Rocky Brands Inc (RCKY) 2010 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands fourth-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.

Thanks. Before we begin, please know 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 31, 2009.

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

Thank you. Thanks to 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 to be speaking to you today and sharing fourth-quarter results that are a significant improvement from a year ago.

Total sales increased 8% to $66.7 million driven by a 14% or $6.6 million gain in our Wholesale division. Our work, Western and duty categories also delivered double-digit percentage gains during the fourth quarter, led by work which was up 20%. Throughout the year, these businesses have been building momentum fueled by new innovation, brand extensions, and more focused sales and marketing effort.

The consumer response to many of our new product introductions ha been very encouraging and is leading to strong sell-through, higher reorders and improved shelf space at our large network of independent, regional, and national accounts.

It is also worth noting that sales in our Retail division were flat with the fourth quarter of 2009. This performance represents our best year-over-year sales comparisons since we began transitioning this business to a web-based order platform and direct ship delivery method. As you may recall, this process started in earnest about two years ago.

While it has taken some time to iron out a few kinks and get some of our customers comfortable with this new business model, we feel confident we are now in a position to profitably grow that business in the years ahead.

Our solid topline growth, coupled with the reductions we have made in our SG&A over the past couple of years, allowed us to significantly improve our operating platform. Our overall fourth-quarter performance was a great way to close out a successful year. During the back half of 2010, we began to witness the returns from our combined efforts to improve the Company financially, strategically and operationally.

Financially, we have lowered our SG&A approximately 17% or $20 million over the past two years, while at the same time reducing our debt level by 60% or $52 million. Strategically, we have worked hard to improve the market share of our Rocky, Georgia Boot, Durango, and Lehigh brands. And operationally, we have reduced our sales force, overhauled our retail platform and, more recently, began to expand capacity at our manufacturing facility in the Dominican Republic and explore other production options in the Caribbean basin.

We view our Company-owned facility as a key competitive advantage and not just from a speed-to-market perspective, but from a financial one now as well.

In 2010, the cost of producing a pair of boots in these two locations nearly reached parity and when you factor in the extra duty on goods out of China, the Dominican Republic has become a much more attractive option than it was only a few years ago. After providing about 20% of our inventory needs in 2010, we expect production of 30% of our unit volume in 2011.

While there is still more work to be done, we start 2011 in a much better position to pursue our future growth strategies. I will now turn the call over to Jim to review the financials.

Thanks, Mike.

Net sales for the fourth quarter increased 8.2% to $66.7 million compared to $61.7 million in the corresponding period a year ago. Wholesale sales for the fourth quarter increased 14.4% to $52.5 million compared to $45.9 million last year. The sales increase was driven by a 24% gain in our work category, with our own brands, Georgia Boot and Rocky, increasing 18% and 42%, respectively.

Our Western and duty sales also grew nicely, up 13% and 18% respectively, in the fourth quarter while our hunting sales decreased 12%.

Retail sales for the fourth quarter were $12.4 million compared to $12.5 million a year ago.

Finally, Military segment sales were $1.8 million versus $3.3 million in the same period in 2009. The decrease in Military sales was driven by shipments of footwear under our contract with the GSA that was announced in August 2009 and began shipping late in the third quarter of last year.

Gross profit in the fourth quarter was $24.3 million or 36.5% of sales compared to $22 million or 35.7% of sales for the same period last year. The 80 basis point increase in our gross margin was driven by the increase in wholesale sales which carry a higher gross margin than our Military segment.

Operating expenses were $19 million or 28.4% of sales for the fourth quarter of 2010, compared to $19.1 million or 31% of sales a year ago. Income from operations increased 86% to $5.4 million or 8.1% of sales for the period compared to operating income of $2.9 million or 4.7% of sales in the prior year.

Interest expense was $1.7 million for the fourth quarter of 2010, compared to $1.8 million a year ago. The decrease is attributable to reduced bond versus a year ago combined with lower interest rates as a result of the new $70 million revolving credit facility with PNC Bank signed in October 2010.

This decrease was offset by a non-cash charge of approximately $1 million associated with deferred financing costs related to the extinguishment of our previous credit facility in term loans. As a reminder, we closed our new credit facility with PNC Bank during the fourth quarter.

To quickly review, it is a five-year agreement with availability to borrow up to $70 million. So it secures the Company's financing out until 2015. The current interest rate is very favorable at LIBOR plus 150 basis points.

