Greetings. Welcome to Citi Trends' Second Quarter 2024 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note this conference is being recorded. I will now turn the conference over to Nitza McKee, Senior Associate at ICR. Thank you. You may begin.

Thank you and good morning, everyone. Thank you for joining us on Citi Trends' second quarter 2024 earnings call. On our call today is Interim Chief Executive Officer, Ken Seipel, 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 you to the company's most recent report on Form 10-K and other subsequent filings with the Securities and Exchange Commission for 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 Interim Chief Executive Officer, Ken Seipel. Ken?

Thank you, Nitza. Well, good morning, everyone, and thank you for joining our Q2 earnings call today. Since our first quarterly call, I've had the opportunity to evaluate our business and chart corrective measures to enhance the long-term sales and profitability of Citi Trends. Today, we'll discuss the strategic actions taken in Q2 to prepare Citi Trends for future growth and outline important work underway to improve our near-term and long-term results. And I must say, while there's a lot of work ahead still, I'm more energized and optimistic than ever about our company's future. So turning to Q2, in Q2 we achieved growth in customer traffic versus last year, which indicates our core customer remains highly engaged with the Citi Trends brand and our unique store experience. Our home and impulse categories deliver double-digit comps, and our back-to-school children's categories got off to a good start. I'm pleased to report that we've experienced continued momentum in the important back-to-school period with positive single-digit comparable store sales growth in Q3 to date. Importantly, Citi Trends remains in a healthy financial position with strong liquidity and no debt, allowing us to execute the foundational work necessary for future growth and profit acceleration. Since stepping into the business on June 1st, I made an evaluation of several key areas of our business, including an extensive review of our product assortment. Relatedly, I made the strategic decision to execute markdowns in the second quarter, to quickly clear through aged inventory and make room for new product. This action will enable us to consistently offer pressure, balanced assortments of good, better, and best products. At the same time, we're swiftly capitalizing on two distinct opportunities, versus enhancing the treasure hunt experience by securing branded goods at significant discounts, while also increasing the penetration of…

Thank you, Ken, and good morning, everyone. Let me start by saying that I, too, am excited about the growth opportunities that lie ahead for Citi Trends and strongly believe that the definitive actions we are taking set us up for long-term success. Before I review our second quarter results and update you on our outlook, I'd like to provide some additional color on two unique aspects of our second quarter, our successful inventory reset and our shrink results. I would characterize these two items totaling $13.4 million of expense in the quarter as one-time in nature and not reflective of the underlying strength of the business or the long-term potential of the Citi Trends brand. Note, however, that they are included in our adjusted EBITDA results for the quarter. As Ken mentioned, we made the strategic decision to quickly move through aged inventory to make room for new products. The inventory reset resulted in $9.4 million of second quarter markdowns. In addition, and despite progress on several meaningful initiatives, we incurred higher than anticipated shrink from physical inventory results in the quarter. As a result, we appropriately increased our accrual for shrink, which had an outsized impact on Q2 due to the catch-up nature of that adjustment. In total, we incurred $4 million of unexpected shrink expense in the quarter. As you know, there are three categories of shrink in retail, internal theft; administrative, flash, recordation issues in either stores or DCs; and external theft. We are working hard to change the recent trend in each of these categories. Internal theft has been our primary area of focus, and we've identified and are implementing several mitigating tactics to improve impressions of control, many of which we discussed last quarter, including updated in-store theft prevention equipment, increased use of exception…

Thank you, Heather. In summary, our plan is a clear focus on our core customer, strong product value proposition, trendy fashions with more treasures in the treasure hunt, consistent execution of our business model, and disciplined expense management, the combination of which contributes significantly improved profit margins. Executing this amount of change in a short period of time can be challenging, so I'd like to take this opportunity to thank our entire Citi Trends team for their high level of engagement in driving the success of our business. I spoke earlier of the work of our merchandise and distribution teams, but I also would like to extend my sincere appreciation to all of our store and corporate teams for their extra effort and hard work these past couple months. I am confident that our entire internal team is excited about our direction and eager to execute a winning strategy for our shareholders. I also want to express my appreciation to our long-term shareholders. In a turnaround situation, the initial road can be a little bumpy as we repair, replace, or implement new processes that enable consistent execution and profit flow through. So shareholders, rest assured, your patience will be rewarded. As CEO, my interests are fully aligned with our individual and institutional investors, and I really look forward to enjoying success with all of you. I will now return the call to our operator, Darryl, to facilitate questions. Darryl?

