Rocky Brands Inc (RCKY) 2011 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands third-quarter fiscal 2011 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 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, 2010.

And I'll now turn the call over to Mr. David Sharp, President and Chief Executive Officer of Rocky Brands.

Good afternoon, and thanks for joining us. With me on the call is Jim McDonald, our Chief Financial Officer.

Overall, we were pleased with our third-quarter results. We continued to experience increased demand for our Rocky-owned brands in our core western, work, and hunting categories. At the same time, our commercial military business, which was launched in 2010 and falls under our wholesale segment, more than doubled compared to the year-ago period. This helped to partially offset the significant decline in military segment sales and the loss of the Dickies [license] business, which in the third quarter of last year generated sales of $4.3 million and $2 million, respectively, a total of $6.3 million.

Wholesale sales were modestly below our expectations. However, we feel that consumer demand is stronger than our results indicate. We believe many of our wholesale accounts have recently decided to operate with leaner inventory levels in response to a potential slowdown in the economy.

Our performance at retail, as evidenced by many key accounts that we monitor, is solid. But reorders are not currently matching sell-throughs. Order rates should accelerate as the season unfolds and the weather becomes wetter and colder.

A few of the highlights from our wholesale division include our western boot segment sales increased 11%, with growth coming from both the Durango and Rocky brands. We saw a good response to our women's fashion product, as well as our new Little Durango Kids line of boots. The growth of Rocky western products was driven by increased demand for our Long Range and Original Ride product lines at several key retailers.

The Georgia brand sales increased 8% on the strength of new product introductions and better inventory positions on core styles. Our hunting sales were up modestly in the third quarter and have recently picked up as the hunting season has gotten under way.

And finally, our commercial military sales increased 163% to $4.3 million in the third quarter. For clarification, our commercial military sales are those to on-base PX exchanges and off-base private sector retail stores that service uniformed service people. This high margin business is in contrast to, and should not be confused with, our low-margin government contracts that we receive from time to time which we report as our military segment.

We've two products in particular that appeal to the service people, that they are buying in increasing numbers. They are a fully drainable boot we developed for the US Navy Seals and a [hyper] lightweight book that soldiers like to wear on base and when they are traveling in uniform. Soldiers are purchasing more and more of their own gear as the government is decentralizing its procurement methods. So we plan on this trend to continue into 2012.

Now some comments on our retail division where our operating performance improved dramatically in the third quarter. On slightly lower sales volume, we swung from a loss in the year-ago period to profitability on both higher gross margin and expense leverage. The number of accounts using our customized account websites grew by 15% and enabled sales growth of 38% with that account population.

Also of note, our national account customers did 57% of their business on line or direct in the third quarter, up from 41% last year. This has allowed us to significantly lower our expense base by reducing the number of mobile stores or trucks in operation. We now operate 42 trucks versus 63 last year at the end of this period. And now we are operating just 3 stores compared to 14 in the third quarter of 2010. As accounts continue to seek out more cost savings the interest level in our new web-based platform is increasing and we expect current trends to continue in 2012.

I'll now turn the call over to Jim, who will review the financial details of the third quarter.

Thanks, David.

Net sales for the third quarter were $71 million compared to $74.8 million for the corresponding period a year ago. Wholesale sales for the third quarter increased 1.4% to $60.2 million compared to $59.4 million last year. The sales increase was driven by an 11% gain in our Western category offset by a decline in our work category due primarily to the discontinuation of our license agreement with Dickies at the end of 2010. We also experienced a significant increase in our commercial military business versus a year ago.

Retail sales for the third quarter were $10.3 million compared to $11 million last year. Our military segment sales were $400,000 versus $4.3 million for the same period in 2010. The decrease in military sales was attributable to the completion of our initial order under our contract with the GSA before the start of this year.

Gross profit in the third quarter was $25.6 million, or 36% of sales compared to $27.2 million, or 36.4% of sales for the same period last year. The 40 basis point decrease in gross margin was primarily attributable to an increase in product costs versus a year ago.

