VF Corporation Q3 2009 Earnings Call Transcript

| About: V.F. Corporation (VFC)

VF Corporation (NYSE:VFC)

Q3 2009 Earnings Call Transcript

October 26, 2009 at 4:30 pm ET

Executives

Eric C. Wiseman - Chairman of the Board, President, Chief Executive Officer

Robert K. Shearer - Chief Financial Officer, Senior Vice President

Jean Fontana - Investor Relations, ICR

Analysts

Robert Drbul - Barclays Capital

Jim Duffy - Thomas Weisel Partners Group

Kate McShane - Citi Investment Research

Omar Saad - Credit Suisse

Eric Tracy - FBR Capital Markets

Michael Binetti - UBS Investment Bank

Sean Martin - Piper Jaffray

Robert Ohmes - Bank of America and Merril Lynch

Christopher Svezia - Susquehanna Financial Group

Mitch Kummetz - R.W. Baird

Maggie Gilliam - Gilliam & Company

David Glick - Buckingham Research Group

Operator

Good day and welcome to the VF Corporation third quarter 2009 earnings conference call. Please be aware that today’s conference is being recorded. At this time I would like to turn the conference over to Jean Fontana of ICR. Please go ahead ma’am.

Jean Fontana - ICR

Thank you, good afternoon, thanks for participating in VF Corporation’s third quarter 2009 conference call. By now you should have received today’s earnings press release. If not, please call 203-682-8200, and we will send you a copy immediately following the call.

Coaching the call this afternoon is Mr. Eric Wiseman, Chairman and CEO of VF. Before we begin we would like to remind participants certain statements included in today’s remarks in the Q&A session may constitute forward looking statements within the meaning of the federal securities laws.

Forward looking statements are not guaranteed and actual results may differ materially from those expressed or implied in the forward looking statements. Important factors that could cause actual results, collaborations, or financial conditions of the Company to differ are discussed in the documents filed by the Company in the SEC.

At this time I would like to turn the call over to Eric Wiseman.

Eric Wiseman

Thank you Jean and good afternoon everyone. Thank you for joining us today. Our third quarter results clearly signal that the worst effects of the recession may be behind us. And they tell us that even during incredibly difficult conditions, VF’s diversified business model and operating discipline can enable performance that is superior to many companies both within and outside our industry.

For example, excluding foreign currency effects, our revenues were down only 3%. And excluding the dual impacts of pension expense and currency in this year’s quarter, as well as the $0.07 in unusual items in last year’s quarter, on an apples-to-apples basis, our earnings per share would actually have been up 4% from last year’s third quarter. I think that speaks volumes about our ability to leverage the strength of our brands, while remaining laser focused on managing costs and maintaining liquidity.

To reiterate the high points of the quarter: two of our powerhouse brands, The North Face and Vans, continue to show very good momentum in the face of what is arguably the worst period of consumer spending in recent history. In this momentum is the result of creative and disciplined brand management and prudent investment, not short term changes in pricing or distribution.

Two of our other powerhouse brands, Wrangler and Lee, are also continuing to perform well here in the US. Wrangler continues to be an important mainstay for our big mass market in western specialty store customers, who rely on the brand’s reputation, quality, and innovation to drive traffic and repeat purchases. We play the similar role with its mid-tier customers, where it continues to outperform its competitors with consumer driven product innovation.

It is no secret that Nautica has not performed up to our expectations during the past couple of years, and you have rightly questioned the prospects and the timing of a turnaround. So we are also very pleased that our sportswear operating margins rose nearly 400 basis points in the quarter to 15.8%, driven by higher margins in our Nautica wholesale business.

Revenue comparisons also improved in the quarter, that we noted we continued to expect mid single-digit declines for the second half of the year in total. We do not expect much near term improvement in overall retail conditions. But we do believe our work to improve Nautica’s products, brand positioning, and profitably have significantly strengthened the brand’s foundation.

Our retail revenues continued to rise in the quarter, as we continued to selectively add new stores across our strongest brand concepts. We remain very disciplined in our approach to new store openings, choosing to expand only those concepts that would drive both top and bottom line growth.

And last, our financial position remains extremely strong. We are beating our inventory reduction targets. We will end the year with a healthy cash balance. And we are raising our projection for cash flow from operations to near record levels.

But to be sure, challenges remain. Our European jeans business remains under pressure. While conditions in Europe have stabilized, the market for higher-end jeans like Lee and Wrangler remains difficult, as it does here. Similarly, our contemporary brands business in the US continues to feel the effect of very weak conditions in upper tier department and specialty stores.

However, our 7 for All Mankind revenues are likely to be only slightly below prior year levels, and that includes a planned double-digit decrease in their off price business and the brand should continue to enjoy mid-teen operating margins this year.

The growth opportunities we identified at the time we purchased the brand, international expansion, retail-store growth, and product line extensions remain intact, and we continue to see excellent long term potential for the brand.

Our image wear business is in a tough spot. Its uniform business is very sensitive to employment conditions and until those improve, this business is likely to remain challenging. But the team there deserves much credit for keeping customer relationships strong, and for aggressively managing costs that have kept the operating margins of that business at healthy double-digit levels. So we have excellent leverage in place when conditions do improve.

We are looking forward to ending 2009 on a solid note, with both revenue comparisons and double digit growth in fourth quarter earnings per share. For the year, we strengthened our guidance on both the top and bottom lines. We now anticipate that revenues will be down about 6%, including a 2% currency impact and we are establishing a new range for earnings per share of $4.80 to $5.00, $4.85 to $5.00, which is at the high end of our prior guidance.

