Barnes & Noble (BKS) Q4 2018 Earnings Conference Call Transcript

Barnes & Noble (BKS)
Q4 2018 Earnings Conference Call
Jun. 21, 2018 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

[Operator instructions] Ladies and gentlemen, thank you for standing by. Good day and welcome to this Barnes & Noble fiscal 2018 year-end earnings conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Vice President of Investor Relations Mr. Andy Milevoj. Please go ahead, sir.

Andy Milevoj -- Vice President, Investor Relations

Good morning and thank you for joining us on our fiscal 2018 fourth-quarter and year-end earnings conference call. With us today are Demos Parneros, Allen Lindstrom, and other members of our senior management team. Before we begin, I'd like to remind you that this call is covered by the safe harbor disclaimer contained in our press release and public documents and is the property of Barnes & Noble. It is not for rebroadcast or use by any other party without the prior written consent of Barnes & Noble.

During this call, we will issue forward-looking statements which are predictions, projections or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties including those contained in our press release. The company disclaims any obligation to update any forward-looking statements that may be discussed during this call. And now, I'll turn the call over to Demos.

Demos Parneros -- Chief Executive Officer

Thanks, Andy, and good morning, everyone. I'll begin with a brief review of our results and then turn to our fiscal 2019 plans and outlook. Fiscal 2018 proved to be a challenging year for Barnes & Noble as retail dynamics continue to present headwinds for our business. That said, the actions we've undertaken regarding our strategic turnaround plan have laid the groundwork for the future and we are beginning to see modest improvement in some areas.

Our comp sales declined 5.4% in fiscal '18, and we generated EBITDA of $145 million, excluding nonrecurring charges. To put these results in context, you'll recall that in fiscal '18, we created an aggressive long-term strategic turnaround plan, which we have already begun to execute. Turnaround plans take time; and while our performance has been somewhat disappointing, we began to make steady progress in fiscal '18. Building on this foundation, we expect to see results in fiscal '19, improving our EBITDA to a range of $175 million to $200 million and to provide for further improvement in subsequent years.

But before we turn to fiscal '19 and outlook, I'd like to recap steps that we took this past year to improve our results. In fiscal 2018, we began to implement initiatives to stem the sales decline and also to reduce costs. These initiatives include increasing customer engagement to improve conversion, clearing our over-assortment of less productive merchandise, and increasing our omnichannel capabilities. To oversee and lead these initiatives, we also strengthened our senior leadership team with several key hires.

As a result, in fiscal 2018, we saw our store conversion rates improve. We grew our membership program by a half-million members, our cafe business comps are positive in the back half of the year. We developed a pipeline of real estate opportunities to get us to a net positive store count in fiscal '19. We enhanced our omnichannel capabilities through the launch of our ship from store program; and last, we implemented a $40 million cost-reduction program.

Now turning to fiscal '19, we expect our comp-sales trends to improve over the prior year. To improve our sales trends, we're focused on enhancing the customer experience, better curation, increasing the value for our members and also investing in marketing to drive traffic. We're also innovating for the future through newly designed stores, focusing on existing high-potential businesses and developing a pipeline of new businesses. Let's take a moment to review some of these initiatives in more detail.

To enhance the customer experience and to reassert our leadership as a bookseller, we're creating new programs such as the Barnes & Noble Book Club, which debuted in May. I'm really excited about this program, which builds on Barnes & Nobles' unique heritage to bring together and engage readers in a national conversation about books. This is core to what we do at Barnes & Noble, connecting readers and communities through engaging content and programs. We're featuring a new title every quarter and partnering with authors and publishers to create exclusive content.

Our inaugural selection was Meg Wolitzer's The Female Persuasion and we have thousands of customers participate in our book club discussion. Our chief marketing officer, Tim Mantel, joined the company earlier this year and has been focused on opportunities to improve the customer experience and to drive the business. Our goal is to be relevant during key holidays and to be a destination for unique and thoughtful gifts. A great example of this is our Exclusive and Signed Editions program.

