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Edited Transcript of LL earnings conference call or presentation 25-Feb-20 1:00pm GMT

Q4 2019 Lumber Liquidators Holdings Inc Earnings Call

TOANO Mar 6, 2020 (Thomson StreetEvents) -- Edited Transcript of Lumber Liquidators Holdings Inc earnings conference call or presentation Tuesday, February 25, 2020 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Charles E. Tyson

Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer

* Nancy A. Walsh

Lumber Liquidators Holdings, Inc. - CFO

* Nancy M. Taylor

Lumber Liquidators Holdings, Inc. - Independent Chairman

* Paul Taaffe

Lumber Liquidators Holdings, Inc. - IR Executive

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Conference Call Participants

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* Brian William Nagel

Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst

* Jon Winick

Clark Street Capital Management, Llc - Chief Executive Office

* Laura Allyson Champine

Loop Capital Markets LLC, Research Division - MD

* Michael Efram Kessler

Morgan Stanley, Research Division - Research Associate

* Peter Jacob Keith

Piper Sandler & Co., Research Division - Director & Senior Research Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. And welcome to the Lumber Liquidators Fourth Quarter and Full Year 2019 Earnings Conference Call. As a reminder, ladies and gentlemen, this conference is being recorded and may not be reproduced in full or in part without permission from the company.

I would now like to turn the conference over to Paul Taaffe. Please go ahead, sir.

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Paul Taaffe, Lumber Liquidators Holdings, Inc. - IR Executive [2]

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Thank you, operator, and good morning, everyone, and thank you for joining us. Today, I'm joined by Nancy Taylor, Chairperson of the Board of Directors; Charles Tyson, our Interim President and Chief Customer Experience Officer; and Nancy Walsh, our Chief Financial Officer.

As we begin, let me reference the safe harbor provisions of the U.S. securities laws for forward-looking statements. This conference call may contain forward-looking statements that are subject to significant risks and uncertainties, including the future operating and financial performance of Lumber Liquidators. Although Lumber Liquidators believes that the expectations reflected in its forward-looking statements are reasonable, it can give no assurance that such expectations or any of its forward-looking statements will prove to be correct.

Important risk factors that could cause actual results to differ materially from those reflected in the forward-looking statements are included in Lumber Liquidators' filings with the SEC. The information contained in this call is accurate only as of the date discussed. Investors should not assume that the statements will remain operative at a later time, and Lumber Liquidators undertakes no obligation to update any information discussed in this call.

Now I'm pleased to introduce Ms. Nancy Taylor, Chairperson of the Lumber Liquidators Board of Directors. Nancy?

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Nancy M. Taylor, Lumber Liquidators Holdings, Inc. - Independent Chairman [3]

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Thank you, Paul, and good morning, everyone. As Paul said, I'm Nancy Taylor, Chairperson of the Board of Directors. As announced on February 6, Dennis Knowles resigned from his position as President and CEO. On behalf of the Board, I would like to express our appreciation for Dennis's commitment to the company over the last 4 years, and his steady hand and tireless efforts in the face of many challenges during his tenure as CEO. We wish him well.

The Board is committed to doing a thorough search of internal and external candidates to identify the best candidate to lead the company and create a path towards enhanced shareholder value. Until a new CEO is named, Charles Tyson has been named Interim President and Principal Executive Officer, in addition to his role as Chief Customer Experience Officer. He and Nancy Walsh, our CFO, have agreed to take on additional responsibilities during the search period.

The Board appreciates Charles' and Nancy's willingness to take on these additional responsibilities. And we are confident in the senior leadership team's ability to guide the organization and continue progress on the transformation strategy and key initiatives laid out by the company. We are encouraged by the opportunities we see ahead to enhance shareholder value. After the prepared remarks are completed, I will remain on the call in case there are follow-up questions regarding the leadership change that I'm able to answer. As I'm sure you will understand, at this time there's not much that I can add, given that we are in the early stages of this process.

On behalf of the Board, I would like to thank you for your interest in Lumber Liquidators. And I will now turn the call over to Charles. Charles?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [4]

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Thank you, Nancy. It's my honor and privilege to take on this interim role. I would also like to thank Dennis for his dedication to the company and his work to position us for success. I'm excited about the opportunities I see for us to leverage our solid foundation, execute our transformation plan and deliver shareholder value. We will act with urgency to drive both growth and improved profitability and establish our brand as a value leader in the hard-surface flooring marketplace.

Now to the results. Q4 sales were in line with our guidance as our overall value proposition resonates with consumers. And we experienced a more supportive macro environment than in the first half of the year, as many housing metrics turned positive and fostered demand. We saw continued strength in vinyl products, with relative weakness in bamboo and laminate, mirroring recent industry trends. As a result, our merchants broadened our vinyl selection during the quarter, adding product that provides consumers with a compelling price and quality continuum in this fast-growing and competitive category. In addition, we recently launched a new hardwood set that offers fresh, trend-right styles and positions us well to serve those customers who want the aesthetics and value of a hardwood floor.

