Lands' End Inc (LE) 2015 Q2 法說會逐字稿

Welcome to Lands' End second-quarter 2015 earnings call.

(Operator Instructions)

As a reminder, this call is being recorded. I would now like to introduce Bernie McCracken, Chief Accounting Officer.

Good morning and thank you for attending the Lands' End earnings call for our second-quarter 2015 results. On the call today you will hear from Federica Marchionni, our President and Chief Executive Officer, and Mike Rosera, our Chief Operating Officer and Chief Financial Officer.

To begin our prepared remarks Federica will discuss our second-quarter revenue and margin performance and then Mike will provide additional details on our second-quarter performance. Federica will close with progress to date on key initiatives. After the Company's prepared remarks we will conduct a question-and-answer session with our covering analysts.

Please note that this morning we released our second-quarter earnings results which are now available on Landsend.com.

I would like to remind you that today's discussion will contain forward-looking statements related to future events and expectations. These statements are based on current expectations and the current economic environment or are based on potential opportunities.

Actual results may differ materially from those expressed or implied in the. Factors that could cause the Company's actual results to differ materially from those discussed are posted in the investors' information section of Landsend.com and in our most recent SEC filings.

Our discussion will also include certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures also can be found in the investor information section of Landsend.com. Any reference in our discussion today to EBITDA means adjusted EBITDA as defined in the earnings release.

Lastly we assume no obligation to update the information presented on this call except as required by law.

I will now turn the call over to Federica.

Thank you, Bernie. Good morning everyone.

While we made compelling progress on many key strategic fronts and laid the groundwork for future growth the second quarter was not a quarter without its share of disappointments. There were a few key factors that contributed to our results. Some were internal factors as the lower-than-expected consumer acceptance of our spring/summer collection which we are already addressing.

Some were external factors which require more flexibility such as highly promotional competitive environment. And consistent with prior quarters our revenue was also negatively impacted by macroeconomic headwinds and currency rate. Therefore we believe the results that we are sharing today do not represent the full potential of our Company.

Total revenues were $312 million which was a decrease of $35 million compared to last year as a result of sales decline in both the direct and the retail segments. Foreign currency rate impacted revenues by approximately $8 million.

We saw decline in performance in all our channels, online, catalog and retail shops mainly related to disappointing customer acceptance of our spring/summer collection and marketing initiatives. The assortment of which was committed to well over a year ago was largely off-trend and did not resonate with our consumers.

In women's, our largest category, the design of many of our products turned out to be off-trend. For example, we were overassorted in neat dress and in our popular comfort dress we oversold prints and patterns in the first quarter and were left with too many solid options in the second quarter.

The newness of our men's product was too fashion forward, resulting in sales decline in casual shirt, both knits and woven and bottoms, primarily shorts. And in footwear we did not have the correct product mix as our assortment did not meet our consumers' expectations. In a moment I will discuss in more detail steps we are taking to strengthen our merchandising offering beginning with spring/summer 2016.

Gross margin decreases by 220 basis points of which almost half was due to foreign currency rates. In the second quarter we tested marketing messaging aimed at driving higher full price product sell through and less discounted pricing. While this campaign led to higher margins and greater order value, sales decline due to the product challenges and highly promotional environment.

In the second half of the quarter we increased our level of promotion to be competitive in the marketplace and to reduce inventory level so we could start future quarter with a clean inventory position. This led to increased revenue and reduced our inventory although gross margin rates did decline.

Adjusted EBITDA despite cost savings decreased 35% as a result of lower revenue and gross margin. Our operating cash flow for the first half of the year was $3 million this year compared to $105 million last year. The change in cash flow is primarily related to increased inventory receipt resulting from a much lower beginning inventory this year in addition to lower earnings during the period.

Despite the challenges we had several key learnings in the quarter related to our marketing investment, the online shopping experience and our retail shops. We made significant strides in the second quarter on several key strategic initiatives on which I will elaborate shortly that we believe will have a substantial impact on future results.

In the second quarter we began to test some changes to our US marketing strategy as it relates to our catalog circulation. We believe we could be more productive in our issuance of catalog which will continue to be our main tool but with a higher performance rate.

A survey of our customers to better understand how they prefer us to communicate with them reaffirmed our strategy to reduce our catalog mailings. Our analysis shows that the reduction in revenue and gross profit due to these changes were upset by catalog expense savings.

