Lovesac Co (LOVE) Q1 2021 earnings call dated Jun. 09, 2020
Corporate Participants:
Rachel Schacter — Investor Relations, ICR
Shawn Nelson — Chief Executive Officer
Jack Krause — President and Chief Operating Officer
Donna Dellomo — Executive Vice President and Chief Financial Officer, Treasurer and Secretary of the Company
Analysts:
Tom Forte — D.A. Davidson & Co. — Analyst
Brian W. Nagel — Oppenheimer & Co. Inc. — Analyst
Maria Ripps — Canaccord Genuity — Analyst
Matt Koranda — ROTH Capital Partners — Analyst
Camilo Lyon — BTIG Research — Analyst
Alex Fuhrman — Craig-Hallum Capital Group — Analyst
Presentation:
Operator
Greetings, and welcome to the Lovesac’s First Quarter Fiscal 2021 Earnings Call. [Operator Instructions]
I would now like to turn the conference over to your host, Ms. Rachel Schacter with ICR. Thank you. You may begin.
Rachel Schacter — Investor Relations, ICR
Thank you. Good morning, everyone. With me on the call is Shawn Nelson, Chief Executive Officer; Jack Krause, President and Chief Operating Officer and Donna Dellomo, Chief Financial Officer.
Before we get started, I would like to remind you that some of the information discussed will include forward-looking statements regarding future events and our future financial performance. These include statements about our future expectations, financial projections and our plans and prospects. Actual results may differ materially from those set forth in such statements. For a discussion of these risks and uncertainties, you should review the company’s filing with the SEC, which includes today’s press release.
You should not rely on our forward-looking statements as predictions of future events. All forward-looking statements that we make on this call are based on assumptions and beliefs as of today, and we undertake no obligation to update them except as required by applicable law.
Our discussion today will include non-GAAP financial measures, including EBITDA and adjusted EBITDA. These non-GAAP measures should be considered in addition to you and not as a substitute for or in isolation from our GAAP results. A reconciliation of the most directly comparable GAAP financial measure to such non-GAAP financial measure has been provided as supplemental financial information in our press release.
Now I’d like to turn the call over to Shawn Nelson, Chief Executive Officer of The Lovesac Company.
Shawn Nelson — Chief Executive Officer
Thanks, Rachel. Good morning, everybody, and thanks for joining us today. I will begin my remarks by providing an overview of the company’s continued response to COVID-19 followed by a summary of our performance for the first quarter. Then Jack Krause, our President and COO will discuss the operational highlights of our fiscal ’21 first quarter performance and progress being made on our key initiatives against the current backdrop. Donna Dellomo, our CFO, will then review our financial results and a few other items related to our outlook.
I want to offer some quick thoughts on the ongoing tumultuous events in our country. Of course, we have previously addressed the COVID-19 pandemic on both a human level and in terms of the impact on our business. We are so grateful for the first responders, healthcare workers and essential workers who are on the front lines of this battle. We love and appreciate you and are committed to doing all we can to continue to lend our support.
Secondly, but no less importantly, the health and safety of our associates and customers continues to be our number one priority. To that end, all of our showrooms remained close for approximately half of the quarter beginning March 17 through the end of the first quarter. As customers spend more time at home, we responded with a rapid and successful pivot to a web-only model, resulting in very strong e-commerce performance in the face of showroom closures.
More recently of course, the nationwide civil unrest in the wake of the appalling Minneapolis event that tragically is not an isolated incident has caused further dislocation. Let me just say this, from the board room to the break room, we are heartbroken that the country continues to endure the painful legacy of racism, and we are eager for action to solve it.
As for the tangible impact on our business, firstly, we are grateful for our team members who are safe. We have not sustained the store damage, but the unrest has somewhat complicated our store reopening planning. Though it had not changed our fundamental approach, namely, as the economy begins to reopen and the unrest dissipates, we are going to approach our own re-openings in a measured manner adhering to local regulations and strict health and safety standards.
This means not being a leader when it comes to the pace of re-openings and instead deploying a phased re-opening plan, which Jack will discuss in more detail in just a moment. Not only is this the right thing to do for our associates and customers, but we are fortunate that the continued strength of our e-commerce performance affords us the opportunity to be far more deliberate in our approach to re-opening, taking into account myriad factors.
Turning to our Q1 results. We reported Q4 results a little over six weeks ago, and at that time provided detail on our Q1 quarter-to-date results through April 12. We are very pleased that the aggregate 400% e-commerce POS transaction dollar increase we saw post showroom closure through that date, as we referenced on our last call, was more than just a trend. It reflects a fundamental business advantage of a company with multi-channel selling discipline and logistical expertise in its DNA.
Through the end of Q1, we saw total company sales growth of 33% versus last year. This post showroom closure performance, particularly in the month of April, illustrates the strong customer appeal of our changeable, flexible, sustainable, upgradable and shippable Designed for Life seats and sides that are driving market share gains with Sac sales also showing strong growth of 63% and Sactionals of 33%. It also reflects the agility and execution of the entire Lovesac team who adopted swiftly to the rapidly changing operating conditions. And I want to extend my deepest appreciation to every one of our team members for their effort.
We are of course cognizant of the need to complement this top-line growth with the kind of operational excellence that yields sustained profitability and bottom line improvement. Our headwinds in this respect include, most notably, the impact of tariffs, which was the primary contributor to 110 basis point decline in gross margin versus last year before the tariffs were elevated to the current levels. I do want to reiterate that we have taken and will continue to take aggressive steps to mitigate tariff impact.
