Welcome to the Williams-Sonoma, Inc. Second Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the conclusion of the prepared remarks. I would now like to turn the call over to Jeremy Brooks, Chief Accounting Officer and Head of Investor Relations. Please go ahead.

Good morning, and thank you for joining our second quarter earnings call. Before we get started, I'd like to remind you that, during this call, we will make forward-looking statements with respect to future events and financial performance, including our revised guidance for fiscal '24 and our long-term outlook. We believe these statements reflect our best estimates. However, we cannot make any assurances that these statements will materialize and actual results may differ significantly from our expectations. The company undertakes no obligation to publicly update or revise any of these statements to reflect events or circumstances that may arise after today's call. Additionally, we will refer to certain non-GAAP financial measures. These measures should not be considered replacements for and should be read together with our GAAP results. A detailed reconciliation of non-GAAP measures to the most directly comparable GAAP measure appears in Exhibit 1 to the press release we issued earlier this morning. This call should also be considered in conjunction with our filings with the SEC. Finally, a replay of this call will be available on our Investor Relations website. Now, I'd like to turn the call over to Laura Alber, our President and Chief Executive Officer.

Thank you, Jeremy. Good morning, everyone, and thank you for joining the call. Before we review our Q2 results, I want to take a minute to recognize our team for their continued contributions. We recently held our General Managers Conference in Arizona. It was our first leadership conference since the pandemic and all of us have been inspired by the level of passion, dedication and talent of our store management and field teams. Today, we are reporting strong results for the second quarter of 2024, which were driven by our Q2 improved top line trends, market share gains and continued delivery on our commitment to profitability. In Q2, our comp came in at negative 3.3% and we exceeded profitability estimates with an operating margin of 16.2% and earnings per share of $1.74, reflecting the 2-for-1 stock split we completed in July. We are pleased with our strong operating results and the operational improvements that produced these results. We continue to demonstrate the strength of our margin profile even in a difficult market. There is no doubt that the Home Furnishings market is challenged due to the uncertainty in the economy, coupled with slow housing. This leads us to believe that we may not see the back half acceleration that we expected despite all of the hard work we've done to improve our product offer and our customer experience. Therefore, we believe, it is prudent to reduce our top line outlook for the balance of the year, while continuing to deliver on our commitment to profitability, and in fact, we are raising our bottom line guidance. We are now expecting full year revenues to come in at range of down 4% to down 1.5%, but we are raising our guidance on operating margin to be in the range of 17.4% to…

Thank you, Laura, and good morning, everyone. We're pleased to deliver another quarter of strong results, highlighted by our Q2 improved top-line trend, market share gains and earnings that continue to exceed expectations. Laura touched on our three key priorities for fiscal year '24. One, returning to growth, fueled by product innovation and channel experience. Two, elevating our world-class service, which produces both customer retention and expense savings. And three, driving earnings as we continue to deliver strong profitability. These three priorities connect directly to the five key drivers underpinning our strong profitability in Q2. First, our e-commerce sales mix with its higher operating margins sustaining at 66% of total revenues. Second, our retail optimization strategy delivering 3% less occupancy expense inclusive of additional technology and supply chain investments. Third, the pricing power of our in house designed proprietary products and our emphasis on full price selling contributing to a 380 basis point improvement in merchandise margins. Fourth, our supply chain efficiency from our relentless focus on customer service and operational excellence, producing 180 basis points improvement in selling margins. And fifth, our ability to control costs, as we continue to manage variable employment costs materially in line with top-line trends. Given our strong second quarter results, we're confident, we'll continue to gain market share and deliver strong earnings even in this uncertain environment. Now, let's dive into the numbers. I'll start with our Q2 results and then provide an update on guidance for '24. Net revenues finished at $1.79 billion slightly below our expectations. We gained market share as our comp of negative 3.3% outperformed the industry, which declined by approximately 10%. Importantly, we accomplished this EBIT, as we reduced our overall level of promotions in the quarter. Our Q2 comps improved from Q1, reflective of better performance in…

[Operator Instructions] Your first question comes from the line of Chuck Grom with Gordon Haskett.

Hi, thanks. Good morning. I was hoping you guys could talk about the cadence of sales throughout the quarter across banners? And also any early readings on back-to-school, back-to-college in recent weeks?