Approximately half of the savings were reinvested during the quarter into digital marketing. Going forward our marketing strategy will be designed to increase our brand awareness, drive traffic, attract new consumers and increase conversions. We will continue to enhance the shopping experience and catalog acceptance, monitoring the results to identify the opportunities to reallocate our marketing investment into strategy which may provide higher returns and cut inefficiencies.

Since our direct segment represents our largest revenue channel we are focused on providing our loyal consumer and our new consumer a more compelling and simplified online experience to ultimately increase our conversion rate and average order value. In the second quarter we took an important first step by introducing an online feature which we feel makes the shopping experience more effortless and enjoyable. This alternative design offers a streamlined product index with an update product presentation.

The launch was completed on May 27th and was successfully accepted by our loyal consumer and through it we drove new customer acquisitions. We decided to fully revamp our website and we expect to reverse the negative trend faced in our previous quarter. In addition we believe the marketing tax performing in the second quarter set the foundation for more full price selling and higher-margin sales when the product enhancements are realized.

Lastly, we remain focused on increasing the sales productivity and profitability in our retail shops. At the beginning of the spring/summer season we initiated a program to better manage inventory in stock of best-selling products in our top sales volume shop at Sears. During the second quarter these shops outperformed the comp sales results of the lower volume stores.

In addition by the end of the quarter same-store sales at our top 75 volume Shops at Sears were trending positive. We will continue our emphasis on bestseller replenishment in the fall/winter season and look to expand the program to impact additional shops.

Notwithstanding a disappointing result we have firm grasp of the area of weakness that led to the decline in performance and we believe we are taking specific actions in the effort to address this concern for the future. As many of our actions to improve the business are in the early stage of implementation the second quarter did not yet reflect the results of this initiative. While the third quarter has already seen the beginning of some of our efforts we will continue to reinforce and amplify them in subsequent quarters.

For us you have already taken note of our new advertising messages and media tools which will help to better showcase our DNA, our brand positioning and grow our brand awareness and relevance. Perhaps you have already seen the changes we already made in the website and our catalog. I encourage you to do so and tell your friends and family to give you and us their feedback.

In a nutshell we are laser focused on delivering strong business performance and seek to unlock the Company's full potential by staying on the path and adapting to changing market conditions while maintaining the strength of our core business.

Before I discuss some of the second-quarter enhancement and further strategies I'd like to turn to our CFO Mike Rosera for a more detailed review on our second-quarter financial performance.

Thank you Federica. I will review the revenue and gross margin results for each of her segments and review additional operating items as well as certain balance sheet and cash flow components on a consolidated level.

As Federica discussed, the second quarter had its challenges. Total revenue was $312 million which was a decrease of $35 million, or 10% to last year. This was comprised of a decrease in the direct segment of $28 million or 10% to $265 million and a decrease in the retail segment of $7 million, or 13% to $48 million.

The direct segment revenue decrease was evenly split between our US and international operations. The US direct business realized negative comparable sales in all product categories due primarily to the customer acceptance of our spring/summer collection and our reduced promotional approach compared to last year.

Overall the US marketplace was promotional earlier, the discounts were deeper than expected and consumers often seemed to have promotional fatigue. As a result of lost revenue earlier in the quarter we began increasing our promotions to be more compelling and relevant in the current period. Revenue performance in the second half of the quarter was improved from the first half but we did see a related reduction in our gross margin rate.

International revenue in the direct segment was impacted by foreign exchange headwinds which negatively impacted reported revenue by approximately $8 million primarily in Europe, representing nearly 60% of international revenue decrease. On a constant currency basis international revenue in the direct segment decreased approximately 12%.

Revenue in the retail segment decreased $7 million, or 13% attributable to the same-store sales decrease of 7.5% and operating 18 fewer Shops at Sears at the end of the quarter compared to the same period last year. The same-store sales decrease was primarily attributable to many of the same factors which impacted our direct segment in addition to declining traffic at our Shops at Sears. We operated 229 Shops at Sears compared to 247 at the end of the second quarter last year.

Gross profit of $145 million decreased $24 million or 14% compared to the second quarter of last year. The decrease was mostly due to lower volume and lower direct segment gross margin.

