Destination XL Group Inc (DXLG) 2012 Q3 法說會逐字稿

Good day and welcome to the Casual Male third quarter fiscal 2012 earnings conference call. Today's call is being recorded. At this time I would like to turn the conference over to Mr. Jeff Unger.

Good morning. Everyone, thank you today in joining us today for a Casual Male Retail Group third-quarter results call. On our call today is David Levin, our President and Chief Executive Officer; and Dennis Hernreich, our Executive Vice President, Chief Operating Officer and Chief Financial officer.

During today's call we will discuss some non-GAAP metrics to provide investors with useful information about our financial performance. Please refer to our earnings release which was filed this morning and is available on our website at Investor.CasualMale.com for an explanation and reconciliation of such measures.

Today's discussion also contains certain forward-looking statements concerning the Company's operations, performance and financial condition including sales expenses, gross margin, capital expenditures, earnings per share, store openings and closings and other matters. Such forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those assumptions mentioned today, due to a variety of factors that affect the Company. Information regarding risks and uncertainties are detailed in the Company's filings with the Securities and Exchange Commission.

Now I would like to turn the call over to our President and CEO, David Levin.

Good morning, everyone. Before we get started, I just want us to reach out to all our colleagues and customers, shareholders and the communities that were impacted by Hurricane Sandy. Our thoughts are with them during this difficult time of recovery.

Operationally, our stores in the Northeast continue to feel the effects of storm, and we expect our topline results for the fourth quarter to be lower than expected as a result. Customers in that region are still currently focused on other priorities. Dennis will provide more detail on our outlook later in the call.

On last quarter's call we discussed our Destination XL strategy and how we are accelerating that strategy to capitalize more quickly on the significant financial benefits that the DXL concept provides to our bottom line for the long-term. We are more aggressively opening DXL stores and closing our Casual Male XL stores.

As we execute against that strategy, we are seeing some very encouraging signs that this is the right course of action. But we also understand that we have a long way to go before the full transition to the DXL brand.

In the third quarter, our revenue and earnings were lower than we expected, due primarily to the mild fall weather that affected sales of seasonal apparel, and lower direct sales as we transitioned catalog customers to our more profitable e-commerce platform. At the same time, our DXL retail stores and direct sales through DestinationXL.com performed very well in the quarter with excellent comps.

Before I get too far into our results and strategic progress for the quarter, let me provide you with a quick review of what the Destination XL is all about.

Destination XL combines the offerings of our Casual Male XL stores with the designer names and quality clothing of our Rochester Big & Tall stores. Customers who have shopped at Destination XL absolutely love it. The stores are upscale and aesthetically pleasing and, most importantly, we design them around the needs of our customers.

This is essentially a new superstore concept that delivers the best shopping experience ever for big and tall men. The customer would have to visit at least two or three other stores to assemble the same wardrobe solutions that can be purchased at one DXL location.

Our DXL stores offer more than 2000 styles versus 600 in our traditional stores, more private label brands and more name brands. Very recently we begin selling Tommy Hilfiger with an exclusive launch in big and tall sizes at our DXL stores. The brand has already been selling quite well at our DestinationXL.com site.

Through DXL, our customers also have the opportunity to acquire name brands like Polo, Lacoste, Michael Kors, Robert Graham and many others. We are also offering a much greater selection of higher ticket price clothing than ever before, along with our made to measure custom tailoring service that provides an even broader variety of options for suits and dress shirts. One of the consistent results of the expanded selection and the higher ticket of our aspirational brands has been the average transaction at the DXL stores has been close to 40% higher than what our current Casual Male XL stores produce.

For all these reasons, Destination XL stores have been performing very well since we opened our first stores in 2010 and they continue to do so in the third quarter. Destination XL retail stores recorded 13.8% comp, compared with a flat comp for our Casual Male XL stores. The DXL stores that opened in 2012 were up 32% year-over-year. Those that opened in 2011 were up 14% and those that opened in 2010 were up 6%.

Those are very good numbers, given the absence of a marketing campaign. And DXL still only represents about 14% of our retail sales. So there's an incredible opportunity to increase our topline as we open more DXL stores and launch our new marketing campaign next year. I'll talk more about the development of that campaign for Destination XL in just a minute.