We are currently manufacturing the vast majority of our Sactionals inserts in Vietnam and Malaysia, regions that are outside the purview of the special tariffs. We are still manufacturing the majority of our sewn goods, Sac inserts to be imported and filled in Texas along with Sac and Sactionals covers in China. We are actively milling fabric for some of these items in Indonesia now and we’ll be doing some selling of these goods in Vietnam by the end of Q2 and receiving goods in Q3.
Of the production that still remains in China now, all first costs have been discounted significantly to mitigate much of the impact of tariffs. So we continue to see gradual recovery of the gross margin line even as we face some expected elevated costs in our distribution network, namely, FedEx rate hikes and near-term deleveraging as we expand to multiple warehouses.
Last quarter, we stated that we expect gross margin recovery from tariff pressure to take about eight quarters. We still expect the gross margin recovery, but given the unforeseen disruptions like the inability to travel abroad right now, which has slowed our resourcing efforts a bit in the nearest term as well as some movements in timeline for our warehouse initiatives caused by the pandemic disruption, the recovery may take slightly longer than we originally anticipated.
From a profitability perspective, our adjusted EBITDA loss of $5.7 million was only $1 million below Q1 last year despite having our entire showroom fleet closed for half the quarter. This reflects our proactive and purposeful steps in the wake of the pandemic to reduce our cost structure, preserve liquidity and run as lean as possible without compromising operational excellence. Importantly, our liquidity remained strong as we previewed on our call in April.
As of the end of Q1, we had $45.5 million in cash, no debt and $11.4 million in availability under the line of credit. During the quarter, we focused on reducing expenses, working capital and capital expenditures, as Donna will discuss. We continue to prioritize cash preservation, which combined with our strong liquidity, provides us with the financial flexibility to continue to successfully weather this period.
Thus far in fiscal Q2, we have reopened 89 of 91 showrooms as of today in some format, many are still virtual or appointment-only. We are in continued conversations with landlords where showrooms are still closed and our conversations have been productive. In terms of shop in shops and pop-up shops with Costco, Best Buy and Macy’s, none are open within markets where these retail partners have re-opened their stores.
However, regardless of the pace at which showroom and shop in shops reopen, we continue to believe that we are very well positioned with the current environment and beyond given the unique attributes of our company and business model, including number one, our strong balance sheet and financial position. Number two, our evergreen shippable product offering that resonates during this time and lends itself particularly well to a DTC-only environment. Number three, a very flexible marketing budget with no long-term advertising contracts in place that is enabling whatever pivots may be necessary as the environment changes. Number four, an agile and lean operating model. Number five, a diversified sales channel that allows us multiple high return options to expand our brand reach.
These attributes continue to serve us well. And so far in Q2, we are seeing an acceleration in the April business trends I discussed, driven in large part by the success of our Heroes campaign as well as overall demand. However, it is impossible to predict how long this demand surge may last. As I said earlier, we are focused on executing against our key strategic priorities and positioning Lovesac for continued market share gains, irrespective of the macro backdrop.
Before turning the call over to Jack, I want to again thank all of our employees for their hard work, seamless execution and continued commitment in serving our customers in a challenging and evolving environment. We are grateful for all of their efforts that have contributed to our financial and operational performance during these unprecedented times.
And with that, I will turn the call over to Jack to discuss our plans and navigate the current environment and the recovery plan for FY ’21.
Jack Krause — President and Chief Operating Officer
Thank you, Shawn, and good morning, everybody. I’ll begin my remarks by elaborating on our continued approach to managing the COVID-19 pandemic, and then I’ll briefly discuss our plans for fiscal ’21. As Shawn said, the strength of our multi-channel model is illustrated in the 255% e-commerce increase in Q1 that enabled us to preserve more than all of our prior period sales in a post-COVID closed showroom environment.
We are pleased to have seen continued strength in our e-commerce channel performance so far in fiscal Q2. And with approximately 89 of our 91 showrooms opened as of today, June 9, we’re also very encouraged by the initial performance of showrooms in these early days of reopening. Our very effective Heroes campaign that kicked off in late March and ended a few days ago was a significant contributor in these strong results.
Moving to our response to COVID-19. Our efforts have remain centered around the three pillars that I outlined last quarter and executed by cross-functional teams across the organization, which allowed us to develop plans on a parallel path, ensuring an effective and rapid response. These pillars are; one, team health and safety. Two, business strength. And third, financial resilience.
The health and safety of our associates and customers remain our number one priority. Our headquarter staff continues to work from home and we are currently in the process of opening showrooms at a very measured pace and adhering to local and government regulation. We are implementing a three-phased approach to showroom openings. Phase one will be opening in a virtual environment, in which associates operate from showrooms without customer traffic. In this phase they respond to phone calls, chat online and fulfill Swatch requests as well as provide virtual demos to our customers. Phase two begins after two weeks of phase one. And if conditions permit in phase two, the showrooms will operate on an appointment basis, only allowing one customer at a time into the showroom. In phase three, we will open showrooms to foot traffic, while abiding by all locally mandated social distancing and protection standards. These phases will be based upon CD recommendations and local laws, and therefore, we may have showrooms revert back a stage of local conditions require increased restriction.
On the business strength front, we continue to leverage our DTC model and adapt to the current environment. Full-time associates of closed showrooms continue to be active with customers using digital platforms such as Podium to help guide customers through the buying process from remote locations at home, serving as remote-based customer service agents for their trade areas. These associates have been incredibly nimble and have continue to generate more than enough revenue to cover their payroll during this period.