Selling, general and administrative expenses were $18 million, or 25.4% of sales, for the third quarter of 2011 compared to $19.2 million, or 25.6% of sales, a year ago. The decrease was primarily due to lower compensation expense.

Income from operations was $7.6 million, or 10.6% of sales, for the period compared to $8 million, or 10.8% of sales, in the prior-year period.

Interest expense for the third quarter decreased to $300,000 versus $1 million in the third quarter of 2010. The decrease in interest expense was the result of lower interest rates on the new $70 million revolving credit facility we signed in October of last year.

Our effective tax rate for the third quarter of 2011 was 29.7% compared to 36% in the third quarter of 2010. For fiscal 2011 our effective tax rate is now estimated to be approximately 32.6% compared to our previous estimate of 35%. The lower effective tax rate is the result of additional permanent capital investments we made in our Dominican Republic operations.

We reported net income of $5.2 million, or $0.70 per diluted share, versus net income of $4.7 million, or $0.63 per diluted share, a year ago.

I'll quickly touch on a few of the highlights from our year-to-date results. For the nine-month period ended September 30, 2011 wholesale sales, excluding Dickies, increased 8.3%. Gross profit improved 230 basis points to 37.3%, with wholesale gross margins up 40 basis points and retail gross margins up 260 basis points.

Interest expense was down $4 million. Net income improved $3.4 million and diluted EPS increased 51% to $1.07 per share compared to diluted EPS of $0.71 last year for the same period.

Turning to the balance sheet, our funded debt was $60.1 million at September 30, 2011 versus $53.4 million at September 30, 2010.

Inventory increased 25.4% to $78.9 million at September 30, 2011 compared to $62.9 million on the same date a year ago. The increase in inventory is the result of an increase in cost per unit, as well as an increase in units. The increase in units was the result of lower than anticipated sales in the quarter. Inventory units are expected to be near prior-year levels at the end of the year.

Lastly, as we announced in the earnings release, we have decided to terminate our defined benefit pension plan. The defined benefit pension plan is a predecessor to our current 401k program and was frozen since the end of 2005. The assets in the pension plan have underperformed expectations over the past several years and expense associated with this underperformance has been capitalized on our balance sheet. This expense would have been recognized over the next 10 years. Therefore we made the decision to terminate the plan instead of letting the gap between the asset value and the commitments continue to widen and, in turn, increase the ultimate expense to be recognized.

However, it will require us -- that we take a one-time $3.2 million net-of-tax nonoperational charge in the fourth quarter to fund the remaining future commitments under the plan. In addition, by closing the plan, the Company will save approximately $200,000 in annual maintenance fees.

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

Thanks, Jim.

As I outlined on the last earnings call, we've identified a handful of key initiatives to grow our business outside our core domestic work, western, and hunting categories. Many of these are longer-term plans, but let me update you on our continued progress.

The first of these involves the international markets. For 2011 we are now on pace to grow our sales outside the United States by 20% to roughly $10 million through direct operations in Canada and distributors in the European Union, Russia, and Central and South America. This comes on top of the 40% increase we delivered in 2010. We recently signed new distributors for the Rocky brand in Finland and for the Georgia brand in the United Arab Emirates. And we are looking for other partners to fill out the map in the years ahead.

Another initiative is centered on extending our brands into new categories. We believe there are a number of logical extensions from both our brands and our proprietary technologies. This includes new industries for our work product, including more indoor-related professions where our proprietary slip-resistant compounds and unique comfort systems would benefit workers who are on their feet for the majority of their shifts,

We also think the broader outdoor market provides compelling growth opportunities for the Rocky brand. The hunting category represents a small percent of the multi-billion dollar outdoor footwear industry. And we're confident that many of the compelling benefits found in our hunting and military boots will appeal to hikers, campers, and other nonhunting outdoor pursuits.

