Q4 2023 Arhaus Inc Earnings Call

Participants

Wendy Watson; Senior Vice Presiden, Investor Relations; Arhaus Inc

John Reed; Chairman of the Board, President, Chief Executive Officer, Founder; Arhaus Inc

Dawn Phillipson; Chief Financial Officer; Arhaus Inc

Jennifer Porter; Chief Marketing Officer; Arhaus Inc

Peter Keith; Analyst; Piper Sandler

Jonathan Matuszewski; Analyst; Jefferies

Peter Benedict; Analyst; Robert W. Baird

Steven Forbes; Analyst; Guggenheim

Jeremy Hamblin; Analyst; Craig-Hallum Capital Group

Max Rakhlenko; Analyst; TD Cowen

Simeon Gutman; Analyst; Morgan Stanley

Phillip Blee; Analyst; William Blair

Cristina Fernandez; Analyst; Telsey Advisory Group

Presentation

Operator

And then no, good morning, and welcome to the our house fourth quarter at full year 2023 earnings conference call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal remarks. Please note that this call is being recorded and the reproduction of any part of this call is not permitted without written authorization from the company.
I will now turn the call over to your host, Wendy Watson, Senior Vice President of Investor Relations. Please go ahead.

Wendy Watson

Good morning, and thank you for joining our health for the fourth quarter and full year 2023 earnings call. Unless me are John Reed, Co-Founder, Chairman and Chief Executive Officer, who is joining us this morning from Italy and Don Phillips and Chief Financial Officer. After prepared remarks, they will be joined by Jim Porter, our Chief Marketing and e-commerce officer for the Q&A session. During Q&A, please limit to one question and one follow up. If you have additional questions, please return to the queue. We issued our earnings press release for the year ended December 31st, 2023 before market opened today. Yesterday after market close, we filed an eight K to inform investors that we identified an error in our unaudited condensed consolidated balance sheet as of September 30th, 2023, related to certain leasehold and landlord improvements prior to showroom completion being incorrectly included in prepaid and other current assets rather than property furniture and equipment. Net this year resulted in inaccurate cash flows ascribed to the operating and investing activities in the unaudited condensed consolidated statement of cash flows for the nine months ended September 30th, 2023. As such, we will restate our financial statements for the third quarter of 2023 and revised the December 31st, 2022 comparative balance sheet that will be included in the amended third quarter 10 Q. For more details, please refer to the eight K. These documents are available on our Investor Relations website at ir dot our house.com.
As a reminder, remarks today concerning future expectations, events, objectives, strategies, trends or results constitute forward-looking statements. Actual results or events may differ materially due to a number of risks and uncertainties. For a summary of these risk factors and additional information, please refer to this morning's press release and the cautionary statements and risk factors described in our most recent annual report on Form 10 K and subsequent 10 Q. As such, factors may be updated from time to time in our filings with the SEC. Forward-looking statements are made as of today's date and except as may be required by law, the Company undertakes no obligation to update or revise these statements. We will also refer to certain non-GAAP financial measures, and this morning's press release includes the relevant non-GAAP reconciliations. A replay of this call will be available on our website within 24 hours.
Now I will turn the call over to John.