The cadence of sales for us isn't really a relevant indicator. I know you all love to ask the question and also how this quarter is going, but it doesn't really amount to much in terms of predicting where we're going to be. Remember, as we look to the back half, we have a big ramp in seasonal businesses. And that is not - so what's happening now is not the same as what could happen then. And back-to-school is a great example. Innovation is a key part of our strategy and especially in our life stage and seasonal holidays, where we're seeing great response and back-to-school is no different. It's actually one of our highlights. We've really seen our initiatives, particularly in Dorm, really gain traction, and we're really gaining share in the Dorm market serving the customer with very high-quality products. It's significantly positive. We're chasing inventory, its high margin, and it's driven by both the product in bedding, also our no nail solutions, bath and flooring. It's also driven by our exclusive collaborations such as LoveShackFancy and Roller Rabbit, which has been fantastic for that demo, and then our channel functionality. So, for example, Dorm functionality launched earlier on the site this year, which we think was really good for our customers to be able to consider, what they would buy before they actually get into school. And we had a shareable Dorm wish list, a bedding visualizer and then retail. We really pushed Dorm at retail both in our kids' stores, our teen stores and we did a small setup in our Pottery Barn stores to really help drive awareness to build that market share. We've also worked with partners and influencers to drive awareness and driving traffic off the Pottery Barn website to the dorm and back-to-school shop has been another critical part of what we're doing.

I just actually just moved my daughter into college, and I could tell you the Dorm business is very real. Jeff, just one for you, looking ahead into the back half of the year, any thoughts on the phasing of comps in the third and fourth quarter and any impact with the five fewer shopping days this year?

Yes, let me start with the shorter holiday season. Our quick answer on that is that the impact is already embedded in our guidance. There's a lot of puts-and-takes on this one for us. For one, a shorter holiday season, each day has to work harder, especially at retail. But this year's calendar with Christmas moving from Monday to Wednesday is more favorable for e-commerce. I think everyone knows, our mix is 66% e-commerce. So that is actually a good guide for us. Then when you think about the back half for us, this year is a 53-week year, so our fourth quarter has 14 weeks in it. Punchline on this is, there's a lot of puts-and-takes for shorter holiday seasons, but it's in our guidance. As we think about the back half, as I said in my prepared remarks, the way we set up our guidance is the midpoint of our guide reflects the continuation of the first half economic and consumer dynamics to the back half. The high end of our guide implies some acceleration in industry trends, coupled with increased traction of our growth initiatives. And if holiday proves out to be better, there could even be upside there. The low end of our guide recognizes the macroeconomic environment may have a greater impact on our results in the back half, but it's so uncertain, we provided really wide range of guidance with those possible outcomes.

Your next question comes from the line of Peter Benedict with Baird.

First one, just maybe, Jeff, around advertising. I mean, historically, I think you guys run in the 6.5% to 7% of sales, at least on an annual basis for advertising. I know it's delevered in the 1st part of this year. Just curious how you're thinking about the increased investment in advertising right now, when you need to see the return on that, and just maybe should we expect a period where you may be above that 7% range for a bit, as we go through this kind of period of softer demand? That's my first question.

Thanks, Peter. Our multi-brand portfolio is clearly an advantage in a lot of ways, but particularly in marketing. Our cross-brand customers performed significantly better than other customers. In fact, they're 4x more valuable. And we've really been committed, as you all know, to not running a promotional business. There's a lot of people out there that probably would push a few more comp points by running markdowns. We've chosen not to do that. We know having done this for a long time that the long-term investment in the fundamentals is more important than the short-term markdowns that give you an immediate pop and create all sorts of peaks and valleys, which aren't good for operations. Advertising investment done correctly, builds customer growth. And so, they also drive short-term sales. So it's a short-term sales and a long-term play with new customers. And like anything else we do, we are constantly looking for opportunities to spend the last dollar more effectively, and that changes season-by-season, brand-by-brand and marketing program by marketing program. Our loyalty program is another key part of this and very effective. These again are our best customers, and we have the credit card program and we also have the non-credit card key rewards program, which has been very effective. I'd say, the last thing that we are doing that is, I think a competitive advantage and something that we're doing more of than we did last year, substantially is amplifying our creator-led content. So creator-led content, YouTube, TikTok, Meta, it's helping us reach new audiences and it's very effective. It's an area that we're building in-house, and we're really excited about our leadership position as we go forward, because we think this is very, very relevant for our customers.

