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Navarre Corporation (NASDAQ:NAVR)

F3Q13 Earnings Call

February 5, 2013 11:00 AM ET

Executives

Richard Willis – President and CEO

Diane Lapp – CFO

Analysts

Jared Schramm – Roth Capital Partners

Mike Malouf – Craig-Hallum Capital Group

Operator

Good morning, everyone, and thank you for participating in today’s conference call to discuss Navarre’s financial results for the fiscal third quarter ended December 31st, 2012.

Joining us today are Richard Willis, Navarre’s President and Chief Executive Officer, and Diane Lapp, the Company’s Chief Financial Officer. Following their remarks, we’ll open the call up for your questions. (Operator’s instructions).

Before we begin, I’d like to remind listeners that a replay of the call will be posted on the Company’s website at www.navarre.com in the Investors section.

The following constitutes a Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. Except for historical information contained herein, these remarks contain forward-looking statements that involve risks and uncertainties which could cause actual results to differ materially from those described as forward-looking statements.

These risks include but are not limited to general business conditions and the risks detailed in our periodic reports. The Company does not undertake any obligations to update forward-looking statements. The Company will be providing non-GAAP adjusted information on this conference call. This is provided to assist investors in assessing the Company’s current and future operations in the same manner that is done by the management of the Company.

As to the non-GAAP adjusted financial measure described, the Company refers to the discretion and the financial tables, including the reconciliation and non-GAAP financial measures that included the Company’s press release dated February 4th, 2013. This reconciliation table will also be available in the Investors portion of the Company’s website.

I would like to remind listeners that a replay of this call will be posted on the Company’s website at www.navarre.com in the Investors section after 1:00 pm Eastern Time today and will be available through February 12th, 2013.

I would now like to turn the call over to Navarre’s President and CEO, Mr. Richard Willis. Sir, please go ahead.

Richard Willis

Good morning, everybody. Thanks for being on the call with us. We’re very pleased with our third quarter results and year-to-date results, and I’m going to give you just a quick overview of those, turn it over to Diane Lapp, our CFO. And then, when she’s done taking you through some of the details, I’ll give you an update on our strategic initiatives that we had, the five-point plan that we laid out for you about a year ago and then give you a preview of our initiatives for 2014.

Revenues for the third quarter were $178 million or up 19% on ongoing operations. EBITDA was $5.4 million, up 32%. One of the good things we saw this quarter was EBITDA margins were at 3% for the first time in a long time. Obviously, the goal we’ve had is continue to move up for margins, so that was good to see.

Year-to-date, our revenues are $374 million, up 9% on ongoing operations. Year-to-date EBITDA at $8.2 million, up 35%. This is our fifth quarter in a row we’ve had year-over-year increases in EBITDA. So again, we’re pleased with the EBITDA and revenue growth for the quarter and year-to-date.

And at this time, I’ll turn it over to Diane.

Diane Lapp

Thanks, Richard, and good morning, everyone. Consolidated net sales from ongoing product categories in the fiscal third quarter of 2013 increased 19% to $178.3 million versus $150 million in last year’s quarter. This increase is basically split evenly between Navarre’s distribution segment and the e-commerce and fulfillment services segments, which includes the results of SpeedFC from November 20th, 2012 through December 31st.

Including $3.5 million from discontinued home-video product category in the year-ago quarter, consolidated net sales in the fiscal third quarter of 2013 increased 16%. During the third quarter, we closed on the SpeedFC acquisition and changed our segment reporting.

Financial results are now split between distribution and e-commerce services and fulfillment. The distribution segment is the results of our distribution products to retail. E-commerce and fulfillment services include SPEED generating, e-commerce, and third-party logistic services.

Net sales from ongoing business during the third quarter increased 6% to $147.8 million from $151.3 million in the year-ago quarter. It was primarily driven by a 45% increase in consumer electronics and accessory sales to $47.4 million during the quarter, as we continue to gain placement at retail. Software sales also increased 3% to $107.6 million due to strong sales of anti-virus products in Canada.

We have continued the positive growth trend in our e-commerce sales channel, increasing net sales by 72% to $48.3 million, as well as our Canadian channel, increasing net sales by 31% to $33.6 million. Along with our consumer electronics and accessories business, these two channels will continue to play an integral role and the growth we expect as we continue our fiscal 2014.

E-commerce and fulfillment services net sales in the third quarter increased significantly to $21.4 million from $2.2 million in year-ago quarter, primarily due to sales contributed by the newly acquired SpeedFC and strong sales from Navarre’s 3PL customers.

Adjusted gross margin in the third quarter decreased 110 basis points to 9.5% compared to last year, primarily due to lower margin in the retail distribution and software products. During the third quarter, total adjusted pro-forma operating expenses decreased 3% to $13 million compared to $13.4 million last year, due to the benefits we continue to realize from our restructuring plan we completed in fiscal 2012.

