TILE SHOP HOLDINGS, INC. The following discussion and analysis ofTile Shop Holdings, Inc.'s ("Holdings," and together with its wholly owned subsidiaries, the "Company," "we," "us," or "our") financial condition and results of operations should be read in conjunction with our Annual Report on Form 10-K for the year endedDecember 31, 2021 and our consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains "forward-looking statements" within
the meaning of the "safe harbor" provisions of the Private Securities Litigation
Reform Act of 1995. In some cases, you can identify these statements by words
such as, but not limited to, "anticipate," "believe," "can," "continue,"
"could," "depend," "estimate," "expect," "intend," "may," "might," "plan,"
"predict," "project," "seek," "should," "target," "will," "will likely result,"
"would," and similar expressions or variations, although some forward-looking
statements are expressed differently. All statements other than statements of
historical fact are statements that could be deemed forward-looking statements.
The forward-looking statements in this Quarterly Report on Form 10-Q are based
on current expectations and assumptions that are subject to risks and
uncertainties, many of which are difficult to predict and are outside of our
control, that may cause our actual results, performance, or achievements to
differ materially from any expected future results, performance, or achievements
expressed or implied by such forward-looking statements. These risks and
uncertainties include, but are not limited to, our anticipated new store
openings, remodeling plans, and growth opportunities; our business strengths,
marketing strategies, competitive advantages and role in our industry and
markets; an overall decline in the health of the economy, the tile industry,
consumer confidence and spending, and the housing market, including as a result
of rising inflation or interest rates or the COVID-19 pandemic; our expectations
regarding the potential impacts on our business of the COVID-19 pandemic,
including its effect on general economic conditions and credit markets, the
supply chain and product availability, labor, and customer traffic to our
stores, as well as the potential duration of the COVID-19 pandemic and
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adequacy of measures we have taken to attempt to mitigate the impact of the COVID-19 pandemic on our business; the impact of ongoing supply chain disruptions and inflationary cost pressures, including increased materials, labor, energy, and transportation costs and decreased discretionary consumer spending; our ability to successfully implement our strategic plan and the anticipated benefits of our strategic plan; our ability to successfully anticipate consumer trends; any statements with respect to dividends and timing, methods, and payment of same; the effectiveness of our marketing strategy; potential fluctuations in our comparable store sales; our expectations regarding our and our customers' financing arrangements and our ability to obtain additional capital, including potential difficulties of obtaining refinancing due to market conditions resulting from the COVID-19 pandemic, geopolitical conditions and other economic factors; supply costs and expectations, including the continued availability of sufficient products from our suppliers, risks related to relying on foreign suppliers, and the potential impact of the COVID-19 pandemic and theRussia -Ukraine conflict on, among other things, product availability and pricing and timing and cost of deliveries; our expectations with respect to ongoing compliance with the terms of the Credit Agreement (as defined below), including increasing interest rates; our ability to provide timely delivery to our customers; the effect of regulations on us and our industry, and our suppliers' compliance with such regulations, including any environmental or climate change-related requirements; the impact of corporate citizenship and environmental, social and governance matters; labor shortages and our expectations regarding the effects of employee recruiting, training, mentoring, and retention on our ability to recruit and retain employees; tax-related risks; the potential impact of cybersecurity breaches or disruptions to our management information systems; our ability to successfully implement our information technology and other digital initiatives; our ability to effectively manage our online sales; costs and adequacy of insurance; the potential impact of natural disasters, which may worsen or increase due to the effects of climate change, and other catastrophic events; risks inherent in operating as a holding company; fluctuations in material and energy costs, including recent increases in, and ongoing volatility of, oil and gas prices; the potential outcome of any legal proceedings; risks related to ownership of our common stock; and those factors set forth in the section captioned "Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2021 and in this Form 10-Q. There is no assurance that our expectations will be realized. If one or more of these risks or uncertainties materialize, or if our underlying assumptions prove incorrect, actual results may vary materially from those expected, estimated, or projected. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Furthermore, such forward-looking statements speak only as of the date of this Quarterly Report on Form 10-Q. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements. We intend to use our website, investors.tileshop.com, as a means of disclosing material non-public information and for complying with our disclosure obligations under Regulation FD of theSecurities and Exchange Commission ("SEC"). Such disclosures will be included on our website under the heading News and Events. Accordingly, investors should monitor such portions of our website, in addition to following our press releases,SEC filings and public conference calls and webcasts. Information contained on or accessible through our website is not a part of, and is not incorporated by reference into, this Quarterly Report on Form 10-Q or any other report or document we file with theSEC . Any reference to our website is intended to be an inactive textual reference only.
