Michaels Companies Inc
Q1 2017 Earnings Call Transcript

Published: 6 Jun 2017

[Operator:]

Good morning. My name is Phil and I will be your conference operator for today's call. At this time, we'd like to welcome everyone to The Michaels Companies Earnings Conference Call for the First Quarter of Fiscal 2017. All lines have been placed on mute to prevent any background noise. [Operator Instructions] Please note this event is being recorded. Thank you. And now, I'd like to turn the call over to your host, Kiley Rawlins, Vice President of Investor Relations and Communications. Ms. Rawlins, you may begin the conference.

[Kiley Rawlins:]

Thank you, Phil. Good morning everyone and thank you for joining us today. Earlier this morning, we released our first quarter financial result. A copy of the press release is available on the investor relations section of our website at www.michaels.com. Before we begin our discussion, let me remind you that today's press release and the presentations made by our executives on this call may constitute forward-looking statements and are made pursuant to and within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. While these statements address plans or events which we expect will or may occur in the future, a number of factors, as set forth in our SEC filings and press releases, could cause actual results to differ materially from our expectations. We refer you to and specifically incorporate the cautionary and risk statement contained in today's press release and in our SEC filings. You are cautioned not to place undue reliance on these forward-looking statements which speak only as of today, June 6, 2017. We have no obligation to update or revise our forward-looking statements except as required by law and you should not expect us to do so. In today's earnings release, we have presented non-GAAP financial measures such as adjusted EBITDA, as defined in our credit agreement; adjusted operating income; adjusted net income; and adjusted earnings per share. Adjusted operating income, adjusted net income and adjusted earnings per share have been presented to reflect our view of our ongoing operations by adjusting for non-recurring inventory related purchase accounting adjustment and non-recurring integration costs and benefits associated with the February 2016 acquisition of Lamrite West. A reconciliation of these measures to the corresponding GAAP measures can be found in today's earnings release. Our call today will begin with highlights from Chuck Rubin, Chairman and CEO and then, Denise Paulonis, our CFO, will review our financial results and outlook in more detail. Following our prepared remarks, the call will open the call for questions. As a reminder, we would appreciate it if participants could limit themselves to one question and one follow-up question. Now, I'll turn the call over to Chuck Rubin. Chuck?

[Chuck Rubin:]

