Second-Quarter Upside Likely For Williams-Sonoma

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Williams-Sonoma will report second-quarter (July) results after the markets close on Wednesday. We are comfortable with our $0.53 EPS estimate (7% growth), which is in line with consensus and moderately above the $0.49-$0.52 guidance, and we believe that upside is likely. Still, we believe that investors generally are also expecting some upside to these consensus figures as well as relatively solid third-quarter guidance. We have projected comparable-brand revenue growth (which represents a weighted blend of comparable-store sales and direct channel sales) of 6.5%-7.0%, which is moderately ahead of the 6.2% consensus and above the 4.0%-6.0% guidance.

Our estimate represents deceleration relative to the first quarter, due in part to a more challenging prior-year comparison. Government data suggests that growth in consumer spending at home furnishings specialty retail stores decelerated sequentially during the July quarter, likely due in part to a tougher prior-year comparison. Data from comScore (SCOR $38.58) suggests low-teens ecommerce growth in furnishings-related categories, similar to the April quarter despite a tougher comparison; we expect Williams-Sonoma’s direct channel sales growth to continue to outstrip the broader category’s online trends. We expect growth to continue to be led by the company’s primary furniture/furnishings brands, Pottery Barn and West Elm.

We estimate that these brands continue to benefit from strong merchandising and a robust omnichannel presence. We forecast that the more competitively exposed Williams-Sonoma brand is likely to continue to show a lower growth rate than the furniture businesses, although we estimate that the Williams- Sonoma brand is experiencing materially better trends than in 2012 and much of 2013 due in part to a re-energized selling culture and greater marketing emphasis on differentiated products and services. We estimate that the operating margin declined 30 basis points year-over-year in the second quarter, reflecting a modest gross margin decline (due to lower selling margins amid a competitive promotional environment) and a higher operating expense rate (reflecting investments in supply chain and global expansion). We view the current consensus for third-quarter (October) EPS of $0.66, which represents 14% growth, as reasonable.

There is no change to our 2014 EPS estimate of $3.20 and our 2015 EPS estimate of $3.62 (both essentially in line with consensus). We view Williams-Sonoma’s overall execution as strong. While valuation is not as big a part of the investment case as it was one to two years ago and may leave limited margin for error in the near term, we believe that Williams-Sonoma can represent a “beat-and-raise” story more often than not and that the shares could benefit further from an improving housing market, a continued mix shift toward the direct channel (which should enhance operating margins and ROIC), continued improvement in the Williams-Sonoma brand (a more compelling and exclusive merchandise and services offering, an enhanced selling culture), and a still largely untapped international expansion opportunity (which could ultimately be as large as the United States).

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