John Reed

Good morning, everyone, and thank you for joining us on the call today. We delivered a strong fourth quarter 2023 with net revenue of $344 million, net income of 31 million and adjusted EBITDA of 51 million. And we're very pleased to have exceeded our top and bottom line outlook for the quarter.
Turning to our 2023 performance, it was another exceptional year for our house, fueled by our long term growth strategies to one increased brand awareness to expand our showroom base, three, enhance our omnichannel capabilities and technology, and four, invest in growth to build scale and to enhance long-term margins.
Highlights from our 2023 full year results include net revenue of $1.3 billion with our showroom channel up 2% and our e-commerce channel up 17% on top of growth of 57% and 43% of each of these channels in the full year 2022, comp growth of 1% and demand comp growth of 8%, both at or above the high end of our outlook for the year and cycling comp growth of 52% and a demand comp growth of 14% in the full year of 2022 and comprehensive income of $125 million and adjusted EBITDA of $203 million. Given our strong cash generation and balance sheet strength following 2020 20 three's outstanding performance, I am pleased to announce our Board of Directors approved a special cash dividend of $0.5 per share, payable on or about April fourth of 2024 to shareholder holders of record at the close of business on March 21st, 2024. We are very pleased to be able to return value to our shareholders while retaining the balance sheet strength that will allow us to continue investing in the our house growth. Dan will cover our fourth quarter and full year 2023 financial results in more detail later on in the call, but I want to congratulate our team for delivering these results. I'm astonished by that by what our team has accomplished in the short time since we went public on November fourth of 2021. At that time, we had 77 showrooms. Today, we have 92 showrooms, adding almost 20% to our showroom total, and we expect to add another nine to 11 this year over the last three years. We believe the US premium home furnishings market has grown 50%. While our growth has been more than three times that of the industry, we have increased our rent, our net revenue by 154% or $780 million increased our net income by 634% or $108 million and increased our adjusted EBITDA by 193% or $134 million as impressive as this growth and the execution by our team has been it is our future potential that is so significant and has me so excited going forward, we expect to continue to grow faster than the market by executing on our strategy, starting with showroom growth, which is the number one way we expand our brand awareness. In 2023, we completed the largest showroom number of showroom projects in our history, opening eight new showrooms, two new design studios and one new outlet location along with eight renovations, relocations and expansion projects. Remember, our new showroom economics are very strong, and we target new traditional showrooms to generate at least $10 million of revenue by year three with target adjusted EBITDA margins averaging 32% and average investment payback in two years or less in 2024. As I mentioned, we expect another year of above the record showroom growth with plans to equal or exceed the number of 2023 showroom projects, including four to six new traditional showrooms, two design studios, three outlets and to renovate relocate or expand several existing showrooms with wonderful feedback from our clients and the continued word-of-mouth awareness building around our showrooms and the incredible product they showcase. We look forward to introducing our house brand and experience to many more clients over the next several years, especially as we continue to work towards our target of 165 traditional showroom, the number two way we expand brand awareness is through recommendations from friends and family are incredible products and the value proposition it offers is at the heart of these recommendations, and we enjoy persistent demand for our product throughout 2023, driven by the success of many of our newer product collections. We frequently describe traveling the world to seek inspiration meet with incredible artisans and ensure we continue to delight our clients with beautiful products from across the globe.
As Wendy mentioned, I am joining you from Italy today, we are members of our product development team and I are working on some really exciting new products. Last year, I told you I thought 2023 was going to be the best year ever new product line. And I think we have exceeded even the very high bar with the product introductions and category expansions in 2020 for our spring and outdoor catalogs and showrooms are currently showcasing this product. And I encourage all of you to go to the show rooms and spend some time on our house.com to judge for yourself during 2023. We also continued to make some important growth investments to enhance our omnichannel capabilities and technology. We are growing our insights from Web site engagement and have launched our incredible story campaigns online and in print, highlighting harvest from Mexico and Italy. These campaigns not only help our product stories, but they elevate our brand at a time when we are introducing our house to many new clients across United States. This is also a great time to highlight the volume to launch of the story campaign for at least the most significant. So a beautiful secret. As a reminder, we developed the story campaign in response to our clients asking to know more about the talented Craftsman behind her beautiful products. The introductory volume of storage routed a story not common highlighted a family of woodworking artisans in Mexico and was released last fall. Current campaign is a testament to our tie-in partnerships, some of which were established decades ago and all of which have been instrumental to building our brands. We are thrilled to continue that the series and look forward to telling our story through future volumes. We are also continuing to make strategic investments to upgrade the technology that supports our business and long term growth plans and enhances our capabilities in warehouse management, inventory planning and allocation and manufacturing delivery and efficiencies. Our teams have been working around the clock on these initiatives. I'm excited about our technology roadmap and the long-term advantages and expected margin enhancements. It will create for us. These investments and enhanced enhancements will continue in 2024, and Dan will give you more detail on the size and scope of these investments. These are near and long-term prospects, combined with the team's strong and disciplined execution of our strategic priorities and buttressed by our debt free balance sheet has us well positioned to deliver on our financial and operational goals as we look to 2024 and beyond. I'm excited about the opportunities of our business and our brands, both of which in many ways, is still in the early days, even though I have been it is for close to 40 years, I generally feel that there are no collections like our collections. There are no people like our people and there's no potential like our potential. Our House stands out and our house stands alone. Our product is designed using the best materials and with an unparalleled focus on quality and comfort. We are curious, World travelers in our mission to design and craft the best furniture and decor leads us to the to work alongside some of the most talented designers and Craftsmen on earth. Our showrooms are an authentic expression of who we are. We curate inviting spaces, carefully layered footprints and compelling digital presentations to take every visitor on the journey of their choosing always leading inspiration lead the way with our clients' experience, we aim to build authentic relationships, inspiring and supporting to our clients at every step in the journey. We encourage exploration customization and we never defined by the single state. Instead, we encourage and help our clients curate the unique styles of their homes. And I believe we are have the best team in the industry. We are a team of designers, dreamers and doers as passionate as we are curious.
Finally, I want to personally congratulate our team for a great job of 20233 and thank them for their dedicated dedication to our house and our clients. I'm looking forward to what we will continue to build in 2024 and beyond Now I'll turn it over to Dan.

