Good day, and welcome to the Flexsteel Industries, Inc. First Quarter Fiscal Year 2026 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Michael J. Ressler, Chief Financial Officer for Flexsteel Industries, Inc. Please go ahead.

Thank you, and welcome to today's call to discuss Flexsteel Industries, Inc.'s first quarter fiscal year 2026 financial results. Our earnings release, which we issued after market close yesterday, Monday, October 20, is available on the Investor Relations section of our website at www.flexsteel.com under News and Events. I'm here today with Derek Paul Schmidt, President and Chief Executive Officer. On today's call, we will provide prepared remarks and then we'll open the call to your questions. Before we begin, I would like to remind you that the comments on today's call will include forward-looking statements which can be identified using words such as estimate, anticipate, expect, and similar phrases. Forward-looking statements by their nature involve estimates, projections, goals, forecasts, and assumptions and are subject to risks and uncertainties that could cause actual results or outcomes to differ materially from those expressed in the forward-looking statements. Such risks and uncertainties include, but are not limited to, those that are described in our most recent annual report on Form 10-Ks as updated by our subsequent quarterly reports on Form 10-Q and other SEC filings as applicable. These forward-looking statements speak only as of the date of this conference call and should not be relied upon as predictions of future events. Additionally, we may refer to non-GAAP measures, which are intended to supplement but not substitute the most directly comparable GAAP measures. The press release, available on the website, contains the financial and other quantitative information to be discussed today. And with that, I'll turn the call over to Derek Paul Schmidt. Derek?

Good morning, and thank you for joining us today. I am pleased to share with you our first quarter results. We continue to execute well and delivered strong sales growth and sizable year-over-year profit improvement in the quarter. While industry demand remains lackluster due to challenging macroeconomic conditions, we continued our growth momentum and delivered 6.2% sales growth in the quarter, representing our eighth consecutive quarter of year-over-year growth. Encouragingly, the sources of our growth remain diverse and balanced across our core market initiatives and new and expanded market efforts. In our core, new products and share gains with strategic accounts continue to drive growth. In new and expanded markets, growth is primarily driven by ramping sales in both our case goods and health and wellness product categories. We feel confident that our growth strategies are working and will continue to drive future sales increases propelled by focused investments in consumer research, new product development, innovation, and marketing. While I'm pleased with the success of our consistent line growth over the past two years, particularly considering industry headwinds, I'm also especially pleased with our progress driving meaningful year-over-year profitability improvement. Operating margin was 8.1% in the quarter, up 230 basis points compared to 5.8% in the prior year quarter, and represents our tenth consecutive quarter of year-over-year adjusted operating margin improvement. The levers driving our consistent profit improvement are unchanged and working well, and include benefits from sales growth leverage, effective cost control from strong operational execution and productivity gains, and disciplined product portfolio management, including improved margin profiles from new products. As we look forward to the remainder of our fiscal year 2026, our outlook for industry demand in the broader economy is restrained. While the U.S. economy remains resilient, and the prospect of additional Fed interest rate reductions…

Thanks, Derek. The first quarter net sales were $110.4 million, or growth of 6.2% compared to net sales of $104 million in the prior year quarter. As Derek mentioned, this marks our eighth consecutive quarter of sales growth compared to prior year periods and exceeded the upper end of our guidance range of $105 to $110 million. The increase was driven primarily by our Source Sauce Seating products, partially offset by lower unit volume in our made-to-order soft seating products and Home Styles branded ready-to-assemble category. The current quarter includes roughly $2.4 million in pricing from tariff surcharges. Sales order backlog at the end of the period was $66.7 million, which was relatively flat to backlog at the end of the prior quarter. From a profit perspective, the company delivered GAAP operating income of $9 million, or 8.1% of sales in the first quarter. The GAAP operating margin exceeded the top end of our guidance range of 6% to 7.3% of sales. The outperformance to our guidance range was primarily due to leverage on our fixed cost due to higher sales and $700,000 in favorable foreign currency translation on our peso-denominated assets in Mexico, resulting from the peso strengthening against the U.S. dollar in the quarter. As Derek mentioned, through pricing actions and cost reduction initiatives, we were largely able to mitigate the impact of tariffs in the quarter. Moving to the balance sheet and statement of cash flows, the company ended the quarter with a cash balance of $38.6 million, working capital of $116.9 million, and no bank debt. Higher profit and effective working capital management offset annual cash outflows for cash incentives, software, and insurance renewals. Given the level of uncertainty regarding the impact of tariffs on our business, we believe it is appropriate to pause on providing any forward-looking guidance at this time. As the impact of tariffs, pricing actions, consumer demand, and our cost savings efforts become clearer, we will continue to share more information. With that, I'll turn the call back over to Derek to share his closing perspectives.

