Nautilus Inc (NLS) 2010 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Nautilus, Incorporated Third Quarter 2010 Results Conference Call.

(Operator Instructions)

Following today's presentation, we will have a question and answer session. As a reminder, this call is being recorded today, Wednesday, November 3, 2010.

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 to reflect new information, events, or circumstances after the date they are made, or to reflect an 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 from 10-K and form 10-Q filed with the Securities and Exchange Commission for more detailed discussions of the factors that can cause actual results to differ materially from those projected in forward-looking statements. On the call today from the Company are Mr. Ed Bramson, Chief Executive Officer, and Mr. Kenneth Fish, Chief Financial Officer. I would like to turn the call over to Mr. Bramson, Chief Executive Officer. Please to ahead, sir.

Thank you.

And thank you, everyone, for attending our third quarter earnings call. I just have a few comments to make before handing over to Ken, who's going to go through more detail.

Taking the business by segments in the retail business as you'll see from the release, sales were up over the prior year as they have been all this year. We're monitoring retail sell-through, which is been pretty good, so it looks as, though the environment for retail is continuing to improve. Sale in the direct business were down again for the quarter, although they were down at a slower rate than we've been seeing lately.

However, sales by the direct business in the month of September alone were actually up from a year ago, and I think this is significant. It's only the time that we've had a month over month increase since the beginning of 2008 when the credit approval rate began to decline. On the subject of credit approval, the new program that we have with GE credit only got billing in September so approval rates for the quarter was still down by about 35% on the same time a year ago. Approvals in the month of September, however, while they weren't back to the rates that we saw a year ago, were significantly better than any of the preceding eight months of this year, so we're seeing some progress in that regard.

We're still working on some further tweaks, I would call them, to the credit approval process, and we think these will gradually increase approval rates a bit more, so that we would expect Q4 and perhaps also Q1 of next year to continue to see improving credit performance. As you know, credit approval rates are significant driver of direct business sales. So, we're hopeful that this business will now start to show some improvement. I'd also like to make a quick comment on margins.

During the third quarter, we experimented with several different levels of pricing on TreadClimber, because we were trying to determine what the elasticity of the price of the product is in terms of changes in demand. The experiments had a negative impact on gross margins in the third quarter. Those tests are now complete, and we've developed some valuable data that will help us as we launch a lower priced TreadClimber product, which is currently scheduled for 2011.

Overall I would say that for the quarter, things seem to finally be improving and we're hoping for a better performance in the fourth quarter, as well. With that, I'd like hand over to Ken to take you through the details of the quarterly release.

Thanks Ed. My comments today primarily will focus on the results for continuing operations, which consists of our direct and retail businesses and excludes our discontinued operations. I'll begin by discussing the results of our overall Company, and then I'll move on to provide additional detail on the segments.

Our net sales were $38.5 million in the third quarter of 2010, compared to $41.4 million in the third quarter of 2009. Higher retail sales were more than offset by lower direct sales in the quarter. Consolidated gross profit margin in the third quarter of 2010 was 43.2% of net sales, compared to 49.0% in the third quarter of 2009. Lower gross profit margin this year resulted from a higher proportion of sales from the retail business, which has lower margins than the direct business, as well as special pricing on certain products in 2010, as Ed mentioned.

Looking at the operating expense components. Selling and marketing expenses were $14.3 million in Q3 2010, a decrease of $0.1 million compared to Q3 2009. We reduced advertising expenses in anticipation of implementing our new primary consumer financing program late in the third quarter 2010, which was partially offset by higher media production costs.

Total G&A was $4.8 million in Q3 2010, compared to $5.2 million in Q3 2009. This 8.5% reduction is due primarily to cost saving initiatives aimed at reductions in personnel, occupancy costs, insurance expense, and outside services, as well as lower depreciation and amortization expense. Total operating expenses in Q3 2010 declined by 14.7%, to $19.8 million, compared to $23.1 million in Q3 2009. For modelling purposes it is important to keep in mind that Q3 2009 operating expenses included a $2.1 million non-cash intangible asset impairment charged and $0.2 million in restructuring expenses.

