LL Flooring Holdings, Inc.
Q3 2015 Earnings Call Transcript

Published: 4 Nov 2015

[Operator:]

Good morning, ladies and gentlemen. Welcome to the Lumber Liquidators Third Quarter Earnings Call. With us today from Lumber Liquidators is Mr. Tom Sullivan, CEO; Mr. Greg Whirley, CFO; and Mr. John Presley, Chairman of the Board. As a reminder, ladies and gentlemen, this conference call is being recorded and may not be reproduced in whole or in part without permission from the company. I would now like to introduce Steve Calk of FTI Consulting. Please go ahead.

[Steve Calk:]

Thank you, operator. Good morning, everyone, and thank you for joining us today. Before we begin, let me take a moment to reference the Safe Harbor provisions of the United States securities laws for forward-looking statements. This conference call may contain forward-looking statements that are subject to significant risks and uncertainties, including the future operating and financial performance of Lumber Liquidators. Although Lumber Liquidators believes that the expectations reflected in its forward-looking statements are reasonable, it can give no assurance that such expectations or any of its forward-looking statements will prove to be correct. Important risk factors that could cause actual results to differ materially from those reflected in the forward-looking statements are included in Lumber Liquidators filings with the SEC. The information contained in the call is accurate only as of the date discussed. Investors should not assume that the statements will remain operative at a later time. Lastly, Lumber Liquidators undertakes no obligation to update any information discussed in this call. Now, I'm pleased to introduce Mr. Tom Sullivan, CEO of Lumber Liquidators. Tom, please go ahead.

[Thomas D. Sullivan:]

Thank you, Steve, and good morning, everyone. Thank you for joining us for the Lumber Liquidators' third quarter 2015 earnings call. My name is Tom Sullivan. I founded Lumber Liquidators about 21 years ago. We grew from the back of a trucking warehouse outside of Boston to over 370 locations around the country. We did this by selling good wood at great prices with the best people in the business. Over the past quarter, we have made some progress getting back to our basic business. We have made progress on legal and regulatory fronts, and we have enhanced our compliance. But most importantly, we are beginning to rebuild our trust with our customers. Over the past quarter, we have been responsive to customers who've had concerns about our product quality, conducting in-home testing for all customers who requested it. That process continues, and we are encouraged by what we've seen so far. From a financial perspective, we are still feeling the impact of disruptions in the business. We are closing our tile stores, getting rid of tools that have clogged up our stores, and getting back in stock on the flooring we need. Q3 revenues were down 14% versus Q3 of last year to $236 million. Part of this decline is certainly media-related, and we have had some disruptions in our sourcing. The total sales were up 2% over the year-ago quarter. But because of revenue decline, gross margins remained at about 30%, which was similar to last quarter, absent certain one-time items. The 910-basis-point drop from a year-ago quarter continues to be driven by changes in our marketing strategy, our customer air quality, testing program and changes in our sales mix. In a few minutes, our CFO, Greg Whirley, will go over the quarter in more detail. But first, I would like to say a few words about the leadership transition we announced earlier today. On November 16, our board member of eight years, John Presley, will become CEO of Lumber Liquidators. I will continue to serve as a member of the board as Founder, and I will serve in a new role as Special Adviser to the CEO to provide guidance and ensure continued progress toward executing the company's vision and long-term strategy. John brings more than 30 years of leadership experience to Lumber Liquidators with significant operational, financial, turnaround and risk management expertise. In the most recent role as CEO of First Capital Bank, he played a critical role in leading the bank's turnaround. I look forward to working closely with John on our mission to get Lumber Liquidators back on track. With that, I will turn it over to John for an update on his work over the past quarter.

[John M. Presley:]