Overview and Recent Trends
We are a specialty retailer of natural stone and man-made tiles, setting and maintenance materials, and related accessories inthe United States . We offer a wide selection of products, attractive prices, and exceptional customer service in an extensive showroom setting. As ofSeptember 30, 2022 , we operated 143 stores in 31 states and theDistrict of Columbia , with an average size of approximately 20,000 square feet. We purchase our tile products and accessories directly from suppliers and manufacture our own setting and maintenance materials, such as thinset, grout, and sealers. We believe that our long-term supplier relationships, together with our design, manufacturing and distribution capabilities, enable us to offer a broad assortment of high-quality products to our customers, who are primarily homeowners and professionals, at competitive prices. We have invested significant resources to develop our proprietary brands and product sources, and we believe that we are a leading retailer of natural stone and man-made tiles, accessories, and related materials inthe United States . Our business continues to be impacted by a number of macro-economic factors, including the trailing impact of the COVID-19 pandemic. Global supply chains and product availability remain highly challenged and the ongoingRussia -Ukraine conflict has only exacerbated an already difficult operating environment. These factors, combined with higher fuel costs and a highly competitive labor market, have created an inflationary environment and cost pressures. In regard to consumer demand, since the onset of the COVID-19 pandemic, our business has experienced an increase in demand and sales. It remains unclear, however, if these demand trends will remain intact or if they will revert back to more historical levels over time, particularly as inflation begins to impact discretionary spending. Current trends in rising interest rates and decreases in housing turnover could signal a slowdown in home remodeling activity. In recent months, we have observed a deceleration in our comparable store sales growth. 17
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OnAugust 16, 2022 , we announced that our Board of Directors approved a$30.0 million share repurchase plan. As ofSeptember 30, 2022 , the Company had repurchased 4.1 million shares for$15.5 million , inclusive of brokerage commissions, or an average price of$3.80 per share. Subsequent to the end of the quarter, the Company completed the share repurchase program. In total, 7.8 million shares were repurchased for$30.2 million , inclusive of brokerage commissions, or an average price of$3.87 per share.
For the three months endedSeptember 30, 2022 and 2021, we reported net sales of$97.2 million and$92.2 million , respectively. Sales increased at comparable stores by 5.3% during the third quarter of 2022 compared to the third quarter of 2021, primarily due to an increase in average ticket driven by higher prices.
The table below sets forth information about our comparable store sales growth
for the three and nine months ended
For the three months ended For the nine months ended
September 30, September 30,
2022 2021 2022 2021
Comparable store sales growth 5.3 % 12.8 % 9.5 % 14.9 %
We continued to experience challenges in our supply chain during the third quarter of 2022. Specifically, we are still seeing an increase in the cost of the products we source from around the world due to vendor price increases in response to inflationary cost pressure. While ocean container rates have started to fall from peak levels, average freight rates remain elevated. We continue to monitor the impact of inflation on the costs of materials, labor, energy, and other costs required to manage our business in order to minimize its effects through pricing strategies, productivity improvements and cost reductions. There can be no assurance, however, that our operating results will not be affected by inflation in the future. Selling, general and administrative expenses decreased by$0.7 million from$59.8 million in the third quarter of 2021 to$59.1 million in the third quarter of 2022, due primarily to a$0.7 million asset impairment charge incurred during the third quarter of 2021 and no asset impairment charges in the third quarter of 2022. In addition, the Company recognized a$0.8 million benefit related to a lease incentive, which was mostly offset by a$0.7 million increase in pay and benefits expenses during the third quarter of 2022. Net cash provided by operating activities was$7.2 million and$44.4 million for the nine months endedSeptember 30, 2022 and 2021, respectively. The decrease in cash provided by operating activities was primarily due to an increase in inventory in 2022 and other changes in working capital.