Operating loss was $3.2 million in the third quarter 2010, compared to a loss of $2.8 million in the third quarter of 2009. The third quarter 2010 operating loss was favorably impacted by our reduction in general and administrative expenses, but this favorable impact was more than offset by lower sales and reduced margins in the direct business.

As Ed mentioned, sales of our direct business improved in the month of September after implementing our new consumer credit financing program. But this improvement was not sufficient to offset the weakness in July and August.

Turning to year to date results for the nine months ended September 30, 2010, net sales were $114.8 million compared to $135.6 million for the first nine months of 2009. Loss from continuing operations for the first nine months of 2010, was $11.8 million, or $0.38 loss per share compared to a loss of $21.6 million or $0.71 loss per share for the first nine months of 2009. It is important to note that loss from continuing operations for the first nine months 2009 included $14.1 million in restructuring expenses and a $2.1 million intangible asset impairment charge.

Now I'd like provide additional detail on our segment results. Third quarter net sales of the retail business increased 2.9% in 2010 compared to last year. It was driven by strong customer demand for our newly designed fitness bikes and also sales to new customers. Net sales of our direct business in Q3 2010 were $21.5 million, down 14.8% from the net sales of $25.3 million in Q3 2009. This year-over-year decline was due primarily to a 35% decrease in the rate of credit approvals from our primary consumer credit financing provider compared to the third quarter last year.

We do believe that the credit quality of customers applying for credit has not declined in proportion to the reduction in the credit approvals, and as a result we implemented a new program with GE Money Bank, as Ed previously discussed during his remarks. After completing the transition to our new primary third party consumer financing provider, we experienced an improvement in credit approval rates in September 2010 compared to the first eight months of the year.

In September 2010, which represented the first full month under our new primary consumer financing program, direct sales improved by 4.3% compared to September 2009. As Ed mentioned, this is--this represents the first year-over-year increase in direct sales in a month for over a year. We are encouraged by this new trend. We will continue to optimize our credit offerings and anticipate further incremental improvement in credit approval rates during the fourth quarter, which should translate into increased sales in our direct channel.

Gross profit margin of the retail business was 24.4% in the third quarter of 2010, compared to 26.6% in the third quarter of 2009. Lower gross margin in 2010 resulted primarily from selling excess treadmill inventories at sharp discounts. Gross profit margin of the direct business declined to 55.1% in the third quarter of 2010, compared to 62.8% in the third quarter of 2009 and, as Ed mentioned, we're doing testing in the market to get the reactions of various pricing levels on certain product lines and we also had some clearance of some excess inventories.

Our retail business achieved contribution of $2 million in the third quarter of 2010, compared to $2.2 million in the third quarter of 2009. This reduction was due mainly to a favorable warranty cost adjustment in the third quarter of 2009, as well as lower margins on the sales of the treadmills in Q3 of this year. Negative contribution of our direct business was $2.6 million in Q3 2010, compared to positive contribution of $1.7 million in Q3 of 2009. The decline in direct business contribution reflects lower sales and gross margin compared to the third quarter of last year.

While lower sales in the direct business had a negative impact on our operating results in Q3 2010, we are pleased with the continued sales growth and positive contribution of the retail business. With the new primary consumer financing program for our direct business in place, we are confident that we will build on the positive sales trends in September and generate improved results in coming quarters. As we discussed in our last quarterly conference call, we made the strategic decision to reduce advertising expenses starting with the second quarter in order to align our ad spend with the lower credit approval rates we experienced earlier this year. Now that we are seeing improved availability of consumer credit, we expect to begin increasing advertising spend in the fourth quarter of 2010 and on into 2011.

Turning to our consolidated balance sheet. Inventories were $11.0 million, at September 30, 2010, compared to $13.1 million at the end of the 2009. We we'll we now have the appropriate inventory level to support customer demand for our product. Trade receivables were $12.6 million at September 30, 2010, of which $12.3 million was from continuing operations. This compares to trade receivables of $27.7 million at the end of 2009, of which $18.2 million was from continuing operations.