My follow-up question is around kind of freight costs in that environment. I'm just curious maybe your view as we maybe turn to '25, freight rates have been coming up. How does that kind of play into maybe the margin structure as you think about next year? And remind us just maybe your exposure to China and with all the talk of potential tariffs, that type of thing, just maybe level side us on that front?

Yes, Peter, good morning. Couple of questions in there. First one on ocean freight, we're not seeing an impact from higher spot market rates on our ocean freight. We're mostly insulated from the fluctuations in the spot market with our contracted rates. Here is the thing, as you know, one of our competitive advantages is our global supply chain. We're the 11th largest container importer in the United States. We have scale and relationships, others do not. So while there may be challenges in the broader market, especially with smaller competitors, it's not been a factor for us. Any impact is already embedded in our results and our guidance. As far as China goes, we significantly reduced our China-sourced goods from the last time this came up back in 2018. Back then, it was 50% of all of our imports were from China. Now that number is down to 25%. And of that 25%, a third of them already have a Trump tariff on them, which we've been paying and are still on them. The fact that, if this does come up and tariffs are expanded, we're prepared to reduce it further. We've mapped out a category-by-category plan to reduce China sourcing if the landscape changes. I think the important point here is 90% of our products are proprietary, designed and exclusively made for our brands, and we operate our own in house best-in-class global sourcing operation with 12 overseas offices. It's our own boots on the ground, managing sourcing decisions, production and shipping. If the landscape changes, we're well-positioned to pivot.

Your next question comes from the line of Cristina Fernandez with Telsey Advisory Group.

Hi, good morning. I wanted to see if you can talk about any changes in customer behavior that you saw this quarter or so far here in August. Several retailers have talked about the consumer being more hesitant, less involved during non-peak periods, more resistant to price? Are you seeing any of those factors in your trends?

Thanks for the question, Christina. We're constantly setting all the customer metrics to find anything that we can read into and build upon. It's interesting, furniture actually picked up from Q1, not as much as we wanted it to, but it's better than it was. The other areas are still better than furniture. Leading to the strategy of really focused on the seasonal holidays, where no one else really plays and these life stages, while the consumer is still not really buying a lot of new houses. In terms of price points, interesting question. We have a lot of newness. It's working. It's very exciting, particularly in West Elm, where we have the most amount of newness. It's not in low price points. It's in the medium to high price points and that's also really, I think a good piece of information for us. We are giving the customer great value. So we're not trying to develop things at higher price points. We're trying to develop the best value products at every price point. I've said it before, but the truth is where we have a lot of innovation, our prices are the best in the market and no one has tried to copy us yet on the newness, which is why we're pushing newness as a key strategy in the back half as a percent to total. As we continue to have these seasons click by and get confidence on the newness, we can buy more into it. We usually have a pretty long cycle on that product growing before it declines.

And then my follow-up is for Jeff. On the operating margin for the quarter, I think last call you had talked about being flattish. It was up 160 basis points. Where did the upside come from this quarter and why wouldn't some of those continue in the back half?

Yes, thanks for asking that, Christina. Q2 operating margin exceeded our expectations for three reasons. The first is in merchandise margins, which were stronger than anticipated driven by our focus on full price selling. We continue to see positive customer response to our consistent pricing and focus on selling and service versus price. The second thing is our supply chain efficiencies also came in better, really attributable to our commitment to full price selling, smoothing out the peaks and troughs driven by promotional activity. This is delivering significant cost savings from more consistent operations across our manufacturing, operating and delivery expenses. And third, we deleverage advertising expense less in Q2 than in Q1. As Laura said before, we continue to evaluate our spend and adjust weekly as we see the effectiveness. Here's what I'd like you to remember as we continue to deliver strong profitability despite the tough environment for home furnishings.

Your next question comes from the line of Brian Nagel with Oppenheimer.

