Rocky Brands Inc (RCKY) 2017 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 2017 Earnings Conference Call. (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, Hector, and thanks to everyone joining us today. Before we begin, please note that today's session, 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 changes, 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 our reports filed with the Securities and Exchange Commission, including our 10-K, for the year ended December 31, 2016.

And I'll now turn the conference over to Jason Brooks, Chief Executive Officer of Rocky Brands.

Thank you, Brendon. With me today on the call is Tom Robertson, our Chief Financial Officer.

Our third quarter results highlight the work that we've done, creating a more efficient operating structure combined with our focus on expanding margins in a period where revenue was down year-over-year and slightly below our expectations. We increased earnings per share fivefold to $0.30. Tom will go through the financials in more detail shortly, but in short, we achieved these levels of profitability by improving gross margins 300 plus basis points and reducing the SG&A nearly $3 million.

We are encouraged by our ability to once again significantly increase profitability, especially in light of a softer topline trend. And what has us excited in the fact that sales have recently accelerated, setting the business up for a strong finish in this year. I'm going to walk through the key drivers of our third quarter segment performance and provide some color on our prospects for growth.

Beginning with wholesale. We are expecting -- we were expecting third quarter sales to be down due to primarily the private label program we discontinued this time last year. However, the decline was more than planned as each of our brands posted modest shortfalls versus projections. We believe this was due to a combination of factors, including lower discounting, as we've placed a greater emphasis on full price selling as well as the trend of brick-and-mortar buying closer to need as they move more of their business online and don't need the additional time to flow product to their stores, which is shifting some sales out of Q3 into Q4, near to the holiday season.

This was partially offset by solid growth with our e-tail partners, which indicates that our recent efforts to increase the size of this channel are gaining traction.

Looking at our performance by category. Sales of our branded work footwear were down slightly with both Georgia Boot brand and Rocky Work off a couple of hundred thousand dollars. The same was true for the Western category. However, Durango sales were flat compared last year, while product margins improved 300 basis points as higher full price selling offset less discount sales.

Our Hunting business was the most challenged in the quarter as warm, dry weather in several regions of the U.S. hurt demand for our insulated, waterproof hunting boots. Our hunting apparel also struggled to sell-through. And while this is relatively small business for us, the decline versus last year was meaningful to our results. We are hopeful that a cold snap could help improve these trends as we move through the fourth quarter.

Finally, commercial military sales were down due largely to one large customer shifting an order it has historically taken in the third quarter to the fourth quarter this year. Going forward, this business will also benefit from a recent introduction of the new S2V Predator into the market, which is a superb product at an outstanding price.

Shifting to retail. Sales increased approximately 8% in the third quarter as our team continues to do a very good job adding new accounts to our Lehigh outfitters custom fit program. In the last few months, we've signed up a national company, such as Whirlpool, Fiat, Chrysler, Blue Diamond, to name a few, and we are currently working on closing deals with other firms with large numbers of employees that require safety footwear.

Now to our Military segment. As we previously disclosed, our Puerto -- our factory in Puerto Rico was without power for an extended period of time due to the impact Hurricane Maria had on the island. Thankfully, none of our employees and their families were injured during the storm. However, the loss of property was widespread, and as many of you have likely seen in the news, the rebuilding effort is moving slowly. We were fortunate that our facility sustained no damage during the hurricane, and that we had diesel generators in place, which allowed us to resume operation in early October. With respect to the impact on our third quarter, about $1.7 million in contract military orders were delayed until the fourth quarter. While at the same time, we accrued approximately $1 million in additional expenses, which Tom will talk through in a moment.

Even with the temporary shutdown, we believe we are still on schedule to ship approximately $40 million contract military orders in 2017. That said, given the factors beyond our control on the ground in Puerto Rico, I could see a portion of the sales shifting into early 2018.

Before I turn the call over to Tom, I want to briefly recap the opportunities I see for our business, and why we are cautiously optimistic about our prospects for growth.

