ETHAN ALLEN INTERIORS INC. This Management's Discussion and Analysis of Financial Condition and Results of Operations (the "MD&A") is designed to provide a reader of our consolidated financial statements with a narrative from the perspective of our management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. The MD&A should be read in conjunction with our 2022 Annual Report on Form 10-K, Current Reports on Form 8-K and other filings with theSecurities and Exchange Commission (the "SEC"), and the consolidated financial statements and related notes included in this Quarterly Report on Form 10-Q.
The MD&A is presented in the following sections:
- Cautionary Note Regarding Forward-Looking Statements - Executive Overview - Key Operating Metrics - Results of Operations - Reconciliation of Non-GAAP Financial Measures - Liquidity - Capital Resources, including Material Cash Requirements - Other Arrangements - Significant Accounting Policies - Critical Accounting Estimates - Recent Accounting Pronouncements
Cautionary Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q, including the MD&A, contains
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). Generally, forward-looking statements represent management's beliefs and
assumptions concerning current expectations, projections or trends relating to
results of operations, financial results, financial condition, strategic
objectives and plans, expenses, dividends, share repurchases, liquidity, use of
cash and cash requirements, investments, future economic performance, business
and industry and the effect of the novel coronavirus ("COVID-19") pandemic on
the business operations and financial results. Such forward-looking statements
can be identified by the fact that they do not relate strictly to historical or
current facts. These forward-looking statements may include words such as
"anticipate," "estimate," "expect," "project," "plan," "intend," "believe,"
"continue," "may," "will," "short-term," "target," "outlook," "forecast,"
"future," "strategy," "opportunity," "would," "guidance," "non-recurring,"
"one-time," "unusual," "should," "likely," "COVID-19 impact," and other words
and terms of similar meaning in connection with any discussion of the timing or
nature of future operating or financial performance or other events. We derive
many of our forward-looking statements from operating budgets and forecasts,
which are based upon many detailed assumptions. While the Company believes that
its assumptions are reasonable, we caution that it is very difficult to predict
the impact of known factors and it is impossible for the Company to anticipate
all factors that could affect actual results and matters that are identified as
"short term," "non-recurring," "unusual," "one-time," or other words and terms
of similar meaning may in fact recur in one or more future financial reporting
periods.
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ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that are expected. Actual results could differ materially from those anticipated in the forward-looking statements due to a number of risks and uncertainties including, but not limited to the following: a resurgence of COVID-19 and resulting containment measures could negatively impact our ability to fulfill existing order backlog or cause changes in consumer demand; a resurgence of COVID-19 could lead to temporary closures, including our distribution centers; the Company may require additional funding from external sources, which may not be available at the levels required, or may cost more than expected; declines in certain economic conditions, which impact consumer confidence and spending; financial or operational difficulties due to competition in the residential home furnishings industry; a significant shift in consumer preference toward purchasing products online; an overall decline in the health of the economy and consumer spending has in the past and may in the future reduce consumer purchases of discretionary items; inability to maintain and enhance the Ethan Allen brand; failure to successfully anticipate or respond to changes in consumer tastes and trends in a timely manner; inability to maintain current design center locations at current costs; failure to select and secure appropriate retail locations; disruptions in the supply chain and supply chain management; fluctuations in the price, availability and quality of raw materials and imported finished goods resulting in increased costs and production delays, and which could result in a decline in sales; competition from overseas manufacturers and domestic retailers; the number of manufacturing and distribution sites may increase exposure to business disruptions and could result in higher transportation costs; current and former manufacturing and retail operations and products are subject to increasingly stringent environmental, health and safety requirements; product recalls or product safety concerns; significant increased costs or potential liabilities as a result of environmental laws and regulations aimed at combating climate change; risk to reputation and stock price related to future disclosures on Environmental, Social and Governance ("ESG") matters; extensive reliance on information technology systems to process transactions, summarize results, and manage the business and that of certain independent retailers; disruptions in both primary and back-up systems; cyber-attacks and the ability to maintain adequate cyber-security systems and procedures; loss, corruption and misappropriation of data and information relating to customers; global and local economic uncertainty may materially adversely affect manufacturing operations or sources of merchandise and international operations; changes inUnited States trade and tax policies; reliance on certain key personnel, loss of key personnel or inability to hire additional qualified personnel; a shortage of qualified labor within our operations and our supply chain; potential future asset impairment charges resulting from changes to estimates or projections used to assess assets' fair value, financial results that are lower than current estimates or determinations to close underperforming locations; access to consumer credit could be interrupted as a result of external conditions; failure to protect the Company's intellectual property; hazards and risks which may not be fully covered by insurance; and other factors disclosed in Part I, Item 1A. Risk Factors, in our 2022 Annual Report on Form 10-K, and elsewhere here in this Quarterly Report on Form 10-Q. All forward-looking statements attributable to the Company, or persons acting on its behalf, are expressly qualified in their entirety by these cautionary statements, as well as other cautionary statements. A reader should evaluate all forward-looking statements made in this Quarterly Report on Form 10-Q in the context of these risks and uncertainties. Given the risks and uncertainties surrounding forward-looking statements, you should not place undue reliance on these statements. Many of these factors are beyond our ability to control or predict. The forward-looking statements included in this Quarterly Report on Form 10-Q are made only as of the date hereof. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as otherwise required by law. Executive Overview Who We Are. Founded in 1932, Ethan Allen is a leading interior design company, manufacturer and retailer in the home furnishings marketplace. We are a global luxury home fashion brand that is vertically integrated from product design through home delivery, which offers our customers stylish product offerings, artisanal quality and personalized service. We provide interior design service to our clients and sell a full range of home furnishing products through a retail network of design centers located throughoutthe United States and abroad as well as online at ethanallen.com. Ethan Allen design centers represent a mix of locations operated by independent licensees and Company-operated locations. As ofDecember 31, 2022 , the Company operates 139 retail design centers; 135 located inthe United States and four inCanada . Our independently operated design centers are located inthe United States ,Asia , theMiddle East andEurope . We also own and operate ten manufacturing facilities, including four manufacturing plants, one sawmill, one rough mill and a kiln dry lumberyard inthe United States , two upholstery manufacturing plants inMexico and one case goods manufacturing plant inHonduras . Approximately 75% of our products are manufactured or assembled in the North American plants. We also contract with various suppliers located inEurope ,Asia and other various countries to produce products that support our business. Business Model. Ethan Allen has a distinct vision of American style, rooted in the kind of substance that we believe differentiates us from our competitors. Our business model is to maintain continued focus on (i) providing relevant product offerings, (ii) capitalizing on the professional and personal service offered to our customers by our interior design professionals, (iii) leveraging the benefits of our vertical integration including a strong manufacturing presence inNorth America , (iv) regularly investing in new technologies across key aspects of our vertically integrated business, (v) maintaining a strong logistics network, (vi) communicating our messages with strong advertising and marketing campaigns, and (vii) utilizing our website, ethanallen.com, as a key marketing tool to drive traffic to our retail design centers. 19 --------------------------------------------------------------------------------
ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES Strategy. Our strategy emphasizes the aim to position Ethan Allen as an interior design destination and a preferred brand offering products of superior style, quality, and value to customers with a comprehensive, one-stop shopping solution for their home furnishing and interior design needs. In carrying out our strategy, we seek to constantly reinvent our projection and product offerings through a diverse selection of attractively priced products, designed to complement one another, reflecting current fashion trends in home decorating. We seek to continuously monitor changes in home fashion trends through industry events and fashion shows, internal market research, and regular communication with our retailers and design center design professionals who provide valuable input on consumer trends. InDecember 2022 Ethan Allen celebrated 90 years of innovation at its 2022Virtual Convention , which highlighted the Company's rich history in classic style with a modern perspective, the service of its vertically integrated manufacturing and logistics networks, the strengthening of the Company's retail network and the importance of being an interior design destination. Our strategy and focus will be on continuing to position ourselves as a premier interior design destination and strengthening our vertically integrated structure through talent and the use of technology within design centers, on the web, and throughout manufacturing, logistics, and product development. Talent. Our employees, which we refer to as associates, are dedicated to helping each customer create a place that they will love to come home to everyday. We operate our business with an entrepreneurial attitude, staying focused on long-term growth, and treating our associates, vendors, and customers with dignity and justice, which we believe is critical to remaining both profitable and relevant amidst the constant changes taking place in the world. AtDecember 31, 2022 , our employee count totaled 3,943, with 2,863 employees in our wholesale segment and 1,080 in our retail segment. We are pleased in the continued strengthening of our teams and the performance of our associates during fiscal 2023 while at the same time being able to reduce headcount through operational efficiencies. Our employee count decreased 7.0% compared toJune 30, 2022 , with 120 less associates in retail and 176 less associates in our wholesale segment.
Competitive Advantages. We believe our competitive advantages arise from:
? being a leading interior design destination offering a wide array of custom
made-to-order products across upholstery, case goods, and accent product
categories;
? having one of the world's largest interior design networks, combining talent
with technology;
? our North American manufacturing workshops providing customization
capabilities and high-quality products of the finest craftsmanship;
? our strong retail network, both of Company-operated locations and independent
licensees;
? our logistics network of national distribution centers and retail home
delivery centers providing white-glove home delivery service; and
? our continued ability to leverage our vertically integrated structure.
