Monro - Q3 2024

Transcript

Operator (participant)

Good morning, ladies and gentlemen, and welcome to Monro Inc.'s earnings conference call for the third quarter of fiscal 2024. At this time, all participants are in a listen-only mode. Later, we will conduct a Q&A session, and instructions will follow at that time. If anyone should require assistance during the call, please press star zero on your touchtone phone. As a reminder, 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 Felix Veksler, Senior Director of Investor Relations at Monro. Please go ahead.

Felix Veksler (Senior Director of Investor Relations)

Thank you. Hello, everyone, and thank you for joining us on this morning's call. Before we get started, please note that as part of this call, we will be referencing a presentation that is available on the investor section of our website at corporate.monro.com/investors. If I could draw your attention to the Safe Harbor statement on slide two, I'd like to remind participants that our presentation includes some forward-looking statements about Monro's future performance. Actual results may differ materially from those suggested by our comments today. The most significant factors that could affect future results are outlined in Monro's filings with the SEC and in our earnings release. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by law.

Additionally, on today's call, management statements include a discussion of certain non-GAAP financial measures, which are intended to supplement and not be substitutes for comparable GAAP measures. Reconciliations of such supplemental information to the comparable GAAP measures will be included as part of today's presentation and in our earnings release. With that, I'd like to turn the call over to Monro's President and Chief Executive Officer, Michael Broderick.

Michael Broderick (President and CEO)

Thank you, Felix, and good morning, everyone. I'd like to spend the first part of our call this morning walking through our third quarter performance, which reflected top-line results that were challenged. This was due to milder weather, as well as a pressured low to middle income consumer that continued to defer purchases in our high ticket tire category. This was clearly evidenced by an industry-wide slowdown in tire unit sales in the regions of the country where a vast majority of our store footprint is concentrated. We continued to mitigate the impact of this slowdown with actions to reduce non-productive labor costs. Despite a tough macroeconomic environment, the resiliency of our business model and the actions that we've taken allowed us to expand gross margin in the quarter.

I'll also discuss our plans to deliver an improvement in our diluted earnings per share this fiscal year, despite some of the consumer-related headwinds that we and others in our industry are experiencing. Before I get started, I'd like to recognize and thank all our teammates for serving the needs of our customers. Now, turning to our third quarter results. Our third quarter comparable store sales declined approximately 6% from the prior year period. Comp store sales in our 300 smaller underperforming stores were consistent with our overall comp in the quarter. As I stated earlier, our sales results in the quarter continued to be challenged by consumer deferrals of tire purchases, as evidenced by an industry-wide slowdown in tire unit sales. This led to pressured store traffic, which was not supportive to sales of our higher margin service categories in the quarter.

While our tire units were down approximately 14%, leveraging the strength of our manufacturer funded promotions allowed us to optimize our assortment for improved tire profitability in the quarter. And while continued consumer trade down dynamics led to a higher proportion of lower margin opening price point tires within overall industry unit sales, we remained focused on maintaining a healthy mix of opening price point tires in the quarter. Encouragingly, based on retail sellout data from Torqata, a subsidiary of ATD, our tire market share remained broadly in line with the overall market in our higher margin tiers. We continued to mitigate this industry-wide slowdown in tires with actions to reduce non-productive labor costs, including overtime hours in our stores, which were down 25% year-over-year. This allowed us to expand gross margin even on lower sales volumes.

We will continue to closely manage our labor costs and expense to maximize profitability. Now, concluding with our plans to deliver an improvement in our diluted earnings per share this fiscal year, despite a choppy consumer environment. While our preliminary comp store sales for fiscal January are down approximately 6% due to softness in the first half of the month, comps have accelerated materially in the last two weeks with the return of normal seasonal weather. We have some easier prior year compares in February and March, but given the current pressures on the consumer, we no longer expect to grow full year sales. However, we do expect full year diluted earnings per share to be higher versus prior year.

This will be driven by actions we've taken to successfully reposition our cost structure, as well as expanding our gross margin through properly training our teammates to maximize their productivity and optimizing our tire assortment for improved profitability. We will continue to remain relentlessly focused on improving our 300 small or underperforming stores, maintaining a balanced approach between our tire and service categories with competitive pricing to drive store traffic and continuously improving our customer experience. In addition, we will continue to create cash by optimizing inventory and leveraging the strength of our vendor partners for better availability, quality, and cost of parts and tires in our stores.

In closing, despite the challenges posed by the current macroeconomic environment, our business continues to be well positioned, and we are confident that we remain on a path to restore our gross margins back to pre-COVID levels, with double-digit operating margins over the longer term. With that, I'll now turn the call over to Brian, who will provide an overview of Monro's third quarter performance, strong financial position, and additional color regarding the remainder of fiscal 2024. Brian?