Dawn Phillipson

Thank you, John, and good morning. As John mentioned, we are incredibly proud of our 2023 fourth quarter and full year financial results and our operating performance throughout the year. We delivered a solid fourth quarter that concluded another year of record net revenue and exceeded our expectations for both revenue and earnings. Key items from our fourth quarter 2023 income statement include net revenue of $344 million with a 6.8% comp decline against a comp growth comparison of 47% in the fourth quarter last year that reflected strong backlog delivery. We were pleased with our demand comp growth in the quarter, which was 1.6% on a one year basis and 91.4% on a four year stack basis. Demand comp growth in the quarter was impacted by promotions in November of 2022 that we made a strategic decision not to repeat in November of 2023 to preserve margin. Our fourth quarter gross margin decreased $17 million to $141 million, driven primarily by lower net revenue, transportation costs and showroom expenses, partially offset by lower costs related to the reduction in net revenue. Gross margin as a percent of net revenue decreased 330 basis points to 41%, driven primarily by product mix related to the center of steel that were price action in June of 2023, as well as increase on costs and transportation investments.
Fourth quarter SG&A expense increased $7 million to $100 million, primarily driven by strategic investments in the business to support our growth and increased selling expense related to new showrooms and higher demand, partially offset by lower warehouse expense.
Q4 2023 net income decreased $16 million to $31 million. Adjusted EBITDA in the quarter decreased $23 million to $51 million from $74 million in the fourth quarter of 2022. Fourth quarter net revenue of $344 million and adjusted EBITDA of $51 million resulted in a 15% adjusted EBITDA margin in the quarter. For the full year, key income statement items include net revenue of $1.3 billion, comp growth of 1.4% and demand comp growth of 7.6% on a one year basis and 91.4% on a four year stacked basis during the year, demand was strong in both showroom and e-commerce channels as our products and marketing continued to resonate our net revenue growth was driven by both our strong demand and the delivery of approximately $75 million in abnormal backlog in 2023. Gross margin as a percent of net revenue decreased 70 basis points to 42%, primarily reflecting higher showroom expense, transportation investments and credit card fees, which were partially offset by favorable product costs. Product costs improved due to the flow-through of container cost favorability versus prior year and progression management, partially offset by the impacts from price actions SKUs. Full year SG&A expense as a percent of net revenue increased 150 basis points to 29%. The increase was primarily driven by strategic investments to support and drive the growth of our business, including increased expenses as new showrooms open and we invest in technology. And in addition to the Nature Conservancy, these increases were partially offset by lower warehouse expense and the non-recurrence of costs related to the 2022 opening and setup of our Dallas distribution center. Full year 2023 net income decreased $11 million to $125 million. Full year 2023, net revenue of $1.3 billion and adjusted EBITDA of $203 million resulted in a 16% adjusted EBITDA margin for the year.
I want to reiterate John's appreciation of the exceptional work of our teams across the company over the past year, which was instrumental in driving 2023 strong performance and record net revenue.
Turning to this morning's special dividend announcement. One of our competitive strengths is our strong debt-free balance sheet and the financial flexibility. It affords us following several years of outstanding performance growth and cash generation and having ended the year with $223 million in cash, our Board of Directors is pleased to return approximately $70 million in capital to shareholders in the form of a special cash dividend. We are pleased to note even with the special dividend, our growth and strategic investments remain unchanged as we are also in the enviable position of having both a long runway to continue to grow our showroom footprint and high returns from that growth.
Investing in the business to drive profitable growth remains our top priority we will continue to build on that profitable growth with our planned CapEx investment of $80 million to $100 million in 2024, with the majority allocated to showroom projects Next, I'd like to turn to our outlook for 2024. With continued macroeconomic uncertainty and lapping prior year backlog delivery, we have assumed a range for comp growth of negative 4% to negative 2%. As a reminder, we are comping approximately $75 million in abnormal backlog delivery in 2023. While we enter 2024 with a normalized backlog, our complex metric will not normalize until 2025. For the full year 2024, we expect net revenue of 41.33 billion to $1.37 billion, which represents growth of 3% to 6%, comp decline of 4% to 2%, net income of 95 to 105 million and adjusted EBITDA of $185 million to $200 million. We expect full year adjusted EBITDA margins to be lower than 2023. Deleverage will be most significant in the first half of the year and is driven by comping prior year backlog, delivery and strategic investments we are making this year 2020 for strategic investments include our robust number of show on projects and operational improvements to enhance our capabilities and drive our success long term. We expect most of the deleverage to come from SG&A with a lesser amount of deleverage in gross margin. We expect to invest approximately $10 million to $15 million in corporate strategic investments this year as we work to streamline operations and drive a best-in-class client experience. Strategic investments for the year in addition to new showrooms include a new warehouse management system in our Ohio distribution center planning and allocation software and a manufacturing ERP. We will also continue to invest in our in-home delivery experience as well as other growth initiatives such as e-commerce and our in-home designer and trade programs.
For the first quarter of 2024, we expect net revenue of $260 million to $270 million, a comp decline of 23% to 20%. Net income of $1 million to $3 million and adjusted EBITDA of $11 million to $15 million. As the range indicates in the first quarter of 2024, we expect net revenue to be down low 10s compared to the first quarter of 2023. This is primarily due to the implementation of our new warehouse management system in March and weather related impacts in January quarter-to-date, our demand comp in January declined high single digits as weather impacted traffic with February accelerating to mid-single digit demand comp growth. We expect significant adjusted EBITDA deleverage in the first quarter of the deleverage. Approximately a third is coming from gross margin due to deleverage of fixed costs on the revenue decline and continued delivery of price actions skews the balance of the deleverage in SG&A due to the revenue decline and as we continue to make strategic investments as our full year outlook implies, we expect net revenue growth in the balance of quarters.
This year, we expect deleverage in both gross margin and SG&A in the first half of the year with inflection expected in the second half as the P&L impact from the June 2023 price action product is complete and revenue and earnings from new showrooms positively impact our P&L. We will update you on our second quarter expectations when we report first quarter financial performance in May. For all other details related to our 2024 outlook, please refer to our press release.
We are also reiterating our long-term growth goals. We expect the investments we are making in the near term will enable us to achieve these goals. Over the long term, we target mid-single digit comparable sales growth and mid to high single digit showroom growth, leading to high single digit net revenue growth and low double-digit adjusted EBITDA growth.
In closing, I want to again acknowledge the hard work and dedication of our teams. Our success in 2023 reflects our focus on execution of our strategy, which remains unchanged. We believe our strong debt-free balance sheet is a competitive advantage, enabling us to execute on our growth plan and make the necessary investments to build on our share gains in the highly fragmented $100 billion premium home furniture market, we believe we are well positioned to meet the needs of our clients in any economic environment and remain keenly focused on driving value for all stakeholders. Thank you. And we would now like to open the call up for questions.

Question and Answer Session

Operator

Thank you. Ladies and gentlemen, we will now be conducting a question and answer session. If you would like to ask a question, please press star and one on your telephone keypad. A confirmation tone will indicate your line is in the question queue, you may press star and two if you'd like to remove your question from the queue For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star piece.
Ladies and gentlemen, we will wait for a moment while we poll for questions. Our first question is from Peter Keith with Piper Sandler. Please go ahead.

Peter Keith

Hi, thanks. Good morning, everyone. Great results.
I wanted to ask about the system rollouts, which are interesting. So ERP systems can then send some feared on analyst spine. So we talk about the risk of the ERP and then a future benefits of the other systems that could come in the next two years.

Dawn Phillipson

Good morning, Peter Javon here and Dan has probably got more more information on this than I, but we're kind of laying things out in stages. I don't believe we're doing a full ERP system anytime soon. So we're doing a warehouse system and then a management planning system and then a totally separate system for our manufacturing plants on and then manufacture Centerpulse three on. Dan, do you have anything to add to that?