These are just a couple of examples of the actions we're taking to ensure our stores are well positioned to capitalize on consumer preferences and broader market trends. We had a solid October yard sale, which is one of our 2 largest events of the year. I'm pleased with how this event leveraged our evolving marketing efforts to attract customers to our stores. In addition, our Pro sales remained strong as we benefited from efforts by our retail sales team to develop stronger relationships with our Pros. We're also focused on continuing to refine our assortment, specifically on project completers, to meet the needs of a Pro. These were focus areas in 2019, and they will remain so in 2020 and beyond.

Looking at our installation sales, we continue to view our installation services as an important component of our go-forward brand value proposition as we work to broaden our consideration among flooring consumers. To enhance our service offering, as we mentioned last quarter, we rolled out our online assessment tool, automating the scheduling of the first step in an installed project. Following the launch in October, we saw customers engage through this channel and have seen encouraging results with this online service as we continue to make the process easier for our customers, installers and employees.

On the margin front, in 2019 we faced a challenging impact of tariffs on a significant percentage of our product. We started the year with clear objectives to improve margin through vendor negotiations and alternative country sourcing that would lead to lower costs. We also had a specific initiative in place to deliver efficiency in our supply chain to enhance margins. Our teams made meaningful progress throughout the year, working collaboratively with vendors to mitigate the tariffs in addition to moving sourcing to lower cost, lower tariffed countries. As a result, we have a more diverse supplier base and more options to further diversify.

Through most of 2019, nearly all of the benefits gained from our margin-enhancing efforts were offset by the negative impact of the tariffs. The recent tariff exclusions, however, have allowed our efforts to be more apparent in our Q4 results. In addition, our more traditional cost out efforts will continue in 2020 as we aim to further identify opportunities for alternative country sourcing and leverage our scale to support margin growth.

Our outlook anticipates the continuation of the current Section 301 tariffs, as well as the continuation of the current exclusion on vinyl and engineered "click" products through the end of 2020. However, 2019 proved we must remain nimble to react to changes in tariffs as well as their impacts on the competitive marketplace. As just 1 example, we, along with others in the industry, have applied for additional exclusion on Chinese imports. And while not embedded in our outlook, these exclusions could further change the market dynamic, if received during the year.

Through all of the changes in 2019, we remain focused on ensuring we delivered solid value through competitive prices, accessible expertise and a trend-right assortment. Our evolving marketing message is value-driven and no longer focuses only on price but emphasizes quality, service and selection in our stores and online. We're receiving positive feedback on our new ad campaign, and we will continue to build on our marketing momentum in 2020 within the context of our plans for overall brand evolution.

Finally, we'll also continue to develop and deliver digital tools that enhance the shopping experience and differentiate us from the competition. Following the path of a flooring project journey, the recent launch of our Floor Finder digital tool simplifies the product selection process. And once narrowed, consumers can use the Picture It! visualizer tool to digitally see selections in their own home. With an informed view, the customer can choose to schedule an installation assessment online or engage with our store associates who can help refine the product selection and complete the sale. Used together, these tools engage customers early in their project, simplify their purchase decision and keep them engaged throughout their flooring journey. This allows customers the ability to make informed flooring decisions when and how they want.

As I reflect on 2019, we made progress in our transformational plan and had varying degrees of success with our 3 key areas of focus: increasing profitability, driving traffic and transactions, and enhancing the customer experience. First, on the profit front, as I have described, our merchants and sourcing teams work diligently with our vendor partners to lower product costs, and these efforts became more apparent with the tariff exclusions. We also worked to rationalize SG&A throughout 2019. We streamlined organizations and worked to align our corporate structure with our vision of the future.

Second, our efforts to drive traffic and transactions fell short of what we had planned, as transaction trends remained negative through the year. While the growth of our web and installed sales work against this metric, we were still disappointed with our results. This will be a key focus for the management team over the coming year. Third, we enhanced the customer experience through the work I described to improve our digital tools to engage customers early in their journey, as well as our work to broaden the reach of our brand. We also improved product availability through store-specific inventory investments to increase the breadth of take-with product.

In the end, we made progress in 2019, but we clearly have more work to do. As such, our initiatives are not changing in 2020. Specifically, we remain focused on improving operational effectiveness to drive bottom line profit, improving our customer experience and driving traffic and transactions in our stores and online. First, operational effectiveness and enhanced profit will come from continued improvement in gross margins as well as diligent management of expenses. We are also committed to ensuring our capital investments deliver solid returns to shareholders.

