Rocky Brands Inc (RCKY) 2010 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands second quarter fiscal 2010 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. Instructions will be provided at that time for you to queue up for questions.

(Operator Instructions.)

I would like to remind everyone that this conference call is being recorded; and will now turn the conference over to Brendon Frey of ICR. Thank you. You may begin.

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 the reports filed with the Securities and Exchange Commission, including Rocky's Form 10-K for the year ended December 31st, 2009.

I'll now turn the conference over to Mr. Mike Brooks, Chairman and Chief Executive Officer of Rocky Brands.

Thank you. And thanks for everyone for joining us this afternoon. With me on today's call are David Sharp, President and Chief Operating Officer; and Jim McDonald, Chief Financial Officer and Treasurer.

We are very pleased with our second quarter performance, particularly the dramatic improvement in our bottom line versus the same period a year ago. During the past two years, we have undertaken several strategic initiatives to right-size our infrastructure and better position the Company to deliver profitable growth on a consistent basis.

This has entailed lowering our corporate overhead; improving the efficiency of our supply chain, which includes our Company-operated manufacturing facilities; restructuring our retail operations; and reducing our debt levels. While we still have work to do, our second quarter non-GAAP earnings -- EPS of $0.17 is evidence of the positive progress we have made toward achieving our objectives.

Specific to the second quarter, our wholesale business, which makes up roughly 70% of sales, contributed much higher profitability versus a year ago, driven by lower manufacturing costs on a per-pair basis at our facilities in the Caribbean. We currently produce about 25% of our annual inventory needs; however, this number could increase in the future as we explore additional manufacturing options in the region in order to offset potential cost increases coming from our China suppliers.

And while they carry a much lower gross margin compared to our wholesale and retail business, the increase in sales to the U.S. military helped us better leverage the fixed costs in our factories during the second quarter. At the same time, our operating expenses are down approximately 11% from a year ago, and we are down nearly 30% from the second quarter of 2008.

A good portion of the decrease is attributed to the ongoing overhaul of our retail business as we move to a more flexible, less capital-intensive order and delivery method. Finally and perhaps most importantly, we continued to significantly reduce our debt levels during the second quarter. Using all the proceeds from our successful equity offering that we completed in May, along with availability under our credit facility, we paid off $29 million of our $40 million senior term loan, which carries an annual interest rate of 11.5%. Not only did we end the second quarter with debt levels down $51 million or 58% from a year ago, but we project we will save approximately $3 million in interest expense per year going forward.

Jim will now review the financials in more detail, and then David will discuss our growth plans for the remainder of the year.

Thanks, Mike.

Net sales for the second quarter increased 7.9% to $55.2 million compared to $51.2 million for the corresponding period a year ago. Wholesale sales for the second quarter increased 1.6% to $38.5 million compared to $37.9 million dollars last year. The sales increase was driven by a 10.5% gain in our work category, with our own brands, Georgia Boot and Rocky, increasing 13% and 16% respectively; partially offset by a 25% decline in our licensed brand, Dickies. At the same time, 13% sales increases in both our hunting and duty categories helped more than offset a 15% decline in western sales.

Retail sales for the second quarter were $11 million, down $1.3 million from sales of $12.3 million a year ago. The modest decline was the result of our ongoing transition to a more direct order/direct ship program, and the decision to remove a portion of our Lehigh mobile stores from operation to help lower costs. Military segment sales were $5.7 million, versus $900,000 for the same period in 2009.

Gross profit in the second quarter was $19.1 million or 34.6% of sales compared to $17.7 million or 34.6% of sales for the same period last year. Gross margin in our wholesale segment rose 370 basis points, driven by the increased manufacturing efficiencies that Mike discussed earlier; however, this was offset by lower retail gross margin as a result of our ongoing transition to more internet-based transactions and the increase in sales to the military.

Selling, general, and administrative expenses decreased 10.8% or $2 million to $16.2 million or 29.3% of sales for the second quarter of 2010 compared to $18.1 million or 35.4% of sales a year ago. The decrease is primarily the result of reductions in salaries and benefits, bad debt expense, advertising costs, and Lehigh mobile store expenses.

Income from operations increased to $2.9 million or 5.3% of sales for the period compared to an operating loss of $400,000 in the prior year. Interest expense for the second quarter increased to $2.1 million from $1.9 million in the second quarter of 2009 as a result of one-time fees of approximately $900,000 associated with the early repayment of $29 million on our $40 million senior term note.

