Nautilus Inc (NLS) 2009 Q2 法說會逐字稿

Welcome to the Nautilus, Inc. second quarter 2009 results conference call. At this time, all participants are in a listen-only mode. Following today's presentation, we will have a question-and-answer session. As a reminder, this conference is being recorded today Monday, August 10th, 2009.

Before the call begins, listeners should be advised of the Safe Harbor Statement that applies to today's call. Prepared remarks during this call contain forward-looking statements. Additional forward-looking statements may be made in response to questions. These statements do not guarantee future performance. Nautilus undertakes no obligation to update publicly any forward-looking statement to reflect new information, events or circumstances after the date that they were made to reflect the occurrence of unanticipated events. Therefore, undue reliance should not be placed upon them. Listeners should review the earnings release to which this conference call relates and the Company's most recent periodic reports on Form 10-K and Form 10-Q filed with the Securities and Exchange Commission for more detailed discussion of the factors that could cause actual results to differ materially from those projected in the forward-looking statements.

On the call today from the Company are Mr. Ed Bramson, Chairman and Chief Executive Officer, and Mr. Kenneth Fish, Chief Financial Officer.

I would now like to turn the conference over to Mr. Ed Bramson. Please go ahead, sir.

Thank you, and thank you, everyone for joining us today. Ken is going to go through the details of the Q2 earnings release with you, but before he does, I'd just like to cover a few highlights. As you'll see from the release, the overall loss we reported was $20.8 million. But making that up were a couple of big items. One is a restructuring loss of $11.8 million, which mostly results from writing off our lease hold improvements in Vancouver, Washington. We had leased a very large building there and we're moving into a much smaller space within that, which will save use lot of money on overhead starting in Q4. So most of the restructuring is actually tied to that.

Secondly, the commercial business, and as you know, we have three lines of business, we have commercial and then two consumer businesses, retail and direct. The commercial business lost $7.2 million in the quarter. In part that's because sales volumes were down because the economy is not too favorable for capital equipment in the fitness industry. So fixed costs obviously were not absorbed in the quarter. Additionally though we came into the quarter with more inventory than we really wanted to have, based on the current level of sales. So we reduced prices on a lot of inventory in Q2 to get inventories down to a more comfortable level for the sales rate we're at at the moment, which is now mostly done. As we mentioned in the press release, we're studying strategic alternatives for the commercial business, with a view possibly to concentrating most of our resources on our consumer businesses and we'll report on the outcome of strategic review when we've got a conclusion which we think will be in a few months.

This leaves us with the two consumer orientated business that's we have, the direct business and also our retail business. Both of these made operating profits in the second quarter of 2009, whereas both of them actually lost money in the second quarter of last year. Second quarter as you probably know is typically our slowest quarter for seasonal reasons in the fitness equipment business and the consumer environment is much worse than it was a year ago. So our consumer businesses, between them, made almost $2 million, and I think in the circumstances, that's actually a pretty encouraging development, particularly compared to last year.

Our corporate overheads still offset the consumer profits that we made but we're taking further steps to reduce overhead. For example, by moving into the smaller facility, which I mentioned earlier, and other things that we're going to do. The hope and the plan we have is that we can reduce the overhead burden so that our consumer profits can drop to the bottom line, particularly when we have our seasonally stronger quarters around the end of the year and the turn of the year. So really those are just the high points I wanted to cover and I'd now like to hand over to Ken to take you through the details of what happened in the quarter.

Thanks, Ed. If you have the earnings press release, you will see that it includes a supplemental disclosure to reconcile GAAP to adjusted pretax loss from continuing operations on the last page. And also comparative net sales by business segment in the text and comparative income from operations in the tables after the text of the release. Additional information may also be found in the Form 10-Q filed today with the SEC. As a reminder, continuing results include the Company's direct, retail and commercial businesses, but exclude our former apparel business which was sold in April 2008 and is considered a discontinued operation.