One other area I would like to touch on before turning the call over to Bob. In the last several weeks, there has been a tremendous amount of buzz about the potential for reorders and replenishment, given leaner inventories of retail and improving comp store comparisons.

It is true that inventories at retail are down a lot from prior year levels. It is also true that comp store comparisons, while still negative, are becoming less bad. Both of those factors bode well for stronger retail industry margins near term. However, we are going to continue to adopt a cautious approach to planning our business, as we believe that consumer spending will remain challenged as unemployment continues to rise, credit remains tight, and savings rates remain above historic levels.

We do not believe that global economy is out of the woods, just yet. Despite these challenges, I have great confidence that we have the right strategies in place to emerge from these very difficult times, stronger than ever. We have great brands with lots of runway for growth still ahead. Our profitability is strong, with operating margins at double digit levels, and our balance sheet is in great shape.

Let us hear more on the quarter now from Bob Shearer.

Robert K. Shearer

I am going to start with revenues, which were down by 5% or 3% in constant dollars. That is an improvement over the declines reported in both the first and second quarters of this year.

Now moving down the P&L, we are pleased to report another quarter of strong gross margins. In fact, at 44.3%, gross margins are only slightly below the record level of 44.4% that we achieved in last year’s third quarter. This continued strength in gross margins can be attributed to expanding gross margins in our outdoor and action sports and US jeans businesses, as well as a positive impact of our growing full priced retail business with its higher margins. In fact, we expect this momentum in gross margins to continue into the fourth quarter, when our margin percentage should exceed 45%.

Once again, our retail growth will play a role in this improvement, but we also expect to see expanded margins across many of our businesses across the globe, in the quarter, reflecting operating efficiencies and the strength of our brands.

SG&A as a percent of revenues rose 60 basis points, and that includes the impact of our higher pension expense, which represented an increase of 100 basis points to the quarter. Retail growth, with its higher SG&A relationships, also increased the overall expense ratio to revenues, while our cost management efforts reduced the percentage. Regarding the fourth quarter, the SG&A relationship to revenues will remain relatively flat, to up slightly from the prior year period. For the quarter, the SG&A percent will be helped or lowered, by the absence of the restructuring charge in Q4 2008 and the related benefits from those actions. However, the quarter will also reflect increases from higher pension expense and growth in our retail business.

Now our lower tax rate in the quarter reflects a reduction in our anticipated annual effective tax rate. From last quarter’s call, we said we had expected of about 27% for the year. We currently expect our annual effective tax rate to approximate 26%. We expect that our lower tax rate for 2009 will be sustainable going forward.

That brings us to earnings per share, which were $1.94 in the quarter. Earnings per share in the quarter included a combined $0.17 per share impact from pension and currency. In addition, as we disclosed last year, the prior periods’ quarter included a net $0.07 benefit from unusual items, primarily one-time tax benefits and restructuring. So, on a more comparable basis for excluding these items, earnings per share would have increased by 4% in the quarter.

Now taking a quick look at our coalition results, and I will start with Outdoor and Action Sports. Revenues were about flat, with those of the prior year’s quarter but up 3% in constant dollars, driven by strong growth in our North Face and Vans brands.

Our direct to consumer business continues to be an important growth driver for us with revenues up 17% overall and double digit growth in our North Face, Vans, and Napapijri brands. We were especially pleased to report record operating income and margins for the coalition in the quarter. It is a real achievement by our Outdoor and Action Sports teams, especially given the challenging environment. And we expect this strength to continue in the fourth quarter as well, with even higher revenue growth and continued operating margin expansion in the quarter versus prior year levels.

Now in terms of our jeans wear business, as anticipated, revenue comparisons improved in the third quarter versus the second. On a constant currency basis, revenues were down 7% in the third quarter compared with the 12% decline in the second quarter. The improvement is especially evident in our domestic business which was down 6% in the third quarter, compared with the decline of 12% in the second quarter.

In the US, our Lee brand continues to gain share. With revenues down only slightly, we are by about 1%. We are also pleased that our Wrangler brand remains in a very strong position in the mass market, with enhanced brand signage now in place with our largest mass market customer. Our overall mass market revenue comparisons, however, continue to be hurt by the loss of certain non-core Riders brand programs, as we discussed in the second quarter. But just as we indicated then, our core Riders Missy business continues to gain share.

Now as Erick noted, our European jeans business continues to be challenging due to weak market conditions that seem to be impacting most players in the jeans wear sector. In fact, industry reports indicate that total European retail sales fell for 16 consecutive months in September, while unemployment continues to rise. Our international jeans wear revenues declined 10% in constant dollars in the quarter. With the clients in our European business partially offset by continued strong growth in Asia, where our jeans wear revenues rose 17%.

Now despite the revenue declines in our jeans wear businesses, our Global Jeans Wear Organization has done a great job of maintaining operating margins at historically strong levels. We should see this again in the fourth quarter with margins nearly double those of the prior year’s quarter.

Expanding gross margins, in our US jeans businesses, in both the third and fourth quarters, and for our international businesses in the fourth quarter, are playing an important role in our overall strength in jeans wear profitability. Now to be sure, operating margins last year were impacted by charges related to cost reduction actions. But on an apples-to-apples basis, that is taking out the impact of the charges, our jeans wear operating margins will still reflect a healthy increase driven by the stronger gross margin comparisons.

And no doubt, you have all noted the big improvement in our sportswear coalition results this quarter. Sportswear revenues rose 4% in the quarter with a 52% increase in operating income, and operating margins reaching nearly 16%.

Now we did note that the revenue increase was helped by a shift in the timing of our product shipments but we are on track to achieve overall better comparisons in the second half compared with the first and operating margins should remain at double digit levels in the fourth quarter.

