Kirkland : Home Second Quarter 2023 Earnings Call Transcript

Event Name: Kirkland's Home Second Quarter 2023 Earnings Call

Event Date: Wednesday, September 6, 2023, 9:00 a.m. Eastern Time

Officers and Speakers

Cody Cree; External Director, Investor Relations Ann Joyce; Interim Chief Executive Officer

Amy Sullivan; President and Chief Operating Officer

Michael Madden; Executive Vice President and Chief Financial Officer

Analysts

Jeremy Hamblin; Craig Hallum Capital Group

John Lawrence; Benchmark

Presentation

Operator: Good morning, everyone, and thank you for participating in today's conference call to discuss Kirkland's financial results for the second quarter ended July 29, 2023.

Joining us today are Kirkland's Home Interim CEO Ann Joyce; President and COO Amy Sullivan: EVP and CFO Mike Madden; and the company's External Director of Investor Relations, Cody Cree. Following their remarks, we'll open the call for your questions.

Please note, today's conference is being recorded.

Before we go further, I would like to turn the call over to Mr. Cree as he reads the company's safe harbor statement within the meaning of the Private Securities Litigation Reform Act of 1995 that provides important cautions regarding forward-looking statements.

Cody, please go ahead.

Cody Cree: Thanks, Rocco. Except for historical information discussed during this conference call, the statements made by company management are forward-looking and made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Forward- looking statements involve known and unknown risks and uncertainties, which may cause Kirkland's actual results in future periods to differ materially from forecasted results. Those risks and uncertainties are more fully described in Kirkland's filings with the Securities and Exchange Commission.

I would like to remind everyone that this call will be available for replay through September 13, 2023. A webcast replay will also be available via the link provided in today's press release, as well as on the company's website at kirklands.com.

Now I'd like to turn the call over to Kirkland's Home Interim CEO Ann Joyce. Ann, over to you.

Ann Joyce: Thank you, Cody, and good morning, everyone. Before we jump into the results, I want to start by expressing my gratitude for the tireless work our associates at Kirkland's are

putting in to return our business to profitability. We knew these efforts were not going to translate into immediate success, and we remain up against difficult macroeconomic headwinds, but I am confident we are doing all the right things to right the ship and return the company to profitability.

As expected, Q2 was a difficult quarter, with challenging sales comparisons due to prior year inventory liquidation activity. On a macro level, inflation remains a challenge, as our customers continue to spend a large portion of their disposable income on necessities and experiences. This shift in consumer behavior that began after the pandemic continues to impact our traffic levels as the battle for share of wallet has become even more competitive. As a result of the difficult year- over-year comparisons and decline in traffic throughout the quarter, Q2 comparable sales were down 9.7%.

As we discussed on our last call and as part of our efforts to better engage our customers, we refocused our brand voice toward value and emphasized seasonally relevant home décor, which has historically been a focal point for our brand, and as a result, our decorative accessories category delivered a strong comp increase. We expect continued growth in this category in the quarters to come. Additionally, we had a highly successful Christmas in July promo that drove increased demand in early-season Christmas décor, which is typically a strong indicator for the back half. The performance in these categories led us to a higher year-over-year conversion rate in both channels, and that trend has continued into Q3.

During the quarter, we saw promising indicators from our pivots in the marketing strategy. We shifted our brand voice, getting back our value roots, and while we were more promotional than planned, we were able to leverage our customer data platform to better target our offers. This approach, along with the initial product shift, to emphasize seasonally relevant value décor and a normalizing supply chain, enabled us to expand our merchandise margin by 320 basis points, the key driver in our overall gross profit margin improving by 140 basis points. We also implemented win-back campaigns to target our lapsed customers, and we are encouraged with the initial response from the customers who were quick to reengage.

Through the success we experienced with these merchandise and marketing shifts, our team is already planning to expand these initiatives next summer to capitalize on the additional opportunities in floral, outdoor expanded holiday products, and a reintroduction of back-to- campus. We believe these product assortment changes, along with a revitalized marketing strategy, has the potential to drive more consistent traffic and stronger demand during our historically weakest quarter.

