Q4 2023 Escalade Inc Earnings Call

Participants

Patrick Griffin; Vice President - Corporate Development, Investor Relations, Director; Escalade Inc

Walter Glazer; Chairman of the Board, President, Chief Executive Officer; Escalade Inc

Stephen Wawrin; Chief Financial Officer; Escalade Inc

Rommel Dionisio; Analyst; Aegis Capital Corp.

Presentation

Operator

Greetings, and welcome to the Escalade Fourth Quarter and Full Year 2023 Results Conference Call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Patrick Griffin, Vice President, Corporate Development. Thank you, you may begin.

Patrick Griffin

Thank you, operator.
And on behalf of the entire team at Escalade, I'd like to welcome you to our fourth quarter and full year 2023 Results Conference Call. Leading the call with me today are President and CEO, Walt Glazer, and Stephen Warren, our Chief Financial Officer.
Today's discussion contains forward-looking statements about future business and financial expectations. Actual results may differ significantly from those projected in today's forward-looking statements due to various risks and uncertainties, including the risks described in our periodic financial reports filed with the SEC, except as required by law.
We undertake no obligation to update our forward-looking statements and the conclusion of our prepared remarks, we will open the line for questions.
With that, I would like to turn the call over to Walt.

Walter Glazer

Thank you, Patrick, and welcome to those joining us on the call. Our team delivered a strong finish to the year of performance, highlighted by improved gross margins, robust cash generation and a significant reduction in leverage. We generated $20.6 million of cash from operations in the fourth quarter, which supported $21.1 million in debt repayments and a one turn decline in our net leverage ratio at year end.
Strong cash generation during the quarter was driven by our continued emphasis on improved working capital efficiency, which included a strategic focus on inventory reduction. While our inventory reduction initiatives drove substantial cash flow in the quarter, our margins were pressured as a result of those efforts even so our fourth quarter gross margins still improved by more than 190 basis points versus the prior year fourth quarter due to lower freight costs, improved sales mix and price discipline on our in-line product assortment for fourth quarter sales declined by 9.2% versus prior year levels.
Our sales benefited from strong growth in our basketball and indoor games categories offset by softness in most other categories exiting the holiday selling season. We believe channel inventories have declined meaningfully as our retail partners successfully drove product sell-through.
This has helped position us for a solid start to 2024 with most retail inventories in good shape. We continue to experience strong momentum in our direct to consumer sales with non-licensed DTC sales up 39% in the fourth quarter versus the prior year, driven by growth across most of our product lines.
Looking ahead, we continue to closely monitor the relative health of household balance sheets, employment conditions and consumer discretionary spending. Changing consumer behavior has pressured discretionary spending in most of our categories.
We expect consumer demand to remain relatively soft as these trends continue into 2024. Operationally, we realized our goal of reducing costs by $2 million annually as of the end of the fourth quarter. These cost reductions are comprised of lower inventory handling and storage costs, lower freight cost and operational improvements.
We also focused on reducing our fixed and variable operating expenses, which resulted in a 4% reduction in our SG&A expenses during the fourth quarter of 2023. In combination, these actions have positioned us to improve operating leverage and expand gross margins as we move through 2024.
The planned divestiture of our Rosarito Mexico operations continues to progress as we transition our manufacturing and warehousing in Rosarito to other facilities in the fourth quarter and reduced operating expenses we also continue to actively market the facility to prospective buyers, and we have successfully reduced our inventory to our goal of less than $100 million at the end of 2023.
We still see an opportunity for further inventory reduction as we move through 2024, particularly in our billiards and water sports categories. That said, we don't expect these efforts to have the same unfavorable impact on margins as we had in the fourth quarter of 2023.
Given the more normalized channel inventory levels, the key demand and variable for 2024 will be the level of consumer spending in our categories strategically remain committed to investing in innovative product development to build market-leading positions in key growth categories and best position our portfolio for above market growth as we move through the economic cycle.
As we continue to navigate the current demand environment, we're prioritizing a lean cost structure and further fortifying our balance sheet, just as we have successfully reduced our fixed costs through the year. We also repaid more than $44 million in debt during 2023.
Cash conversion during the fourth quarter exceeded 100% for the second straight quarter, primarily due to a $12.8 million reduction in our inventory and a $13.4 million reduction in accounts receivable in 2024. We will remain focused on maximizing cash generation through repaying our higher interest variable rate debt at the end of the fourth quarter our net debt leverage was 2.2 times, which was within our target range of 1.5 to 2.5 times.
We believe our diverse portfolio of products continued focus on operational excellence and cost discipline, together with a well-capitalized balance sheet position us to successfully navigate the transition period for the consumer while continuing to build market-leading positions within our established portfolio of indoor and outdoor recreational brands.
Our team has performed exceptionally well during a period of soft consumer spending of goods, positioning us to capitalize on a broader demand recovery we believe that our collective focus on cost management and working capital efficiency will support further debt repayment over the coming year with channel inventories, clearing and consumer demand poised to reaccelerate over time, I remain upbeat concerning the outlook for our business and opportunities for value creation in the years ahead.
In the interim, we will continue to focus on creating exceptional consumer experiences that build brand loyalty, all while creating long-term shareholder value. We look forward to updating you with our progress next quarter.
With that, I'll turn the call over to Stephen for his prepared remarks.