Finally, we're developing more fashion-forward product under the Durango brand. So far this has been working well, as evidenced this quarter with the reported increased sales. This line extension gives us entre to new domestic channels of distribution in metropolitan areas and has appeal for our export markets. For fall of 2012 we have expanded the line and are looking to unveiling it at the FFANY New York Expo show in early December. We've had a great reaction to the line from those retailers who have previewed it. They've commented positively regarding its fashion relevance and value. This is the first time in over a decade that we're attending this market and we're working hard on penetrating new channels of distribution with the brand.

Operator, we're now ready to take questions.

Thank you. (Operator Instructions) Reed Anderson; D.A. Davidson.

I have a few questions. David, let's start just kind of talking about the western business. I wonder if you might just provide a little more color there because that has really continued to be one of your strongest areas. And I'm just curious if you think that's almost entirely driven by a lot of the new product that you're putting out there? Or is some of it also just where that product is distributed? And I'm just thinking of, particularly in some, I don't want to say rural markets, but the rural economy is very strong. And to the extent that that might be a customer who would buy a pair of boots, I'm just -- if that's a factor. But if you could just provide some more color on why that's been so strong, please.

Well, with respect to the Rocky brand, as you know, the product is really heavily focused on work applications. And we've gained a lot of shelf space in traditional western stores and farm and ranch stores. So, yes, I think it does appeal to that rural customer and that's certainly who we're targeting with it.

With respect to the Durango brand, a lot of the growth is coming from our traditional western distribution, but with more a fashion product that is not strictly a western-type product.

Okay, that's helpful. Thank you. And then another question I had just on sales trends -- you'd said it was, particularly wholesale, just a little bit less than you thought. I've got to believe weather was a negative. I mean, it's been very warm, not a lot of moisture, particularly in a lot of the Upper Midwest. People that are out hunting and things like that, I mean, that's got to have been deferred. Do you think that was a factor? You said order -- reorders have not followed sell-throughs. Do you think that weather was a factor?

Yes. We have businesses that are affected by weather. There's no doubt. And I think that the weather was more favorable in the third quarter last year than it was this year. And as the weather is starting to change, we are seeing our hunting business, our insulated work boot business, picking up.

We also had two large programs at large retailers where we've had good sell-through where I think the retailers were concerned about their inventory levels throughout their whole business, not particularly in footwear or with our products, and we didn't get the fill-ins that we, frankly, deserved. But we're actually seeing those improve right now as the weather is changing.

That's great. And then, one last one. Jim, you did say, obviously, in inventory growth that it was both units and cost. I'm just curious, could you just give us a sense how much higher product cost is baked into that inventory growth, just ballpark?

Of the increase that we had of $16 million, about 55% of that is related to increased product cost and then the 45% is related to an increase in units.

Okay. That's great. Thank you. Best of luck.

Mitch Kummetz; Robert W. Baird.

Let me just start on the Q3 shortfall. How much was the shortfall relative to your expectations?

Approximately $2 million to $3 million in wholesale.

Okay.

But we were right on target, really, with our retail businesses. We -- because we [remake] that. And then of course we had the major shortfall in military, but we expected that.

Okay. And so with the expectation of reorders accelerating as we go through the year, how much of that $2 million to $3 million do you think you make up? Do you think you make all of it up or is there a piece that you have to close out?

Yes, I think, as we just discussed with Reed, we -- if the weather patterns are more severe in the fourth quarter than they were last year on a comp basis we should do better. We're getting great sell-through reports from our retailers. We have a lot of new product in the pipeline. We've taken a good, hard look at this inventory. It's heavier than we'd like it right now, but we do feel very confident that we'll be -- we'll have the inventory down to pretty much where it was at the end of last year at the end of this year. And that's without promoting it heavily.

Okay. And inventory looks to be up about $16 million year over year. So just a couple million from -- or maybe even a little less than that -- from this shortfall in the quarter?

Well, that's inventory --

Yes, it'd be about a couple million.

That's about right.

Yes.

Okay. And then, you guys have talked a lot about the commercial military business. Sounds like it's trending very well. Is there any way you can give us a sense as to how big that business is and what the growth -- did you say what the growth rate is on that business?