Fiscal 2023 Second Quarter in Review (1). We are pleased with our second quarter
performance, as we seek to continue delivering value to our shareholders,
despite operating in a challenging economic environment. We believe that these
results highlight the strengths of our vertically integrated enterprise as we
produced strong gross and operating margins. While written orders have declined
and returned to near pre-pandemic historical levels, our sales surpassed $200
million aided by our commitment to servicing our backlog and bringing it more
current. As economic and financial conditions have slowed and become more
uncertain, we remain cautiously optimistic that our initiatives have positioned
us to maximize our vertically integrated company.
On a year over year basis, our retail written orders were down 16.3%, but were
comparable to pre-pandemic levels. Backlogs were significantly reduced in the
quarter due to strong delivered sales and softening demand. With that said, our
backlog still remains approximately 50% higher than our pre-pandemic levels. Net
sales totaled $203.2 million , a decrease of 2.4% compared to the prior year
quarter. Both gross and operating margins increased compared to the prior year
quarter, with a consolidated gross margin of 61.0% and an adjusted operating
margin of 18.1% that led to adjusted diluted earnings per share growth of 15.8%
to $1.10 . Margin expansion was primarily due to pricing actions taken in last 12
months, product mix, a reduction in inbound freight costs and disciplined cost
and expense control measures. Cash generated from operations totaled $2.5
million and we ended the quarter with cash on hand of $85.4 million and
short-term investments of $55.0 million . Inventory balances continued to
decrease as we sought to reduce our levels of inventory while also ensuring
appropriate levels are maintained to service our customer base. Reflecting the
continued strength of our balance sheet and strong history of returning capital
to shareholders, our Board declared a regular quarterly cash dividend of $0.32
per share, which was paid on January 4, 2023 .
(1) Refer to the Reconciliation of Non-GAAP Financial Measures section within the
MD&A for the reconciliation of GAAP to adjusted key financial metrics.
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ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES Key Operating Metrics
A summary of our key operating metrics is presented in the following table (in millions, except per share data).
Three months ended Six months ended
December 31, December 31,
2022 % of Sales % Chg 2021 % of Sales % Chg 2022 % of Sales % of Chg 2021 % of Sales % of Chg
Net sales $ 203.2 100.0 % (2.4 %) $ 208.1 100.0 % 16.4 % $ 417.7 100.0 % 7.0 % $ 390.4 100.0 % 18.4 %
Gross profit $ 124.0 61.0 % 1.4 % $ 122.3 58.8 % 20.7 % $ 253.6 60.7 % 9.6 % $ 231.5 59.3 % 23.7 %
Operating
income $ 37.1 18.2 % 2.1 % $ 36.3 17.4 % 60.9 % $ 76.7 18.4 % 20.5 % $ 63.7 16.3 % 85.9 %
Adjusted
operating
income(1) $ 36.9 18.1 % 12.5 % $ 32.8 15.7 % 40.3 % $ 74.6 17.9 % 23.2 % $ 60.5 15.5 % 69.6 %
Net income $ 28.2 13.9 % 4.7 % $ 26.9 12.9 % 59.3 % $ 58.0 13.9 % 23.4 % $ 47.0 12.1 % 79.3 %
Adjusted net
income(1) $ 28.0 13.8 % 15.5 % $ 24.3 11.7 % 38.6 % $ 56.4 13.5 % 26.3 % $ 44.7 11.4 % 68.9 %
Diluted EPS $ 1.10 4.8 % $ 1.05 56.7 % $ 2.27 0.5 % 22.7 % $ 1.85 77.9 %
Adjusted
diluted EPS(1) $ 1.10 15.8 % $ 0.95 37.7 % $ 2.21 26.3 % $ 1.75 66.7 %
Cash flow from
operating
activities $ 2.5 (55.9 %) $ 5.7 (75.9 %) $ 40.9 80.3 % $ 22.7 (65.6 %)
Adjusted
annualized
return on
equity(1) 27.1 % 23.8 %
Wholesale
written orders (20.2 %) 1.7 % (12.9 %) 5.3 %
Retail written
orders (16.3 %) (0.2 %) (12.3 %) 3.1 %
(1) Refer to the Reconciliation of Non-GAAP Financial Measures section within the
MD&A for the reconciliation of GAAP to adjusted key financial metrics.
The following table shows our design center information.