As I stated during my first earnings call last quarter, we own some of the most authentic brands in work, western and the outdoor categories. By investing the appropriate amount of resources in product innovation and more marketing, primarily digital programs that strengthen our consumer's connections, we believe broadened awareness and interest in our branded product offerings and drive increased demand consistently over the long term. This includes through brick-and-mortar, where we are working to gain more shelf space, and even more so online with accounts like Amazon, where our runway for growth is significant.

Moving to retail, our Lehigh business is uniquely positioned to capitalize on the growth number of fulfillment workers and other labor-based industries that require safety footwear for their workforces. Our proven custom-fit model allows employers to affordably manage their safety footwear programs, increase productivity, gain greater compliance. Our third quarter results speak to the progress we are making on expanding Lehigh's reach. However, I believe we are just beginning to scratch the surface of the model's full potential.

At the same time, we continue to serve our direct B2C customers by offering a broad selection of styles, with a strong focus on functional footwear through our individual branded websites. The continued development of our B2C strategy will allow us to further strengthen our consumer's connections while complementing the growth of our B2C custom-fit model.

Last, but not least, military will continue to be a very important focus for us. We will continue to aggressively bid on all military contracts that make sense for the current capacity in our Puerto Rican manufacturing facility, while also striving for better efficiencies to increase segment margins.

Collectively, our 3 segments provide the company with a realistic road map to expand our top line, and with the work we've done to reduce expenses combined with our focus on expanding product margins, I'm confident the company is well positioned to deliver increased profitability, great value to our shareholders over the long term.

Now I'll turn it over to Tom.

Thanks, Jason. Net sales for the third quarter were $64.7 million compared to $73.2 million in the corresponding period a year ago, a decrease of 11.7%. By segment, wholesale sales for the third quarter decreased 12.9% to $46 million compared to $52.9 million last year. The prior-year period included approximately $2.2 million in sales from the private label program that was discontinued.

Retail sales for the third quarter increased 7.8% to $11.1 million compared to $10.3 million a year ago. And military sales were $7.6 million versus $10.1 million for the same period in 2016. As Jason discussed, approximately $1.7 million of footwear shipments shifted out of this year's third quarter and into the fourth quarter.

Gross profit in the third quarter was $19.5 million or 30.2% of sales compared to $19.8 million or 27% of sales in the same period last year. Included in this year's Q3 gross margin is approximately $1 million of additional expenses related to payroll and overhead cost that could not be capitalized into inventory due to lower than usual production volumes in our Puerto Rican facility because of the disruption from hurricanes Maria and Irma. Excluding this expense, gross margins increased 470 basis points driven by significant improvements in both wholesale segment and the military segment margins.

The adjusted gross margins by segment were as follows: wholesale, 31.1%, up 250 basis points versus last year driven by the combination of better full price selling and less discounting; retail, 44.1% versus 44.2% last year; and military gross margins were 17.1% compared to -- with 0.9% a year ago.

Selling, general and administrative expenses decreased 15.2% to $16 million or 24.8% of sales for the third quarter of 2016 compared to $18.9 million or 25.8% in the year-ago period. The third quarter of 2016 included an approximate $1.2 million charge related to reorganizational activities. Excluding this charge, SG&A decreased $1.7 million year-over-year, primarily related to lower compensation expenses following the workforce reductions we made during the third quarter of 2016. Income from operations for the third quarter were $3.5 million or 5.4% of sales compared to $900,000 or 1.2% of sales last year. For the third quarter, interest expense decreased to $110,000, compared to $181,000 last year as a result of the significant reduction of debt year-over-year.

Net income for the quarter was $2.2 million or $0.30 per diluted share compared to net income of $400,000 or 600 -- or $0.06 per diluted share. On an adjusted basis, net income was $2.9 million or $0.39 per diluted share for the third quarter of 2017 versus adjusted net income of $1.2 million or $0.16 per diluted share in the prior-year period.