Jennifer Porter

Yes, you know, I Good morning, Peter. I think we in the fourth quarter of last year, we deliberately we hired a consulting agency to help us really evaluate, you know, our full systems and business infrastructure and look at not only what we should be really contemplating for revision and updating, but also the sequencing and cadence of that. And for exactly what you're speaking to, you know, we want to make sure that as we are continuing to grow the top line that we don't compromise the client experience certainly and that we don't compromise operational integrity. So so we're certainly being very thoughtful, very mindful MERPI.s I think it's unfair down the science of everyone implementers and analysts alike. And so we are trying to be very thoughtful. We are excited for some of these new systems as we think about the planning and allocation software, really that's going to help us just more seamlessly facilitate movement of products through our network, which is going to have not only operational efficiencies, but financial efficiencies once deployed. So we're really excited for that. And there are some other systems that we have not yet started, but have mentioned in the past that were under analysis like an order management system, which will also do the same thing and help kind of facilitate making sure the product is coming from where it needs to be. So I think overall, I mean, we're taking a very thoughtful, prudent, responsible approach, I would say to systems enhancements and infrastructure changes. But we'll certainly we're laser focused on the operational impact as well.

Peter Keith

Okay, thank you. Then just Dave Dan for Loberg financial technical question. With the warehouse management system rolling out in Q1, I guess it's probably causing a little bit of sales lag. So Q1 sales got a little bit worse than we thought. Is there a sales shift that you could quantify for us that's going to roll directly into Q2 or maybe also carry into Q3, and we think it's probably about a week worth.

Jennifer Porter

So, you know, simple simple math, you can kind of just take what a typical in our typical quarter looks like and divide by the number of weeks in the quarter. And that being said, we also did see some impact on deliveries in January related to weather and you think about those drivers who are out there, there's really icy conditions or snowy conditions that are particularly difficult. You know, at times they will delay those deliveries. So I think as we're thinking about 2020 for the first quarter, certainly have kind of the lowest year over year impact or the least favorable year-over-year impact. And then as we look out to the following quarters where we're pretty excited and we think that as we move through the year, we should see a sequential acceleration in the deliveries and revenue as we move through the year.

Peter Keith

Very good. Thank you so much.

Dawn Phillipson

Thanks, Peter.
Thank you.

Operator

Our next question is from the line of Jonathan Matuszewski with Jefferies. Please go ahead.

Jonathan Matuszewski

Good morning and nice results. Thanks for taking my questions. First one is just on underlying assumptions for your 2024 comp guidance of down four to down two and just help us give some color in terms how you're thinking about large-scale renovation, delight refreshes, existing home sales and factors like that, that you've that have the most weighting on demand for your business. That's my first question.

Jennifer Porter

Thanks. So I had done morning, Jonathan. And yes, I was wondering about about the macro. There certainly continues to be a lot of uncertainty. We do know that our client continues to renovate continues to refresh their home and, you know, light refresh to be something as simple as painting a room. So yes, we think there's some there's still plenty of that happening. And I think we also, as you think about our and our market share of just the total $100 billion industry we have we have a ton of runway, we're less than 2% of market. And so I was just so much opportunity for us as we continue to open showrooms as the marketing team continues to really expand the brand awareness and kind of think outside the box and some of these different marketing campaigns?
Dan, you asked about the Italy campaign.

Dawn Phillipson

Hi, Jonathan. Sure.
Good morning. Yes, we're really excited. As Dan mentioned, we're really excited opening up those new showrooms. But within marketing as well, we're really excited about. And the new opportunities that we have to not only represent our house in a similar way to more people, but also new ways that we're presenting our house out to the audience as well.
So as John mentioned, we kicked off our story series with our Rousset campaign featuring our Mexican U.S. since last fall, we just launched our Italy campaign and spring was a big rollout in February, and it really does give us a way to tell those stories share the craftsmanship share.
The other things that really make our health unique and special John talks all the time about how proud we are of our product and what we're delivering to the market. And I think we have the marketing team, I'm just thrilled to really be able to share those stories and let people see into our world. And these are things that we are excited about and have been experiencing for decades. But these campaigns really allow us to go into detail and share those stories of a larger audience really, really excited by the responses that we are seeing to those campaigns. We are learning a lot. We are seeing some really great engagement and traffic results, particularly on digital with those campaigns. And so as John mentioned, we we decided to start telling these stories because of questions and interest we were getting from current clients and just seeing from existing clients and also future potential clients really engage with them. It's really, really exciting. So more to come from that. But I'm really excited about what we'll see through the rest of the year there.

Operator

That's helpful.

Jennifer Porter

Thanks.

Jonathan Matuszewski

Thanks for the color there. And then on I guess just to follow up on, can I get an update on anything you're seeing regarding cancellation rates, whether you've seen any deviation there from historical levels? And I guess, relatedly, I think last year you called out at one point and are consumers choosing to postpone their orders and that kind of have been an impact on when revenue may have been recognized or get postponed their their receipt of deliveries. Are you still seeing that dynamic? Any color there would be?

John Reed

Yes, I don't believe I'm certain we have not seen any any increase in cancellation rates, number one and there they hold steady as they have been for the last last quite a few years. So that's normal case. We're actually doing a little better than we had been on, and we're not really seeing people now delaying orders either. Sometimes you see that obviously, when people are renovating the homes, as we know, people aren't moving as much as they had been, but people are at least in our category, we are renovating quite a bit and most most builders and that have caught up at least telling the clients are an actual date that they can stick to. So things are getting better and that feel we're not seeing people delaying delaying like we did last year. So we're not saying that it's going to be a big factor at all.

Jonathan Matuszewski

Thank you.

Operator

Thank you. Our next question is from the line of Peter Benedict. But Ben, please go ahead.