This program resonates very well with our customers during the Black Friday holiday period, and we plan to grow sales by extending this program to other holidays, such as Mother's Day, Father's Day, when customers are looking for a great one-of-a-kind gift. Additionally, we see opportunities to expand our toys and games business and are revamping our gift business. Over the course of the past year, we established a business development team that is responsible for creating a pipeline of fresh new concepts to engage our customers. This team is responsible for the introduction of some new back-to-school products that we'll be selling in our stores in July.

This product including pens, notebooks, backpacks and water bottles is very complementary to our summer reading program. As I mentioned earlier, we've made significant strides in increasing our membership count by testing number of value offers tied to the program. Based on our learnings, we will enhance the value of the membership program and increased engagement to yield further growth through new sign-ups and reduced attrition. Another way we plan to rebuild sales is through enhancements to our real estate portfolio.

We're excited to open several new prototype stores this year, which will feature a completely new design. We see a lot of opportunity for the smaller and more flexible prototype and as a result will be net store positive this fiscal year. Another key pillar in our strategic plan is to improve profitability. In fiscal '18, we transitioned to our new, more efficient store labor model that resulted in a $40 million cost reduction, and we're continuing to review costs throughout the organization including indirect procurement, supply chain efficiencies and we also plan to reduce costs further in fiscal '19.

Over the past year, we've put together a great team and the key hires that we've made have been complementing the existing management team very well. Overall, we've made good progress in fiscal '18, but there is still more work ahead of us to turn the business around. The entire team is energized to tackle the challenges that we're facing and I believe that we are well-positioned to continue to improve over the coming years. Now, I'll turn it over to Al, who will review the financials.

Allen W. Lindstrom -- Chief Financial Officer

This morning, we released our fourth-quarter and full-year financial results for fiscal 2018, which ended on April 28. Comparisons are to the prior-year periods, unless otherwise noted. Consolidated sales were $786 million for the quarter and $3.7 billion for the year. Retail sales decreased 3.9% to $765 million for the fourth quarter and 5.5% to $3.6 billion for the full year.

Comps decreased 4.1% during the fourth quarter on lower store traffic. Book comps decreased 3.4% for the quarter, continuing to outpace the balance of the store. Non-book comps decreased 4.5% for the quarter. Our gift, music, and DVD businesses all experienced double-digit declines, partially offset by favorable trends in our café and toys and games categories.

Overall, members continue to outperform non-members. Comparable store sales decreased 5.4% for the full fiscal year on lower traffic. Online sales declined 9.6% for the full year on lower conversion rates. Fourth-quarter consolidated gross margins decreased $13.5 million, primarily due to the lower sales volume.

Rates declined 40 basis points for the quarter and 80 basis points for the full year, both due primarily to occupancy deleverage and higher markdowns to clear up non-returnable merchandise. SG&A expenses declined $8 million for the quarter and $41 million for the full year. Excluding non-recurring and unusual items, the company reduced its SG&A cost by $15 million for the fourth quarter and $52 million for the full fiscal year. Fourth-quarter operating losses were $25.5 million, including $7.7 million of non-recurring or unusual items, primarily severance.

Excluding these items, adjusted fourth-quarter EBITDA was $6.7 million. The full-year operating loss was $128 million, inclusive of $167 million of nonrecurring or unusual items. The $176 million is comprised of four items: $136 million of non-cash asset impairment charges, mostly goodwill; $16 million of nonrecurring severance costs primarily resulting from the implementation of the new store labor model; $5 million of strategic consulting as we transform our business; and $10 million of markdowns declared non-returnable merchandise. Excluding these items, fiscal 2018 adjusted EBITDA was $145 million, within our previously issued guidance range.

