2018, our Consolidated Statement of Stockholders' Equity for our fiscal year ended February 3, 2018, the Notes to the Consolidated Financial Statements, and the Report of Independent Registered Public Accounting Firm.

Our fiscal years end on the Saturday nearest to the last day of January. The fourth quarter and fiscal year 2017 included an extra week (the "53rd week") compared to our 2016 fiscal year. The 53rd week is not included in comparable store sales calculations.

Will Powell, Chief Executive Officer and President, said, "Our overall sales and adjusted EBITDA performance in the fourth quarter were significantly below our expectations, particularly in light of the improved adjusted EBITDA results we achieved in the second and third quarters of 2017. We view several of the operating challenges we experienced in the fourth quarter as predominantly short-term, particularly merchandise availability issues and reduced year-over-year television advertising of key brands, and believe that they should not have the same pronounced impact on the business during the first quarter of 2018. Through the first two months of our 2018 first fiscal quarter (the nine weeks ended April 7, 2018), we have seen business results improve and estimate performance for the nine-week period to include improvements in year-over-year adjusted EBITDA in a range of $6.0 to $6.5 million. We cannot predict whether business results will continue to improve in fiscal April 2018 or whether for the month adjusted EBITDA will be the same, better, or worse than fiscal April 2017 adjusted EBITDA.

"In the quarter, we continued to make measurable progress on our strategic initiatives that are strengthening the Company's long-term outlook and should improve profitability. These include growing our lease-to-own sales, expanding our on-line capabilities, developing our Commercial Sales business, expanding our direct sourcing agreements with vendors, optimizing our store portfolio, and completing our IT systems transformation project (which we expect will enhance our business capabilities and reduce our reliance on Sears Holdings Corporation for merchandise and services)."

Segment Performance Highlights

Hometown segment comparable store sales for the quarter declined 10.5%. We believe the Hometown sales performance was adversely impacted by a significant decline in year-over-year television advertising during the holiday season featuring the SEARS®, KENMORE®, and CRAFTSMAN® brands, which reduced consumer awareness and draw. To offset this decline in television and other forms of advertising for these brands, we have launched a fully-integrated print, digital and television marketing campaign in March 2018 to highlight the unique position of the Hometown Stores and our strengths in the home appliances category. This includes the Company's first ever national television commercials.

The home appliances category performed significantly better in the fourth quarter of 2017 than the comparable store sales average for the Hometown segment and better than the year-to-date home appliances comparable store sales average performance through the first three quarters of 2017. The home appliances gross profit rate in the fourth quarter was negatively impacted by increased promotional depth and duration, particularly during the holiday-season promotional events in November and December.

Other contributors to the comparable store sales decline for the quarter included the tools and lawn & garden categories. The tools category was significantly impacted by merchandise availability in the quarter in key Craftsman tool lines such as mechanics tool sets, portable power tools, and tool storage. We expect these merchandise-availability issues to continue for a significant part of the first quarter of 2018, but we expect gradual recovery as we move some tool sourcing to direct purchase arrangements with vendors of alternative national brands and through the actions our supplier of Craftsman tools has taken to improve availability. Of note, the tools business historically has a lower overall portion of total Hometown sales in the first quarter compared to the fourth quarter due to the holiday season. Therefore, the impact of this availability issue should be less significant during the first quarter of 2018.

The lawn & garden comparable store sales decline was primarily driven by lack of snow removal sales, which were impacted by year-over-year weather changes in our key snow-related sales markets. In the fourth quarter of 2017 the snow removal line represented 79% of the comparable store sales decline in the lawn & garden category.

The Outlet segment's comparable store sales declined 16.3% for the fourth quarter of 2017. This decline was driven by our decision to not repeat last year's unproductive home appliances promotions, as well as the continuation of the new as-is appliance pricing strategy in Outlet we launched for this business late in the second quarter of 2017. The significant declines in comparable store sales in the Outlet appliance business were more than offset by a 12% increase in the average appliance ticket and better product costing. As a result, gross margin rates and segment profitability improved significantly, consistent with trends seen in the second and third quarters.