Key Components of our Consolidated Statements of Operations
Net Sales - Net sales represents total charges to customers, net of returns, and includes freight charged to customers. We recognize sales at the time that the customer takes control of the merchandise or final delivery of the product has occurred. We are required to charge and collect sales and other taxes on sales to our customers and remit these taxes back to government authorities. Total revenues do not include sales tax because we are a pass-through conduit for collecting and remitting sales tax. Sales are reduced by a reserve for anticipated sales returns that we estimate based on historical returns. Comparable store sales growth is the percentage change in sales of comparable stores period-over-period. A store is considered comparable on the first day of the 13th full month of operation. When a store is relocated, it is excluded from the comparable store sales growth calculation. Comparable store sales growth amounts include total charges to customers less any actual returns. We include the change in allowance for anticipated sales returns applicable to comparable stores in the comparable store sales calculation. Comparable store sales data reported by other companies may be prepared on a different basis and therefore may not be useful for purposes of comparing our results to those of other businesses. Company management believes the comparable store sales growth (decline) metric provides useful information to both management and investors to evaluate the Company's performance, the effectiveness of its strategy and its competitive position. Cost of Sales - Cost of sales consists primarily of material costs, freight, customs and duties fees, and storage and delivery of product to the customers, as well as physical inventory losses and costs associated with manufacturing of setting and maintenance materials.
Gross Profit - Gross profit is net sales less cost of sales. Gross margin rate is the percentage determined by dividing gross profit by
net sales.
Selling, General, and Administrative Expenses - Selling, general, and administrative expenses consist primarily of compensation costs, occupancy, utilities, maintenance costs, advertising costs, shipping and transportation expenses to move inventory from our distribution centers to our stores, and depreciation and amortization.
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Income Taxes - We are subject to income tax in
Results of Operations
Comparison of the three months endedSeptember 30, 2022 to the three months ended September 30, 2021 (in thousands) 2022 % of sales(1) 2021 % of sales Net sales$ 97,154 100.0 %$ 92,240 100.0 % Cost of sales 32,542 33.5 % 29,291 31.8 % Gross profit 64,612 66.5 % 62,949 68.2 % Selling, general and administrative expenses 59,109 60.8 % 59,791 64.8 % Income from operations 5,503 5.7 % 3,158 3.4 % Interest expense (319) (0.3) % (204) (0.2) % Income before income taxes 5,184 5.3 % 2,954 3.2 % Provision for income taxes (1,361) (1.4) % (779) (0.8) % Net income$ 3,823 3.9 %$ 2,175 2.4 %
(1) Amounts do not foot due to rounding.
Net Sales Net sales for the third quarter of 2022 increased$4.9 million , or 5.3%, compared with the third quarter of 2021. Sales increased at comparable stores by 5.3% during the third quarter of 2022 compared to the third quarter of 2021, primarily due to an increase in average ticket driven by higher prices. Gross Profit Gross profit for the third quarter of 2022 increased$1.7 million , or 2.6%, compared with the third quarter of 2021, primarily due to the increase in sales. The gross margin rate was 66.5% and 68.2% during the third quarter of 2022 and 2021, respectively. The decrease in the gross margin rate was primarily due to an increase in the cost of our products driven by vendor cost increases and higher international freight rates, which were partially offset by an increase in our selling prices. Selling, General, and Administrative Expenses Selling, general, and administrative expenses for the third quarter of 2022 decreased$0.7 million , or 1.1%, from$59.8 million in the third quarter of 2021 to$59.1 million in the third quarter of 2022, due primarily to a$0.7 million asset impairment charge incurred during the third quarter of 2021 and no asset impairment charges in the third quarter of 2022. In addition, the Company recognized a$0.8 million benefit related to a lease incentive, which was mostly offset by a$0.7 million increase in pay and benefits expenses during the third quarter of 2022.
