Greetings, and welcome to the Citi Trends 2Q '23 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded Tuesday, August 22, 2023. I would now like to turn the conference over to Nitza McKee, Senior Associate. Please go ahead.

Thank you, Chris, and good morning, everyone. Thank you for joining us on Citi Trend's second quarter 2023 earnings call. On our call today is our Chief Executive Officer, David Makuen; and Chief Financial Officer, Heather Plutino. Our earnings release was sent out this morning at 6:45 a.m. Eastern Time. If you have not received a copy of the release, it's available on the company's website under the Investor Relations section at www.cititrends.com. You should be aware that prepared remarks today made during this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Management may make additional forward-looking statements in response to your questions. These statements do not guarantee future performance. Therefore, you should not place undue reliance on these statements. We refer to you to the company's most recent report on Form 10-K and other subsequent filings with the Securities and Exchange Commission for a more detailed discussion of the factors that can cause actual results to differ materially from those described in the forward-looking statements. I will now turn the call over to our Chief Executive Officer, David Makuen. David?

Thank you, Nitza. Good morning, everyone, and thanks for joining us today on the second quarter fiscal 2023 earnings call. I will begin our call with highlights of our second quarter financial and operational performance. Heather Plutino, our Chief Financial Officer, will then elaborate on our detailed financial results and a few other items related to our outlook. Then we'll open the call up for your questions. We are pleased with our second quarter results that reflect positive momentum for both, the top line and gross margin, against a continued challenging macro backdrop. The quarter was highlighted by significant sequential comparable store sales acceleration from the first quarter. As you've heard, we are committed to improving our operating results with an extreme focus on driving improved comp store productivity. Our 880 basis point sequential increase in our comp sales trend is a direct result of our team's agility to amaze our customers via compelling spring and summer assortments. Coupled with sales momentum, we delivered a strong gross margin of 38.2% which was above last year and 150 basis points better than the first quarter. Importantly, we experienced improved traffic levels and strong conversion throughout the quarter, signaling that our product assortment, strengthened by our strategic inventory rebuild in key areas of business is resonating with our customers. Our primary strategic initiative to rebuild inventory in key areas of the business is definitely paying dividends. Central to the rebuild is offering a balanced assortment of good, better and best price styles with an emphasis on incorporating a healthy mix of entry price points that appeals to our value-based customers. Our total inventory at the end of the quarter was down 5% versus the prior year. Compared to down 12% at the end of the first quarter. We are right where we…

Thanks, David, and good morning, everyone. Before I walk through our second quarter results, I want to take a moment to thank our many associates for their hard work and dedication. Each of our buy, move, sell and support teams contributed in a big way to our improved performance in the second quarter, and I couldn't be more proud or more grateful. While the selling environment remained uncertain, particularly for our core customer base, our teams continued to execute against our strategic priorities while remaining disciplined with cost control. Additionally, given the challenging environment, we continue to leverage our strong balance sheet with $65.8 million of cash, well-controlled inventory, an undrawn $75 million revolving line of credit and no debt. Turning to the specifics of our second quarter financial results. Total sales for the quarter were $173.6 million, a decrease of 6.2% versus Q2 2022. As David mentioned earlier, shopper conversion remained strong throughout the quarter as our assortments resonated well with customers. We are pleased to have seen traffic and basket improved sequentially from the first quarter as a result of our inventory build rebuild initiative and our efforts to rebalance our good, better, best assortment. Second quarter comp sales decreased 5.3% compared to last year and 880 basis points acceleration from Q1. We opened five new stores at the end of July, including a store in Inglewood, California, marking our first store in L.A. County proper. We supported these grand openings with a mix of digital and radio marketing including Spanish radio spots for our multicultural store openings. Early results have been encouraging across the five new locations. During the quarter, we also remodeled eight stores to drive improved comp sales productivity. Gross margin for the second quarter was 38.2%, slightly higher than last year and significantly stronger…

Thanks, Heather. I can tell you that the foundation of our 77-year-old brand is strong. As a brand and a company, we're really proud of our connection to our neighborhoods, employing and serving true locals with a high-quality experience. Our 611 stores are located in the heart of these neighborhoods, operating within 5 miles or less from the homes of our core customers and with little or no competition in the immediate area. Our customer base is loyal and well aware that the whole family can rely on Citi Trends for apparel, accessories and home trends for way less spend. We curate our product offering from a strong base of vendor partners with some of these partnerships lasting multiple decades. As a result, we enjoy a large share of the markets we're in. I remain excited about the potential of this important brand and believe that our strong foundation, coupled with the growth-minded investments we are making to fuel the top line will unlike -- will unlock our flow through earnings potential. Before I turn the call over to the operator, I want to take a moment to thank the entire Citi Trends team for their hard work and dedication, day in and day out. They have done an excellent job of helping manage the business in a difficult environment and we are so thankful for each and every one of them. Thank you, and we are now ready to take your questions. Chris, back to you.

