Earnings Call: Q2 2017

Jul 27, 2017

Good afternoon, ladies and gentlemen. This is Fluor Indecor's Second Quarter 2017 Earnings Call. At this time, all participants are in a listen only mode. As a reminder, this conference call is being recorded today, Thursday, July 27, 2017. I will now turn the call over to Matt McConnell, Manager of Investor Relations at Floor and Decor. Thank you, Stephanie. Good afternoon, everyone. I am Matt McConnell, Manager of Investor Relations. Joining me on the call today are Tom Taylor, Chief Executive Officer and Trevor Lang, Executive Vice President and Chief Financial Officer. Also in the room is Lisa Laube, Executive Vice President and Chief Merchandising Officer, who will join us for the Q and A session. Before we get started, I would like to remind you of the company's Safe Harbor language. Comments made during this conference call and webcast contain forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and are subject to risks and uncertainties. Any statement that refers to expectations, projections or other characterizations of future events, including financial projections or future market conditions, is a forward looking statement. The company's actual future results could differ materially from those expressed in such forward looking statements for any reason, including those listed in its SEC filings. Form Decor assumes no obligation to update any such forward looking statements. Please also note that past performance or market information is not a guarantee of future results. During this conference call, the company may discuss non GAAP financial measures as defined by SEC Regulation G. A reconciliation of each of these non GAAP measures to the most directly comparable GAAP financial measure can be found in the company's earnings press release, which is available on our Investor Relations website, ir.flooranddecor.com. A recorded replay of this call, together with related materials, will be available on our Investor Relations website, ir.flooranddecor.com. Now let me turn the call over to Tom. Thank you, Matt. Good afternoon, everyone, and thanks for joining us today. We are very pleased to report a strong Q2 that once again demonstrates the positive response customers have to our highly differentiated, multichannel, hard surface flooring and accessories business. During quarter, we continued to elevate and improve all aspects of our business and customer experience. Based off the continued strength of the first half of the year, we are raising sales and profit guidance for the rest of fiscal 2017. I'll begin today's call by discussing the highlights of our 2nd quarter results and then update you on the progress we are making against our key growth initiatives. Net sales in the 2nd quarter increased 29.4 percent to $344,000,000 from $266,000,000 in the Q2 of fiscal 2016. Our 14.7% second quarter comp comes on top of the 22.6% comp in the Q2 of 2016. Diluted earnings per share increased 2 33 percent from the Q2 of 2016 to $0.20 and adjusted diluted earnings per share grew 42.9 percent to $0.20 The acceleration of our business in the second quarter was not the result of just one thing, but we believe it was due to a number of our strategies working in concert as well as continued industry tailwinds. The newness and innovation in hard surface flooring over the past few years is exciting and flooring isn't what it used to be 10 to 15 years ago or even 5 years ago. Our merchants are doing a remarkable job finding the best products and the newest trends. Our supply chain is getting inventory to our stores faster and at a lower cost and our stores are merchandising and selling the product very well. With 74 stores today and nationwide potential for 400, our growth opportunity is substantial, supporting our growth and new unit growth goals of approximately 20% for the next several years, with these openings balanced between new and existing markets. We've now opened 5 of the planned 14 stores for 2017. While still early, I'm excited about the performance of our class of 17 stores. In addition to store growth, driving comparable store sales is a key growth initiative. In the 2nd quarter, our 14.7% comp was again primarily driven by increased transactions and all regions once again achieving positive comparable store sales increases. We believe this illustrates how our broad in stock locally assorted hard surface flooring assortment offered at everyday low prices is resonating with customers across new and existing markets. From a category perspective, laminate, decorative and installation accessories performed above the company comp average, tile, stone, wood performed below. Our broad and diverse mix of hard surface loin across product categories provides us the flexibility to expand the contract product categories in response to innovation or trend driven shifts. New SKUs at the higher end of the price quality spectrum in the decorative area as well as laminate performed very well. As we look to the rest of 2017 and beyond, we remain focused on building on our progress. Our growth strategy is centered around: 1, new store growth in new and existing markets 2, increasing comparable store sales growth 3, expanding the connected customer experience and 4, continuing to invest in the Pro customer. First, new store growth. With the white space opportunity across the country that we believe supports more than a fivefold increase in our store base over the next 15 years, we are focused on disciplined execution of our store growth plans. As we have shared previously, this plan is to grow our store count by approximately 20% a year over the next several years, consistent with our annual growth rate over the past 4 years with openings balanced across new and existing markets. With the opening of our Paramus, New Jersey location in late June, we now operate just 2 stores in the very attractive Northeast region and we're still very underpenetrated in California where we only operate 8 stores. We continue to see strong customer response to our new stores across both new and existing markets alike, reinforcing our excitement around the growth potential of our very unique business. Our second growth strategy is increasing comparable store sales. In addition to the natural comp lift provided by the maturation of our new stores, we are focused on driving continued comparable store sales increases through our brand awareness building