[Operator Instructions] Our first questions come from the line of Michael Baker with D.A. Davidson. Please proceed with your questions.

Okay, thanks. First just wanted to focus on the comp, the top line. Just a little bit more color on what was below plan. So size of the transaction was down. Was that fewer items per basket, or is that due to the lower price points, due to the markdowns? Just a little bit more color on what drove that. And then what categories missed? What was -- I guess you said in the press release what was good, but what missed I guess in terms of categories?

Hey, Mike, good morning. Good to hear you. So from a retail metric perspective, transactions were up in the quarter, which Ken mentioned. Basket has been under pressure. And we've seen UPT declines pretty consistently, but AUR remains up. So it's really, it's the number of units that our customer is choosing to put in the basket is really causing the pressure. From a category perspective, we mentioned children's off to a good start, uniforms off to a good start, back-to-school to a good start. I mentioned that Father's Day and July 4th in particular were strong. They really responded to the Americana that we had on the floor and getting ready for summer barbecues. So that was off to a good start. This will sound repetitive from what we talked about in prior quarters because it has been a trend. Footwear continues to be a drag on the business. Home continues to perform well because of the inventory rebuilds that we've done. So still continuation of theme there. Impulse also, which we formally called Q Line, also performing well with our customers. So it's really a continuation of theme from prior quarters on what worked, what didn't work, but with a particular focus in the latter part of the quarter on the success of the children's business.

Okay, understood. Thank you. If I could ask a follow-up on just on the shrink and more just the way the accounting works on that. So I understand you took a big step-up this quarter to catch up on the accrual, but does this still remain a drag over the coming quarters until you cycle that step-up because now you are accruing at a higher rate than you were presumably a year ago? So is it a drag in the gross margin and presumably though that's incorporated in the 39% back-half outlook? Is that fair to say?

You are correct. The drag versus last year lessens in the fall season, but it's still there. And then absolutely it is -- the increased accrual is incorporated into that 39% guide.

Okay. Thank you.

Thanks, Mike.

Thank you. Our next questions come from the line of John Lawrence with The Benchmark Company. Please proceed with your questions.

Yeah, good morning, guys.

Good morning, John.

Hey, John.

Yeah. Ken, could you spend a little time and just tell me just that rationalization, when you look at that, when you talk about aged inventory and just digging down another level on the write-down sort of what factors go into that? How old is some of this inventory? Was it something that you had tried to clear and just didn't get through? If you can sort of walk through the nuts and bolts of that if you will, please.

Yeah, happy to. A couple things in it, John. So when I first looked at the inventory for the business, the company, as you probably remember from Q1, had a reasonably aggressive sales plan in place and missed that plan, although we had a comp increase for Q1. So the inventory was actually overpurchased for that quarter. And you begin to see from there, and a little bit of a softness in the Q2, a lot of the inventory geared to sell in that important Q1 timeframe just was backing up and certainly not turning at the rate that it needed to. This blocking room for new receipts which is the lifeblood of our business. When looking at it, it was pretty clear that we needed to take more aggressive action to take the markdowns, get them moving. And I am happy to report, actually, we've sold through a better part of 40%, 50% of that inventory already. And it looks like it's going to be clear and out of our stores here very soon. In terms of the nuts and bolts of it, I think an opportunity that we identified and actually is being implemented literally next week after Labor Day is to improve our overall markdown process. And what we're doing now is taking a much more thorough look at aged inventory. And aged is defined by not so much a time, I should say slow selling inventory, and making sure that we've reduced the price of that on a regular basis to take advantage of that in-season selling of a markdown and move that slow seller out quickly. And then behind that, we also have a follow-up process for second markdowns. The teams are also in the process of updating our in-store presentation and making it much more easy for the consumer to shop and access that product. I think the combination of both the cleanup and then actually our new actions that are in place now to prevent this from happening in the future should make this a non-issue as we go forward. And most importantly, it will keep our inventories clean and ready to receive new product, which will in fact help us fuel our top line sales.

