Grocery Outlet Holding Corp. (NASDAQ:GO) Q1 2024 Earnings Call Transcript May 7, 2024
Grocery Outlet Holding Corp. misses on earnings expectations. Reported EPS is $-0.0103 EPS, expectations were $0.18. Grocery Outlet Holding Corp. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Greetings, and welcome to the Grocery Outlet First Quarter 2024 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Christine Chen, VP of Investor Relations. Thank you. You may begin.
Christine Chen: Good afternoon and welcome to Grocery Outlet call to discuss financial results for the first quarter for the period ending March 30, 2024. Speaking from management on today’s call will be RJ Sheedy, President and Chief Executive Officer; and Lindsay Gray, Interim Chief Financial Officer and SVP of Accounting. Following prepared remarks from RJ and Lindsay, we will open the call for questions. Please note that this conference call is being webcast live and a recording will be available via telephone playback on the Investor Relations section of the Company’s website. Participants on this call may make forward-looking statements within the meaning of the federal securities laws. All statements that address future operating, financial, or business performance or the Company’s strategies or expectations are forward-looking statements.
These forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from these statements. Description of these factors can be found in this afternoon’s press release as well as the Company’s periodic reports filed with the SEC, all of which may be found on the Investor Relations section of the Company’s website or on sec.gov.
RJ Sheedy: Good afternoon, everyone, and thank you for joining us. We will be speaking to you today about our business results, progress, and ongoing impact of our systems transition, strategic growth initiatives, and outlook for 2024. Our sales and customer growth remained strong during the first quarter as we continued to deliver unbeatable value with an exciting treasure hunt experience. We’re delivering continued increases in traffic and sales and our business fundamentals are healthy. Our low first quarter margins were the result of both expected and unexpected impacts from our systems transition. We’ve made good progress since our last call resolving known issues and have ended the IO commission support program as planned.
However, our results were incrementally impacted by unforeseen systems transition costs that surfaced at the end of the quarter. We’re all very disappointed with our poor Q1 results and we are committed to getting these system impacts behind us very soon. Let me start with business performance and then comment on the systems transition. Our first quarter sales exceeded our expectations, increasing 7.4%, driven by a 3.9% increase in comparable store sales which accelerated throughout the quarter. Transaction count growth remains strong at 7%. Food inflation remains high and we continue to deliver a compelling assortment of high-quality WOW! items that are driving traffic and sales growth. We opened six new stores in the quarter and recent vintage performance continues to ramp well and in line with expectations.
First quarter gross margin of 29.3% was 110 basis points below our expectations and includes approximately 210 basis points of impact from our systems transition issues. In late August, we upgraded our product inventory, financial and reporting platforms. This transition has disrupted our business operationally and financially over the past eight months, as we discussed on our last two calls. In February, there were two large remaining system issues impacting profit. One was related to warehouse product expiry data and the other related to store-level reporting. We have since resolved both of these and the negative impact to first quarter gross margin came in as expected at about 100 basis points. We’ve reduced warehouse shrink close to normal levels with better data visibility and accurate store-level reporting enabled us to end the commission support program in March.
Lindsay will speak later about some residual expense from the commission support program that will extend through the end of the second quarter. While we are encouraged by this progress, we are disappointed that we did not foresee the additional 110 basis points of margin impact. This was quantified during catch-up, invoice processing, and final margin reconciliation at the end of the quarter. Delayed payment processes during Q1, combined with poor data visibility contributed to this mess versus guidance. We are disappointed by this as it is below our performance and forecasting standards. We have recently improved our payables process in the new system and have also increased our data visibility. Both of these improvements will enable us to manage the business back to historical margin levels and forecast with the same consistency as we did before.
We continue to work through remaining system functionality and performance enhancements under the leadership of our new COO, Ramesh Chikkala. He has already provided great expertise to help us accelerate progress since he joined in January. We also continue to bring on many additional new resources to increase our in-house SAP capabilities. This decreases our reliance on third-party consultants and builds our internal expertise to manage these systems going forward. The team continues to focus on optimizing systems for efficiencies, enhancing functionality, and improving visibility to operating data throughout the business. We are all frustrated by the size and duration of this disruption. It has been costly and our recent execution is well below our expectations.
But this disruption is also temporary and fixable and we are on the right path forward. We have made a tremendous amount of progress since last year and we look forward to completing the work and seeing business results revert back to more normal levels very soon. Let me turn now to our healthy business fundamentals and growth initiatives. Recent customer surveys show that our brand awareness continues to increase and our net promoter score is near an all-time high. Customers are spending more of their dollars with us and they indicate a high intent to spend even more in the next 12 months. Customers are very satisfied with product selection, reflecting healthy inventory and variety across all regions. Furthermore, we are seeing increases in satisfaction and spend across all customer segments, with particular strength among middle to higher-income customers.