Net income for the third quarter increased to $10,000 compared to a net loss of $29.1 million or $0.79 per share last year. This year’s third quarter included transaction and integration cost related to the acquisition of SPEED of $1.5 million. Our adjusted EBITDA for the third quarter increased 32% to $5.4 million compared to $4.1 million in the third quarter of fiscal 2012.

Turning to year-to-date, consolidated net sales from ongoing business in the first nine months of fiscal 2013 increased 9% to $373.7 million from $344.1 million last year. Net sales in the distribution segment from ongoing business was essentially flat during the first nine months, while e-commerce and fulfillment services segment achieved a 576% increase in net sales to $33.2 million. E-commerce and fulfillment services segment now includes the result of SPEED, which was acquired on November 20th. Adjusted EBITDA in the first nine months of fiscal 2013 increased 35% to $8.2 million compared to $6.1 million last year.

Turning to the balance sheet, we ended the third quarter with $17.4 million of debt due to the acquisition of SPEED. In regards to working capital needs as we continue to provide [ph] sales and software products that were purchased in consigned basis with consumer electronics and accessories that are purchased on a terms basis, we’ll continue to see additional investments in inventory. In the third quarter, we saw this increase of $6 million over last year due to this business change.

During the quarter, we completed the acquisition of SpeedFC, a provider of e-commerce services to online retailers and manufacturers, for $50 million, comprised of 17.1 million shares in Navarre common stock and $25 million in cash, plus contingent payments of up $15 million. The contingent payments commit to an additional $5 million in cash and up to 6.3 million shares of our common stock, and are conditional upon SPEED achievement of adjusted EBITDA targets for 12 months ending December 31st. We continue to expect the acquisition to be accretive to our EPS in the upcoming year 2014.

Finally, the financial guidance, which was updated on November 20th remains on target, with net sales expected to be between $480 million and $500 million and adjusted EBITDA expected to be between $9 million and $11 million.

While SpeedFC will contribute revenue to the remainder of Navarre’s fiscal year, its adjusted EBITDA is seasonal and a large portion was generated prior to its acquisition. During fiscal 2014, we’ll have the benefit of consolidating SPEED’s peak season financial results. We expect to have sales for fiscal 2014 to be between $530 million and $560 million and adjusted EBITDA to be between $17 million and $21 million.

With that, I’ll turn the call back to Richard before we go to Q&A. Richard?

Richard Willis

So you may recall it’s about a year ago when I laid out a five-point plan for us to turn around the business. So I want to give you an update on where we were on those points.

The first point was that we need to reduce our operation cost. We’re shooting for a $1 million a month. We ended up at about $1.2 million, $1.3 million a month or about $15.5 million.

We needed to, second, identify what pieces of the business, what segments of the business we thought we could grow organically and then make investments in them and make those be the growth driver for the business.

The three of those were e-commerce, accessories and Canada. To give you an idea of the scale of those businesses now a year later, nine months year-to-date revenues for e-commerce and accessories, they were both right around $84 million each and Canada is at $62.5 million.

Each of those grew at least 40% in the last three quarters, e-commerce up 48.5% and accessories and Canada up 40%. So the big business is for us with great growth in each of them.

We needed to shift the business into those and to give you an idea about the shift, let me talk about the percent of business that each of this contributed. Now again there’s some overlap because obviously we sell accessories in Canada or we sell accessories through e-com, but this is an example of where the business has shifted.

A year ago, e-com was worth about 15.5% of our business. Nine months year-to-date, it’s 22.5% of our business. Similarly accessories now is 22.5% of our business and last year it was 16%.

Canada is 17% of our sales now. A year ago it was 12%. So again, 40% growth, each of them pretty big businesses and we’ve had some nice shifts of business from where we are a year ago, at least 500 basis points up to 700 basis points to where we are today.

We have obviously recognized their softness in the software market. So our goal was to see our sales decline there at half the rate the market is declining. And so through the nine months, depending on which source you look at, some of our sales are probably down 11% to 16% and we’re down 3%. So we’ve been able to achieve that.

We want to be conservative with our cash, so we wanted to have no debt at any quarter end. We have five quarters in a row with no debt. Obviously we have debt now due to the acquisition. And the fifth thing was if we are doing a good job on the first four and it made sense to go out and find an acquisition that round out our platform and we’re able to do that by closing SPEED very late at the end of November this year.

So again five straight quarters of EBITDA growth, EBITDA this year to date at $8.2 million, up about 35% last year. So I think we’ve done pretty well on each of those five points. So as a preview into next year in our strategic objectives that the five things that we’re focusing on next year is we need to make sure that we do a good job in the integration between SPEED and Navarre.