Shifting the focus to operations, I'm proud of how well our organization has managed inventory. With 30% less inventory on the balance sheet compared to the end of Q2 last year, we successfully reduced overhang, resulting in lower borrowings year-over-year. Our network inventory flow has improved and we have the appropriate levels of inventory on hand and in time for harvest and for holiday. Cost containment remains critical for our operations, and in the second quarter, we were able to reduce our operating expenses by over $5 million compared to the prior year period. We continue to manage expenses tightly as we aim to increase the efficiency of every dollar going out the door and improve profitability for the future.

Overall, we anticipated the quarter would be a challenge. We knew this would be a time of transition as we performed an extensive deep dive and identified near-term strategies to return to profitability and growth. Some of our initial changes were promising, but we are still up against difficult headwinds. The home sector remains generally soft and the consumer is under pressure from persistent inflation, mounting credit card debt and higher interest rates. However, we are working diligently to combat the issues outside of our control and significantly improve the areas of business that are within our control.

Over the last three months, we have done a great deal of work to strategically reposition ourselves for success. We've restructured our teams to be a flatter organization with the ability to be nimble. We are listening closely to the voice of the associate and the voice of the customer directly, through connections that are direct, surveys, social listening and more. We've candidly analyzed numerous aspects of our business, including our brand positioning, customer behavior, marketing tactics and our overall operational effectiveness. We worked with industry experts to help drive our assessment, and frankly, also dusted off some of the work previously conducted at Kirkland's and modernized what we believe worked. While this process is still ongoing, we have already discovered many issues to address and our teams have begun executing these near-term initiatives. Overall, I remain confident in our team's ability to deliver upon the expectations that we have set for ourselves. We are committed and driven to return the company to profitability.

Now I would like to turn the call over to our President and COO, Amy Sullivan, who will provide a more detailed commentary on the results of our diagnostics and health checks, as well as our near-term improvement strategies.

Amy Sullivan: Thank you, Ann, and good morning, everyone. There is no doubt that we faced a challenging quarter in Q2, but we remain focused on the future and our overall vision for the long-term success of our brand.

As Ann discussed, we have been performing a deep dive into many areas of the organization to do a thorough health check of the business, a necessary step in returning to profitable growth. At our core, we are a value-based, specialty home décor retailer, which means we need to constantly provide our customers with a product assortment that has a distinct point of view and includes the latest styles and trends at a great value. Most importantly, we need to make sure we're communicating our style and value to the right customers while delivering an omnichannel experience that meets her expectations when and where she wants to shop.

As we recalibrate our core strategy, we needed to reaffirm why our customers choose Kirkland's Home and the competitive advantages we have in the marketplace. As we've discussed at length, we strayed from what historically resonated with our loyal customer base and we suffered because of it. Our entire team has done an excellent job of getting back to the basics to ensure we are keeping our finger on the pulse of our customers at all times.

As discussed in the last call, we disappointed our core customer in recent years, and it is our top priority to reconnect with her. We have spent time with our customers and associates in stores, online, across social media channels and through quantitative surveys to ensure the voice of the

customer is at the core of every decision we make. Our core customer finds joy decorating her home and entertaining her family, especially around the holidays. Celebration is at her core, and her favorite product types are seasonally relevant décor and textiles. She makes her shopping decisions based on style and value. She is motivated by promotions and coupons, especially right now, as macroeconomic factors are top of mind in her day-to-day life. I am proud to say we are committed and more engaged with her than ever before, and we are building a strategy to retain, win back and attract new customers.

To achieve this level of customer engagement, our marketing is undergoing a complete overhaul and we've inserted new leadership within this department to help drive those changes. We must be more targeted in our approach and get back to some of the basic strategies that we know drive omnichannel traffic for our customer.

As a result of the marketing health check, we discovered that broad-based media tactics were being overused and marketing dollars weren't allocated effectively for a specialty retailer of our size, location and customer base. We are better served by targeting the customers within the geographic areas that align to our store footprint. We believe this will more efficiently use our marketing dollars to drive traffic and demand. The vast majority of our e-commerce shoppers are also within 15 miles of a Kirkland's Home storefront, so localization within our marketing campaigns is now a top priority.