campaigns, commitment to product innovation and newness, visual merchandising enhancements both in store and online as well as our strategies to drive further gains in our professional business. Our years of supply chain investment have benefited our speed to market and lower product costs. Our localized merchandising investments have provided a more relevant and compelling assortment for our customers and our investments in in store design centers help deliver inspiration to our end users. Our commitment to being a one stop shop for the hard surface flooring needs of our customers, including the important Pro customer is reflected in the investments we have made in people, training, inventory, technology and our dedicated Pro Zones. Our next goal is expanding the connected customer experience. Given what we know about the pre purchase behavior of customers shopping our categories, it's important that the web experience for our customers and potential customer effectively inspires, engages and educates, while we simultaneously elevate the store experience through better training. Our research indicates that approximately 70% of our in store purchases have first been researched on flooranddecor.com, Making a seamless omnichannel connected customer experience is a crucial component of our long term growth strategy. We believe this strategy is working as our web sales continue to grow at a faster rate than total sales. And in the Q2, our web sales increased to 6% of our total sales versus 5% in the Q1 of 2017. As we have noted, 90% of our web orders are picked up in the store due to the high cost of shipping and in some cases, the customers' desire to see the product. Getting the customers into our stores or back into our stores allows us to show them our full assortment of accessories SKUs that they may add to enhance their project. Lastly, our 4th goal is to continue to invest in the professional customer. Given the high project frequency and the associated higher spending of the Pro customer, effectively fulfilling their unique needs has been a key focus for us. As a reminder, we estimate approximately 60% of our sales are influenced by our professional customer. We have invested to build capabilities to further improve the service we provide to our professional customers from dedicated in store resources, technology to make their purchase process more efficient, training to make them better at their jobs, free design and storage services, delivery, different credit solutions and much more. We are also doing more on the marketing front to target this very attractive customer segment and build their awareness of Floor and Decor. We know once they visit a store, our assortment, everyday low price points and service level drive very high conversion rates. So we're focused on doing an even better job of getting Pros into our stores for the first time. Finally, I'd like to mention that annually we measure our Pro customer satisfactions and we're happy to see that our scores continue to increase once again in 2017. So in summary, we are very pleased with our performance this quarter and the progress we continue to make against each of our growth strategies. To ensure continued solid execution, we remain disciplined and consistent with our investments into the business across marketing, merchandising, supply chain, stores, website, technology and talent. It is this philosophy of consistent disciplined reinvestment that continues to help fuel our market share gains. Most importantly, I would like to thank our 5,000 associates who wake up and think about how they can serve their customers and each other better every day. They are the real key to our long term success. I will now turn the call over to Trevor, our CFO and Head of Pro Services to go over our financial results and guidance. Trevor? Thanks, Tom, and good afternoon, everyone. I will begin my remarks with a review of the Q2 2017 results and then discuss our outlook for the Q3 and the remainder of fiscal year 2017. Our focus on high quality hard surface flooring at everyday low prices, great customer service by our associates, efficient operations along with continued investment in our supply chain, marketing, connected customer, pro and store strategies led to the record results for the Q2 and the first half of fiscal twenty seventeen. Our net sales in the Q2 of fiscal 2017 were 344,000,000 dollars up 29.4 percent from $266,000,000 in the Q2 of 2016. We ended the 2nd quarter with 73 total warehouse stores, an increase of 10 stores or 16% versus the 63 stores at the end of the Q2 of fiscal 2016. On our last day of the quarter, we opened our Paramus New Jersey store, which was the only new store opened during this quarter. Our new non comparable stores, which we define as stores that have been opened in the past year, continue to deliver very strong performance across both new as well as existing markets, reinforcing our confidence in 400 stores nationwide potential that we believe exists for 400 Core over the next 15 years. Our 2nd quarter comparable store sales increased 14.7% And as Tom noted, this is on top of the 22.6 percent comparable store sales increase in the Q2 of fiscal 2016. June 2017 was our 100th month of comparable store sales increases. We are in what would be our 9th consecutive year of double digit comparable store sales. The strength of our comp was again broad based and driven primarily by transaction growth. We believe having high quality hard surface flooring, consistently introducing new trend right products for every budget at low prices is why we've been able to drive sales increases through transactions for almost a decade now. Now on to profitability. Gross profit increased 29.7 percent to $142,200,000 in the 2nd quarter from $109,700,000 in the Q2 of fiscal 2016. This increase was primarily a result of the increased sales volume. Gross margin increased by approximately 10 basis points to 41.3% in the second quarter as improved margin was largely offset by higher distribution costs. Our product margins increased approximately 40 basis points due to lower capitalized supply chain costs and a favorable shift in the product mix of product categories that carry higher gross margins. The increase in product gross margins was partially offset by 30 basis points of higher distribution center costs due to increased volumes of inventory to support our sales growth as well as costs related to the