Second, in the coming year, we are accelerating our efforts to improve our customer experience, including the continued revitalization of our brand. Core to that effort is delivering a quality, trend-right assortment that offers broad selection and great value. In addition, we're focused on giving consumers the right guidance and partnership through every project by creating awareness of and access to expertise and knowledge, both in stores and through our digital tools. As we've said, a key priority going into 2020 remains driving traffic and transactions in our stores. That will come through successfully engaging in existing consumers at every step of their flooring journey and providing exceptional value in the marketplace.

Turning to our outlook for 2020. We expect to grow sales by executing on our transformational plan, aided by a moderately more supportive macroeconomic environment than we experienced in 2019. We also intend to open 15 new stores in 2020, bringing value to flooring customers in new markets and further penetrating existing markets. Expected sales growth, along with our work to expand gross margin and focus on managing expenses, will yield a solid improvement in operating margin in 2020. Our expectation is that adjusted operating margin will grow to between 2.7% and 3.5% in 2020, which is up from 2.3% in 2019.

Before handing the call over to Nancy, I wanted to briefly share our viewpoint on the coronavirus. First, our thoughts go out to those being personally impacted by this outbreak, including our representative office employees in Shanghai. Thankfully, none of our employees have been infected, but like many others, the outbreak is causing meaningful disruption to daily life. We obtain nearly half of our merchandise from Asia, and most of that is sourced from China. As such, we are closely monitoring the coronavirus situation, including the actions taken by authorities to combat the spread of the virus, which includes extended quarantines and restrictions on travel of people and goods.

The near-term risk is the potential disruption to our supply chain. We are currently unable to predict the full impact of these potential disruptions, how and in what manner competitors will be affected, or the reaction of consumers. Merchandise on hand and already en route should allow us to avoid a material impact in the first quarter of 2020. However, depending on the length and severity of the situation, we could see a material impact beginning as early as the second quarter, and such impact could continue for weeks or months. We are monitoring on a daily basis and evaluating what actions to take to respond to potential disruptions. We are committed to executing the next steps of our transformational plan that includes ensuring we are responsive to market trends and customer preferences, while focusing on driving profitability. I look forward to sharing our progress through the year.

I will now turn the call over to Nancy Walsh to share the financial details of the quarter. Nancy?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [5]

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Thank you, Charles, and good morning, everyone. In the fourth quarter, net sales were $274 million, an increase of 1.8% over last year, and comparable store sales increased 0.4% versus a year ago. The overall net sales increase was driven by 1.8% growth in merchandise sales and a 2.4% increase in service sales. Our comp increase was the result of a 2.9% increase in our average transaction value, offset by a 2.5% decrease in transaction count.

Gross profit for the fourth quarter of 2019 increased $16 million compared to the fourth quarter of 2018. Q4 2019 was negatively impacted by countervailing duty rate changes and Q4 2018 was positively impacted by classification adjustments related to the Harmonized Tariff Schedule. Without these items, adjusted gross profit increased approximately $18 million. Gross margin for the quarter was 40.9% compared to 35.7% in the same quarter a year ago. Adjusted gross margin grew to 41% from 35.1% in the prior year period. The increase in adjusted gross margin was primarily driven by the tariff exclusion announced in November 2019.

We recognized approximately $13 million of gross profit in the fourth quarter of 2019, related to recoveries associated with relevant products sold through November 2019. We also reduced the carrying cost of inventory by approximately $12 million related to relevant product held for sale as of December 1, which began benefiting adjusted gross profit in December as those products were sold. Q4 was also favorably impacted by a larger mix of higher-margin manufactured products, reduced discounting in the stores, merchandising cost out efforts and retail price increases earlier in 2019.

SG&A expense for the fourth quarter was $93 million compared to $151 million in the fourth quarter last year. SG&A in both quarters included incremental legal as well as other costs and credits related to lawsuits, investigations and certain other legal matters, with the most substantial being $61 million in accruals related to legal settlements recorded in Q4 of 2018. Items for both periods are adjusted in the non-GAAP reconciliation section of the press release. When excluding these items from both periods, adjusted SG&A expense for the quarter was $93 million or 33.9% of sales, an increase of $5.4 million and up 130 basis points on a percent to sales basis versus the same quarter a year earlier.

The increase in adjusted SG&A dollars was primarily due to higher advertising, additional costs related to 6 net new stores compared to the fourth quarter a year ago, higher year-over-year incentive compensation and equity accruals and costs related to the corporate headquarters relocation that occurred in the fourth quarter of 2019. We remain focused on identifying expense savings opportunities, by finding synergies across the business and driving efficiency in everything we do.