Fiscal 2023 Fiscal 2022
Independent Company- Independent Company-
retailers operated Total retailers operated Total
Retail Design Center
activity:
Balance at July 1 155 141 296 161 141 302
New locations 1 1 2 4 - 4
Closures - (3 ) (3 ) (4 ) - (4 )
Transfers - - - - - -
Balance at December 31 156 139 295 161 141 302
Relocations (in new and
closures) - 1 1 - - -
Retail Design Center
geographic locations:
United States 34 135 169 34 136 170
Canada - 4 4 - 5 5
China 105 - 105 109 - 109
Other Asia 11 - 11 11 - 11
Middle East and Europe 6 - 6 7 - 7
Total 156 139 295
161 141 302
Results of Operations
For an understanding of the significant factors that influenced our financial
performance during the three and six months ended December 31, 2022 and 2021,
respectively, the following discussion should be read in conjunction with the
consolidated financial statements and related notes presented in this Quarterly
Report on Form 10-Q.
(in thousands) Three months ended Six months ended
December 31, December 31,
2022 2021 % Change 2022 2021 % Change
Consolidated net sales $ 203,161 $ 208,093 (2.4 %) $ 417,691 $ 390,420 7.0 %
Wholesale net sales $ 106,247 $ 115,921 (8.3 %) $ 220,898 $ 225,369 (2.0 %)
Retail net sales $ 171,763 $ 179,583 (4.4 %) $ 355,421 $ 334,569 6.2 %
Consolidated gross profit $ 124,020 $ 122,269 1.4 % $ 253,636 $ 231,461 9.6 %
Consolidated gross margin 61.0 % 58.8 % 60.7 % 59.3 %
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ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES ConsolidatedNet Sales Consolidated net sales for the three months endedDecember 31, 2022 decreased$4.9 million or 2.4% compared to the prior year quarter primarily due to a decline of 8.3% in wholesale net shipments combined with a 4.4% reduction in retail sales through our Company-operated design centers. The prior year second quarter was one of the largest historical second quarter results for net sales. Compared to the second quarter of fiscal 2019, which is pre-pandemic and reflective of historical norms, net sales for the three months endedDecember 31, 2022 were up 3.0%. Consolidated net sales for the six months endedDecember 31, 2022 increased$27.3 million or 7.0% compared to the prior year period due to retail sales growth of 6.2% partially offset by lower wholesale shipments of 2.0%. Previous constraints, including COVID-related shutdowns, labor disruptions, supply chain challenges, shipping delays and raw material availability have eased in the last 12 months allowing us to maintain steady manufacturing productivity and reduce the time to convert written orders to delivered shipments, which helped reduce our existing wholesale order backlog by 36.0% compared to the prior year. Our strategy remains focused on servicing and delivering our existing backlog atDecember 31, 2022 , which is approximately 50% higher than pre-pandemic levels. WholesaleNet Sales Wholesale net sales for the three months endedDecember 31, 2022 decreased$9.7 million or 8.3% compared to the prior year quarter due to a decrease in intersegment sales to our Company-operated design centers, domestic dealers and international sales partially offset by higher contract sales. Excluding intersegment sales to our retail segment, wholesale net sales increased$2.9 million or 10.1% compared to the prior year quarter from higher contract sales, including shipments tothe United States governmentGeneral Services Administration ("GSA"). Our international net sales were down 48.8% compared to the prior year quarter due to a reduction in net sales toChina andSoutheast Asia as a result of the prolonged COVID-19 concerns within the region. Wholesale net sales for the six months endedDecember 31, 2022 decreased$4.5 million or 2.0% compared to the prior year period primarily due to a reduction in intersegment sales to our Company-operated design centers and lower shipments to domestic and international dealers, which was partially offset by higher contract sales. Excluding intersegment sales to our retail segment, wholesale net sales increased 11.5% compared to the prior year period from higher contract sales. Our international net sales were down 44.1% compared to the prior year period due to a reduction in net sales toChina andSoutheast Asia . Sales to international independent retailers represented 0.9% of total wholesale net sales compared to 1.7% in the prior year period. Wholesale written orders, which represent orders booked through all of our channels, were down 20.2% in the three months endedDecember 31, 2022 compared to the prior year second quarter. After the reopening of all our retail design centers in fiscal 2021, we experienced a significant surge in demand leading to a strong, but difficult prior year comparison. As a result of the strong prior year second quarter, our independent North American retail network orders were down 12.3%, international orders were down 43.6% and orders from our Company-operated design centers were down 13.2%. In addition, contract orders were down 87.5% as the prior year second quarter saw strong contract business, driven largely by hospitality customers and the timing of incoming GSA orders. Wholesale written orders were down 12.9% in the first six months of fiscal 2023 compared with the prior year period. As a result of the strong prior year first half, orders from our Company-operated design centers were down 11.1%, our contract orders declined 18.1%, our independent North American retail network orders were down 11.0% and our international orders, including orders fromChina , declined 46.2%. When compared to the first six months of fiscal 2019 (pre-pandemic levels), written orders from our Company-operated design centers were down 2.9%. We ended the fiscal 2023 second quarter with