The closeout buying environment remains very strong and we are seeing great availability of products across all categories. We are highly selective in our purchasing decisions as we buy only a fraction of the available product we are offered. And our growing size and scale make us an even better partner as we are able to take more variety and volume across a wider geography. We’ve also recently seen more opportunities as a result of $0.99 only entering Chapter 11 bankruptcy. We look forward to helping suppliers with surplus inventory challenges that were previously directed elsewhere. We recently held our annual supplier conference where we met with many of our key partners. Some attendees were longstanding relationships while others were newer to the GO family.
During this meeting, we engaged in strategic conversations to identify new opportunities and to form more integrated partnerships. New suppliers that attended the conference represent a group of over 600 new relationships that we established last year. And we are on track to add a similar number this year as well. We came away from the conference very encouraged with the opportunities in front of us and how we can strengthen partnerships further to grow our shared business. Transitioning now to our stores, operators have been doing a great job selecting localized assortments and executing value merchandising to represent the WOW! shopping experience to their customers. They and their teams also engage with shoppers in a personalized way that is truly unique to this model.
We see this resonating with strong results in customer count and sales growth. Year-to-date, operator income has increased, voluntary turnover levels remain low and interest in becoming an operator continues to be at an all-time high. Becoming an IO is a highly selective process as we accept less than 1% of interested candidates from our annual leads of over 30,000. Our selective recruiting process combined with a comprehensive training program continues to produce high-quality operators. We look forward to being together with all operators during our annual regional roadshow that starts this Friday and extends through all of next week. This is an opportunity to update them on business initiatives, hear their feedback and input, and strengthen the partnership that makes this business so unique.
Turning now to store growth. Our new stores are opening ahead of schedule and are performing to plan. We opened six stores during the first quarter, increasing our store count to 474 locations at quarter end. We’ve opened six additional new stores so far in the second quarter and are positioned well for openings in the second half of the year. In addition, we completed the United Grocery Outlet acquisition on April 1, which added 40 stores across six new states. Given the health of our store opening schedule, we now expect to add 58 to 62 new stores this year, including UGO. The midpoint of this range represents store growth of 13% over last year. We remain in a strong position to deliver 10% new store growth in 2025. Our 2025 pipeline is robust and our organic real estate activities are now focused on building the 2026 and 2027 pipeline.
We also continue to evaluate opportunistic real estate as a complement to our organic growth efforts. We successfully completed the UGO acquisition on April 1 and integration is proceeding well. Fully integrating the business and rebranding the stores will take time, but we are very encouraged by the progress so far. We have many levers to accelerate sales growth in partnership with the United Grocery Outlet team. Our near-term integration focus is on expanding the assortment, investing in store refreshes and new fixtures, and introducing some of our marketing programs to the Southeast region. We also look forward to leveraging the multi-temp distribution center to access more opportunistic product that can benefit both Grocery Outlet and UGO stores.
Next, we completed the rollout of our personalization app to all Grocery Outlet stores during the first quarter. The app allows us to communicate our weekly deals to customers and customize their treasure hunt experience. We are encouraged by the initial customer response with over 400,000 total downloads so far and Q1 sales penetration of 6%. Over time we believe the app will create increased customer loyalty through greater engagement which will help drive trip frequency and share of wallet. Finally, we’re very excited to be introducing our private label program to stores in the third quarter. As we have previously discussed, this is a program that we have been working on for the past year which we believe will become another key differentiator, providing even more value and excitement for our customers.
The first items to hit the stores will be in the beverage and grocery categories. These initial products will be followed by additional items in both of these categories as well as within the dairy, household, and baking categories. In addition to better value and inventory consistency for our customers, these initial products will deliver better margin for Grocery Outlet and IOs. We remain on track to introduce approximately 100 new private-label SKUs by the end of the year. In closing, I remain very confident in our business fundamentals and our ability to realize our long-term growth potential. Our differentiated model and value proposition continue to be the drivers of our strong sales growth. We’re a unique specialty discount retailer with a long history of consistently high top line sales growth.
And our future growth algorithm remains intact. Our mission is touching lives for the better and the positive impact that we have on people increases as our business grows. We are aggressively pursuing the tremendous white space in front of us of operating over 4,000 stores in the U.S. and we look forward to introducing our brand to new communities as we expand. I want to thank our amazing IOs for their partnership and for delivering outstanding service and value to our customers. Thanks also to the entire GO team for their dedication and perseverance which enable us to support our IO partners and customers. I also want to say thank you to all Grocery Outlet partners and shareholders for their support and patience as we have worked through the system’s transition.