The direct segment gross profit decreased 14% while the retail segment decreased 13%. The direct segment gross profit was negatively impacted by $7 million of foreign exchange rate differential to last year.

Gross margin for the quarter decreased 220 basis points to 46.3% compared to last year with gross margin in the direct segment decreasing 260 basis points to 46.7% and the retail segment decreasing 30 basis points to 44.6%. The major factors influencing the 260 basis point decrease in the direct segment were 110 basis points due to the impact of changes in currency exchange rates and 100 basis points related to our merchandise margin of which 40 basis points was airfreight cost related to the West Coast port congestion that is now resolved.

Merchandise margin is the selling margin rate generated on our product landed cost. One of our key focus areas has been and will continue to be the expansion of gross margin. These efforts were muted during the quarter predominantly in the last half largely due to the increased discount activity previously discussed which was initiated in response to the heavily discounted retail environment.

Total selling and administrative or S&A expenses for the quarter decreased by $13 million or 10% to $125 million. Total S&A expenses as a percentage of sales deleveraged by 20 basis points to 40%. The S&A expense deleverage was primarily due to the decreased sales volume offset by lower cost.

Of the $13 million savings, changes in currency exchange rates favorably impacted S&A expenses by $4 million during the quarter. The currency neutral cost savings include a decrease of $5 million resulting from lower incentive compensation expenses, a decrease in marketing expenses of $3 million.

Other operating income was mostly comprised of the release of approximately $2.4 million of the product recall reserve that was recognized in the fourth quarter of fiscal 2014. The customer return rates for the recalled products have been lower than estimated despite the efforts by the Company to contact impacted consumers. There is still approximately $1 million of reserve remaining to address future returns associated with the recall.

Operating income decreased $7 million, or 29% primarily due to lower volume offset by S&A expense savings. Net income decreased $4.4 million, or 37% to $7.5 million and earnings per share were $0.23 compared to $0.37 last year.

The negative impact of foreign currency on earnings per share was $0.06. The recall reserve adjustment benefited net income by $1.4 million in earnings per share by $0.05.

In addition to the GAAP measures outlined above adjusted EBITDA is an important profitability measure used to manage the business. Adjusted EBITDA for the quarter decreased $10.5 million, or 35% to $19.6 million representing 6.3% revenue. The decrease in adjusted EBITDA was attributable to the decrease in revenues and gross margin rate, partially offset by S&A savings.

The negative impact of foreign currency to adjusted EBITDA was $3.2 million. Also note that adjusted EBITDA excludes the impact of the recall adjustment.

Now let's turn to the balance sheet. Total cash and cash equivalents for the quarter increased 57% to $208 million compared with $133 million at August 1, 2014. Inventory for the quarter changed by less than one% to $368 million compared to $366 million despite an increase in product in transit from overseas manufacturers of approximately $15 million.

Long-term debt decreased to $503 million as compared to $509 million at August 1, 2014 due to quarterly principal payments. Operating cash flow generated year to date was $3 million compared with $105 million generated during the same period last year. The decrease in operating cash during the first half of the year was the result of an increase in inventory receipts this year compared to last year, the lower operating earnings due to 10% reduction in revenues year on year and the one-time impact on the prior-year cash flow of the separation with our former parent.

Receipts are higher this year as beginning inventory for fiscal 2015 was $69 million less than beginning inventory for fiscal 2014. We've continuously aligned future inventory commitments with expected revenue and adjust those commitments when necessary and possible.

And now I will turn it back to Federica to discuss our long-term growth strategies.

Thank you, Mike. The second-quarter results were disappointing and the performance is not acceptable. However, we are taking many actions at this time not only to address the current business but also to have a stronger product offering, marketing proposition, go-to-market strategy and operating platform for future periods.

Since I joined the Company earlier this year my objective has been clear: growth, profitability and adaptability. Growth will result from a combination of enhancing our core business as well as attracting new consumer and operating a new retail environments. Our first priority in growth is to maximize our potential with our core customer by increasing the fundamental metrics such as average order value, units per transaction, traffic and conversion.

In pursuit of this goal we will build capabilities that can be leveraged in new opportunities. We seek to grow and expand into new consumer segments, marketing channels and actively look for both in the market as an opportunity to bridge the gap, gain market share and win new consumers. Profitability is an ever present guiding principle and aligned with our growth initiatives.