The Outlet segment had positive comparable store sales performance in furniture, mattresses, floorcare, and sporting goods. We continue to be encouraged by the sales growth from our new Ashley Furniture program and believe this category has significant long-term growth potential for the business.

Progress on Initiatives

Lease-to-Own/Rent-to Own: The Lease-to-Own business continued its rapid growth trajectory. Year-over-year leasing comparable store sales grew 89% in the fourth quarter of 2017 and were up 106% in fiscal 2017. Our leasing share of the total business more than doubled versus the prior year, growing to 6.6% share in the fourth quarter. Additionally, third-party commissions we received on leasing sales continued to be a meaningful contributor to our margin improvement.

On-line Capabilities: Sales through our Hometown segment websites grew rapidly in the fourth quarter, driven by higher traffic on the websites and amended agreements negotiated with Sears Holdings. The fourth quarter of 2017 was the first quarter we had a fully comparable quarterly year-over-year result for the Hometown sites. Our Hometown websites launched in November 2016 after amended agreements with Sears Holdings in May 2016 granted us contractual rights to do so. Hometown on-line sales for the fourth quarter of 2017 were up 290% compared to the fourth quarter of 2016. As a percentage of our total sales, the Hometown websites grew 58% in the fourth quarter compared to the third quarter of 2017, highlighting the progress we are making in improving the customer experience on-line through ease of use enhancements and compelling promotional offers. We expect Hometown on-line sales will become an increasingly more meaningful contributor to our business in 2018, as in December 2017 we completed a significant expansion of the zip codes we are able to service through our Hometown websites based on an amended agreement we negotiated with Sears Holdings.

Commercial Sales: We continued to make progress on the development of our commercial sales program, leveraging our ability to provide customized solutions for commercial customers in rural markets which we believe are under-served by competitors. Commercial sales grew 45.4% in the fourth quarter of 2017 compared to the fourth quarter of 2016. For the full year 2017, commercial sales grew 22.9%. More impressively, commercial sales margins, net of commissions paid, increased 52.1% for the full year 2017 as a result of a more disciplined commercial pricing process. Dealer and franchisee adoption of the program also continued to grow, with 52% of stores participating in 2017 versus 42% in 2016.

Merchandise Sourcing Strategic Relationships: We continued to leverage new systems functionality, enabled by our investments in the IT systems transformation initiative, to enhance our merchandise sourcing and inventory management capabilities. As previously stated, we have established direct purchasing relationships with several of our key strategic product manufacturers which hold significant market share in the product categories we compete in across the industry. In the fourth quarter of 2017, we continued to expand on our direct sourcing capability and increased the flow of direct sourced product through our logistics network for fulfillment of customer orders and replenishment of store stock. In addition to prior supply agreements that we have noted, we entered into a direct-purchase agreement with Stanley Black & Decker and continued efforts to secure additional direct-purchase agreements with other key merchandise and non-merchandise vendors. We also took steps toward launching a new special order process that will give our customers access to an expanded assortment of products from leading brands in the home appliances category.

Store Portfolio: In fiscal 2017 we closed 127 stores that in aggregate had significant negative EBITDA and were consuming over $35 million of inventory working capital. As part of our store portfolio optimization plan, we negotiated $7.2 million of early lease terminations for 26 previously closed properties in fiscal 2017, which reduced our balance sheet liability for the leases by $13.3 million, as well as eliminated expense obligations for utilities, taxes, maintenance, and related items through the original lease termination date.

IT Infrastructure and Operational Separation: Through the end of the fourth quarter of 2017, we completed a large portion of our IT transformation initiative and put into production new capabilities such as Hometown transactional websites, human resources management, payroll and owner commissions management, accounts payable, accounts receivable, and merchandise procurement and fulfillment. At the end of fiscal 2017, software development related to the remaining Enterprise Resource Planning and Point of Sale components was substantially complete. Testing of the remaining systems functionality, which has not been put into production, is well under way. In the first quarter of 2018, we expect to complete our testing efforts and finalize our plan to deploy a small-scale pilot of all systems across a limited number of store locations. We expect to finalize our plans for full system implementation across the enterprise after we assess the learnings and issues experienced during our pilot phase.

