Good day and welcome to Haverty's Third Quarter 2019 Financial Results Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Richard Hare. Please go ahead, sir.

Thank you, operator. During this conference call, we'll make forward-looking statements, which are subject to risks and uncertainties. Actual results may differ materially from those made or implied in such statements, which speak only as of the date they are made, in which we undertake no obligation to publicly update or revise. Factors that could cause actual results to differ include economic and competitive conditions and other uncertainties detailed in the company's reports filed with the SEC. Our President, CEO and Chairman Clarence Smith will now give you an update on our results and provide commentary about our business.

Good morning. Thank you for joining our third quarter conference call. Our sales were slightly down from last year. However, we were pleased to have positive written sales up 1.6%. Our sales continue to be driven by the increasing average ticket, up 4.7% and the solid double-digit growth in custom upholstery. Traffic is down low single digits with a level closing percentage, while our comparative store sales decreased 0.4%. This is an improvement from the last three quarters' performance. The timing and impact of Hurricane Dorian threatening Florida and the Atlantic coastal stores over Labor Day week was particularly unfortunate. Labor Day week is our largest and most important sales event of the year, leading into the fall selling season. We were impacted due to the unknown, but constant threat of landfall from Southeast Florida to Virginia for almost two weeks. While we don't like to give weather reports, we'll point out that this disruption did impact our written and delivered sales for the third quarter. Over the Labor Day weekend, Dorian affected 11 markets from West Palm Beach to Norfolk, forcing us to close 25 stores from one to three days. Due to the storm being a Category 5, it affected our business three to five days before the storm passed each market due to the necessary storm preparations. We experienced no damage to our stores due to the storm. We believe that we'll catch up much of the ground in the fourth quarter. We've built a backlog of undelivered sales up 17% due to several factors. The factory disruptions related to the 25% Chinese tariff have impacted us more than we expected. The disruptions related to relocating the factories coming out of the ground, primarily in Vietnam, hiring and training new workers and working with the less developed…

Thank you, Clarence, and good morning. In the third quarter of 2019, sales were $209.3 million, a 0.6% decrease over the prior-year quarter. Our comparable store sales were down 0.4% for the quarter. Our gross profit margin decreased 130 basis points to 53.5% due to merchandise pricing and mix as we had slightly more aggressive promotions, coupled with higher product and freight costs during the quarter. In addition, tariffs and increased product costs generated a higher LIFO reserve. Selling, general and administrative expenses increased $976,000 to $104.2 million. This increase was largely driven by increased healthcare costs over the prior-year period. Other income was de minimis during the third quarter. However, in the prior year quarter, we recorded a loss on the disposal of some property that had been used as a drop site, which resulted in a total of slightly over $700,000 of expense. We recorded net interest income of $292,000 in the third quarter of 2019. We recorded net interest expense of $260,000 in the third quarter of 2018, resulting in a variance of $552,000 over the prior-year period. This variance is the result of the adoption of the new lease accounting standard we adopted in the first quarter of 2019. Income before income taxes decreased $3 million to $8.2 million in the third quarter of 2019 versus $11.2 million in the same quarter last year. Our tax expense was $2.1 million during the third quarter of 2019, which resulted in an effective tax rate of 25.4%. In the prior year period, tax expense was $2.9 million, which resulted in a tax rate of 25.5%. The primary difference in the effective tax rate and the statutory rate is due to the state income taxes and the tax impact associated with vested stock awards. Net income for the third…

[Operator instructions] Our first question will come from Bobby Griffin with Raymond James.

Good morning. This is Alessandra Jimenez on for Bobby Griffin. Thank you for taking my question. First, I wanted to dive a little into the production flow issue. Can we get a sense of what your China exposure is now?

We think it's somewhere around $70 million that's down from, well, it's down almost -- from $125 million or so. Richard, is that right?

Yes. We've gone down from 30% of our raw materials coming from China down to about a little under 20% -- about 18%. And you've seen a corresponding increase in our Vietnam exposure.

Okay. And then what number do you think we could get that down to?

Well, I don't think we know exactly. There's a lot in flux now about the tariff. We do have a number of significant important Chinese suppliers who we don't think can move the product or will move the product that we're still buying from. So, it will be reduced from where it is, but I don't know how much down.

Okay. And then from a gross margin perspective, can you quantify the puts and takes of gross margin decline in the quarter? And how you view those impacts moving forward into the fourth quarter?

Yes. I'd say, we've declined 130 basis points. For the year, our guidance remains the same, as we mentioned last quarter. But this particular quarter, about a third of it was tariff related, either product prices or LIFO, and then two-thirds was our more aggressive promotions during the quarter and our increased freight.