In addition to our retail stores, we have an excellent opportunity to drive growth through our direct channel. As a result of the transition going on in that channel, we have recently seen a short-term decline in our overall direct sales. In Q3 direct channel sales were down 3% year-over-year, entirely due to a 33% decrease in catalog sales. Our more profitable e-commerce sales were up 11% over the same quarter last year, and that is encouraging.

Even though our sales are down in the direct channel overall, profit margins are 200 basis points higher as we have been focused on more productive marketing. During the past few years, we have been scaling back on our catalog marketing by narrowing our catalog distribution. Our total circulation is down about 30% from a year ago with fewer customers receiving catalogs, fewer catalogs going to each customer and fewer pages in each catalog. Next year we will be streamlining the circulation even further, and we will become increasingly less reliant on the catalog as we build our direct business.

Of course, to begin growing the direct business again, which we fully intend to do, we need to continue to make progress on e-commerce. As I mentioned in the third quarter, our e-commerce sales were up 11%. Even though that increase was not enough to overcome the decline in catalog sales, we expect our overall direct sales to begin to grow once we optimize the marketing of our digital presence.

About a year ago we launched our DestinationXL.com website, where customers have access to all our brands and can shop by concept, brand, lifestyle, size or even price point. And already we have seen higher per-customer transactions for those shopping on the DXL site than those shopping on the Casual Male XL site.

As we discussed on last quarter's call, we are undergoing a total transition from our Legacy Casual Male XL retail catalog and online presence to the DXL concept. During the quarter we begin testing new marketing concepts and messaging around the DXL brand in five geographic markets, which include seven DXL stores. We are measuring our success through a combination of brand awareness, store and Web sales, traffic in new customers to the brand. And these tests will help us determine the right media and the right message to help us build our brand nationwide.

Our test markets include TV, radio and digital advertisements as well as in-store promotions. The creative concept behind the advertising campaign is that with DXL, bigger men have an alternative to shopping in a no-man's land where there are extremely limited choices of brands and styles in their sizes. I invite you to take a look at our TV, radio and digital concepts, which can be viewed at www.DestinationXL.com/marketing and on the investor relations tab of our website in the featured documents section.

Our TV effort, which was played primarily during primetime network television in the geographic test markets, also focuses on the concept that bigger men would have to shop in a vast wasteland until DXL. Our radio marketing is designed to drive awareness through the use of 30-second ads, DJ live reads, testimonials and remotes hosted in our stores. Our digital campaign includes general awareness banners, retargeting and key digital news sites. In addition, customers in all markets are being shown online video on sites like NFL.com and Yahoo!.

And in the DXL stores we're updating window graphics as well as signage in key areas to further reinforce our brands and campaign messages. Once we have the results back from these tests, we will complete the formulation of a new marketing strategy. Next year, when we expect to have a DXL store in nearly every major metropolitan market, we will plan to launch a national marketing campaign.

Our advertising test markets are already showing promise. Based on the small sample we have, we are seeing some nice improvement. For example, in those test markets we are starting to detect a smaller-waisted end-of-the-rack customer. And as we have mentioned before, attracting the 42-to-46-inch waist younger customer is a great growth opportunity for us, as customers within that size range represent 65% of the total big and tall market, yet it only represents 20% of our business today.

To build on that program, we are adding a new smaller top size in the spring that has a better fit than traditional tops for the smaller-waisted customer. And we have seen an increase in new customers overall in our test markets, so we are pleased with the test marketing results thus far.

In the last call, I mentioned a few key statistics from a recent analysis of the DXL customer funnel that are quite compelling and bear repeating. Only 17% of potential customers in our addressable market of men with a waist of more than 40 inches has ever heard of DXL. And those who are aware of DXL, only 8% are visiting the store.

However, of those who do visit a DXL store, 73% make a purchase and 89% of those that make a purchase intend to return. So those that are aware of the benefits of DXL love the store and intend to be return shoppers. So we have a real opportunity to leverage an effective marketing campaign to increase the awareness of DXL and, in turn, [grow] sales volume and profitability.

We are excited about accelerating our DXL strategy. Our DXL stores continue to do extremely well and our DXL e-commerce platform also is showing great promise. Adding a strategic nationwide marketing campaign to the mix will enable us to generate a great deal more of awareness among customers.