For the fourth quarter, we recorded operating income of $19 million compared to an operating loss of $55 million in Q4 of 2018. After adjusting for the items noted previously, adjusted operating income was $19 million in the fourth quarter compared to $6.7 million last year. The year-over-year increase was driven by the retroactive tariff exclusion as well as additional efforts to enhance gross profit, partially offset by an increase in adjusted SG&A.

We recorded income tax expense of $2.4 million for the quarter, up significantly from 2018, driven by an increase in taxable earnings leading to the complete depletion of the company's federal NOLs. Finally, earnings per diluted share were $0.57 for the quarter versus a loss per share of $1.99 in the year-ago quarter. On adjusted basis, Q4 earnings per diluted share were $0.56 this year compared to $0.17 last year.

Looking briefly at full year results, total sales increased 0.7%, with a comp sales decline of 1%. Adjusted gross profit grew $17.8 million to 37% of sales. Adjusted SG&A grew $13.2 million to 34.7% of sales and adjusted operating profit grew $4.5 million, up approximately 40 basis points as a percent of sales to 2018. Adjusted earnings per share was $0.58 versus $0.57 in 2018.

Turning to the balance sheet. Inventory at the end of the fourth quarter was $286.4 million, down $20.5 million from Q3 and down $31.9 million from the end of 2018. The quarter-over-quarter and year-over-year reductions were driven by the impact of the tariff exclusions on the carrying cost of inventory, as well as our ongoing operational efforts to improve inventory efficiency and drive improvement in inventory turnover. We ended the quarter with $82 million outstanding under our credit agreement, which was down $7.5 million compared to Q3. During the fourth quarter, we funded $1 million related to the Gold settlement.

Looking forward, while the exact timing will be driven by the courts, we currently expect to fund the remaining $13 million of the Gold settlement as well as $4.75 million related to the Kramer settlement in 2020. In addition, we anticipate receiving a total of approximately $25 million from U.S. Customs related to tariff exclusion refunds. Those funds are expected to be received throughout the first half of 2020. Our liquidity position remains strong as our core operations continue to generate solid cash flow. As of December 31, we had liquidity of $111 million, consisting of availability under our credit agreement of $102 million and cash of $9 million. Cash generated by operations, net of unusual items, allows us to make strategic investments in the business, while also reducing debt and further improving liquidity over time.

Turning to our 2020 outlook. We expect low to mid single-digit percentage growth in total sales compared to last year and comparable store sales growth in the low single digits. Our sales outlook includes the positive impact of the leap year, which will benefit Q1 total and comp sales growth by approximately 80 to 100 basis points and full year growth by an estimated 20 to 25 basis points. In addition, cycling the network security incident that occurred in Q3 of 2019 should benefit sales growth in Q3 2020. As a result of these 2 factors, we currently expect our 2020 sales and comp growth percentage to be higher in Q1 and Q3 relative to Q2 and Q4.

We expect to deliver adjusted operating margin of 2.7% to 3.5% of revenue as we deliver higher gross margins, reflecting the work of the team over the last 12 to 18 months to lower product costs. In addition, we expect SG&A leverage to sales to support adjusted operating margin growth. Our outlook assumes the continuation of Section 301 tariffs at 25% on currently tariffed Chinese imports, while also assuming tariff exclusions granted in 2019 on vinyl and engineered-click product remain in effect for all of 2020.

On the investing side, we plan to open approximately 15 new stores in 2020. We expect capital spending of $19 million to $21 million as we open new stores and invest in revenue and profit driving initiatives. We transitioned back to a federal cash taxpayer in 2019 and expect that to continue in 2020, as we completely depleted our federal NOLs in 2019 and expect taxable income to grow. We currently anticipate an approximate 24% effective tax rate and cash taxes of approximately $11 million in 2020. In addition, we expect cash paid for interest to be in the $3 million to $3.5 million range.

Thank you all for your time this morning. With that, I'll hand it back to the moderator to open the call to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Simeon Gutman with Morgan Stanley.

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Michael Efram Kessler, Morgan Stanley, Research Division - Research Associate [2]

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This is actually Michael Kessler on for Simeon. First, I wanted to ask on the outlook. The $25 million in receivables that you're booking right now for next year, is that included as far as recovering that, in your 2020 outlook? And if it is, would it be fair to -- for thinking about kind of the underlying or kind of go-forward EBIT margin to exclude that $25 million? And if we do, is there anything else that we should be considering as we're going through that work?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [3]

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So the $25 million of receivable that we're planning is factored into the cash flow. And we should use that as you're taking a look at 2020. We expect that to arrive in the first half of this year.

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Michael Efram Kessler, Morgan Stanley, Research Division - Research Associate [4]

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Okay. So then just to confirm then. The EBIT margin outlook that you're planning for next year, would -- it is contemplating that you receive that as -- in next year's results?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [5]

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It's a balance sheet item and the impact of the tariff exemption that was identified in November, that is contemplated to flow through 2020. We factored that into our forecast. So the margin impact that we're receiving from that is built into the guidance that we've provided today.

