The Michaels Companies, Inc. (MIK - Free Report) has delivered strong third-quarter fiscal 2018 results, wherein top and bottom lines beat estimates and improved year over year. This marked the company’s third consecutive earnings beat while sales topped estimates in three of the last four quarters. Further, the company raised its sales and comparable store sales (comps) forecasts and tightened its earnings guidance for fiscal 2018. It also outlined its view for the fiscal fourth quarter.
While this Texas-based company’s stock has not reacted much to the earnings release, its price performance shows that it has underperformed the industry year to date. This Zacks Rank #3 (Hold) stock has lost 32.6% against the industry’s increase of roughly 10.8%.
Michaels Companies’ adjusted earnings of 48 cents per share beat the Zacks Consensus Estimate of 44 cents and improved 9.1% from the prior-year quarter. The increase was driven by solid comps growth, efficient expense management and the impact of the ongoing share repurchase program.
Net sales of this arts and crafts specialty retailer increased 2.7% year over year to $1,274.1 million. The top line also surpassed the Zacks Consensus Estimate of $1,255. This increase was backed by comps growth and operation of 19 additional Michaels stores (net of closures), partly negated by the closure of all 94 full-size Aaron Brothers stores in the fiscal first quarter. Excluding the impact of Aaron Brothers, sales improved 5%.
Comps improved 3.8% in the fiscal third quarter, with 4.3% growth on a constant-currency basis. The upside was driven by rise in average ticket, partially offset by a marginal decline in customer transactions. Further, comps gained from improved in-stock merchandise, marketing support, and focus on value and key items. Adjusting for the calendar shift, comps were up 1.1%.
Gross profit declined 1.1% year over year to $479 million while gross margin contracted 140 basis points (bps) to 37.6%. The contraction in gross margin was due to rise in distribution-related costs and higher inventory reserves. This was partly offset by occupancy leverage and benefits of the ongoing sourcing endeavors.
SG&A expenses, including pre-opening costs, increased 3.5% to $341.8 million owing to higher performance-based compensation, increased marketing and payroll-related expenses. This was offset by the decline in expenses related to the closing of Aaron Brothers stores in the fiscal first quarter.
Backed by gross margin contraction and higher SG&A expenses, adjusted operating income dropped 8.2% to $141.3 million. Operating margin was 11.1%, down 130 bps from the year-ago quarter.
During the fiscal third quarter, the company inaugurated six new Michaels stores, alongside closing one and relocating four Michaels outlets. As of Nov 3, 2018, Michaels Companies operated 1,256 Michaels stores and 36 Pat Catan’s stores.
In the fiscal fourth quarter, the company plans to open two Michaels stores (net of closures) and relocate one Michaels store. For fiscal 2018, the company estimates opening 20 new Michaels outlets (net of closures) and relocating 21 Michaels shops.
Michaels Companies had cash and cash equivalents of $102.7 million, long-term debt of $2,690.3 million, and total stockholders’ deficit of $1,789.9 million as of Nov 3, 2018. Total debt at the quarter end was $2,930.6 million. As of Nov 3, total merchandise inventory rose 2.6% to $1,440.9 million.
Management incurred capital expenditure of $119.6 million in the first nine months of fiscal 2018, mainly related to investments in technology projects, comprising funds to support the in-sourcing of e-commerce fulfillment, and resources pumped into new and relocated outlets. For fiscal 2018, the company expects to incur capital expenditure of $160 million.
Michaels Companies remains concerned about the challenges facing the Arts and Crafts channel due to stagnant growth and increased distribution points. However, it expects the momentum witnessed in the fiscal third quarter to continue in the fourth quarter. Consequently, the company provided an upbeat outlook for the fiscal fourth quarter.
Management expects comps for the fiscal fourth quarter between negative 0.5% and positive 0.5%. Adjusted operating income is estimated to be $332-$342 million. Interest expenses are likely to be about $38 million, with an effective tax rate of 23%. Earnings are envisioned to be $1.42-$1.47 per share.
Based on year-to-date results and outlook for the fiscal fourth quarter, the company raised its sales and comps view for fiscal 2018, and tightened its earnings forecast. It now expects net sales of $5,261-$5,278 million in fiscal 2018, marking an increase from $5,217-$5,293 million mentioned previously. Comps are now estimated to increase 0.7-1.1% compared with comps of flat to up 1.5% expected earlier. Adjusted operating income is projected to be $670-$680 million versus $677-$700 million stated earlier.
Interest expenses continue to be estimated at $144 million, with effective tax rate of nearly 23%. Earnings per share for the fiscal are now anticipated to be $2.35-$2.39, up from the company’s previous view of $2.29-$2.42.
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