Thank you, Kiley, and good morning everyone. This morning we reported results for the first quarter of fiscal 2017. Total sales were flat with last year. Comp store sales decreased 1.2% and diluted earnings per share increased to $0.38. As expected headwinds from last year's coloring trend continue to be a challenge, excluding the impact of coloring comp store sales would have been positive. And although the trend improves from what we saw in Q4, custom framing continue to underperform the rest of the box. February was the most challenging month in the quarter, impacted by unfavorable weather in many of our markets. Comp sales trends improved in March and then were positive in April likely reflecting the shift in the Easter Holiday. Overall for the quarter, we saw flat customer transactions, an improvement in the quarterly trend while our average ticket was lower than the first quarter last year. Although, our top line results were not as strong as initially expected, I'm encouraged by the improving transaction trend. Additionally, when we segment our customers for the first quarter, I'm very pleased that we experienced a low single digit positive comp with our core customer base. Unfortunately, this was more than offset by challenges with our more casual customer, many of whom were buyers of coloring in the first quarter of 2016. Given that the headwind of colorings subsides considerably in Q3 and in Q4 and the fact that our sales with our core customers continue to increase nicely, we remained confident that our comp performance will improve in the second half of the year. Breaking our comp sales performance down further, we saw our best sales in Canada which delivered a positive 3.7% constant currency comp. From a category prospective, our seasonal business delivered positive comps driven by strong performance in Easter, spring floral and greenhouse market. Paper crafting also delivered nice comp growth driven by the continued popularity of planners and our expanded offering of Cricut machines and Cricut accessories. And finally, we saw a good growth in kid's crafts reflecting our successful efforts to be the channel leader with the very popular Slime trend. Additionally, e-commerce while still very a small part of our business continued to deliver very strong double digit sales growth. Despite the top line headwinds we faced in Q1, we continue to make progress in our 2017 and long-term priorities. One such long-term priority for us is to lower our product cost. During Q1, we continue to see benefits from our sourcing efforts both from our ongoing strategic effort to reduce product acquisition cost as well as from the continued ramp up and integration of our China sourcing offices. These efforts resulted in our product margin in Q1 being higher than last year. Another key priority is to build upon our industry leading brick-and-mortar footprint with a complimentary online presence. We know that making is a personalized effort, one which most often requires the opportunity to touch, test and compare colors and textures. We also know that Michaels high brand recognition, large scale, strong private brand capabilities and skill and managing a slow turning, long-tail SKUs assortment, makes us uniquely position to create a powerful customer focused omni-channel offering. One where our customer can shop when and how she wants. In support of this effort, we're investing to improve the customer shopping experience both in stores and online. From a brick-and-mortar prospective, we continue to implement changes to make our stores easier to shop with more than 50,000 SKUs across multiple diverse categories we know that shopping our stores as well as our competitor stores could be challenging for customers. So, we're focused on making the shopping experience easier for these customers. We're building more cohesive presentations that organize product using the customer length, creating product stories like our Slime headquarters fixture, which included all the products to create your own Slime regardless of the individual product category. We're also introducing new experiential fixtures like our marker bar to enable customers to touch and test product as part of their product planning process. And we're improving our in-store signage with new way finding, category callouts in simple tutorials that breakdown the creative process into easy to understand steps. We're also starting to see some encouraging results from the store layout changes we made last year in the number of stores, and remind you that last year, we completed layout changes in 350 stores creating a flexible merchandizing area in front of the store to present more cohesive statements to customers. While it has taken longer than initially expected for these stores to deliver the desired outcomes, I'm pleased to say that these stores outperformed their control group in the first quarter. We saw strong sell-through of Easter in these stores and the new assortment of summer fund product as also started well. We're still learning how to best allocate in a flow seasonal inventory to support these stores, but I'm pleased with the progress that we're making. Finally in store, we've implemented a new POS system in 800 of our U.S. stores and expect to complete the process in all U.S. stores this quarter. This will deliver many benefits including providing customers with the faster check out experience and giving our merchants that opportunity to test new promotional capabilities which we believe will help us better target our discount dollars. Of course, e-commerce is an integral part of our omni-channel strategy. The tactile nature of the product with general lack of national brands and a low average price point make it unlikely that e-commerce will grow to be a double digit penetration of our sales in this channel as it is for many other retail format. However, we continue to believe e-commerce will be an important compliment to the brick-and-mortar experience. And ultimately, we continue to believe that our e-commerce penetration will grow to be in the mid-to upper-single digit range of total sales. In support of this growth opportunity, we're investing to expand our e-commerce platform and to connect it with the in store experience to drive increased conversation in a larger basket. We're making improvements to improve our navigation and to make product discoverability easier, and we've implemented a more advanced search-as-you-type functionality in product and project search, making it easier for customers to find inspiration more quickly. In addition, we've expanded our online offering to include the majority of our in store assortment, we've introduced by online ship from store and the number of stores strategically distributed across the United States. This effort enables us to reduce shipping cost and shorten delivery times while also leveraging our existing store inventory. And later this year, we plan to provide visibility to in store product availability, which will enable us to introduce by online pick-up in store in a select number of stores. Later, this summer, we will also launch a new Michaels mobile app, which will provide customer with new store specific online product search and in store way finding. These new capabilities combined with buy online pick-up in store will help us connect our e-commerce platform with the in store experience and create through omni-channel benefits for our customers. As we continue our efforts to carry the products for our customers, we're leveraging our size and