Thanks, Tom, and good to speak to all of you again. I'd like to begin by saying it's truly an honor to be chosen to lead Lumber Liquidators at this critical juncture in the company's history. During my tenure on the board and most recently as Chairman, I've gained unique insight into the business, strategy and operations and have seen firsthand what makes our culture and our value proposition unique. I am firmly committed to strengthening Lumber Liquidators across every area of the organization. And my top priorities as CEO will be improving our core operations and improving our financial performance. As we've told you last quarter, one of the key goals was to make sure the management team could focus on the business without distraction. So, the board, through the Special Committee, has been managing some of the non-operational issues. Let me give you an update on where we are. We worked diligently with the Department of Justice to resolve issues relating to our compliance with the Lacey Act. On October 7, we announced a settlement with the DOJ, and on October 22, it was approved by the court. We are continuing to cooperate with all regulatory agencies, and we are focused on resolving all the legacy regulatory inquiries we have received as quickly as possible. On the product front, the Special Committee has been conducting a comprehensive review of our sourcing compliance program and related policies. Compliance is extremely important to the company, and with the addition of Jill Witter, our new Chief Compliance and Legal Officer, we've added some excellent talent in this area. Jill comes to us with a depth of experience, including with Rayonier and International Paper, and is systematically reviewing our compliance practices from top to bottom. She is committed to helping us overhaul where we need improvement and strengthen where we are doing well. Finally, over the last quarter, the company has made solid progress in getting back to basics, focusing on execution and serving our customers. We have put a number of the legacy issues behind us, but there is still work to do. I am confident that with our focused plan, solid execution, and talented employees, we can successfully drive Lumber Liquidators forward to enter the next phase of our growth and success. Together, we have the drive and the vision to execute a successful turnaround and begin a new chapter for our company. I look forward to getting to know many of you over the coming weeks and months. And with that, I will turn it over to Greg to discuss the results for the quarter. Greg?

[Gregory A. Whirley, Jr.:]

Thank you, John, and good morning, everyone. I will provide details on our results for the third quarter of 2015. My references to percentage and basis point changes are in comparison to the third quarter of 2014, unless otherwise noted. Net sales were $236.1 million, a decrease of $30 million or 11.3% over the third quarter of 2014. Non-comparable stores increased $8.9 million and comparable stores decreased $38.9 million, in comparison to the third quarter of 2014. Within our comparable stores, net sales in the third quarter decreased 14.6% due to a 1.6% decrease in average sale and a 13% decrease in the number of customers invoiced. We believe net sales in the third quarter of 2015 continue to be negatively impacted by allegations surrounding the product quality of our laminate sourced from China. The allegations were part of a 60 Minutes episode that aired on March 1, 2015. Additionally, we believe net sales in the third quarter of 2015 continue to be impacted by changes in our product assortment in certain merchandise categories. The suspension of laminate sourced from China in the second quarter required us to replace a significant portion of our laminate product line with European and North American vendors. We have worked diligently in recent months to stock an appropriate supply of laminate products, and we are where we expected to be at this point. We will continue to evaluate the performance of our laminate category as we move forward. Additionally, related to our recently announced settlement, our supply of certain engineered hardwood products was disrupted as we replaced certain vendors. We also saw a stronger competitive environment in these two categories during the third quarter. Within our non-comparable stores, net sales benefited from continuing store base expansion. We opened seven new stores in the third quarter and are encouraged with the results of our new store openings. We believe their results show the strength of our store model. We are also satisfied with the results from stores operating in our expanded showroom format. And we have now opened 82 new locations in that format since the beginning of 2013 and remodeled 50 existing locations, including one in the third quarter of 2015. The 132 stores with the expanded showroom format represent over 35% of our store base at the end of September. I'd now like to turn to gross margin, which was 30.1% in the third quarter, and we'll touch on each of the categories in which we had historically segregated drivers of gross margin

[Thomas D. Sullivan:]

Thanks, Greg. As I said last quarter, our plan is to get back to basics

[John M. Presley:]

Thanks, again, Tom. Over the coming months, we have significant work to do. So, there will be a lot going on at Lumber Liquidators. I believe in our core business model. And we'll be working with Tom to continue these efforts to capitalize on that, while building customer confidence and employee confidence. I'm also very accustomed to running a profitable business and taking care of the customer in a regulatory environment. I hope to leverage that experience at Lumber Liquidators. We've made some progress on the regulatory front in the last few months, and we will continue to improve our product and ensure compliance as part of our culture. I also want to help improve our corporate culture in some specific areas. This means working with Greg to optimize financial analysis across the company. That also means building a management team where best practices are employed at all levels of the organization. And it means building a team where we had a deep bench of talent. Over the past few months, we have made significant adjustments to our go-to-market strategy as we've been driving traffic. Going forward, we feel we can make some refinements to that strategy and begin to rebuild some margin. For instance, our data suggests that we can be creative and surgical in the way we adjust promotional pricing, and I believe we can create some additional value there. The next area of focus is sourcing. We are optimizing our assortment so that the selling process is simplified. Tom talked about that last quarter. We must be smart on how we manage this process and maintain strong relationships with our mills during this time. We are also conducting a systematic review of our mills. In the end, managing our supply chain more efficiently is critical to the future success. It will streamline and simplify our showrooms and logistics and ultimately provide a better experience for the customer. Finally, we want to be relentless about margins. While the Special Committee continues to work on non-operational issues, we're going line by line to control costs, maximize efficiency, leverage SG&A and support our stores. None of this works, however, without a commitment to operational excellence. As Tom has said last quarter, we're putting a lot of energy and resources into creating and maintaining best practices across the organization and in every store around the country. I believe we can make good progress in all of these areas if we stay focused and stay on mission. With that, operator, we are now ready for questions.