Stephen Wawrin

Thank you, Will.For the three months ended December 3, 2023, Escalade reported net income of $2.9 million or $0.21 per diluted share on net sales of $65.5 million. For the fourth quarter, the Company reported gross margins of 24.3% compared to 22.4% in the prior year period to 192 basis point improvement was primarily the result of more favorable product sales mix, lower freight costs.
Reduced inventory handling expenses and operating expense reductions, partially offset by the impact of our inventory reduction initiative and under-absorbed fixed costs associated with our facility in Mexico.
Selling, general and administrative expenses during the fourth quarter decreased by 4% compared to the prior year period to $10.4 million. As a percentage of net sales, SG&A increased 80 basis points year over year to 15.8% in the fourth quarter of 2023 compared to 15% in the fourth quarter of 2022.
The decrease in SG&A expense year-over-year was a result of overhead cost reductions and lower variable spending, including incentive compensation. Earnings before interest, taxes, depreciation and amortization increased by $0.6 million to $6.4 million in the fourth quarter of 2023 versus $5.8 million in the prior year period.
Total cash provided by operations for the fourth quarter of 2023 was $20.6 million for the quarter compared to $14.3 million in the prior year period. The increase in cash flow from operations primarily reflects cash generated from improvements to working capital as a result of a reduction of inventories and accounts payable through the fourth quarter of 2023.
For the full year, capital expenditures were similar to the prior year. As of December 3, 2023, the company had total cash and equivalents of $16,000, together with $66.8 million of availability on our senior secured revolving credit facility. Maturing in 2027.
At the end of the fourth quarter of 2023, net debt outstanding or total debt less cash was 2.2 times trailing 12 month EBITDA. As Walt mentioned earlier, we repaid $21.1 million of debt during the fourth quarter of 2023, bringing our total debt repayment for the full year 2023 to $44 million.
As of December 31, 2023, we had $50.9 million of total debt outstanding, including $18.2 million of high interest variable rate debt. We will continue to prioritize the repayment of this variable rate debt during 2024, while managing our total net leverage within our long-term target range of 1.5 times to 2.5 times EBITDA.
For the full year 2023, our total net sales were $263.6 million, a decrease of 16% compared to the full year 2022. Our total gross margin for the year was 23.4% compared to 23.5% for the full year 2022, selling, general and administrative expense was $41.5 million 2023 or 15.7% of net sales compared to $44.8 million or 14.3% of net sales in 2022.
$3.3 million decrease in our SG&A expenses during 2023 reflects our efforts to intentionally managed our fixed and variable costs during a period of softening consumer demand. As we disclosed in early March, our public accounting firm for this LLP has identified certain material weaknesses in our internal financial reporting controls, specifically as it relates to our information technology, general controls controls over the year end closing process documentation and design controls related financial statement accounts and assertions in the monitoring of the Company's internal control framework.
There are several key takeaways from this disclosure worth noting. First and most importantly, these material weaknesses did not impact our accuracy of our historical consolidated financial statements. Second, these material weaknesses did not impact force's ability to issue an opinion on the consolidated financial statements for the 2023 10-K .
Third, we intend to take decisive remedial action as we continue to develop strong internal controls across the organization. Our entire management team intends to resolve this process in a timely compliant manner and expects the remedial process.
To conclude this year. One less important thing to remember, effective on January 1, 2023, we transitioned to a conventional 12-month reporting calendar. It was a relatively minimal impact on our results for the fourth quarter because there were 92 operating days in the fourth quarter of 2023 as opposed to 91 in the prior year period.
For the full year, our 2023 results now reflecting normal three under 65 operating days compared to 371 operating days during 2022. As we move into 2024 for the year-over-year comparability of our results will no longer be impacted by this change. With that, operator, we will open the call for questions.