We made a lot of improvements in the operating model for our Nautica business, in particular, as reflected in our second half profit projections. I also wanted to add a comment about our Kipling US business during the quarter. We agreed to distribute Kipling handbags on an exclusively basis to Macy’s Department Stores in the US, starting Spring 2010. We will roll out Kipling handbags and accessories to about 375 stores by the first quarter and expect to rollout to all doors within a year’s time.

Turning now to our contemporary brands business, revenues rose again this quarter with the increase due to this year’s acquisition of the Splendid and Ella Moss brands, it should be no surprise that given conditions and opportunities in department and specialty stores our 7 For All Mankind brand revenues declined in the quarter. But as we pointed out in the release, despite the challenges presented by this environment, our 7 for All Mankind global teams will achieve strong double digit operating margins for the year, reflecting the overall strength of this brand and its potential moving forward. The bright spots for the brand in this environment were in our direct to customers and Asia businesses both of which experienced strong growth in the quarter. Globally, year to date, we have opened 13 retail stores and expect a total of 20 new store openings for the year in total.

In the release, we stated that we expect much stronger revenue on operating margin comparisons. In the fourth quarter, for our contemporary brands coalition as whole, revenues for our 7 for All Mankind brand should actually be up in the quarter as we benefit from new store openings and continued growth internationally. For the coalition overall, we anticipate the returns of double digit operating margins in the fourth quarter.

Finally, a few words on our image wear business. Story here remains pretty much as it has in the past couple of quarters, high and rising unemployment levels affecting our uniform business while poor attendance at major leagues sporting events and the highly discretionary nature of sports-related apparel products has dampened sales of our licensed team apparel products.

Eric pointed out on his opening that we have maintained double digit margins in our image or uniform business despite the challenged top line. That means that when conditions improve, our cost structure should provide good leverage for profitability improvements. For the fourth quarter, coalition operating margin should be relatively stable, a significant improvement from prior quarter comparisons this year.

Our press release touched on our retailing international performance and I have a couple of comments here. On the international side first, revenues decline on a constant currency basis with a decline of 6% in our European business which accounted for 70% of total international revenues in the quarter. Partially offsetting that was an increase of 32% in our Asian business which accounted for about 12% of total international revenues in the third quarter.

In the fourth quarter, we do expect to see an increase in our international revenues on both the constant currency and reported basis. We see continued momentum in our business in Asia with a revenue increase comparable to that which we achieved in the third quarter.

In terms of our retail business, our direct-to-consumer revenues rose 6% in the quarter with 23 new stores opened in the period, primarily, full priced formats. We now expect to open over 80 stores this year. It is a bit more than previously planned. As Eric noted, we are being selective in our store openings. We are investing on those concepts that provide strong financial returns and strengthen our brands’ equity with consumers.

Our focus on inventory management is really paying off for this year. Inventories were down 13% in the quarter and are now expected to be down by the same amount over year-end 2008 levels. This has contributed to even stronger than anticipated cash flow from operations. You probably saw that we raised our cash flow guidance between now, I think that could approach $800 million, very close to our prior record of $834 million achieved in 2007.

I also should point out that during the quarter we put our strong cash flow to work, purchasing 750,000 shares of VF stock. We expect the purchase of similar amount in the fourth quarter as well bringing the total to 1.5 million shares for the year.

I think Eric covered our revised guidance pretty well. But just to reiterate, full year revenue should decline by about 6% versus our prior guidance of 5% to 7% decline. Foreign currency rates will account for 2% of the decline. Full year earnings per share expected to come in between $4.85 and $5, which are at the higher end of our previous range of $4.70 and $5. We have given ourselves $0.15 worth of flexibility for the fourth quarter, even if there remains much uncertainty regarding consumer spending for the upcoming important holiday season. In this environment, we believe in staying on the side of caution.

With that, we will take questions.

Question-and-Answer Session

Operator

(Operator instruction) Our first question is from Robert Drbul from Barclays Capital.

Robert Drbul — Barclays Capital

Couple of questions, first on the Nautica business, can you give us an update on the year-to-date, why you guys have done well or where your shortfalls and sort of. And as you think about the business for next year for the Nautica business, any ideas in terms of both top line and bottom line are higher for next year as well. And then on the 7 business, can you give us a dollar numbers around the off price business and sort of the negative impact that has had on the business being negative right now or down sales and percentage of sales of 2009 versus 2008 sort of how to think about that business?

Eric Wiseman

I will start with the Nautica comment and talk about what changed this year. You might remember Bob, going back on the first part of this year; we were redoing the Nautica business coming into 2009 with updated products that were more expensive in price point, better built. They were worth more money but not in this environment and that really affected the first half of this year but we took our average price points up or we tried to, which was the right thing to do going into, what we did not know is going to be a recession. The change for the back half of the year has been, we have adopted more value price points and more value products and that is working much better for us as you might imagine in this environment. I cannot comment specifically on 2010 at this point, but we will do that in February when we cover 2010. On the 7-For-All-Mankind question, I do not know if we have that information available.

Robert K. Shearer

It is not specific dollars Bob, but what I can tell you is that the reduction in the off-price channel is about 15% from the prior year, I know you are looking for specific numbers. But it has impacted our year overall and we think it is the absolutely right thing to do for the brand.

Robert Drbul — Barclays Capital

Okay, and then is there a longer-term, more philosophical questions in terms of looking at the numbers, I guess going forward in the 2010 without talking specifically to 2010 guidance? Eric when you look at the various puts-and-takes of the business, pensions versus foreign exchange and the benefit of not having the $0.30 issue in the fourth quarter of this year. When you plan forward in the next few years, how should we think about it from core operations perspective in terms of long-term VF targets versus the pension or foreign exchange issues that you had as you look forward to 2010? How should we think about that?