ongoing process of expanding our distribution square footage by over 90% in fiscal 2017 to 2,900,000 square feet. As a percentage of sales, total operating expenses decreased about 580 basis points to 31.4 percent from 37.2% in the Q2 of 2016. Excluding the $14,000,000 lawsuit settlement accrued in the Q2 of 2016 and approximately $300,000 accrued in the Q2 of 2017 for our secondary offering that we completed in early July 2017, our operating expenses leveraged down by about 60 basis points to 31.3%. All of our operating expenses came from our stores opened greater than 1 year and our store support center leveraging costs on higher sales, somewhat offset by the 10 new stores we've opened since the Q2 of 2016. As a reminder, our new stores operating expenses generally run about 50% higher as a percentage of sales in their 1st year of operation than their older stores. And since we've added about 20% new stores, this mitigates the large operating expense leverage we are getting from our older stores. Our strong sales growth, modest gross margin expansion and expense leverage drove a 2 21% increase in operating income from the Q2 to $34,100,000 as compared to $10,600,000 in the Q2 of fiscal 2016. Excluding the $14,000,000 charge related to litigation settlement last year and approximately $300,000 of costs associated with our July 2017 second effort offering this year, operating margin increased about 70 basis points to 10% for the 2nd quarter. Our reported tax rate for the Q2 was 19.3% compared to 37.4% in the Q2 of 2016. This decrease in effective tax rate was primarily due to a $4,400,000 excess tax benefit related to the stock options exercised in the Q2 of 2017 in accordance with the new option accounting rules ASU 20 sixteen-nine and to a lesser extent due to a lower state income tax rate due to changes in our corporate structure. We have adjusted this $4,400,000 excess tax benefit related to stock option exercises out of our calculation of adjusted earnings per share. Before I discuss net income or guidance, please note that I will discuss both GAAP and non GAAP measures. As described in our earnings release, we believe our non GAAP disclosure enables investors to better understand our core business on a comparable IPO adjusted basis between periods. A reconciliation of these non GAAP metrics in their most directly comparable GAAP financial measures can be found in our earnings release issued in connection with this call. Adjusted net income and EPS, which includes a normalized tax rate, was $20,500,000 or $0.20 per adjusted diluted share as compared to $13,800,000 or $0.14 per adjusted diluted share in the Q2 of 2016. This represents an increase in adjusted net income of $6,600,000 or 48 percent. Adjusted EBITDA for the 2nd quarter increased 36.5 percent to $43,700,000 compared to adjusted EBITDA of $32,000,000 in the Q2 of fiscal 2016. We ended the quarter with $156,000,000 in cash and available liquidity under our revolving credit facility and $186,000,000 outstanding on our borrowings. As of the end of the second quarter, our leverage ratio was 1.2x as we used approximately $192,000,000 of net proceeds from our IPO to pay down our debt. Our inventory balances during the Q2 was $367,500,000 up $68,600,000 or 23% from the Q2 of fiscal 2016. Now turning to our Q3 and full year fiscal 2017 guidance. For the Q3 of fiscal 2017, net sales are expected to be in the range of approximately $331,000,000 to $337,000,000 an increase of 22% to 24% versus the Q3 of fiscal 2016. Currently, we are planning on open to 6 to 7 warehouse store openings this quarter, and 3 of our 4 warehouse format stores are opening in the 4th quarter sorry, 3 versus 3 to 4 stores in fiscal 2017. Net sales growth outlook is based on assumed comparable store sales increase in the range of 9% to 11%. Excluding a $3,500,000 contribution to legal settlement from 1 of our vendors recorded in the Q3 of 2016, we are planning for our operating margin to be flat when compared to fiscal in the Q3 of 2017 to the same period last year. There are two main reasons for this planned flat operating margin. First, we are working on expanding our distribution centers by over 90% this year to 2,900,000 square feet, and our distribution center costs are increasing an estimated $1,000,000 relative to the same time last year. This distribution center expansion is an important step function investment, and we believe this will allow us to get to approximately 110 stores before having to open another distribution center. We plan to open 6 to 70 stores secondly in the Q3 of 2017 versus 4 in the Q3 of 2016. Our store start up costs, which include things like rent and advertising and labor that are incurred before the store opens, are planned to increase by $1,700,000 higher than the same period of last year. GAAP diluted earnings per share for the Q3 of 2017 are expected to be in the range of $0.12 to $0.14 and adjusted EPS is also the plan to be in the range of $0.12 to $0.14 based on an annual assumed diluted weighted average share of 104,100,000. We expect adjusted EBITDA for the Q3 of 2017 to be $33,800,000 to $36,500,000 an increase of 20% to 29% over the Q3 of fiscal 2016. For the full year of 2017, net sales are expected to be in the range of $1,318,000,000 to $1,331,000,000 an increase of 25% to 27% versus fiscal 2016. Net sales growth outlook is based on 14 new warehouse store openings and an assumed comparable store sales increase of 10% to 12%. For the year, we continue to expect a slight improvement in our gross margin even while expanding our distribution center capacity by over 90% with large distribution center relocations in Los Angeles and Savannah. We continue to plan for a modest leverage of our operating expenses through continued reinvestment in the business and therefore modest improvement in our operating margin as well as our EBITDA margin. Diluted EPS for fiscal 2017 is expected to be $0.57 to $0.60 with an adjusted diluted EPS also being at $0.57 to $0.60 based on an adjusted diluted weighted average shares outstanding of 103,100,000. We expect fiscal 2017 adjusted EBITDA to be in the range of 143,100,000 to 147,500,000, an increase of 32% to 36% over fiscal 2016. We expect our tax rate to be approximately 37% for the remainder of 2017. As a reminder, this guidance does not consider the impact of new stock based compensation accounting standards that may occur after the Q2 of 2017. With respect