NOOK turned its first ever full-year profit, generating $3.5 million of EBITDA. Sales declines were offset by continued cost rationalization. The full-year effective tax rate was 8.9% inclusive of valuation allowances established against certain deferred-tax assets. The consolidated fourth-quarter net loss was $21.1 million, or $0.29 a share, compared to a loss of $13.4 million, or $0.19 a share, in the prior year.

The consolidated full-year net loss was $125.5 million, or $1.73 a share, compared to net earnings of $22 million, or $0.30 a share, in the prior year. In fiscal '18, we opened three new stores while closing six, ending the year with 630 stores. Turning to our balance sheet, the company ended the fiscal year with $158.7 million of debt under its $750 million credit facility. The increase in debt from third-quarter levels is consistent with historical trends and reflective of the seasonality of our business.

Debt levels are also subject to the timing of product payments and returns. During fiscal '18, the company returned $44 million in cash to its shareholders through board-approved dividend policy. On June 13, the board declared a quarterly cash dividend of $0.15 a share, payable on July 27 to stockholders of record at the close of business on July 6. Capital expenditures were $88 million for the fiscal year, below prior-year levels.

Looking ahead, the company projects fiscal 2019 EBITDA to be in a range of $175 million to $200 million, excluding unusual or nonrecurring items. EBITDA growth is based upon improved sales trends, higher margins and reduced expenses, all resulting from the implementation of strategic initiatives. We expect to continue to reduce expenses by realizing the annual benefit of initiatives implemented late last year such as our new store labor model and indirect procurement, coupled with continued cost synergies. As noted earlier, expenses were reduced by over $50 million last year and the company's projections include similar levels of cost reductions for fiscal '19.

The company remains committed to reducing costs via rightsizing its structure, increasing store and supply chain productivity, streamlining operations and eliminating non-productive spend. First-quarter EBITDA is projected to slightly increase over last year's levels on lower expenses. While the company has initiated a strategic turnaround plan, achieving its goals requires a significant multi-year transformation. We expect to invest approximately $100 million in capital expenditures next year.

The increase over historical levels is due to additional new stores, cafe enhancements, and merchandising initiatives. With that, we will open the call for questions. Operator, please provide the instructions for those interested in asking a question.

Questions and Answers:

Operator

Thank you. [Operator instructions] And we'll take our first question from David Schick with Consumer Edge Research.

David Schick -- Consumer Edge Research -- Analyst

Hi, good morning, and thanks for taking my question. I just have a couple. First, on NOOK, you mentioned in the year and congrats on moving that to the positive. 2019, anything you could share about thoughts on EBITDA for NOOK?

Allen W. Lindstrom -- Chief Financial Officer

Hey, David, it's Al. We aren't specifically providing guidance on the NOOK segment, but I'll tell you that we expect to continue top-line pressures in our NOOK business and continued cost rationalization in that area. It's going to be tough to repeat some of the improvements you've seen, just given the top-line pressures, but we're going to work -- continue to work hard on rationalizing costs between our digital segments, which include both NOOK and e-commerce.

David Schick -- Consumer Edge Research -- Analyst

OK. Great. A couple details. So on, you mentioned traffic and conversion, which was helpful in terms of impacts to comp directionally.

Is it -- was ticket -- average ticket up or down?

Allen W. Lindstrom -- Chief Financial Officer

It was consistent. It wasn't a meaningful driver of the comp for the quarter or the year.

David Schick -- Consumer Edge Research -- Analyst

OK. And then last question, I know its small numbers, a six and a three on the store closings and openings, but could you talk about recapture math when you close in a market and how nearby stores do it recapturing that, whether it's members, non-members or just the overall business?

Demos Parneros -- Chief Executive Officer

Hi. It's Demos. There's no clear answer on this one. In some of the markets, there is no nearby store.

If it's more than about a 10- to 15-minute drive, we generally don't see any pickup whatsoever. We haven't had a lot of sales transfer, even in markets like New York City. It sort of tends to go everywhere, some to the online business, some just gets dispersed to the others. We do track it.