In the quarter it was up around doub- -- I think was 40%, we reported 40%. And we think we can sust- -- actually it was up 200%-and some I think.

For the year so far it's more than doubled, though.

Yes.

Okay.

Mitch, we said 163% in the quarter. So we believe that we can sustain that kind of growth into next year.

Okay. I'm guessing that's going off of a pretty small base and continues to be a pretty small base? I mean, again, is there any way you can kind of give us a sense of magnitude, how significant that is for your overall growth?

Well, year to date we're at $14 million on that business versus about $6 million last year.

Okay. That's very helpful. On your overall wholesale business, I know you're still lapping Dickies and I know that was a drag on the sales. Could you say what wholesale was ex Dickies on the quarter?

Ex Dickies we were up about 5% in wholesale.

Okay.

We did $2 million last year in sales of Dickies products last year.

What was Dickies in Q4 last year? I can't remember exactly when that was terminated.

It was about the same, $2 million, maybe a little bit more than $2 million.

Yes.

Okay. All right. Let me see; I might have another one or two. Oh, on the stores I think you said you have 3 now and there -- was it 24 last year? I didn't quite get that number.

That is correct. Yes.

Okay. Good. And then -- oh, I always ask you this question, Jim. Gross margin by segment -- wholesale, retail, military on the quarter?

Sure. Wholesale was 35%. Hold on one second. Wholesale was -- I've got the wrong sheet out here. Here it is. Wholesale was 34.3%; retail was 47.1%; and military was 13.3%.

Okay, 13.3%. And then on the SG&A with the headcount reduction, how much of an impact was that on SG&A? And how does that play out on a go-forward basis? And I guess you continue to benefit from that, then, right?

Yes, I think we do. We had -- it was about $600,000 in the quarter. And we'll continue to benefit from that, but we are -- as we try to grow we are trying to reallocate some of those resources that we've had into things that will help us grow the top line, so.

Okay.

Yes, we're just shifting it around. We'll still have some benefit but maybe not to the magnitude -- certainly not to the magnitude we've had in the past.

Got it. Okay. And then lastly, on the interest expense I think your guidance had been $1.5 million but it looks like you're continuing to trend below that for the year. Should we be taking something more in the neighborhood of $1 million?

Yes, I think that interest expense for the quarter was $250,000. I would expect fourth quarter to be similar to that.

Okay.

Our ARMs are starting to -- they've peaked and they're starting to down. So I'd say that we should be relatively similar to that probably in the fourth quarter.

Great. All right, guys. Thanks a lot. Good luck.

(Operator Instructions) John Sullivan; Olstein Capital Management.

I just wanted to circle back real quick on the inventories here. So you said that sales were maybe a couple million short, which looks like it would have taken care of the sequential increase. But on the year over year being up 25%, you guys -- it sounds like you alluded to not having to promote it heavily in the fourth quarter to work it down. Is that you're just doing quite a bit less production to offset?

Yes, that's correct. Less production and less sourcing.

Okay. Okay. Just if my math is correct, the inventory's been kind of keeping the cash flow at bay this year so far. But is that something we should be looking at to reverse in Q4?

Yes, I think that's -- I think your -- obviously as the inventory comes down we're going to push that all into cash and reduce our loan balance. The other thing that's affecting us this year as you compare it to last year is that our -- last year we did $17 million in military business, $4 million of it in the third quarter. Well, those sales had very short terms on them and they turned out of receivables pretty quickly, certainly in comparison to the turns in our wholesale business and our retail business. So that's just delaying the cash flow a little bit here as we turn those receivables into cash.

Okay. Great. Thank you.

Thank you. At this time there are no further questions. I would like to turn the floor back over to management for any closing comments.

Okay. Thank you for joining us on the call. We'll continue to work hard and talk to you in another 90 days.

Ladies and gentlemen, this does conclude tonight's teleconference. You may disconnect your lines at this time. Thank you much for your participation and have a wonderful evening.