Will Kirkland's Continue Gaining From Sales-Driving Efforts?

Kirkland's, Inc. (NASDAQ:KIRK) sales-driving efforts having been a saving grace for the company, which is otherwise troubled by escalated costs. Amid the cost woes, this Zacks Rank #3 (Hold) stock has managed to return almost 5% in the past three months, when the industry was down 8.8%. Clearly, the company’s impressive top-line trend is worth deeper analysis.



Solid Top-Line Trend

Kirkland’s sales have been improving year over year for twelve straight quarters now. In third-quarter fiscal 2018, net sales increased 6.6% year over year. The company has been gaining from its efforts to develop e-commerce business and constant store additions. Kirkland’s has been taking various strides in this regard to resonate with the changing consumer trends. Incidentally, the company has redesigned and leveraged the rollout of new information systems to improve online purchase and planning execution.

These efforts have been yielding significant results, evident from the strong e-commerce momentum witnessed lately. Notably, e-commerce sales rallied 23% to $18.8 million year over year and represented about 12% of Kirkland’s total sales during the third quarter of fiscal 2018. This was backed by robust improvements in website traffic and average ticket. In fact, sturdy e-commerce fueled comparable store sales (comps), which inched up 1.4% in the quarter compared with a 0.7% rise in the prior-year quarter. Although traffic trends in the company’s brick-and-mortar stores were soft, it witnessed an improvement from the previous quarters.

Further, sales from third-party drop-ship channel provided an impetus to e-commerce revenues during the quarter. Going ahead, Kirkland’s is expected to continue expanding its third-party partnerships, improve its ‘buy online and pick up in store’ capability and further refine its fulfillment processes. Management has been progressing strongly with augmenting efficiency across e-commerce fulfillment center.

Moving to store optimization, Kirkland’s is closing the smaller underperforming stores in the malls and expects to open bigger off-mall stores at popular locations, which are likely to boost sales. During the third quarter, Kirkland’s introduced six stores and had no store closures, taking the total count to 432 stores at the end of the third quarter. In fiscal 2018, management intends to open nearly 25 stores.

Will Margins Deter Growth?

Kirkland’s gross margin has been declining for a while. Well, gross margin plummeted 120 basis points (bps) during the third quarter of fiscal 2018. This was driven by a reduction of 30 bps in merchandise margins, stemming from increased inbound freight costs and store occupancy costs deleverage. Gross margin witnessed declines of 140 bps and 50 bps in the second and the first quarters of fiscal 2018, respectively.

Further, Kirkland’s has long been incurring higher store occupancy costs now. This was also witnessed in third-quarter fiscal 2018, wherein such costs rose 80 bps. Also, the company witnessed a 20 bps increase in outbound freight costs (including e-commerce shipping) as a percentage of sales, thanks to greater e-commerce penetration. Persistent drop in gross margins combined with high operating expenses is a considerable threat to the company’s profitability.

Nevertheless, management is committed toward making efforts to attract more customers both online and in stores along with boosting operating and supply-chain efficiencies. In fact, the company expects sales for fiscal 2018 to rise 3-4%. We expect these upsides to continue helping the company provide cushion against cost hurdles and fuel growth in the stock.

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