We look at it carefully. I would say not meaningful or material at this point.

Allen W. Lindstrom -- Chief Financial Officer

And going forward, especially in fiscal '19, if we're in a market that we like and do close the store, we would try to relocate it somewhere in the neighborhood if we did do a store closing to keep that business and serve our customers.

Demos Parneros -- Chief Executive Officer

Oh, absolutely. In fact, if I could just add to Al's comments, the clear direction for our real estate team is to maintain our presence in key markets. As we mentioned on the call and in the script, our goal is to be net positive. So, while we have a good store that's making a good four-wall profit, we'll try and downsize the square footage of it and be more efficient.

So that's the direction.

David Schick -- Consumer Edge Research -- Analyst

You guys are being so efficient with the call and the answers, I'm going to try to sneak in one other. We've been in your new pilot stores, and they are different and feel different. Anything you can share, I think you mentioned it briefly, but anything you can share on metrics, whether it's time spent per customer? I think you've talked in the past about mix of cafe, but any metrics that folks on the call could think about around those? I know it's a limited number, but the new concept stores.

Demos Parneros -- Chief Executive Officer

Tough to talk about those because the food part of the business is so disproportionately high due to the full restaurant concept in those stores. I mean, they really don't look like our other stores. But with that said, we've learned a lot from those stores. They've been great for us in terms of teaching us how to present product differently.

Our displays are different. Some of the adjacencies in the stores are different. We use different signage and colorways. So we've taken a lot of weight.

I don't have a specific kind of dwell time figure. It's kind of funny. In other businesses, we measure checkout time, which everybody wants to be efficient with checkout time, but in our case, we really want customers to stay as long as they want and browse and discover and buy books and other things. So, unfortunately, we don't have that.

But I think good takeaways on the book side of the business, and there's less of the non-books in those stores. So there's not as much to really take or conclude from that.

David Schick -- Consumer Edge Research -- Analyst

Fair enough. Thank you.

Demos Parneros -- Chief Executive Officer

Thanks for the call.

Operator

Our next question will come from not Mark Rosenkranz with Craig-Hallum Capital Group.

Mark Rosenkranz -- Craig-Hallum Capital Group -- Analyst

Hi. Great. Thanks for taking my questions. I wanted to dive into the guidance for the year.

Just wondering if you could discuss the composition between comp and traffic expectations and the cost savings. I know you discussed comp improvement year over year. Could you maybe discuss the breakdown between books and non-books? Would you say that was similar to the kind of book outperformance you saw in the quarter and just kind of how you see that going forward in relation with the guidance?

Allen W. Lindstrom -- Chief Financial Officer

Well, the specific guidance on profit is largely -- the profit improvement largely coming from our expense management efforts that we started late in the last fiscal year. Tim has done a really nice job at getting traction on that and we feel we have a good plan for the coming year. In terms of performance by category, the way that we've thought about the year is to really build plans around improving. In most areas, there are a couple that we don't see much improvement in.

So for instance, some of the heavy secular decline categories such as music and DVDs, we do not expect to see any improvement. We expect those to continue to be very pressured. But we've made decent strides on the book side and we expect to continue to improve there. It's been negative for some time.

I'm not exactly sure when that completely flips, but we know that it's improving. And then the other sort of big opportunities for us are to freshen up the store with some of the other categories. So we are in the process of rethinking and reimagining our gift business and those are the tough performer last year. We are starting to see good improvement, moderate improvement, but nonetheless, we'll take it and we expect that to continue throughout the year.

Also, there's upside, we believe, in the toys and games business. Tim's done a nice job with the educational toys concentration and we've seen good results, very steady business for us and we're seeing a little bit of upside right now. So, we expect that to continue as well. So, our Café business has been another bright spot.