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Michael Efram Kessler, Morgan Stanley, Research Division - Research Associate [6]

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Okay. All right. Got it. That's helpful. And then just a follow-up on the top line. So I wanted to ask, I guess, what gives you confidence as far as your low single-digit comp guide to accelerate from the slightly negative comp in 2019? What are the key factors that you'd expect to drive that? And as a reminder, can you let us know if you've quantified how much 2019 comps benefited from higher retails as a result of tariffs?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [7]

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Michael, it's Charles. Thanks for the question. Yes. So we've been working diligently on our strategic pillars for the last 12 months. And as the management team is focused on executing our current strategy, we see a number of drivers on the top line. And they come in a number of specific areas. We've talked a lot about both our brand work and our digital work, ensuring that the customer experience is a guided experience, bringing customers into our brand. And we're seeing good success in growth of our digital business, up 32% last year. And the teams are doing a lot of work, both on replatforming to improve that experience as well as enhance our digital marketing capabilities. 85% of our customers start their journey online. And so we see that as being an important part of our longer-term growth strategy, as well as the digital work that we're driving through our Install business, which today is -- continues to grow and will remain a growth driver for us next year.

We've talked a lot about our emphasis on our Pro business and how we continue to build relationships around our stores, and we were happy with our Pro penetration and growth in the fourth quarter and continue to build initiatives that will allow our brand to be more relevant to Pros as we move through next year. Obviously, we continue with our new stores. We opened 15 stores in '19, and that comp benefit will start to flow through this year. We also have the 1 extra day at the end of this year, which is built into the comp performance, and also anniversary our event in August of last year from a systems perspective, that help us benefit. But I think the real thing I would have you focus on is that we are staying extremely focused on the initiatives that we've aligned around and getting our organization to focus with urgency and with accountability to deliver our plan. And that works both from a corporate office perspective and the field. So hopefully, Michael, that answers that part of your question.

In terms of what we see in pricing, we actually saw a moderate increase in our ASP in the fourth quarter, and we continue to see rational pricing in the marketplace. Obviously, we will react to wherever we see changes from a competitive perspective to drive our value position in the marketplace. Okay? Thanks for your question.

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Operator [8]

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Your next question comes from the line of Brian Nagel with Oppenheimer.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [9]

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So I have a few questions. I'll go through them quickly. But first off, I guess, just from a bigger picture perspective. How do you balance or how should we expect you to balance the initiatives you continue to pursue against securing new senior leadership? In other words, what I'm saying is, are you looking for -- or is there any holding back on some of these initiatives to wait for the new leadership to sort of say, put their own stamp on this? Or are you pushing ahead with everything you had planned previously?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [10]

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So Brian, it's a great question. I will tell you that the Board and the senior leadership team are aligned on moving forward with our initiatives. We spent a lot of time discussing that as a group. We aligned on our planning process for 2020, prioritizing where our capital investment spend is going to be and our OpEx investment spend is going to be. And we're not going to take our foot off the gas in delivering the investments and the initiatives, both from a field perspective and a corporate perspective. And so you should feel confident that there's not going to be a pause button here. This is our heads down, driving with urgency to deliver an outcome for our plan in 2020 against the guidance that we've given you.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [11]

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Got it. That's very helpful. Second question -- and I appreciate the commentary you made both in your release and in your prepared comments regarding the coronavirus and the supply chain disruptions. Obviously, it's a very fluid situation. But I was wondering if you can give maybe a little more color, just in terms of what you're seeing as far as activity, or maybe said better, where you're ramping activity at the supply partners you have within China.

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [12]

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Yes. So we are working, obviously, on a daily basis with all of our suppliers. And we've really got a dedicated team on the ground. And they obviously have been reacting in a very difficult environment for them personally, and been extremely pleased with how they've given us insights as to what is happening. To your point, it's fluid. It's changing by the day. I can confirm that all of our pre-Christmas holiday shipments left Asia on time, and we have received shipments post Chinese New Year. Clearly, the same visibility that most industries are reporting. There is still a limit on transportation across provinces in China. Our density of factories is fairly heavily concentrated around Shanghai, which has a different set of regulations on shipment than more broadly across China. And so we're watching delivery availability of drivers to be able to make containers to the port.