On a GAAP basis, we reported net income of $0.5 million or $0.08 per diluted share versus a net loss of $1.4 million or $0.25 per diluted share. On a non-GAAP basis, excluding the aforementioned one-time fees, net income for the second quarter of 2010 improved to $1.1 million or $0.17 per diluted share.

Now turning to the balance sheet. Funded debt as of June 30th, 2010, decreased 57.8% or $50.6 million to $36.9 million compared to $87.5 million as of June 30th, 2009. Our accounts receivable decreased 8.2% to $40.8 million versus $44.5 million last year. This is particularly important as the decrease came during the period when sales increased 8%, highlighting the improvement we have made managing our receivables. Our inventory decreased $17.5 million or 22% to $61.8 million at the end of the second quarter compared to $79.3 million on the same date a year ago.

David will now update us on our growth initiatives.

Thanks, Jim.

While we have made good progress tackling the cost side of the business, we've also been busy implementing growth initiatives that we're confident will expand our market share and broaden our consumer appeal. Let me update everyone on how these are tracking and what we are anticipating will drive our top line in the back half of this year and over the longer term.

As we discussed on our previous earnings calls, we currently have four distinct growth initiatives. The first involves the brand and line extension of our Georgia, Durango, and Rocky brands. The second involves capitalizing on the growing popularity of our military boots. The third involves customer segmentation. And the fourth involves leveraging our brand equity worldwide.

So first, brand and line extension. About a year ago, we adopted a new calendar for rollout of new products. In the past, we, along with the rest of the industry in the western and work segments, had one product launch per year at the beginning of each year. Now at Rocky Brands, we have four per year, and this is paying off.

Because of this new tactic, for three consecutive quarters we've been able to manage mid-teen sales increases over the prior year in our Rocky and Georgia work boot lines. And this trend will accelerate for the balance of this year and into the first half of 2011. For example, in the third quarter, we'll ship some 21 new styles of Rocky work products, expanding the breadth of the line by approximately 19%. These new products have been well-received. They currently constitute $3.5 million of open orders.

During the last quarter call, we reported that in March we delivered new lightweight and flexible western-influence boots by Durango, and that early sell-through reports from retailers were favorable. We're pleased that these early reports are continuing in frequency and strength. In fact -- a good problem to have -- reorder demand is currently outstripping supply, and we anticipate that we'll be back in business on this collection by September and catch the important fall and winter seasons.

Many key retailers from around the United States are reporting weekly sell-through of 10% and better on these products. We've expanded this collection in both men's and women's ranges and will deliver six new styles in December.

Our second growth initiative capitalizes on the growing popularity of our military boots. On our last call, we told you that we've been exploring the network of distribution outside the bid-based, centralized military procurement system. And we had begun to reap rewards in the first quarter. In the second quarter, we continued to see improvement in sales through this new channel.

Demand for our core special forces military boots is rising, in part as a result of developing relationships with key players in the decentralized procurement chain. Initial rollout of stocking inventories at the Army and Air Force Exchange Service at key military bases continued in this quarter, with excellent replenishment demand adding incremental sales.

Requests for natural variance of our special forces boots, such as steel toe and insulated versions, is creating growing incremental volume and increased channel penetration. We continue to invest in the military footwear development process -- provide solutions with improved war fighter type boots.

Our third strategy for customer segmentation in our wholesale division is being largely enabled by our new business-to-business capabilities. While we're focused on increasing sales through the introduction of new products and new initiatives, we are mindful that 70% of our business in our western and work footwear segments is received in the form at at-once fill-in orders.

At the beginning of this year, we embarked on a bold new initiative to incentivize our dealer network to fill into predetermined model stocks on a weekly or biweekly basis. Our business is a stock-keeping unit, size, and width intensive business. If our dealers are out of stock, they miss a sales opportunity, because our consumers are generally unwilling to wait for special orders.

Our program is working. Our best dealers are using the system. Customers have our products in stock most of the time. Plus, some residual benefits, we've been able to improve margins and day sales outstanding with this program.

Growing our business internationally is our fourth initiative. And we continue to see sales improvements with it, as well. We now have six high-profile distributors of our Rocky branded hunting products serving 27 countries in Europe and Oceania. Clearly, the casual lifestyle market in Europe is a great opportunity for us with the American tradition positioning of our Georgia and Durango brands. And we reported on the last call that we had signed two distributors on the continent, and we now have a third pending to serve the United Kingdom.