wholesale backlog of$78.5 million , down 36.0% from a year ago as we were able to reduce the number of weeks of wholesale backlog as ofDecember 31, 2022 by 34.1% compared to last year, which brought our backlog to be more current. In the near-term, our teams are focused on efforts to effectively manage the business by continuing to work through our higher order backlog and to service our customers. RetailNet Sales Net sales from Company-operated design centers for the three months endedDecember 31, 2022 decreased$7.8 million or 4.4% compared to the prior year quarter. There was a 4.2% decrease in net sales withinthe United States , while net sales from our Canadian design centers decreased 8.8%. A year ago we experienced a significant surge in demand, which led to a high backlog and higher deliveries making it a difficult prior year comparison. In addition, we saw a decrease in retail shipments year over year due to lower production levels within our Upholstery manufacturing compared to the prior year. Manufacturing production levels still remain above pre-pandemic levels, but have slowed in the past three months as incoming written orders have slowed. These volume decreases were partially offset by the price increases we enacted in the past 12 months, an increase in average ticket price and increased premier home delivery revenue. While retail written orders decreased 16.3% year over year, they are nearing pre-pandemic historical norms and were 1.5% below the second quarter of fiscal 2019 (pre-pandemic levels). Prolonged high inflation, concerns regarding a recession, uncertainty in the macroeconomic environment and higher interest rates, continue to impact consumer behavior and is reflected in written order and traffic decreases year over year. 22 --------------------------------------------------------------------------------
ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES Retail net sales for the six months endedDecember 31, 2022 increased 6.2% to$355.4 million compared to the prior year period. There was a 6.9% increase in net sales inthe United States , while net sales from our Canadian design centers decreased 16.9%. The retail net sales growth of 6.2% was primarily from high backlog that led to higher deliveries, price increases enacted in the past 12 months, increased premier home delivery revenue, additional clearance sales and manufacturing production levels that have remained above pre-pandemic levels. Canadian retail net sales were impacted by one less design center inCanada combined with temporary disruptions within the local service center that impacted delivery timing during the first quarter. While retail written orders decreased 12.3% year over year, they were 0.1% above the first six months of fiscal 2019, which we believe reflects continued demand for our relevant products in a softening demand environment partially due to strong execution at the design center level including incremental average ticket sales and a higher percentage of sales per traffic count. We remain focused on providing exceptional personal service from design to delivery, investing in digital design capabilities and interactive communication technologies, refining and repositioning our product offerings to reach a larger client base, and leveraging our vertically integrated structure. We are currently working on plans to open or relocate a select number of design centers withinthe United States by the end of fiscal 2023. As ofDecember 31, 2022 , there were 139 Company-operated design centers compared with 141 in the prior year period.
Consolidated Gross Profit and Margin
Consolidated gross profit for the three months endedDecember 31, 2022 increased$1.8 million or 1.4% compared to the prior year quarter due to consolidated and wholesale gross margin expansion partially offset by a reduction in retail gross margin and lower consolidated net sales. Consolidated gross margin, as a percentage of net sales, for the three months endedDecember 31, 2022 was 61.0% compared with 58.8% in the prior year quarter. This consolidated gross margin expansion of 220 basis points offset the 2.4% decline in consolidated net sales, which led to gross profit increasing by 1.4% over the prior year. The 220-basis point increase in consolidated gross margin was driven by product pricing actions taken over the past 12 months, a favorable product mix, disciplined promotional activity and lower inbound freight costs. These gross margin drivers were partially offset by a change in our sales mix and a decrease in unit volume that led to higher unfavorable manufacturing overhead costs. Retail sales, as a percentage of total consolidated sales, were 84.5% in the current year second quarter, down from 86.3% in the prior year quarter. Our retail segment has a higher gross margin than our wholesale segment, thus the decrease in sales mix negatively impacted our consolidated gross margin. Despite an 8.3% decrease in net sales, our wholesale segment gross profit increased 22.9% in the current year second quarter, which was primarily attributable to product pricing actions taken in the past 12 months, change in product mix, lower inbound freight costs, efficiencies gained with higher manufacturing production levels within case goods and improved imported receipts of home accents. Product pricing actions taken in the past 12 months have helped to offset input costs that continue to face inflationary pressure. Each product category within our wholesale segment expanded its gross margin, which led to higher gross profit. Retail gross profit decreased by 6.2% due to a 4.4% decrease in net shipments combined with a 100-basis point decrease in gross margin. The reduction in our retail gross margin was driven by a change