Going forward, we fully expect to leverage our associates utilizing a far more trade area approach to serving customers across all channels as we navigate a return to a new normal. Over the last nine weeks, showroom teams have conducted more than 80 Facebook Live sessions with 278 peak viewers on average. These sessions combined with post-engagement is equivalent of performing 1.2 million product demos. In addition, our showroom teams have averaged 195 plus unique web chat a day since installing the Podium widget on the website and averaged 1.1 million in sales per week from web chat alone.
On the marketing front, we continue to increase our communication focus on the Lovesac value-added services, including free shipping returns, risk-free trial periods and increased availability of swatches. Also, in recognition of the incredible contribution of our essential workers, we launched our Heroes campaign in the first quarter, which started on 4/3/20 and ended on 5/31/20 with the redemption period still continuing through middle of this June. This campaign has offered 40% off to all frontline workers and has seen very strong traction.
In terms of marketing mix, we continue to be pleased with increased efficiency of Lovesac on Pinterest, Instagram and our search campaigns as well as a jump in conversion rates associated with our email and digital marketing programs. Additionally, as we continue to see significant increases in traffic to our website, we are pleased that website conversion has also increased, leading us to believe that we are attracting a much more targeted and engaged visitor.
Donna will discuss the financial resilience in a moment, but to reiterate Shawn’s comments, the quarter has been off to a very strong start. We remain very comfortable with the liquidity position, with our debt-free balance sheet and over $45 million in cash. This is a testament to the core appeal of our platform as consumers focus more on their homes as well as the flexibility, adaptability and the dedication of the entire Lovesac organization.
As we look ahead, the current environment continues to evolve on a daily basis. And it’s hard to determine the duration of the strength in demand that we have seen, but we are staying flexible. We’re also not losing sight of our strategic priorities. While the timeline for each may be altered as circumstances dictate, we remain focused on key priorities, which are one, product innovation. We are excited about the new product launches in the pipeline that will be additive to the Sactionals platform. We’re continuing to evaluate the appropriate launch timing, which had originally been slated for this fall, but will likely be pushed into the early calendar of ’21 given the macroeconomic environment.
Two, utilizing effective and efficient marketing strategies. As we have discussed, our ability to rapidly pivot to a DTC-only model during this crisis has been very effective. We remain both agile and disciplined with our marketing efforts and are focused on maximizing ROI, which we are pleased we were able to achieve across channels. In addition, our successful Heroes campaign we saw strong results from paid search, social media, digital remarketing and our affiliate program. Many of you have likely seen our TV ads, and I’m pleased to share that our TV ROIs since starting the ads in early May have been very strong. This improved performance has been driven by rates, which have been lower than expected as well as strong and engaged web traffic.
Third, store openings and new showroom plans. Already discussed our approach to showroom re-openings, the range of potential new showrooms this year is likely to be between 15 and 18 as we’ve been working with landlords to adjust and continue to expand our footprint. Four, operating Costco pop-up shop locations and test shop in shops with Macy’s and Best Buy. While we have little in the way of updates due to COVID-19 pandemic, we remain optimistic about our prospects with all of these important channel partners, while continuing to explore the shop in shop format with other retailers given the positive results we have seen thus far.
Lastly, we continue to make disciplined investments in our infrastructure, including technology and supply chain. On the supply chain side, we opened our third-party Manage California warehouse in February and our continuing to ramp up operations and expect to be operating 150,000 square feet of space by August. This combined with the planned opening of our East Coast warehouse late this fiscal year or early next fiscal year is expected to help drive reductions and freight costs as we head into fiscal ’22.
In addition, we are engaged in a multi-phase project to launch a supply chain management system, which will drive efficiencies in planning, production management and order fulfillment functions. This will begin in the second quarter and will be completed by the first half of fiscal ’22. We expect to see benefits in phase one including visibility of tracking, demand planning and forecasting, which will positively impact our ability to execute with excellence in the fourth quarter of this fiscal year.
So we’re very pleased with how the business has performed as we continue to adapt to the challenges of the current environment. Importantly, we could not be more proud of the entire Lovesac team and how they have continue to demonstrate great resilience throughout this period. As encouraged as we are by the strong e-commerce trends we’ve seen in this environment, we do expect a moderation given that our Heroes campaign I discussed earlier has ended and as our showrooms continue to reopen.
While there is some uncertainty on how sales will trend as states reopen and consumers adjust to the evolving economic realities, we are confident that the unique advantages of our business model will continue to serve us well and in combination with the disciplined execution of our strategic priorities, position us well to build on our market share gains.
With that, I will turn the call over to Donna to review our Q1 financials and provide a quick summary of the financial resilience teamwork. Donna?
Donna Dellomo — Executive Vice President and Chief Financial Officer, Treasurer and Secretary of the Company
Thank you, Jack. Good morning, everyone. I will begin my remarks with a review of our first quarter results and then provide a framework for how we’re approaching the remainder of fiscal 2021. The 32.8% increase in net sales to $54.4 million was driven by triple-digit growth in our Internet channel, along with an 11% increase in our other channel related to our shop in shop locations. This was partially offset by showroom revenue decrease due entirely to COVID-19-related temporary showroom closures. Please refer to our press release for details on our comparable sales performance.