Interest Expense Interest expense was
Provision for Income Taxes The provision for income taxes was$1.4 million and$0.8 million for the third quarter of 2022 and 2021, respectively. The increase in the provision for income tax was largely due to the increase in income before taxes. Our effective tax rate for the three months endedSeptember 30, 2022 and 2021 was 26.3% and 26.4%, respectively. ? Comparison of the nine months endedSeptember 30, 2022 to the nine months ended September 30, 2021 (in thousands) 2022 % of sales(1) 2021 % of sales Net sales$ 307,230 100.0 %$ 280,517 100.0 % Cost of sales 104,754 34.1 % 86,957 31.0 % Gross profit 202,476 65.9 % 193,560 69.0 % Selling, general and administrative expenses 182,459 59.4 % 175,880 62.7 % Income from operations 20,017 6.5 % 17,680 6.3 % Interest expense (786) (0.3) % (517) (0.2) % Income before income taxes 19,231 6.3 % 17,163 6.1 % Provision for income taxes (4,981) (1.6) % (4,197) (1.5) % Net income$ 14,250 4.6 %$ 12,966 4.6 % 19
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(1) Amounts do not foot due to rounding.
Net Sales Net sales for the nine months endedSeptember 30, 2022 increased$26.7 million , or 9.5%, compared with the nine months endedSeptember 30, 2021 . Sales increased at comparable stores by 9.5% during the nine months endedSeptember 30, 2022 when compared to the nine months endedSeptember 30, 2021 , primarily due to an increase in average ticket driven by higher prices. Gross Profit Gross profit for the nine months endedSeptember 30, 2022 increased$8.9 million , or 4.6%, compared with the nine months endedSeptember 30, 2021 . The gross margin rate was 65.9% and 69.0% for the nine months endedSeptember 30, 2022 and 2021, respectively. The decrease in the gross margin rate was primarily due to an increase in the cost of our products driven by vendor cost increases and higher international freight rates, which were partially offset by an increase in our selling prices. Selling, General, and Administrative Expenses Selling, general, and administrative expenses for the nine months endedSeptember 30, 2022 increased$6.6 million , or 3.7%, compared with the nine months endedSeptember 30, 2021 . The increase in selling, general, and administrative expenses was primarily due to a$5.5 million increase in pay and benefits, a$1.7 million increase in marketing expenses, and a$1.0 million increase in software and IT expenses that were partially offset by a$1.9 million decrease in depreciation expense. The increase in pay and benefits included a$9.5 million increase in wages and benefits resulting from an increase in staffing levels, sales commissions and benefits costs. This increase was partially offset by a$4.0 million decrease in bonus expenses due to a reduction in accruals for annual incentives and a decrease in sales bonuses. Interest Expense Interest expense was$0.8 million and$0.5 million for the nine months endedSeptember 30, 2022 and 2021, respectively. The increase was due to the increase in outstanding debt during the nine months endedSeptember 30, 2022 . Provision for Income Taxes Provision for income taxes increased$0.8 million for the nine months endedSeptember 30, 2022 compared with the nine months endedSeptember 30, 2021 due to an increase in pretax income and a decrease in the tax benefits recognized with respect to restricted stock vestings. Our effective tax rate for the nine months endedSeptember 30, 2022 and 2021 was 25.9% and 24.5%, respectively. Non-GAAP Measures We calculate Adjusted EBITDA by taking net income calculated in accordance with accounting principles generally accepted inthe United States ("GAAP"), and adjusting for interest expense, income taxes, depreciation and amortization, and stock based compensation expense. Adjusted EBITDA margin is equal to Adjusted EBITDA divided by net sales. We calculate pretax return on capital employed by taking income from operations divided by capital employed. Capital employed equals total assets less accounts payable, income taxes payable, other accrued liabilities, lease liability and other long-term liabilities. Other companies may calculate both Adjusted EBITDA and pretax return on capital employed differently, limiting the usefulness of these measures for comparative purposes. We believe that these non-GAAP measures of financial results provide useful information to management and investors regarding certain financial and business trends relating to our financial condition and results of operations. Our management uses these non-GAAP measures to compare our performance to that of prior periods for trend analyses, for purposes