to capital expenditures in fiscal 2017, we expect to spend about $100,000,000 to $104,000,000 As a reminder, we plan to devote about $53,000,000 to $54,000,000 of this capital budget to the 14 planned 2017 stores, as well as towards construction of stores that will open in early 2018. Dollars $33,000,000 to $35,000,000 is earmarked for the 6 to 8 remodels and relocations of our 2 and 2 of our core distribution centers. Remaining of our CapEx, approximately $14,000,000 to $15,000,000 will be directed towards IT, infrastructure, e commerce and store support center initiatives. I would also like to mention again, as I did last quarter, that our year end 2017 inventory is planned to grow somewhere between 30% to 35% over fiscal 2016. We're making a strategic investment to prepare for our large Savannah and Miami distribution center relocations at the end of this year and to improve key in stock positions. For all the details related to the results and the guidance, please refer to our earnings release. I think with that, operator, we'd like to turn it over to Q and A for We'll take our first question from Michael Lasser with UBS. Please go ahead. Your line is open. Good evening, guys. Thanks a lot for taking my question. If we look at your guidance for the upcoming quarter, the Q3, at the high end of the comp range, it would mark a substantial slowdown on virtually all the stacked measures. Is there anything going on aside from your typical conservatism on how you look at the outlook? No. Business is performing. As evidenced in the Q2, the business is performing well. We took our guidance up, as Trevor mentioned during the call. Business is good. We're strong across all regions, but we just don't plan the business that way. We try to keep our expenses in line. And if we're fortunate enough to beat our comp guidance, you should expect us, as we've been saying, to flow through incremental sales at a profit of between 20% 25%. And then when you Michael, this is Trevor. Just one thing Michael, this is Trevor. One thing I would just add to that is, not everybody knows us all that well because we're a fairly new public company. What we have told people who may not have heard this from us in the past is we tend to plan our business in that comps in that kind of high single digit range for the foreseeable future and that allows us to make sure we keep our structures and our cost structure in line as well as making sure it prioritizes our investments. So we just want to that's the way we think about the future. But as Tom mentioned, the business continues to perform well and Q2 was frankly a great quarter. One thing I did want to mention to the operator let me know a part of my conversation was scrambled. Our leverage at the end of the Q2 was 1.2x leverage. So I just want to make sure that's clear for the record. Thank you. That's helpful. My follow-up question is on the 2nd quarter comp. As you reflect on it, it accelerated from the Q1. Was that across all the vintages of stores? I know you said that you saw a good result across all the regions. But did the newer stores accelerate more than the older stores? Are you still seeing the good comp contribution from the earliest stores that you opened? We got better acceleration out of our newer stores, but all the genres still perform well. So all age groups of stores performed well, but we did see more strength in the newer stores as they matured during the quarter. Okay. Good luck. Thank you so much. Thank you. Thanks, Michael. Our next question comes from Seth Sigman with Credit Suisse. Please go ahead. Your line is open. Great. Thanks a lot and congrats on the quarter, guys. Thank you. I wanted to just follow-up on that last question about the acceleration in the second quarter. Do you feel like I mean, it sounds like some of that is company specific, but do you feel like the industry may have accelerated a bit too? We're just trying to assess the overall health of the category? I think the health of the category is good. I think there's as I've mentioned multiple times, I think the continued innovation across all the categories we participate in has driven demand. I think the tailwinds within the category have been pretty consistent. Certainly, they were going through the Q2. I think we're in a healthy space. I wish I could say, look, it's this one thing that's driven our comp store sales, but it's as I've said multiple times, it's across everything that we do has improved a little bit. So we think we're taking share at a pretty at a quicker rate. But I think the health of the category is good. Michael, this is Trevor. The only thing I would add to that is the overall metrics actually were slightly, I think, stronger in the Q1 relative to talk about housing turnover and household appreciation and things like that. So but not materially different. Are you seeing within your business any evidence that consumers are willing to take on bigger projects than perhaps in the past? And maybe in that context, can you also talk about some of your own efforts to expand your better and best product categories and price points and maybe how receptive the consumer has been to that? Thanks. Yes. So, I would say, look, we think we democratize category. We do believe that when customers come into our stores and see our value proposition, it's likely that they'll do more than they had planned to do. So they may do another room. They may do a little bit bigger of a project or buy a little bit better of a project. I can't say there's anything specific I can look at and say, look, I think the consumer is automatically spending more this year or not. I just think that for us, it's been pretty consistent. The second thing I would say on the second part of your question, we're doing very well with the higher end products that we brought in. We've gone across the deco department. We've gone within the deco department, we've added a lot of water jet and mosaics that are doing well. In the laminant department, We've continued to expand our AquaGuard category that said that's a higher price point laminate that's done well. We see our larger profile tiles, which are a little bit higher ticket. We see them doing very well. So the customer, the consumer is certainly willing to step up. We've been pleasantly surprised on our higher end products. Originally we thought that just some of our stores would select them. We've had more and more stores that