Question and Answer Session

Operator

Thank you. We'll now conduct our question and answer session. (Operator Instructions)
Rommel Dionisio, Aegis Capital Corp., Please state your question.

Rommel Dionisio

Good morning. Thanks for taking my question. I just wanted to ask about the retail inventory situation. I think you mentioned that retail inventories have come down. Are we to a point now where selling equal sell through? Are we still maybe a few months or couple of quarters away from that? Thanks very much.

Walter Glazer

Hey, good morning, Rommel, and thank you for your question. We're involved in a lot of different categories. And I would say that for the most part, our retail inventories are balanced and in good shape. There are a couple of categories where there's still some excess inventory in the system.
And actually there are few areas where retail inventories are sort of below normal. So I guess to answer your question overall, I would say and retail inventories are pretty much in balance and POS should generally reflect the level of factory sales that we're seeing.

Rommel Dionisio

Okay. And maybe a follow-up to that as refill inventories normalize, do you see any sort of moderation the competitive promotional environment or Santa Clara in obviously, demand is a factor in that as well. I wonder if you could just comment on the competitive promotions across categories? Thanks.

Walter Glazer

Sherif. Once again, you know, it depends on the category. I would say Asia is certain high-growth categories. We're seeing just a tremendous amount of of promotional activity, a lot of money being spent on all sort of programs. We will compete and maintain our market positions. But I'd say and in certain categories. It's been quite strong in others. No, no real change.

Rommel Dionisio

Okay. Maybe one last follow-up question if I could. On the financial controls that you alluded to in the prepared comments, will there be a meaningful cost impact you'd expect in 2024? Is it more just maybe and allocate different allocation of current expenditures? Thanks.

Walter Glazer

Sure. Yes, Rommel, we do expect that we're budgeting for some higher audit costs, some higher in our cost in our IT system and various controls. However, that doesn't mean we don't think it's significant enough to change our outlook.
We are cautious about the consumer are cautious regarding top line sales, but we do believe that we have substantial margin enhancement opportunities and particularly relative to 2023 when we had some unusual costs around storage, inventory handling and so forth.
And then also because I think we alluded to as we were aggressively reducing our inventory in some cases, we were running our facilities below optimal levels, which that impacts margins somewhat. And then also we did do some discounting in some areas where we had some excess and some inventory that was moving towards obsolete, I would say was obsolete, but it was a and things that we wanted to move.
And so we were willing to discount those and sell those at a little bit lower margin. So I guess the message I'm trying to send is that we're cautious about the top line, but we feel good about the margin opportunities

Rommel Dionisio

Great. Thanks so much for taking my questions.

Operator

Thank you. And there are no further questions at this time. I'll hand the floor back to Patrick Griffin for closing remarks.

Patrick Griffin

Once again, thank you for your interest in escalate and joining our call. Should you have any questions, please feel free to contact us at ir@esscaladeinc.com. That concludes our call today. You may now disconnect.

Operator

Thank you, apartments.