scale to offer more newness, exclusivity and trend both online and in stores. In the first quarter, we introduced a new jewelry assortment adding more than 600 new SKUs including an expanded assortment of private brands semi-precious beads and genuine stones. And with a new presentation and educational guidance, we've made it easier for both novice and the enthusiast jewelry maker to create something new. Leveraging our CRM capabilities, we supported the launch with unique member only incentives, digital and social media content as well as in store launch event. As a result of these enhancements, we've seen nice growth in both sales and gross profit dollars in the category. This quarter we will introduce a new craft paint assortment expanding our selection of exclusive brand like Martha Stewart craft paint as well as expanding our assortment of ArtMinds, our private brand in outdoor decor paint, stains and finishes. With this reset, we will reinforce Michaels as the leader in craft paint for all creative makers. And like the jewelry rest, we are refreshing our in store signage in online content with new guides, tutorials and project ideas to inspire both the novice and the enthusiast to use more paint in more places. Leveraging the capabilities of the Darice product development team, we've recently expanded our wedding category into Michaels stores and in online adding new SKUs designed by David Tutera, a celebrity wedding planner and host of the television show of My Fair Wedding. In addition to adding 7.5 feet in stores of new David Tutera's SKU developed exclusively for Michaels by Darice, we also now carry his entire bridal collection on michaels.com. And finally building on the success we've seen in paper crafting, we're adding new exclusive brands like Siser heat transfer vinyl and expanding our assortment of Cricut machines and accessories both in stores and online. We're expanding our Cricut in store assortment by 25% and adding an additional 300 SKUs on michaels.com. With these expansions, I'm confident Michaels will become the number one destination for all things Cricut. As we refreshed key categories with more newness and exclusives, we're simultaneous taking steps to strengthen our value perception. This quarter we expanded our everyday value program to a total of 100 items for about 1000 SKUs and the customer has responded well resulting in nice double digit sales growth of this program. Using highly visible presentations on key end caps, and as part of the check out, we're reinforcing our commitment to providing customers with everyday values on core crafting essentials. With these items, customers never have to wait for a sale or a coupon. In addition to our everyday value program, we're leveraging whole dollar price points on key end caps within the store and in the drive out to reinforce the values we offer. And finally at the end of the quarter, we launched a new price guarantee program. If the customer finds a lower price on an identical in stock item elsewhere including online, we will beat it by 10%. From a customer communication standpoint, we continue to leverage our leadership position to build brand awareness and engage customers, particularly the novice customer. This quarter, we expanded our broadcast partnership with Good Morning America and integrated events from Good Morning America into unique fun in store event. These combined with our free and paid classes, kids club and other family friendly make-break events resulted in more than 400,000 in store customer experiences which was an increase of more than 50% over the first quarter of 2016. We are also expanding our digital reach with new Facebook live videos, content created exclusively for Michaels by Darby Smart in the launch of our second season of our digital contents series The Make Up may cause with new and unlikely makers including Clay Matthews, Rob Lowe, Littlejohn and Wanda Sykes. To date, we have garnered 22 million views and more than 1 billion impressions. Based on the social media's feedback, these efforts are helping us to build greater brand equity with both new and existing customers and our reinforcing that Michaels has more relevant and more inclusive and makes it easier for anyone to make. We continue to expand membership of our loyalty program Michaels Rewards. During the first quarter, we acquired almost 3 million new loyalty members bringing the Michaels Rewards program to 16.5 million active members and this represents about 46% of our sales during the first quarter. Today, our Michaels Rewards program has enabled us to associate more of our transactions with unique customer data, giving us the opportunity to better target our customer communications. And although the arts and crafts industry is characterized by low trip frequency, we remain confident that overtime the improved data will enhance our CRM capabilities and help us tailor our promotions more effectively. We believe we are starting to see some of these tangible benefits in our sales trends with our core customer base. Overall, we did spend more on marketing in Q1 compared to last year. This was a strategic decision to capture more share of wallet from our enthusiast customer as well as more trips from our more casual novice customer. We are pleased with our results with the enthusiast, but our efforts for the more casual customer are harder to read partially due to the headwinds of last year's coloring trend. Nonetheless, we believe we will continue to gain share with the enthusiast and overtime convert the casual shopper into a more frequent customer. We recognized that this effort will take time and hope to get a cleaner view in the second half of the year. Even as we continue to invest to support the Michaels brand, we are also investing in other businesses to expand our overall market share. With the acquisition of Lamrite West last year, we acquired a string well established B2B platform in Darice, the number one wholesale distributor in the arts and crafts, gift and decor industry. We see tangible growth opportunities for this business as we leverage Darice's product development and licensing capabilities to expand their portfolio of product exclusives like Martha Stewart and David Tutera. Furthermore, Darice will leverage Michaels' capabilities to expand the Darice catalog into new categories. As we turn to the balance of the year, we have seen nothing operationally to warrant of change in our annual outlook. We continue to believe the top line trends will improve in the second half as we anniversary the 2016 coloring headwinds, the disruption created from our store layout changes made in the third quarter of last year, and finally the U.S. election in the third quarter. In closing, I want to reiterate my confidence in the long-term opportunity for the Michaels Companies. We're the leader in a stable channel and operating business model, which generates retail industry leading operating margins and cash flows. As a leadership team, we're committed to maintaining our number one position in arts and crafts with a disciplined focus on creating a more inclusive and experimental shopping experience, both online and in stores, a commitment to offering customers more trend wide and exclusive products. And the combination of our strong CRM capabilities with an impactful mass marketing effort, we believe we can expand our leadership position to drive attractive shareholder returns. With that, I'll turn the call over to Denise for a more detailed discussion of our financial performance. Denise?