As I stated at the Shareholder Meeting in June I'm very bottom-line driven. While our clear objective is to grow doing so at the expense of profitability is neither desirable nor sustainable from a long-term standpoint, which brings us to adaptability. To achieve profitable growth it is inevitable that change needs to be made in order to succeed in today's fast-paced and highly competitive retail environment.

I have been leading a concentrated effort to build on our solid foundation to motivate the teams to achieve greater efficiency and show the way to reach milestones previously deemed unattainable, always taking great care of our people, empowering employees and making sure the new hires are smoothly integrated into this incredible culture. I'm very proud of the changes initiated in the second quarter. As we look at all changes we have grouped them into three major categories to clearly outline the expected outcomes.

We will begin with a discussion related to the most important topic for any retail company, product; followed by the most important asset for our Company, the direct segment; and the most critical component of our strategy, our brand. Our products are the core of our success where customer reception to the spring/summer collection, specifically several key items in our women's assortment, played a key role in our second-quarter performance. Therefore we have initiated a new approach to inject what we were missing in our merchandising offer.

To present a more compelling product offering to our consumer I have worked closely with our design team and hired new designers so that we could impart a higher sensibility onto our ready-to-wear merchandise for spring/summer 2016, make strength stronger reinforcing our core business for our classic consumer and introducing a more relevant offer to attract a new audience and expand the Lands' End family. With improved design talent we will stay on the pulse of trends and style and interpreting market shifts of consumer needs ensuring that our collection hits the sweet spot of our consumers preference. This will be a constant evolution and one of the key tools to win in our competitive market.

In addition we have filled the critical leadership position of Chief Merchandising Officer as well as the leader of our supply chain to ensure the entire process of the product assortment, product development and manufacturing will deliver the right inventory, the greatest quality in fit and fabrics and the best capability to sustain our growth. Not only we were excited with the product impact of these new Lands' End associates, we are even more pleased with how successfully they have integrated into the existing structure of Lands' End in a harmonious and cohesive manner as we believe that our culture is a strong competitive advantage we need to leverage. Our mission is to create the most timely yet timeless product with the best quality and value.

Core customers have always been our highest priority and we have made every effort to ensure their continued and growing support through updates to the core collection and are in keeping with the brand's DNA. In tandem with the core business we are seeking to expand our Lands' End family by ensuring we have relevant product offerings for every generation in our target consumer households. We intend to gain their attention through this product expansion with fresh clean aesthetic and a new fit.

It is important to underline that this fit with slimmer silhouettes not only is successful among young people but is the one used internationally by major competitors. This will be a key element to gain a broader market share internationally for future growth. The expansion is set to launch in spring/summer 2016.

In addition we have also partnered with experienced professionals to design, develop and manufacture a new footwear line that will be launched at the same time. All of this serves as examples of the initiatives that we immediately set in motion that are expected to have a material impact on the product offering early next year.

The second area of strategic focus relates to improving the overall shopping experience in our direct segment, our largest and most important segment. In the second quarter we began laying the framework for many changes on our direct platform. Faced with increasingly competitive online landscape from virtually all traditional brick-and-mortar retailers we needed to urgently update our website inside and out.

In a relatively short time we were able to adapt and debut a new modernized online shopping feature which drew the attention of our new target consumers. We have enhanced this approach to showcase the fall/winter 2015 to the same consumer and expanded the entire website building on elevated aesthetic to the rest of our customer base. Since best-in-class service is keyed to converting our increased traffic on August 12 we also upgraded our checkout process by building an express feature to expedite and simplify the shopping experience.

Moreover we've redesigned the site index and launched the first e-catalog in August. Going forward we are looking to increase the payment options, providing gifting with purchase and develop a mobile application. We are looking to build a site architecture, redesign the product page and integrate social media logins onto the website to further drive traffic conversion and ultimately sustain growth.

We will also roll out all these initiatives to our subsidiaries and upgrade the international web platform since on a global scale our online business will continue to serve as a key channel for distribution. We intend to complete all these actions by early 2016.

In addition to the website upgrade we made strides on the ERP implementation. We defined the scope of the program, mapped out the implementation and we have selected an industry-leading system integrator to support the implementation. This initiative is directly aimed at providing us with a strong platform on which to grow our existing business and the potential for additional channel of distribution.