So the first question I want to ask is just with respect to industry-wide promotions. You've done a great job of holding the line on site-wide promotions at Williams-Sonoma, but throughout the space, we keep on hearing about signals of a more promotional environment. So the question I'm asking is, are you seeing a more promotional environment broadly? And then are you able to quantify what impacts, if any, that's happened upon your business at this point?

Yes. Thanks for the question, Brian. We continue to see consistent high levels of promotions in the marketplace in also the forms from site-wide promotions, free shipping, reduction of prices across the board, double rewards, all of it. And we have played those games and know that they don't work, and you're competing with yourself more than you are with your peers and your competitors. It's really important that you give your customer great value. They look at that price and they know what other things cost similarly to it in the market. But the up and down to get a short-term pop that drives a short-term comp is not a good way to run your business. And so we are committed, as I said before, to running our business without those high levels of promotion. And actually, as much as we've been saying this for the past couple of years, we're still pushing this out of our base. And so in Q1 and Q2, we significantly improved our regular price percent to total, and our regular price comps are significantly better than the markdown comps.

Then the second question I have, recognizing we're not necessarily talking about the cadence of the business through the quarter, but -- and it sounds like given your commentary and the adjustments to the top line guidance in the balance here, the business is weakened, or at least tracking weaker than you initially anticipated. Can you help us understand if there's any specific areas you seeing incremental weakness within demand?

So the reality is our guidance, as Jeff mentioned, has a wide range. And it's that we expected the back half to accelerate. I think we all thought we'd have an interest rate cut or at least 1 or 2 by now, which we haven't seen, right? So instead of hoping for housing to turn around, we put the range together to reflect if the back half is little to the first half. And that seems, I know, conservative because of the multiyear comps getting easier in the back half. But we just thought it was prudent, given the uncertainty in the macro, to reduce the top line so that we're not pressured to take promos to hit the number. We want to run this business for the long term, and that's what we've been doing, and you're seeing the continued performance on the bottom line. And I'll just say this, we've said before, can you imagine what this thing looks like when you get some positive comps. And the best way for me to describe it is our operating model is a coiled spring.

Your next question comes from the line of Simeon Gutman with Morgan Stanley.

I have a question, I guess, this is [Ajol’s] question. Any difference in posture thinking about the mix between sales and promotion in terms of stimulating sales and given that the backdrop seems to be getting more promotional?

Absolutely not, but we are on offense with our product innovation and our marketing.

And Simeon, I would just add, I talked about it in my prepared remarks and answering Christina's question, but by not running the promos like we did in smoothing out the peaks and troughs of the promotional activity, it's really driving improved customer service, shorter lead times and much more efficient operations across our entire supply chain, which is really flowing through to the bottom-line.

And if I can ask a quick follow-up. The runway for merch margin specifically related to supply chain or transport, I don't know if I missed -- I may have missed it earlier in the call, but I thought, by the second quarter, it would sort of reach it's, I don't know, it's peak or it's max, and then it would start to wane. Is that still about the right way to think about it?

It is the right way to think about it. And while we don't guide to specific lines, we are guiding that our operating margin in the back half will be flat with 2023 really because of some of the benefits that we had in the front half [Technical Difficulty] we were up against the impact of the pandemic-related ocean freight runoff. That was worth about 200 basis points, good guide in the first half. And then our focus on full price selling really kicked in, in the back half of '23. So we have that upside by focusing on that in the front half. And in fact, if we look at our percentage of full-price selling in Q2 of '24, it's about the same rate as it was in Q3 '23. So that dissipates as well. So like we said, we were up against some easier compares in the front half on the margin line that starts to dissipate in the back half, which is why we're giving that guidance on operating margin for the back half.

Your next question comes from the line of Maksim Rakhlenko with TD Cowen.

So first, Laura, can you discuss any learnings about your shoppers’ reactions as you pull back on promotions? Are shoppers reacting how you thought that they would? For instance, is your PB shopper may be a little bit more price conscious than you thought, or any other call-outs?

Yes, as I said earlier, there's not lot to read there because the newness that's in the mid-price points are really working. We're not seeing a trade down. Furnitures is better than it was, but future is still soft, right? And it's a big portion of both the West Elm and Pottery Barn businesses, which is why the complexion is very different in those versus the more life stage kids and teen brand and also Williams-Sonoma. So yes, there's nothing really to read into that. What we do see is that they're not waiting for promotions to the point that they don't -- they're not worried that they're going to feel done if they don't want to the promotion, they can buy it when they need it. And our sales associates are thrilled that they can sell with confidence and not always be looking into a promo calendar to see when the next sale is.