Eric Wiseman

Bob, I am not sure about what you are looking for. In terms of FX, as we look forward in the early part of next year assuming that especially euro-versus-dollar holds where it is, there could be some impact there or some benefit because as you know, our first quarter and our third quarter are by far our largest international quarters. So it could help the first quarter somewhat. In the third quarter right now we have to say that not a big impact, one way or the other but those are clearly the two largest quarters where we may see some impact next year, and what else, so in terms of other factors, what else is it that you are looking for?

Robert Drbul — Barclays Capital

So I guess the question that I am looking at is when we consider our numbers for 2010 and you look at what you have reported thus far for 2009, let us say there is about $0.70 of numbers, $0.70 of earnings impact from this year. Is it fair to look at the business and say long term VF is at 8%, targeted 8% to 10% grower and we could get the core operations of 8% plus getting back some of the pension hits or the foreign exchanges that we had this year?

Eric Wiseman

Well, I will comment on 2010 related to the pension because it has obviously been a factor in this year’s numbers. As we look forward, if the market held where it is today, and as we have explained in the past, the increase in pension expenses worth this year obviously driven by the value of the assets in our plan. And right now, if the market stays where it is right now, that would reduce our overall expense next year by something like $15 or $20 million. So that would be a favorable impact for us as we look at next year just like the other currency piece that we just talked about.

Operator

Our next question is from Jim Duffy from Thomas Weisel Partners Group

Jim Duffy - Thomas Weisel Partners Group

You speak to the same store performance of your own stores as you progress through third quarter and what kind of expectation for comp share built-into the fourth quarter outlook?

Eric Wiseman

Well as you know Jim we do not provide specific comp store data we have and as we look into the next quarter clearly we are expecting improvements. We are beginning to see that in our stores. So overall, the one business, our largest business in terms of retail which represents about a third of the number of stores that we have from the retail standpoint in the quarter, showed comp stores increases in the mid, single digit, so we are really pleased with that. Overall for VF the comps were flat to down just slightly. Then in the fourth quarter we do expect to see some improvements from that.

Jim Duffy - Thomas Weisel Partners Group

And where are the comparisons that we are going against in the fourth quarter from last year? They were positive, correct, if I remember?

Eric Wiseman

Yes by just a small amount Jim, just a few percentage point.

Jim Duffy - Thomas Weisel Partners Group

Okay, and then there is general expectation in the retail channel that demand could exceed supply of inventory on hand at retail? Could you guys speak to your opportunity to chase business? Which of the business plan like jeans, where are you may be able to capitalize on some of that access demand and which are some of the ones where the lead times are longer, and if the inventories are gone, there is no business to done?

Eric Wiseman

Yes, Jim I know you appreciate how complicated or how complex VF is, and so there is not an easy answer to that question but you are right, our jeans were our business, it is one category where we have lots of capacity in this hemisphere and its quick turn capacity. We have raw materials, held-on consignments, we could go from purchase order to the DC in 20 days for the products that we make here, the other end of that, of course, is long lead time, equipment, sleeping bags and tents that we make in Asia, where we could not react if there was an uptick between now and Christmas. But we do have a meaningful part of our business here in this hemisphere where we are in a position to react.

Jim Duffy - Thomas Weisel Partners Group

Eric is there any other categories where you wished you had more inventories?

Eric Wiseman

Jim our approach this whole year has been that we are going to take inventory out and chase sales, if we are blessed with the opportunity to chase sales. So it looks like that opportunity maybe coming through, and we will be thankful to have it but I am glad that we did not build excess inventory hoping that demand will get better.

Operator

The next question from Kate McShane from Citi Investment Research

Kate McShane - Citi Investment Research

Could you just help us understand Bob’s comment at the end, addresses a little bit but I wonder if you could go into a little bit more specific about, why is there no increase at the high-end of your guidance today. And the reason I ask is just sound like things are getting much better both on the currency front and inventory since sequentially your inventory is so much better than last quarter and the first quarter. So could you just explain what has gotten so much better from the low-end of your guidance or what scenario disappeared and why isn’t there that confidence to raise that guidance from the higher end today?

Eric Wiseman

Well Kate, relative to the overall range, we have eliminated some of the uncertainties that we had, that is why we gave ourselves a fair amount of flexibility in $4.70 to $5.00 and after having other quarter behind us maybe a little bit better look. At the fourth quarter, we obviously felt better about going to the higher end of the range. We just, as we look at the holiday season as I have said, we just mentioned it in my final comment, there is still some fair level of uncertainty relative to overall consumer spending, unemployment levels, all of those factors, so we are trying to take a cautious approach and we just think that the prudent thing to do in this environment.

Robert K. Shearer

Well Kate, we are well-positioned in terms of overall profitability. As Eric said we are in a position we believe that we will respond a little faster than most in terms of our ability to catch up or chase business and we will be very, very happy to do that if we have the opportunity to do it and that obviously would be great for us in the quarter but it is just not, not planning that way.

Eric Wiseman

Well Kate, it is true that we saw like many, an improvement in consumer spending during the back-to-school period and that carried over into the early part of October. But all the information that we have on the economy suggested that there is more unemployment to come. It suggests that the credit problems are severe and not fully recognized? How that shows up in holiday spending? I do not know, but it does lead us to say we are not ignoring those hard economic facts and they are putting us in the position where we are being a little bit cautious about it.

Kate McShane - Citi Investment Research

That is great and then I wondered if you could just comment or give some commentary around the North Face and the backlogs that you have seen from the North Face for spring?