Looking at our results for channels for the first quarter, showroom sales decreased 32.7% to $18.1 million. Due to COVID-19-related temporary showroom closures, Internet sales increased 255.4% to $30.1 million as a result of the successful pivot we made to focus on our e-commerce channel in a closed showroom environment. Our other channel, which includes our pop-up shops in Costco locations and shop in shops in four Macy’s and three Best Buy locations increased 11% to $6.2 million. This year-over-year increase was driven by Macy’s and Best Buy shop in shops, partially offset by a slight decrease in our Costco business as a result of the COVID-19-driven temporary fall to pop-up shop activities at Costco.
By product category, our Sactionals sales increased 33.4%, our Sac sales increased 63.3% and our other category sales, which includes decorative pillows, blankets and other accessories decreased 58.7% due to a decrease in sales related to certain sactional accessories and new platform product introductions like the Power Hub are now being captured in their respective Sactionals and Sac platform net sales figures.
The 110 basis point decrease in our gross margin was principally driven by the impact of tariffs, an increase in promotional activity, specifically related to our Heroes campaign and an increase in freight costs, which were partially offset by reduced product costs resulting from tariff mitigation, related vendor negotiations as well as the continued shift in product sourcing out of China to Vietnam and Malaysia.
As a reminder, the timing of our tariff mitigation efforts and increased shipping costs are driving this temporary gross margin pressure. And as Shawn said, we expect gross margin recovery over time. The 8.3% increase in SG&A dollars, excluding one-time items was driven largely by increases in infrastructure improvements relating to our e-commerce platform and an increase in selling-related expenses related to the increase in net sales. These increases were partially offset by a decrease in equity compensation expense.
SG&A as a percentage of net sales, leveraged 1,075 basis points as a result of the cost reduction measures, previously mentioned by Jack, as well as the decrease in equity-based compensation expense. The SG&A financial resilience measures we have taken so far had had a slight impact on the first quarter. The full impact of those measures will begin in Q2.
Our investments in advertising and marketing, which benefit extended periods increased $2.8 million or approximately 190 basis points to 15.1% of sales. The increase was driven by our focus on communicating important Lovesac value-added services such as free shipping, returns and risk-free trial periods as well as marketing investments for content production, product innovation and research spend in fiscal 2020, which was expensed in the first quarter of fiscal 2021. These first quarter 2021 expense production, innovation and research costs of approximately $750,000 were included in prepaid assets and other current assets on our balance sheet as of February 2, 2020.
Depreciation and amortization increased $570,000 from the prior year period to $1.6 million, principally related to capital investments for new and remodeled showrooms and infrastructure investments. In the first quarter of fiscal 2021, operating loss was $8.4 million as compared to an operating loss of $9.3 million in the first quarter of last year, driven by the sales increase and SG&A leverage I just discussed. Our net interest income for the first quarter was $56,000. Tax expense in the first quarter of fiscal 2021 and 2020 was not material and it was related to minimum state income tax liabilities.
Before we turn our attention to net income, net income per share and EBITDA, please refer to the terminology and reconciliation between each of our adjusted metrics and the most directly comparable GAAP measurements in our earnings release issued earlier today. Net loss was $8.3 million or a loss of $0.58 per share in the first quarter of fiscal 2021 compared to a net loss of $9.1 million or a loss of $0.67 per share in the first quarter of fiscal 2020. Adjusted EBITDA was a negative $5.7 million as compared to a negative $4.7 million in the first quarter of last year. The reason for the year-over-year decrease in adjusted EBITDA as compared to the year-over-year decrease in operating loss is related to the net reduction in adjusted EBITDA add backs, principally equity compensation.
Turning to our balance sheet. Our liquidity remained strong as we ended the first quarter with $45.5 million in cash and cash equivalents and $11.4 million in availability under our revolving line of credit with no outstanding debt on the revolver. This is better than expected by about $10 million as POS transactions exceeded our projections for Q1. Ending inventory increased 8.1% year-over-year, driven by higher sales and an increase in capitalized freight and warehousing costs related to tariffs and increased inventory levels. Free cash flow defined as cash from operations less capex was a use of approximately $2.7 million in the 13 weeks ended May 3, 2020 as compared to use of approximately $10.1 million in the prior year quarter. The year-over-year improvement was driven principally by an improvement in cash from working capital.
In terms of outlook, given the continued uncertainty around COVID-19-related disruption, we are not providing an outlook for fiscal ’21. As Jack and Shawn mentioned, we are pleased with the continued strong e-commerce performance we’ve seen to date as well as the performance of our showrooms in the initial days of reopening. However, we know that our Heroes campaign have redemption codes valid through June 14 has been a big driver of the strength and performance, and it’s hard to determine the duration of tailwinds like increased customer interest in home-related categories like ours.
We will continue to stay flexible and tightly manage our expense structure to revenue trends as we navigate the uncertainties of the current environment. Our quarterly operational cash burn for Q2 and Q3 of this fiscal year is expected to be lower than the corresponding prior year period and we expect to end our fiscal year with healthy cash balance and no borrowings under our line of credit. We still expect to generate cash from working capital this year through accounts receivable, inventory reductions relative to sales volume and vendor-approved extended payment terms.
Our expectations reflect that capex will be in the $12 million to $14 million range with 15 to 18 planned new showroom openings for the year. With the business trends we are seeing, our continued cost and cash management discipline, our debt-free balance sheet and strong liquidity position, we feel confident in our financial strength, our ability to successfully navigate the current environment and position Lovesac for a continued market share gain
With that, we would now like to turn the call back to the operator who can open it up for questions. Operator?