Speaking of the Kirkland's Home storefront, we had also pulled back on traditional brick-and- mortar marketing support such as internal and external signage. We believe this impacted our customer experience and conversion, and we plan to return to an increased in-store strategy for the remainder of this year and going forward to engage the customers from the parking lot throughout the store. We intend to make sure that our curated looks and great value promotions are clearly communicated to the customer throughout her shopping experience.

Direct mail was formerly a key tactic in our customer communication strategy; we used to send four to six direct mail pieces a year to coincide with the new product launches, seasonal holiday sets and key promotional events throughout the year. We brought this strategy back in Q2 with a limited audience of both loyal and lapsed customers. Based on the results, direct mail is now planned to be a key driver in our go-forward marketing strategy. In fact, we have one hitting homes this week with our Fall Back in Love with Kirkland's campaign and will launch another campaign for the holiday season. We will leverage our loyalty program and customer data platform to target our most valuable customers, announcing product launches and delivering exclusive, limited-time coupon offers through direct mail.

I am excited by the renewed commitment to our customer. Our full frontal marketing strategy will be built with the goal to reach new customers, drive omnichannel traffic and engage with lapsed customers to increase their purchase frequency. We will leverage geo-targeted advertising to reach omnichannel customers within 15 miles of each store location. We believe creative enhancements will improve the customer's in-store and online shopping experience through seasonal story-telling and clear value messaging. We plan to have a strong, active presence on social media by sharing curated content to inspire her passion for decorating and entertaining.

Last, but certainly not least, we are planning to enhance our K Club loyalty program. We have confirmed we are still beloved by our loyal customers and we are committed to delivering the product, value and experience she expects from us. Maximizing our loyalty program benefits for our customer will help solidify our commitment to her for years to come. We look forward to sharing more about this initiative in the coming months.

With our customer at the center, we took the same diagnostic approach in other areas of the business and are committed to recalibrating our strategic priorities with a back-to-basics mentality. I'd like to share some of the learnings from our omnichannel health check. We are embracing a digital-first omnichannel strategy as our foundation for the future. This starts with a unique optimized product strategy both online and in brick-and-mortar stores. Our growth in large-scale,higher-priced furniture cannibalized our seasonal and décor categories in brick and mortar; however, furniture is a key driver of sales and profitability for e-commerce. As we redefine our assortment strategy, furniture has been and we believe will continue to be an important part of the business, but we will be rebalancing our pricing strategy to ensure we are true to our value heritage.

We have renewed our focus, our organizational structure and our tools to ensure our product category strategy and product flow is uniquely optimized for each channel. I'm incredibly proud of the work our merchants have done in this short time to adjust our category mix and pricing strategy to renew our commitment to value home décor. As Ann said earlier, we saw promising demand in Q2 in decorative accessories and holiday. Halloween in particular is currently driving strong demand, which we believe will be a good indicator for holiday products later this year. We are committed to evolving our product assortment strategy, allowing our customers to have a unique but cohesive curated experience both online and in stores.

As we solidify our merchandising channel strategy, we are wrapping up a full end-to-end assessment of our e-commerce platform. We are assessing short- and long-term roadmaps to ensure we have a modern platform that meets the expectations of today's shoppers. We look forward to sharing more about our long-terme-commerce roadmap in the future, but in the meantime, I'm happy to report that we've seen traffic and conversion improvement directly correlated to the pivots in our overall brand and product strategy, as well as our renewed marketing tactics. Most recently, we drove the highest online conversion since 2021 through the right combination of marketing tactics and seasonally relevant product focus to drive demand. These wins provide further clarity to the future of our channel strategy to support long-term e- commerce growth.

I'd like to take a moment to talk about our in-store experience. I've had the pleasure of dedicating time each week to store visits and calls with our incredible store teams. These teams are the heart of the brand, and they are committed to creating community for their customers and their stores.

I am committed to ensuring that we simplify and optimize our operational efficiencies to improve the in-store experience for both the customer and the associate.

In partnership with our new supply chain leaders, we are resetting standards for product flow and delivery. Our teams are traveling to stores and to the distribution center to work and review every step of their discipline and its impact on our customer and associates to ensure we are