Peter Benedict

Okay, guys. Thank you. Thanks for taking the question.
Good morning. Some kind of a question around kind of the top line cadence on how you're thinking about the recovery over the course of the year. You talked a little bit about some of the macro drivers there. But I'm just maybe unpack that a little bit what you're thinking in terms of just sector demand. So you guys have clearly been doing better then the sector, but just your view there and help us understand maybe the cadence of that $75 million backlog release that you saw in 23? Just we understand the comparisons on that That's my first question.

John Reed

Yes, good morning, Peter or Dan, you can help me with this one. But what we're seeing is, as we've been saying all along last year was strong very strong. Our new products are just resonating so well. And I think we're just dead on with what people want these days. And it's very unique product, and we think we're way ahead of the curve from our competition on products. So we think some people are responding. And as we've opened up so many new stores every day, we're getting new and more and more new new clients coming in finding out who we are because we're a relatively unknown brand, especially on the West Coast and down in the resonator. That's amazing. How people walking in who really don't know our brand and our purchasing from us because they just fall in love with our products fall in love with our showrooms and fall in love with our work with our designers who are just fantastic. So that part is is great. And I'm seeing and the lineup of new products and so forth are strong and and that's what we're all about selling great products and the more we have better products and the more people know about us, the better we're going to be and we're just continuing to grow.
Dan, you want to add on to the next the other part of that?

Jennifer Porter

Sure. So I think just to reiterate what John is saying, we feel so great about the new product introductions, the marketing materials, the new showrooms that were opened in the fourth quarter of last year were so excited with how those are performing and the clients and engagement with those locations. So as we think about demand in the first quarter, yes, January was a bit soft. February accelerated nicely. And so I think as we're thinking about the demand cadence that will impact a little bit in the first quarter, but really feeling great about all of our offerings, how we're engaging with clients and switching to think about net revenue as we move through the year, we do expect sequential acceleration. So every quarter we expect net revenue to improve a bit, and that's really going to be driven by new showrooms and open not only in the fourth quarter of this year, but showrooms in 2024 are slated and heaviest in Q2 and Q3. So we should see some nice benefit in the back half from those openings as well. And as we think about backlog in 2023, it's relatively evenly split between first half and second half. It's slightly heavier weighted towards the second half spoke about.

Peter Benedict

That's helpful. Thank you. And then just maybe on the hub to turn to the sourcing side of things.
Transportation was a benefit for you guys in 2023. Just curious what you have kind of assumed in your plan for 24 on remind us kind of the geographic exposure you guys have in terms of where your product is coming from? And just any thoughts on all the activity on the Red Sea and what that might be doing to your to your inbound rates on ocean freight?

John Reed

Yes, we have, again, keep in mind, almost almost half of our product is made in United States, and we've always made our poultry in the United States and some other products that are being made here. So that takes some of half the business off the table, the other strong parts where we're strongest in Mexico, we buy a fair amount of product. And in Europe, we buy a fair amount of products, especially Italy. None of that is affected by the Red Sea at all on some of the Asian Asian things where, but we just have rerouted them and we're not seeing significant cost increases with that. Still when that window were right around, we're not worried about the Red Sea part of that part of the business. And down again, it's maybe 2020% of our business that may go through their arm if that. So it's not going to be significant.

Jennifer Porter

Yes, just to layer on there, I think over the last few years, we have seen some slight adjustments in products coming domestic versus international. So so the number is a little bit down little bit lower coming from domestic these days, it's closer to probably 30% versus the 50 when we IPO'd. But And to John's point, we have layered in some slight increases in the back half of this year for freight costs related to Red Sea, just from a guide perspective, yes, we're cautiously optimistic that we won't see significant increases in the cost. But I think it's prudent just based off of what we know today and what we're seeing them, perhaps something factored in there.
And then just to reiterate, John's point, we are seeing a few week delay in certain containers, but we're managing that really well front with the clients. And so far haven't seen any kind of client some kind of issue or ordering issue related to the Red Sea delays.

Peter Benedict

But that was super helpful. Thanks so much, guys.

Operator

Good luck and can bite you.
Our next question is from the line of Steven Forbes with Guggenheim Partners. Please go ahead.

Steven Forbes

Good morning, John Daane agenda. I was wondering if you could expand on what's driving the acceleration in demand trends during February it's simply the weather compare month over month or is the core accelerating? And any early read on how the consumers engaging with the new outdoor collections noted noting and maybe early But John, you sound super excited about the product. So really would love to hear your sort of early thoughts on how the consumer engagement.

John Reed

Sure. The first of all, the February versus January. It is really the first two weeks of January that down we were affected.
Just I mean, you guys heard the news and in the news scared the hell out of that, basically everybody in the country, except California and Florida, I think and frankly sell there's some some nasty weather there. And once we got through the first two weeks, actually saw positive trends for the last two weeks of January and then of course in February. So it was kind of a blip with weather. And then we're not given that I don't have any worry whatsoever on our products is strong. It's resonating very, very strongly. As far as the Outdoor Products, some we just launched our new new new and by far best catalog and hopefully you've all received that. And if not, let us know, we'll get you could get one and mailed to you, but it is by far the best product ever now we have put together assembled a new outdoor team about three years ago, 3.5 years ago, and they are really running at full speed in 2024 so we've got great product. Three, the results so far have been incredible on its plan and literally kind of like just 10 days ago. But the response we're hearing from the stores from our from our clients is it's fantastic. We've got some very fresh things, things nobody else in the world are doing and done. It has great style, incredible quality and fantastic price. So we think that outdoor is going to be strong this year.

Steven Forbes

Thanks for that. We'll maybe just a quick follow-up.
Great capital structure, extremely strong balance sheet, free cash flow profile, you announced a special dividend, but maybe maybe or give us some preliminary thoughts on the 2025 pipeline. Is there an opportunity here that to accelerate store growth or are you are you thinking about potentially accelerating store growth? Or or how are you sort of thinking about the right rate of store growth for square footage growth over the coming years?