With these new funds we retired the $11 million remaining on our senior term loan, which carried an interest rate of 11.5%, and paid off all GMAC borrowings, which carried an interest rate of LIBOR plus 300 basis points. Based on today's interest rates, we expect our 2011 interest expense to be approximately $1.5 million compared to interest expense of $6.5 million in 2010.

Heading into 2011, we are now in a much better position to generate free cash flow that can be utilized for working capital purposes and to further reduce debt. Net income for the fourth quarter increased to $3 million or $0.41 per diluted share compared to net income of $900,000 or $0.16 per diluted share in the fourth quarter of 2009.

Our effective tax rate for 2010 was 31.7% compared to 36.5% for 2009. The decrease was the result of permanent capital investments in 2010 in our operations in the Dominican Republic, which reduced our taxable income. We plan on making additional capital investments in these operations in 2011 and anticipate our effective tax rate will be approximately 35% for 2011.

Now turning to the balance sheet. Inventory increased 6.2% to $58.9 million at the end of the fourth quarter compared to $55.4 million on the same date a year ago. Funded debt as of December 31, 2010 decreased 36.9% or $20.5 million to $35.1 million compared to $55.6 million at December 31, 2009. This decrease is primarily the result of proceeds from our equity offering in May 2010 and cash generated from operations.

David will now update you on the growth initiatives we are working on for 2011.

Thanks, Jim. As Mike and Jim have both commented, our sales increase in the quarter was driven by the velocity of our Rocky and Georgia workboots in our Wholesale division. The focus in 2010 on building our work category has led to expanded market share. For the year, the Georgia Brand sales increased 15% and the Rocky Brands sales increased 34% from a smaller base.

This occurred for three reasons. First, at the beginning of the year, we launched new dealer affinity programs which rewarded accounts if they placed basic stock fill-ins every one or two weeks. This program improved our retails in stock position and they were able to generate more sales. Thus, they reordered even more.

Second, this program was supported by a new B2B capability. Websites that these dealers could go to and learn about our product availability -- which is very SKU-intensive -- and place orders themselves. The popularity of the site grew throughout the year, and we have begun a second phase rolling out new functionality where we are now pro-actively marketing offers to retailers based upon their business type and their buying behaviors.

And last, and perhaps most important, as we reported two years ago, we revamped our development process so as to go to market with more relevant product, a product that is really adopted by our dealers and readily accepted like the consumers. During the year, 10% of our workboot sales were from new products, those that were shipped for the first time in 2010. This is a record for us.

Footwear Plus, a leading industry publication, recently validated our product excellence when they polled retailers regarding innovative design in the category. Unseating a competitor of ours which has had the Footwear Plus award for 11 consecutive years, the retail community voted Rocky Brands as the most innovative.

So we have a great deal of momentum in our workboot division. And we believe that will continue in 2011 to steal shelf space from our competitors with our new products and customer affinity programs.

Regarding the sales of our outdoor hunting boots, although the season started slowly with unseasonably warm weather in September, we benefited later in the season from the long sustained winter with record cold temperatures and precipitation. For the year, sales ended up flat with 2009.

We are optimistic about our ability to improve sales in the category this year. Our retailers have sold through their inventories extremely well. They have no carryover inventory and early bookings point to improved business with a few of our major customers.

With respect to our Western business, we had a strong fourth quarter. Sales were up 13% with solid performance from our Durango brand. Sales in the category were up 4% for the year. Because of our customers' acceptance of a new product which will ship in the second quarter and early indications of acceptance of the fall '11 line, we expect high single-digit growth in our Western business this year If our new products retail well.

Now turning to our international expansion efforts. This remains a major focus and growth strategy for our Company.

In 2010, we managed to grow our small base of business outside the United States by 50% from $5.6 million to $8.5 million. Our strategy involves finding the right distributor -- that is, with local knowledge of the work, Western, and hunting markets with the right organization in our targeted regions.

We are pleased with our progress. We now have two distributors in the UK, with one pending. We have five distributors in continental Europe in 23 countries, with three additional pending agreements. We have one distributor in the Caribbean, and we recently signed a new distributor agreement for Central America. We have other agreements pending in Japan and Israel.

To date, most of our success has been in the hunting and work categories, but we remain optimistic that we will have commitments in 2011 for our lifestyle offerings. Most of our distributors are new. Many of them start with small test orders. If their test experience is satisfactory, growth can be dynamic.

Now for an update on our military boots. Not those sold on the contract to the Department of Defense, but those sold to individual soldiers at the Army Air Force Exchange Service and PX's and recorded as sales in our Wholesale division.