want to dabble in that and they've all done very well in it. So I feel good that the customer is willing to step up with inside of Floor and Decor. The only the thing I just would revert one thing I would go back to, if you look at how our comp store sales were made up, it was really driven by transaction. Again, our average ticket has stayed flattish. We got a little bit better during this quarter, but it's generally stayed flattish. So whether or not the customer is going to step up to much bigger projects, I don't know. But we feel good about what's going on here. Okay, great. Thanks very much. Thanks. Thanks, Seth. And our next question is from Matt McClintock from Barclays. Please go ahead. Hi, yes. Good afternoon, everyone. Hey, Matt. Hey. So a couple of questions. The first one just is on premise. I know it's only been open for, I guess, less than a month now. But can you maybe compare and contrast the success or what's been going on in that store within that month to when you opened Wayne, New Jersey? Any meaningful differences to call out there? Look, we're pleased with both. The Wayne was the 1st store. No one knew who we were, but I don't even though it's a close miles wide, it's a completely different customer base. So a lot of people didn't know who we were in Paramus. We're thrilled with what's happened on the night before we opened the store. We had as many people as we did the night before we opened Wayne. The store has been is off to a terrific start. We're really pleased with what's going on. We're excited about what's going to happen in the Northeast for us. Paramus is a pretty congested area. Route 17 is not easy to get in and off of. And as we open more stores in better locations, we're just excited about what they can contribute. So we're really pleased. Okay. And then if I could actually ask a question to Lisa. I was just from a merchandising perspective, high level, when you identify a trend and are able to go after that trend and get that product to a store in a quick and speedy manner, how long do you typically wait or how long does it take before you see or typically see a competitive response from either some of your larger competitors or maybe some of the smaller competitors? Thanks. Sure. No problem. It's an interesting question because there's not just one answer to that. It totally depends on the category and the trend. In a category like AquaGuard, which is our water resistant laminate program where we brought that program in 1st, we didn't see a competitor bring that program in for about a year later. So that was a pretty long exclusivity time period that we had on that product. There are other things that everyone is going to the same shows and everybody is listening to similar vendors and so there are other trends where the timeline is much more similar. So it's hard to give you an exact answer. But certainly for us, we are trying to push the envelope and develop those trends and create things that others haven't thought of yet as often as we can. Great. Thanks for that and best of luck. Thank you. And we'll take our next question from Seth Basham from Wedbush Securities. Please go ahead. Thanks a lot and good afternoon. Thanks. Hey, Seth. Hi, there. My question is on the pro. If you could give us a sense of how strong pro comps were relative to the DIY comps, there's much difference in the quarter? Unfortunately, we don't measure our pro comps versus our do it yourself comps. So I would I'd say it's strong, right? So 60% of our business is generated either by the professional or someone the professional is working with. And so we feel when you're comping like this, we feel all customer segments are doing pretty well. Understandably. As we think about some of the marketing efforts you have towards the Pro and some of the new credit offerings for the Pro. Can you give us a sense of what you're learning from those early on? I'll let Trevor talk a little bit about some of our credit offerings. You want to talk about that first? Yes. I think, like Tom said earlier with our overall comp, I mean, there's over a dozen attributes that we are providing to our pros. Tom mentioned some of those in his prepared comments, whether it's technology to get them in and out faster, it's a more clear designation of where our pros can shop. Lisa's team bringing in super high quality installation accessories that make that pro's life easier for installing, a dedicated sales team. We have put in some great new credit solutions that are growing very fast for our big customers that don't pay with credit cards or more on terms. And allocated products across the board, having SKUs that are hard to find. The most important thing is really having that in stock quantity that really none of our competitors have. So I think much like our overall business, you can't just say our Pro business is growing because of this one thing. It has to do with probably a dozen to maybe as many as 20 different attributes that we've invested in over the last 2 or 3 years from technology to people to inventory to process to help them drive that Pro customer to spend more and more with us. Yes. I think from our marketing, we don't really do all that much different. I mean, we're a we spend very little on marketing, as you guys are aware. As a total company, we're right around 3%, and our existing stores are less than 2%. And the marketing that we get we do towards our pro customers is really belly to belly. It's kind of we have pro guys that are on the street trying to introduce our concept to customers and invite them into the store. We do lots of vendor events where we have vendors in the store and we bring our pros in and we try to train the pros so they can take on bigger projects. I would say that our events that we're doing, which are focused on building relationships with our pros, and again, we vision them as partners. We don't install in floor and decor. We don't compete with our professional customers. So we look at it a little bit differently. But the attendance of those events that we do in the stores has grown significantly in the last few years. For a new store, we just get we get 4 times the amount of people that we used to get for a new store. And for our existing stores, I mean, we're getting double to triple the amount of people that we usually get at those events. So that hand to hand going to find the customers is working very well for us. Thanks a lot and