[Operator:]

Thank you. Ladies and gentlemen, at this time, we will be conducting the question-and-answer session. Our first question is coming from the line of Seth Basham with Wedbush Securities. Please proceed with your question.

[Seth M. Basham:]

Thanks a lot and good morning. My first question is around sourcing. You guys are making a number of changes with your sourcing. I'm trying to understand if you're going to be sourcing any engineered hardwood from China anymore and whether or not there's a cost associated with sourcing it from another location.

[Gregory A. Whirley, Jr.:]

This is Greg. I'll take that. As you know, we are not sourcing right now from – our products from China, laminate products from China. Oh, you said engineered. So, we are getting engineered. But we are going to be continuing to source products out of China including engineered. We will make sure that as we work through our compliance procedure, we'll make sure that we can source from anywhere. That's our goal.

[Seth M. Basham:]

Based on your sourcing plans at this point in time, what would you expect to be the gross margin implications from places you're sourcing from going forward versus the places you were sourcing from in the past?

[Gregory A. Whirley, Jr.:]

The best way to think about that – again, we'll make sure that we have a compliance plan in place that allows us going forward to source from anywhere. In the near term, the biggest concern that we think about, we're not now sourcing laminate products from China. Because we're now not sourcing those products from China, the costs associated with our laminate products are a little bit higher than what you would have seen historically, and that's going to have an impact on margin. I think we talked a little bit about that at the last quarter. We don't expect that that's going to – that's still going to be accretive, I guess, to our margins going forward, but maybe not to the levels we've seen historically.

[Seth M. Basham:]

Okay. Thanks. I'll turn it over.

[Gregory A. Whirley, Jr.:]

Thank you.

[Operator:]

Thank you. Our next question is coming from the line of Dan Binder with Jefferies. Please proceed with your question.

[Dolph B. Warburton:]

Hi. This is Dolph Warburton in for Dan. I just want to clarify on the clearing out of the 140 SKUs. Is that all complete, or should we be expecting more of that activity going forward and with the clearances that are related to that?

[Gregory A. Whirley, Jr.:]

This is Greg. We've made substantial progress there, but it's something that we'll continue to do. I wouldn't tell you we expect today that that process is finalized. So, we'll keep doing some of that, but, again, the company moving forward, we're expecting to improve the business in the fourth quarter by focusing on our promotional activity and how we adjust that going forward.

[Thomas D. Sullivan:]

And this is Tom. We will have products here and there ongoing that we will discontinue as well.

[Dolph B. Warburton:]

Okay. Thank you. And if I can just have one follow-up. With the employee retention incentives, are those across the board to all your employees and are you seeing any increased turnover at the store level? Thank you.

[Thomas D. Sullivan:]

Thank you. That's a good question. Yes, it is across the board. And, in fact, a significant portion of that or a large portion of that is out in the stores. We've provided those incentives to both store employees as well as to our field. And, as you know, the store model that we have and our customers – excuse me, our employees out in the stores are really the strength of the company and drive our sales engine. I think we have the right people in place, who are working hard now to make sure that they're executing on the sales strategy that we put forth and we're optimistic about the future on that front.

[Dolph B. Warburton:]

Thank you.

[Thomas D. Sullivan:]

Sure.

[Operator:]

Thank you. Our next question is coming from the line of Laura Champine with Cantor Fitzgerald. Please proceed with your question.

[Laura Champine:]

Good morning and welcome to your new role, John. I've wanted to ask a question about how you got there. So, as the Chairman of the Board and the Chair of the Special Committee, what in your own background made you feel that it made sense to essentially point yourself as the new CEO?

[John M. Presley:]

Well, thank you for the question and thank you for the congratulations. First, let's be clear. I did not appoint myself as CEO. It was a decision made after a long process conducted by the entire board of directors. We went on a national search, as we stated. We looked at a number of candidates. The closer I worked with the company, the more it made sense to me to throw my name in the hat, if you will. And I'm very appreciative of Tom and the board for entrusting this company in me. And I think that the familiarity that I have with the company, the background that I have in working in regulatory environments while providing – working with profitable companies in those environments, working to serve customers in those environments. I think the board, can't speak for them, felt like it was the best choice at this time. So, again, it wasn't a choice that I made individually. It was a collective choice made by our board.