John Reed

Right, right. Well, we as you know, we've been saying we did quite a bit of new-store growth renovations and last year and also this year going into 25 and beyond, we're shooting to go back to work very well-planned, very strategic growth plan, which is five to seven com full-sized stores a year and a couple of more of the design centers as we as we see fit. So we're not no, we're not looking to expand beyond what we've been planning all along, and we're going to stick with our strategic plan.

Steven Forbes

Thank you. You're welcome by Kip.

Operator

Our next question is from Jeremy Hamblin with Craig-Hallum Capital Group. Please go ahead.

Jeremy Hamblin

Thanks. Congrats on the strong results.
I just wanted to come back to the last point here on the showroom growth and just see if we could clarify the comment or make sure that we're interpreting the right way the mid to high single digit showroom growth on a long-term basis that that you'd mentioned on.
So in term, are we thinking about that on a percentage basis? Are we talking about still five to seven showrooms per year FY 25 and beyond.

John Reed

Go ahead, Dan.

Jennifer Porter

Thanks. Yes, so you know, I think on a percentage basis makes sense in the near term, the five to seven feels like the right number, adding on a five to seven traditional way incremental design studios on top of that, I see.

Jeremy Hamblin

Okay, that is that's helpful.
And then in terms of just looking at your gross margin profile, I think you'd said that you expect to see some some nice improvement on that in second half of 24, and it seems based on where your sales levels are falling and maybe fewer pricing action dragging on mix on a go-forward basis?

Jennifer Porter

Are you planning for like a kind of a solid step up in your gross margin profile as well as we get come into the out years, we're not we don't typically guide to gross margin and you have an output out kind of medium long term goals for the gross margin. But what I will say is that we feel very good about our product costs in June of 2023. We did take some price actions really to kind of make sure that our inventory was rightsized and primarily. And so, you know, we'll clear through those in the first half of this year from a delivery perspective, the second half P&L will benefit having been through that. But you know, as we think about longer term, we are investing in our in-home delivery experience, which that rolls through gross margin, and we'll kind of continue to invest in that as we really focus on making sure that client experience is where we want it to be. And when I think over time, we'll see how that kind of plays out and as we do have a relatively dynamic strategy. And I think as we continue to scale the top line and really drive some of these growth initiatives that we have around our in-home designer program, our trade program, new showroom expansion, and we're really we would expect to see leverage over time over the long term on that net revenue rate. So the goal is always to scale those fixed costs and it doesn't mean it won't be it may not be linear I guess that as we continue to reinvest strategically in some of these areas where we feel we can continue to elevate and really provide that luxury premium experience. But yes, we remain laser focused on driving margins and fixed fixed cost leverage across the board.

Jeremy Hamblin

If I could just sneak a follow-up on the pricing actions. What would you characterize the impact on kind of Q4 gross margins and then in the first half of 24, just from kind of the pricing actions and the impact and mix and gross margin?

Jennifer Porter

Yes, we don't really disclose from the P&L flow through because a bit of that is contingent upon timing. And but what we did say was that we took about a mid-single digit price decrease when you're looking at it across the full assortment. And so we are really pleased to say that those prices have largely normalized back to kind of where we think they should be in a go go-forward assortment and so feeling good about our price position position gotten bored.

Jeremy Hamblin

Great. Thanks for taking the questions. Best wishes.

Dawn Phillipson

Thank you.

John Reed

Thank you.

Operator

Your next question is from the line of Mark correct.
Linco with TD covered. Please go ahead.

Max Rakhlenko

Great. Thanks a lot. So first, I know it's early, but how do you think about the unit economics on the West Coast galleries. What could those look like compared to what you've outlined for your legacy markets? How much more robust is the revenue side in some of those bigger galleries as cost are higher as well? And then if there's any differences in paybacks thinking about?

John Reed

Yes. I mean, I don't have any specifics, but we do know that. And with the new stores we've already opened on the West Coast in the last year and the one upcoming we feel they're going to be very strong and the current ones are already very strong. And on the economics, the sales should be stronger than, say, a store in Akron, Ohio on Canada, where we have a store down there, just more people more people have money and our product really, right, really resonates in the West Coast. I mean, there's absolutely nothing. So yes, we feel very, very confident about it.
Dan, I don't know if you have specific numbers or any for you?

Dawn Phillipson

Yes. Yes. I mean, I don't think we'd want to disclose kind of geographically, but but what John says certainly holds true. You would expect a larger location in California as we performed better than maybe a smaller Midwest market. But we still remain focused on kind of the average the average adjusted EBITDA contribution for a showroom at 32%, and then the top line is a minimum of a $10 million or so. Some of those locations may significantly outperform. Some may come in a little bit under, but we remain laser focused on the payback, which is under and making sure that we have payback within two years or so feel really good about our overall strategy and Dallas opening up that Dallas distribution center really unlocks the West Coast for us. So excited to continue to develop that geographic region.

Max Rakhlenko

Got it. And actually, I was going to ask to ask question on Dallas DC, but how is that going? How are those efficiencies? Is that DC now where you needed to be? Or is it still ramping and then what could the stem stem mile savings look like as over time, you'll be depending less than less on some of those Midwest facilities as you deliver on to the Western market?

Dawn Phillipson

Yes, Dallas and Dallas is performing if it continues to, I would say underperform where we expected it to be at this point in time, primarily because of inventory allocation which as we mentioned a little bit ago, we are expecting to get the allocation software up and running kind of early next year. So we won't fully be able to unlock the Dallas productivity until we have the allocation software and order management system in place. So those are kind of two pieces in the interim. We are, you know, shuttling products back and forth as necessary and kind of trying to get that inventory allocation in line with where we'd like it to be. So importantly, we remain laser focused on making sure the client receives their product on time and the experience is seamless for them, and we're excited to get these systems deployed to unlock system savings. And certainly, I remain focused on that I know the team is as well. So but we just there's a couple of big platforms that we need to implement in order to really unlock it and more to come in 2025, I would say. And with this, some savings could look like.