good luck. Thank you. And we'll take our next question from Alan Rifkin with BTIG. Please go ahead. Thank you very much. Tom, as you say each of your successive vintages are getting better and better and more productive. I was wondering if you can maybe shed a little bit of color as to what you think is behind that. Do you think you're seeing greater initial awareness out of the customer? Or do you think you're picking better real estate? Or are there other variables that are maybe contributing? And then I have a follow-up, please. Yes. I think, look, we're fortunate that our from a real estate perspective, our sites can they can be in different areas. I mean, we are focused on trying to find locations where our customers can get in and get out of the store easier. We don't like real congested areas because it's a professional and time is money for the professionals. So we try to be thoughtful there. But look, some of our best stores are in really bad sites. So we're fortunate that it doesn't matter. I think the classes, as I've said, Alan, a bunch of times, I mean, it's not one thing. I mean, we've taken our older stores and we've invested in our older stores. We've improved training across all of our stores. We do market differently. When we do market, we go to market differently. We've improved our website. There's just investment that's been made across everything that we do, which has helped all of the stores get better. I think the other interesting thing for us is in our existing markets where our older stores are, we've opened stores in those markets. And as we've opened stores in those markets, it's kind of reintroduced the brand to customers who may not have experienced this. So the more stores we've opened in these older markets, the better the older stores do because we're raising the awareness of our brand in the market. Okay. And then as we're getting closer to the expansion of the Savanna DC, which I believe is in Q4, could you maybe just share with us what did you learn from the LA expansion? How much risk is there really involved in expanding this DC? And what should we look for as you expand the DC in terms of knowing whether it came up without a hitch or not? No hitch, and we're getting very good at moving DCs. We've moved DCs multiple times during the it's close to 10 times we've moved DCs in the time that I've been here. Just because of our rapid sales growth, we've had to get more square footage quickly and we've scrambled. But we have an excellent supply chain team with very experienced leadership and associates and honestly seamless. We know how to get the inventory into the stores ahead of the move and we're down for a short period of time and we know how to execute that very well. So no issue, we're good at it and not worried about it when we do it in Savannah. Okay. So for the past ten times that you've moved to DC, did you see any temporary sales slowdown for the stores that are supported by that respective DC? As Trevor mentioned earlier, we're in our 9th consecutive year of double digit comps. And since I've been here, we've averaged over 15% comps and those DCs removed there. So long way around, no. Alan, this is Trevor. I was just going to say one thing, Alan. This is Trevor. If anything, the Savannah DC will be a slight amount easier because when we moved the LA DC, we were going from the port all the way to Inland Empire, which is a fairly long distance and difficult, whereas in Savannah, we're actually much closer to the existing DC. Now it's a much larger DC. We're going to a really big DC, but we feel fairly good about Brian, who runs our supply chain, and I talked about it today and feeling pretty good about both the Savannah DC, which happens late this year as well as the Miami moving up to Savannah in early 2018. Okay. Thank you. Continued success going forward. Thank you, Alan. We'll take our next question from Zach Fadem with Wells Fargo. Please go ahead. Hey, good evening. I'd like to follow-up on the mature stores. Is there any color you can provide on the number of remodels you've done for the older vintages? And what kind of impact or comp lift could you call out there? And is there any opportunity here to upgrade some of the older fleet or is that pretty much exhausted for now? Not exhausted. We've done probably close to 12 remodels in the last 3 years. So we have a disciplined approach on how many stores we can remodel during the course of the year. This year we're doing 7 stores this year. We've gotten the plans next year to do about 7. So we're not done. We still want to bring all of our stores. I mean all the stores are better because we've invested in pieces and components, but we still have some stores that we need to bring to all the way up to new store standards. So and the lift we get out of we get a great return on that investment, as we improve the store and create more inspiration in the store and make the store more productive in the way the product flows, we see a benefit there. So we know in this category, I think it's important to keep the stores inspirational and keeping the stores inspirational means we got to invest back in them. So we're nowhere near where we need to be. We're not satisfied with our as good as we can get. We think we'll get better. Great. And that's helpful. And I know a big picture kind of more longer term question, but can you tell us a little bit more about how your commercial business is trending? I know it's a very small part of the equation today, but we're thinking about the long term opportunities. How should we consider the size and growth of that market relative to your retail business? Yes. I'll let Trevor Trevor is responsible for commercial, so we'll let him tackle that one. Yes. So we started that business essentially at the end of last year and this year. It will do a nice contribution for us. It's really immaterial in the grand scheme of $1,300,000,000 in sales. We do think that business will grow at a nice clip for the next 4 to 5 years. We're investing fairly heavily in systems and in talent. It's completely different than the retail business. So I don't think it's going to be meaningful to overall sales or profitability. It's completely incremental, basically 100% divorced from the retail business, although we'd be on the backs of the supply chain and the merchandising team. I think really that's really about 3 to 4 years from now is where we think that will