[Thomas D. Sullivan:]

This is Tom, as well. And I think it's a good fit where I'll still be involved in the stores and merchandise, and helping John with that. And he has a lot of experience with, like he said, with the regulations and all that stuff that we need to deal with at this point.

[Laura Champine:]

Let's hope that becomes less relevant sooner rather than later. But the...

[Thomas D. Sullivan:]

That's why he's here.

[Laura Champine:]

Yes. I understand. So, the second question would be on the sales front. So, I understand the desire to have more selective, more effective promotions. But do you think that pulling back on those promotional prices might create further pressure on the sales line the next couple of quarters?

[Gregory A. Whirley, Jr.:]

This is Greg, Laura. And I appreciate that. The short answer here is maybe not that short. We're not happy with the sales for the quarter. We're not where we'd have liked them to be. But it's really not a surprise. Net sales were impacted by the allegation surrounding the Chinese laminates. But we're going to focus on what we can control. And on our last call, I think we indicated that our sales were being impacted by changes in supplies in certain categories, laminates being the biggest. And that's an important category for us. And as I mentioned, we are where we expected to be at this point. We're going to look, just to remind you, we're going to look at that laminate supply and make sure going forward, we are evaluating it to make sure we've got the right mix in laminates, the right style. So, it's something we'll continue to do. Also mentioned on the call, and I'll point out to you, that there were a few other things going on in the quarter that weren't just related to pricing. We believe there was an increase in competition in the marketplace during the quarter, particularly in the second half, primarily in some of those categories that we talked about at laminates. We believe that increasing competition, combined with kind of the timing of the retail calendar made this somewhat of a difficult quarter for us. But look, competition is a part of doing business. We understand that. But we still believe in the value proposition and think that it's relevant today. As we move forward, we're going to look at trying to continue to engage our customers and highlight the value of our products. We'll make sure that we have experts out in the field who are helping to serve our customers in the right way. And we're going to make sure that we've got the right products available that'll help us. I think if we kind of focus on those three fronts, we'll be set up, and it's not so much just the pricing promotional piece.

[Thomas D. Sullivan:]

And this is Tom. We will always have promotional pricing. That's – we've always had that to get people in the door, special buys or whatever we find in the market. So, it's not like we're going away from that.

[Gregory A. Whirley, Jr.:]

Tom, it's a good point. We're definitely going to be more surgical about how we're going to do it. The idea is to say that, look, we're still going to promote and we'll still promote enough to drive traffic. We just believe we have the opportunity to do that in a way that saves some margin and still drive traffic.

[Laura Champine:]

Got it. Thank you for taking the question.

[Gregory A. Whirley, Jr.:]

Thank you, Laura.

[Operator:]

Thank you. Our next question is coming from the line of Simeon Gutman with Morgan Stanley. Please proceed with your question.

[Simeon Ari Gutman:]

Thanks. Good morning. So, I have two questions. First, on the legal and regulatory side, you mentioned that there was some positive development. I think you were referring to Lacey settlement. Can you maybe give us a lay of the land of the key outstanding issues? I realize we don't have a lot of visibility, but just to tip the table a little bit on what are the key, I guess, key pieces or allegations that we're still trying to get clarity on? And then I have one follow-up.

[John M. Presley:]

Okay. This is John. We're still working and cooperating with the Department of Justice over their investigation over statements that were said or made after the 60-minutes article. We're also working with and cooperating with the CPFC on their investigation in some of our Chinese laminate products, as well as working with the California Resources Board on the same Chinese laminate product. So, those are the high-level items that we're working on today. We will continue to cooperate, and we'll continue to provide updates as we have been.

[Simeon Ari Gutman:]

All right. And timeframe, I mean, it's impossible – I'm assuming- I know you're incurring legal fees, but it's just ongoing and you're – are you at the will or at the mercy of their timeframe? Or is there anything on your side to do from a timing perspective?

[John M. Presley:]

We're doing everything we can do to cooperate to speed up the timeframe. However, there's certain things we do not have control over, so, to some degree, you're at the mercy of their investigation as it relates to timing.

[Simeon Ari Gutman:]

Okay. And then my follow-up just on the fundamentals, in thinking about bringing gross margin back up over time, are there any examples where – are you starting to test in certain markets or geographies, looking at the trade-off between less promotion on higher sales? I don't know if that's something that's too early to be looking at. But curious how this process could evolve over time.