This is a great business and we are committed to getting results back on track to achieve our bright expectations for future growth. And now I would like to introduce you to Lindsay Gray, Interim CFO and SVP of Accounting to discuss our financials.
Lindsay Gray: Thanks, RJ, and good afternoon, everyone. Our first quarter results reflect strong top line sales growth driven by a 7% increase in comp transactions. The integration of our new systems led to higher than anticipated costs, which impacted our margins leading to results below our expectations. Net sales increased 7.4% to $1.04 billion due to a 3.9% increase in comparable store sales. Comp transaction growth of 7% was partially offset by a 2.9% decline in our average basket. We opened six new stores during the quarter, ending with 474 locations. We remain pleased with the performance of new stores and store openings are tracking ahead of schedule. Our first quarter gross profit increased 1.1% to $303.9 million. Our gross margin rate of 29.3% was impacted by our system integration, which we estimate was approximately 210 basis points in the quarter, 110 basis points higher than we originally expected, as RJ previously discussed.
SG&A expense increased 13.3% to $303.4 million compared to the first quarter of 2023. This includes $12.4 million from commission support that we elected to provide as a result of our system upgrades. It also includes increased depreciation and amortization expense and higher store occupancy costs related to new store growth. Net interest expense decreased 46.3% to $3.2 million, driven by a reduction in net borrowings versus the prior year. We recognized a tax benefit of $1.6 million during the quarter, a result of pretax book loss combined with excess tax benefits related to the exercise of stock options. GAAP net loss for the first quarter was $1 million or $0.01 per share. Adjusted EBITDA was $39.4 million for the quarter and our adjusted EBITDA margin was 3.8% of sales.
Adjusted net income was $8.8 million for the quarter, or $0.09 per diluted share. Turning to our balance sheet, we ended the quarter with $66.9 million of cash. Inventory at the end of the quarter totaled $362.7 million. Total debt was $291 million at the end of the first quarter with net leverage less than one times adjusted EBITDA. Now on to guidance. Forecasting has been difficult during the system transition as we have not had good visibility to our normal business reporting and tools. Compounding this have been data integration issues and new processes that we and our operators are adapting to within new applications. Our guidance takes this into consideration as we complete final stages of our stabilization work. Our fiscal 2024 guidance continues to assume incremental sales of approximately $125 million, adjusted EBITDA of $7 million, and a modest benefit to adjusted EPS from the acquisition of UGO.
For the full year, we are now projecting comp sales growth in the range of 3.5% to 4.5%, up from 3% to 4%, to reflect better-than-expected first-quarter sales. We expect comp growth in the second quarter to be approximately 3.2%, which reflects a 100 basis points Easter shift out of Q2 into Q1. We now expect to add a total of 58 to 62 net new stores this year, up from 55 to 60. This includes the 40 newly acquired United Grocery Outlet stores, as well as 18 to 22 new Grocery Outlet stores. In total, we continue to project fiscal 2024 net sales of $4.30 billion to $4.35 billion. For the full fiscal year, we now project gross margin of approximately 30.5%. We expect gross margin for the second quarter of approximately 30.0%, which includes an estimated 100 basis point impact from the system’s transition.
This is due to residual expense from our commission support program, as we finish store physical inventory counts in the second quarter. We expect gross margins to increase sequentially in the back half of the year. For the full fiscal year, we now expect adjusted EBITDA to be in the range of $252 million to $260 million. We expect second-quarter adjusted EBITDA margin of approximately 5.4%, which also includes some residual SG&A expense from the end of the commission support program. For the year, we now expect D&A to grow in the mid-20s on a percentage basis, reflecting an updated forecast for the impact of store growth, the United Grocery Outlet acquisition, and infrastructure reinvestments. We expect stock-based compensation of approximately $34 million.
Net interest expense is anticipated to be approximately $21 million. We continue to forecast a normalized tax rate of 30%. We now expect average diluted shares outstanding of approximately $101 million, down from $102 million due to lower share count from share repurchases. We now expect CapEx, net of tenant allowances of approximately $175 million, reflecting higher new store growth and consistent investments in existing fleet upgrades, including anticipated UGO store capital improvements, as well as ongoing investments in technology, supply chain, and infrastructure. We now expect full-year adjusted EPS to be in the range of $0.89 to $0.95 per diluted share. In closing, I would like to take a moment to thank our incredible team of independent operators and employees for continuing their hard work and dedication to serving our customers.
Our underlying business remains strong and we are well-positioned for long-term growth. We will now open the call up to your questions. Operator?
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