Questions and Answers:
Operator
Thank you. [Operator Instructions] Our first question comes from the line of Thomas Forte with D.A. Davidson. Please proceed with your question.
Tom Forte — D.A. Davidson & Co. — Analyst
Great. Thanks for taking my question. Two questions and I’ll get back in the queue. So the first one is, I wanted to know if you can give some additional thoughts in the new tools in your tool shed you’ve learned during the pandemic, such as essentially your telesales effort and how you may deploy them in the future when your showrooms are fully reopened?
Jack Krause — President and Chief Operating Officer
Hey Tom, thanks for the question. I’ll take that. This is Jack. I think it’s definitely changed our perspective on the way we look at our showrooms. And in fact, the nomenclature really inside the company really is in terms of moving from showroom employees to trade area employees. I think it has a dramatic impact on the way we think about a lot of things. So I think it has an incredible ability to make us more efficient as a company as we think about utilizing our largest pool of employees to flex up and down between service and sales and other activities. So it’s really been an eye-opener for us.
The other thing I think that’s been really an eye-opener for us is how quickly we can transform from a sort of a traffic-dependent company to a destination company. And when you do that, that opens all kinds of opportunities. So a lot of things we’re analyzing. Obviously, there is so many dynamics changing, but we see a lot of opportunities to continue to pursue in terms of changing the way we market and really leveraging our associates.
Tom Forte — D.A. Davidson & Co. — Analyst
Great. That’s wonderful news. And then my second question then I’ll get back in line is, can you talk about the financial state of your core consumer given we have 13.3% unemployment and your bad debt expense in particular or bad debt exposure in particular?
Jack Krause — President and Chief Operating Officer
Yeah. I think we don’t have a lot of insights right now, things have been changing so much. We obviously feel that within the context of our business, we know we have an affluent customer who does not appear to be in the immediate danger of being impacted by what’s happened in the last couple of months. However, it’s very unpredictable in the long run. But we feel we have the right target customer, we’re a premium brand. And so as much as that can help to insulate us, I think we feel good. But there are so many unknowns out there in terms of what’s going to happen in the next six months.
Tom Forte — D.A. Davidson & Co. — Analyst
Good. I have some more, but I’ll get back in the line. [Speech Overlap]
Donna Dellomo — Executive Vice President and Chief Financial Officer, Treasurer and Secretary of the Company
Hello Tom. And as far as bad debt, we have minimal, if any, exposure. The majority of our sales are done through credit cards, even our Synchrony Financial credit card, which is about 40% of our volume is the financial, we’ll say the financial burden is on Synchrony, we do not bear that burden. And our wholesale receivables are principally Costco. So we don’t feel that there is any risk there at all either.
Tom Forte — D.A. Davidson & Co. — Analyst
Great.
Operator
Thank you. Our next question comes from the line of Brian Nagel with Oppenheimer. Please proceed with your question.
Brian W. Nagel — Oppenheimer & Co. Inc. — Analyst
Hi, good morning. Very nice quarter. Congratulations on managing the tough environment really well. The first question I want to ask is, if we look at this continued surge in online sales, and I know it’s hard to break it out. You mentioned in the prepared comments the positive impact of the Heroes campaign. So maybe you could — one question would be the size that if you can better, because also as we look at — is there any way to know how the portion of customers that are coming new to the Lovesac brand? And then as you think about that, is that more the split between just kind of the overall shifting dynamic within retail as more people spending time at home versus some of the changes you’ve made to your own marketing going more digital?
Jack Krause — President and Chief Operating Officer
Yeah. I think there is a lot of — I’ll try to answer that question and Shawn and Donna, you guys [Technical Issue] here. I think there’s a lot of — number one, our new customer count was pretty dramatic in the first quarter. So we saw the highest level of new customer in terms of increase quarter-over-quarter that we’ve seen is since we’ve been recording it. So we saw almost a 50% — a 60% increase in new customers. So clearly, I think that indicates that during the disruption of the brick and mortar environment, we became a real go to. And I think obviously that disruption will be reduced in the next couple of months, but I think there are some lasting effects that will stay on it forever. So that happen now.
So we really have two groups of customers we’re talking about. We’re talking about new customers coming to us through disruption. And then we have groups of customers that we know put off purchases due to showrooms being closed. And as they open, we’re seeing those trade areas open as well. I think what this tells us is the way we’re thinking about this is that showrooms are always going to be important. Well, let me put it this way. Touch, feel points will be important for people who buy $4,000 to $6,000 products.
Knowing now that we can drive our business as a destination business redefines what a touch, feel point is, whether it’s a shop in shop, whether it’s a strip location, whether it’s even a person who does a demo at somebody’s house. We’re really opening our minds up in terms of what does it look like in terms of creating the touch, feel points that we need to have in an effective way and mix them with the marketing plan now that we know we can drive our business as the destination business.
So there is a lot lot up there and there’s a lot of tailwinds we’ve had too. So quite frankly, in the last couple of months, we’ve had lowered ad rates and increased interest obviously in nesting and increased returns on our e-com business. We don’t know what’s going to happen in the next couple of months in terms of the short-term dynamics, but we do believe the trends we’re seeing allow us to really be smarter as we go forward and think about our real estate strategy. We will continue to have shop in shops and showrooms, but I think we’ll be very aggressive in the way we think about negotiating in the future.