Sales surged up 24% in the quarter in this category and we were able to keep up with this command gearing up the manufacturing facility that produces these goods. We continue to invest in and build our commercial military business with new products. These products include basic military combat footwear with improved combat features and innovative designs. Initial deliveries of a new featherweight boot for physical training and garrison use saw a tremendous sell-through at retail, indicating strong market demand for this unique product. Sales of this product should yield positive impact in the first half of this year.

With respect to the sales of military boots to the Department of Defense, we currently have contracts totaling $2 million for delivery in 2011. We expect that there will be other contracts let this year and we will bid for them aggressively, but as always we are focused on building branded business with products in the channels where we enjoy the best margins.

So to summarize our growth strategies in our Wholesale division, they will continue to be centered around customer segmentation, brand and line extension, penetrating markets outside the United States and capitalizing on the growing popularity of our military boots.

Let me now expound on Mike's comments regarding our Lehigh retail business. In this new economy, we provide the lowest cost safety shoe solution to the now more than ever expense-conscious workplace safety director. Now these customers can purchase the footwear via our web portal and orders are fulfilled direct to the consumer via a freight carrier. This is far less costly than the old model of taking the footwear to customers and fitting the product on to the customers on our trucks.

At the beginning of 2010, we operated 19 centers which serviced 67 trucks. Today, we are operating 11 centers serving 55 trucks. Our investments in technology are enabling rich analysis, allowing us to deploy trucks in markets where this cost-intensive service can be profitable. And at the same time, we have been able to identify and retire marginal or unprofitable trucks and centers.

Another benefit of downsizing our fleet is improved military utility. Most of the inventory to serve this business is now centrally located. We are optimistic about this transformed business model. It is now quite profitable, and we believe that we will be able to reverse the declining sales trend over the next 12 months.

Before I turn the call over to Mike for his closing comments, we want to touch on product costs and supply issues in China. This seems to be a top of mind topic right now and we know that this will again be a challenging year, sourcing from China.

Tactically, we are engaged in reengineering some products and resourcing others. It should be well noted that, in 2010, we ramped up the facility we own in the Dominican Republic and we will ramp up again this year by another 50%. This facility will now supply 30% of our footwear needs this year.

Obviously, we will enjoy some fixed cost leverage from this ramp-up. But more importantly we will have far better control over our supply as we see many Chinese vendors with constrained capacities.

As we reported on the previous call, we raised prices at the beginning of 2011 approximately 5%. Regardless of where inflationary pressure takes prices this year, we believe that we will be able to remain competitive because of our diverse supply base and strong brands.

I will now turn the call back over to Mike for his closing comments.

Thank you, David. The past several years have not been without challenges, both internally and externally. However, after digesting the acquisition of EJ Footwear, integrating our two organizations, rightsizing our operating platform, and emerging from the economic slowdown, things began to fall into place in 2010.

Looking ahead, I believe we have a solid business plan in place to continue profitable expansion -- expand -- expansion of our business. With a much improved balance sheet, we now have more resources to invest in our powerful portfolio of brands and expand our share of the work, Western and outdoor markets.

Today, I am more excited about the Company's future than ever. We have assembled a great team that I am confident is up to the task of delivering sustainable sales and earnings growth and returning increased value to our shareholders over the long term.

To close, I want to thank all of the Rocky employees for their commitment and dedication. Your efforts, day in and day out, is what drives our success. Keep up the great work.

With that, operator, we are now ready to open the call for questions.

(Operator Instructions). Mitch Kummetz with Robert W. Baird.

Thank you. First off, let me congratulate you on the quarter and the year. And I've got a number of questions.

First one actually is just a housekeeping question. You mentioned that gross margin was up 80 basis points on the quarter and, Jim, you talked about growth in Wholesale. Could you tell us what the gross margins were across the business segments? You know, Wholesale versus Retail versus Military?

For Wholesale the gross margins for the fourth quarter were 35%; 47.5% for Retail; and 2% for Military.

Okay. And that's a pretty big uptick on the Retail side. What explains that? I guess I was under the impression that the transition actually was hurting the gross margin there. So has something changed or did I not understand that correctly?

No. I think that it's just -- I think we are returning to more normalized margins. I think our margins earlier in the year were down slightly as we had some operational issues there that we needed to address as far as billing and things like that. So I think we are more back in that 47.5% range. It seems like more sustainable going forward.

Okay, great. And then just on the margin, I guess on the costs, David, you addressed that to some extent. But could you just remind us you know what the transition that -- you guys are ramping up your production in the Dominican and also with the price increases that you are taking -- first off I guess, what do you see kind of all in, in terms of increase in costs in 2011. And then, again, how much of that gets offset by the price increases?