in product mix, increased wholesale dealer costs to purchase inventory and higher fees associated with offering 36-month interest financing to our customers partially offset by incremental home delivery revenue and an increase in average ticket sale. Consolidated gross profit for the six months endedDecember 31, 2022 increased$22.2 million or 9.6% compared to the prior year period due to sales growth of 6.2% within our retail segment combined with consolidated and wholesale gross margin expansion. Consolidated gross margin was 60.7% during the first six months of fiscal 2023 compared with 59.3% in the prior period. The 140-basis point increase was driven by product pricing actions taken, disciplined promotional activity, benefits from expanded case goods manufacturing operations, a favorable product mix and lower inbound freight costs partially offset by a change in sales mix. Retail sales, as a percentage of total consolidated sales, were 85.1% in the first six months of fiscal 2023, down from 85.7% in the prior year period. Retail gross profit increased 5.3% due to the 6.2% increase in net shipments partially offset by a decline in gross margin. Our Retail gross margin was negatively impacted by higher prices to acquire inventory from wholesale combined with increased fees to offer our customers interest free financing partially offset by higher premier home delivery revenue and an increase in average ticket sale. Wholesale gross profit increased 17.2% for the first six months of fiscal 2023 primarily due to gross margin expansion from efficiencies gained with higher manufacturing production levels and product pricing actions taken in the past 12 months partially offset by a 2.0% reduction in net sales. Higher year over year manufacturing production within case goods and improved imported receipts of home accents helped drive sales growth within each of these categories. Product pricing actions taken in the past 12 months have helped to offset elevated input costs, although inbound freight costs have been on the decline for several months. 23 -------------------------------------------------------------------------------- ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES SG&A Expenses (in thousands) Three months ended Six months ended December 31, December 31, 2022 2021 % Change 2022 2021 % Change SG&A expenses$ 87,147 $ 89,610 (2.7% )$ 179,109 $ 171,187 4.6 % Restructuring and other impairment charges, net of gains$ (196 ) $ (3,633 ) (94.6% )$ (2,192 ) $ (3,378 ) (35.1% ) Consolidated operating income$ 37,069 $ 36,292 2.1 %$ 76,719 $ 63,652 20.5 % Consolidated operating margin 18.2 % 17.4 % 18.4 % 16.3 % Wholesale operating income$ 14,569 $ 9,744 49.5 %$ 29,982 $ 22,563 32.9 % Retail operating income$ 18,080 $ 22,635 (20.1% )$ 40,069 $ 36,980 8.4 % SG&A expenses for the three months endedDecember 31, 2022 decreased$2.5 million or 2.7% due to lower selling expenses and a reduction in general and administrative costs. Consolidated selling expenses were down 2.4% while general and administrative costs decreased 3.3%, indicative of strong cost control measures. When expressed as a percentage of net sales, SG&A expenses were 42.9% of net sales, compared with 43.1% of net sales in the prior year quarter as we were able to manage expenses in a declining sales environment. Wholesale selling expenses, which includes logistics, were down 9.2% as distribution costs decreased from lower sales volumes and declining freight rates partially offset by higher diesel fuel costs compared to a year ago. Retail selling expenses were down 0.1% due to lower designer variable compensation and labor costs offset by higher warehouse and delivery costs from increased contract rates and fuel surcharges. Total advertising expense during the second quarter of fiscal 2023 was equal to 2.0% of net sales, the same as in the prior year second quarter. We continue to utilize various advertising mediums including national television, direct mail and digital. Through our recent digital campaigns, we have substantially increased our digital marketing outreach, which helped us reach more households through the publication of our periodic digital magazine. Consolidated general and administrative expenses decreased 3.3% primarily due to lower retail occupancy costs, a reduction in professional and legal fees, and less employee compensation due to a lower headcount partially offset by increased employee benefit costs, including higher group insurance. SG&A expenses for the six months endedDecember 31, 2022 increased$7.9 million or 4.6% due to higher selling expenses. Consolidated selling expenses were up 7.1% while general and administrative costs rose only 0.8%. When expressed as a percentage of net sales, SG&A expenses were 42.9% of net sales, a 90-basis point decrease compared to the prior year period due to higher sales volume relative to fixed costs. SG&A expenses were up 4.6% while consolidated net sales increased 7.0%, which led to improved operating leverage. Retail selling expenses increased 10.0% due to the 6.2% increase in Retail net sales, which drove higher delivery costs and variable compensation, increased contract rates and fuel surcharges and increased marketing spend. Wholesale selling costs declined 1.3% primarily from a 2.0% reduction in sales volume, which led to lower distribution and freight costs. For the six months of fiscal 2023, our consolidated advertising spend was equal to 2.3% of net sales, up from 2.0% in the prior year period. Consolidated general and administrative expenses increased by 0.8% for the first six months of fiscal 2023 primarily related to our disciplined approach to cost savings and expense controls, including our cost containment and expense management efforts.