Okay. And then lastly, can you give us the breakout of fixed and variable SG&A for the quarter for our model?

Sure. Variable for the quarter was $38,104,000 or 18.2%, and fixed and discretionary was $66,057,000 or 31.6% of net sales.

Okay. Thank you. And best of luck on the fourth quarter.

Thank you. Our next question will come from Brad Thomas with KeyBanc Capital Markets.

Hi. Good morning, Clarence. Good morning, Richard. I wanted to focus on what I thought was a real bright spot in the business, the written comps and the strong custom orders. And I guess, I was hoping we could maybe piece it a little bit and you could give us a little context, do you have any sense for how much of a headwind to those written orders you think the hurricane was?

Richard, do you want to give any guess on that one?

Brad, it's a great question. It's hard to quantify, but let me just give you some background on our written business during the quarter. So starting in July, we had really strong written business in the mid-single digits. And in August, it was up about 9%. And then, in September, we basically gave August back. It was down about the same, a little bit more. So you can kind of see that Labor Day, the issues that were there, among other things, kind of created that. We basically gave up August and September with our written business. Overall, we're up 1.6% for the quarter. And as Clarence mentioned in his prepared remarks, we have a really strong backlog of undelivered sales up about 17%.

That's great. That was going to be my follow-up. I mean, we can see the customer deposits from the outside, it looks like that's up about 14%. As we think about sales in the fourth quarter, any degree to which you can help us think about quantifying what sort of a lift you might get, either in dollars or in percentage terms as you work to deliver some of that strong backlog?

Well, we typically avoid any kind of sales type guidance. Obviously, we feel good about going into the quarter with our backlog up 70%. And we'll just kind of have to see how it plays out.

Got you. But just directionally, do you feel like you're in a good position from an operations standpoint to work down that backlog and to get a benefit to your sales in the fourth quarter from that?

Yeah, we do. I mean, we expect that backlog to come down significantly by the end of the quarter. How much is still to be determined because a lot of the stuff is in flux. I mean, it's on the water. We certainly hope to be able to take advantage of it, but there are still unknowns about how that's going to play out.

And then just big picture, Clarence, I mean, as we think about the disruptions that you all in the industry have faced this year from tariffs. Do you feel like that is starting to work its way through the system that you can see where maybe end insight might come that your supplier relationships are going to be a bit more sticky with what you have set up at this point? I guess, said another way, is there a point where you think that this will get a little bit more back to normal?

Well, that's what we're expecting back to normal, both this quarter and into the first quarter because we do have a lot of goods that we know are coming, we expect to get in by the end of the year. Some of it will carry over. There's just a lot of pressure on these factories. As you know, everybody is trying to go to Vietnam at the same time, getting the product out and getting it on time has really been a struggle. And I think that is being fleshed out and worked out. There'll still be problems. You can't move that much product into brand-new factories and expect it to get out exactly the way you want it from the start. So we do feel a lot better about it. We met with our team this morning. Again, they feel that by end of the year and certainly, end of the first quarter, that should be eliminated.

Great. Thank you so much for the details, and good luck.

Thank you. [Operator instructions] Our next one will come from the Anthony Lebiedzinski with Sidoti.

Thank you, and good morning, fellas. So thank you for taking the questions. Just wondering how are you guys thinking about overall your promotional strategy and the third-party credit as well? Will you be looking to do more of the same? Or perhaps maybe dial up the promotions, just kind of wanted to get some better kind of clarity about that? How are you thinking about that?

We were pretty aggressive in the third quarter, primarily around Labor Day and the follow-up after that to try to gain back some business. I don't see us as getting more aggressive than that. And I think it is expensive to promote credit. We will be doing it. We'll be doing it a little more focused. I don't see that we'll be more promotional going forward. I think it's going to be well planned, tighter and I think more effective going forward including this quarter.

Got it. And then as far as your penetration of your H Design program, where are you now? And where do you think that will ultimately go to?

It's still increasing. It's in the mid-20 percentage and I think it will continue to go up. I don't see it going up rapidly. I think probably into the high 20% would be the objective and where we'd see it leveling off.

Got it. Okay. And lastly, you guys talked about opening a few new stores next year kind of wondering as far as the timing of that and also, do you anticipate any store closings next year?

I think we'll net a couple of stores next year, several, two or three. They're in process. Leases are not finalized, and we don't announce those until they are and that takes some time. So, it will be late in the year probably when those come online in the second half anyway.

Thank you. [Operator instructions] I am showing there are no further questions in the queue at this time.

Well, thank you for your participation in today's call. We look forward to talking with you in the future when we release our fourth quarter results.

Thank you, ladies and gentlemen, this concludes today's teleconference. You may now disconnect.