As we execute on the openings of the new stores over the next three years, we plan to grow our share of the end-of-the-rack customers, increase our overall dollars per transaction and expand our market share, and ultimately, substantially grow sales and achieve double-digit operating margins.

With that, I will turn the call over to Dennis to review our results for the third quarter.

Thank you, David, and good morning, everyone. I will start by reviewing our third-quarter results and then offer an update on our accelerated conversion to the DXL concept. I'll conclude with our updated guidance for the 2012 year.

In the third quarter, total sales were $88.7 million, essentially flat compared with the prior year. Comparable sales increased 1.5% versus the same period last year. Let me define what we mean by comparable sales.

Comparable sales for all periods include retail stores that have been open for at least one full fiscal year. Stores that have been remodeled, expanded or relocated during the period also are included in determining comparable sales.

Most DXL stores are considered relocations and comparable to all closed stores in each respective market area. Therefore, unless we have opened a DXL store in a new market, of which we have four DXL stores in new markets today, a DXL store is considered a comparable store. Direct businesses are included in the calculation, since we are a multichannel retailer.

With that said, sales from our retail business overall was up 2.5% for the quarter. Casual Male stores which are in close proximity to an existing DXL store location, however, continued to experience sales erosion, reporting negative comparable sales for Quarter 3 of approximately 4%. The other Casual Male XL stores, on the other hand, generated an approximate 1% sales increase.

The 31 comparable DXL stores experienced a 13.8% comparable store sales increase over the prior year, which is primarily responsible for driving the growth in the Company's total comp sales for the quarter. The success of our DXL stores is a great sign for our strategy in the long run, but a negative for our traditional Casual Male XL stores in the near-term. An important part of the Company's three-year DXL rollout strategy is to accelerate the closing of Casual Male XL stores within DXL markets, and maintain existing Casual Male stores until a DXL store enters the market.

Sales from our US direct business decreased 3%. Our direct business consists of two primary channels -- catalogs and our website, DestinationXL.com. The decrease in direct sales is being driven by the transitioning of our customers away from our traditional catalogs and toward our more profitable e-commerce website.

This was demonstrated during the third quarter as sales from our catalogs and call center were down 33%, and as David said, while sales from our website were up 11%. While our long-term plan has been to eliminate our legacy brand catalogs gradually as our customers convert to digital mediums, we have been reducing our current circulation and page counts in existing catalogs and increasing our spending in digital marketing.

In the third quarter the Company's catalog circulation was reduced by 30%, with an impression reduction of almost 50%. Although the decrease in our catalog sales has affected our direct business in the short term, we expect our digital marketing efforts will make up for the topline shortfall in the long run. In addition, as a result of decreasing our catalog circulation, we expect that our operating margins in our direct business will continue to benefit from this change.

In response to this new trend, we have intensified our digital marketing efforts that include e-mails, web searches, Internet banners and affiliate sales. We recently made further enhancements to the DestinationXL.com shopping website, introducing the acceptance of PayPal, one-page checkout, real-time customer feedback, improved merchandise assortment search by color and sports teams. Other enhancements to the shopping experience are planned for 2013 including improved international customer servicing, custom dress shirt capabilities and enhanced personalization. In addition, a mobile app is expected to be introduced in early spring.

For the third quarter of 2012, we reported a net loss of $1.6 million or $0.03 per share, which was flat with last year's Quarter 3. These results include incremental expenses of $3 million related to our DXL store growth initiative. The increased costs include approximately $0.2 million in preopening occupancy costs associated with our DXL store openings and approximately $2.3 million in SG&A expenses related to store openings, infrastructure and marketing costs. In addition, we had $0.5 million of additional amortization as result of our Casual Male trademarks becoming a definitive lived asset.

Our gross margin rate, inclusive of occupancy costs, was 44% compared with gross margin of 45% for the third quarter last year. The decrease of 100 basis points was primarily a result of a decrease of 40 basis points in merchandise margins, plus an increase of 60 basis points in occupancy costs.

Our merchandise margin was negatively impacted by an increase of approximately 6.5% in clearance markdowns compared with the prior year's third quarter. However, our inventory at the end of the quarter has approximately 12% less clearance merchandise at the end of the prior year's third quarter.