Brian D’Ambrosia (EVP and CFO)

Thank you, Mike, and good morning, everyone. Turning to slide eight, sales decreased 5.2% year-over-year to $317.7 million in the third quarter, which was primarily due to lower tire unit sales. Comparable store sales decreased 6.1%, and sales from new stores increased approximately $1 million. Gross margin increased 170 basis points compared to the prior year, primarily resulting from lower material costs and technician labor costs as a percentage of sales, which were partially offset by higher distribution and occupancy costs as a percentage of sales. Total operating expenses were $91.3 million or 28.7% of sales, as compared to $89.6 million or 26.7% of sales in the prior year period.

The increase as a percentage of sales was principally due to lower year-over-year comparable store sales. Operating income for the third quarter declined to $21.4 million or 6.7% of sales. This is compared to $23.8 million or 7.1% of sales in the prior year period. Net interest expense decreased to $5 million as compared to $5.9 million in the same period last year. This was principally due to a decrease in weighted average debt. Income tax expense was approximately $4.2 million or an effective tax rate of 25.8%, which is compared to $5 million or an effective tax rate of 27.6% in the prior year period.

Net income was approximately $12.2 million, as compared to $13 million in the same period last year. Diluted earnings per share was $0.38, compared to $0.41 for the same period last year. Adjusted diluted earnings per share, a non-GAAP measure, was $0.39, and this is compared to adjusted diluted earnings per share of $0.43 in the third quarter of fiscal 2023. Please refer to our reconciliation of adjusted diluted EPS in this morning's earnings press release and on slide eight in our earnings presentation for further details regarding excluded items in the third quarter of both fiscal years. As highlighted on slide nine, we continue to maintain a very solid financial position.

We generated $130 million of cash from operations during the first nine months of fiscal 2024, including $30 million in working capital reductions. This has reduced our cash conversion cycle by approximately 60 days at the end of the third quarter compared to the prior year period. Our AP to inventory ratio at the end of the third quarter was 179% versus 178% at the end of fiscal 2023. We received $16 million in divestiture proceeds, and we invested $19 million in capital expenditures, spent $29 million in principal payments for financing leases, and distributed $27 million in dividends.

Lastly, repurchases of our common stock were approximately $44 million under our share repurchase program, which authorizes us to repurchase up to $150 million of the company's common stock. We've used our significant cash flow to reduce invested capital by $83 million during the first nine months of fiscal 2024. At the end of the third quarter, we had bank debt of $94 million, cash and cash equivalents of $24 million, and a net bank debt to EBITDA ratio of 0.5x. While we're not providing guidance for the remainder of fiscal 2024, we are providing color to assist in your modeling. We expect lower year-over-year full-year sales, inclusive of an extra week in our fourth quarter.

We expect to drive year-over-year improvements in our gross margin through pricing actions, tire mix optimization, and productivity improvements from our labor investments, which will be partially offset by continued wage inflation. Total operating expenses as a percentage of sales are expected to be higher year-over-year due to increases in direct and departmental costs to support our store base, as well as the impact of inflation and lower sales volume. Our tax rate should be approximately 25% for fiscal 2024. Regarding our capital expenditures, we expect to spend approximately $30 million-$35 million in fiscal 2024. We also expect to continue improving our operating cash flow, driven by continued working capital reductions. Our balanced approach of returning capital to shareholders through dividends and share repurchases, as well as opportunistically completing value-enhancing acquisitions, is expected to meaningfully increase our return on invested capital.

With that, I will now turn the call back over to Mike for some closing remarks.

Michael Broderick (President and CEO)

Thanks, Brian. We remain laser focused on our initiatives to improve sales, expand margins, and create cash. Although we still have important work to do, we are well positioned to execute our growth strategy and deliver long-term value creation for our shareholders. With that, I will now turn it over to the operator for questions.

Operator (participant)

Thank you. If you would like to ask a question, please press star one on your telephone keypad. If you change your mind and wish to withdraw your question, please press star two. In the interest of time and fairness, we ask all participants to limit themselves to one question and one follow-up initially during the Q&A session. Our first question comes from David Lantz from Wells Fargo. Please go ahead.

David Lantz (VP of Equity Research)

Hey, good morning, guys. Thanks for taking my questions. So I was just curious if you could talk about the quarter-to-date comp trends in a bit more detail. It sounds like the first half of January was pretty challenging, but second half has improved a lot. So I was just curious about that.

Michael Broderick (President and CEO)

David, good morning, this is Mike. Just to give you clarity on what we're seeing, the first two weeks were very soft, driven by a shift in the holiday. So I basically gained two Sundays, but lost two very important Mondays, and I do much more business on Monday, so that contributed to a soft comp. And then it was just a continue on of a weather story and the tire story. As soon as the weather came back, which happened in the last two weeks of the month, everything normalized, our tire business came back, our business turned in a very different position, and the way we characterize it was a, a significant difference between the first two weeks and the second two weeks.