Fourth Quarter Results

Net sales in the fourth quarter of 2017 decreased $93.1 million, or 19.0%, to $395.8 million from the fourth quarter of 2016. This decrease was driven primarily by the impact of closed stores (net of new store openings) and a 12.4% decrease in comparable store sales. This decline was partially offset by sales of $23.4 million in the 53rd week.

Gross margin was $75.8 million, or 19.1% of net sales, in the fourth quarter of 2017 compared to $82.4 million, or 16.9% of net sales, in the fourth quarter of 2016. Hometown and Outlet gross margins increased by 210 and 290 basis points, respectively, in the fourth quarter of 2017 compared to the fourth quarter of 2016. The increase in gross margin rate was primarily due to a reduction in accelerated closing stores costs ($1.5 million in the fourth quarter of 2017 compared to $14.6 million in the fourth quarter of 2016) and higher margins on merchandise sales. These increases were partially offset by higher occupancy costs as a percentage of sales resulting from a greater mix of Company operated stores compared to the fourth quarter of 2016. The total impact of accelerated store closing costs and occupancy costs reduced gross margin rate 487 basis points in the fourth quarter of 2017 compared to a reduction of 684 basis points in the fourth quarter of 2016.

Selling and administrative expenses decreased to $100.4 million, or 25.4% of net sales, in the fourth quarter of 2017 from $112.8 million, or 23.1% of net sales, in the prior-year comparable quarter. The decrease was primarily due to: (1) lower commissions paid to dealers and franchisees on lower sales volume and lower store count, (2) lower expenses due to stores closed (net of new store openings), (3) lower marketing costs, (4) lower support costs paid to Sears Holdings, and (5) lower payroll and benefits expense. These decreases were partially offset by expenses of $4.0 million associated with the 53rd week, higher IT Transformation expense ($8.9 million in the fourth quarter of 2017 compared to $6.0 million in the fourth quarter of 2016), and $1.7 million of higher provisions in the fourth quarter of 2017 related to franchisee notes receivables. IT transformation expenses and provisions related to franchisee notes receivables increased selling and administrative expenses as a percent of sales by 262 basis points in the fourth quarter of 2017 compared to an increase of 119 basis points in the fourth quarter of 2016.

We recorded operating losses of $31.1 million and $43.5 million in the fourth quarters of 2017 and 2016, respectively. The reduction in operating loss was primarily due to lower store closing charges, a decrease in selling and administrative expenses, lower impairment charges ($3.4 million in the fourth quarter of 2017 compared to $9.4 million in the fourth quarter of 2016), and a $2.3 million favorable impact from the 53rd week partially offset by lower volume.

Fourth Quarter Net Loss

We recorded a net loss of $33.2 million for the fourth quarter of 2017 compared to a net loss of $45.8 million for the prior-year comparable quarter. The decrease in net loss was primarily attributable to a lower operating loss. Income tax benefit was $0.1 million, or 0.4%, in the fourth quarter of 2017, compared to expense of $0.8 million, or (1.9)% in the fourth quarter of 2016.

Full Year Results

Net sales for the 2017 fiscal year decreased $350.1 million, or 16.9%, to $1.7 billion from $2.1 billion in the 2016 fiscal year. This decrease was driven primarily by the impact of closed stores (net of new store openings) and an 8.4% decrease in comparable store sales partially offset by the impact of sales in the 53rd week of 2017.
Comparable store sales were down 8.1% and 9.1% in Hometown and Outlet, respectively. The home appliances and lawn & garden categories both outperformed the average comparable store sales while tools underperformed to the average.