Brian W. Nagel — Oppenheimer & Co. Inc. — Analyst
And then the follow-up question I had, Jack is, and again, I know it’s early, but as you’re starting to reopen your showrooms and considering some of the adjustments you have to make now sort of say a post-COVID world, should we think — could there be any type of significant shift in the expense infrastructure of the showrooms?
Jack Krause — President and Chief Operating Officer
We don’t think there’s anything that I could say at this point. I think the answer is no. I think what we’ll do is in the way we’re thinking about our business and our service model and our showroom model, we will get an increased ability to leverage our expenses and to grow without raising the rates of labor as we go forward. So I think we’ll become more efficient as we grow. But other than that, nothing dramatic.
Brian W. Nagel — Oppenheimer & Co. Inc. — Analyst
I appreciate all the color. Thank you.
Jack Krause — President and Chief Operating Officer
Thank you.
Operator
Thank you. Our next question comes from the line of Maria Ripps with Canaccord Genuity. Please proceed with your question.
Maria Ripps — Canaccord Genuity — Analyst
Great. Thanks for taking my question. I just wanted to ask about your advertising and marketing spend. And so can you just maybe update us on your thoughts around brand spending in general? Do you still see that as a big opportunity for the company? And how should we think about the level and progression of ad spend as we move through the year? And then I have a follow-up.
Jack Krause — President and Chief Operating Officer
Thanks. In general, a couple of things. And I think, Donna mentioned in her script, there was a pretty big increase in spend over prior year in the first quarter and a lot of that had to do with prepaids moving out of last year into this year. So as we’re currently looking at spend, we’re still looking at a normalization around marketing spend to be anywhere between 10% to 13% of the total business. We’re not seeing a need for a dramatic change. In fact, ROIs are actually going up right now. So we’re in a real good place where we’re able to manage our spends very efficiently and getting higher ROIs actually in the first quarter than we have seen to date. So I think that bodes well as we go forward and see our business accelerating, but not having to depend on outside marketing growth.
Maria Ripps — Canaccord Genuity — Analyst
Got it. And secondly, did you have any online Costco events in Q1? And are there any sort of expectations for the rest of the year?
Jack Krause — President and Chief Operating Officer
I think we had one event, Donna? One event we will have. We’ll have online events with Costco. We are working with Costco in terms of our road show. Obviously with the pandemic, all kinds of organizations have changed their priorities. So Costco has changed some of their priorities and obviously their mixes and merchandising mixes have changed. So we’ve been put on hold with them. But in terms of the performance prior to the pandemic and our expectation go forward is that we will likely be re-engaging and getting that business going in the second half of the year. But I can’t give you any insights specifically.
Maria Ripps — Canaccord Genuity — Analyst
Great. Thank you.
Operator
Thank you. Our next question comes from the line of Matt Koranda with Roth Capital Partners. Please proceed with your question.
Matt Koranda — ROTH Capital Partners — Analyst
Hey guys, good morning. Thanks for taking the question. Just wanted to see if I could follow-up on some earlier questions. How important was the Heroes campaign in terms of sales mix to your Q1? And as that rolls off, do we replace that campaign with something else heading into Q2 and with the benefit from an additional campaign sort of accrue to the showroom or online side of the business?
Jack Krause — President and Chief Operating Officer
The Heroes campaigns was very important. As we look at May, it ramped up to becoming over 50% of sales for the high volume weeks prior to Memorial Day. So we do expect obviously to lose a percentage of that momentum as we come out of Memorial Day. We’ve reflected that in our internal plans and our spending. But we don’t foresee ourselves needing to depend on events like the Heroes event throughout the year. It may be something we do based on market conditions. But the one thing I would say is, we don’t see a need to — we don’t see discounts increasing in the second half of the year at any rate that would be any different than what you’ve seen thus far.
Matt Koranda — ROTH Capital Partners — Analyst
Okay. Then on the showroom or online front, in terms of accrual to the benefit of looks side of the business, where did you see, I guess, the biggest benefit? Obviously, I guess, it will come from e-com this last quarter…
Jack Krause — President and Chief Operating Officer
Yes. And I think — a couple of things I think. Yeah, online is definitely where the impact came in I think because there was obviously marketing focused on those target groups and the access online was dramatically higher than obviously showrooms. So I think proportionate to everything that happened in the quarter that was dramatically driven by online.
Matt Koranda — ROTH Capital Partners — Analyst
Got it. And then just on the showroom front, I know it’s sort of a choppy environment, but any help in terms of trying to triangulate how to model Q2 on showroom? I mean, maybe you can help us understand traffic trends, conversion at the showrooms that have been opened or re-comping up year-on-year for the showrooms that have been opened thus far? Any help on that front will be helpful.
Jack Krause — President and Chief Operating Officer
Yeah, it’s Super. This is like — I mean this is — we laugh internally. This is almost like business at the speed of gaming. So we had bit — week and a half ago, we had 40 something showrooms opened and up to what we had in June ’89. So there is a — and within those openings, there are series of — remember, they’re all in three phases. So there is some that aren’t even taking in traffic. So we can’t really measure traffic right now on at the showrooms.
We can tell you that the ones that are taking appointments, we are seeing some really interesting things going back along with our learnings. So the appointments, the showrooms that have gone into appointments have jumped up to having positive comps immediately, and all showrooms that have opened have taken the trade area trends significantly up. So it certainly goes back to say, look, showrooms are really, really important, they drive the trade area, they drive interest in the brand and we’ll just have to see what happens in the next couple of months.
Matt Koranda — ROTH Capital Partners — Analyst
All right, thanks. I’ll jump back in queue, guys.