Thank you for that. And then, secondly, just to follow up, can you talk about the results of the new system and how Is it working on the allocation side as far as new products and categories, et cetera, from an ordering standpoint?

Yeah, the new system, Island Pacific ERP system we installed, does have, as you point out, an allocation module in it. As we look into the module a little bit more closely, what we've discovered is there's a lot of complexity with executing this particular system. It actually has about every bell and whistle one could ever imagine when it comes to allocation. But unfortunately, what we need to do is to make it a little bit simpler and easier for our teams to execute and implement. So we are underway right now doing a couple things. One, we are trying to think about ways that we can fine tune the use of the system. One of the things I've asked our teams to do is to reduce the number of overall store clusters that we are trying to allocate to. That will help them be a little bit more focused on dividing up the inventory appropriately between our low volume, mid volume, and high volume stores. That will help us in the interim to get better with allocation. And in longer term, we do believe that there's a bolt-on opportunity and we're highly investigating currently a couple of AI solutions that we believe can help us with future forecasting. And if I were to be critical of our current system, it's probably the one big deficit that we have, is it doesn't have a real robust future forecasting module with it. And certainly an opportunity for us as we go forward and start to kind of anticipate consumer needs, and more importantly, as this business continues to grow, we need to be really crisp and clear about the trends going forward. And so I think the combination of kind of some interim steps to make our current system better and the idea that we may need a bolt-on and AI solution will make allocation one of our competitive strengths actually.

Great, thanks. Good luck.

Thank you, John.

Thank you. Our next questions come from the line of Jeremy Hamblin with Craig-Hallum. Please proceed with your questions.

Thanks for taking the question. So I wanted to come back to what you're seeing on the same-store sales trends. The first question would be in terms of the remainder of Q3 and Q4, can you help us to understand one, if the compares get easier from here or if they get a little bit tougher? And then secondly is just in terms of taking a high-level look, you note that you've got traffic growth, and that sounds like that's sustained here to start Q3. But your same-store sales down on top of a pretty easy compare from last year, when you have a lot of larger players in extreme value apparel category that are reporting fairly strong same-store sales on top of strong same-store sales from last year. Given that you kind of juxtaposition with traffic, do you sense that the bigger problem here is the merchandise assortment itself or the price value equation that is kind of causing some customers maybe to not buy as much from you and potentially to go over to some competitors?

Yeah, Jeremy, thanks for the question. I'll kind of take the last part of your question first, and then I'll let Heather talk to you a little bit about the go-forward compares. I think, essentially what you said is really the problems that we've identified coming into the business. Ultimately we believe the assortment itself, and I'm speaking in terms of Q2, had become a little bit stale and a little bit out of sync of our consumer demands. As I mentioned, we were missing some opening price point portions of the business, and then we actually didn't have enough brands in the mix that were appealing to our consumers. So part of the action that we took to take the markdowns was to clear out some of that product that we knew was not working. And then we're in the process of implementing the new things that I mentioned earlier. But most notably, I've been really, really pleased with the work our merchants have done so far in near term to react. For example, if you look at what's happening right now in August, our Children's department is having a very robust period. Right in the middle of the peak, they've really done a nice job of growing the business. And that's actually coming as a result of going into market and getting some additional branded product in place that the consumer is reacting to. Our uniform business has been excellent as well, and that's a recovery of the missed opportunity for the past year, as well as our home business has been strong. And that's actually an inventory step-up that's helped that business kind of grow substantially. And those are our reversals of trends that we saw coming out of Q2. Now, home had been okay in Q2, but certainly it was accelerated. But I think if I could step back and just say that the challenges, the reason we're lagging in consumer sales, as you point out, against the other competitors, is our assortment plan has just not been dialed in correctly. And part of it is the price value equation, but more often it's the offering, which we're adjusting and certainly see some results with. And I expect we'll get significantly better as we go forward. In terms of the compares, I'll let Heather talk a little bit about the road ahead on our compares.