Second, as you can see, and it's publicly available, the migration of factory workers has not been completed this year. You can actually track online the difference between last year and this year. Most of our factories are up and operational, but waiting for all full factory workers to return. I think the third unknown, and this is for every industry, is our suppliers are working with their sub-suppliers to understand their supply chains. And we, obviously, are meeting on a daily basis to understand what their net supply chain looks like in terms of delivery of raw components to ensure that future orders are going to be executed. As I said in my prepared remarks, based on inventory on the water pre-Chinese New Year and our current on hands, we do not see any material impact in Q1. And we are managing the visibility as everyone else is, across the whole of Asia to understand what potential impact will be and how we will react to that across what we have as a broad portfolio of products that are not solely reliant on origination from Asia. Hopefully that gives you a little insight, Brian.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [13]

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No, that's very helpful. And then the last question I have, this will be a quick one, but there's been a lot of talk about weather and having one of the warmest winters on record here in the United States. I know in the past, weather has impacted sales trends at Lumber. So any commentary how this weather has affected Q4 sales or what we're seeing so far in Q1?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [14]

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Yes. So Brian, just as a policy going forward, we're not going to comment intra-quarter anymore on what's happening with sales impact. From my perspective, in this business, yes, you may have 1 or 2 days of snow days in a very tight regional area like Minnesota. But our teams are focused on delivering, particularly to our Pros who keep their inside building projects, restoration projects working through the winter. So no material impact in the fourth quarter plus or minus that was attributable to weather.

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Operator [15]

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Your next question comes from the line of Seth Basham with Wedbush Securities.

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Unidentified Analyst, [16]

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My first question is around your margin guidance for 2020. You gave a little bit of color around your expectation for material improvements in gross margin. If you could give a little bit more color there, that would be helpful. In other words, can you walk us through the major puts and takes to the gross margin improvement from 2019 to 2020?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [17]

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Sure. For the quarter, as we talked about, we saw an increase from about 35% to 41% year-over-year -- for the quarters year-over-year. The majority of that, obviously, was driven by the tariff exclusion, but was also supported by the mix of higher-margin products as well as all the good work we've been doing on the cost outs from a sourcing perspective, and then some reduced discounting in the stores. For the full year, we saw some of that same mix more heavily weighted toward anything other than the tariffs, as that was a Q4, primarily, hit.

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Unidentified Analyst, [18]

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Right. As we look to 2020, however, Nancy, can you walk us through the puts and takes to get to your implied gross margin expectations?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [19]

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I think from a margin perspective, that's not generally something that we provide from a guidance perspective. I think if you take a look at the margin assumptions that we have for the full year, because we put the cost reduction impact that was going in 12 to 18 months, just at the beginning of the tariffs, that now that good work is showing, that can be representative of what we're looking for in 2020.

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Unidentified Analyst, [20]

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Okay. And a follow-up question related to pricing and your product costs. As you've seen the cost reductions associated with tariff exclusions, are you capturing additional margin on those specific products still and you're expecting those strong margins to persist through 2020 in your guidance?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [21]

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Yes. I'll take that. Sorry, we didn't catch your name, but I know this isn't Seth. So what we are doing clearly is looking at the competitive pricing environment. And as others have said, there has been some pricing that has moved back to the street. But we've also been driving an initiative from a product cost out and an alternative country sourcing perspective, that really had nothing to do with the tariffs. This started 18 months ago in terms of looking at a long-term view of our profitability as a company. And the sourcing teams and the merchant teams did an outstanding job of working with our suppliers strategically to continue to improve our long-term cost position. And that work will continue as we move into 2020. Obviously, the tariffs put another set of urgency around that work. And we will continue to work like we do strategically with all of our vendors, on coming up with the best value proposition for our customers.

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Unidentified Analyst, [22]

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Got it. As it relates to the inventory position that you're in right now, are you in line with your expectations for the end of the fourth quarter, excluding the reduction associated with the tariff exclusions? And how does that leave you positioned as we think about the second quarter, given the potential for limited supply?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [23]

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Yes. So as it relates to our ending inventory positions, our inventory management teams and supply chain teams did a good job of ensuring that we came slightly under our plan for 2019. We continue to work, as we've talked about on previous calls, on inventory rationalization projects across our supply chain and in our stores, that continue to improve our inventory productivity and manage our inventory turns. As I said before, we're not going to discuss the detail of future quarters and where we're going to be against our plan. We have an inventory initiative. That initiative has been underway for the last 6 months, and we're pleased with the progress that, that team has made.

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Unidentified Analyst, [24]

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Got it. Last question for me, bigger picture, Charles, as you take on this interim role. Just trying to get a sense from you, what Lumber Liquidators means to you. I mean how has the value proposition evolved over time and where do you ultimately want it to go?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [25]

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Yes. So that's a great question, and I thank you for it. So look, when I started with the company, I spent a lot of time in stores before I even decided to join the company. And the one thing that just excites me about us is, our team members in the field are experts in selling flooring. And when you think about the core customer that we're going after, they value that expertise. And so if you join a company where you have an energy level and expertise level and a leadership level that can engage with customers around their product -- and I see that every day when I look at the reviews. The first thing I do in the morning is come in and look at our reviews and send out comments to our field. We have customers that are absolutely delighted both on the installation and on the DIY side and on the Pro side. And so as we build the capabilities around rebranding our marketing messaging, as we build digital capabilities to enhance the customer experience, we build out our Pro programs to really drive relationships and stickiness with Pros around our stores, I'm as excited today as I was when I joined the company 18 months ago. So hopefully, that gives you a little bit of insight into the passion and energy that this management team has to execute against our plan.