In September, we completed a loan agreement with investment funds controlled by [share board investors] LP, a related party, which provided approximately $5 million in additional cab for our future operating needs. As of September 30, 2010, we had cash and cash equivalents of $14.5 million as well as $0.5 million of restricted cash. We're pleased with our strong cash position, as this provides us with the financial flexibility to make the appropriate investments necessary to grow our business going forward. We also had $0.7 million of assets held for sale associated with our discontinued commercial business, as of the end of the third quarter 2010.

In summary, we are pleased with the prospects for our business as we begin the fourth quarter, and look toward next year. We continue to offer customers a great portfolio of products to help them achieve their fitness goals, and we are now able to help ensure that our customers have proper access to financing. We expect to deliver sales growth as we begin to increase our ad spend in order to drive awareness of our product offerings. Now, we would like to open up the calls for questions. Turn it back to you, Myra.

(Operator Instructions) Our first question comes from the Steven Martin with Slater Capital Management. Please go ahead.

Hi. I got on a little late. The press release talks about direct sales having improved in September, and did you make any commentary about October and your expectations for the fourth quarter?

We didn't. I think we're currently thinking that the fourth quarter, which is typically one of our better quarters will be off a bit because we're still seeing some benefit from credit approvals, but we didn't have made a specific forecast at this point.

Well, October is now over, can you make some comments about, you know, how direct did in October?

Yes. Actually it's, it's about on plan. We've lost a couple of days of the month where negatively affected by the elections, because our ad were getting blacked out, but to this point, we're on plan for October.

Is that a plus two, a plus ten, a plus 20? A ballpark?

It's a plus. I'd rather not put a number on it.

And in fourth quarter, would you expect to make money for the fourth quarter?

I think the answer to that would be yes. It's, if you think about seasonal pattern for us, the fourth quarter and the first are the best, so I would, I would hope that we will have a profit in Q4.

Got you. Thank you very much.

You're welcome.

Thank you.

(Operator Instructions)

Our next question comes from the Reed Anderson with D.A. Davidson. Please go ahead.

Hi, guys.

Hi, Reed.

A couple questions. Back to the, to the direct piece, you've talked a lot about the, you know, the approvals being down pretty substantially, obviously that's start to move in the right direction, that's good. I'm curious, though what has been the trend with, you know, your inquiries or requests for credit, you know, has it been denied at the 35% rate, or is it down 35%--approval, that's one thing. What has been sort of frequency or the trend in people seeking financing? Has that been as bad has it been less? I'm just kind of getting a sense of interest in the product?

No. The, I think the best way of looking at it is actually leads, would be, which would include people who don't ask for credit as well as those who do. On a lead volume, specifically on TreadClimber which is the big product now, has been excellent.

What happened, I think we've mentioned in this the second quarter, we came out with some new creative, which it's the TreadClimber but it was based on some experience we had with Mobia. And, even though we were cutting the amount of money we were spending on advertising in the early part of the third quarter because of credit, we were getting more leads than we were getting in the first half of the year. And typically, you know, Q3 isn't that good for leads. So our lead back is looking quite good. The issue is going to be converting those leads, part of which is, is the new credit program being in place.

Okay. That's good. And then in terms of the pricing, you know, kind of experimentation you did, etc. and then talking about, I suppose a less featured model of TreadClimber next year, etc. Just order of magnitude, I know you haven't figured out yet, just are we talking about a 10%, 20% reduction on the different model? Just kind trying to get a sense of what that might look like next year.

Well what we're actually doing, you know, we've got a product mix in TreadClimber that runs, I'd say $1500 to $3500. And the average sales price in TreadClimber is around $2,000. A little less, maybe. So we were taking our cheapest, our cheaper model, not more expensive ones, and discounting to get a sense, and doing it like a day at a time or a week at a time to get a sense of where the [demand] was. And the price point that we're looking for, for next year will be $1,000, and we're trying to get a sense of what happens when you sell a product at $1,000. So we were discounting fairly heavily. Not big volumes. The reason we did it in the third quarter is that your volumes typically aren't that high anyway, so it doesn't cost you as much. With you we were taking on certain days we were giving pretty healthy promotions to get a sense of what would happen. I think it tells us that 1,000 bucks would be a pretty good price point if we get there. Okay.