Gross margin was $348.5 million, or 20.3% of net sales, for the full year 2017 compared to $408.7 million, or 19.7% of net sales, for the full year 2016. The increase in gross margin rate was primarily driven by higher margin on merchandise sales and lower shrink partially offset by higher occupancy costs as a percentage of sales resulting from a greater mix of Company operated stores compared to the prior year. Accelerated closing stores costs were $14.2 million for the full year 2017 compared to $16.1 million for the full year 2016. The total impact of occupancy costs, accelerated closing store costs, and shrink reduced gross margin rate 496 basis points for the full year 2017 compared to a 490 basis-point reduction for the full year 2016.
Selling and administrative expenses decreased to $419.6 million, or 24.4% of net sales, for the full year 2017 from $458.8 million, or 22.2% of net sales, for the full year 2016. The decrease was primarily due to: (1) lower expenses being recorded for stores closed (net of new store openings), (2) lower commissions paid to dealers and franchisees on lower sales volume and lower store count, (3) lower marketing costs, and (4) lower support costs paid to Sears Holdings. These decreases were partially offset by (1) higher IT Transformation costs ($34.4 million for the full year 2017 compared to $15.0 million for the full year 2016), (2) expenses associated with the 53rd week, (3) $8.1 million higher provisions for the full year 2017 related to franchisee notes receivables, and (4) higher payroll and benefits due to a higher mix of Company-operated stores. On a rate-to-sales basis, IT transformation costs and provisions for franchisee note receivables increased selling and administrative expenses 243 basis points for 2017 compared to 69 basis points for 2016.

During the second quarter of 2016, we completed the sale of an owned property located in San Leandro, California. Net proceeds from the sale were $26.1 million, and we recorded a gain on the sale of $25.3 million. We did not sell any owned property in fiscal 2017.

We recorded operating losses of $87.4 million and $47.7 million for the full years 2017 and 2016, respectively. The increase in operating loss was primarily due to the $25.3 million gain on sale of assets in 2016 and lower volume. These factors were partially offset by lower selling and administrative expense, a higher gross margin rate, lower impairment charges, and a $2.3 million favorable impact from the 53rd week.

Full Year Net Loss

We recorded a net loss of $95.1 million for the full year 2017 compared to a net loss of $131.9 million for the full year 2016. The decrease in our net loss was primarily attributable to a decrease in income tax expense partially offset by a higher operating loss and higher interest expense. Income tax expense was $0.5 million for the full year 2017 compared to $81.5 million for the full year 2016, comprised primarily of $100.1 million non-cash valuation allowance on our deferred tax assets recorded in 2016.

Financial Position

We had cash and cash equivalents of $10.4 million as of February 3, 2018 and $14.1 million as of January 28, 2017. Unused borrowing capacity as of February 3, 2018 under our Amended and Restated Credit Agreement, dated November 1, 2016, with Bank of America, N.A., as agent, and the lenders party thereto (the "Senior ABL Facility") was $24.9 million with $137.9 million drawn and $7.2 million of letters of credit outstanding. For the full year 2017 we funded ongoing operations with cash provided by financing activities. Our primary needs for liquidity are to fund inventory purchases, our IT transformation, capital expenditures and for general corporate purposes.

On February 16, 2018, the Company entered into a $40 million Term Loan Credit Agreement with Gordon Brothers Finance Company (the "Term Loan Agreement"). The Term Loan Agreement is secured by a second lien security interest (subordinate only to the liens securing the Senior ABL Facility) on substantially all the assets of the Company and its subsidiaries (the same assets as the assets specified with respect to the Senior ABL Facility). The Term Loan Agreement will mature on the earliest of (1) the maturity date specified in the Senior ABL Facility, (2) February 16, 2023, and (3) acceleration of the maturity date following an event of default in accordance with the Term Loan Agreement. The interest rate applicable to the $40 million loan under the Term Loan Agreement is a fluctuating rate of interest (payable monthly) equal to the greater of (1) three-month LIBOR plus 8.5% per annum and (2) a minimum interest rate of 9.5% per annum. The proceeds of the $40 million loan under the Term Loan Agreement were used primarily to reduce borrowings under the Senior ABL Facility.