Max Rakhlenko

Great. Thanks a lot and best regards.

John Reed

Thank you.

Operator

Our next question is from the line of Simeon Gutman at Morgan Stanley. Please go ahead.

Simeon Gutman

Hi, good morning, everyone. Hey, John.
I wanted to ask you about newness. You've touched on it a bit and prepared and even in some of the Q&A, putting your design hat on and looking across your product and it's okay if you're biased, but I am curious about in trends where your product stands in terms of style and price points. I've heard you made some price adjustments. Just thinking about where it sits. And I know you also said like we're not a one one design fits all. Can you talk about any specific trends even within your product assortment that's growing faster than than others, I'm sure.

John Reed

Yes, I'd love to.
Yes. I mean, like I said, before I think we're hitting hitting on all cylinders on our products. And obviously, the fun part of the business is consumers Some are looking for new looks price looks for their homes and we've gotten into them and a lot of products, especially in the wood categories that are brand-new and opposed policy categories where things have gotten softer have gotten around her career you have what's the pace that warmed up a lot. And we've gone away from the dark gray is and so forth that we still have a few years ago. We sell those changes a few years ago, and we've been all over and done. So, yes, we'll walk through our store and seeing our sales itself on the new product is really what's getting our clients excited. And so we continue to look at work on large collections that were that were going to launch in quite a few more in 2024 on. So as far as the new products as well, the margins are very strong on those setting and where we want to be I don't want to be and I tell my, you know, buyers and so forth that let's not be greedy on margin. Now let's get our margins where we can have a healthy business. Long term are very profitable, but don't get too greedy that we're going to cut cut half because clients out. So we think our prices the way we buy things direct from the from the manufacturers right from the factories right into our warehouse into merit and the consumer arm, you can't get a better business model of giving clients with the best value us getting our great margins. But not being totally Ingredion and dumb works and customers are happy. They come back. They tell their friends and our business keeps growing. So yes, the trends are our greatest. You know, Tom again takes have gotten softer curve here. And yes, anything we are doing that in those titers types. The states are doing very well and I perceive that to continue. Certainly it's in the 2024 and 25 and then maybe one follow up.

Simeon Gutman

Yes, that's great. Thank you. And my follow up, I think it's more for Dan. It's got two parts there connected to some of the WMS and the disruption in the first quarter. Can you the demand comps I think were running positive at the end of last year. And correct me if I'm wrong. So I'm thinking about the anatomy of getting to this minus 20 or so that you're putting that you're expecting for the first quarter, even with a negative high-single digit in January. Meaning why are just comparison base? Why is there not enough throughput from the prior demand comps to get you to a better outcome? And then just related to this, you have this ERP rollout. Can you talk about that in terms of benefits and then any risks that could pose or with the WMS, the biggest hurdle in terms of systems investments that could have created some type of disruption to your business? Thank you.

Dawn Phillipson

So, you know, I would remind you that the demand comp has that's a that's a clean calculation year over year from a comp basis. And that is not a clean calculation year over year because the base of 2023 has backlog in it so there's still going to be a divergence between the demand comp and the comp number as we move through 2024 because of the backlog and 23, once we clear 2024, and we had 2025. Those two will be more in tandem. So there is still some disparity there.
With regards to the ERP., I would just remind everyone, it is our manufacturing ERP. So it is not kind of the other retail ERP. And so we don't have a lesser impact on the overall organization when it comes to, you know, it's not impacting deliveries. It's not impacting kind of the retail organization day-to-day. So great benefits. We're going to have some increased visibility to our cost saving which is going to really give better visibility to the teams, you know, with the product teams have their costing product and just some other operational benefits to the actual manufacturing team so no significant risk to the overall organization. I would say we're closely monitoring it managing it, but it's not meaningful from no meaningful risk that we're anticipating strength for everyone to book.

Simeon Gutman

Thank you.

Dawn Phillipson

Thank you.

Operator

Our next question is from the line of Robbie Ohmes with Bank of America. Please go ahead.

Hi, this is Maddie check on for Robby Ohmes. Thanks for taking our questions. So I think you called out that showroom openings should be heaviest in 2Q 3Q. And I just wanted to ask specifically on the outlets. You expect three openings this year. It's still a pretty small part of the overall showroom count. But how is demand response to these outlets? How do the economics compare to the traditional showrooms and where you how are you deciding where to.

John Reed

Yes, sure. Yes. I mean, as we've more than doubled our business in the last couple of years, we just haven't kept up with some data, the outlet growth. So this is really just balancing out what we needed to keep up with you and keep up with the outside product. The outlet product is sold at a substantial discount. So certainly the economics are not there as strong as a traditional store. But if you look at it as a percent of sales, we're actually not adding anywhere near where we need to add compared to how much our sales growth has happened, which means we're actually doing a better job delivering things less people are returning things and so forth. So and we think we're in good shape once we get these three open, just settled study things out so we can them so we can move on.
And then charge locations, I believe once Colorado ones in Pittsburgh and ones in Kentucky and all three are opening, I think second quarter, I believe.

Thank you. Thank you. That's very helpful.
On American. My last question is about maybe promotions. You dialed back on promotions, which helped margins on in November. What are some of your assumptions for the promotional environment in 1Q and the rest of the year and maybe just high level?

John Reed

Yes. I mean how that high level, why we haven't really changed our strategy and what it has been. We certainly have run some promotions at certain times of the year. We're not looking to change that dramatically at this point. We have plenty of levers to turn on if we need to, but right now, it's going to be as is as it has been in the last year or so. And some do some promotions will do whatever is coming up next on Mario, weekends, things like that, but that's already happened, hasn't it yet. So I'm turnover is coming, but any rate I'm still on and on and off, we'll do some do some promotions but everything everything is typical of what we have been doing that about right, Ken?