Turning to the balance sheet. Our funded debt at September 30, 2017, was $11.6 million, a decrease of $19.3 million, or 62.5% from $31 million at September 30, 2016.

Inventory at the end of the third quarter was down 3.8% to $76.9 million compared with $79.9 million in the same date a year ago.

This concludes our prepared remarks. Operator, we are now ready for questions.

(Operator Instructions) Our first question comes from Jonathan Komp with Baird.

Jason, just wanted to start off and just ask -- I know you've been at the helms now for 5 or 6 months, and I'm curious kind of -- I don't know, if you had a little bit of a State of the Union kind of update on the experience you've had so far and kind of key learnings? And I know you shared some of this in the prepared remarks, but just curious how you're viewing the business today?

Jonathan, yes. So I would tell you that I've learned a lot in my short period of time. I am -- so one of the statements we talk about around here is, we are running the business on adrenaline right now. And so we're making decisions, and we're doing all the right things and the cost savings and the cost cuttings and controlling our expenses. And what we really need to do is, is find a way to grow the top line. And as you see here in Q3, we weren't able to do that at the level we were hoping. And we've got some things in place to make that change, in my opinion, in Q4 slightly. And then Q1 of next year, we're pretty positive on our spring '18 bookings for all 3 of the brands. And so -- we're moving things in the right direction. We've got a great team here. We are all really rallying around each other and making things happen. So we're pretty excited about the future in building the brands we have.

And when you look at the wholesale business specifically, I know it sounded like that you missed your internal projection a little bit, but what do you make of some of the recent volatility? And I'm not sure if you're willing to share kind of your thinking on what the fourth quarter performance might look like, and when do you think more of a sustained growth trajectory might be possible?

Yes, that's certainly what our goal is. We are cautiously optimistic about that ability. And so we talk really small numbers around here from a growth, and if we can sustain that over a long period of time and find some great opportunities to see maybe double-digit increases, we definitely need to do that and find great products to introduce in the market. But as you've kind of indicated, right, the marketplace is weird right now. This brick-and-mortar thing and then the e-commerce thing and how fast it is changing over, and then what are the consumers looking for, what are the retailers looking for. So we're excited about where we're at. We think we can see some growth, but it's going to be very modest growth.

Okay. And then another question on the wholesale business. When you look at the work side of the business, I'm curious, just shorter term, and this is separate of the Puerto Rican hurricane impact, but when you looked at the business in Texas and in the south, do you think you had any impacts from the hurricane on the work business, either positive or negative? And then, I know you made a comment about implying some improvement to date in the fourth quarter. I'm just hoping you might be willing to give a little more color there?

So I'll answer the Texas kind of question. And then I'll let, maybe, Tom give you a little bit of insight on Q4. So in my opinion, from what I've talked to our sales leaders, it's a positive and a negative, right. The negative is, obviously, the retail stores have this impact of where they're not opened or they are not selling. So we saw that. And then this is -- it's awful guys, I guess, to kind to say but the fact that a lot of the stores get flooded. The inventory is damaged. And then they have to -- they open their doors back up. So there is some positive to it in that way, but it's not a big -- it's not a huge difference. So we're -- it's not a huge upswing, it's just there is some of that happening.

Yes, Jonathan, just to the kind of the shift I think we're seeing from Q3 to Q4, what I believe is going on is that, that more and more of our wholesale customers are kind of moving to an online platform. I believe that we're seeing some of our shifts that we traditionally would -- or some of our sales that we would have traditionally seeing happen in Q3, that they're creeping into Q4 a little bit more and more, as they're trying to get the inventory closer to the need. We talk about retail and how tough retail is right now and their cash flows. I think everybody is just trying to be conservative and getting the product closer to the need in the holiday season. So I believe we're seeing a small shift from Q3 to Q4.