David Lantz (VP of Equity Research)

Got it. That's helpful. And then gross margins were a standout in the quarter, so I was just curious if you could talk through what's structural there and how many overtime hours you have to reduce still, and what kind of lever that could be?

Michael Broderick (President and CEO)

Sure. This is Mike again. Just, when you look at material margins, that is partly was contributed to the decisions we made around the change in our tire assortment. So the team really did a nice job bringing to life our tier 1 through 3, as we've talked about in the past. That was a more profitable tire, better tire for our customer. Number two is when we look at the tire decline, obviously, our service categories drive a higher margin, so that contributed to it. And last but not least, the team did a really great job of controlling payroll. When you look at overtime, actually, we were down year-over-year, but sequentially, we actually invested in overtime in order to meet some of the customer demands.

And I really pay attention to that because I never want to cap our sales. So we've talked about this in the past. I'll invest in overtime, I'll invest in our people in order to meet demand, and I continue to do that, but ultimately, what we're focused on is non-productive payroll, making sure our technicians are earning their fair wages and our customers are being served.

Brian D’Ambrosia (EVP and CFO)

Just to follow up on that, to give, put some numbers to the pieces that Mike described. The material cost benefit was about 190 basis points in the quarter for the reasons Mike explained. The technician benefit, technician labor cost as a percent of sales improved 40 basis points year-over-year. And we did see a 60 basis point headwind related to distribution and occupancy costs as they delevered on lower comp sales. That nets out to the 170 basis point margin improvement.

David Lantz (VP of Equity Research)

Got it. Thanks, guys. That's super helpful.

Michael Broderick (President and CEO)

Thanks, David.

Brian D’Ambrosia (EVP and CFO)

Thank you.

Operator (participant)

Our next question is from Bret Jordan at Jefferies. Please go ahead.

Bret Jordan (Managing Director)

Hey, good morning, guys.

Michael Broderick (President and CEO)

Good morning, Bret.

Bret Jordan (Managing Director)

Could you break out in the comp, the composition of car count versus price?

Michael Broderick (President and CEO)

Sure. When we look at our overall car count, it was down 8%. Price was up, average sales price was up 3%. Let me go deeper into that. On tire, we were down 14% in units, up 5% in ticket. Once again, going back to our mix, change that we started last January. When I look at our service business, it was basically down 3% and average ticket was flat. I do want to call out, this P&L would look much different, much different if we ran down 3%. The team is doing a good job controlling expenses, contributing, moving our margins in the right direction.

I feel confident that now that we have most of the OPP tire conversation behind us, now we've lapped it a year, I feel confident we get back to a more normal conversation around our tire assortment, and I'm looking forward to a more normal customer environment where we get this thing growing again.

Bret Jordan (Managing Director)

Okay. And then the contribution from working capital, you know, sort of what's left in that, in that tank as far as incremental cash to squeeze off the balance sheet?

Brian D’Ambrosia (EVP and CFO)

Yeah, Bret, as we talked about on the last call, we're in the later innings of that, but there's still opportunity. So we think that our cash flow will continue to be supported by not only the profit growth, but also working capital improvements. Certainly not, don't expect to give back any of that working capital and believe that there's additional benefit to come.

Bret Jordan (Managing Director)

Okay. Brian, could you give us the monthly comps?

Brian D’Ambrosia (EVP and CFO)

Sure. Down 5.7% in October, down 6.6% in November, down 5.6% in December, and then the preliminary January month to date, down 6%.

Bret Jordan (Managing Director)

Okay, great. Thank you.

Operator (participant)

Our next question [crosstalk] is from Brian Nagel at Oppenheimer. Please go ahead.

Brian Nagel (Managing Director and Senior Analyst)

Hey, guys, good morning.

Michael Broderick (President and CEO)

Good morning, Brian.

Brian D’Ambrosia (EVP and CFO)

Good morning.

Brian Nagel (Managing Director and Senior Analyst)

I guess my first question is probably a bit of a follow-up, but, you know, just with regard to weather, I mean, look, it was no secret that we had a, you know, warm, warm start to the winter, so to say. But could you help us understand better, you know, the impact of the actual impact of that upon comp sales? And then also, you know, you called out again, you know, the sluggish consumer. I mean, maybe we're starting to get some signals out there that overall consumer confidence is maybe starting to improve.

I mean, so the question I have for you is, you know, behind all this noise, are you seeing, you know, some indication that, you know, maybe with your consumer confidence is improving, you know, the delayed purchases are getting less so?