It also seeks to dramatically improve the efficiency and merchandising, operations, finance, accounting and technology part of our business. And it expects to provide the necessary foundation to fully realize our strategic objective of growth, profitability and adaptability.

Lastly, our strategic focus also relates to the length and breadth. While there are many industry benchmarks to monitor brand status we feel the brand awareness is a very critical measurement and we were not happy with how we score on this metric. We have begun a marketing and messaging campaign that is intended to improve our brand identity and awareness as well as expect to generate additional revenue.

As mentioned hopefully you have seen our new brand campaign, our new fall catalog design and the enhanced website and digital marketing which were developed over the course of the second quarter. We sought to create a powerful high impact advertising campaign that truly speaks to both our core consumers and the new extended audience across major media platforms in both print and digital formats. The campaign allows us to strengthen our brand identity as an iconic American brand, develop a stronger digital voice and truly speak to our multigenerational consumer ranging from grandparents to grandchildren.

We expect to drive significant increases in total print and digital impressions in the third and fourth quarter as well as enhance customer perception, expand the Lands' End family to include a new audience, drive consumers to the improved website and pave the way for them to view Lands' End through a completely fresh lens. In conjunction with the new media campaign we also grew our total PR impressions which increased our brand awareness.

On social media we have started a more focused campaign to grow our fall through two different initiative including messaging, brand ambassador and product savings. To emphasize a point made earlier, these new marketing and brand awareness effort are not expected to increase our overall marketing investment. We will continue to manage our overall marketing spend, looking for opportunities to cut inefficiency and reallocate funds where and if needed.

In summary, while the second-quarter performance was challenging we planted the seeds for the future growth and began execution on many important initiatives that set the foundation for later quarters.

Thank you for joining our call. We will now open call for questions.

(Operator Instructions) Alex Fuhrman, Craig-Hallum Capital Group.

Great, thank you for taking my question. Exciting to be doing this conference calls now and hear a little bit more about your strategy. I was wondering if you could talk a bit about your capital structure.

You now have more than $200 million of cash on the balance sheet and presumably will have quite a bit more than that at the end of the year. How do you start to think about that cash balance?

Is there a certain point at which you'd start to think about buying back stock down here or thinking about the investments that you just talked about that we're going to see over the next 12 months? Is some of that cash perhaps earmarked for those investments? Thanks.

Thanks, Alex. This is Mike. Yes, we haven't really changed anything on that front.

We'd been pretty consistent that at this point the intent is to continue to build our liquidity on our balance sheet with the intent of investing in strategic initiatives. And like you said, Federica has outlined quite in some detail some of the initiatives that we're focusing on. And that will be the focus of our cash at this point.

Okay, thanks Mike. And then thinking about gross margin which obviously it sounds like there were some one-time issues that impacted the second quarter and there are some opportunities for some of your initiatives to take hold in the back half of the year. Given that the dollar is still strong year over year, would it be reasonable to assume that gross margin would be down a similar amount in Q3 as it was in Q2 if you just eliminate that 40 basis point impact from the port issues?

And then just thinking about your opportunity for gross margin in 2016 and 2017, where do you think gross margins can go? Is it possible to get back up to that 49%, 50% level that you were at five or six years ago or is that going to be harder to do now just given changes in shipping rates and other things like that?

Good morning, Alex. I just wanted to re-underline a principle that I keep saying to all of you. The profitability is definitely our first goal.

And I will let Mike explain what we are doing on that front.

Alex, you're aware we at this point aren't giving out any guidance or forward outlook but a lot will depend when you talked about Q3 on the environment that we're operating in. We'd mentioned that we had in the second quarter we had established increases in our margin rate but the promotional environment that we were operating in we did some discount pricing in response to that. And so a lot will depend in Q3 and Q4 on how the environment plays out.

Okay, that's for a helpful. Thanks.

And then lastly if I could just touch on the uniforms business. It seemed like from the Shareholder Meeting a couple of months ago and the information you gave in there it seems like that's been a very nicely growing business over the last five years for you.

Can you just talk a little bit about how the uniforms business performed in Q2? And then particularly given that about half that business is corporate orders that can be a little bit lumpy, were there any quarters last year that were particularly strong or weak given the timing of orders that might cloud the numbers going forward this year?