[Gregory A. Whirley, Jr.:]

This is Greg. I think the answer to that question is, yes, we are beginning to look at those things. And, as you'd expect, as we move forward, the reason we're talking about being selective in the way we go about promoting is we feel like there are opportunities out there for us and we'll look to capitalize on those in the coming months and quarters.

[John M. Presley:]

And what I would add to that is we don't see this as a one-month or one-quarter recovery. We feel like we've got a strong marketing plan that we'll invest in the right advertising mix to rebuild the customer confidence in our sales to plan a rollout over time. And it is based on successful response. We'll also – we'll link that very closely to promotions.

[Simeon Ari Gutman:]

Okay. Thanks.

[Operator:]

Thank you. Our next question is coming from the line of Matthew Fassler with Goldman Sachs. Please proceed with your question.

[Matthew Jeremy Fassler:]

Thanks a lot and good morning. My first question relates to associate and store manager turnover and retention. Can you give us a sense of what employee turnover trends have looked like over the past three months to six months since the business has gotten a bit more turbulent?

[Thomas D. Sullivan:]

It's a little more, but in general, the attitudes in the store are very positive, very focused on getting us back to what we need to be. The stores who've – bear the brunt of the issues there with dealing them in the front lines, so they've put up with a lot, but they are very – their attitudes are great overall. And some of the changes we've made, some of that made, but it's overall very good.

[Matthew Jeremy Fassler:]

Thanks. And then – go ahead, sir.

[John M. Presley:]

I was just going to add, the employees that are out in the field so far are very enthusiastic, are very positive about the company. The feedback I've gotten from the few I've met with so far are excited about the change we've made today and excited that Tom is still involved. So, I would view the employee or the associate morale out there is very high at this point in time.

[Matthew Jeremy Fassler:]

Thanks. And then my follow-up question relates to the real estate pipeline. So you're opening another handful of stores in the fourth quarter. How many of those were you contractually obligated to open given leases that you've already signed? And do you have signed leases for 2016 at this point?

[Gregory A. Whirley, Jr.:]

As we've talked on our last call, look, it was our intent to continue to open stores. I think we've continued along in that plan. We now have – we have leases for all of those that were out – there we've now opened during the quarter. And as we towards 2016, we still intend to look at the new store openings. We believe it's a good use of our capital there, it's accretive to cash within a two-year period and usually before that. So, it's just we think it's the right approach. Where we stand today, we do not have leases signed for 2016, and we're going to make sure that we're evaluating every lease and every capital spend over the next – well, into perpetuity. But over the next few quarters, we'll make sure that we're very selective in how we approach signing new store leases.

[Matthew Jeremy Fassler:]

So, just to make sure, you said you do not have leases for 2016 signed at this point?

[Gregory A. Whirley, Jr.:]

Not yet, no.

[Matthew Jeremy Fassler:]

Okay. Thank you very much.

[Operator:]

Thank you. Our next question is coming from the line of Brad Thomas with KeyBanc Capital Markets. Please proceed with your question.

[Bradley B. Thomas:]

Thank you and good morning. I want to follow up on the topic of sales, particularly in light of the long purchase cycle. And I was hoping that you would comment a little bit more on, perhaps, what you saw in terms of the cadence during the quarter, where the open orders stand and any other metrics that you all are willing to share, like, how many samples you've been giving out?

[Thomas D. Sullivan:]

In terms of sales cadence during the quarter, we commented a little bit here. But the second half of the quarter was worse than the first half. And we believe that was, as I mentioned, in large part due to the retail calendar as well as some of the competition we saw in the second half of the quarter. Overall, you saw what the ending number would be. But as again, I'd tell you, I think the second half was worse than the first half. And I apologize I can't remember the second part of your question.

[Bradley B. Thomas:]

Any, perhaps, leading indicators of sales like the open orders, the backlog, the samples, things like that?

[Thomas D. Sullivan:]

Open orders give us kind of a look at a point in time, but they're really not reflective of what we are expecting for the quarter. So, we'd prefer not to disclose that information at this point.

[Bradley B. Thomas:]

Okay. And if I could follow up on legal regulatory side. I was hoping you'd just comment a little bit more about how things are progressing with the test kits that you've been sending out. I believe the 10-Q quantifies some costs associated with Phase I and Phase II. But it looks like you haven't got into any costs associated with Phase III yet. How are things progressing with the test kits?

[Gregory A. Whirley, Jr.:]

This is Greg. That's right. We've made good progress in the test kit program. The numbers (0

[Bradley B. Thomas:]

Great. Thank you so much, Greg.

[Operator:]

Thank you. Our next question is coming from the line of Keith Hughes of SunTrust. Please proceed with your question.