So, I think those are some of the highlights of how we expect to show improvement throughout the year. It will continue to build as the year grows.

Mark Rosenkranz -- Craig-Hallum Capital Group -- Analyst

OK. Great. That's helpful. Thanks for taking my questions.

Operator

And next we'll go to Ryan Vaughan with Needham.

Ryan Vaughan -- Needham & Company -- Analyst

Hi. Thanks for taking my questions. Just a follow-up on the challenging categories of music and DVD. I mean, at what point in time do you start to make some adjustments to the square footage allocation? We've seen it with other retailers that have also gone through kind of turnaround operational changes like at Best Buy, for example.

Just trying to think you expect continued pressure this year, 2019. I mean, how are you thinking about that if you've made really good strides? You're down three in Books, and you're positive in Café, but you have this drag. I mean, at what point in time do you just continue to make adjustments here, maybe bigger adjustments?

Demos Parneros -- Chief Executive Officer

I think that's a question that we've spent quite a bit of time on. Our entire management team has been focused on that and actually, we have begun to make changes in those areas. The clear takeaway is to reduce its space as quickly as we can. At the same time, we want to replace that product with something that is productive and relevant and makes sense and is on brand for us.

So a couple of ways that we're doing that. The first thing is that we've designed smaller stores and as we come to end-of-life on -- end-of-lease rather, on stores which we've talked about in the past is over 100 stores a year, come up for lease renewal. We can't downsize all of those stores, but where we can, we will downsize those stores and when we do, we will give much less space, if any, to those categories. So that's one approach.

Secondly, we talked about some new businesses that we have been testing and experimenting with to go along with our already-strong gift and toys and games businesses. Those can have a little bit more space. So it's little bit reallocation game that we're going to be looking at. And that, along with new businesses, are some of the ways that we intend to use the space currently occupied by music, DVDs.

So, it's a little bit of a slower process that we'd like. We'd love to do it overnight, but trying to be prudent with usage of our capital and our expense dollars where we're moving and where we've reallocated space, we've seen the results.

Ryan Vaughan -- Needham & Company -- Analyst

Got it. That's helpful. And then, just touching on the prototypes, anything you can comment, just trends you're seeing? I know you said something around the 14,000, 16,000 square feet is a really perfect size for you. Just what you've been seeing in some of those stores relative to the rest of the portfolio?

Demos Parneros -- Chief Executive Officer

Sure. So as we've talked about, our new prototype target size is 14,000 square feet.

Andy Milevoj -- Vice President, Investor Relations

Excuse me, Ryan, there's some background noise on your end. Do you mind putting it on mute for a second?

Ryan Vaughan -- Needham & Company -- Analyst

Absolutely, sorry.

Andy Milevoj -- Vice President, Investor Relations

Thank you.

Demos Parneros -- Chief Executive Officer

Yeah. So, our target size for the new stores is 14,000 square feet. Obviously, it doesn't work out perfectly every time. If it's 13,000 or 15,000, we can work with that.

Our designs are flexible enough to handle that. We are excited to be launching early fall with the first one of these stores and we intend to get great learning and takeaways from these. I think the punch line is simple for us. It's just about store productivity and the first part of the question about music DVD, we know that's unproductive, but there's some demand for the product.

We certainly don't need as much space as it has and we can reallocate space and also introduce some new businesses. So we're very focused on the customer experience. Customers love our store experience. So we want to keep that, but at the same time, we want to reduce where appropriate.

So we want to keep the great experience, but make the stores more productive and make the P&L better at the same time.

Ryan Vaughan -- Needham & Company -- Analyst

Great. And then one last one for me. Just, Al, anything unusual in net working capital? It looked like it was a little bit greater than it has been in the past. That balanced a little bit higher than what we expected.

Anything unusual there that you might want to point out?