Net sales from continuing operations were $60.8 million for the second quarter, compared to $95.6 million for the corresponding period last year, a 36.4% decrease from Q2 2008, primarily due to a challenging consumer environment and a tight credit market. Our direct business sales in Q2 2009 were slightly ahead of our expectations at $28.2 million, down 31.7% from $41.3 million in the corresponding period of 2008. Net sales declined in the direct business due to the restricted availability of consumer credit programs. Offsetting a portion of the sales decline in the direct business was an increases in sales of consumer Treadclimbers compared to the same period last year. We are experiencing a positive response from our media spend shift toward the Treadclimber from the power rod strength products. Additionally, our strategic adjustments in product pricing and mix have improved conversion across the product line.

Our direct business contributed operating income of $0.6 million for the second quarter, compared to an operating loss of $0.6 million in the corresponding period of 2008. Retail sales in Q2 2009 were $11.4 million, down 40.2% versus last year. Strength in our consumer Treadclimber and elliptical products was offset by lower sales volume of rod-based home gym due in part to the Company's decision to reduce inventory of rod-based products in our retailers to improve margins for sale of the products in the direct business. Even with the tough economic environment and associated decline in sales, our retail business was also profitable for the quarter, contributing operating income of $1.2 million compared to an operating loss of $0.2 million in the corresponding period of 2008.

Commercial business sales were down 39.7% from $34.4 million to $20.7 million. The commercial business sales decline reflects weakness in strength equipment, partially offset by slightly better than expected sales in cardio products with gains in Schwinn and StairMaster branded products. The commercial business had an operating loss of $7.2 million for the quarter, compared to an operating loss of $1.1 million in the corresponding period of 2008. As Ed mentioned, we are considering focusing our efforts on the consumer only business model. We will be evaluating strategic alternatives for the commercial business and have engaged Robert W. Baird & Co. to assist Nautilus in that evaluation.

Our overall gross profit margin for the second quarter 2009 decreased to 34.2%, compared to 35.5% in the year ago quarter. In the direct business, gross profit margin was essentially flat at 58.5% of net sales for the second quarter of 2009, compared to 58.6% for the same period in the previous year. The retail business gross profit margin improved to 27.3% of net sales in the second quarter of 2009, compared to 17.7% in the same period in the prior year. The increase in gross profit margin for the retail business reflects improved(Sic-see press release) warranty costs, consolidation of our distribution centers and an increase in sales prices.

The commercial business gross profit margin declined to 3.5% of net sales in the quarter in the second quarter of 2009, compared to 19.9% in the prior year period. The commercial margin decline was driven by an increase in sales discounts on closeout products in order to reduce inventory and also increased manufacturing charges related to lower production volumes in the commercial business.

Our reported operating expenses declined by approximately $6.1 million, or 12.7% in the second quarter of 2009, compared to the same period last year. The overall reduction in operating expenses compared to the prior year period reflects our efforts to significantly reduce media expenses, personnel costs and other discretionary expenses to be more in line with the current economic environment. To provide better visibility, we show unusual expenses on a separate line item under operating expenses on our income statement. Our expenses for the second quarter of 2009 included $11.8 million in pretax restructuring charges, of which approximately $9.9 million is related to the termination of our prior lease for the corporate facility in Vancouver, Washington. We took this action as part of our cost reduction efforts and have executed a new lease for smaller space in the same building. On an annual basis, the Company expects to save approximately $3.3 million from the new lease arrangement, with full savings beginning in the fourth quarter of 2009. On an adjusted basis, operating expenses, excluding restructuring charges, were 50.1% of revenue compared to 48% in Q2 2008.

Looking at the components of operating expenses, our selling and marketing declined 29.7% from $30.9 million in Q2 2008 to $21.7 million in Q2 2009. The decline is primarily related to lower advertising costs within the direct business. The Company has focused on the improvement of advertising placement and the effectiveness of the ads themselves, while also taking advantage of the soft advertising market. All of these factors contributed to a lower conversion cost per order.