Total merchandise inventories were $336.3 million at February 3, 2018 and $373.8 million at January 29, 2017. Merchandise inventories declined $13.9 million and $23.6 million in Hometown and Outlet, respectively, primarily due to store closures.

Comparable Store Sales

Comparable store sales include applicable merchandise sales for all stores operating for a period of at least 12 full months, including remodeled and expanded stores but excluding store relocations and stores that have undergone format changes. Comparable store sales include online transactions fulfilled and recorded by SHO and give effect to the change in the unshipped sales reserves recorded at the end of each reporting period.

Adjusted EBITDA

In addition to our net loss determined in accordance with generally accepted accounting principles ("GAAP"), for purposes of evaluating operating performance we also use adjusted earnings before interest, taxes, depreciation and amortization, or "adjusted EBITDA," which excludes certain significant items as set forth and discussed below. Our management uses adjusted EBITDA, among other factors, for evaluating the operating performance of our business for comparable periods. Adjusted EBITDA should not be used by investors or other third parties as the sole basis for formulating investment decisions as it excludes a number of important cash and non-cash recurring items. Adjusted EBITDA should not be considered as a substitute for GAAP measurements.

While adjusted EBITDA is a non-GAAP measurement, we believe it is an important indicator of operating performance for investors because:

EBITDA excludes the effects of financing and investing activities by eliminating the effects of interest and depreciation costs; and

Other significant items, while periodically affecting our results, may vary significantly from period to period and may have a disproportionate effect in a given period, which affects comparability of results. These items may also include cash charges such as severance and executive transition costs and IT transformation investments that make it difficult for investors to assess the Company's core operating performance.

Since the second quarter of 2015 the Company has excluded initial franchise revenues and provisions for franchise note losses, net of recoveries from adjusted EBITDA. This change is based on (1) the Company's decision to suspend its franchising of additional stores except to existing Company franchisees and (2) to better align adjusted EBITDA for purposes of incentive compensation.

The Company has undertaken an initiative on a limited number of occasions to accelerate the closing of under-performing locations in an effort to improve profitability and make the most productive use of capital. Under-performing locations are typically closed during the normal course of business at the termination of a lease or the expiration of a franchise or dealer agreement and, as a result, do not have significant future lease, severance, or other non-recurring store-closing costs. When we conduct a significant number of store closings or we close stores prior to lease termination or expiration (together, "accelerated store closings"), the Company excludes the associated costs of the accelerated store closings from adjusted EBITDA. In the fourth quarter and full year 2017, we excluded $1.5 million and $14.4 million of costs associated with accelerated store closings, respectively.

[tables deleted]

About Sears Hometown and Outlet Stores, Inc.

Sears Hometown and Outlet Stores, Inc. is a national retailer primarily focused on selling home appliances, hardware, tools and lawn and garden equipment. Our Hometown stores (which includes our Hometown Stores, our Hardware Stores, and our Home Appliance Showrooms) are designed to provide our customers with in-store and online access to a wide selection of national brands of home appliances, tools, lawn and garden equipment, sporting goods and household goods, depending on the particular format. More than 90% of our Hometown Stores are operated by independent local dealers or franchisees. Our Outlet stores are designed to provide our customers with in-store and online access to new, one-of-a-kind, out-of-carton, discontinued, reconditioned, overstocked, and scratched and dented products across a broad assortment of merchandise categories, including home appliances, lawn and garden equipment, apparel, mattresses, sporting goods and tools at prices that are significantly lower than list prices. As of February 3, 2018, we or our independent dealers and independent franchisees operated a total of 900 stores across all 50 states as well as in Puerto Rico and Bermuda. Our principal executive offices are located at 5500 Trillium Boulevard, Suite 501, Hoffman Estates, Illinois 60192 and our telephone number is [phone].

https://www.prnewswire.com/news-releases/sears-hometown-and-outlet-stores-inc-reports-fourth-quarter-and-fiscal-year-2017-results-and-announces-annual-meeting-date-300632566.html