[Keith Hughes:]

Thank you. Going back to the change in – or shift in the promotional strategy, do you expect to discount on less products or change the level of discounting that you're going to be doing moving forward?

[Gregory A. Whirley, Jr.:]

Well, I would tell you we won't go into specific strategy on how we intend to do it. We'll look at all options. But the idea here is that we're going to be more surgical in how we approach it. And so that as we think about, we'll make sure that we're discounting as needed to drive traffic, but not discounting more than needed to save margin and provide the value to our shareholders.

[Thomas D. Sullivan:]

And also right now, a lot of the stuff we're discounting is our own stuff. We'd prefer to discount other people's stuff and special buys where we're buying it at a much better price and selling it at a good price and making money on it.

[Keith Hughes:]

Okay. And on advertising. Would we expect advertising spend to follow the changes in same-store sales roughly?

[Gregory A. Whirley, Jr.:]

We'll be smart about how we spend in advertising. As you saw, the gross dollars were down this quarter. However, again, we're going to make sure that we are spending and talking to our customers as appropriate to continue to drive sales.

[Keith Hughes:]

And you'd mentioned a CARB investigation. Clearly, that's about laminates. Has that included or will it expand to include engineered woods from China as well?

[John M. Presley:]

At this point in time, we're focused on Chinese laminates, is what we've been working and cooperating with CARB on. So we'll leave it at that.

[Keith Hughes:]

Okay. And final question, can you give us any sort of feel in the quarter in terms of the change in sales by product? I assume laminate was the worst, but ex-laminate, what the other product categories look like?

[Thomas D. Sullivan:]

We haven't really gone into direct product categories. But as you'd expect, laminates were behind where we expected or where they were in the prior year. As we get into the fourth quarter, we're really looking to evaluate all the new supply that we now have in stock with respect to our laminate assortment and we're looking forward to getting back to kind of the same mix that we had in the prior year, that's where we're looking towards.

[Keith Hughes:]

Okay. Thank you.

[Operator:]

Thank you. Our next question is coming from the line of Peter Keith with Piper Jaffray. Please proceed with your question.

[Peter Jacob Keith:]

Hi. Thank you, everyone. Just a follow-up on the last question from Keith. In the press release, you noted there was weakness in laminate and bamboo. I was wondering if – with bamboo weakness showing up now, do you believe there might be a stigma on foreign products that are sourced from China that's impacting those categories?

[Thomas D. Sullivan:]

It's very possible that that is, in fact, the case. We don't see a direct reason as to why people wouldn't buy bamboo products. They're good products. We sell a strong assortment of those. But as we surmise, obviously, with the stigma around Chinese products that we sell today that there could be some hangover there.

[Peter Jacob Keith:]

Okay. And then turning to the same-store sales trend, that was – I guess, that's probably the biggest area of weakness relative to our expectations. And I think we're all trying to figure out when your comp trend might bottom out. 60 Minutes did rerun the segment in mid-August, which would be right at the midpoint of your quarter. Did that have a ripple effect that then caused another downturn in the overall sales trend that you're now recovering from?

[Gregory A. Whirley, Jr.:]

Yeah. Thanks for the question.

[Thomas D. Sullivan:]

It didn't help.

[Gregory A. Whirley, Jr.:]

I think that's right. Obviously, it isn't something that would be helpful. But, again, we're looking right now to control the things that we can control. And that's to focus on how we talk to our customers, how we sell products. I would tell you that although same-store sales are important, one of the things that we have seen is that the base business month-by-month has stayed somewhat steady. So, we've kind of maintained a base level of sales throughout the period on a comp-store basis as well. So, you're right, when you start to compare to prior year, we are struggling a little bit, but overall, not getting dramatically worse.

[Peter Jacob Keith:]

Okay. Great. And one last question for John, then. So, there's a number of things that are being shut down here from the prior management team. You look at your – the tile initiative was short-lived. The vertical integration was short-lived. You're shutting down about 35% of your SKU count and now ramping up the compliance effort. So, it seemed like things were kind of being done by former management that lacked maybe board oversight because of all these quick, sudden changes. Could you help us understand the disconnect on all these initiatives that are now being shut down very quickly versus where the board was when these things are being approved?