Operator
Thank you. Our next question comes from the line of Camilo Lyon with BTIG. Please proceed with your question.
Camilo Lyon — BTIG Research — Analyst
Thanks everyone. Good morning. Shawn, I wanted to go back to some of the gross margin comments that you laid out in your prepared remarks. I think you talked about a lot of puts and takes to the gross margin component and culminating in what looks to be a little bit of a delay in the resumption of mid-50s gross margin target by the end of next year. Could you just provide a little bit more detail around the influencers to that and maybe where in this two year process do you see that delay occurring? Is it in this year or the back half of the year? Is it into next year? I’m just trying to get a little bit more precision around the comments that were made.
Shawn Nelson — Chief Executive Officer
Yeah, good question. We like — as mentioned on, I guess, in our scripts, we aren’t traveling abroad. And so that combined with other delays that were kind of obvious in terms of what’s been going on in the world as we were opening for instance our second warehouse on the distribution front domestically, we ran into the COVID-19 pullbacks and delays there. And so all of these things combined have just sort of kicked the can down the road a little bit for us. And so rather than commit to especially right now while it continues to be so messy in general, rather than commit to a number of quarters in terms of what that recovery looks like, we’ve chosen to just put out there that we still expect the same kind of recovery. It will just continue to be prolonged because of these sort of disruptions that are beyond our control and frankly beyond our ability to predict totally what’s around the next corner. But our first costs continue to improve on a continued basis. This is due to our resourcing efforts that haven’t been sorted, just sort of slowed down in certain aspects and in certain pockets.
And so as I mentioned, most of our Sactionals now which represent most of our sales are made outside of China. And we continue to make moves on the sewn goods in real time. So all these things are still happening. Certain pockets are just continuing to get pushed back. And sorry to be vague, but it’s impossible for us to at this point with everything as disrupted as it has been and unpredictable give much better guidance than we had put out there before.
Camilo Lyon — BTIG Research — Analyst
If I could just ask a follow-up on that. Are you seeing just the progression of sequential improvement is less than what you had anticipated before or that there will be some moments in the go forward period where gross margins could actually kind of revert back and take some sidesteps before starting to that — to get to that sequential improvement line?
Donna Dellomo — Executive Vice President and Chief Financial Officer, Treasurer and Secretary of the Company
Hi Camilo, it’s Donna. Yeah, just I’ll take the part on I guess if you want to use the term step back a little bit on gross margin improvement. Relative to building inventory, the investments that we’re making into additional space, I think, Jack has mentioned, by the time August rolls around 150,000 square feet of additional space we need to take, we will see that impact on gross margin in the second quarter. So quarter-over-quarter we are projecting a decrease, maybe double what we saw or right around double what we saw in the first quarter. So in contemplating and building and looking at your models, you probably want to take that into consideration. So on a step back, we’ll call it out there. And we are — in our internal models, again, we’re not giving guidance, but second quarter will be the quarter where we see the biggest year-over-year decrease in gross margin impact.
Camilo Lyon — BTIG Research — Analyst
That’s perfect. Thank you for that color. And just the follow-up I had, the second question I had was, you talked about your cadence of store showroom openings of 15 to 18. Donna, is there anything you can provide from that cadence throughout the quarters as to how we should model the openings and are you getting any rent concessions? It looks like you’re having very good negotiations with those landlords on these new openings.
Donna Dellomo — Executive Vice President and Chief Financial Officer, Treasurer and Secretary of the Company
Yeah. I mean, obviously, they didn’t happen in the — they’re not happening where we thought that they would originally happen in our model [Technical Issue] that they would be happening first quarter, second quarter, third quarter. So they are later in the year as far as how we built our capex spend on that 15 to 18 showrooms. So taking that into consideration and looking at your models, you’d see the capex spend, which happens after opening — well, it happens before, during and after opening building your models. But that was all contemplated in the limited information I provided on liquidity and our cash usage in Q2 and Q3 being slightly less than last year’s cash usage from operations.
Jack, do you want to mention something about rent concessions?
Jack Krause — President and Chief Operating Officer
Yeah. We’ve been fortunate. I think we decided to take a look. We believe in the value of our showrooms and the value of our relationships, obviously with the landlord. So we have basically at this point, I would say, without getting into details had concessions on about 70% — 60% to 75% of our — with landlords impacting 65% to 70% of the fleet and it’s really worked out. In addition to that in terms of new openings, yes, we have worked through concessions that help us open in a less predictable environment that are win-win, but they are different in different cases. So I would just keep it a little bit general that we’ve been very aggressive and being proactive and keeping our relationship positive with these landlords. And I think that’s what’s helped us to be able to say we’ll be opening a fairly heavy amount of showrooms in the second half of the year.
Camilo Lyon — BTIG Research — Analyst
Fantastic. Good luck guys. Thank you very much.
Operator
Thank you. Our next question comes from the line of Alex Fuhrman with Craig-Hallum Capital Group. Please proceed with your question.
Alex Fuhrman — Craig-Hallum Capital Group — Analyst
Hi guys. Thanks for taking my question, and congratulations on such a strong quarter during these difficult times. One thing I wanted to follow-up on is, I think, Jack, you mentioned during the the Q&A that your showrooms that have now reopened for appointments, and I know it’s still early and it’s only such a small number of showrooms, but considering showrooms were the majority of your revenues last year, I feel like it is important to kind of drill into whatever it is that you are seeing now. Are you seeing that as your showrooms reopen at least on an appointment basis is the lift you’re seeing? Has it been pretty uniform across the country or are there certain regions or certain impact, perhaps places that have been impacted more or less by the virus that have come back quicker? Just curious what you’re seeing and what we could perhaps expect to see as more of your showrooms start to move through the three phases of reopening that you’ve laid out?