So we’re looking to, by the time we have our next conference call, announce any of the changes we’re going to make in the business. I hope to have the majority of those completed by September. Some of them take a little bit longer, but again just both businesses start to really ramp up in that period of time because of the holiday season. So we would like to have most of those done by then.

When we get this done, we think we’ll be saving somewhere in the $300,000 to $400,000 a month. Second, we need to build out and automate the facility in Columbus. We have completed a new release there.

We’ve signed it. They’ve signed it. It will be our largest facility at 550,000 square feet. We have ordered sortation equipment. It started to build the sortation equipment. And we’ve hired a new VP of ops that’s going to live in Columbus which is good. He has managed a large consumer direct facility before e-commerce facility. Those were a little larger than this one.

He also implemented the exact same sortation equipment. So we’re excited about having him join the company again in (inaudible). And he’ll be in Columbus before the end of February.

Third, we need to continue to maximize the growth in our key organic areas. And we need to be a risk averse in areas that don’t make sense for us. So one of those would be video games, if you look at video games, year-to-date, we’re off in sales about $14.4 million. And for the quarter, we’re off almost $9 million.

So obviously, video games had a tough quarter for everybody, but we’re going to be there opportunistically. It’s not a core function we do. We’re going to do when it makes sense for us, but we’re going to build the business around the organic areas that we feel like we’ll build value for the company and those were accessories, Canada and e-commerce.

It will be a little bit different than we did a year ago in e-commerce when we’re selling just fulfillment, now we’re obviously going to sell the services around that SPEED brings us things like web hosting and customer service. Obviously we’ll continue to sell 3PL in the marketing. So that’s important.

Our two Presidents, Ward Thomas, President of our Distribution business and Jeff Zisk, the President of SPEED have just started working together on some of the cross-sell opportunities. And hopefully by the next call, we’ll have some things reported about that.

Fourth, obviously the software market is going to continue to mature. We have the same goals we did a year ago. Let’s see if we can gain market share so that we decline it at least half of what the market is declining in sales there.

And then fifth, we want to be prudent again on our balance sheet. If we find great areas for growth, we want to be able to fund them. And also we want to be opportunistic if acquisition opportunities come up.

We’ll probably focus those on e-commerce, things where we think we can get some synergies and revenue and on the cost side of the business. If something comes up in retail, we’ll obviously take a look, but again I think we’ll probably be focused in e-commerce.

So with that, I’ll give you an update of the third quarter, the year-to-date numbers. It gives you an overview on how we’ve done on our turnaround objectives. It gives you kind of a preview for 2014. Again, we will plan to announce our integration plans at least by the next call we have. And on the next call, we’ll also give updated guidance for 2014.

So with that, I’d like to open it up for questions.

Operator

(Operator instructions) Your first question comes from the line of Jared Schramm representing Roth Capital Partners. Please proceed.

Question-and-Answer Session

Jared Schramm – Roth Capital Partners

Good morning.

Richard Willis

Hi, Jared.

Jared Schramm – Roth Capital Partners

Hi. Looking to Canada, north [ph] of 30% growth in this quarter on a year-over-year basis, any partners in particular there that stand out? And additionally, how would you raise the holiday sales in Canada compared to the US in the previous quarter?

Richard Willis

The office channel was really good for us in the quarter. We started small shipments to target, but those will pick up obviously as they keep adding source there over the year.

And for us the holiday season in Canada was a little bit stronger than it was here, but it won’t double or anything for what was out there. But I’d say it was a couple of percentage points stronger than it was down here.

Jared Schramm – Roth Capital Partners

And turning to the SpeedFC integration, could you provide a little more color on where you stand today as far as the complete integration is concerned. And how that, where you stand right now, compares to your expectations when you originally acquired the company?

Richard Willis

I think we’re a little bit ahead. We have completed our freight negotiation between FedEx and UPS. So we’re pleased with that and we thought that might take a little bit longer, but we’ve been able to finish that. So that’s good.

I think Jeff’s team and our teams have really worked well together and I just compliment Jeff on that. So he and I have been able to work really well together and I believe we’re ahead on things like IT. We’ve made some good progress there. We’ve made really good progress on looking at our facilities and figuring out what needs to be where and how we move things around if that makes sense.

I’d say we’re three or four months ahead probably on that from where I thought we’d be, so good progress. I think on the sales side, again, everybody is really busy till the end of December, so we just really haven’t had a lot of opportunity to get out and see some customers, but we’ll give you an update on that on the next call.

