Rocky Brands Inc (RCKY) 2007 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Rocky Brands third quarter fiscal 2007 earnings conference call. At this time all participants are in a listen only mode. Following the presentation we will conduct a question-and-answer session, and instructions will be provided at that time. (OPERATOR INSTRUCTIONS). I would like to remind everyone the conference call is being recorded, and I will now turn the conference over to Mr. Brendon Frey of Integrated Corporate Relations. Please go ahead, sir.

Thanks. Before we begin, please note that today's discussion, including the Q&A period, may contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Such statements are based on information and assumptions available at this time and are subject to change, risks and uncertainties which may cause actual results to differ materially. We assume no obligation to update such statements. For a complete discussion of the risks and uncertainties, please refer to today's press release and reports filed with the Securities and Exchange Commission including Rocky's form 10-K for the year ended December 31, 2006. I will now turn the conference over to Mr. Mike Brooks, Chairman and Chief Executive Officer of Rocky Brands.

Thank you, Brendon. And thank everyone for joining us this morning to review our third-quarter results. With me today on the call are David Sharp, President and Chief Operating Officer and Jim McDonald, our Chief Financial Officer and Treasurer. Earlier this morning we reported third quarter revenues of $82.3 million, up 5.4% from the year ago period, and net income of $1.1 million or $0.21 per diluted share compared to net income of $4.2 million or $0.76 per diluted share.

While our sales were in line with our projections, due primarily to a 25% increase in the retail division, our earnings were lower than we had anticipated due to a combination of factors that negatively impacted our gross margin coupled with higher operating expenses. First, during the third quarter we granted select retailers a one time price concession on some of our work footwear productlines in order to increase shelf space at both existing retail partners and new accounts. While this obviously had a near-term impact on our gross margin, we believe the long-term it will result in key marketshare gains for our work brands led by Dickies and Georgia Boot.

Secondly, we have recently witnessed an unexpected increase in product cost, both from our company owned and operated facilities and our third party manufacturers. In an effort to mitigate the impact of these rising costs, we recently instituted a small increase in our wholesale price points across the board, which should help return margins to a more normalized level beginning early next year. This is in addition to a planned annual price increase scheduled for January 2008.

Lastly, we experienced significant price pressure on our hunting business as warmer than usual weather during the quarter created a challenging retail environment for the entire industry. With the increased competition from additional brands, including private-label, coupled with the lower-than-expected demand in the marketplace, we were forced to reduce the price points on many of our hunting products. Taken together, these events contributed to a 550 basis points decline in our gross margin for the third quarter.

Turning to SG&A, as we have mentioned before, Iron Age, Lehigh's largest competitor in the safety shoe business went bankrupt and shut down its operations earlier this year. In order to best capitalize on the market share opportunities this created, we made the strategic decision to accelerate our sales and distribution investments. While our operating expenses for this division were up year-over-year, sales increased 25% as we successfully captured several new accounts previously serviced by Iron Age. Our plan is to aggressively go after the additional opportunities we believe still exist for this business and further establish Lehigh as the industry leader.

At the same time, we are focused on streamlining the operations and improving our efficiency to drive increases to the bottom line. And finally, I should note that our warehousing consolidation is on schedule. Earlier we announced that we were consolidating our distribution facilities. We will be ending our arrangement with a 3PL DC in Tunkhannock, Pennsylvania. All warehousing and distribution operations will continue in our company owned facility in Logan, Ohio in early 2008. This is one of the ways we are working hard throughout the supply chain to reduce cost.

I will now turn the call over to David who will review each of our operating segments in more detail.

Thanks, Mike. For the third quarter our wholesale sales increased 1.2% to $64.1 million compared to $63.4 million last year. Sales of our work segment, which includes work footwear branded Georgia and Rocky and our licensed brands, Dickies and Michelin, increased 8.3% to $28.6 million in the third quarter compared with $26.4 million in the prior year period. We continue to find favor with Dickies at major retailers like Sears, Shoe Carnival, Meijer and Big 5 where in some cases, we've been able to leverage our other brands.