[John M. Presley:]

Well, I'll first of all address where the board was when these things were being approved. And that was – if you go back to 2012 and 2013, the company's performance both in sales and net income was really good. And there was a lot of confidence back then about what the company was doing and how the company was performing. But as we get through some of these negative impacts that we've had with the negative publicity impacting our sales, it really has forced us to go back and really get back to basics. Tom founded the company 21 years ago that is really good at selling hardwood floor. And we need to get back to selling hardwood flooring. And so, the other integrations, vis-à-vis expanding on products given the negative publicity that we had during 2014 and in 2015 is really important for us to get back to what we're really good at. And that's what we've done, and that's what we will do for the foreseeable future. This has been a really good business for 21 years. We need to get back to that and then grow from there.

[Peter Jacob Keith:]

Okay. Thank you very much, everyone.

[John M. Presley:]

Thank you.

[Thomas D. Sullivan:]

Thank you.

[Operator:]

Thank you. Our next question is coming from the line of Greg Melich with Evercore ISI. Please proceed with your question.

[Greg Melich:]

Hi. Thanks. I have sort of two follow-ups. One was understanding the traffic trend during the quarter. I understand that second half was worse, but if you could break that down into maybe the traffic side of the equation. And then I had a follow-up on assortment sourcing.

[Thomas D. Sullivan:]

Again, I would tell you that the traffic trend got worse in the second half compared to the first half. As you start to look month-by-month, it's a little more difficult to pull out because of shifts in timing of weekends, you kind of lose some of the meanings. We don't really want to go to that level of detail. But certainly, we saw a strong start to the third quarter, and it ended on a less positive note because of the timing of the calendar as well as some of the competition we saw in the second half of the quarter.

[Greg Melich:]

That's great. And then, second, I guess it's a follow-up to several questions you had before about the 140 SKUs that you've taken out. I guess, how many of those have been replaced, or was that a gross number or a net number? And I can't remember who it was, I think John, you talked about getting back to where you were in the past, as being a great hardwood floor specialist. If we were to think about it, do we think we're ever going to go back to the same sort of SKU counts since two years or three years, or we only put half of them back? I mean, give us a sense of what the store might look like in terms of mix or how you want it to look a year or two from now?

[John M. Presley:]

Well, a lot of – this is John. I'll answer the question first. And I'll let Tom jump in. But, if you walk into one of our stores today that we've remodeled and reconfigured for the future, you walk in and you see a lot more hardwood flooring than you've seen in the past. You'll see a lot less SKUs of tools. You'll see a lot less SKUs of other products like tile. So, when you walk in the door, you see a wide assortment, what even looks like a bigger assortment of hardwood floors versus what you might have seen six months ago in one of our stores that would have been confusing, if you will, of looking at a lot SKUs of tools, and a lot of SKUs of tile, and a lot of SKUs of stuff that didn't make sense in our stores. So, I would tell you, walking in today when you walk into one of our stores, you see a lot more hardwood flooring and a lot more SKUs of flooring.

[Thomas D. Sullivan:]

Yeah. This is Tom. We had walls of tools and casters and stuff that wasn't selling. And we just redid the store in Richmond here. We had all the regional managers here last night to show it to them. And we took out, instead of a wall of casters, we put in a better display of butcher block, which we sell millions of dollars. We put in wood tile, woodwork tile that we have a better assortment of now. We put in pine that wasn't displayed properly, but we sell a lot of it. And we consolidated the tools that we're going to keep and the cleaning products, and the accessories on the other side by the register, makes it much simpler for the customer to come in. We also reduced the duplicated SKUs. Birch and maple look very similar. We don't need to have both of those, so we got rid of that. But, to the customer when they come in, they see more wood than anyone else in the industry and that's a much easier shopping experience. They don't have to decide between four things that look exactly the same. There's one of those now. And the SKUs that we replaced and got rid off are not necessary for the business. This makes it much simpler, much easier for the customer, much easier for the whole operation. We don't need to have a DC full of five similar things all the way down the line. We don't need to purchase all these things. So we're getting back to what we need to sell, and it's easier for us, easier for the consumer. And it's a much better business and it's just a few changes in the store, we don't need storage for the tools up above. So, the store can come down about 300 square feet. It's less cost to build it. This becomes overall a much better efficient business.

[Greg Melich:]

And so, the 140 varieties, that isn't just the laminate, that's basically added in tools in these other areas. And is that a gross number?

[Gregory A. Whirley, Jr.:]

What do you mean 140? That's flooring SKUs. So we're talking about that. And just, again, I think Tom said it very well, we are reducing 140 flooring SKUs, but those SKUs were not our best-selling SKUs. We went through and systematically evaluated what products are selling, what's not selling. And we're trying to be more efficient in managing our supply chain, our mix of inventory to make sure that we continue to buy the things that our customers want to sell. And those are the products that we're stocking to make sure that it's easy to show them what we have available for them to buy. And now we're asking our stores to execute, which we think they can do better than anybody, to get those sales.