Okay. And just a follow there. I don't know if this is something you can tell or not, but separate of those shifts, in terms of the timing, any way that you can sense for your customers kind of sell-through trends? Do you think you've seen any notable changes? Or is it more just the shift that you called out?

So I think this shift is a big piece of it. We have definitely seen pretty good sell-through in the Durango brand. We're also seeing a reasonable sell-through in the Georgia brand. As I kind of mentioned, one area that the sell-through has just not been there is the Rocky Outdoor and the Rocky Outdoor apparel. And I'm not sure if we -- as we get closer to hunting season, where our guy actually needs something, then maybe we'll see that pick up in the same way that we've seen in these other areas where they are buying closer to the actual time of need. Instead of carrying the inventory, they're just drop shipping it out of our warehouse. So maybe that happens here in the next couple of months. You know how Pennsylvania, West Virginia, all of these big hunting areas will start seeing deer season, which is a big one, more than in the November time frame.

Okay, great. Then 2 more yet for me, if you don't mind. But just on the contract military side. I know one of your large competitors recently changed ownership, and I'm just curious how you're viewing that, positively or negatively or any change in terms of how that impacts your military business?

It really doesn't. It actually takes a competitor out of the marketplace, right? So there's a few less of us out there to bid on it. And we -- like I say, we are going to aggressively go after any and all contracts that get offered to us or are presented to us, and we will work diligently to make those happen for us in the production capabilities that we have in Puerto Rico without over bidding. So I don't think it's a big deal for us. It was an interesting sell and buy, but it didn't really affect us either way.

Yes, John. In my opinion I view our Puerto Rican facilities as kind of a competitive advantage when it comes to the contract military business. So I hope we can still see some solid wins from a bid perspective.

Okay, great. And then kind of last one from me, maybe a bigger picture question around the operating margin. You know if I just look at the last couple of years, 2 years ago, you had a 4% margin. Last year, some of the issues is close to flat. And now, this year, seeing a very nice rebound again. Still below kind of the long-term level that you've seen. I'm just curious, you know structurally how you think about the right margin profile for the business?

More.

I knew you would say that.

Could you imagine if I said less?

John, I think -- from our perspective, I think that we're still -- Jason and I are still continuing to look at ways of maximizing our operating margin. And I think that we're kind of having a lot of discussions about long term here and what that means and what kind of objectives we need to complete. So I would like to say I think it's going to get better in 2018. I think we made a lot of improvements in 2017, but there's always room for improvement.

Yes. The only thing I would add is, the marketplace is very difficult right now, and you have to be competitive, from a wholesale price point, therefore a retail price point. So it's a balancing act. We have to -- we talk a lot around here like, "If we're going to miss the topline, we better damn well sure make the bottom line." And so we're very aware of it, and we'll continue to be very aware of it. And where we can find ways to increase it, we certainly will.

And I guess, just a follow up. I guess, the reason I ask is, I think looking back to 2011, that's the last time you had above a 7% margin, and your total revenue was below or some -- on pace to be today. So I guess, I'm just wondering, I mean, is, is there a big mix impact there maybe, I assume? I know wholesale has been under pressure. Military has been a big growth area. I'm just trying to think about -- you know overall, the margin is still quite a bit below where you once had it, even though the revenue in total is higher?

Yes. I would have to -- I don't -- I can't recollect about 2007. So I'd have to -- I don't know what our military business was like back then. So could be a mix, but...

Yes, I think some of the margin decline there with us was with the Creative Recreation brand. We incurred a lot more SG&A expenses with having 2 separate offices. In July, we talked about how we closed that office and we moved people to Nelsonville. We're trying to gain some efficiency there. So I hope that going in (inaudible) some improvement.

(Operator Instructions) Our next question is from [Andy Hurwitz] with [OSP Capital].

I was wondering if you could talk about your international initiatives and how they are going? And in what way do you see them impacting the business in 2018?