For example, at Sears where we are now in all doors with our Dickies brand, they recently dropped their new premier edition workwear catalog featuring work apparel and footwear to 2.5 million households. Alongside their presentation of three pages of Dickies workboots and slip-resistant footwear, Sears also features one page of our Georgia Boot products, one page of our Rocky work products, a page of our Michelin products and a page of our Durango work styles. Additionally, this same presentation is on Sears.com. Last week we learned that Sears will be adding our work apparel in their upcoming Spring workwear catalog.

Now turning to our Western segments; third quarter sales were $9.4 million versus $9.9 million a year ago. We continue to be pleased with our Rocky branded core market products, sales of which improved 26.3% in the quarter, off a base of $3.2 million. For the past three quarters we have been reporting softness in our Durango women's fashion business. However, we are starting to see this business rebound and expect to be able to record improvements in this category at the end of this quarter.

Now hunting footwear, which as Mike mentioned earlier, was down year-over-year and below our expectations. Sales decreased 5.8% to $15.8 million versus sales of $16.8 million last year. The continuing warming climate trend, aggressive growth plans of our larger customers with a focus on their private-label are creating challenges. We believe that the Rocky brand is still the most desired brand by hunters, and we will continue to fight for market share by differentiating the brand with innovative features the likes of which our loyal customers have come to expect.

Apparel sales in the third quarter were $9 million compared with $9.4 million a year ago. Our product story for this fall hunting season focused on a collection of innovative and customizable systems that feature zip-in and zip-out liners that can be worn in varying temperatures. Although the hunting apparel season has not yet been successful for our retailers, we are hearing that our sell-through is better than our competitors, which should bear well as we start selling in for the 2008 season. We should end the year with an increase in sales in this category exceeding 10% of last year sales of $13.8 million.

Looking at our retail division, which includes our Lehigh retail on wheels business in two concept stores, second quarter sales increased $3.6 million to $18.2 million versus $14.6 million last year. This 25% sales increase represents the largest quarterly increase for Lehigh since we acquired the business in early 2005. We have recently increased the number of trucks we have in operation to 93 from 78, and our team is doing a very good job of capturing the market opportunities created by the bankruptcy of a key competitor. In the ensuing quarters we will be focused on growing this business through direct catalog and Web sales where we have little business today and we can leverage investments we have made this year in website development.

Lastly, we had no sales to the military in the third quarter compared to just under $200,000 for the prior year period. As we announced on our last earnings call, we received a $6.4 million contract from the military which we expect to start shipping early next year. I will now turn the call over to Jim to review the financials.

Thanks, David. Net sales for the third quarter increased 5.4% to $82.3 million compared to $78.1 million for the corresponding period a year ago. Gross profit was $29.3 million or 35.6% of sales compared with gross profit of $32.1 million or 41.1% of sales a year ago. The 550 basis point decline in gross margin was primarily due to pricing pressure and an increase in product cost.

Selling, general and administrative expenses were $25.1 million for the third quarter of 2007 compared to $22.6 million in the prior year. Expressed as a percentage of net sales, SG&A expenses increased to 30.5% of net sales for the quarter from 28.9% last year as a result of higher headcount and additional vehicles to support the future growth of our retail division.

Income from operations was $4.2 million or 5.1% of net sales for the third quarter compared to $9.5 million or 12.2% of net sales in the prior year period. For the quarter we reported a net income of $1.1 million or $0.21 per diluted share compared to net income of $4.2 million or $0.76 per diluted share a year ago.

Funded debt as of September 30, 2007 decreased to $122.8 million compared to $127.3 million at September 30, 2006. Interest expense was relatively flat at $2.9 million for the third quarter. Inventory decreased $2.6 million or 3% to $85.1 million at September 30, 2007 compared to $87.7 million on the same date last year. The decrease in inventory is primarily the result of our continued focus on improved inventory management to the scheduling of receipts to more closely coincide with projected shipment and reduction of discontinued products.