Eric Wiseman

Yes, the spring order positions are stronger in the mid, single-digit area. And that is a global number maybe even, yes maybe a little stronger on the international side.

Operator

Our next question is from Omar Saad from Credit Suisse

Omar Saad - Credit Suisse

Wanted to ask a follow-up question on the SG&A operating expense line, I mean you guys did a great job on the gross margin line this quarter, pretty healthy gross margin. I know your supply chain is one of the most sophisticated and efficient out there. It is a little bit of surprising in the expense number by looking at what you tracked down in the first half. Your year-over-year spending was down, something in the order of $50 million, $60 million, $70 million whereas in the third quarter it looks like your spending was maybe down a little bit a few million dollars. Is there something structurally different about the third quarter or is there some new expenses coming on and even focus on expenses for the whole year. Given some of the commentary about the over arching environment, it is a little bit of a surprise to see spending not a little bit tighter in the quarter.

Eric Wiseman

No Omar, I look at it obviously in terms of the ratios to revenues and couple of factors obviously that the pension, which I know you are very well aware of, is represented about a 100-basis point so that is moving the ratio up. The retail business as well again we expect to see a very strong gross margin improvement in the fourth quarter and really see the retail investments pay off but the retail business and the gross in our retail business is pushing the SG&A up there as well. So as we look at the fourth quarter, as I indicated in my comments, we are anticipating a very strong gross margin growth in the fourth quarter, some of that is due to retail, some of that due to a number of other factors in terms of inventory controls and that kind of thing. But retail is a factor so we have got pension, we have got the retail piece, we have the overall cost management efforts as well, going the other way in the third quarter so we net out to a bit off.

Omar Saad – Credit Suisse

But nothing, there is nothing specific

Eric Wiseman

No there is nothing that really, really stands out in the quarter.

Omar Saad – Credit Suisse

Maybe in the marketing, advertising front that you are still maintaining that kind of high-level of investments that you have in the past?

Eric Wiseman

We are and that is the point. In terms of the advertising expense, as a percent of revenue we were down 50 or 60 basis points but still spending at a fairly high level, particularly as on a ratio to revenue.

Omar Saad – Credit Suisse

Okay, alright. I also want to talk about the sales, the philosophy of sales versus inventory. The inventory keeps getting cleaner and cleaner for you guys, do you feel like, I mean, it seems to me at some point you cannot grow sales without inventory. Is anybody out there who were willing to take a little bit more of risk on inventory and it did not sound like you guys has some ability to chase the course but philosophically, it is hard to grow sales without inventory. I wanted to see how you feel about that?

Eric Wiseman

We just want to be in a position to react to that. If you look at our inventory, and turn to our model we have around a 100 days of inventory, Bob will probably have the confirmation of that but that is about the number. We could supply three months of incremental sales without making another piece of product. We think that puts us in a reasonable position to chase. We are going to react to that pretty quickly, fortunately our supply chain engine, as you commented on, is well-developed and we are in the position to react very quickly if we need to.

Omar Saad – Credit Suisse

Okay, and then last question. Cold weather, I mean it has been freezing the last few weeks, you have been hearing things about undersupply of coats, jackets anything you are seeing in the North Face business? Or any other businesses than can corroborate that?

Eric Wiseman

Yes, the cold weather always helps the North Face business and this year is no exception.

Operator

Our next question is from Eric Tracy with FBR Capital Markets

Eric Tracy - FBR Capital Markets

Actually I just wanted to touch on pricing if I could, obviously a trend towards moving lower price point value on new products. Could you talk a little bit about which brands, or coalitions are best positioned to partly capitalize on? On that and pick up incremental volume and then which might be sort of negatively impacted from a margin perspective?

Eric Wiseman

Complicated question Eric. All of our brands have reacted to this economic environment by introducing value prices, valued products to their consumer base. In some cases that meant a reduction in prices, in some cases we are just seeing the velocity in the brand at a slightly lower price point that it was last year bringing us to an effectively lower AUR. Not necessarily lower margin but a lower AUR in the products that we are selling. So we can maintain our gross margin rate, the challenge becomes in maintaining the top line if your AUR is down which we are seeing. I do not think that we have a brand that is unable to react to that, they just react to it differently in a different orders of magnitude that our mid-tier and mass businesses have less of a need to react to that, because in this environment there has been more shopping in these channels.

Eric Tracy - FBR Capital Markets

Okay, even though I mentioned that there would be some, be it North Face or even 7 For-all-Mankind, incremental volume play that you could pick up by maybe squeezing out some of those lesser brands within a given channel, it may drive some of the volumes up there?

Eric Wiseman

Overtime throughout this recession, we have lost retail customers through this recession. And there are competitors who are weak; more of our brands are strong. And we do think we are taking share in many of our brands in many product categories.

Eric Tracy - FBR Capital Markets

Okay, fair enough. And then just in the retail quick, the incremental doors that you are now looking to this year, could you and Bob break out what the difference is, full price versus outlets?

Robert K. Shearer

Yes, it is about 80% full price. Though it is clearly our expansion in retail right now is clearly driven by full price stores. The outlets, any outlet store openings are only driven by our capacity to move excess products. So the balance, I guess I would say the imbalance, in terms of our overall store count is clearly getting more and more heavily weighted towards the full price stores.

Eric Tracy - FBR Capital Markets

Okay and then geographically speaking, domestic versus international?

Robert K. Shearer

Yes, it is still by far because of the retail format and also because of the partnership arrangements that we have outside of the US. The US continues to comprise a much a higher percentage, they have this year in terms of new store openings and in terms of total store count and still represents something like 75% or a little bit higher of our total stores.

