Lumber Liquidators (NYSE:LL) third quarter earnings are out, and there's not much good news. Revenue came in at $266.1 million, $7.5 million short of analyst expectations, and earnings per share of $0.58, missing estimates of $0.68 by 17%.
Let's take a look at how the company is doing on three important things that we looked at in this pre-earnings article. Did Lumber Liquidators make any progress this quarter?
1. Comparable sales results might be stabilizing, but it's too early to tell
Coming into 2014, Lumber Liquidators comparable store sales (which looks at sales results of stores opened at least one year) had been consistently in the mid-to-high single digits, indicating strong appeal and what looked like staying power.
However, things took a turn for the worse beginning in the first quarter of the year, when comps fell to negative 0.6%. Management told us that this was primarily the result of a bad winter in the northeast -- a reasonable story based on similar impact to multiple industries. In the second quarter, comps fell again, this time by a whopping 7.1%, with management again saying that weather was heavily responsible for the results.
Here's a nice little chart from the Q2 earnings filing:
While the comps at stores affected by weather have clearly been lower, the company didn't include this same breakdown in the third quarter filing. However, this line from the report, sums up what management thinks was the impact of weather on its business this year:
We believe the increase in net sales in weather-affected areas was approximately 110 basis points and 640 basis points less than the increase at all other stores when comparing the three and nine months periods ended September 30, 2014 to the comparable periods in the prior year, respectively.
That's about 6% in lost sales in the stores most affected by weather.
This quarter's comps were still down 4.9%, but that's some recovery from the -7.1% beating last quarter. However, it's still a far cry from management's prior guidance of "low single-digit" positive or negative comps, which it is continuing to guide for in the fourth quarter.
2. Store expansion on track
While the falling comps aren't good news, it's become relatively clear that this is a macro trend, and not a Lumber Liquidators problem alone. With that in mind, management is working on things that it can control: namely expanding at a reasonable pace based on sales and earnings, and updating/relocating existing stores to its new format.
The quarterly earnings report didn't provide any detail on next year's plans, the company will open another three stores in the fourth quarter, putting the total new store count for 2014 at 34, just above the low end of projections from last quarter, and remodel another two. That means the company will have either opened or remodeled 51 stores by the end of 2014. Considering that stores opened more than three years reported comp sales of almost -6% last quarter, the remodel program is an important part of efforts to revitalize and prepare for the inevitable turnaround.
3. Supply chain and inventory controls
The company continues to talk about the inventory issues from earlier this year as having affected sales and margins, but management isn't standing pat. Plans are still in place to consolidate its east-coast distribution into a single facility in Virginia. On the west coast, Lumber Liquidators' Pomona, CA facility is handling distribution to 90 of the company's stores. Combined, the company expects a 100-point gross margin benefit from this supply chain improvement alone.
Furthermore, the company continues to vertically integrate at least a portion of its supply chain, having recently added equipment that will allow it to process and produce up to 10% of its annual inventory needs in-house. Management says that this will give it better controls on products, and positively affect gross margins. Frankly, the company's success has been largely based on its ability to source product from mills and command strong margins at retail. It's early to tell whether it will turn out to be a smart move to add some vertical integration or not.
Where are we now?
Frankly, the continued slowdown in the remodel market makes it hard to project where things stand with Lumber Liquidators. However, the long-term view isn't as bad as things might seem, standing in the middle of an ugly year. The company remains profitable, and is using those profits to invest in growth, but not pushing too hard or too fast, or using debt to expand. Just as importantly, the steps to better rationalize its supply chain will not only aid in further expansion, but will drive costs down at the same time, adding further to the bottom line.
Vertical integration? Too early to tell if this is a smart move, but by starting small -- with up to 10% of inventory needs -- there's not much at risk, and it could be a big benefit in years ahead. For now, it's just a small step that may or may not work out.
At the end of the day, Lumber Liquidators remains an excellent business, albeit one that operates in a cyclical industry in the middle of a downturn. Once the customers come back, Lumber Liquidators will be ready.
Jason Hall owns shares of Lumber Liquidators. The Motley Fool recommends Lumber Liquidators. The Motley Fool owns shares of Lumber Liquidators. 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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