Now turning to guidance. Based on actual third-quarter results and a better visibility into the fourth quarter, we now expect net sales for fiscal 2007 to be approximately $280 million compared to our previous guidance of approximately $277 million. And earnings per share of approximately $0.30 versus our previous guidance of approximately $1.16.

Rocky sales and earnings growth target for the full-year 2007 are subject to all of the risks set out in the Safe Harbor statement in this release and are also subject to audit by the Company's independent public accountants. So there can be no assurance that actual earnings will be as presently anticipated by the Company. I will now turn the call back to Mike for some closing comments.

Thanks, Jim. We are obviously disappointed in our third quarter earnings and our revised outlook for the year. That said, we believe the initiatives that we have executed over the past few months, namely the onetime price concession in our wholesale work business and the increase in operating expenses for our retail division have created meaningful topline opportunities for our Company going forward. As we head towards the end of 2007, we are working hard to improve upon our recent performance and combine consistent, long-term revenue growth with increased profitability.

This includes developing more innovative, lightweight yet durable and comfortable footwear under our portfolio of owned and licensed brands to gain additional distribution and shelf space and increase our share of the work, hunting and Western market segments. We are also committed to further diversify on our business through the evolution of our apparel lines. We are also very focused on expanding gross margin by both increasing price points and reducing our cost of goods sold, while at the same time containing our SG&A to realize a more meaningful operating expense leverage.

Operator, we will now open the conversation for questions.

(OPERATOR INSTRUCTIONS) Mitch Kummetz, Robert W. Baird.

Got a few questions. Let me start with the gross margin, which was down quite a bit in the quarter. You had mentioned three things specifically, the price concession, the higher product costs and price pressure on the hunting business. Could you say how much of the 550 basis point drop was attributable to each of those three factors?

I think that it is relatively about one-third, one-third, and one-third of those three.

Okay.

In round numbers.

That is helpful. And in terms of the price concession, you said it was on the work business. Was it on any of the particular brands, or was it across the board in work?

It was across the board, generally speaking. Some of the newer accounts for Dickies, we took some price concessions to get shelf space.

And then you said you are going to be raising prices going forward, and I can't recall if you said when you would be doing that.

Since we took a price increase -- we announced approximately a month to six weeks ago, a short term six, I call it as we saw the numbers sliding. But we have a -- we are waiting for our new prices from our sources in China, and we will have a, our standard annual price increase January of '08. So we took a short-term price increase for wholesale only, which took effect October 1 of $1.00 a pair across the board. And then we were waiting; we will announce our '08 price increase shortly.

And when you say $1.00 a pair across the board, so that is across all of your brands and all of your businesses?

The brands, on wholesale and now we have some long-term commitments, meaning a twelve-month commitment. So it will not take effect on every -- every new order that comes in, but it will take effect on a high percentage of our new business going forward, starting October 1.

And when you talk about the increase in product costs, is it just, I mean is it labor, is it materials, what is the big driver there in terms of --?

You're absolutely right. China is our number one source of finished goods. And inflation has caught up with China. It is labor. It is raw material. And it is their profits are shrinking, and they are pushing back and demanding price increases.

Okay, and then maybe a few last things. On the SG&A side, you mentioned you are spending to support the future growth of the retail business. Can you talk specifically about what you are spending?

In the quarter we did put on about 15 trucks and opened about another five centers. So we have that expense of startup in those locations, training people, fixturing those locations, et cetera.

So David, how many trucks are you up to now?

93.

93 trucks, okay. And then maybe a question for Jim. In terms of the guidance, the full-year guidance would now imply $0.21 in the fourth quarter given that your $0.09 through 9 months, and that would suggest operating margin improvement over a year ago. Where would you expect to see that? Given that you saw gross margin pressure in the quarter and then I want to say, your SG&A was also up as a percent of sales in Q3; how would you expect to see some margin improvement in the fourth quarter?