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Operator [26]

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Your next question comes from the line of Laura Champine with Loop Capital Markets.

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Laura Allyson Champine, Loop Capital Markets LLC, Research Division - MD [27]

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If we look at the luxury vinyl tile, luxury vinyl plank part of your business, how much of that has production which is at risk to disruption from coronavirus? And do you have alternative sources for that product outside of China?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [28]

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Yes. So what we've said, Laura, is in our manufactured categories, that now represents about 41% penetration of our business. The majority of our vinyl production is in China today. And there is some alternatives that are outside of China, but the majority is in China. Obviously, we have a product portfolio approach to how we manage the business. We've been doing a lot of work around our hardwood business. This company had a legacy of hardwood. We've seen declining market share, as we've said on previous calls, for the last 3 years, and we have taken share in wood over the last quarter. So we are looking at categories that customers find us as a destination to lean into. But as our 10-K shows, 41% of our product -- manufactured product, a portion of that is from China from a vinyl perspective. You didn't ask about laminate. Where others do have a significant importation of laminate from China, all of our laminate product is either from North America or from Europe. So we are protected on our laminate business from that perspective.

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Laura Allyson Champine, Loop Capital Markets LLC, Research Division - MD [29]

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Got it. And then bigger picture question. As the Board considers candidates for CEO, what are the -- on a permanent basis, what are the key factors? What are the key background elements and skill sets that the Board is looking for?

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Nancy M. Taylor, Lumber Liquidators Holdings, Inc. - Independent Chairman [30]

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What I -- this is Nancy Taylor, the Chair of the Board. I don't want to get into specific criteria, but what I will say is that, again, the Board is supportive of the transformation strategy. And we're looking for a leader who can embrace that and accelerate that strategy.

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Operator [31]

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Your next question comes from the line of Peter Keith with Piper Sandler.

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Peter Jacob Keith, Piper Sandler & Co., Research Division - Director & Senior Research Analyst [32]

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Charles, I wanted to ask you on the shift with the marketing strategy. I know we've been talking throughout 2019 about the change in the content. And then, I believe it was Q4 was going to see the first stages of changing in the media mix. So as we stand here today, your Q4 transaction comps still down 2.5%, kind of in line with prior quarters. Do you feel like you should be seeing some benefit to traffic now? And maybe at what point is there -- in 2020, do you think about reevaluating that marketing strategy?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [33]

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Yes. So Peter, a couple of things. All of this work was deeply seated in customer research and insights to identify those segments of customers that really value what it is that Lumber Liquidators does really well. And when we start to talk about our [invested and prove] a customer that really gives us credit for our high-touch consultative selling, we need to be able to tell that broader story. The data clearly shows that those customers that have experienced the brand have a high resonance to the brand. Customers that have never experienced the brand have a different attitude towards the brand. So moving a brand attitudinally takes time.

And so what the new marketing messaging is really focusing on is talking about quality, it's talking about breadth of assortment, and it's talking about service. And also, if you look historically where this brand has driven, it's been primarily around price. And so as we start to remix and tell our brand story along with competitive pricing, we are getting positive feedback, particularly from our field organization, on the customers that they're seeing coming in, reacting to our marketing. And we will continue to build on those efforts, along with the work that we're doing online from a digital perspective so often in the marketing you don't see, because it's very targeted, and how that really defines our attack to drive traffic over time, both online and in our stores. So hopefully that gives you an insight about how we're thinking about both the strategy and the longer-term execution outcomes of that strategy.

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Peter Jacob Keith, Piper Sandler & Co., Research Division - Director & Senior Research Analyst [34]

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Yes. That is helpful. And I know over the last couple of years, there has been some discussion, at least on these calls, around the Lumber Liquidators' brand itself and the name of the company. Is there any reconsideration of rebranding the company today, just given the focus on, as you say, quality, breadth and service, where the name Liquidators almost sort of screams value and pricing?

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [35]

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Yes. So that's a great question. So as I said before, we've done a significant amount of work and research around the brand, which obviously includes the name, but it's not just about the name. If you've been looking at our brand logos and if you've been looking at our advertising, you'll see we've added flooring company to make sure that there's relevance between Lumber Liquidators and flooring, which is what we sell. If you look online and in our television advertising, you'll see us using llfloors.com as a domain to drive attention to us as a flooring company. We're continuing to drive our creative approach, as I just talked about. And we are under discussions to look at how we want to evolve our brand into the future. And as we come into future quarters and we're doing that work, we will have more discussions with you about the evolution of our brand.