[Denise Paulonis:]

Thanks and good morning. Our first quarter net sales were $1.16 billion flat with sales last year. Comparable store sales for the quarter decreased 1.2%, driven by a decrease in average ticket. Our results were negatively impacted by the comparison against the coloring trend from the first quarter last year as well as some weather disruption that persisted through early April. Excluding the impact of lapping the coloring trend, our comparable store sales would have been positive. During the quarter, we opened three new Michaels stores. We also closed one Michaels store and five Aaron Brothers stores during the quarter, so our total store count for all brands at the end of the quarter was 1,364 stores. Gross profit dollars for the quarter grew 0.6% to $468 million and our gross profit rate for the quarter increased 30 basis points to 40.4% of sales versus 40.1% of sales last year; excluding the impact of $3.6 million of non-recurring inventory related purchase accounting adjustment related to Lamrite acquisition recorded in Q1 last year, gross margin rate was flat year-over-year. Within this, we saw an increase in our product margin in the first quarter, driven by benefits from our ongoing sourcing effort and pricing optimization effort, some of which was invested in promotion. Of note, we did see the positive impact of lapping the lower margin rate coloring book trend in our probably margin. Excluding this benefit, our product margin would still have been nicely up from the first quarter of 2016. The increase in product margin was offset by higher inventory shrinkage and occupancy cost deleverage. After several years of steady well-controlled trend performance, we saw an increase in inventory shrinkage in the stores inventory in the first quarter. As a reminder, we inventory every store at least once a year and we conduct store inventories January through October. The increase is largely linked to a sales mix shift to naturally higher shrinking categories, and we're taking steps where we can to adjust the trend. However, it is likely that shrink will remain a headwind for the rest of the year. Finally, as expected we saw modest occupancy deleverage resulting from a negative comp. Total store rent expense for the quarter was $99 million versus $96 million last year with the increase due to a net 12 additional stores. Selling, general and administrative expense in the quarter including store preopening costs increased 2.8% to $328 million compared to $319 million in the quarter last year. As a percentage of sales, SG&A expense increased 17 basis points to 28.3% of sales compared to 27.6% of sales in the first quarter of last year. The increase in SG&A expense was primarily due to expenses associated with the operation of 12 net new stores. The incremental marketing investments Chuck discussed earlier and higher health care expenses related to higher claim. As a reminder, we also anniversaried approximately 4 million in insurance reimbursements recorded in the first quarter of 2016 related to our 2014 data breach. This increase in SG&A was partially offset by the anniversarying of $4 million of integration expense recorded in the first quarter of fiscal 2016 related to the acquisition of Lamrite West and/or consulting fees related to our store posting effort as compared to the first quarter of last year. As a result, we delivered operating income of $139 million or 12% of sales. For the quarter, interest expense was $30 million. This was $2 million lower than the first quarter of last year. The decrease was due to interest savings from the refinancing of our asset-based lending facility and our term loan credit facility last year. The effective tax rate for the first quarter this year was 33.7% compared to 37.2% in the first quarter last year. As expected we benefited from our global sourcing initiative, which has lowered consolidated tax rate. As we previously discussed, our expanded sourcing operations in China and Hong Kong provide us with the opportunity to negotiate lower cost give us more control over the manufacturing process and will enable us to deliver even more value to our customers. In addition, we recognized $900,000 of excess tax benefit proceed with the adoption, the new accounting requirement related to the tax impact of share base compensation. Reflecting the impact of these factors, we delivered net income for the quarter of $72 million or $0.38 per diluted common share. Now turning to the balance sheet, total merchandise inventory was $1.1 billion, up 4% from the end of first quarter of fiscal 2016. On the per store basis, inventory levels were 2% higher than at the end of the first quarter last year, reflecting investments made this for trends like Slime and our seasonal assortment for the second quarter. At the end of the quarter, cash on the balance sheet was $198 million. Total debt was $2.8 billion and our revolver availability was $728 million. Capital expenditures for the quarter were $16 million compared to $15 million in the first quarter of fiscal 2016. We continue to expect capital expenditures for 2017 will be between 125 million and 135 million reflecting our planned POF upgrade and other technology investment. Finally, as we discussed on our last earnings call, we purchased 4.8 million shares during the quarter or about $99 million. This fully utilized the remaining availability under our share repurchase authorization. As we come to the balance of the year, we see nothing operationally but large change our full year 2017 outlook. From a constant currency prospective, we still expect the year to play out largely as expected with identified expense savings expected to offset headwinds from inventory strength. However, the value of the Canadian dollar has weakened since our last call and while the impact was immaterial in the first quarter, we have adjusted our full year guidance to reflect our expectations with this currency trend persist for the rest of the year. We’ve modeled our estimate at constant monthly Canadian exchange rate of $1.36 for the rest of fiscal 2017. If the $36 exchange rate holds, we expect 4 million in sales and $1.5 million of operating income pressure. Any of these changes from this assumption will impact our performance. All-in-all for fiscal 2017, we continue to plan a net sales increase of between 2.2% and 3.7% or 2.5% to 4% on a constant currency basis. Comp store sales to be down 0.02% to up 1.3% or flat to up 1.5% on a constant currency basis, operating income to be between $723 million and $756 million. As a remainder, this guidance includes approximately 40 million to 50 million in sourcing benefit and the impact of the anniversarying a $46 million decrease in performance based compensation in 2016. We are planning interest expense of approximately $131 million reflecting ongoing benefits from that refinancing of our ABL and the successful amendment of our term-loan credit facility in fiscal 2016. We expect the effective tax rate for the full year to be between 34% and 35% and fully diluted earnings per share should be in the range of $2.03 to $2.15 based on approximately 190 million diluted weighted average common shares for the full year. As a remainder, fiscal 2017 is a 53-week year and the sales impact of the 53rd week a non-comp week is planned to be approximately $80 million. Now, turning to Q2, I would remind you Q2 is historically our lowest sales volume quarter. For the quarter, we anticipate comp store sales will be in the range of down 0.5% to down 1.5%. On a constant currency basis, we expect comp store sales to be flat to down 1%, which will be in modest improvement from the first quarter. This outlook includes an assumption that we will continue to face headwinds from last year's coloring trend in the second quarter. As we discussed on prior calls, we do expect these headwinds will become less of the factor as we move to the quarter. We planned to open four new Michaels store, relocate two Michael stores and closed four Aaron Brothers stores during the quarter. We expect operating income for the quarter will be between $75 million and $80 million. This expectation reflects that the positive impact of enforcing benefit will be offset by higher shrink, some SG&A deleverage and the impacted incremental marketing efforts in the quarter. Our Q2 guidance for the fully diluted earnings per common share is $0.15 to $0.17 assuming a diluted weighted average common share count of $189 million. Even a shrink we have seen with our core customers, the natural tailwinds to comp sales is relapsed challenges from last year and our focus on disciplined cost management, we remained confident our trends will improve in the second half of 2017. We look forward to sharing more details on how we intend to increase shareholder value over the next few years at our Investor Day on June 15th. And with that, I would like to open up the call to take your questions. Phil?

[Operator:]

Thanks. We'll begin the question-and-answer session. [Operator Instruction] The first question comes from Simeon Gutman with Morgan Stanley. Please go ahead.