Yes. I think Laura on the fact that -- yes, when we run promotions, we're really competing with ourselves a lot of time. And I think many of you heard me talk about the concept of shift versus lift and how much of the promotions are really incremental versus just moving it around and incentivizing the customer to wait for it to go on sale. So now we can really focus on serving the customers, selling to them, helping them with their design project. And the customer is not waiting for that next promotion, they're engaging on the design side.

Got It. That's helpful. And then, Jeff, maybe can you bridge the full year EBIT margin guide of 17.4% to 17.8%, and then the long-term margin guide of mid to high-teens? Sort of what would need to happen and the key drivers in a bull versus bear case?

Well, look, our long-term operating margin guidance is mid to high teens. And our guidance for this year puts us right back in the middle of that range. Certainly, sales are accelerating. We expect possibly some more margin expansion, but we've provided a range because there's a lot of variables in there. And we're pretty confident in our ability to sustain this profitability. We've demonstrated it -- last year, we delivered at $64 million. This year, we're guiding in the mid-17. So this is sustainable, and we're confident in our operating margin going forward.

Your next question comes from the line of Marni Shapiro with Retail Tracker.

Congrats on some great execution in a choppy environment. Laura, I wanted to focus on some of the newness that you keep highlighting because it still -- not only is there a lot of new products like Roller Rabbit, for example, but it's the way you're attacking it. So I know like at UNC, you had an entire event at one of the buildings with Roller Rabbit or with Rhodes, I was just ground in social media about it. That was really, really great. And it feels like that mix between your merchandising and your marketing has really come together. So I'm curious, was that a change? Or am I just getting hit with it? Is it bringing new shoppers into these brands? Is it bringing them in with more frequency? And how should we think about this for the back half of the year?

Thank you so much for the question. Yes, newness and innovation are really key parts of our strategy to drive growth, and we've seen a really strong response to newness. In West Elm, we've talked about newnesses checking across all categories, in particular in furniture. And in fact, we've seen double-digit positive comps in both West Elm summer and fall new furniture introductions. Now why you're not seeing that roll into the bigger number yet is because it's still a small percent of total because you want to make sure your newness is working before you bet the farm on it. We've had some great collaborations in West Elm. I touched on Rhodes. Rhodes this year is double last year. We introduced [indiscernible], who's an amazing shaft who has incredible furniture designs that we've introduced and that's also been a great one. In Pottery Barn, we're seeing a good response to our newness there too, especially in furniture and the seasonal decorating, which we're launching earlier than we've ever launched before. I am so thrilled to see people scooping up Christmas this early. They also have some great new collaborations in the hopper and are going to have an increased amount of collaborations next year. Kids and team have always been, in our company, our leader in collaborations and just amazing from the license programs that we run, the [indiscernible] to incredible designers like [indiscernible] and LoveShackFancy. They've really been able to hit the nail on the head with what their consumer wants at every life stage. And kids is different than teens, but we're covering both, and you can really see that we're on trend by the results in dorm. Williams-Sonoma, the branded product in Williams-Sonoma doing incredibly well. I'll give you 1 very specific example in Williams-Sonoma, which is our Williams-Sonoma branded cutlery. Higher margin, obviously, than the names out there that we all are familiar with and really rivaling them in volume. And there's also a lot of exclusives that we have and launch leads that we have with our key electrics partners and premium cookware. The Tucci collaboration, by the way, continues to be phenomenal, and we are not done with the innovation that Tucci is going to be bringing, not just for the back half, but through next year. And so we're excited about our -- we really excited about our back half lineup in Williams-Sonoma. We can't go into -- I mean I'd really like to talk about some of those things a little bit more, but I I'm always cautious about competition and not giving away too much information. But the punchline is, we have seen a very strong response to newness and collaborations. And Marni, you are right. We are doing things differently with our creator-led content about collaborations. When you combine a collaboration with an influencer on TikTok, you have magic. And we are continuing to build that scale and really draw in new customers through those channels. So thank you.

Your next question comes from the line of Seth Basham with Wedbush Securities.