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Peter Jacob Keith, Piper Sandler & Co., Research Division - Director & Senior Research Analyst [36]

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Okay. And I wanted to ask a financial question for Nancy. Just going back to the tariff exclusion. So if we understand there was $13 million of benefit from recoveries. And then there was a portion of $12 million from reduced carrying cost. Can you help us understand maybe what amount of that $12 million was recognized in the fourth quarter, so we can understand what's going to flow through into 2020?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [37]

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Well, the $13 million was reflected in -- on the income statement and the $12 million was a reduction in our inventory costs, which, based on what you saw year-over-year reduction, that's the combination of what Charles just talked about, as well as those reduced costs from the inventory.

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Peter Jacob Keith, Piper Sandler & Co., Research Division - Director & Senior Research Analyst [38]

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So the product sales -- value to the product sales started in December on that reduced inventory. So that's why I was thinking it was only a partial benefit in Q4. So is it a partial benefit? Or was the full $12 million reflected in Q4?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [39]

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Well, as it went back to September of 2018, approximately 80% of the benefit we received in Q4 was related to historical periods. 20% roughly went into the actual quarter itself.

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Peter Jacob Keith, Piper Sandler & Co., Research Division - Director & Senior Research Analyst [40]

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Okay. And then lastly on that, I guess there has been some questions around what's going to drive your EBIT margin this year because I think it's coming in better than what The Street expected. The challenge, I think, is -- would be in Q4 of lapping this large, sort of, we'll call it onetime benefit. Is there any consideration on how you get over that hurdle with Q4? Or should we certainly plan for Q4 margins to be down in 2020?

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Nancy A. Walsh, Lumber Liquidators Holdings, Inc. - CFO [41]

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Well, again, I'm not really going to break it out by quarter. But when we talk about the previous 12 to 18 months and all the efforts that we are putting into cost reductions just about the time that the tariffs were hitting, that kind of masked the work that we had done. Now that those tariffs have been excluded, we're seeing really what we consider our real run rate. And there may be some fluctuation throughout the year based on some of the information that you're talking about on a quarter basis. But again, if you look at the full year for '19, we believe, because we've gone in and negotiated the cost reductions and really tried to make the supply chain efficient that, that represents a good run rate for us.

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Operator [42]

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(Operator Instructions) Your next question comes from the line of Jon Winick with Clark Street Capital.

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Jon Winick, Clark Street Capital Management, Llc - Chief Executive Office [43]

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Great turnaround. Just had a quick question. If you could delve a little bit more into the process of hiring a new CEO, timing and so on. I just want to get a little more color on that. And if you could give us any insight on Dennis's departure.

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Nancy M. Taylor, Lumber Liquidators Holdings, Inc. - Independent Chairman [44]

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This is Nancy Taylor, again. So we are -- as I said in my remarks, we're early in the process. We have retained the search firm. It's difficult to say at this point how long that process will take. Certainly it will be quite a number of months. And there's not really a lot for me to add regarding Dennis's departure. Again, we're very appreciative of all the heavy lifting that Dennis did while he was here as the CEO. And as we mentioned, I think we feel like it's a good time to transition to new leadership.

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Jon Winick, Clark Street Capital Management, Llc - Chief Executive Office [45]

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And are you thinking it's going to be an external candidate, most likely, or is it too early to call?

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Nancy M. Taylor, Lumber Liquidators Holdings, Inc. - Independent Chairman [46]

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No. We are doing a thorough search, and we are considering internal as well as external candidates.

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Jon Winick, Clark Street Capital Management, Llc - Chief Executive Office [47]

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Including Mr. Tyson?

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Nancy M. Taylor, Lumber Liquidators Holdings, Inc. - Independent Chairman [48]

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I'm not going to comment specifically on candidates.

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Operator [49]

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Ladies and gentlemen, we have reached the end of the question-and-answer session. And I would like to turn the call back to Mr. Charles Tyson for closing remarks.

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Charles E. Tyson, Lumber Liquidators Holdings, Inc. - Interim President, Principal Executive Officer & Chief Customer Experience Officer [50]

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Thank you, operator. I'd like to thank all of our fantastic associates for their hard work during 2019, and our vendor partners for their continued support. Again, I'm honored and privileged to take on my interim role and lead our strong organization into new heights and delivering against our goals for 2020. Thank you, again, for your interest in Lumber Liquidators, and we look forward to updating you on our progress next quarter. Have a great day.

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Operator [51]

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This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.