Total G&A was down versus the prior year from $13.0 million to $7.1 million. The decline in corporate and other G&A reflects reduced expenses associated with our cost savings initiatives. We continue to expect additional operating improvements and they will result in a better year-over-year comparison as a percentage of sales throughout the second half of 2009.

For the quarter ended June 30th, 2009, we reported a loss from continuing operations of $20.8 million, or $0.68 per diluted share. Included in the net loss from continuing operations are pretax restructuring charges of $11.8 million. As I previously mentioned, the restructuring charges are principally related to the termination of our prior lease for the corporate facility in Vancouver, Washington. In the second quarter of 2008, we reported a loss from continuing operations of $9.6 million, or $0.30 per diluted share. Included in the loss from continuing operations are pretax charges of $2.5 million, primarily related to the severance, inventory reserves and settlements related to licensing agreements.

We included in the earnings release a supplemental table that provides you with results including and excluding restructuring costs. Excluding restructuring costs, our adjusted loss from continuing operations before income taxes was $9.7 million for the quarter ended June 30th, 2009. For the corresponding period in 2008, excluding unusual charges mentioned, loss from continuing operations before income taxes was $11.9 million.

On an operating basis, we generated $8.5 million of net cash provided by operating activities during the second quarter, compared to less than $0.1 million in the second quarter of 2008. This cash generation was primarily due to the receipt of our federal income tax refund and working capital improvements.

Now we'd like to spend a moment discussing cost take-outs in our business. Nautilus tracks cost take-outs by projects to ensure the savings become permanent to lower the Company's level of sales necessary to break even. Earlier in 2009, we announced the initiation of an expanded cost savings plan aimed at further reducing operating costs and improving the overall alignment of spending and anticipated revenue. We continue to execute on the 2009 plan in the second quarter with the downsizing of the Company's corporate headquarters and the termination of certain lease and warehouse distribution services. We are realizing benefits from our efforts, particularly in the terms of reduced operating expenses, which helped us to achieve profitable results in two of our three business segments, direct and retail, for the second quarter of 2009. On an annual basis, the Company expects to save approximately $3.3 million from the new headquarters lease arrangement.

We will continue to focus on reducing operating expenses in the coming months as we move forward with these initiatives. We continue to be on plan to realize the majority of these benefits in the fourth quarter of 2009, and believe that when combining the seasonally stronger sales in the third and fourth quarter with our improved operating platform and cost structure, we will show improved bottom line results due to the leverage opportunities in the back half of 2009.

Turning to our balance sheet, inventories were $31.5 million at June 30th, 2009, compared to $43.8 million at December 31st, 2008, due to lower volumes and improved inventory management. Trade receivables were $24.4 million at June 30th, 2009, compared to $53.8 million at the end of 2008. Our sales outstanding of 31 days at June 30th, 2009 reflect improvements compared to prior year in all three business segments, this compares to 49 days at June 30th, 2008. As of June 30th, 2009, we had a net cash position of $7.8 million compared to net debt of $12.4 million at December 31st, 2008. We are very pleased with our improved balance sheet and believe we are in a good financial position as we prepare for the increased selling season which occurs towards the end of the third quarter and throughout the fourth quarter. Now we would like to open the call for your questions. Operator?

Thank you. (Operator Instructions). Our first question will come from the line of Eric Wold. Please proceed with your question.

Thank you and good afternoon. Quick question on the commercial division. I know it's early and you just hired the bank to look at the various alternatives for that business. I mean, can that run the gamut from shutting it down completely up and through selling it to someone else and would you kind of --I guess if you did sell it, if you couldn't find a buyer for it and just had to shut it down, what additional steps might have to be taken and what additional kind of charge write-offs would there be if that was the final route if no buyer could be found?

Well as you said, Eric, it's sort of early in the proceedings. Because there's actually also a possibility of coming up with a subset of the commercial business you can continue to run. So I don't know as yet exactly which way it will go, but I believe that if you took the worst case, Ken, what is the net investment in the commercial business?

It is at this point in time just under $30 million, net assets.

So I mean, if you -- I'm not making a projection, Eric, but that's the amount we have invested in the business so it's anywhere from there on up.