I think that we are going to be able to maintain our margins this year. We see that cost could be as -- increase as much as 10%, maybe 12%. But some of these markets that affect -- the commodity markets that affect our business are pretty dynamic, and so we really don't know what that effect is going to be.

I think the other thing is, Jim, that at least on wholesale we feel good about maintaining the margins on a percentage basis. Because we're -- the business that we are not going to be in next year, in the Dickies license, in the Dickies brand was our lowest margin and as we [made] those sales with higher margin sales, that should help at least maintain the wholesale margin -- the margin we have on wholesale going forward.

And so for the same reason, Mitch, you know we were replacing some of the military business with branded business.

And, Mitch, there's two things going on here. It's the inflation that is happening, but it's also getting delivery of product. And last year everybody that I know in the shoe business suffered in getting, including us, in getting what we needed on a timely basis from our sourcing partners in China.

So you can't sell it if you don't have it. We like the fact that we have been in business in the Dominican Republic for 24 years. We had downsized that when we could make more money bringing the shoes out of China and we started to reverse that last year, and we have some advantages. So I feel good about where the Company is.

Got it. And then on the wholesale business, you seem to have some good momentum there especially on the Work segment. And, David, you kind of ran through that in your prepared remarks and I think you -- the one that you specifically referred to your outlook for 2011 was, I think it was Western. You said up high single digits.

But it sounds like Work and outdoor should also be up. I'm just wondering do you expect them to be up a similar amount, or --?

Yes. Yes, I think that's what we have planned.

And then on the retail business, which was flat, and then you talked about the transition there in terms of the number of centers and trucks that you ended the year and how that compared to last year. Kind of what is the plan for 2011? Are you pretty happy with where those numbers are? Do you expect the centers and trucks to continue to come down? And do you think that that Retail business could return to growth in 2011?

Well, yes. I mean, we have -- we are planning --. We have the business planned flat for the year. We are going to continue to look at the profitability of these trucks and centers and will operate them if they are profitable and we will down them if they're not.

So currently the trucks and centers that we are operating are operating profitably. Old habits are hard to break, as we all know, but I am seeing some successes from the Retail division in large corporations throughout America that give me great confidence that the dollar saving is so great to the buyer of the footwear, I -- somewhere this year, early next year they are going to be coming here in droves.

We're committed probably more than ever to continue transitioning to the -- this model.

And then two last questions and that's a good lead-in to the next one. Which is, on the SG&A, that has come down both in dollar terms as a percentage of sales and a lot of that I would imagine has to do with that transition. So is that something that you would expect to continue to trend down in dollars in 2011? Or are you looking to invest in other areas of the business?

Well, I think that we do have some savings coming in our Retail division there. But we do have a variable about 15% -- 12%, 15% variable SG&A for distribution costs and selling costs and things like that. So absolute dollars provided we have that high single digit sales increase that we wouldn't see savings in absolute dollars (multiple speakers).

Last question on the interest expense, Jim, I think you had said on the last call or maybe the one before, you are looking for about $1.5 million on the year. Is that still where it you are expecting it?

Yes.

Okay, great. Thanks. Congratulations.

(Operator Instructions) Reed Anderson with D.A. Davidson.

Good afternoon. Let me also add my congratulations on a great finish to the year.

Couple of questions. First off, on -- back to the Dominican expanding capacity, I just --. I mean what physically to add -- to add another 50% of capacity versus is what you have there, is that just a matter of adding a line? Is it adding infra--- just what do you need to do to actually get there and how quickly can that happen?

In the industrial free zone that we are in and have been in from day one, there were probably 50 apparel factories that shut down in the past five years. So we are grabbing up empty buildings in the same zone, converting them to shoe, whatever we need, from warehousing to shoe manufacturing. We've -- Jim mentioned that we put new equipment, new machinery and equipment, size and patterns and the slow part is really training the associates. We are up to like 1,500, 1,600 associates.

But we are ramping it up as quickly as we can, keeping in mind the quality and on-time delivery is critical.

So obviously that is ongoing. But by midyear, you feel like you'll have a lot of that in place?

Yes. I mean, we started early this time last year and we ramped up heavy in the second half and we've kept that going with, again, picking up -- we picked up two new -- not new buildings, new to us. And we have just organized ourselves to make a lot more pairs in hiring the people, buying the equipment, buying the [last] and the dies and buying the raw material.