of determining management incentive compensation, for budgeting and planning purposes and for assessing the effectiveness of capital allocation over time. These measures are used in monthly financial reports prepared for management and our Board of Directors. We believe that the use of these non-GAAP financial measures provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing our financial measures with other specialty retailers, many of which present similar non-GAAP financial measures to investors. Our management does not consider these non-GAAP measures in isolation or as an alternative to financial measures determined in accordance with GAAP. The principal limitations of these non-GAAP financial measures are that they exclude significant expenses and income that are required by GAAP to be recognized in our consolidated financial statements. In addition, they are subject to inherent limitations as they reflect the exercise of judgments by management about which expenses and income are excluded or included in determining these non-GAAP financial measures. In order to compensate for these limitations, management presents non-GAAP financial measures in connection with GAAP results. We urge investors to review the reconciliation of our non-GAAP financial measures to the comparable GAAP financial measures and not to rely on any single financial measure to evaluate our business. 20
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The reconciliation of Adjusted EBITDA to net income for the three and nine
months ended
(in thousands)
Three Months Ended
September 30,
2022 % of sales(1) 2021 % of sales
Net income $ 3,823 3.9 % $ 2,175 2.4 %
Interest expense 319 0.3 % 204 0.2 %
Provision for income taxes 1,361 1.4 % 779 0.8 %
Depreciation and amortization 6,157 6.3 % 6,689 7.3 %
Stock based compensation 563 0.6 % 560 0.6 %
Adjusted EBITDA $ 12,223 12.6 % $ 10,407 11.3 %
(1) Amounts do not foot due to rounding.
(in thousands)
Nine Months Ended
September 30,
2022 % of sales 2021 % of sales(1)
Net income $ 14,250 4.6 % $ 12,966 4.6 %
Interest expense 786 0.3 % 517 0.2 %
Provision for income taxes 4,981 1.6 % 4,197 1.5 %
Depreciation and amortization 19,011 6.2 % 20,948 7.5 %
Stock based compensation 1,617 0.5 % 1,859 0.7 %
Adjusted EBITDA $ 40,645 13.2 % $ 40,487 14.4 %
(1) Amounts do not foot due to rounding.
The calculation of pretax return on capital employed is as follows:
(in thousands)
September 30,
2022 (1) 2021(1)
Income from Operations (trailing twelve months)
Total Assets 347,454 353,491 Less: Accounts payable (30,597) (16,909) Less: Income tax payable (915) (222) Less: Other accrued liabilities (41,534) (40,322) Less: Lease liability (132,660) (144,787) Less: Other long-term liabilities (4,756) (4,511) Capital Employed$ 136,992 $ 146,740 Pretax Return on Capital Employed 16.8 % 13.9 % (1) Income statement accounts represent the activity for the trailing twelve months ended as of each of the balance sheet dates. Balance sheet accounts represent the average account balance for the four quarters ended as of each of the balance sheet dates.
Liquidity and Capital Resources
Our principal liquidity requirements have been for working capital and capital expenditures. Our principal sources of liquidity are$12.4 million of cash and cash equivalents atSeptember 30, 2022 , our cash flow from operations, and borrowings available under our Credit Agreement. We expect to use this liquidity for purchasing additional merchandise inventory, maintaining our existing stores, and general corporate purposes. OnSeptember 30, 2022 , Holdings and its operating subsidiary,The Tile Shop, LLC , and certain subsidiaries of each entered into a Credit Agreement withJPMorgan Chase Bank, N.A . and the lenders party thereto, includingFifth Third Bank (the "Credit Agreement"). The Credit Agreement provides the us with a senior credit facility consisting of a$75.0 million revolving line of credit throughSeptember 30, 2027 . Borrowings pursuant to the Credit Agreement initially bear interest at a rate per annum equal to: (i) Adjusted Term SOFR Rate (as defined in the Credit Agreement), plus a margin ranging from 1.25% to 1.75%; (ii) Adjusted Daily Simple SOFR (as defined in the Credit Agreement), plus a margin ranging from 1.25% to 1.75%; or (iii) the Alternate Base Rate (as 21