On a dollar basis, occupancy costs increased 3.2% over the prior year. This increase is largely due to the timing of the DXL store openings and the associated pre-opening occupancy costs incurred.

From a liquidity perspective, at the end of the quarter we had $5.2 million in cash and cash equivalents, and outstanding borrowings under our credit facility of $7.6 million with $64.4 million of available credit remaining. Third-quarter cash flow was a negative $12.9 million and is largely the result of the seasonal increase in our inventory. Our inventory levels at the end of fiscal 2012 are expected to be lower than last year's level by approximately $2 million to $3 million.

Now I would like to provide an update on the accelerated conversion plan for our Destination XL concept. Since the start of fiscal 2012 through Quarter 3, we opened 18 DXL stores. And we have already opened another five stores since the quarter end and plan to open an additional nine DXL stores by year end, resulting in 32 stores open in 2012 and a total of 48 DXL stores in operation by the end of the year. By that time we will have at least one DXL store located in most major metropolitan cities across the US.

We have done well in finding excellent real estate for our new DXL stores, and we plan to open another 63 locations next year, of which we have already selected sites for 55 of these stores. Three of the new DXL stores that were slated for late 2012 opening will instead be opened just after year end, in February 2013. We are continuing to target between 225 and 250 stores open by the end of physical 2015 to add to the Company's capacity.

To open DXL stores in accordance with our rollout plan, we have recently selected three outstanding national firms to assist us in the leasing, constructing and opening of DXL stores and the closing of Casual Male XL stores over the next three years, which will also enable our operations group to stay focused on managing the Company's go-forward retail stores. As we open more DXL stores, we will be closing existing Casual Male XL stores in each of the respective market areas, virtually leaving in place only our outlet channel stores of approximately 50. For physical 2012 we remain on target to close 69 stores and expect to close another 120 stores in physical 2013.

In the third quarter, DXL stores generated about 14% of our total retail revenue. We expect to approach 25% in the fourth quarter and reach nearly 50% of total sales by the end of 2013 on an annualized basis in our retail channel. We expect that the rollout will be mostly completed by the end of 2015, when we will see the full effects of a bottom-line benefit from DXL with significantly greater top and bottom line growth in 2016.

Sales per square foot in an average DXL store is expected to reach approximately $230 per square foot during 2016, and this compares to sales per square foot today of approximately $178 for this year. This DXL rollout is projected to approximate $150 million in costs, which will be funded for operational cash flow including the use of the Company's approximately $50 million in tax benefits.

With that I will give you our revised guidance for fiscal 2012. As David mentioned at the outset of the call, mild weather and lower direct channel sales affected our sales for the third quarter. In addition, the impact of Hurricane Sandy in our Northeast business will have a negative effect on our fourth-quarter revenues.

We had 109 stores close for various periods of time, for a total of 196 store days, as a result of storm in the Northeast including some of our highest volume locations. Several stores were damaged and we are still assessing the total impact that the storm will have on our quarter for sales -- or results.

As a result, we are revising our guidance for the full year of 2012. We now expect total sales to be in the range of $400 million to $402 million, which is based on a comparable sales increase of between 1.5% and 2%. We expect gross margin to improve 10 to 40 basis points for the year to between 46.4% to 46.7%, based on merchandise margins improving by approximately 70 to 90 basis points with the 50 to 60 basis point increase in occupancy cost.

SG&A costs are expected to increase by $3 million to $4 million to a range of $155 million to $156 million, primarily due to additional store payroll and advertising costs associated with the planned DXL store openings and expected bonus accruals. Included in this increase is approximately $2.5 million for an additional 53rd week in this year of 2012. As a percentage of sales, SG&A expenses are expected to increase over last year as a result of our DXL initiative by 30 to 50 basis points to between 38.7% and 38.9%.

Consolidated earnings per share from continuing operations are expected to be in the range of $0.17 to $0.20 per diluted share. We further expect cash flow from operating activities of about $38 million, resulting in free cash flow of just about $3 million. And we anticipate our cash balance to increase to approximately $13 million by the end of the year, with no borrowings outstanding under our credit facility.

Our capital expenditures for 2012 are still expected to approximate $35 million. These expenditures will be spent primarily on our planned opening of a total of 32 DXL stores in 2012.