[Operator Instructions] Our first question is from the line of Jeremy Hamblin with Craig-Hallum Capital Group. Please go ahead.

Good morning. And thanks for taking the question. So I thought I might start with just asking for a little bit more color on quarter-to-date and what you've seen thus far as we start Q3. It sounds like you're encouraged by what you're seeing on the traffic front, but wanted to see if you could share a little bit more color on kind of that sequential improvement that we assume that you're continuing to see here.

Jeremy, it's Heather. I'll take that question. Thanks so much, good to hear from you. So look, it's early, right? We're in the early days, but I will say that we're pleased with how we entered Q3 from an inventory perspective. Both in quantity and quality, our Buy team is working hard to make sure we have the assortment to delight our customers. So we believe that the building blocks, starting with back-to-school, are in place to have another quarter of sequential year-over-year comp improvement.

Got it. And then in terms of -- you also noted, I think, a shift in terms of the types of categories that were performing best, first half of the year more tilted towards essentials. And now it sounds like you're seeing a shift in the second half to more apparel and footwear as being drivers. Anything you can share on A, that shift? Does that give you a sense that your core customer is feeling better about where they are and maybe they're managing those inflationary pressures better as they've shifted their spending habits? And then two, I just wanted to get a sense as well with that shift, what types of impact might it have on gross margins as you see that shift from maybe more essentials in the first half to something like apparel and footwear?

Jeremy, it's David. Good to hear from you. Good question. And let me clarify because it might not have been as clear as it could have been. The tilting towards accessories was really Q1, so the first half of the first half. And what we saw nicely happening during Q2 was, as I stated, a gradual shift to footwear and apparel. And I would tell you, it all goes back to what we talked about. It was directly resulted to some of our inventory rebuilds, getting kind of sharper on the entry price points and as I mentioned, sharper on trend development. And I think thirdly, to your point, the customer definitely showed up a little bit more and was willing to invest, so to speak, in apparel, things that she might not have needed coming out of Q4 into the difficult headwinds filled Q1. And we do think that things have gotten as we've all seen in the news, a little better here and there, and we think that's playing a small role. I think by far, the bigger reason is the things that we can control. And some of our strategic rebuilds, as I mentioned, in targeted areas of the store, we're keenly focused on footwear and apparel. And as I mentioned, those are paying dividends. So I'd probably say, the weight is probably more towards what we did to impress and excite our customers, and that caused some of the shift. But I agree with you that there has been some improvements that might be finding their way into the communities that we're in little by little. And that's a great thing, right? As that continues, hopefully, over the course of the rest of the year. Yes, second portion of impact on gross margin. As I think you know, we're pretty evenly balanced, meaning our gross margin doesn't swing in tremendous directions from apparel to non-apparel, for example. With that said, we are keeping a keen eye on our price points and our gross margin by item or I should say, our markup by item. And I think the team is doing a great job managing it. Really, we put it all in the blender and say, "You got to buy it right, we got to sell through it right", meaning timing and price point and in the right stores. And then we've got to ship it right, freights in our gross margin line. When that all works, we see the high 30s. So it's -- there's no one reason I could tell you. It's just more that when the whole pie gets cranking, it shows up in high 30s.

Got it. And then Heather, I wanted to see if you might be able to quantify for us the freight impact you noted should sequentially get even a little bit better here in the back half of the year. Would you be able to characterize that in terms of kind of basis points of magnitude kind of Q1, Q2 and then what you would expect here in the back half of the year?

So here's what I'll say, Jeremy, is that our outlook for the year assumes that freight improves in the second half to the point that freight is approximately in line with last year for the full year.

That freight is in line with last year?

Yes, yes, approximately in line on a full year basis.

Okay. And then just last one real quick here. Your ERP system update, which sounds like that's on track here and about to turn on. In terms of when we might expect to see that begin flowing through in terms of financial benefit, is that more of a kind of 2024 impact? Do you expect to see some benefit potentially in -- by Q4?

Jeremy, you pretty much nailed it. It's really a '24 and forward impact. The rest of '23 will be getting traction with the new system and learning our way around all the new functionality, that will eventually deliver some great benefit. But we're baking it more into our forward looking. And if we do see some benefit in '23, it's crazy, and we'll take it, obviously. But you kind of summed it up well with these size upgrades, you got to kind of have an on-ramp if you go live and have it sort of gain traction throughout the organization, and that's what we kind of planned. So we're looking forward to it. It's as I stated, it's a real game changer. And the upgrade is going to be greeted with lots of smiling faces and users.