Operator

And the next question is from Sean Martin from Piper Jaffray

Sean Martin - Piper Jaffray

First on the jeans wear business, obviously Asia was up 17%, US seems to be improving, but Europe seems still to be a weak spot, can you give us any flavor on which particular countries or areas are seeing the impact in Europe

Eric Wiseman

Sure, my first comment would be that in general, the European jeans market is tough; it is not something that is unique to VF, it is a market-wide challenge in Europe. Our model in Europe is a little different than some of our competitors; we invested heavily for growth in Eastern Europe in the last several years and got that growth. We built a nice business there. That business has been challenge by difficulty in the economies and the collapse of currencies, which has resulted in the reported revenue decline that is disproportionate for us.

So while the market in total is tough, the way our business model was constructed overtime was we have a disproportionate share in the market that got tough. That has shown up in our numbers.

Sean Martin - Piper Jaffray

Okay, fair enough. In terms of the order bulk for next year, I think you talked about the North Face obviously being up mid, single-digit globally. Last year you mentioned that you were seeing a little bit of caution for this spring order book. Can you talk about, in relative terms, how you are feeling this year versus last year, heritage brand versus lifestyle, or domestic versus international orders?

Eric Wiseman

We do not have the same visibility as we do in our outdoor business relative to those positions as you know. A lot of our jeans business for example you mentioned that a more traditional businesses or gone on a replenishment basis. So a very different business models so we talked about the outdoor business because we can and we know there are positions elsewhere we really do not have a lot of good data.

Sean Martin - Piper Jaffray

And lastly, you are building up obviously a significant amount of cash in the balance sheet, anything on the acquisition front that you guys are looking at right now?

Eric Wiseman

Cannot comment specifically but I can tell you we are busy and active. I would like to make some acquisitions but do not have anything we can talk about now.

Sean Martin - Piper Jaffray

Okay and then last question on, you recently announced a retail license brand segment, any thoughts on moving one of your wholesale brand to a licensing model or has there been any work on that front that has been completed yet that you are willing to share?

Eric Wiseman

Yes, we hired a leader to lead that effort here, and he is in his first 90 days of his assignment and we are looking at how we could acquire brands to satisfy that needs. Are there brands that are active in our portfolio, or are there brands that are no longer active in our portfolio? How do we bring that to market and make sure that as we work with our large core of customers we add that part of the mix that we do with them. So we are going down that path and nothing to report quite yet, it is still early days.

Operator

And the next question is from Michael Binetti from UBS Investment Bank

Michael Binetti – UBS Investment Bank

Couple of questions on the gross margin comments made on the fourth quarter you said you were looking for 45 which is probably the highest gross margin we have seen, looking back at almost any quarter and I wonder if maybe you can walk us through a bit of the puts and takes that you see driving us above levels on the past there?

Robert K. Shearer

Sure, I will do that Mike. Well you are right; it would be high for us. Yes, so when you look at last year, first of all point it out that the restructuring impacts we had last year had no almost impact on the gross margins. So, last year’s number is clean from that stand point. We talked about retail in terms of our retail business it will move the margins up by a hundred basis points so that is part of the improvement. The rest of the improvement, again to the 45% or even a little above the 45% level, it is primarily driven by operations and I guess the things that pleased us the most are we are seeing the expansion in gross margin in our largest businesses and in my commentary I talked about that the jeans wear businesses both in the US as well as on the international side and that is very important. There were some questions earlier about European business challenge to be sure about what we do expect to see, a much better quarter in the fourth quarter and a lot of that driven by stronger gross margins.

So, those are the kind of things that we are looking at that are particularly strong and obviously the kind of thing we are looking for in the fourth quarter. So, about a hundred basis points and the rest driven by the expansion I talked about and then just over-all improvement in the efficiencies in running our business with very clean inventories.

Michael Binetti – UBS Investment Bank

Just a quick follow to that, what if you maybe higher level above supply chain? I think you saw about 25% of your own manufacturing?

Robert K. Shearer

That is about right.

Eric Wiseman

Mostly in jeans, I believe, is that right?

Robert K. Shearer

That is right.

Michael Binetti – UBS Investment Bank

And when you think about owning that process with comments we heard today, with jeans wear revenues continue to be down. It seems that you expect a relatively flat or slow snap back overall for the economy. When we think about the new normal level of purchasing retail in your markets, do you think it is that close for any kind of capacity reduction in those buys you guys owned, in your own factories?

Robert K. Shearer

We do not see that in our current forecast while we do own that capacity and it is mostly organized on our jeans business. That jeans also sources a large amount of what they do, close to half of the jeans we sell are sourced. So we have a balanced approach to our total supply chain that include own capacity and source goods that are flexible.

Operator

For our next question is from Robbie Owens - Bank of America and Merrill Lynch

Robert Ohmes - Bank of America and Merrill Lynch

I just have a quick question that maybe you can help us with? If you look across all your businesses, you look at jeans wear, in sportswear and North Face, and Vans etc. Can you just talk about what are you seeing and the consumer respond to? Are there any shifts towards lower price points? Are you seeing your key customers’ focus more on entry level price point programs with you? Have you seen any shift in the relative strengths of the channels you deal with? Is your mix of business outside the D to C, skewing towards WalMart and Cole’s in the moderate channel? If you just give us some color about what is going on in the world out there, that would be terrific.

Eric Wiseman

Sure. My first reaction to that is innovation. Every time we launch an innovative product, it works. Consumers are paying the fair price for it. The key thing that we working throughout our organization are to be innovative in our products and offer things that the consumers have not seen before and charge them a fair price for it.

In some cases, in the “we” brand this year, our average in our retail in the mid-tier channel is actually up, and we are taking share there with higher average in retail because we have innovative new products. Coles and JC Penny and that are really working for us.