Okay. That's great. But then, you would expect that at that sort of price point, you would still have a typical, a typical margin in that channel for you, you know, that obviously better than what you had here, but it would be a product priced for a typical margin, yes?

It would, I would say probably a little bit less than, than the margin we get on a high-end TreadClimber, but if you just think about overall efficiency, you're going to sell more people who responding in advice, you're effective economics are better, so it will be a significant gross margin. Probably toward the bottom of where TreadClimber is today.

Okay. And then another question I had is on the--Ken talked about ad spend ticking up here, it makes sense as the direct to sell starting to grow. Just thinking you know order of magnitude will that grow in line with sort where you think direct is, or are you actually going to step a little ahead here and really drive to drive some sells?

Well the budget has been to, to step it up in line with what you'd expect seasonality.

What we've decided to do because of the, excluding this last week, we had a lot of election advertising, we've had pretty good availability and very favorable costs per lead. So, we're actually spending above plan at the moment, and maybe do that part way into November. Because you know, you don't want to do too much advertising too late in the quarter because it doesn't convert in the period. So, I think our ad spending will be ahead certainly for the first couple of months it will be ahead of where we think the sales performance will be and maybe for the quarter it will be a bit more proportional.

Okay. Good. All right.

We want to have enough money to be able to advertise ahead if we need to. Well good to see things going in the right direction.

Good to see things going in the right direction, and best of luck in the busy season. Thank you.

Thank you.

Thank you. Our next question comes from the line of Jason Stankowski with Castle Peak. Please go ahead.

Hi, guys.

Hi Jason.

Hi. Just curious, you mentioned some new customers in, in the quarter in the retail business. Just curious if you, you're able to say who they are or, I didn't know that there was many more large customers that we weren't already at out there?

Yes. I mean-- We typically don't you know name off the customers specifically.

Okay.

Some of the new ones we had were one of the regional retail providers that's more in the Texas region and then also a couple customer in Canada that came too very strong and we expect to have a growing relationship with them.

So have you changed your--I thought the modus operandi was going to be to stick with the really big guys that can sort of drop ship and not get into the smaller retail guys. Is that changing or are these significant enough to sort of still be dropped shipped containers directly from the manufacturer type of accounts?

I think, Jason, the thing we're trying to get out of were more the 1 and 2 store guys.

Okay.

Where you had issue with getting paid. And also we were finding a lot of then competing with us online, so the customers that as Ken is mentioning it wouldn't be equivalent to Amazon, but they're decent-sized businesses.

Okay. Okay. And then I think that's--oh, on the R&D side, are there any thing that you guys are, you know, in terms of in the hopper for other products, are there thing that are new that, that you would expect to release anytime next year or are you kind of just really trying to optimize the Mobia TreadClimber world and up build from there at a later point?

Well, I think we're certainly spending money on a lower cost TreadClimber, spending some money on a refresh of the bike line, which is important in retail.

Yes.

And we've got a whole bunch of products that we're looking at now. Principally things that we would sell in the direct channel at lower price points. We don't have one yet that we want to commit to. You know the $300, $400 price point is potentially a potentially a much bigger market, so if we did do something, that's where we would tend to focus next.

And do you think that would be internally generated or would you, or are you, you know, considering partnering with people on different types of products?

Both. I mean, Nautilus, or Bowflex, more specifically, traditionally has had lots of people coming in. Whenever there's a new idea in the fitness business we tend to see it.

Right.

So some of them are generated from other, if there are third party inventors, some of them are based on research we've done internally, so we're looking for the best, the best fit, basically.

Right. Okay. Great. Thanks, guys. Good luck in the fourth quarter.

Thank you.

Thank you.

Thank you. It appears there's no further questions at this time. I'll turn the conference back to Mr. Bramson for closing remark.

Thank you. Thanks everyone for joining us on the call. And we look forward to the next one. Hope to have some better news for you.

Thank you, ladies and gentlemen, that concludes our conference call for today. We thank you for your participation. And ask that you please disconnect your lines. Have a good day.