Cool. Well, congrats on the progress and best wishes. Thanks for taking the questions.

Thanks, Jeremy. Have a good one.

Thanks, Jeremy.

Our next question is from the line of Chuck Grom with Gordon Haskett. Please go ahead.

Hi, this is Greg Sommer on for Chuck. I just wanted to kind of dig into what gives you confidence that the second half can improve. Obviously, student debt is hitting in a couple of months, and we've seen rising gas prices. I just kind of wanted to confirm I guess your consumer is probably under-indexed to student debt. And then, are potentially higher gas prices or even rent kind of factored into your outlook?

Greg, good to hear from you. Yes. So here's what I will say. We've been talking for a while now that we anticipate some modest improvement for our customer in the second half. And we've confirmed that with third-party economists that still holds. You are right that we under-index on student debt. Gas price increases harm our customer, there's no doubt. But here's what we need to focus on is really controlling what we can control. So if you think about the four initiatives that David has laid out, that is what is driving our expected improvement in the second half; making sure that we have the right product in the stores; that we are being as agile as we are known to be in adjusting to our -- the way our customer is voting with their wallet; making sure we've got the right mix of good, better, best; managing margin, you've heard before, right, controlling expenses and leveraging our technology. So it's really -- we're hopeful that our consumer, who we love very much gets some relief, but we're not sitting back and waiting for that. We are being pretty aggressive in going after all of the levers that we can pull.

Great. I had a quick follow-up. I was wondering if you could just comment on direction that your basket is trending and then also kind of the breakdown of the basket between AURs and units?

Yes, sure. Thanks, Greg. So we're happy to say that basket has improved in the second quarter versus the first quarter, and it's really driven by UPT primarily. So that's telling us that our customer is responding to our move to put more opening price points in our store, and they're filling their basket accordingly.

Great. Thank you.

Thank you.

Our next question is from the line of John Lawrence with Benchmark. Please go ahead.

Thanks. Good morning. Congrats, guys. David, would you talk a little bit about -- we've talked a lot about the ERP system. You're doing high 30s, and you work really hard to maintain that gross margin line. Looking forward, obviously, that system gets a return. We've talked about all the benefits and all of that. Can you spend a little time on what does it do for you on the expense line? I mean, does it help you leverage that line a little bit? And I see the possibility in '25 and '26 of a 40-plus gross margin, is that reasonable?

John, good to hear from you. I think what I'd say and summarize in the following way. The impact of the upgrading the ERP system will, first and foremost, drive the right product into the right stores at the right time, meaning it adds significant new functionality catered towards better planning and smarter allocations. So I always want to anchor the benefit around improving top line sales, which, as you know, is really what we're aggressively chasing given a relatively and high, frankly, fixed cost structure within the Citi Trends model. So I want to be sure that we always anchor our talks around ERP system impacts that it's all about the top line. Now to your point, it will impact gross margin, we believe, over the course of the next couple of years, can't comment whether or not we'll hit the number you mentioned just yet, too early in the game here, but it definitely provides us a really interesting way and compelling way to think about how we run the business a little differently from a planning and allocation point. That kind of kicks in, like I mentioned a few minutes ago, in '24. From an expense side, tough to -- if you consider kind of "markdown expense and expense", which we should, yes, it should, in theory, impact that, which we're looking forward. It might even impact freight expense a little bit because it might inform us how we better distribute out of our DCs. Still, again, very early, but as you can tell by my answer, we're thinking about it really holistically. First and foremost, it's sales driving. But then we'll see, I believe, benefits kind of sprinkled throughout different functions in the organization, including others world. It has a finance team benefit as well. So any event, we're looking forward to all these impacts as they come on, and it will just take a little bit of time as we kind of phase into it. Does that make sense?

Yes, thanks. Thanks for that. Just a follow-up. The never-ending question you get, I'm sure is, can you give us an update on how the remodels are doing and as some of those comp against the year before, how are they comping against prior history?

Yes, John, I'll take that. We remain pleased with our remodel program. Right now, we've got 15% of our fleet in CTX format. And then we like to look, our associates like to look and our customers like the look. We still see a lift in the mid- to high single-digit range for a period of time after the remodel on a year-over-year comp basis, they start to perform kind of like their market, right? I mean, they perform a bit better, but that degree of delta starts to come down over time, because our customers are getting used to our store, and we're comping over it, right? So still something that we're really excited about. We love the look, like I said. And we'll keep looking for opportunities to refresh our stores.

Great. Thanks. Congrats.

Thank you, John.

There are no further questions on the line at this time. I'll turn the call back to David for closing remarks.

Thanks, Chris. Thanks, everyone, for joining us today. Have a great remainder of the summer, and we'll see you on the next call. Take care.

That does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.