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defined in the Credit Agreement), plus a margin ranging from 0.25% to 0.75%. The margin is determined based on the Rent Adjusted Leverage Ratio (as defined in the Credit Agreement). Borrowings outstanding as ofSeptember 30, 2022 were SOFR-based interest rate loans. The SOFR-based interest rate was 4.54% onSeptember 30, 2022 . The Credit Agreement is secured by virtually all of our assets, including but not limited to, inventory, accounts receivable, equipment and general intangibles. The Credit Agreement contains customary events of default, conditions to borrowing and restrictive covenants, including restrictions on our ability to dispose of assets, engage in acquisitions or mergers, make distributions on or repurchases of capital stock, incur additional debt, incur liens or make investments. The Credit Agreement also includes financial and other covenants, including covenants to maintain a Fixed Charge Coverage Ratio (as defined in the Credit Agreement) of no less than 1.20 to 1.00 and a Rent Adjusted Leverage Ratio (as defined in the Credit Agreement) of no greater than 3.50 to 1.00. We were in compliance with the covenants as ofSeptember 30, 2022 . The Credit Agreement supersedes and replaces in its entirety our prior senior credit facility withBank of America, N.A . datedSeptember 18, 2018 . We drew on the revolving line of credit pursuant to the Credit Agreement to refinance all of the existing revolving line of credit and interest outstanding under our prior credit facility, as well as pay$0.4 million in debt issuance costs in connection with the Credit Agreement. Debt issuance costs are classified as other current assets and other assets in the Consolidated Balance Sheet and amortized on a straight line basis over the life of the Credit Agreement. We recorded a$0.1 million charge in interest expense to write-off certain unamortized deferred financing fees associated with theSeptember 18, 2018 credit facility as of the date of the payoff. Borrowings outstanding consisted of$30.4 million on the revolving line of credit as ofSeptember 30, 2022 . As ofSeptember 30, 2022 , there was$44.6 million available for borrowing on the revolving line of credit, which may be used for purchasing additional merchandise inventory, maintaining our stores, and general corporate purposes. We believe that our cash flow from operations, together with our existing cash and cash equivalents and borrowings available under our Credit Agreement, will be sufficient to fund our operations and anticipated capital expenditures over at least the next twelve months and our long-term liquidity requirements.
Capital Expenditures
Capital expenditures were$10.3 million and$8.9 million for the nine months endedSeptember 30, 2022 and 2021, respectively. Capital expenditures in 2022 were primarily due to investments in store remodels, merchandising, distribution and information technology assets.
Cash flows
The following table summarizes our cash flow data for the nine months endedSeptember 30, 2022 and 2021. (in thousands) Nine Months Ended September 30, 2022 2021 Net cash provided by operating activities$ 7,185 $ 44,390 Net cash used in investing activities (10,340) (8,933)
Net cash provided by (used in) financing activities 8,771 (821)
Operating activities
Net cash provided by operating activities during the nine months endedSeptember 30, 2022 was$7.2 million compared with$44.4 million during the nine months endedSeptember 30, 2021 . The decrease was primarily attributable to an increase in inventory purchases in 2022 and other working capital changes.
Investing activities
Net cash used in investing activities totaled$10.3 million for the nine months endedSeptember 30, 2022 compared with$8.9 million for the nine months endedSeptember 30, 2021 . Cash used in investing activities during the nine months endedSeptember 30, 2022 was primarily due to investments in store remodels, merchandising, distribution and information technology assets.
Financing activities
Net cash provided by financing activities was$8.8 million for the nine months endedSeptember 30, 2022 compared with$0.8 million of net cash used for the nine months endedSeptember 30, 2021 . The increase in cash provided by financing activities during the third quarter of 2022 was primarily due to$70.4 million of borrowings on our line of credit. Financing cash inflows attributable to 22
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borrowings on the line of credit were partially offset by$45.0 million of debt repayments and$15.5 million of share repurchases during the nine-month period endingSeptember 30, 2022 . Cash and cash equivalents totaled$12.4 million atSeptember 30, 2022 compared with$9.4 million atDecember 31, 2021 . Working capital was$49.7 million atSeptember 30, 2022 compared with$29.4 million atDecember 31, 2021 .
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