My first question is just making sure I understand some of the moving pieces of the margin outlook, obviously, expecting a lower sales performance through the balance of the year, but you're holding your back half margin guidance. So Jeff, maybe you could give us some color as to where you see the upside, so to speak, on margins relative to a couple of months ago? What areas, whether it be deployments of gross margin or SG&A?

Seth. So on the operating margin outlook for the back half, we've consistently said all year that we anticipate that our back half operating margins would be flat year-over-year. What we've done this quarter is we've raised based upon our Q2 outperformance. In terms of the puts and takes on margin, we don't necessarily guide the individual lines, but we will give you some color commentary like I did before. The gross margin, some of the benefits that we had coming at us in the front half start to wind down in the back half. That includes the supply chain headwinds we're up against in the first half, which, as I said before, it was worth about 200 basis points. And then we start lapping the improved promos in the back half. So we see that as being essentially flat. And then just overall, this is true for our entire guidance is the macroeconomic uncertainty. We're taking a very prudent approach to our back half guidance given the macroeconomic backdrop. And if things are better, and we see some better performance in holiday, we could surprise the upside. But at the same time, if the macroeconomic environment is more challenging, we'll be more at the low end of our guidance.

That's helpful color. So just to make sure I understood you, you're looking for gross margins to be flattish year-over-year in the back half [indiscernible] SG&A the same. What areas of SG&A do you have the opportunity to reduce in a slower sales environment? Are you talking primarily variable labor and advertising? Or is there anything else?

Yes. I mean, look, Seth, we don't guide individual lines, and we do that just got top line and operating margins that give us the flexibility to pull the levers we need to deliver results. And as you've seen, we know how to deliver results. In terms of [indiscernible] we have, certainly, ad cost is flexible, as Laura mentioned before. We evaluate this on almost a weekly basis depending upon the returns we're seeing and the effectiveness of the advertising. And then our employment, like I've said many times before and in my prepared remarks, our employment is largely variable. The majority of our employment is in our stores, our distribution centers and our customer care centers, and we can flex that in line with top line trends as things evolve. So I think the punchline here is, we're guiding flat operating margin guidance in the context of a very uncertain macroeconomic environment, and we're taking a very prudent approach with this guidance. And we're giving ourselves the flexibility to pull levers as we need to deliver the results.

Your next question comes from the line of Steven Zaccone with Citi.

I was going to focus a little bit more on the medium to longer term because understandably, the macro is challenging for the category. But as we start to see demand recover, right? We're at a point where this business has done very well on a merchandise margin and overall selling margin. What's the opportunity going forward? Presumably, you've pulled back from promotions in the business, why can't the gross margin rate for this business to be much higher as you start to see demand recover?

Great question. I would say that housing is clearly a big driver of furniture sales. And we all know housing is about the worst it's been. But at the same time, there's a lot of people calling to the bottom here. And hopefully, we see an interest rate and multiple cuts in the next six months. Could take a little bit of time for that to flow through, but when people feel better, they tend to shop more, especially in our categories for their homes. And I really -- I said it before, but we want flexibility because we always want to give the customer greater value, right? So we don't want to overprice products. We want to make sure that our brands are accessible. We want people to be able to come and shop with us and across our brands not be so expensive that it's a very small group of people. So we hold that back to say there is a point at which you don't want to raise the margin too high and not be competitive. On the other hand, we're delivering this incredible margin against negative sales, negative sales a couple of years running here. So can you imagine what this looks like when the sales are flat to positive? I said it before, operating model is a coiled spring. It's very exciting to be sitting here knowing that we have built an organization with structural margin profitability profiles and a lot of innovation and capacity to grow much bigger than we are today without huge step-up investments.

This concludes the question-and-answer session. I will turn the call to Laura for closing remarks.

Yes. Well, thank you all for joining us. We are entering our favorite time of the year, which is the holidays. And I'll remind you that Halloween is right around the corner, as is Thanksgiving, Christmas and Hanukkah and the New Year. So I hope if you are out there in our stores and seeing all the great product lineups, we are very excited about what we have out there, and I look forward to talking to you next time. So thank you for your support. Appreciate it.

This concludes today's conference. We thank you for joining. You may now disconnect your line.