[Simeon Gutman:]

My first question is how much in sourcing savings will realize in Q1? And I am asking in the context of bigger picture because of the full year guidance now imply the pretty healthy step in the back half? And I am just thinking through, is you guidance for the back half and achieving the EBIT dollars that you have given that simply predicated on the comps improving and incremental margin getting better? Or does it need some other help from some other margin drivers?

[Denise Paulonis:]

So, Simeon, this is Denise. Good morning. And let me answer your question by stepping back first and putting margin into a bit of perspective and then I'll answer your question specifically about sourcing. When we guided for the full year, we guided to generally flattish operating income margin versus last year at about 14%. And when we gave that guide, we said that sourcing was going to be the key uptick benefit that was really going to compensate or needing to lap the performance based incentive comp, give back that we had last year. In the nature of providing that guidance, we also talked about the fact that we would end up with some SG&A deleverage in the first half of the year returning to SG&A leverage in the back half of the year, and that is predicated on that changing comp trend, and so that is still what we're anticipating at this point in time. The only new news is the comment that I made about shrink, and so we're working hard off that with any cost savings that we can but that's we're working to do. Specifically on your question about sourcing, when we look at sourcing, we really think that it's going to flow through in general as sales flows through the year. So, we're not going to quantify in dollars every quarter as we go through, but it's safe to assume that that's generally the way at point flows through, give or take. And also broadly talking about the second half, the other piece I want to mention is that we're expecting a comp acceleration in the second half versus what we saw in the first half, but I'd remind everyone that when you look at that on a two year stack basis, it's a midpoint of our guidance we're expecting a very modest increase in comp performance from the first half to the back half. And if you simply look at lapping the coloring challenge, the election from last year, our seasonal path reset and then some weather, you can pretty easily get to that midpoint of the guidance range. Certainly, we've work to do to get there, but I think it puts in a bit of a context why we've reasons to believe in that comp.

[Simeon Gutman:]

And then my follow-up maybe for Chuck, can you talk about the competitiveness seeing and using, and I think in the fourth quarter you've tested some gross margin investments that you said you would get smarter on, and in this quarter, it looks like you stepped up the marketing. Are these tactics needed to protect the current shares or these things going to continue in the second quarter, but could you let us give us the gas level on this stuff for the back half of the year?

[Chuck Rubin:]

Well, the marketing that we stepped up on wasn't discount marketing, it was more -- I did need to call brand building, but we did a fair amount of television. We did a lot of events in store. It was much more trying to support the brand and talk about making and try to get the -- this novice customer especially engaged in a more frequent level. The level of discounting that we did is -- I think Denise mentioned in her prepared comments, our product margins were higher year-over-year. So from the Michaels standpoint, overall, we were not more promotional. There were -- as we continue to better target our promotions, there were certain segments of customers on certain timeframes that we went deeper then we may have with our segments, but overall I wouldn't say that we were more aggressive on a discount basis. From a competitive standpoint, it continues to be a very promotional environment but as we talked on the fourth quarter call I think we were going to be -- we continue to get smarter about how to use these discount dollars. There's still room of improvement by all means, but first quarter we made some progress. So, the punch line though to me in this -- some incremental marketing spend was not to advertise more discount, it was to advertise the Company more aggressively.

[Operator:]

The next question comes from Seth Sigman with Credit Suisse. Please go ahead.

[Seth Sigman:]

I wanted to follow up on the comp and the progression for the quarter. It sounds like a lot of the weakness with in February. Can you give us a sense of comp over the March-April period combined, if you would have normalized for Easter? And then if you could tie that in with comps and the guidance that you gave for the second quarter and how you're thinking about that, that would be helpful?

[Denise Paulonis:]

Sure, so Seth good morning, it's Denise. I wanted to let you know -- as you think about comps in Q1, they did progressively get better. You specifically asked, what happen if you combined March and April, you would end up with slightly positive comps over that combined time period. So, February was hit quite hard by weather and then things got progressively better through the quarter. Of note, weather was actually more of a factor post of giving our guidance than what we anticipated. It's very odd end up seeing significant weather post early March when we would have reported, but we actually saw a significant impact in weather all the way through the first week of April. As we turn to the second quarter, we're generally pleased with where May is headed. There is a long way to go from quarter, but what we've seen in May is reflected in our current guidance.

[Chuck Rubin:]

The only thing I would add Seth is as Denise said, Q2 is the smallest revenue quarter, so relatively small fluctuations below through our company numbers, pretty aggressively given that low volume, the natural low volume that we have.

[Seth Sigman:]

Okay that's helpful. And then my follow-up question is just around down thing sales at March, a lot of discussions over the last couple of quarters about sharpening pricing and for discounts and perhaps in the past. Can you just help us understand to-date what has been most effective as you tested some of these vehicles, right? And then as you look out over the longer term, I mean this quarter sales were little bit weaker, but product margin was actually better, but you feel like that actually need to go deeper on price?