Thanks, Mike. While macro conditions will likely continue to suppress industry growth in the near term, and the new Section 232 tariffs on furniture will exacerbate demand uncertainty, I believe that our exceptional talent combined with our continued growth investments will enable us to effectively navigate the difficulties ahead while keeping us well-positioned to drive attractive top-line growth and earnings long term. Our organization is nimble, and our teams are moving urgently on a balanced response plan to tariffs to minimize the adverse financial impact on the company while still maintaining our growth focus and pace of investments to support continued share gains. We are also staying on the offense. Most of the U.S. furniture industry will be negatively impacted by the new tariffs to varying degrees, and in times of disruption such as this, we will look for opportunities to move faster and think bolder than our competition to further strengthen our position. With that, we will open the call to your questions. Operator?

We will now begin the question and answer session. Please pick up your handset before pressing the keys.

The first question comes from Anthony Chester Lebiedzinski with Sidoti. Please go ahead.

Good morning, everyone, and thank you for taking the question. So certainly an impressive quarter given the operating environment that Derek, you talked about in the press release as well as on the call about uneven demand during the quarter. I was wondering if you could provide more details. Obviously, we had Labor Day in the middle of that quarter. So maybe you can just kind of speak to that as to the trends that you saw as you went from early July through September? Would love to hear your thoughts on that.

Yes. What I was referring to there, Anthony, was really, I mean, weekly store traffic and sales as well as our orders were very volatile. And to give you an example, the weeks leading up to Labor Day were extremely weak. The week and the week after Labor Day were extremely strong. And then immediately after that, demand and store traffic dropped again. It's been difficult for us to get a strong pulse on really the overall health of, I think, the furniture consumer because there has been so much volatility, especially on a week-to-week basis that typically isn't normal, certainly in our business or kind of the industry. And I would certainly probably attribute that to, I mean, number one, the uncertainty around tariffs. But then again, there's some uncertainty around just the overall macro environment. And so I think consumer confidence, like I said, is a bit shaky. And so it's not entirely surprising that we saw stronger sales around the holiday period. I think strained consumers are looking for deals in this type of macroeconomic environment, and I think that will be true as we go into the holidays as well.

Understood. Okay. All right. And then thinking about the new tariffs, you talked about putting in place tariff surcharges. Can you comment as far as like what the level of the surcharges was? And I know you're not giving guidance, but maybe you could just help us think about like as far as the impact of those surcharges may have on your sales and gross margins? If any kind of additional help would be certainly beneficial?

Yes, Anthony, I'll give you two perspectives. Because we have different businesses, we have our in-stock source product business, and then we've got our made-to-order business out of our Aurora facility. So on our in-stock source business, when the 20% reciprocal tariff was in place, we had an 8.5% price surcharge on those products. And that increased to 15% to cover eventually when the tariff goes to 30%. So effectively, we're headed toward a 30% tariff, and we're passing half of that increase along through surcharges. And then similarly, on our made-to-order business out of our Juarez facilities, I mean, you understand prior to the October 14 Section 232 tariffs going into place, we were USMCA compliant. So there was no tariff on that part of our business. That is going to 30% here by the end of the calendar year. So we did similar to our source business, put a 15% pricing surcharge on those products.

Okay. So I guess it's totally about the impact. Mhmm.

Yes. Yes. I think certainly there will be some demand decline as a result of these price increases, not only for Flexsteel Industries, Inc., but I think across the industry. Certainly on the source side, we're seeing all of our competitors take similar, if not larger, price increases in the market. So I think that will certainly impact demand. To what magnitude, I think, is to be determined here in the coming weeks and coming months.

Understood. Okay. And I know you guys have done a great job as far as focusing on new products. Can you speak to like as far as like do you guys have a goal in mind as far as what percent of your sales you want to come from new products or do we think about that? And as far as pricing on those new products relative to the core business, how should we think about that?