Okay. And then lastly, then, on the restructuring and kind of the various programs you have in place to improve profitability, you remind us kind of where you are right now in that process, kind of what percentage of the ultimate savings you expect to gain, have you kind of gotten to?

Well it's sort of a moving target, as you know. But Ken where-- given the numbers we put out to date, do you happen to know what our percentage of completion is?

Eric, I guess the way I would answer it is that in Q3 and Q4, kind of the back half of this year, we have about $12 million of annualized savings of new projects that are coming into play on top of what we've already accomplished. And that's going to bring us to the target we had set of $90 million annualized with the exception of about $0.5 million that carries into 2010. So we've gotten other than about $12.5 million of the $90 million in place.

Okay. And that includes the-- that included the headquarter restructuring or the headquarter lease?

Yes, it does.

Okay. Perfect. Thank you guys very much.

Thank you.

Our next question will come from the line of Reed Anderson with D.A. Davidson. Please proceed with your question.

Hi, good afternoon, thanks for taking my question. Wondering can -- I'm just curious, was there-- did you reclassify any revenue from 2Q of 2008 because we had a little bit different breakout between commercial and retail and I'm just wondering if you reclassified a portion of that at all?

Yes, Reed, we had a small amount of sales that were retail sales in our international operations and what we did is that we adjusted last year to match with the current way that we're viewing the business which is to take those international sales and really combine them together with the commercial business, because they're managed by the same group and fairly small. And we did separate that out in the 10-Q so that'll help you see the adjustment.

Okay, I'll look for that. I figured it was something like that, but I hadn't noticed. That's helpful. Thank you. And then also just curious, I mean it sounds like you're gaining traction with Treadclimbers at least one or two channels but rod based is still challenging. Could you give us just a sense, Ed, of maybe how those two segments break out for you? You don't have to be exact but just give us a sense of what the mix might be now and what-- kind of the trend.

Well I actually don't think of it in percentage terms, so Ken's going to have to help me out. The cardio business now is getting on for the same size as rods. I think rods is still a little bit bigger, Ken?

A little bit, yes.

I mean it's-- but it's coming from like almost nowhere to being call it 50/50. The other thing is we're launching another cardio product in direct in Q4, which probably will tend to move the mix even more to cardio. So I think the way to look at it is the rod business what we're trying to do is to figure out is it the rod product or is it the rod marketing and we're really trying to analyze that right now to see whether if you need a new strength product or if you need to reposition it. And in cardio, you're sort of looking at that until we answer the question on strength, you're looking at cardio really becoming the core product I think in that business.

Okay. That makes sense. And then shifting gears a little bit, just kind of looking at the segment detail you provided, when I kind of back into what ends up being -- and again, I'm sure it's in perfect allocation, but if you look at what you're implying there for segment or in segment level SG&A, et cetera, what strikes me is that it's-- in the commercial piece, for example, the dollar allocation of operating expenses actually goes up versus last year, whereas everything else kind of went down in proportion to the revenue decline. And so again, I'm wondering either it's an allocation issue, it's a one time issue, but it didn't seem to make sense given what you've seen on the revenue side there. Can you just comment on that, please?

Some of what's happening is that in our commercial business we have dedicated resources throughout Europe and there have not been as many cost reductions in that segment relative to sales as some of the other pieces of the business. There have not been wholesale allocation changes as far as kind of the methodology of the allocations, but some of the international operations haven't I guess received as much of the benefit of some of the cost take-outs as some of the US businesses.

Saying it differently, Reed, what's happened is that a large portion of the cost cuts in manufacturing -- in commercial really ended up being in manufacturing rather than in SG&A, whereas in the other businesses it was kind of the other way around.

Okay. Okay. So really the way to think about it I guess is that commercial just there's really been no opportunity at least at that line item for you in that business yet or you haven't been able to realize it?

Well, it's -- we've taken some out in Europe but that's really where most of this issue is.