[Chuck Rubin:]

It is a very aggressive promotional environment, there is a lot of promotion across lot of different players, but the improvements we've made, what we’re seeing progress on is our CRM efforts continue to make progress. I've talked about this before. I'm very, very bullish about the opportunity leveraging our data, we've great data. The limitation on it is frequency of the customers shopping and we will talk more about this during the investor day next week that we’re hosting. But we did, we’re making incremental progress in how to target some of our promotions. The step up as I just said that we had in the first quarter when our marketing spend really wasn’t focused on the discount, it was more focused on talking about the benefits of Michaels and the benefits in front of making. The other piece of your question, I commented on my prepared comments that we’re pleased with this everyday value program which is a bunch of about a 100 items most of those are core crafting basics, something like a glue gun. That we believed that the customer didn’t want to engage as paid historically been the case on a high low basis. You want a glue gun, you want good price everyday and that's what we did we converted those items to that program, so they are excluded from any of our discounts. And we were very pleased with the response that we saw on those items, we do not see this growing to be a large part of our business because it's just inherent in this industry that its high-low but were pleased with those core basics and what we’ve seen there. And then finally, if you know the -- some other key price point things that we've done, if you walk into our stores today you will see rounded price point from a lot of summer product. Those things just projecting the value image a bit stronger with a bit more inventory on some of these key items, we think that we are making some progress on that. Underlying all of this, we are fortunate as Denise said in her comments, this sourcing program, both the sourcing efforts that we have had then now augmented by our own offices in China, gives us a great deal of fire power to be able to balance the margin needs that we have to continue to move our business forward and so deliver product margins better improving.

[Operator:]

And the next question comes from Steven Forbes with Guggenheim Securities. Please go ahead.

[Steven Forbes:]

I wanted to start with a question on category management. You mentioned that you reassessed on the call, but are there any new adjacent price categories that would potentially carry limited risk and help drive traffic? And then the reason I ask because maybe on the back of our most recent store visits, we thought about Helium balloons as an expansion into party. So, I would just love to hear your high level thoughts on how you are thinking currently about future product category opportunities outside the reassessed? And maybe just touch on how Darice can help you with that initiative?

[Chuck Rubin:]

So here again, we are going to talk more about this next week at our Investor Day, but yes there are some adjacencies in this and you are seeing them show up in three places. One, clearly we are trying some new things in Michaels stores. But secondly, we are expanding some categories into online, more aggressively it's either an extension of a category that we are in already at Michaels, but we are expanding the offering online or a new category. We don’t talk a lot about because it's still early, but we offer fabric as an example at michaels.com. And then the third track in addition to Michaels in our website is pocketing. I would remind everybody, we have about 35 stores in the upper mid west, we acquire as part of the lamplight west acquisition. And we are using that chain as also a testing ground. So if you walk into pocketing stores today, you will see a full fabric offering, you will also see a much expanded party offering as an example. So that becomes a an easier, more rapid testing ground for us and sometimes testing in the 1,200 store, mother ship of Michaels. So to answer your question more succinctly, yes, you will see us expanding and testing into adjacent categories and impacts this already happening.

[Steven Forbes:]

And then maybe as a follow-up kind of going on alone with the promotional your interest in industry, so the work you are doing with Revionics the tweak, the cadence and the timing of promotions. Where are we within that process? And can you expand or touch on any of the learnings from those initiatives that thus far like given the increase in frequency and depth of promotion you are seeing?

[Chuck Rubin:]

Yes, first I would like to -- the work that we are doing around, this is a Michaels initiatives and we have -- the partners that we are using, I don’t -- rather not go into that direction, but the reality is as I have said so many times, this is a very promotional industry, I wish it wasn’t, I wish it wasn’t as high low as it is, but it is. We have an opportunity to better target, how we spent these discount dollars. And we talked in the fourth quarter that there were some promotions we stepped up and we learned a lot about them. Some of them were effective, some of them weren’t. It is frustrating right now that customer predictability on some specific promotions does vary from the first time you run it to the next time you run it. So, it does make it very hard on our teams to do this in a very targeted fashion. With that said when you leverage our focus, the analytics around our customer data that we've, our analytics around our promotional elasticity, we are making progress on using those discount dollars smarter. We all the way to where we need to be by no means, we've got a long way to go, we're in a very early innings of this, but we're -- I'm pleased that we're making some progress. Some of the learnings that resulted from this as an example have been the everyday value program, the direct output of the bunch of the analysis that we've done. And our growth with our core customers, our positive comp with our core customers in the first quarter and actually it predates even the first quarter we saw positive growth with our core customer last year as well. We think a good part of that is through more targeted promotional dollars, giving a more promotionally sensitive customer maybe a deeper discount and some of his less promotionally sensitive a lesser discount, so a good progress but a long way to go.

[Operator:]

The next question comes from Matt Fassler with Goldman Sachs. Please go ahead.

[Matt Fassler:]

My first question relates to some of the trends that we've seen in the first quarter and sort of contextualizing them versus other trends that we've seen in the past. I know that we're recycling coloring and I know that that was particularly big business for you, one of those businesses that you kind of broke and owned. We did have Slime and I guess it was more broadly distributed across a broader competitive set. I'm not sure how significant fidget spinners were for you clearly kind of in the toy category, they were meaningful. So, how would you characterize the slate hits for the marketplace and for Michaels in particular relative to the importance of coloring last year? And I guess part and parcel of that, is there anything that you see now that is -- has high potential for the second half of the year?