Jack Krause — President and Chief Operating Officer
Pretty good. What I’ll say, and it’s sample sizes and the timeframes are so strange and dynamic, it’s literally the amount of showrooms that were open to appointments doubled in three days. So we got to be really careful about how we talk about it. But what we are seeing is the showrooms that have been opened to appointments the longest and have started to engage are basically filling out their appointment books to the maximum level and are seeing conversion rates that are three times to four times what we’ve seen in the past. And obviously, when you do appointments, that’s what happens. But I think it’s starting to enlighten us back to the idea of the showroom is a place to engage and convert and feel the product, not necessarily a source of awareness in the future.
And I think what we are seeing and getting amazing feedback from our associates is the one-on-one engagement is creating possibly a better brand experience. So there are a lot of silver linings we’re trying to work out through this process. We don’t know what the new normal will be with traffic relative to conversion, but our — I think the high side of that is that we don’t believe the new normal the way we operate we will be disadvantaged at all because we do believe people will go to showrooms and continue to go to showrooms. But the showroom maybe one out of three visits and two out of three may be online and that’s just fine for us.
Alex Fuhrman — Craig-Hallum Capital Group — Analyst
Great. That’s really helpful. And then just a quick follow-up if I could. I’m curious where all of the leads for these appointments have been coming from? Is it mostly people that have been interacting with your customer service online? I noticed that you’re not exactly hanging big grand opening banners of we’re back open, come to the store, which certainly seems smart. So just curious, where you’ve been getting this pipeline of appointments coming from? And if you think that can last through the year?
Jack Krause — President and Chief Operating Officer
Yeah. I think it’s two areas, I think. One is obviously there will be a boost in the short run of pent-up demand by people who’ve had been engaged with a showroom employees and basically got their decision. And we know at some point, roughly six weeks ago, 30% to 40% of our — we had 30% to 40% of our people who have been in showrooms are holding off the purchase because they wanted to come back. So we know we’re going to get that lift. However, we are seeing significant increases in our ability to use the Podium and the digital chatting to talk to our customers.
So literally, what — I think I described it last time, but literally it enable the customer someone is going online in their area to talk to the showroom leader and that showroom leader can set up an appointment with them through a chat and then basically start the relationship there and bring them into the showrooms. So I think the power of the chat has really surprised us in the way it synergizes with e-commerce as well as just even making appointments is continuing to please us. So a lot of positives out of it, but we just don’t know how it’s going to work as things start to settle down with the post-COVID economy.
Alex Fuhrman — Craig-Hallum Capital Group — Analyst
Sure. That makes sense. Thank you very much.
Operator
Thank you. Our next question is a follow-up from the line of Thomas Forte with D.A. Davidson. Please proceed with your question.
Tom Forte — D.A. Davidson & Co. — Analyst
Great. So two quick follow-up questions, and everyone please stay well. So for my two follow-ups. I want to know if your new product roadmap is still too big innovation for the year, that’s the pace? And then second, on by appointment retail, you already have a pretty light labor model, but will that change your labor model at your showrooms?
Shawn Nelson — Chief Executive Officer
Yeah. So on the innovation front, the cadence that we have been trying to set internally was a couple of small innovations per year and hopefully a bigger innovation every year or so they will what — they will take us into an either a new expand our total available market. We see it or expand into a demographic or customer base that’s new to us. And so we are still working on how the balance of this year shakes out.
We have teams for a long time that we expected to launch one of our — What we think of is one of our more important innovations later this year. And for us that’s kind of still on the bubble based on what’s happening in the world. And the good news is, as I’ve said before, we’re not too concerned about ultimately whether the timing of that specifically because we had in our own plans no revenue associated with the new product launch for this year, it was more about being a soft launch and getting it out there and really becoming part of the sales mix for the balance of this year. And I’ll let Jack answer your second question.
Jack Krause — President and Chief Operating Officer
Yeah. The labor model question is an interesting. I can’t give you a lot of detail on other than to say is with that change from a showroom perspective and employee to a trade area, it makes us think a lot more I think creatively in terms of applying our associates to — and having full-time associates that can flex to do chats when traffic in showrooms is low or do other things to counterbalance what they’ve experienced within the foot traffic driven environment allows us to think about things incredibly differently. So we’re still trying to understand how to maximize our employees as we go forward.
Tom Forte — D.A. Davidson & Co. — Analyst
Great. Thank you.
Operator
Thank you. Ladies and gentlemen, that concludes our question-and-answer session. I will turn the floor back to Mr. Nelson for any final comments.
Shawn Nelson — Chief Executive Officer
Yes. Thank you to all of our shareholders, and especially to our incredibly capable and diverse Lovesac family of associates across the nation who continue to show great passion every day as we navigate through this time period. This is the driving force that continues to enable our organization to thrive even in these turbulent times. At Lovesac, our essence of our five guiding principles is love matters. Love is in our name. It’s painted over our doorways and we wear it on our t-shirts. Love does not discriminate. We invite everyone to join our extended hashtag Lovesac family on social media and on our website. And we thank you for your support and look forward to chatting with you next quarter.
Operator
[Operator Closing Remarks]