Yes. I think our long-term goal is 30% to 40% of sales being derived from new products, and we define that as new products launched within the last three years. To give you context here in the first quarter, our sales comprised a little over 50% from new products. So we are certainly delivering on that goal. We know it's a huge catalyst for the success we've had over the last two years, and we're investing aggressively. In terms of how we think about pricing, when we introduce new products, we're constantly trying to cannibalize ourselves. So really the intent is to constantly bring new improved value to our retailers and to our consumers. So we're aiming for better quality, better comfort, better functionality, at a better value. And so in terms of price, it's really we're looking to bring better value to the market at similar, if not lower, prices than our current product.

Got you. All right. And then you've done a nice job also with your case goods business. Certainly understand it's a relatively small piece of the overall business, but thinking about going forward, do you guys have a goal in mind as far as how much you want to increase case goods? What percent of sales could that be at some point?

What I want to tell you, Anthony, we do have internal goals. I'm hesitant to share that too publicly just for competitive reasons. The case goods category, to be honest, has been more challenged than other product categories in the industry over the last couple of years. That said, it's still a very, very large category for overall U.S. furniture consumption. And I'm really pleased with the magnitude and the quality of new product that we've come out with over the last several years. So I still feel strongly that we're well-positioned here to gain our fair share. And I do believe that it's going to be a critical growth driver in the years to come. And I think as we start to ramp those up more significantly, I think we'll be more open to sharing details around how we think about our portfolio composition.

Got you. Okay. And my last question, so the tax rate was lower than last year and lower than what we had expected. Was there anything significant in the quarter to affect that, and how do we think about the tax rate for the balance of the year?

Yes, Anthony. In the quarter, there were a couple of discrete items. Number one, just a change in reserve for uncertain tax positions. And then also a little bit higher R&D tax credit and lower foreign taxes were kind of the driver. But I would just say on a go-forward basis, we expect the rate to be a little bit, a couple hundred basis points higher kind of for the remainder of the year.

Understood. Well, thank you very much, and best of luck. And look forward to seeing the new products in High Point.

All right. See you on Friday. Thanks.

Our next question comes from William Joseph Dezellem with Tieton Capital. Please go ahead.

Thank you. Two questions. First of all, relative to your comment that competition is responding in a similar or larger way, would you please quantify the magnitude of price increases that you are seeing relative to your 8.5% to 15%? And then secondarily, I was a little confused when you referenced you had products that were USMCA compliant, but it sounds like the recent tariffs are changing that dynamic. Would you provide, I guess, some fuller picture and fill in the blanks on the dynamics there, please?

Yes. Maybe, Bill, I'll start with your last question and then move to your first one. In terms of the USMCA compliance, so when the reciprocal tariffs were put in place, there was an exemption for USMCA compliant product. With Section 232 tariffs, that includes the ones that the White House has put on aluminum, steel, there is no exemption for USMCA compliance. So again, it's a matter of how the new proclamation was written. Certainly, hope is that as Mexico and Canada continue to negotiate with the U.S. administration, they can influence and potentially get an exemption for USMCA compliant. But as of now, the way the proclamation is written, there is no exemption. So that's why the change, specifically how the tariffs were written. In terms of your first question regarding pricing competitiveness, for our source products, again, I described how we're going from a current 8.5% surcharge up to 15%. We've gotten a plethora of competitive information, but we're seeing some of our main competitors go as high as 21% to 25% relative to our 15%. Now there's some other competitors that are slightly lower, but by and large, we're seeing the competitive set pass through these latest tariff increases almost 100% to retailers and consumers. So that at least gives us some confidence here that we are not weakening our competitive position versus other alternatives in the market.

Taking that one step further, have you heard from any portion of your retail customers that because you are taking prices up 15% versus these higher numbers that you may be getting more business from them?

Certainly, it's a possibility. I think, Bill, it's too early to speculate on that. As I noted in my comments earlier, going into our semi-annual High Point market this week, we will have the opportunity to converse with hundreds of our retailers. And so I think we'll get a better pulse on how they're feeling about the changes and their view on how they think it's going to impact consumer demand. But I think it's going to take us probably another five, six, seven weeks here to really get our arms around how the consumer is going to respond to these pricing changes in the market.

Great. Thank you. Congratulations on a good quarter.

All right. Thanks, Bill.

This concludes our question and answer session. I would like to turn the conference back over to Derek Paul Schmidt for any closing remarks.

In closing, I want to thank all of our Flexsteel Industries, Inc. employees for their hard work and dedication in driving the company's strong performance during the first quarter. I'm also thankful to all of you for participating in today's call. Please contact us if you have any additional questions. And we look forward to updating you on our next call. Thank you, and have a great day.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.