Second thing is value. We are seeing across our brands consumers who maybe last year spent $179 for product, maybe you are shopping in $159 price point this year. There has been some trade down to just price value but the more important piece really is the innovation piece that is why we live with that.

In terms of channels of distribution, we are seeing the same thing at our own store that you see when you read the comp-store’s that are out there and are published every month. The higher end of price spectrum in regular retail by that, I mean, Neiman Marcus and Barneys and Saks, their comps have been weaker than the comps at the mass and mid-tier, and that suggest that consumers are either shopping down or the higher end shopper is just quite out shopping for less. We are seeing that consistently across our brands and we are seeing this is in our own retail as well. Does that help you?

Robert Ohmes - Bank of America and Merrill Lynch

It does, so it might be tough to look at this way but just collectively the pressure on your revenues, do you think it is more unifying or do you think it is more price that sort of pressure to your global revenues? FX neutral.

Eric Wiseman

Our global revenues for the year, currently is going to be down 4% FX neutral, right? And quite frankly, I think we are really pleased with that. If you look at how deep this recession is and you look at the fact that last year was an all-time record revenue year for us, we come up against in all-time record revenue and only have a 4% decline in this recession. It is something I think it we pretty proud of.

We are seeing however, a lower AUR which suggests that there is a price piece on top of the unit reduction in sales.

Operator

For our next question is from Chris Svezia - Susquehanna Financial Group from Susquehanna Financial Group

Chris Svezia - Susquehanna Financial Group

Good afternoon, gentlemen. I guess first on the inventory. When the inventory is down 13% at the end of the quarter, how should we be looking at the inventory by year-end and any thoughts on how you might be planning inventory as you head in the spring 2010?

Eric Wiseman

First on the inventory, this is a follow-up comment. We reduced our inventory the most where they were the highest and that may seem very obvious, but the point is in terms of our ability to service the business, we had some areas where the inventories were higher than absolutely needed to be. Somewhere from newer acquisitions and we knew that was an opportunity for us all along, so we have been working those inventories down.

And to that same point, as we go forward we think there is still some opportunity in 2010 to pull the inventories down, perhaps somewhat more, maybe not the same level that we are seeing this year. But, I can tell you we do that with a very, very close eye on our ability to service the business, and even though our inventories have been pulled down. Our service levels have never been higher.

Chris Svezia - Susquehanna Financial Group

Okay. As you think about that moving to spring is there any particular segment of the business where there is more opportunity continue to rationalize that inventory relative to others? I mean after you have gone through 2009 and you have made those adjustments were necessary as you start to enter into 2010, are there other areas or elements for the business we can just be more efficient or just opportunity to continue to reduce the inventory piece?

Eric Wiseman

This is just an opportunity to reduce it over-all. Again, we are after a lot a low hanging fruit at this point in time, but always some ability to refine.

Chris Svezia - Susquehanna Financial Group

Okay. And then Eric, when I think about Europe for a second and I know you talked about jeans wear business continue to be challenged in specific opportunities, in Eastern Europe continues there. What gives you the confidence, at least from a top line perspective, as we think about Western Europe and not just in jeans wear business but across the other businesses as well? In terms of when we can start to see some improvement, and I do not know if you can break out that decline of 6% in Euro and break it up between eastern and western or anything like that would be helpful too.

Eric Wiseman

I am afraid I cannot break it out between east and west. I do not have the information in front of me. But the European economy in general is still weak like the US economy is. It is western pocket, the eastern pocket that we talked about. It is softer in Southern Europe than it is in Northern Europe as well.

It is not consistent, but in general the European economy is still having a tough time and we are hoping for the US economy that it gets better next year.

Chris Svezia - Susquehanna Financial Group

Okay. So, as we look to that in fourth quarter if it more of an opportunity on the margin, lesser really from the top line perspective, I know it is a smaller piece of business, but just as we look at that on the fourth quarter.

Eric Wiseman

Are you talking just on the jeans wear piece?

Chris Svezia - Susquehanna Financial Group

No, I guess overall.

Eric Wiseman

Overall we do expects gross margin expansion in our international businesses and I pointed it out specifically in the European jeans business, again, over some tougher number last year.

Operator

Our next question is from Mitch Kummetz - Robert W. Baird

Mitch Kummetz - Robert W. Baird

Thank you. Just a follow-up on the North Face Spring orders, you said up mid, single digits. Is that in constant dollars or reported dollars?

Eric Wiseman

That is in constant dollars.

Mitch Kummetz - Robert W. Baird

Okay.

Mitch Kummetz - Robert W. Baird

I would guess you would expect it to be up more in reported dollars given where the currency is and how you think that would play out in the first half of next year?

Eric Wiseman

That is what we are talking about. Mitch. That could be a little bit right, right relative to the spring business in earlier on, as we said the first quarter is a strong quarter for us on the international front. Second quarter not so much, third quarter is stronger so, yes the currency could help us a little bit especially in the first quarter.

Mitch Kummetz - Robert W. Baird

I do not know if you said before if you are willing to say it. How much is the North Face business is down out of pre-booked orders versus that one? I would think it is few more towards pre-booked orders.

Eric Wiseman

In the US it is 80% or so, it varies a little bit with each year, but closely to 80% margin to 85%.

Mitch Kummetz - Robert W. Baird

It is seems like the sales trend of retail is getting better. The declines are less; there are sequential improvements that we have seen in the last couple of months. What is the retailers’ ability at this point, as they place their spring order? Is there still room for them to take it up assuming they wanted to take it up?

Eric Wiseman

Depending on what part of the spring season you are talking about. Yet, there is still time and most of our product categories to react to spring.