Yeah. Hey, Jeremy, good to hear you. As I look at it, spring last year we had a negative 10% comp. In the spring and in the fall we delivered a negative 3.7% comp. So that tells me that the compares are actually getting a little bit harder in the fall, but we're not worried about the compare. We're worried about what are we doing to drive the top line, right? And so all of the things that we've talked about this morning, inventory reset, a new focused approach on our customer, a new focused approach on our product, a better best assortment, opening price point, real strong value statement. And I've got to tell you for me personally, the most exciting piece is the branded good approach that Ken is bringing to the table, right, that will bring the excitement back into our stores. It will cause our customers to pick up the phone and call their friends. That is the strongest marketing arm in the history of Citi Trends is when that word of mouth marketing kicks in. So because of that, I would say, I hear you on the compares. It actually gets a little harder in the fall if you just stare at the numbers, but we're not letting that slow us down. And we're going after all the levers that we've described this morning to make sure that we are creating the excitement around product that our customer expects from Citi Trends to drive foot traffic, drive comps.

Got it. Helpful color. And then just coming back to the shrink for a second. So, I think it seems like the, at least in Q2, the $4 million impact is over 50 basis points on an annualized basis. It's over 230 basis points relative to Q2 impact. But I think in total, it's maybe about double what you had previously expected and just wanted to understand if shrink is being -- if you're identifying more of a problem with internal shrink issues or if this is more of a customer shrink issue?

Thanks, Jeremy. I appreciate that. And I promise you that this is a very frustrating topic for a lot of us at Citi Trends. It gets a lot of focus. We are pulling a lot of levers. It always takes time and frankly I think we can't move fast enough or work hard enough on this shrink line because it feels like it's a left hook, right hook when we talk about shrink. Last quarter when we discussed it, we felt like we had our hands around it. We were pulling all the levers. We had not made an adjustment to the accrual because the data didn't support it. The counts that we took up until that time supported the accrual that we had in place. Unfortunately, with Q2, We did another big chunk of stores. We count our stores every month. We counted over 200 stores in the second quarter. And at that point, looking at the data, it did support an increase in the accrual. So, we're working hard at it. I will say though that, and I recently learned that this is consistent with the broader industry, Jeremy, that internal theft is our primary area of focus, right? And that is our primary first place that we're looking to, to increase impressions of control. All the things that you've heard me talk about for two quarters now are absolutely happening, starting to turn the tide. The other piece that is in our control, I talked about the three buckets in my prepared remarks, the other piece that is in our control is the administrative or the recordation, right? Where, how is the flow of inventory-related data, how is that working throughout the supply chain or the data supply chain, if you will, and making sure that we don't have any leaks and that we are correctly reporting at the store level and at the DC level what the on-hand inventory is. So that's another place that we're attacking. External theft, always a concern. It's just a part of Citi Trend's history, part of Citi Trend's makeup. Probably more to come there. A lot of the things that we're doing on the internal theft side will also provide some help on the external theft. But this third-party consultant that we've talked about throughout the morning is really looking to help us accelerate across all three categories. So we're excited to continue to learn from them and see what we can do to move it forward.

Got it. Just really quick last one to sneak in here. In terms of the comment around the shifted 13-week to 13-week basis, just wanted to understand for, as it relates to Q2 and then into Q3 or Q4, was there a positive benefit in Q2 and then how does that relate to Q3?

Yeah. We talked about this a few quarters ago that from a calendarization perspective, lots of moving pieces, parts, but the bottom line is that in Q2 we moved an important back-to-school week into the second quarter. So it had a little bit of a positive impact. Q3 is minimal. That week moves out, but then a pay week moves in. So kind of neutral in Q3.

Got it. Helpful color. Thanks and good luck the rest of the year.

Thanks, Jeremy.

Thank you. We have reached the end of our question-and-answer session. I would now like to turn the floor back over to Ken Seipel for any closing remarks.

All right. Thank you, Darryl. Well, again, thank you, everybody, for joining us today. And we really look forward to updating you on some exciting results as we continue to go through and execute our strategies. Thank you.

Thank you. This does conclude today's teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.