[Greg Melich:]

That's great. Thanks a lot. Good luck.

[John M. Presley:]

Thank you.

[Operator:]

Thank you. Our next question is coming from the line of David MacGregor with Longbow Research. Please proceed with your question.

[David S. MacGregor:]

Yes. Good morning. As you go through this turnaround strategy, do you anticipate increasing your borrowings? And if so, how much leverage do you think you're prepared to incur?

[Gregory A. Whirley, Jr.:]

Right now, as we said on the call, we believe we have the right amount of liquidity. We've got $53 million in cash. We have $20 million outstanding. We did point out in the Q and you probably saw over the past few months, a lot of our cash generation has been from reduction of inventory and its aggressive approach that we've had of making sure that we have a healthier mix of inventory going forward. But, of course, you can't operate in that mode forever. And as we look forward, the story here is really no different. We need to be working to generate sales and operating income. And as we do that, we have what we need to operate the business.

[David S. MacGregor:]

Okay. Just as a follow-up. You mentioned the stronger competitive environment. I wonder if you could just elaborate a little further on what you're experiencing there. Is it the home centers that are coming in and applying more pressure and being more aggressive? Or are you seeing substitution from other foreign products that are applying pressure to laminate?

[Gregory A. Whirley, Jr.:]

I think there were a number of factors for us. We won't go into what specific competitors we're doing. But during the quarter, as we mentioned, we were getting back into stock in some key categories for us, the primary one being our laminate products. And as we looked out in the market, we saw that that category was under some pricing pressure in the second half of the quarter as well.

[David S. MacGregor:]

Okay. Now, just last question. It seems as though there's still some uncertainty regarding the pace of new store openings or remodelings going forward, but can you just talk about regional priorities? And do you favor the western markets now that you've got established distribution out there?

[Gregory A. Whirley, Jr.:]

I think at the end of the day, we believe our store model works in all regions of the country, and it works well. So, we are looking to continue to expand our footprint in markets and we have a real estate team that will make sure that we're looking not only in the west, but in the south and the east and the north. So, I wouldn't tell you if any one particular market we're looking to go into at this point. And we'll make sure that we put those stores in the places where we make the best use of that capital over the next few months.

[David S. MacGregor:]

Thank you.

[Thomas D. Sullivan:]

Sure.

[Operator:]

Thank you. Ladies and gentlemen, we have time for one additional question, which is coming from the line of Budd Bugatch with Raymond James Financial. Please, proceed with your question.

[David Joseph Vargas:]

Good morning. This is David Vargas on for Budd. Thank you for taking my question. At the end of last quarter, you said that you had about $20 million of inventory of laminate flooring sourced from China. I'm just wondering if you can give us an update on what value this is being currently held on the book side, and if you anticipate having to adjust the value of that product in that inventory going forward?

[Gregory A. Whirley, Jr.:]

That product is on our books at cost. Again, about $20 million, and we believe that's appropriately valued as of today.

[David Joseph Vargas:]

Got it. Okay. And then, on the promotional cadence from last quarter from Q2 to 3Q. Can you give us any color on whether you were more or less promotional and aggressive on pricing, and if there was any difference between the product and categories that you're more or less promotional on?

[Thomas D. Sullivan:]

I think as we move throughout the third quarter again, we were evaluating what we did in the second quarter, evaluating what we did early in the third quarter. We had a number of planned promotions that were in place, and I'd comment to say as we move forward, we're expecting to be more selective in how we did that. As you can look at our average selling price and season changes there, but overall again, we're looking forward right now and think that – overall, we're looking forward and thinking we have opportunities as we move forward.

[David Joseph Vargas:]

Okay. Great. Thank you. And good luck.

[Thomas D. Sullivan:]

Thank you very much.

[John M. Presley:]

Thank you.

[Gregory A. Whirley, Jr.:]

Thank you.

[John M. Presley:]

Again – go ahead. I'm sorry. Go ahead, operator.

[Operator:]

I apologize. I would just like to turn the floor back over to management for any additional concluding comments at this time.

[John M. Presley:]

This is John. Again, thank you for joining us on today's call. I want to thank our Lumber Liquidators team for your hard work. We couldn't do any of this without you. I also want to thank our customers for your continued support. You have stuck with us, and we appreciate it. We look forward to speaking to all of you again next quarter. Thank you.

[Operator:]

Ladies and gentlemen, this does conclude today's teleconference. Again, we thank you for your participation, and you may disconnect your lines at this time.