This concludes my remarks. We will now take your questions.

(Operator instructions) Thomas Filandro of Susquehanna Financial Group.

It's actually Dave Grimner in for Tom. Just wanted to ask you a quick question on the marketing and advertising strategy. What was the variance in performance that you experienced in markets where you tested your new advertising strategy? And if you could, elaborate on what your go-forward plans for both holiday and 2013 in those markets?

Well, we are not really going to share any of the metrics that we are experiencing on the tests, because we just finished the test last week and now we are into a tail area where we are going to be monitoring the effects of after the marketing campaign, and plus we're going to be going out and surveying to determine what awareness levels we got. Again, we are very encouraged by what we're seeing.

As I said before, we are in seeing an increase in what we call new to file. That means customers who have purchased from us for the first time. We are seeing a shift in our size ranges, increases in those smaller sizes and generally an (technical difficulty).

We are going forward with the marketing campaign. Now it's a matter of analyzing the results that we are seeing in these markets to determine what the right mix is going to be, meaning what percent television, what percent radio, digital. These are all things that we will be analyzing over the next 60 days to put together our marketing campaign for next year.

Okay, thanks. And then if I could follow up, do you know what the marketing spend looked like this quarter and what it could look like in 4Q in 2013?

The marketing spend generally is pretty similar to what it was last Quarter 3 and Quarter 4. As we have been describing, we have been better optimizing our marketing spend in direct channel and diverting some of those funds to help us do these market tests in the DXL markets. So the marketing is not that different than what you have been seeing in the past.

Okay, thanks. And then one final one -- is there any meaningful brand introductions that we should be aware of, and during holiday season compared to last year?

As I mentioned, Tommy Hilfiger, which we think is in our sweet spot price point for us -- it's a very value aspirational brand. We've had it in the clothing side of our business, in other words, in suits and sport coats and shirts. And now we are just launching now. It is hitting our stores as we speak, the sportswear collection on Tommy Hilfiger. And again, we have an exclusive launch on this brand and we are very excited.

Beyond that, our house is pretty full of brands right now and we are very comfortable with the mix that we have. And virtually at this point, if we had any brand, we would have to figure out what brand would have to leave, because we have really rounded it out in a very broad, meaningful assortment with the key brands that are out there today.

Liz Pierce, ROTH Capital Partners.

David, on the e-commerce channel -- and if you said this I don't remember, I didn't get it written down -- are you actually seeing -- do you think this is a new customer? Or is a combination of just transitioning the existing customer? I was curious. And what are you seeing them buy?

Well, we have managed in the last year since the launch to move -- the majority of our customers are now going directly into the DXL site. And we continue to grow that piece as Casual Male and Rochester will slowly wind down, and at some point in the future will be the one brand.

But a lot of our traffic comes through natural search, where we are rated very high, to draw in those customers. So we are constantly getting new customers into the site. But again, most of that business is coming from transitioning our existing customers from the catalog into the Internet site, plus our store customers who also multichannel shop.

Okay. So you do not feel like you are dropping customers off. They are just converting, when you say the traditional catalog is down 33% -- so that's just -- they are just moving there, you are not losing them? You think you have been able to convert them?

Yes. Again, we took a very calculated long-term process of three years to wind down that circulation. It's going to go down again next year. Again, the cost of the catalog is over $1. An e-mail for us is a tenth of a penny, so the profitability is there.

I think what we're seeing now is we are running into the hard-core customer who is left, that catalog customer who is very comfortable with it, who will struggle moving into the Internet. But we have moved the majority. Again, it was only a few years ago when 75% of our sales were coming from the catalog and 25% from the Internet, and it has virtually flipped over in the right direction, as far as we're concerned.

Okay, good. That's helpful. That's was trying to get at, because I knew that so much of that before was really levered toward the traditional catalog.

And then in terms of the stores that are in the trade areas are being impacted by DXL, are they -- is it that the customers have just stopped shopping? Or is it cannibalization? If you could just help me understand what's happening there, and then maybe any kind of order of magnitude like how many markets that is?

It's 73 stores in about 30 markets, Liz. It's not that they just stopped shopping, because we are getting some sales volume in those stores. It's more they are doing their major -- tend to do their more major shops in DXL and then their more convenient shops in their local Casual Male store. And so, if that Casual Male store was not there, they would probably tend to do all their shops at DXL stores, and so that's where we are driving at over the next couple years in getting these Casual Male stores closed.