And in fact this is the point is the fluctuation that of the orders made this quarter having some reductions and decreases versus Q2 last year. But this business is strong, it's healthy and we'll look to opportunities but we're already taking action to increase and expand in this area.

I don't know if you saw that we also launched just recently a few days ago a workwear that we never had. And I really encourage you to see it because it can be another area of opportunity. And what I'm doing with this area is to give much more visibility and we are including in the messaging of the core even more, the information of what we're doing on this area for the uniform.

We also have planned other initiatives that will play this year. You will see why I want to speak on everything that I already accomplished and achieved like the workwear for example, the next one you will see that is a major initiative. So I'm expecting this business to continue to thrive.

Steve Marotta, CL King & Associates.

Good morning everybody. Federica, given the fact that you arrived in February and clearly you will not have a full effect on the product line until spring/summer of 2016, do you have any effect on the fall product line, even on the margin for fall/winter 2015? And if you could estimate how many styles out of all of the styles you would have effect in the near-term in the second half of this year?

Good morning, Steve. Well as you know the product development and the lead time is very long in our industry, so we are also taking action actually to reduce this leadtime by increasing our flexibility for the future. But for the moment the first things I did was definitely to start immediately on the spring/summer collection.

At the same time since most of the purchase for winter was already done I met with the merchandise team and inventory team and design team to see what could have been done in that area to define first of all which were the products that we bought the most and which were the successful products in our historical sales in the past and we created. So we leveraged first of all on the success that we had historically and we created a marketing strategy which was the thing that at least we can change on the Q3 and Q4 compared to Q2 because it couldn't be possible for the timing.

But as you see we just started and we have planned to be much more relevant but specifically going after product that we think we can sell we can be even more successful by the approach. So all the inventory is being reviewed as much as we could in that sense.

Okay. And you touched on marketing. Can you talk very specifically about the digital marketing initiatives that may have drove incremental traffic to the website not only in the second quarter but perhaps in the third quarter to date as well as again the marketing initiatives that you would expect would be traffic drivers and converters to the website?

I start from that big one which I really hope that you see and everybody saw which is the brand marketing campaign that we're doing in a relevant way in the print and digital media. The type of messaging that we are giving, so far we got a very good response from both the core customer and we start to see a track of new customer acquisitions thanks to this initiative. But most importantly is the shopping experience because once you increase the traffic and you get the consumer into your website they need to see that you're consistent with what they see and what they would like to see from you.

So from the website that we started to enhance since May 27 as I was saying we did an incredible job with the team to be fast enough and to start this enhancement which today has another important step forward and will be completed as I said by early 2016, these drive and is driving higher traffic and higher conversion. Then there are small things, low-hanging fruits that we can get, and for example I want to mention the G&A promotion that we did which is part of the strategy on how we can do promotion. We saw some promotional fatigue just be discounted in the same space with the competitors but we need to be more creative.

So we initiated that by only that event we acquired more than 5,000 new customers. So it is important that we see not just activities and initiatives to acquire on a longer-term but also on a short-term.

So the mix of those two actions are so far positive. Of course it's too early, it's definitely too early to judge and to see the result that we want to and we expect to see from us.

Great. And lastly as it pertains specifically to inventory are you where you want to be at the end of the second quarter or do you wish you were a little lighter or a little heavier? Very specifically to plan for the back half of the year where do you feel your inventory stands at the end of the second quarter? And thank you.

Thanks, Steve. Yes, we mentioned that we had taken actions at the end of the quarter to where we increased our promotion so that we did come in out of the quarter in a much cleaner position.

So we are -- we feel we're in a good position. And we also as we look at our mix of markdown inventory this year versus last year we are cleaner in that respect too. So yes I think we're in a good position.

And most importantly, Steve, one of our focus is how we build inventory from now on. So this is one of the keys when I say that we need to streamline our merchandising assortment this is the key.

The way we create an inventory will be part of our success and thanks also to the fact that we hired the Chief Merchandising Officer Joe Boitano coming from Saks. His best expertise is definitely to have a very productive inventory level because our goal is to increase the returns and the sell through.

Thank you. Ladies and gentlemen, this concludes the Q&A session.

Thank you for your participation. You may now disconnect and everyone have a wonderful Labor Day weekend.