Well, I think we've got a couple -- remember that last year in the fourth quarter we took just under an $800,000 trademark impairment charge that affects the third quarter of last year. I also think some of our advertising expenses have come sooner in this quarter than in this year than last year. So we are seeing -- we will have a little bit of improvement there. Quite honestly we will have some improvement also in SG&A expenses on our -- we've recently made a change in our accountants, and we will see some of the benefit of that in the fourth quarter, also. So I think our SG&A expenses will be flattish with last year. And we are adding margin, and our sales -- our additional sales in the fourth quarter are coming primarily from our retail division, which has higher gross margin. So we should be some improved gross margin there on the retail side.

Okay, and then lastly, would you guys care to make any comment on your outlook for '08? I would assume you would expect to see continued sales growth and then some margin recovery. Could you address that a little bit, if you would?

I'm going to address a little bit, even though Jim is shaking his head no. Mitch, I am just deeply upset in our performance this year and all of us are. But as angry as I am with our performance this year, I think '08 is going to be solid. I see a lot of great things that we've done, major things that we've done to turn this business in the direction it needs to go. And I feel good about it. And it won't necessarily come from the hunting side. It will come from the work side of our business. So I think you will see margin improvement. I think our warehouse, I think our changing of our auditors taking some costs out of the business. And I am confident the changes that we've made, the additional expenditures we put in our retail division, Lehigh, will pay off handsomely going forward. So I'm not going to give you a number, but I feel good about '08. We will increase our top line, and we will increase our earnings per share dramatically.

Great. Thanks, guys. Good luck.

Heather Boksen, Sidoti & Co.

Mitch got a lot of my questions. I have a few more for you guys. First, with respect to the retail division up 25% in the quarter, if you back out the additional trucks, how would the trucks that have been in place year-over-year for twelve months or so, how would they be doing?

Comp store sales, when you look at the stores that are open today that were open last year, because we did close some stores in the first half of the year, are up 29%. So in those markets that we were in, Heather, we are up 29%.

So that is just on the bricks-and-mortar store. That's not on the trucks?

That includes the trucks that operate out of those stores, the same stores.

Okay. And I guess my other questions, with respect to the backlog can you say what it was at the end of the third quarter? Up, down?

In our business the backlog -- we don't get a lot of backlog. We expect to have -- our customers expect us to have inventory on hand and ship it. And we are not in the fashion business. So backlog is really not something we --

Our biggest backlog, Heather, comes at the end of the second quarter right before we ship out our hunting business and our hunting footwear and apparel in the third quarter. But by the end of the third quarter it is shrunken dramatically and most of our business in the fourth quarter is at once.

It is repeat business. We can get you that number but it is something we don't manage the business by because it just is meaningless.

No. That makes sense. My other part of the question was, I know a quarter ago you commented that the backlog was up $10 million.

That is correct, and we do see a picture of backlog in, late in the first half of the year, but that doesn't repeat itself. It only happens once a year.

My question was with wholesale sales only up slightly but the backlog up $10 million at the end of the second quarter, were some of those orders canceled?

Exactly. Now I know where you're going, and typically that backlog is in hunting. It is not in work. It is in the hunting section of our business. And there was substantial cancellations this year as that backlog shrunk.

And lastly, you commented that going forward in '08 you expect to return to more normalized margins. Given the couple years you've had here, what do you think is a normalized margins for you guys at this point? Or what is your goal to get back up to?

Heather if you look at last year our margin was in the upper 30s, around 38% for wholesale, and around low 50s for our retail division. We would hope to get back to those numbers, low to mid-'50s for the retail division and upper 30s for the low, running at 34% right now. Our wholesale division we would like to expand that back up to close to the 38% that we had a year ago. So those are -- and then to comment on an overall margin you have to -- it really depends on the blend of our business because you got a 15 point margin, 17 point margin difference between the two of them. So we would hope to expand our margin next year because we believe our margin in retail, our sales in retail will go up as a percentage of the total. So that will help our margin go up on a combined basis, too.