[Chuck Rubin:]

Well, Matt, we've kind of categorized these hits using baseball jargon. So, Rainbow Loom was a grand slam. Coloring was a triple or a homerun. Slime has been very good, it has not approached the level of coloring, but it has been a very good trend. You touched on fidget spinners. Our understanding is they're very good in the toy space. We do have them, we're selling them, we tend to focus more on items that are less toy oriented and more that have something that you're making like Slime or Rainbow Loom, and also clearly we like things that have a consumable component to them. Slime has been great as an example because you've to buy a lot of glue to keep making it. As you look forward into the balance of the year, clearly, we see singles and we see maybe a double or two, but at this point we don't see a homerun. The good news for us and back to Denise's comments on the back half, we cycle through and we don't have -- we're not anniversarying anything significant at the back half of this year. And therefore, we feel more comfortable that when we get to the back half of this year, the air that we're going to fly through is a lot smoother then we've been flying through right now.

[Matt Fassler:]

My follow-up question, so you spoke about traffic being better than trend, and I know you haven't been specific about traffic and ticket, but it sounds like it was up. You also spoke about the casual customer getting a little less traction perhaps with the casual customer relative to your core customers. Is the correct read here then that your core customer is coming more often and that you're building frequency with that customer?

[Chuck Rubin:]

The short answer is yes. The long answer is that casual novice customer, it's really hard to get a good read as I said given the coloring lap, but she shops less frequently and getting her reengaged and showing her that making as easy, and we can help her through that it's something that we're very focused on. But on that core customer that one that we call an enthusiast, we were highly confident, we're gaining share, we're seeing nice growth from her. We think that the efforts that we put forth, everything from the clean up and the stores over the past few years to our improved product, to our CRM, we think it's really expecting with her. And again back to the reason we feel more confident in the back half for this year, excluding any new incremental piece of malaise that overshadows the retail industry is once we get through the back half for the year where we have a much smoother ride in terms of comp these trends, which do tent to spike the inflow of these novice casual customers.

[Operator:]

The next question comes from Mike Baker with Deutsche Bank. Please go ahead.

[Mike Baker:]

So one question and one follow-up, first question is on framing. You said customer framing was a little bit better which I presume means less worse. Can you talk about what are you seeing there? Is there any hope for that? What kind of drag that has been? And when on the comps and when that could level off? Thanks.

[Chuck Rubin:]

It was less -- how do you less worst than -- it was better than the fourth quarter, it was worse than the overall comp that we put out, less worse my grammar experts will be unhappy if I describe it that way. Is there hope for by all means, there is hope for it, let's not forget this is an incredibly important part of our business in the following way. We're vertical, so a good part of what we sell, we not manufacture. Secondly it’s a very sticky part of our business, meaning there is a high degree of customer service, it’s a very emotional purchase because someone spending a lot of money, $150, $160, $170 to frame something. We're doing just fine with customers who are framed with us in the past. The problem that we continue to run through and we know that this is through across the industry is that new customers have -- would have some trouble getting traction, getting new customers in here. With that said, we're testing a lot of things. Remember, we have multiple go to market brands for custom frame. Michaels sells it, Aaron Brothers sells it, Pat Catan sells it. So, we're testing a variety of programs around our assortment, around our staffing model in store around some of our marketing programs. It's too soon to call success on this, but we're encouraged by a couple of pieces with that program. But the underlying point is, we're very confident in the long-term viability in this business. The margin structure is incredibly attractive, the plane sign is we believe in it and we're going to stick with it.

[Mike Baker:]

Okay thanks for that color, a follow-up question is and may be this is related is, I'm just wondering how you guys look at market share? And why you are confident that it's not impacted by Amazon or online? When I look at your conferences some industry data or some competitors, it does seems to be to bit lower, maybe that’s just because of the drag of from framing the others don’t have. But on the other hand, might adjust some share locks. So, I am wondering how you look at that?

[Chuck Rubin:]

Well, here again we are going to talk a lot about this next week. I don’t know which competitor you are looking at, but we have couple of unique things to us. One with the biggest custom framer, so it is having a negative drag in our current performance plus with a -- we play the most aggressively in some of these hot products. But with that said, in an industry that we are only the public company, in an industry that it's no goods third party tracking data, in an industry where the government categorizes us with toy and hobby which we think is a long way to categorize us. We rely on credit card -- third party credit card data, and that has indicated that we continue to gain share. But the punch line is in an industry where all the big box players combined only comprised about a third of the industry, I have no doubt that ecommerce which has been a just a tiny portion of this business is gaining share. At the same time, I also have no doubt that it is today and we will continue to be a very small part of the overall industry. So we will talk more about this next week and I hope we are going to see next week and happy to talk about Amazon in particular because fundamentally while Amazon clearly is doing business here, they are clearly a competitor. This kind of business is just not Amazon friendly. No brands, slow turning, they don’t want to own the inventory themselves so they rely on third parties in their market place and it becomes very unattractive economically for those third parties to do a whole out of business. So with all of that said, it is certainly share shift going on and as ecommerce grows, they can grow and we can grow at the same time given our fragmented the whole industry is.

