Tilly’s Inc. on Tuesday announced revised financial results for the fiscal 2018 third quarter and year-to-date period ended November 3 in order to correct certain accounting entries relating to inventory under the retail method, which had accumulated over several fiscal periods, including the third quarter of fiscal 2018.

This correction resulted in a $2.1 million charge to cost of goods sold, partially offset by a corresponding $0.6 million reduction in previously recorded corporate bonus accruals within selling, general and administrative expenses, resulting in a net charge of $1.5 million to operating income, and a $1.1 million reduction in net income, or 3 cents per diluted share, for the quarter and year-to-date period ended November 3.

Third Quarter Results Overview

The following comparisons refer to operating results for the third quarter of fiscal 2018 versus the third quarter of fiscal 2017 ended October 28, 2017:

  • Comparable store net sales, including e-commerce, increased 4.3 percent. Comparable store net sales in physical stores increased 1.3 percent and represented approximately 86 percent of total net sales. E-commerce net sales increased 26.7 percent and represented approximately 14 percent of total net sales. Comparable store net sales, including e-commerce, increased 1.5 percent in the third quarter last year.
  • Total net sales of $146.8 million decreased by $6.0 million, or 3.9 percent, from $152.8 million last year, due to the calendar shift impact of last year’s 53rd week in the retail calendar. This retail calendar shift caused a portion of the back-to-school season to shift into the second quarter this year from the third quarter last year, reducing last year’s comparable net sales base for the third quarter by approximately $14 million. This retail calendar shift impact was partially offset by an aggregate increase of approximately $8 million in comparable store net sales and net sales from seven net new stores.
  • Gross profit of $43.7 million decreased by $6.4 million, or 12.9 percent, from $50.1 million last year, primarily due to the calendar shift impact on net sales and the impact of the correction described above. Gross margin, or gross profit as a percentage of net sales, decreased to 29.7 percent from 32.8 percent last year. As expected, buying, distribution and occupancy costs deleveraged 190 basis points against lower total net sales primarily as a result of the retail calendar shift noted previously. Product margins declined 120 basis points primarily as a result of the correction described above.
  • Selling, general and administrative expenses (“SG&A”) were $36.9 million, or 25.1 percent of net sales, compared to $36.0 million, or 23.5 percent of net sales, last year. As expected, SG&A deleveraged 160 basis points compared to last year primarily due to the calendar shift impact on net sales described above. The $0.9 million increase in SG&A was primarily attributable to an increase in store payroll of $0.9 million due in part to minimum wage increases, expenses of $0.7 million associated with our secondary offering completed in early September 2018, and increased online marketing costs of $0.6 million associated with e-commerce net sales growth. These increases were partially offset by a legal matter accrual of $0.7 million in the prior year, and a net year-over-year reduction in corporate bonus accruals of approximately $0.4 million as a result of the correction described above.
  • Operating income was $6.7 million, or 4.6 percent of net sales, compared to $14.1 million, or 9.2 percent of net sales, last year. The $7.4 million reduction in operating income was primarily attributable to the retail calendar shift impact on net sales, in addition to the net correction described above.
  • Income tax expense was $2.0 million, or 26.9 percent of pre-tax income, compared to $5.7 million, or 39.6 percent of pre-tax income last year. The reduction in this year’s income tax rate was attributable to the change in corporate tax rates signed into law late last year.
  • Net income was $5.4 million, or $0.18 per diluted share, compared to $8.8 million, or $0.30 per diluted share, last year. The $0.12 decrease in earnings per share was attributable to the combination of the retail calendar shift impact on net sales of approximately $0.11 per diluted share, the impact of the correction described above of approximately $0.03 per diluted share, and costs associated with the secondary offering completed in early September 2018 of approximately $0.02 per diluted share. The remaining positive variance was primarily due to improved operating results driven by increased comparable store net sales. On a non-GAAP basis, excluding the impact of the secondary offering costs this year and the impact of the legal matter accrual last year, net income was $6.0 million, or $0.20 per diluted share, this year, which was at the low end of our original earnings per share outlook range of $0.20 to $0.24 per diluted share for the third quarter, compared to $9.2 million, or $0.31 per diluted share, last year.

Year-to-Date Results Overview

The following comparisons refer to operating results for the first three quarters of fiscal 2018 versus the first three quarters of fiscal 2017 ended October 28, 2017:

  • Comparable store net sales, including e-commerce, increased 3.1 percent. Comparable store net sales in physical stores increased 2.2 percent and represented approximately 87 percent of total net sales. E-commerce net sales increased 9.2 percent and represented approximately 13 percent of total net sales. Comparable store net sales, including e-commerce, increased 1.5 percent in the first three quarters last year.
  • Total net sales of $427.9 million increased by $15.3 million, or 3.7 percent, from $412.6 million last year, primarily due to increased comparable store net sales and net sales from seven net new stores.
  • Gross profit of $128.7 million increased by $4.8 million, or 3.9 percent, from $123.9 million last year. Gross margin was 30.1 percent compared to 30.0 percent last year, primarily due to leveraging lower total occupancy costs on higher total net sales, offset by lower product margins primarily as a result of lower initial markups associated with increased sales penetration of third-party branded products, and the impact of the correction described above.
  • SG&A was $108.2 million, or 25.3 percent of net sales, compared to $111.4 million, or 27.0 percent of net sales, last year. Last year’s SG&A included an estimated $6.8 million in provisions related to legal matters. This year’s SG&A includes a $1.5 million reduction to such provisions as a result of the final settlement of the related legal matter in early August 2018, and $0.7 million in expenses associated with our secondary offering completed in early September 2018. The net year-over-year impact of these legal matter provisions, partially offset by our secondary offering expenses, accounted for the improvement in SG&A as a percentage of net sales. After consideration of the legal matter impacts and secondary offering costs, primary dollar increases in SG&A were attributable to an increase in store payroll of $2.1 million primarily due to minimum wage increases and higher comparable store net sales, increased online marketing costs of $1.1 million associated with e-commerce net sales growth, and increased corporate bonus provisions of $0.6 million due to improved operating results. On a non-GAAP basis, excluding the impact of legal provisions from both years and the secondary offering costs from this year, SG&A was $108.9 million, or 25.5 percent of net sales, compared to $104.6 million, or 25.3 percent of net sales, last year.
  • Operating income of $20.5 million, or 4.8 percent of net sales, increased by $8.0 million compared to $12.5 million, or 3.0 percent of net sales, last year. Of this $8.0 million improvement in year-over-year operating income, approximately $7.6 million was attributable to the net aggregate year-over-year impact of the legal matters and secondary offering expenses noted above, and approximately $0.4 million was attributable to increased comparable store net sales results and occupancy reductions. On a non-GAAP basis, excluding the impact of legal provisions from both years and the secondary offering costs from this year, operating income was $19.8 million, or 4.6 percent of net sales, compared to $19.4 million, or 4.7 percent of net sales, last year.
  • Income tax expense was $5.7 million, or 26.1 percent of pre-tax income, compared to $5.4 million, or 40.1 percent of pre-tax income, last year. The reduction in this year’s income tax rate was primarily attributable to the change in corporate tax rates signed into law late last year. On a non-GAAP basis, excluding the impact of legal provisions from both years and the secondary offering costs from this year, income tax expense was $5.4 million compared to $8.0 million last year.
  • Net income was $16.3 million, or $0.55 per diluted share, compared to $8.0 million, or $0.28 per diluted share, last year. Of the $0.27 improvement in year-over-year earnings per share, approximately $0.15 per diluted share was attributable to the aggregate legal matter and secondary offering expenses noted above, and approximately $0.12 per diluted share was due to improved operating results driven primarily by increased comparable store net sales and occupancy reductions, partially offset by the impact of the correction described above. On a non-GAAP basis, excluding the impact of the legal provisions from both years and the secondary offering costs from this year, net income was $15.9 million, or $0.53 per diluted share, compared to $12.1 million, or $0.42 per diluted share, last year.

Balance Sheet and Liquidity

As of November 3, 2018, the Company had $120.5 million of cash and marketable securities and no debt outstanding. This compares to $121.9 million of cash and marketable securities and no debt outstanding as of October 28, 2017. The Company paid special cash dividends to its stockholders of approximately $29.1 million and $20.1 million in the aggregate during February of 2018 and 2017, respectively.

Fiscal 2018 Fourth Quarter Outlook

The Company expects its fourth quarter total net sales to range from approximately $163 million to $168 million based on an assumed 2 percent to 5 percent increase in comparable store net sales. Last year’s fourth quarter included an extra week as a result of the 53rd week in last year’s retail calendar, which accounted for approximately $7.1 million in added sales for such quarter versus the comparable 13-week period this year. The Company expects fourth quarter operating income to range from approximately $8.5 million to $10.0 million, and earnings per diluted share to range from $0.22 to $0.26. This outlook assumes an anticipated effective tax rate of approximately 26 percent and weighted average shares of approximately 30.1 million.

Pursuant to the settlement terms of the previously noted legal matter, the Company issued non-transferable discount coupons to approximately 612,000 existing Tillys customers in early September 2018 which allows for a one-time 50 percent discount on a single, future purchase transaction of up to $1,000. Any unused coupons will expire on September 4, 2019. To date, less than 1 percent of these coupons have been redeemed, resulting in no material impact to the Company’s comparable store net sales or operating results as a whole. Although redemptions have been very low in number thus far, there can be no assurance that the impact of any future coupon redemptions during the 2018 holiday season, or during fiscal 2019, will remain immaterial. Our fourth quarter outlook does not contemplate any specific impacts from future usage of these coupons.

Preliminary Fiscal 2019 New Store, Capital Expenditure and Expense Expectations

The Company expects to open up to 15 to 20 new, full-size stores and an as-yet undetermined number of RSQ-branded pop-up shops during fiscal 2019, in each case assuming appropriate lease economics are obtained. The specific timing of any new store openings is not yet known. The Company expects total capital expenditures for fiscal 2019 not to exceed $25 million, comprised primarily of new store costs supplemented by continuing technology investments. Finally, the Company expects the impact of legislated minimum wage increases, merit increases, new systems costs, and the new lease accounting standard to result in an aggregate increase of approximately $6 million in its annualized operating costs before consideration of any comparable store net sales assumption. The Company estimates that its fiscal 2019 comparable store net sales would need to increase by approximately 3 percent in order to absorb these anticipated cost increases without creating any deleverage of expenses as a percentage of net sales.