Restructuring and Other Impairment Charges, Net of Gains
Restructuring and other impairment charges, net of gains for the three months endedDecember 31, 2022 was a gain of$0.2 million compared to a gain of$3.6 million in the prior year second quarter. The current year second quarter includes a$0.7 million gain related to the amortization of the deferred liability generated from the sale-leaseback transaction completed onAugust 1, 2022 , partially offset by$0.5 million related primarily to severance costs. In the year ago second quarter, we completed the sale of two properties for a combined pre-tax gain of$3.9 million , which was partially offset by$0.3 million related to severance. Restructuring and other impairment charges, net of gains for the six months endedDecember 31, 2022 was a$2.2 million gain compared to a gain of$3.4 million in the prior year period. The recognized gain of$2.9 million from the sale-leaseback transaction was partially offset by$0.7 million in severance and other lease costs. In the first six months of last year, we completed the sale of two properties for a combined pre-tax gain of$3.9 million , which was partially offset by$0.5 million of severance and lease costs.
Consolidated Operating Income
Consolidated operating income for the three months endedDecember 31, 2022 increased$0.8 million or 2.1% and as a percentage of net sales was 18.2%, compared to 17.4% the prior year quarter. Adjusted operating income, which excludes restructuring and other charges, net of gains, was$36.9 million , or 18.1% of net sales compared with$32.8 million , or 15.7% of net sales in the prior year quarter. The increase in operating income was driven by gross margin expansion combined with cost containment measures partially offset by a reduction in consolidated net sales. Even though consolidated net sales decreased 2.4%, our 220-basis point consolidated gross margin expansion combined with the 2.7% reduction in SG&A expenses helped grow our consolidated operating income by$0.8 million and improve to 18.2% of net sales, up from 17.4% last year. 24
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ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES
Consolidated operating income for the six months ended December 31, 2022
increased $13.1 million or 20.5% and as a percentage of net sales was 18.4%,
compared to 16.3% in the prior year period. Adjusted operating income, which
excludes restructuring and other charges, net of gains, was $74.6 million , or
17.9% of net sales compared with $60.5 million , or 15.5% of net sales in the
prior year period. The increase in operating income was driven by the $27.3
million or 7.0% increase in consolidated net sales, wholesale gross margin
expansion and cost containment measures that improved our operating leverage
partially offset by higher selling expenses. We believe our efforts to maintain
disciplined cost and expense controls, including cost containment measures and
expense management helped drive our operating income growth for the first six
months ended December 31, 2022 . Our ability to operate the business with fewer
associates has contributed to consolidated operating income and margin
expansion. The majority of the headcount reductions since the end of the second
quarter of fiscal 2019 were within our retail segment, which is down 41.8%.
Wholesale Operating Income
Wholesale operating income for the three months ended December 31, 2022 was
$14.6 million or 13.7% of net sales, an increase compared with $9.7 million or
8.4% in the prior year quarter. Adjusted operating income, which excludes
restructuring and other charges, net of gains, was $14.6 million or 13.7% of net
sales compared with $6.0 million or 5.2% of net sales in the prior year quarter.
The increase in wholesale operating income is due to a significant improvement
in wholesale gross margin, cost containment measures within SG&A, lower
distribution and inbound freight costs due to lower rates and volume, lower
compensation from decreased headcount and lower professional and legal fees
partially offset by higher employee benefit costs and a decline in net sales.
Wholesale operating income for the six months ended December 31, 2022 was $30.0
million or 13.6% of net sales, an increase compared with $22.6 million or 10.0%
of net sales in the prior year period. Adjusted operating income, which excludes
restructuring and other charges, net of gains, was $30.0 million or 13.6% of net
sales compared with $19.0 million or 8.4% of net sales in the prior year period.
The increase is due to a significant improvement in wholesale gross margin, cost
containment measures within SG&A and lower distribution and inbound freight
costs due to lower rates and volume. These benefits were partially offset by
lower net sales and higher employee benefit costs.
Retail Operating Income
Retail operating income for the three months ended December 31, 2022 was $18.1
million , or 10.5% of sales, compared with $22.6 million , or 12.6% of sales in
the prior year quarter. Adjusted retail operating income, which excludes
restructuring and other charges, net of gains, was $17.9 million or 10.4% of net
sales compared with $22.8 million or 12.7% of net sales in the prior year
quarter. The decrease in retail operating income is attributed to the 4.4%
decrease in net sales and a 100-basis point decline in retail gross margin
partially offset by lower retail SG&A expenses.