Thanks, guys. Good luck.

(OPERATOR INSTRUCTIONS) Sam Poser, Sterne, Agee.

Good morning. I just have a question. You talked about the onetime discount that you gave to your retail partners regarding the work product, and it is a very competitive environment in that area. How do you make sure it is a onetime thing without losing business next year because once they get used to good prices it is hard to wean them off it?

Sam, I think it all depends on the proposition. And the proposition included a lot of dialogue about how this would be a onetime deal and how we would do business going forward based on the sell-through. So I think we have covered that.

The reports that we get off our three majors that we worked on this was our retail partners, which is typically the case, have not taken discount themselves. Their margin is very handsome and they would be -- I shouldn't say pleased, but be willing to go forward. But your question is a good question. It is a competitive environment. There are no guarantees. We've got to have strong brands, and we've got to earn that shelf space going forward. And make sure everybody gets paid, so to speak.

I forgot to ask a couple more questions; number one, you didn't mention some of your newer brands, Zumfoot and Michelin. Is that something you are still working on, or is that -- what is going on there, I guess?

Zumfoot, Sam, is now in about 65, 70 doors and the kinds of doors that we want it to sell, mom-and-pop, heavily service environment maybe with a [pedorfis] type emphasis. And our sell-through is coming through very, very good. We have people filling into the shoes. We have a lot of promotion plans for next Spring with some key retailers. And the sandal line that we are showing currently is being well-received. That is doing well.

Michelin is focused on the industrial safety channel. We are expanding that business pretty nicely. Obviously our largest customer is our own retail division with that brand also.

They are both small, teeny parts of the business. We feel good about both of those brands, Sam. They were just not an influence plus or positive or minus in this quarter is why we didn't mention them.

When you look out and look at sort of time spent versus return or potential return, do you -- I mean in a sense do you have too much on your plate in total? And might to -- maybe to narrow it up a little bit that might help get those improvements, facilitate those improvements that you're looking for next year.

Are you speaking -- I assume you are looking at the Zumfoot and Michelin?

I'm saying you have a lot of brands that get very close to one another. And then you have a lot of competition, the competitive environment is getting more competitive.

It is in hunting, we talked about that. We think we've got a good plan. We are pleased with -- do we have a full day and a full week and a full month? Yes, but we are pleased with what we have. We are building for the long haul. And we think we need Zumfoot to grow and to be a part of the profit equation. We think Michelin is a great brand going forward, and it takes time to build brands, as you know. We are comfortable what we are doing.

Thank you. Good luck.

(OPERATOR INSTRUCTIONS). Mitch Kummetz, Robert W. Baird.

Just had a quick question on the military business. I know you guys got that contract not too long ago. I thought that was going to start shipping in the fourth quarter, and I thought I heard David say that starts early '08.

Mitch, you are a good listener. We will ship a small portion of it in the fourth quarter of this year, but the bulk will really -- the most will be in the first quarter or second quarter of next year.

So nothing has changed then from -- (multiple speakers)?

Nothings changed, really.

And what is the pipeline looking like these days, and when would you hope to hear on the next contract?

[David Dixon] who heads up our military was at a meeting in Washington, D.C. yesterday, and they are continuing to buy military footwear. We continue to bid on them, and it is just an ongoing process. And I can't give you a hard time frame. It is hit and miss. So we are still there vying for our share, but there is no consistency to when they let these bids. And it is very frustrating. But that is the business. That is the opportunity that we have. We just have to stay in front of them. We bid on every contract that we can possibly make and make money on.

Okay, that was my only question. Thanks.

Thank you and we have no further questions at this time. Please continue with any closing statements.

Ladies and gentlemen, I thank you for calling in and asking the good questions. We look forward -- we will be here if you want to speak with us directly, and we look forward to moving on. Thank you. Thanks, Patty.

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation. You may now disconnect.