You're Wrong to Worry About Restoration Hardware Based on Williams-Sonoma's Report

Restoration Hardware followed William-Sonoma's stock lower after the former reported disappointing earnings; but should the two be viewed as so connected?

Aug 29, 2014 at 3:28PM

Williams-Sonoma, Inc (NYSE:WSM) is experiencing a bump in its otherwise very lucrative road, as the specialty retailer's outlook has created some concern amid weakness in key segments of its business. Nonetheless, while investors typically group companies together -- in this case, Williams-Sonoma with Restoration Hardware (NYSE:RH) -- one thing should be known: Williams-Sonoma's short-term problems are hardly a forecast for what to expect with thriving home-improvement retailer Restoration Hardware.

What is Williams-Sonoma?
Williams-Sonoma is a large home-furnishings retailer that operates in-store and through e-commerce, nearly half-and-half. The company splits its business into two segments, direct-to-consumer and retail, in which each segment includes the company's seven different concepts. The company's concepts are popular among middle- to upper-class consumers, as each of its seven concepts focus on quality. But like so many other retailers today, discounting has broadened its appeal to new consumers.

The company has seen its stock price increase 245% during the last five years, but on Thursday its stock tumbled nearly 12% after its second-quarter revenue growth decelerated to 5.9% from nearly 10% in the first quarter, and many of its top concepts, like Pottery Barn and Williams-Sonoma, saw comparable sales growth cut in half. Furthermore, the company's outlook was conservative, which investors dislike for a stock that's had such a remarkable run.

Where's the problem?
While Williams-Sonoma does not report detailed financial information for any of its concepts aside from comparable-store sales, the company's PBTeen concept saw noticeable weakness. Specifically, PBTeen had seen double-digit comparable-sales growth in previous quarters, including 12% during the first quarter, but then fell to negative 1% during the second quarter.

PBTeen was launched in 2003 and offers, as the company says, "a complete line of furniture and accessories for teen bedrooms, study and lounge spaces, and college dorm rooms."

On the conference call, Chief Financial Officer Julie Whalen said that PBTeen was a significant piece of comp deceleration, and that issues including a fire in a Vietnam factory destroying inventory caused significant delays for the concept.  In other words, many of the company's concepts experienced hardships, many of which were created by discounting, but PBTeen was a major contributor to the disappointing performance.

Not like Restoration Hardware
With that said, fellow home-improvement retailer Restoration Hardware saw its stock decline after Williams-Sonoma's poor performance, falling more than 3% on Thursday. While both companies operate in the same industry, generate a significant amount of their business directly from consumers, and use catalogs as a major outlet for their businesses, the comparisons pretty much end there.

For example, while Williams-Sonoma's consumer appeal is questionable, at best, based on economic class, Restoration Hardware is undoubtedly a luxury retailer, and has attracted customers at an alarming rate, allowing for comparable sales growth of 57% during the last two years. Furthermore, while Williams-Sonoma is a mature company with nearly 600 stores, many of which are located in malls or shopping centers, Restoration Hardware has only 70, and has shied away from smaller stores in crowded shopping centers that have declining traffic in favor of enormous galleries.

Last year, Restoration Hardware opened a newly designed 40,000-square-foot gallery in the old New England Museum of Natural History in Boston. Then, in June, the company renovated its New York gallery, making it three times larger, with 30,000 square feet. Now, Restoration Hardware has its sights set on new bigger and better stores.

In the past, Restoration Hardware was renovating existing stores, or locations, keeping its store count around 70 -- the same for the better part of two years. However, earlier this year, the company announced an enormous expansion program, including plans to open new large galleries in Greenwich, Los Angeles, and Atlanta, three areas that aren't short of luxury shoppers. In addition, the company announced plans to build another 25 next-generation Full Line Design Galleries.

Foolish thoughts
In retrospect, there might be some basic similarities between Williams-Sonoma and Restoration Hardware, but the two are at different ends of the business spectrum. Restoration Hardware is still small, and is at the beginning stages of an expansion program, along with quickly becoming one of the hottest stores among luxury consumers, as evidenced by its growth.

Restoration Hardware has a completely different product line, and products that are significantly more expensive. As a result, the fundamental connection between the two companies is absent. Thus, it's hard to find a reason why Restoration Hardware traded lower after Williams-Sonoma's earnings. But because it did, there's a good chance it will turn out to be a period of opportunity for investors as the company expands and grows rapidly, showing no signs of lost fundamental momentum, unlike Williams-Sonoma.

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Brian Nichols owns shares of Restoration Hardware. The Motley Fool recommends Williams-Sonoma. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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