Retail operating income for the six months ended December 31, 2022 was $40.1
million , or 11.3% of sales, compared with $37.0 million , or 11.1% of sales in
the prior year period. Adjusted retail operating income, which excludes
restructuring and other charges, net of gains, was $37.9 million or 10.7% of net
sales compared with $37.4 million or 11.2% of net sales in the prior year
period. The increase was driven by the 6.2% increase in net sales, decreased
occupancy expenses and leveraged fixed costs partially offset by a 40-basis
point decline in retail gross margin, increased selling, delivery and variable
compensation due to sales volume and increased advertising expenses.
Income Tax Expense
(in thousands) Three months ended Six months ended
December 31, December 31,
2022 2021 % Change 2022 2021 % Change
Income tax expense $ 9,754 $ 9,324 4.6 % $ 19,865 $ 16,511 20.3 %
Effective tax rate 25.7 % 25.7 % 25.5 % 26.0 %
Net income $ 28,166 $ 26,894 4.7 % $ 58,046 $ 47,047 23.4 %
Diluted EPS $ 1.10 $ 1.05 4.8 % $ 2.27 $ 1.85 22.7 %
Income tax expense for the three months ended December 31, 2022 was $9.8 million
compared with $9.3 million in the prior year second quarter primarily due to the
$1.7 million increase in income before income taxes. Our consolidated effective
tax rate was 25.7% in both the current and prior year. Our effective tax rate of
25.7% varies from the 21% federal statutory rate primarily due to state taxes.
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ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES Income tax expense for the six months endedDecember 31, 2022 was$19.9 million compared with$16.5 million in the prior year period primarily due to the$14.4 million increase in income before income taxes. Our consolidated effective tax rate was 25.5% compared with 26.0% in the prior year comparable period. Our effective tax rate of 25.5% varies from the 21% federal statutory rate primarily due to state taxes. Net Income Net income for the three months endedDecember 31, 2022 was$28.2 million compared with$26.9 million in the prior year period. Adjusted net income, which removes the after-tax impact of restructuring and other charges, net of gains, was$28.0 million , up 15.5% from the prior year period. The increase in net income and adjusted net income was due to improved gross margins and our ability to minimize SG&A expenses. Net income for the six months endedDecember 31, 2022 was$58.0 million compared with$47.0 million in the prior year period. Adjusted net income, which removes the after-tax impact of restructuring and other charges, net of gains, was$56.4 million , up 26.3% from the prior year period. The increase in net income and adjusted net income was due to higher net sales, improved gross margins and cost containment measures. Diluted EPS Diluted EPS for the three months endedDecember 31, 2022 was$1.10 compared with$1.05 per diluted share in the prior year period. Adjusted diluted EPS was$1.10 , up 15.8% compared with the prior year period. The increase in diluted EPS and adjusted diluted EPS was driven by higher gross margins and cost containment measures partially offset by a decrease in net sales. Diluted EPS for the six months endedDecember 31, 2022 was$2.27 compared with$1.85 per diluted share in the prior year period. Adjusted diluted EPS was$2.21 , up 26.3% compared with the prior year period. The increase in diluted EPS and adjusted diluted EPS was driven by higher net sales, improved gross margins and cost containment measures.
Reconciliation of Non-GAAP Financial Measures
To supplement the financial measures prepared in accordance with GAAP, we use non-GAAP financial measures, including adjusted operating income and margin, adjusted wholesale operating income and margin, adjusted retail operating income and margin, adjusted net income and adjusted diluted earnings per share. The reconciliations of these non-GAAP financial measures to the most directly comparable financial measures calculated and presented in accordance with GAAP are shown in tables below. These non-GAAP measures are derived from the consolidated financial statements but are not presented in accordance with GAAP. We believe these non-GAAP measures provide a meaningful comparison of our results to others in our industry and our prior year results. Investors should consider these non-GAAP financial measures in addition to, and not as a substitute for, our financial performance measures prepared in accordance with GAAP. Moreover, these non-GAAP financial measures have limitations in that they do not reflect all the items associated with the operations of the business as determined in accordance with GAAP. Other companies may calculate similarly titled non-GAAP financial measures differently than we do, limiting the usefulness of those measures for comparative purposes.
Despite the limitations of these non-GAAP financial measures, we believe these adjusted financial measures and the information they provide are useful in viewing our performance using the same tools that management uses to assess progress in achieving our goals. Adjusted measures may also facilitate comparisons to our historical performance.
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