We remain committed to these four initiatives and look forward optimistically to grow our top line for the balance of this year and into 2011. I'll now turn the call over to Mike for some closing comments.

Thanks, Dave.

2010 has gotten off to a good start, with year-to-date sales results that have exceeded our expectations. Sales were up approximately 10% in the first six months, and could have been higher had it not been for some supply chain constraints outside our control that interrupted the flow of goods coming in from Asia.

As we head back into the back half of the year, we believe we now have a better inventory position that will allow us to capitalize on the growing demand for our portfolio of brands and products. From an earnings perspective, the combination of solid sales growth, improved merchandise margins, and better operating expense leveraged enabled us to recover from a $0.45 loss in the first six months of 2009 to just about break-even so far this year.

If you exclude the one-time charges related to our debt repayment, we earned $0.08 for the period. We continue to be comfortable that we have the right strategies in place to expand our business, while at the time drive higher profitability through our enhanced manufacturing and operating platform.

We are encouraged by the positive momentum we have created. And we are committed to taking advantage of our improved position in order to deliver strong results in the future and return greater value to our shareholders over the long term.

With that, Operator, we are now ready to take calls -- questions. Thank you.

Thank you. We will now be conducting a question and answer session.

(Operator Instructions.)

Thank you. Our first question is from Mitch Kummetz with Robert W. Baird. Please proceed with your question.

Yes. Thank you. And congratulations on a good quarter, guys.

Thank you.

Let's see. I've got a few questions. Let me start just trying to get a little more color on the wholesale business. Mike, you talked about some supply constraints. And then David was talking about, on the western business, kind of demand outstripping supply. So western was down, Jim, I think you said, 15% in the quarter. I know it was up double digits last quarter.

Is that where you saw the issues in terms of the supply constraints, or was it really kind of across all of your businesses?

I think the supply constraints were really across the entire business.

Okay.

So yes. And with respect to the western business, Mitch, we're now flat for the year. But we do see some upside in the back half.

Okay. And I guess that's my next question. How do you see the wholesale business progressing over the balance of the year? I mean, it was up, I think, about 5% in the first quarter, up a couple percent this quarter. It sounds like you've got momentum on the work side outside of Dickies. Hunting seems to be trending well. There seems to be good demand on the western.

So I mean, do you see an acceleration of the wholesale business in the back half versus the first half?

Mitch, if I may, the supply problems that I think most everybody in the footwear has had the first half of this year have been troubling and difficult for the first half. We have vision of sales that we left on the table that we don't believe are going to go away that will ship in the third quarter and the fourth quarter.

As I said in my statement, it looks like we're back in business on a much higher percentage of our inventory that we can deliver. And to answer your question, we see demand still holding fairly well across all of the categories. And that's really a good sign. So we're encouraged and we're -- we believe that we will see solid sales increase the second half of the year.

Okay. That's good to hear. And then on the retail business, I know that your anniversaring some of your trucks being removed from the market. And does that change into the back half of the year? Does that ease up in the back half, where you could potentially see some increases on your retail business?

I have some metrics on where we're at with these assets in the field.

Yes.

We ended the year with 67 trucks in service. And now, we're operating 60.

Okay.

Those were supported by 30 centers -- shoe centers, we call them, mini-warehouses. And we're at 14.

Okay.

We're employing about 240 people in that business right now. We were at 300 at the beginning of the year. And anticipating a question about the web sales, we -- for the full year of 2009, we were about 11% web. And we're trading about 22% right now.

Okay.

Mitch, I think from a year-over-year sales decline, I think, in the back half of the year, we're hopeful that we can equal 2009 levels in the back half of the year, or certainly have a much smaller decline year-over-year than we had in the first half of the year.

Got it. And then on the military business, I mean, you've shown -- I mean, year-to-date, you've had some really good results there in terms of the revenue. And just kind of based on where the contracts stand and all of that -- and sometimes I lose track of that -- what are the expectations for the back half of the year there?

Mitch, you've got to think of the military in two pieces. The first piece is what everybody likes to talk about. And that's the bidded business, GSA in this case, or it could be DOD, Department of Defense.