Mitch, the tax advantage that we got -- I'm sorry, Reed -- in 2010 we are going to continue in 2011. It's because of these investments that we made in equipment. So we made -- we will have made more investments in '10 than we were going to make in '11. So we are well along the way to be a little -- [to] produce the kind of numbers that we want to in 2011.

I said I think -- I have always been a shoemaker. My dad has always been a bootmaker. My grand -- I'm proud that we are still in the bootmaking business and not just sourcing. I think that gives us credibility and some small advantages.

So I think it's good. I think it's good for the Company and we want to take advantage of it when it is in our favor.

Absolutely. And then related to inventory, you are one of the few people to who really didn't show the big inventory jump coming out of the fourth quarter. I'm just wondering if, Jim, you could give a little color on that? I'm suspecting some of that is related to what's been going on with the Lehigh business, etc. But if you could just provide some color on why your inventory wasn't up a lot like other peoples? And what it might -- is that going to start to grow [kind of lines with sales up]?

Well, I think that we are certainly focused on better inventory management and inventory turns and have been for a while. I think that our inventories were not up that dramatically because we are still, as Mike said, having some difficulty in getting our products and we may have been able to have some more sales in 2010 if we would have had availability to product more.

So, and the other thing is the sales, the inventory increase we did have, we know that our inventories at the end of 2009 were lower than we would have liked them to have. So yes. We think the inventories will still maybe go up a little bit, but we feel pretty comfortable where we're at right now.

And certainly as we do more in our own facilities, our lead times are shorter which allow us to have -- to better turn our inventory.

That's an interesting -- what you will find and what we know is that the Dominican operation has added inventory to the raw material, but it has taken away from finished goods. Because we can get those goods in about 10 days versus 30 days from China. So there's always a give and take.

And you are also right having inventory end. We closed several -- I think 15 of our centers at the end of 2009 last year and having that inventory in one location allows us to have a lot less inventory for that operation, for our Lehigh operation.

The other dynamic is around the mix of customers and we know the channels of distribution that we are in, we still have a lot of consolidation in customers and the larger customers like to take it direct. So we never (multiple speakers).

David, you gave that statistic about, I think it was 10% of your sales were from new products or something like that. I mean, does that --? I realize it's probably hard to pinpoint, but does that number go up further this year? Because, Mike, when I saw you at in tradeshow, you got a lot of new stuff out there and a lot of different areas. I'm just -- is that going to continue to be a piece that drives topline and newness sort of thing, or was last year kind of an anomaly?

No. I think for the future, in order to get the line extensions that we want, we are obviously going to have to add new products. You know, traditionally, that Work category that I was speaking of specifically where we had 10% from new -- 10% of the business was from new products. That's a category that is rarely refreshed when business is good.

But we also had, in the Western category, 30% of the products were new. And of course, what we're hoping is that those products do very well at retail, sticker retail and have some legs. Two seasons, three seasons, four seasons. And the retail has continued to fill back in.

My last question -- questions is just on the international piece, which again, obviously off a small base that is growing very nicely, so is that something? I mean, can you grow that another 40%, 50% this year? And then secondly I guess, what types of -- what products, Mike, are really driving that? I mean is it across your whole line? I'm suspecting it's not. I'm just curious some color on that.

Where we've had a lot of success immediately was across Europe in hunting. Where the brand has always been -- there's always been some distribution there, but with retailers. So we were never well-priced because we were selling direct to small retailers in very small quantities. It wasn't economic.

Today, we are not selling direct to retailers. We are selling distributors. And they are taking the goods direct from our facility from China from the Dominican Republic.

We have also got some work product placed throughout Europe and in South America. And we are currently at the Pure Show in London. This past weekend, we were there here with our Giant by Georgia line. And we are going to be in Moda, which is another European show based in the UK next weekend. And then we will be at the AWI show which is the Shot Show for Europe in Nuremberg and also in Milan at the MICAM show in a couple of weeks, three weeks.

So we are very active over there. We are getting some traction. As we've said, some of these distributors have pretty good wherewithal and are pretty competent and right now we are just in test mode with them.

That's great. Well, best of luck, you guys. That's it for me and again good luck in the next year.

Thank you.

(Operator Instructions). There are no further questions in queue. I would like to turn the call back over to management for closing remarks.

Great. Thanks, everybody. We are proud of the year, obviously, a lot of wonderful things happened, but that is old news. We have got to deliver in 2011 which I am comfortable we will. So thank you very much.

This concludes today's teleconference. You may disconnect your lines. Thank you for your participation.