[Operator:]

The next question comes from Denise Chai with Bank of America. Please go ahead.

[Denise Chai:]

So first, how you are thinking about the buyback since the exhausted your authorization and construct on what your leverage pricing?

[Denise Paulonis:]

So, Denise, good morning. We are going to talk about both of those in more detail as we get into our Investor Day next week. So, more to come at that point, I think we mentioned that we exhausted the buyback authorization that we had, so we would be looking for an increased authorization be able to do any more at this point.

[Denise Chai:]

And then secondly, you announced quite q few tie ups with Craftsy, Disney, Martha Stewart Darby Smart et cetera of interest. So, how do you measure their impact? And what are these tie ups you think could be biggest win? And what sort of time line should we be thinking about?

[Chuck Rubin:]

Denise, having one of them has kind of a different way to measure it. So, when you look at the things the products that we sell, so whether it's David Tutera, which the Michaels Companies owns exclusively or Martha, which the Michaels Companies own exclusively. Clearly, there is a way to measure of the product that we sell in the margin that we make. They are important because by owning those licenses and it's Darice who is designing product for those two and particular examples and Disney they designed as well. By virtue of having now the industry leading retailer and the industry leading wholesaler, we're now making decisions about whether to distribute those products to Michaels' stores only or potentially to distribute them to other retailers. So, those are easy to measure just by virtue of them be product. When you look at other relationships like Craftsy, that's not -- we've the exclusive relationship in this industry. but clearly they've an independent business. So that too is easy to measure, but it kind of -- it's not going to be the significant in some of these license product brands are, although it's very compelling, you may not be aware of the Craftsy, it was just acquired by NBC Universal. So, the potential of us expanding that relationship into lots of new areas as NBC Universal takes control of Craftsy, it becomes quite compelling as well, so lots of ways of measuring it, we do measure each of these pretty critically whether it's in terms of sales and margin or impressions from a marketing standpoint or in the case of educational vehicles, the number of customers who are taking them, we actually are excited about how they all aggregate together, back to the earlier question about our marketing spend, and our discount dollars, we're trying to build reasons to shop at the Michaels company stores, beyond just a discount dollar and all these relationships are core to that foundation.

[Kiley Rawlins:]

So, I think we've time for one last question.

[Operator:]

Okay. Thank you. The next question comes from David Magee with SunTrust. Please go ahead.

[David Magee:]

Chuck, you mentioned a high level promotional nature of the business right now, and I'm curious whether you think that that this is a steady-state from here on out for crafting?

[Chuck Rubin:]

Unfortunately, David, we see in terms of radical changes we don't see it changing, I wish that it could, but we're all aware of companies that have been too aggressive in pulling off of their high-low, and some of the disastrous effects of that and we're sensitive to that. When we talk about the everyday -- when we talk about the everyday value product that we introduced, I was restated. We're excited about how that program is doing, but it's going to be a very small part of our overall business. The customer over time has been trained on coupons. This is not just the past couple of years, coupons and discounts. This is decades old in this industry. And while we're trying to wean off of some of it, I don't see in the near term or in the midterm any way of weaning off a bit dramatically and if we do see a path towards that end we'll pursue it but we tried it and continue to test different ways and it's just not happening. It's interesting in Canada where the competitive environment is a bit different than in the U.S., we're able to be a bit more conservative but in the U.S. the marketplace and the consumer has been built in a way that discounting is still going to be prevalent.

[David Magee:]

A quick follow-up here with regards to the sourcing benefits, it sounds like that obviously definitely been official. Is the potential there you think, what you would pulsate two years ago as you spin up more about how it works when direct and otherwise? You feel as it goes, you could have two years ago about that program?

[Chuck Rubin:]

It really -- yes, feel really good about it. I think the savings have been very good. Our teams have worked very aggressively on this. We've given you a sense of the dollar this year, this is an ongoing benefit. When you argument that now with our own offices in China, which again we bought -- when we bought Lamrite West, they had a small office in China that we've expanded to two offices. We've taken a small group of people. We have about 100 people in China. You're second a top spin to our sourcing efforts. Very, very pleased with I was gone so far and very pleased with what the future looks like. This is going to be a game changer for us. It allows us to leverage our scale in a way that we don’t believe our competitors have the ability to do.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Chuck Rubin, Chairman and CEO, for any closing remarks.

[Chuck Rubin:]

Thanks Phil. In closing, I do want to thank all of our team members as I always do, who worked very hard during the first quarter to support our progress that was made. As we look to the rest of 2017 and beyond, we do remain focused on delivering great values for our customers with more inclusive and experiential shopping experience with online and in stores, with more trend right and exclusive products and with more targeted and impactful marketing. As we pursue our Vision 2020 strategy, we believe we can continue to leverage our size and capabilities to expand our leadership position and drive attractive shareholder returns. Again, thanks to everybody for joining us today. We look forward to sharing our second quarter results with you in August and hope to see all of you next week in Boston at our Investor Day. Thank you.

[Operator:]

This conference has now concluded. Thank you for attending today's presentation. You may now disconnect.