Okay. And then also looking at that segment detail again, particularly when I look at the gross margin line in retail, I was just kind of curious, I mean, what you put up, the number you reported then for retail gross margin for this quarter, which is something north of 27%, I mean, that's pretty good for that business. And I'm just wondering if that's a sustainable level or if that's some -- if there were some anomalies in there that would have helped that in this particular quarter?

I think it's-- I wouldn't say it's sustainable based on what I see, Reed. You had-- a few things went right. The other thing is you relatively low volumes in the quarter.

And that's why it was very odd that it would be that high. So maybe-- so that's a little rich at this point.

I think it probably is. I mean what I would say, is let's look at it again at the end of the year and see where we actually come out but I wouldn't project it that high right now.

Okay, good I'll stop right there.

Reed, yes Reed we did have some -- yes, we did have positives on the consumer side in both direct and in retail on warranty costs that continued to come down, so that's a very good performance. And then we do have some initiatives that help there where we're combining together our parts warehouse used to be with the three PL into our own warehouse facilities and saving overhead costs. So there's definitely some positives that are driving the margin to be more positive, but I think as Ed says, we'll have to wait later in the year, some of the mix of product as we go into the heavier selling season will likely bring the margin down.

Good that's helpful. Thank you. Good luck.

Thanks, Reed.

(Operator Instructions). Our next question will come from the line of Wilton Fry with Merrill Lynch. Please proceed with your question.

Good afternoon, gentlemen. Three questions, if I may. First, could you give us some color on breakeven sales and how that would change in the absence of the commercial division? Secondly, I may have missed it, but could you (inaudible) how we should think about working capital movements over the rest of the year? And lastly, just following up on one of the earlier questions, are there any contingent liabilities associated with the commercial division that would lead to cash payments if you were to close it down or to sell it? Thanks.

Well that's quite a lot of territory. I didn't write the questions down, Ken, did you? So what's the first one?

Yes, let me cover this first couple and then-- yes, let me cover the first couple and then maybe you can repeat a couple, the next couple. As far as the breakeven point, so we've talked, we've spoken on prior calls that our breakeven is about $330 million in annual sales and we're on target with our cost take-out that's we've announced to be a total of $90 million so that number holds. As far as the breakeven if the commercial business were not included, I think -- I don't have a specific number that I want to quote but if you take a look at where we're at in the second quarter, which is the softest quarter seasonally, we are close to breakeven with those volumes. So I think you get the feel that it wouldn't take very much more volume than what we just had in the direct and retail in order to be at the breakeven level. Part of what we're doing also as Ed mentioned is continue to lower the corporate costs to match the sales, and so we would be close to the breakeven on the consumer side.

Okay. Great. Just on the-- secondly on the working capital, obviously you're going to higher sales volumes quarters. How should we think about working capital as of Q3 and Q4?

Well in direct, you really don't have any change in working capital to speak of because the inventory comes in consistently and the receivables are only five days. So the working capital you're financing is really the change in retail, which is principally receivables, because the inventory flows through reasonably well. I mean Ken, do you have a number for that?

I don't have a separate number for it. I can address it this way, is that when we take a look at the working capital, the peak, we would expect it to be in later September and in October and so that would be kind of the peak of the working capital needs and it's mainly driven by the seasonality from the retail business. But no, we haven't provided specific forecasts for that working capital.

Okay. And then just lastly, on any contingent liabilities associated with the commercial division? Thanks.

I don't-- well I'm not aware of any that aren't reserved for. There's a little bit of lease exposure, I suppose, which may be on the footnotes, I'm not sure. But nothing comes to mind. Ken, can you think of anything?

Okay, that's great.

They're the-- they're really the typical items that we have reserved quite adequately and then just other items such as lease obligations and contracts.

Okay, that's great. Understood. Thanks very much.

You're welcome.

Mr. Bramson, there are no further questions at this time. I will turn the call back to you.

Well thank you, very much, for joining us, everybody. We hope we'll have better news as the year goes on and we'll look forward to talking to you on the Q3 call. Thanks again.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.