Jennifer Porter

Yes, no, I would agree with that and many. Hi, good morning. What I would add and this is something that we spoke to on the last call as well. To John's point, our strategy to promotions hasn't changed from what we have been doing. That was really focusing on our messaging and promotions that we spoke about, really focusing on how we assort our sales section on our website, for example, how we speak to promotions really paying close attention to those elements. But echo John's point about the overall promotional approach has not changed.

Super helpful. Thank you.

Operator

Thank you. Our next question is from the line of Philip Lee with William Blair. Please go ahead.

Phillip Blee

Hi, good morning. Thanks for taking my question. You guys have done a lot of remodels and relocations over the past few years and plan to continue in 2024 and you've elevated your store experience, which is clearly having a nice tailwind on demand. Can you talk about how many of your showrooms are still in maybe a legacy format and what kind of lift you see following a remodel or relo? Thank you.

John Reed

Yes, Dan, I don't have specific numbers, but I think on We're about halfway to where we want to be that sound about right, John?
Yes, exactly. Yes. So we're trying to do again, we don't have a set schedule because one is has to do with leases, landlords, do we want to move the store? Do you want to renovate it and move it down the street and across all whenever so we don't have a set thing but we are absolutely committed to to remodel existing stores that are there doing well and good areas that we know we want to stay stay at. And And Tom, it definitely helps. We do see a lift in sales. It's a long-term investments.
Yes. The last thing we want to do is get stale like like you've all seen many retailers have gotten to a point where it's too late to remodel because there's too many on the remodel and you just can't do. And so we're staying ahead of that curve, not big time we think better than anybody, certainly any of our competitors that I see and remodeling staying fresh being appropriate. And it really really, really helps our clients come in again, were driven by SD. Malik from clients and they get so inspired with both females and males, they can sell inspired when they walk into our stores, they say, oh, my gosh, what did you do the store, which is how I want my home to look and that's very refreshing and it sets us up for the future. I mean, that's the biggest thing sets us up for a great, great, great future for many years to come.

Phillip Blee

Okay, great. That's very helpful. And then, Dan, maybe a question on inventory was down 11% at the end of the year on a $1 basis. Can you maybe talk about how much is breaking price action versus unit driven and then how you feel about your positioning heading into 2024, particularly around some of the newness? And then should we expect more muted inventory growth through the first half of the year?

Dawn Phillipson

Thank you. As you know, we feel great that the price actions that we took in June of 2023 really positioned us pretty well as we exited 2023. There's still a little bit to clear through and have delivered ammunition in the first half, which we talked about. So yes, I think we feel that freight is largely container costs have largely normalized in the AM, you know, on the inventory relative to kind of the spikes that we saw in 21 and 22. So feeling good about kind of where the inventory is sitting as we continue to clear through those price actions here in the first half of this year. And then I'm really excited for the newness that we're that is going to be launched or that was launched earlier this year and that we have a fall launch as well. And I would say that the team is taking a very responsible approach with buying into that newness. We spoke last quarter around how that backlog that is. It is normalizing slightly higher than it was pre-pandemic rate. As we think about how do we buy into newness and can we make sure that we're getting a really solid read on the business before making meaningful purchases into into that product? And we know that clients are willing to wait a little bit longer. Lead times for that. Newness is exciting. It's different. It's unique. So I feel good about where we'll be positioned. You know, upon the next quarter end and yes, the pipeline for the year.

Phillip Blee

Great. Thank you. Best of luck and I can.

Operator

Our next question is from the line of Cristina Fernández with Telsey Advisory Group. Please go ahead.

Cristina Fernandez

Good morning and congratulations on a good quarter. I wanted to ask about the special dividend and the decision to pay that and what should we think of this as one-time? And then going forward, how would you consider dividends perhaps a regular dividend or share buyback?

John Reed

Sure. I can start on the again, I just this is a one-time thing. We have no plans to continue on a consistent basis where we've got a lot. We've done the price the last couple of years, and we very well planned out how much cash was and I need this year next year or the year after. And we felt we could do this for the future. Very happy to be able to access content.

Dawn Phillipson

Dan, I don't know if you have anything to add to that, I would just reiterate that the Board was really pleased to be able to return capital to shareholders. And we just we have a really strong balance sheet with a great cash position and the special dividend, which we are considering to be a onetime in nature. We don't have plans to do anything additional in the future at this point in time. But you know, we interestingly enough we're in a very fortunate position to be able to do a dividend, a special dividend and still continue to invest very heavily in the business when it comes to new showroom expansion and some of these other strategic investments in the back office functions. So really, really pleased with the performance that we've seen within the Company and our ability to return this value to shareholders.

Cristina Fernandez

Thank you. And then my other question was on the on the price action queues. I know you can't comment on the timing of the deliveries, but where were you as far as like taking the orders from those queues in or most have you kind of gotten through most of what you wanted to do, or are there still more to go here in 2024?

Jennifer Porter

We have cleared through the majority of that from a demand perspective, order-taking perspective. So yes, there's so little that last, um, in Engenio is it's not I wouldn't say it's meaningful. So we're excited to get these kind of products delivered in clients' homes and then start to see some nice product cost and gross margin expansion sequentially in the back half.

Cristina Fernandez

Thank you. And best of luck for this year.

Jennifer Porter

Kim?

Operator

Yes, ladies and gentlemen, as there are no further questions, I would now hand the conference over to Wendy Watson for closing comments.

Wendy Watson

Thank you, everybody, for participating in our call today and we look forward to talking to you again next quarter.

John Reed

Thanks, everybody.

Operator

The conference of our house has now concluded. Thank you for your participation. You may now disconnect your line, ma'am.