Michael Broderick (President and CEO)

Yeah, Brian, let me. This is Mike. Let me, I don't want to give weekly cadence. I would say that the tire business we've talked about in the past, we were looking for a weather event. I wish we had it in the third quarter, would sure have made a different result, but when it did come, it changed dramatically. So just like what we've talked about in the past, weather did contribute to a significant tire change. I would look at the consumer and what we're still seeing are customers that used to buy four tires that are trading down to two tires and doing one tire now. So we are still seeing that deferral cycle, and until I see anything differently, I would probably say the consumer is in a rough patch.

I should be able to see a consumer that is replacing two tires minimum, they should not be just replacing one tire. And I'm just using that as an example to say, "Hey, there's something there with the consumer for, for these high-ticket tires."

Brian Nagel (Managing Director and Senior Analyst)

Okay. I appreciate it. Thanks, Mike.

Michael Broderick (President and CEO)

Thank you, Brian.

Operator (participant)

Our next question is from Daniel Imbro at Stephens Inc. Please go ahead.

Joe Enderlin (Senior Research Associate)

Hey, guys, this is Joe Enderlin on for Daniel. Thanks for taking the question.

Michael Broderick (President and CEO)

Morning, Joe.

Joe Enderlin (Senior Research Associate)

Morning. Commentary in the release says you maintain share in those higher margin tiers. Still seems like some movement in the opening price point. Have you seen the pace of that share movement slow?

Michael Broderick (President and CEO)

Well, just to be clear, the decisions we made last January, we knew we were gonna lose market share, and we were gonna give up units in opening price point. That was a decision not just with price, but with assortment. The one thing that we did not factor on, and we didn't see that in the prior two years that I was here, is tier 1 through 3 declining. That is something that, as an industry, we would never have factored in or forecasted. When I look at the customer behavior right now, without question, the customer definitely moved into tier 4, but overall tire units in the industry were down mid-single digits. So, there's a very tough environment around the tire business right now, and I'm looking forward to that actually coming back.

Once again, going back to the consumer environment right now, I would say it's shared by all.

Joe Enderlin (Senior Research Associate)

Got it. That's helpful. Just as a follow-up, could you provide some more color on how those 300 underperforming stores did versus your expectations for the quarter?

Michael Broderick (President and CEO)

Versus expectations, they missed expectations. They actually were very consistent with the rest of my chain. There was a lot of variability in the performance in those 300 stores. I would say 1/3 were extremely successful, one third met expectations, and one third fell short of my expectations. And we continue to focus on driving profitable sales through those boxes. I have talked about in prior quarters that having one or two transactions, additional transactions with tires, could significantly change the comp on some of these poor, low-volume stores. Just, just to kind of illustrate how variable some of these stores' P&L and sales performance really is.

Joe Enderlin (Senior Research Associate)

That's helpful. Thank you, guys.

Michael Broderick (President and CEO)

Thank you, Joe.

Operator (participant)

Our next question is a follow-up from Bret Jordan at Jefferies. Please go ahead.

Bret Jordan (Managing Director)

Hey, guys. I think you not too long ago made an announcement about a parts supply deal you did with a group. Could you talk about that? Does it have any impact or material impact on margin, or is it just an incremental parts supply deal, you know, in addition to the ones you already had with some of the big two-step guys?

Michael Broderick (President and CEO)

There's, we did make a deal. I would say it's incremental, but there's nothing in this quarter to talk about, and there's no margin that I would say would be something I would call out. It just gives our team another option in case they're trying to look for parts, so they can better serve their customers.

Bret Jordan (Managing Director)

Okay. And then, I guess a little bit more detail on the labor cost reduction comment. I think you said it was, you know, something in the 40 basis points benefit. Is it just reduction in labor hours or, or an absolute reduction in headcount? You know, sort of what are the big levers you can pull on the, on the labor cost side of things?

Michael Broderick (President and CEO)

Yeah, we, we did a little bit of both, but ultimately what we did is we, reduced hours, so that we could, we just really managed hours very tightly, considering that we had a tight, sales environment. And the way we did that, through less people, but more importantly, we just really restricted the hours so that, we were really flexible when the customers did come into our stores. We just managed the schedule. Going back a couple of years ago, I would say from a Monro perspective, we invested in tools, scheduling tools, to allow us to better manage our people, and the team is adapting to it, and they're doing a great job managing our biggest cost, which is our technicians.

Bret Jordan (Managing Director)

Okay, great. Thank you.

Michael Broderick (President and CEO)

Thanks, Bret.

Operator (participant)

If there are any further follow-up questions, please press star one on your telephone keypad now. We have no further questions on the line, so I will hand the call back to Michael Broderick for closing remarks.

Michael Broderick (President and CEO)

Thank you for joining us today. This continues to be an exciting time to be part of Monro. We have a strong foundation to build upon to create long-term value for all our stakeholders. I look forward to keeping you updated on our progress. Have a great day.

Operator (participant)

This concludes the conference call. Thank you very much for joining. You may now disconnect your lines.