start to hopefully be more meaningful and we'll have more conversation about that. But I will say the early reads as that team has gone to a lot of conferences where we are talking to these large institutional buyers of flooring, that they're very intrigued and they like what we're doing. And essentially, when we were founded 16 years ago, when we kind of democratized and took cost out of the business and offered high quality flooring at the lowest cost possible, those commercial guys are very interested in the same thing and it just takes time to get those relationships. And even if we had a big book of business, right, those buildings got to get built over the next 12 to 18 months, so it's a much longer time business. So short answer is we're very pleased with that business. It will have a small contribution to sales and profitability this year. It will continue to grow at a faster rate than the retail business just because it's on a small base over the next 3 to 5 years. But really, it probably doesn't get meaningful to the overall sales and profitability of the business for at least a couple of years. I agree. Got it. Thanks so much guys. Thanks, Daniel. We'll take our next question from Peter Keith with Piper Jaffray. Please go ahead. Hey, good afternoon guys. Good afternoon. I wanted to explore a little bit on the competitive dynamic. So what's interesting to me is that both Home Depot and Lowe's have been advertising national TV commercials on the hard surface flooring space this last month. It's probably the first time that I can see that from both of them. Are you seeing any changes in the stores? I guess maybe people asking about the product or the products that they are advertising driving interest or maybe more price awareness? So just curious on how that might be having any impact, if any? I'll give you my point of view and maybe let Lisa hop in after. I think that when the big boxes advertise the category, it brings awareness to the category. And I do think in this category, people shop around. And so when we have stores near their stores and they create inspiration that a customer is going to look at multiple places before they buy the category. So for us, it creates a little demand. And it's if we get someone in the job for a flooring project and we get them into our store, we feel like we've got a pretty good ability to convert them. So it does bother. We've seen no real impact from that. If anything, like I said, it could create demand and be helping. So and beyond that, is there anything you want to add to that? No. We really I mean, we have lots of great local and national competitors, but I wouldn't say that we've seen anything very different than what they've done. I think Peter and I have said it before, look, we've got a ton of respect for everyone that we compete with. And we have we try to learn what everyone does right and when everyone and people are always doing something different every quarter where different competitors can do something different, and we react to it when it makes sense and we learn from it when it makes sense. At the end of the day, we feel like our model is a little bit different, a little bit unique, and our total value proposition is just better than what a lot of others can offer. Okay. Very good. And then on a separate topic, I wanted to ask about some of the adjacent categories that you've been testing, specifically the countertops and the frameless shower doors. Could you frame up maybe how many stores those categories are offered in at this point? Sure. Frameless shower doors are in over half our stores. They continue to roll out. And counter slab countertops are in about 20% of our stores, and that will continue to we'll roll that out into a few more stores as the year goes on well. Pleased with both. Customer reception has been good. We're continuing to learn so that we can execute better and at a higher level. But so far, we're pleased with the progress. Not a meaningful it's not an impact not to our comps, not something that's not that big yet, but we think it's just like the commercial business, we as a company, we think about planting seeds for the future and how we're going to get better in the right years. Okay. Sounds terrific. Good luck with the back half of the year, guys. Thanks, Peter. Thanks, Peter. We'll take our next question from Matt Fassler with Goldman Sachs. Please go ahead. Thanks a lot. Good afternoon, everyone. Good afternoon. I just want to dig a bit deeper into some of the moving pieces in Q3 and just try to size some of the bulges that you think are going to hold back the EBIT margin relative to trend, particularly given that the sales remain quite strong? And then Q4, it looks like the implied margin guidance is kind of back to the prior cadence. If you could just go into a little more detail about how to compartmentalize and break out, I think you talked about the DCs and anything else that might hold back the incremental margins of the Q3? Sure. Matt, this is Trevor. So really or 3 things I'd call out. As I mentioned, the DC, we're having a very large expansion in those DC expenses relative to taking on over 90% more square footage costs. And so that, from our estimates, is some portion of $1,000,000,000 that's affecting the quarter. As we mentioned, we think we get leverage up to about 110 stores. So it's just a step investment that we've got to make. As we mentioned, we're going to open 6 to 7 stores. Our new stores are not nearly as profitable. And in the 1st few months of operation, they actually can be a drag on earnings. So because we are having so many new stores, if we open 7 stores, just to pick a number for next quarter versus the 4 stores, that store start up cost, which is the cost incurred before the store opens, that's 1,700,000 dollars Those are the 2 I mentioned in my prepared comments. And then to a lesser extent, another important factor is, as we mentioned before, the Class of 16 was an extremely strong class of stores and a lot of those stores right out of the gates were strong, well ahead of our expectations. And we're just not planning our new stores to perform like that this year right out of the gates. It could happen and there's some upside if that does happen. That number is probably a low 7 figures numbers as well. So those are the main things I would say. And if you kind of backed out those for the fact that we're really increasing our distribution