Yes, so we've been having a lot of focus from an international perspective. We made some changes from our sales staff internationally in 2016, and we've seen some good traction made there. We don't dive into specifics in these earnings calls with regards to international sales, but we've seen some solid growth there. And we're really trying to continue to grow that side of our business, particularly, from a commercial military side.

Okay. So just on the commercial military side, you're growing international, not on the other parts of the business?

We've grown kind of across all of our brands internationally this year. I would say that...

Commercial military has just been one of the more bright spots, but we've had some great success with Georgia and also Durango. The Rocky is probably the last -- the Rocky Outdoor and that stuff. But the Durango in Georgia has done pretty well, and then the commercial military has just been the largest.

Okay. If you took out commercial military, what percent of your business would you say is international at this point?

I would have to get back to you on that. I don't have that number in front of me. I apologize, Andy.

I mean I -- I'd take a shot. I mean it's pretty small, Andy. I mean, in general, our international business, just in total, even with commercial military, relative to our total businesses is pretty small. It's a big opportunity.

And if you think -- that's what I'm referring to. I'm trying to understand, is this an opportunity that you'll be targeting in 2018? Though it seems to me that you don't need a lot of sales internationally for it to actually move the needle of the business?

I agree a 100%, Andy. We agree a 100%. It's absolutely an area that we're focused on. We will be investing more dollars to that area for next year, and we believe that we can see a pretty nice movement there next year.

Okay, great. And one other thing. You've done a great job over the last couple of years of reducing the debt on the balance sheet. You got to a point where you're pretty close to almost 0, not far away let's say. Another couple of quarters, I would assume after the Q4, you could probably pay down even more debt. Are you looking at acquisitions now, given that the capital structure is, I would say, a lot firmer?

I think the answer to that is yes, in general. We are not actively or aggressively looking at an acquisition. But if something were to come along that we thought fit us well and made sense then, then we would certainly consider the opportunity.

Yes. Andy, just to add to that too. We started -- this quarter we got active with our share repurchase program. We're still focused on paying our dividend out quarterly as well. So we're using some of this extra cash flow to return some capital to our shareholders.

Okay. My final question, and I'm just really posing to you guys. Now that you look out, and as you mentioned on the call, that retail's very different today than it was, let's say, a couple of years ago. In terms of your 3- to 5-year plan, where you want to see this company? I'm sure you have ideas. Can you give us a sense of what kind of size company you want to see? What kind of profitability company do you want to see over the next 3 to 5 years as you build out this business?

So I -- bigger and more profitable. Today, like I kind of said earlier, we have been running this company right now doing all the right things today, and managing the business by -- I call it running the company on adrenaline. And we have been working over the last couple of months on a long-term plan. I feel that we'll have that put together here by the end of the year. We've got a lot of good information and a lot of direction. We got a great executive team here that's been a part of that. But I don't think we are prepared today to -- at least I'm not, prepared to lay anything out in a lot of details, Andy.

Okay, perfect. The inventory levels. Are you comfortable with the mostly fresh inventory that you're carrying today? Which, by the way, is much lower than it was a year ago and a couple of years ago? It's a wonderful thing, what you're doing in terms of keeping the lower inventories. But would you say it's very fresh?

Yes. I think all of our inventory, particularly on the Rocky, Georgia and Durango brands, because it's not fashion driven, it lasts. I mean we have boots that have been in the line for 25 years, the same exact boot. And so for us to carry that inventory is not scary at all, and I feel very comfortable that the majority of our inventory is really in a good place.

And Andy, just to add on to that a little bit. I mean, with our increase in margins that we've seen this year, we've been able to kind of unload some discontinued product that we felt we had the opportunity to get rid of. So we've been really focused on driving that inventory level down, both from a finished goods perspective and raw materials perspective.

Ladies and gentlemen, we have reached the end of the question and answer session, and I would like to turn the call back to management for closing remarks.

Thank you, everybody, for making the time to listen to our call today. We appreciate your interest and great questions. Have a wonderful afternoon.