Allen W. Lindstrom -- Chief Financial Officer

Yeah. In Q4, our increase in debt over the Q3 levels was consistent with the past few years. If you look at our financials, and it's consistent with the seasonality of our business, if you look back in our historical financials and look at Q3 debt to Q4 debt or net debt, if you will, we've generally gone up from Q3 to Q4 about $90 million a year. So this year's third-quarter, fourth-quarter increase was slightly higher but within that range and we are still working through some post-holiday returns that we're getting cleaned up in Q1 as well.

Ryan Vaughan -- Needham & Company -- Analyst

Great. All right. Thank you very much.

Operator

[Operator instructions] Moving on, we'll go to Jonathan Caplan with Caplan Capital Management.

Jonathan Caplan -- Caplan Capital Management -- Analyst

Hi, gentlemen. Thank you very much for all the information you provided. Just two questions. One is when you talk about the comp sales improvement, can you just be a little more specific? Are you talking about less negative or turning positive at some point in the coming fiscal year? And the second question is in terms of capital usage, I appreciate the fact that you're still paying your dividend.

That shows that you have confidence in the future of the company. But I'm wondering if the stock trades at about 2 1/2 times expected EBITDA next year based on your guidance, won't it be of more prudent use of the capital to be repurchasing shares? Thank you.

Demos Parneros -- Chief Executive Officer

Thanks for the questions. I'll take the first one and hand off to Al for the second part. With respect to our comp sales, obviously the trends over the last couple of years have been difficult and we've put a lot of good solid initiatives in place to turn things around. We're not there yet.

I'm positive. We would love to get there as quickly as possible. We are, first doing the things necessary to make improvements such as we think the gift department, so a new selection of product, that will start hitting our stores probably late summer and early fall. So I think that will be exciting for us to see.

Toys and games business has been a good performer for us, and now we're seeing a little bit of upside given the market conditions in that business. So there are parts of the business that have turned positive, but we can't specifically state when the entire business will turn just yet. So, obviously, that's metric No. 1 for us and we're very focused on it.

Allen W. Lindstrom -- Chief Financial Officer

On the second part of your question on the buybacks, as you know, the board declared a dividend last week. We regularly review with the board the best way to return value to shareholders while maintaining flexibility to run the day-to-day business. So, I can assure you that we look at both dividends and buyback as the options and deploying capital and returning the higher value to our shareholders.

Demos Parneros -- Chief Executive Officer

And, Al, if I could just add to that, I think clearly that's the balance that we're trying to strike and truthfully we've had a lot of things to correct before really meeting sort of investment dollars just yet. So, for instance, the new store prototypes are smaller, we think are more efficient, and we think they'll work beautifully. Obviously, we've got to prove that out. In addition to that, given that our entire fleet is bigger, we want to take the learnings and takeaways from the smaller stores and redeploy those, reintroduce those into the chain.

So once we have a model that we feel great about, we can think about deploying capital to that much more quickly and I think we are all on the same page and ready to do that as it rolls out.

Jonathan Caplan -- Caplan Capital Management -- Analyst

OK. Thank you.

Operator

And there are no further questions in the queue at this time. I'd like to turn the conference back over to Mr. Milevoj for any additional or closing comments.

Andy Milevoj -- Vice President, Investor Relations

Thank you, and thank you all for joining us on today's call and for your interest and support of Barnes & Noble. Our first-quarter earnings release will be released on or about September 6. We look forward to speaking with you then. Thank you and have a good day.

Operator

[Operator signoff]

Duration: 34 minutes

Call Participants:

Andy Milevoj -- Vice President, Investor Relations

Demos Parneros -- Chief Executive Officer

Allen W. Lindstrom -- Chief Financial Officer

David Schick -- Consumer Edge Research -- Analyst

Mark Rosenkranz -- Craig-Hallum Capital Group -- Analyst

Ryan Vaughan -- Needham & Company -- Analyst

Jonathan Caplan -- Caplan Capital Management -- Analyst

More BKS analysis

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