center square footage, the fact that we're going from opening 4 stores last year to 6 to 7 stores this year, our profits will be growing at a faster rate than the sales and our operating margin would as well. Got it. And just to be clear, the line items that those impact presumably the preopening weighs a bit on the weighs on SG and A, you break that out. The DC cost, would that go into gross margin or cost of goods? Yes, that's gross margin. Okay. And all of these sound like they fade as dragged pretty immediately, such that in Q4, there should be very little kind of residual impact from them, yes? For that, but I think in Q4, we're actually planning on our operating margins being slightly lower in Q4 of this year. And really for the same reasons, but even more so, the distribution center expenses because we're actually opening that distribution center in Q4 Q4 and we're doing a lot of relocation, I think a lot of trucks to move all that inventory from 1 distribution center to the other distribution center, we're expecting some portion of $2,000,000 of incremental cost in the DC, low as of the same time last Again, that all flows through our gross margin. So we will have some pressure on our gross margin because we're taking on an additional $2,000,000 cost. Our store start up costs, because we're opening 3 to 4 stores this year versus only opening 2 stores last year, some portion of $1,000,000 And again, just it's a minor of the 2 in the Q4 is the fact that those new stores for last year were just so strong. We think the stores will be strong this year, but we're just not going to plan them at the same level as last year. And so that new store profitability relative to last year will weigh on our profitability a little bit as well. So I know it's a lot to throw at you. I'm happy to go back over that quickly, but those are really the 2 things. I won't do that to the people on the phone, but I appreciate the color. Congratulations on a terrific quarter. Thank you. I think it'd just probably just be helpful too. I think just one more thing I would add to that is that as Tom mentioned, we've been fairly good over my 6 years here and certainly this year has been a fantastic year. If we're fortunate enough to be on the top line, we think we'll flow that through in the mid-twenty percent range. So we're focused on keeping the accelerator down and continue to drive business forward. Super helpful. Thank you. And our final question comes from Joe Feldman with Telsey Advisory Group. Please go ahead. Hi, guys. Good afternoon. Thanks for taking the question. Sorry, just getting my act together here. Us too. I wanted to ask you yes, exactly. I wanted to ask you about, again, on the competitive environment, are you seeing anything where you line up directly with the other tile competitor? Or I know people ask about Home Depot and Lowe's, but is there anything in particular where you see any variance? Like is it are comps actually lower in those markets where there is a little more competition? Or do you still kind of comp at the same rate where regardless when you own the market yourself? We in fact with this type of sales performance, we are strong everywhere. As I mentioned earlier, we think we've got a unique value proposition that's different than anyone else we sell. The more you learn about our concept, I mean we're in all hard surface categories, not just 1 or 2. We have everything in stock, not just 6 or 8 SKUs. We have everything to complete the project, which is just different than what everyone else as we commit a lot more space than the home centers are able to commit. So we performed strong everywhere. And so long way around of with this type of comp performance and the type of comp performance that we were have been delivering, we're able to compete and be able to do well no matter where our stores sit and no matter who sits near us. Yes. Thanks. And then one follow-up on the online side of the business. So I know that as you mentioned, 90% of the orders are picked up at store, which makes sense to me having been through the experience myself. That being said, a lot of other big ticket categories, especially big bulky item categories, appliances, furniture, you name it, people are pretty comfortable having that delivered. And obviously, those other industries get away with delivery fees for that. I'm curious as to why you think maybe tile could be a little bit different. I would think once I've made my choice and maybe I may even go to your store to select some of the items, but not everybody has, I don't know, minivan or a truck or some form of delivery to get it to their house. And is that something that we should worry about down the road? Or how you think about that and how you might charge for delivery down the road? We deliver today. So if a customer wants to order online and they want they elect to get it delivered, we certainly offer that service and we can do that. We do that in some cases. My theory on why the customers come back to the store, a lot of the times is it is a complicated purchase. You need to get all of the accessories that are going to go along with the tile or hard surface flooring purchase and it's complicated to do. And sometimes you don't know everything you need, so you want to engage with someone perhaps to do that. It's also we believe a lot of times a customer, even though they bought a sample, they may want to come back to the store and see it before they take it home because not a permanent purchase, but it's close to a permanent purchase, right? When you put tile down, it's not easy to take up. So there's dye lot issues and colors can change in tile. And if it's a natural product, you want to make sure that the sample that you got looks like the pallet that you're getting. So there's just a lot of reasons why we think customers come back to the store. And there's the last thing I would say why they would come to the store too is it's hard to shop online. There's just not a lot of brands in the category, which is much more of on the shopping side. But once they elect to make a purchase online, that's why we think they're coming back. Got it. That's helpful. Thanks, guys, and good luck with this quarter. Okay. Thank you. Look, we appreciate everyone joining us on the call and your interest in the company. We'll talk to you next quarter. And this concludes today's call. We appreciate your participation. You may now disconnect.