But we will manufacture and ship less pairs, because the -- we really had to gear up the first half of this year to get them the shoes that they needed, and we were taxing our factory. So I think we have left about $5 million -- $4 million to $5 million that we will ship the second half of the year.

But what that frees up is the second part of the business that we report under duty, is premier, full Rocky margin product that we're selling every day. And that's growing our duty end of our business, even as our postal business is losing some sales because of cutting the postal employees. But we have some exciting, full-margin Rocky product that we're selling to the military in different channels, if that makes sense to you.

Right. That does. And then, maybe, just two last questions; one on the gross margin. I mean, you guys obviously showed nice improvement on the wholesale business going from the first quarter to the second quarter in terms of the year-over-year. And you're seeing some nice improvement on the costs there, the per-pairage costs.

Does that continue? Is that sustainable going into the back half of the year, or does that change?

We really -- at this point, Mitch, we really have all of our needs purchased. And we're not experiencing -- and we bought them at the old prices. So we think that we're -- at least through the end of this year, we can hold our wholesale prices where they're at.

From a manufacturing standpoint, Mitch, we really started to wrap production up at our factories in the back half of last year. So the year-over-year comparisons will not be as great in the back half of the year as they were in the front half of this year. Those gains won't be as significant on a year-over-year basis, because we really started to wrap those factories up late last -- second half of last year.

Got it. And then lastly, Jim, I guess, a question for you on the operating expenses. You guys continue to do a great job there, actually a lot better than I was expecting in the quarter. And it seems like it was a lot of the same benefits in Q2 that you saw in Q1, so -- in terms of things like salaries and advertising and whatnot.

Should those continue to benefit your SG&A through the back half of the year, or does it kind of flatten out? I was expecting it to kind of flatten out in the second quarter.

I think that the salaries and wages will start to flatten out a little bit more in the fourth quarter than in -- we really made a lot of the changes late first quarter last year and then had severance costs and stuff that ran into second quarter last year. So you'll start -- they still should start to -- we still should have increases -- decreases year-over-year.

The other big thing, bad debt; we took a lot of the hit of the bad debt in the first half of the year. So we shouldn't have as great a year-over-year as we move to the second half as we did in the first half.

And then the advertising costs will actually go the other way.

Yes.

I mean, that was -- we were really under our anticipation. We had some movement of our -- of some advertising expenses from the first half of the year into the second half of the year. And we're still anticipating that to be up about a $1.5 million over last year as we -- as far -- for the year. Because we took it down. We're returning it to more normalized levels. We had taken a lot out of that in the last couple of years in reducing expenses.

Okay. So you expect that to be up $1.5 million for the year.

Yes. About that.

What is it for the first half of the year?

We are, in the first half of the year, year-over-year, we're down about $0.5 million.

Okay. So you would expect it to be up about $2 million year-over-year in the second half?

Yes. That's about right. Yes.

Okay, all right, great. Thanks, guys. Good luck.

Thanks, Mitch.

Our next question comes from Reed Anderson with D.A. Davidson. Please proceed with your question.

Hi, guys. Let me also add my congratulations on a very good quarter.

Thanks, Reed.

Thanks, Reed.

Let me follow up on that last question first. The incremental ad spend -- and obviously, it's incremental because you're, basically, restoring it back to what it was. But any change in mix or where that's targeted -- co-op? What are you doing when you're increasing that? Where is that being directed?

Based on our research that 70% of the purchase decision is made in-store, we're basically spending a lot of that -- those incremental dollars on in-store displays to draw the consumer towards our product.

Also, with implanting product knowledge with the retail associates that serve our consumers. Because we have highly functional, technical products with features and benefits. So that's where the incremental dollars will be spent this year.

Okay. And then will that get you back to, essentially, kind of where you were before you took it down? Or will you still actually be lower than what it was a couple years ago, either on a percent or however you want to look at it?

It'll be where we were in '07, '08.

Okay.

And I think we're scrutinizing the spend. It's so easy to spend advertising dollars. I think we're scrutinizing it much better and getting more bang for our buck, so to speak.

Okay. Makes sense. Then Mike -- or I forget who it was -- was talk -- or Dave was talking about, for example, the -- you've got some new product coming out, 21 new styles, I think is what you said, in Rocky in the third quarter. And I guess what I was curious about that, now that you're kind of reviving the product more regularly or however you want to look at it, from a pricing standpoint, is that a product that these new iterations -- are they being priced a little bit higher, or is the mix end up giving you a higher ASP?