Jared Schramm – Roth Capital Partners

Okay. And turning to Best Buy, a lot of noise around some pretty sizeable store closures there, how are you insulated from some of the down turn you’re going to see at Best Buy potentially and just some overall color in what you’re seeing as far as that client is concerned?

Diane Lapp

Yes. So talking about Best Buy, there’s a lot of noise going on in the market right now. One of the largest categories that we sell into Best Buy is actually consigned software. So from a risk standpoint we don’t own that inventory. It’s actually owned by the vendor.

But our business from Best Buy this quarter actually was even slightly up from what it was on a year-over-year basis. So business continues as usual with us for Best Buy.

Jared Schramm – Roth Capital Partners

Okay.

Richard Willis

We’ve been able to do things like poster [ph] for them as an example, point of sell activation. So as they’re continuing to optimize their shelf space, we’ve been fortunate to be able to offer software. They are continuing to do that even if they’re going to a card system because we’ll do the activation when they buy it at the scan or when they activate it at home.

Jared Schramm – Roth Capital Partners

And lastly, your software to clients continued to be better than the overall industry. Is this something to you as a war of attrition if you will? Or are you just picking up shares as other vendors are falling off in that there? Or are you aggressively trying to pursue different channels? Just a little highlight at once at what you’re seeing in that space?

Richard Willis

I think the majority of it is we continue to pick up shelf space. Again as people shrink their shelf space, we’re picking up market share because they just don’t want to deal with these many vendors. So we’re aggressively out.

I think Ward and his team is doing the nice job there, being able to get this market share. But we have, for example, up in Canada have been able to expand our business again especially in the office channel up there and we’ll have some new business up there obviously as they open up the target stores.

Majority has been though being able to take market share.

Jared Schramm – Roth Capital Partners

Okay. That’s it for me. Congratulations on the quarter.

Richard Willis

Thank you.

Diane Lapp

Thanks.

Operator

(Operator instructions) Your next question comes from the line of Mike Malouf representing Craig-Hallum Capital Group. Please proceed.

Mike Malouf – Craig-Hallum Capital Group

Great, thanks. Thanks for taking my question. A question on holiday sales, I’d heard from some vendors that maybe December was a lot worse than November. And I’m just wondering if you could comment a little bit on the flow through the quarter and then maybe a little commentary in how January is looking.

Richard Willis

Sure. I think everybody was excited about the holiday after the Black Friday period. Generally across the board, we saw terrific sales. I think our customers saw great sales. And I think there was just a flurry of activity around that period, maybe the week around that. And then I think things softened after that. So I think there’s a lot of purchases then.

I think December sales probably stretched out a little bit longer as well because it felt like there was that extra week or so to buy product. So overall my guess is that people in the market would say, "Great November. December was a little disappointing."

We came out right where we thought we’d be in December, but we’re better in November. But again, I think we saw the same thing obviously. And our customers did that December didn’t carry the momentum that we saw on Black Friday.

And January, again we don’t talk a lot about individual months, but we’re not seeing much in the way of disappointment of January. We’re pretty pleased of where we are now.

Mike Malouf – Craig-Hallum Capital Group

Okay great, thanks. Thanks for the color on that. And then with regards to the savings that you talked about with regards to SpeedFC, 300 to 400 a month, can you give us a sense of how – and is that baked in to the guidance right now or is that on top of the guidance if you’re successful? I’m just getting a little color on that. That would be great.

Richard Willis

It’s in the 2014 guidance that we’ll give you. And again we’ll tightened that range on the next call when we finish our budget and lay out the plans. But we’ll have it baked into the 2014 numbers when we’ll give you guidance.

Mike Malouf – Craig-Hallum Capital Group

Okay.

Richard Willis

I think we’re just getting some of those savings earlier than we’ve anticipated which is good.

Mike Malouf – Craig-Hallum Capital Group

Perfect. And then with regards to the contingent payments have those all been paid and satisfied?

Richard Willis

So the contingent payments go through in two trenches. There’s a payment that will get paid concurrent with the filing of the Q3 10-Q. And then there’s a second round that will be made after the company is completed that’s on and is filed as 10-K for the fiscal year of 2013.

Mike Malouf – Craig-Hallum Capital Group

Okay great. Thanks for the call. I appreciate it.

Richard Willis

Sure.

Operator

I will now like to turn the call back over to management for closing remarks.

Richard Willis

Again we appreciate everybody being on the call. Thank you for all the support you’ve given us, a terrific quarter. We’re very pleased with it. We’re pleased with what we’ve been able to do so far on our turnaround plan. And now we’re focused on how we can prudently grow the business.

I’m excited about what we can do with SpeedFC together with Navarre. So thank you again for being on the call and we appreciate your support.

Operator

Thank you for your participation on today’s conference. This concludes the presentation. You may now disconnect and have a great day.

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