Right. And I think another positive is we're finding that the reach of these DXL stores is further than we even imagine. So these customers are willing to make the drive, and that's obviously very good long-term for us as we are going to end up with probably 200 less total stores than we currently have today, and that's really based on the encouragement than our customers are willing to take that extra drive to get into a DXL store.

I was always curious, David, like how far apart in those 30 markets that those DXL stores are. And is there any thought -- does it make sense to accelerate the closings or are you just -- stick with the original plans?

Well, the original plan has been accelerated.

Well, the plan that you announced in July -- sorry.

I think that's a reasonable three-year plan. We're going to close 120 next year.

It makes sense for us to close a store ahead of putting up a DXL store.

No, no, no -- it's (multiple speakers) in those markets where you have established the erosion, I was just wondering.

Those stores are slated to close over the next year or two.

Right. But no plans to accelerate that? That was my question.

No.

Okay, that's good. All right, great. Thank you. Best of luck.

(Operator instructions) Richard Jaffe of Stifel Nicolaus.

Thanks very much, guys, and I appreciate all the color; just trying to get a better sense or better view of the DXL store. The merchandise mix is obviously skewed to higher price points, so that explains the -- as you talked about the 9% fewer units, it is probably even more pronounced in the actual DXL stores, if that's the level for the corporate.

So, more dollars per transaction, you have talked about. Is there a traffic metric you could share with us that shows transactions or helps us back into how much better -- or the magnitude of the DXL business, compared to an existing store or just on an absolute basis?

The traffic in DXL's are -- well, when you have the -- there's the stores that we opened in 2012 and there's always a surge in traffic at the outset as the market is curious about a new DXL store. It then settles into a fairly moderate pattern, but it's primarily -- primarily we are converting our existing customer base over to a DXL. We are not necessarily gaining the kind of new customer traffic that we anticipate gaining once we start to advertise and the market becomes aware that a DXL exists.

And so, we are doing all of this additional business in these DXL markets without the assistance of any marketing, per se. And it's our Casual Male customers, primarily, which are enjoying the customer experience, buying more of their wardrobe with us. It's not just price point that they are stepping up to. It actually increased the size of the unit basket by some 20% as well.

So, the conversion of our existing customer base is excellent. And now with, hopefully next year with the national campaign advertising bringing market awareness to DXL, we expect to gain more new customer traffic going forward.

And in those five markets where you have been testing the new marketing effort, qualitatively could you comment on impact either to stores or to e-commerce or to membership in the rewards program (multiple speakers)?

There's a very clear and definite improvement in all of those metrics, some markets better than others. But there is a clear, definite change in the traffic pattern once the campaign started.

And when you say change, significant improvement?

Plus, positive improvement.

Double-digit, triple digit?

Not to say, at this point. Again, we are still -- we just finished the campaign. There's a halo effect after the advertising. This was not a discount coupon advertising. It was a brand advertisement.

Right.

And so the impact is still being felt in these markets and we would like to do a complete analysis and study including marketing awareness before we come out publicly and share with the investment community.

Do you think at year-end in fourth-quarter you'll be able to provide some more --

Oh, absolutely.

-- on the DSL business?

Not only that, but what we are planning on doing campaigning wise for 2013.

So, what the campaign will be for the marketing efforts that have worked best? Is that reasonable to expect?

Yes.

And just one more question -- how many rewards customers do you have? Is that something you can share?

Over 90% of our active customer base are members of our loyalty program.

How many people is that, roughly?

Well, that's roughly 1.3 million, 1.4 million.

1.3 million; and that's the 12-month buyer file at the same time?

Yes.

(Operator instructions). And with that, we have no further questions.

Well, I thank all of you for being on the call. I would like to end this by inviting you to visit one of our DXL stores. It's really hard to grasp the opportunity we have with DXL until you have actually been in the store, see it yourself and what we are offering these customers with this new concept.

So give us a call if you would like to inquire about a location, or we would be more than happy to give you a tour of our new concept. And we look forward to speaking with you next quarter. Thank you.

This does conclude today's conference. Again, we appreciate everyone's participation today.