Just some commentary, Mike, on what you're seeing out there from pricing.

Well, I think it should not be a surprise to anybody that prices for a like product are going to be up, whether you buy it in China or -- no matter where you buy it. Raw material, labor, everything is going up.

So we have a price target in mind that we want to build product -- a brand or a style to. And so we're not necessarily tying ourselves to a pricing game. We've got to get the right leather and the right bottom and the right look and the right balance in the shoe.

If you have that -- we have price points that we want to play in, if you may. So we don't get too hung up on the pricing. If the product is right, the consumer will buy it.

I think the average selling price is probably going to be stable for us this year.

Okay.

Even these new introductions, they're in that price band that we've been playing in by brand. But I think we can expect, in 2011, that our -- we'll be moving up. Each brand will probably move up, on average, $10 at retail.

And we won't reduce the quality in the shoe to try to offset a price increase. We think that would be the wrong thing to do. So David's right. We will have price increases next year. We'll probably be announcing those as we move into the fourth quarter early this year, so our customers are prepared.

But new items, we have a target price range we want to hit, and we build the shoe to that.

That makes sense. That's very helpful. And then the last question I had, just -- Jim, on inventories, very well-controlled and, obviously, maybe there are some timing issues in there or relative to production or delays or whatever. But just as we think about your inventory when we get to the end of this year, does it make sense that that's going to be -- you're going to start to see some growth in there? What's your thought process on inventory you want to kind of carry into the meat of the season and end out the year with?

I think our current plan is for inventory to be, at worst, flat with last year at year end, and hopefully down slightly from where we were last year, but not significantly.

Okay.

So I think we'll be in pretty good shape as we move into the end of the year. We took -- we got the big decrease in inventory during '09. And as we get to the back half of the year, anniversaring those year-over-year increases will be much more difficult -- decreases. I'm sorry.

Makes sense. Good. That's it for me. Good luck, guys. Thanks.

Thanks, Reed.

(Operator Instructions.)

Our next question is a follow-up form Mitch Kummetz with Robert W. Baird. Please proceed with your question.

Yes. Thanks.

I just wanted -- I wanted to ask about the international business. David, you kind of gave an update there, just talking about that being one of your four key strategic initiatives. And you kind of ran through some of the distributors.

Could you just remind me of the timing of those coming online and what impact did that have on the quarter? And I don't know if you can break out what your international sales were in the quarter. And is that of bigger benefit to you as you sort of think about the business over the next, maybe -- I don't know -- 6 to 12 to 18 months? How do you expect that to play out, given what you're doing there?

Well, I think we're very optimistic about international business. We actually really started on this as a strategy in '08. And we were starting to get some legs. And then the global economy hit the skids, so we went through a period of 12 months where we really had no interest at all.

But now, we've started to gain momentum again. We're up to six distributors in outdoor, one of which came online in Q2. And we're up to three in what I call lifestyle, and one of those is coming online. So we're really at two, going three.

But I think that, specifically, it's still a small base of business. We should end the year somewhere in the range of $2.5 million to $3 million off of -- I think, last year we did about $850,000. So it's a large increase, but still a small base of business. But these relationships take time to grow, but they can grow very dramatically once we get some momentum.

Okay. And then last question for me. On -- and I'll go back to you, David. I think you had said in response to one of Reed's questions about price increases -- did you say you're taking prices up about $10 a pair kind of across the board?

At retail.

At retail. And --

So -- so --

Yes. Go ahead.

With our -- right now, there's a lot of -- I think there's a lot of puffery in our -- a lot of suppliers in the supply chain are looking to get back to the stronger pricing. And I think we're watching this very closely. And we expect for this to shake out a little bit between now and the end of the year.

But if we were to believe today's numbers, we'd be in the 8% to 10% range.

On the cost increases or on what you're doing with your own prices?

I think cost increases. Yes.

Okay. And do you think you can -- what you're doing on the pricing on your end, do you think that will allow you to mitigate all of those cost increases? Or do you think you'll have to bear some of that or --

We believe that we can improve our margins going forward.

Okay.

Yes.

All right. Thanks again.

(Operator Instructions.)

There are no further questions in the queue at this time. I would now like to turn the floor back over to Management for closing comments.

Thank you very much for listening in. We look forward to continuing on our progress. And we'll report back to you in three months. Thanks, Operator.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.