Mitch Kummetz - Robert W. Baird

But not at all on the spring display, probably not on the first delivery.

Eric Wiseman

Correct.

Mitch Kummetz - Robert W. Baird

And are you seeing retailers pushing out those spring layers with other companies, your initial delivery might be December and now getting pushed into January because retailers are trying to buy closer to need. Assuming that the consumer is buying closer to need?

Eric Wiseman

I do not think we have seen, I do not think that has been a big factor for us.

Mitch Kummetz - Robert W. Baird

Okay.

Eric Wiseman

t is not necessarily pushing out. It is just a caution in the orders.

Mitch Kummetz - Robert W. Baird

Okay. Input cost, I did not hear you say anything about that impacting your gross margin in this quarter. Is that really playing in the gross margin right now, or how do we think about that going in the fourth quarter even on the next year?

Eric Wiseman

The question is on the product cost?

Mitch Kummetz - Robert W. Baird

Yes.

Eric Wiseman

Okay. Product cost in the second half of this year, we are seeing some lowering of product cost and it is a factor in helping our gross margins to be sure in the third quarter and especially in the fourth quarter.

As we go forward to the next year we will talk about that more, but I guess what I have to say right is we do not see any reasons to say that the product cost would change significantly especially in the first half of the year from where we are today.

Mitch Kummetz - Robert W. Baird

Okay. Remind me, were they a drag in the first half of this year.

Eric Wiseman

The first half of the year they really were. We negotiated in the latter part of 2008 when things were a little bit different.

Mitch Kummetz - Robert W. Baird

Assuming they do not really change and I guess you are working through that right now for the first half of the next year that should be a benefit than you would think.

Eric Wiseman

Versus the first half of this year, that is right.

Mitch Kummetz - Robert W. Baird

Yes.

Eric Wiseman

It should help.

Mitch Kummetz - Robert W. Baird

Okay, all right. On Asia you mentioned you are up to 32% for the quarter, how much of that that was China? And as you said, fairly new businesses were in North Face in China, can you talk a little about that?

Eric Wiseman

Yes, I do not know the exact percentage, but clearly China is our biggest market, it is our fastest growing market. What we are focused on particularly every time that we ranked with the North Face and Vans brands and we started building our own platform there in 1995 and that has really turned out to be good move. We are in good position to keep growing there and we have a great team on the ground that is moving really nicely doing our brands.

Mitch Kummetz - Robert W. Baird

Okay. And lastly Bob, you mentioned you take a pick-up hundred base points gross margin on fourth quarter on retail. Is that the function of more stores in the quarter versus year ago, or are you all anticipating your stores will be less promotional given that retail in general might be less promotional since a lot of the retail stores seem to be under inventory right now or at least not in the process of clearing goods from being over inventoried last year.

Eric Wiseman

Yes, Mitch to your point, we are seeing improvements in growth and driving that overall gross margin from 2 stand points and this was during the third quarter as well. It impacts the overall mix so our gross margins on the retail side are higher obviously than overall averages and in addition to that the possibility of retail businesses driven by higher gross margin is also impacting the numbers.

Mitch Kummetz - Robert W. Baird

Got it.

Eric Wiseman

So, we are seeing a benefit from those sides.

Operator

Our next question is from Maggie Gilliam from Gilliam & Company

Maggie Gilliam - Gilliam & Company

Yes, Bob I got a mechanical question for you and that is, how do you translate the income statement of your international sales done the last day of the quarter, or is it done progressively throughout or how do you do it?

Eric Wiseman

It is based on averages, Maggie so to your point I would say, progressively throughout but it is based on the average rates. The balance sheet is obviously is translated at the rates that exist at the end of the quarter.

Maggie Gilliam - Gilliam & Company

Okay, I mean is it weighted or is it due to weekly, monthly or something like that?

Eric Wiseman

Actually it is daily.

Maggie Gilliam - Gilliam & Company

Daily? Okay.

Eric Wiseman

Based on businesses done on the daily basis.

Maggie Gilliam - Gilliam & Company

Okay, that is helpful. An entirely different subject, you have got a lot of smaller brands that have been brought up very much in this call, and sometimes smaller brands do not do as well as larger ones during recessions, I was just wondering if there were any stand outs in here one way or the other, and I am specifically interested in Reef. Could you comment on that please?

Eric Wiseman

Sure, I will comment on several of our brands having been brought up during this call and our brands is like Napapijri have had a great run internationally, they are doing quite well, they are very profitable and Eastpack was good as well.

The Reef that you asked about is getting to a much better spot. We have a different approach that business right now with a new management team, and while the business is stable, it has not grown the way we think it can grow. And the team there right now is working very hard to enable that.

Maggie Gilliam - Gilliam & Company

Okay. How is though Lucy?

Eric Wiseman

Lucy is in the top spot right now. The Lucy business, when we acquired that business we knew we need to address the business model of a specialty retail concept and we have made changes to the business model and we have seen some improvement from that. We have seen several hundred basis points improvement in our gross margin, which tells us that consumers are reacting to the product. Unfortunately there is not enough consumers shopping specialty retail right now, and it is small concept for us, it is a relatively small business. We still believe that women’s performance active space is a place we want to be, we are trying to get that model right, and we are doing it in a recession which have not made it easy.

Maggie Gilliam - Gilliam & Company

Okay, thank you. Just one final question if I may. The change [done] arrangement what for Kipling with Macy’s, could you go in a little bit the soft cross behind that?

Eric Wiseman

Sure, to be clear Macy’s is going to have an exclusive backing the hand bag side of the business which means it is another side of the business which is around luggage and specialties, those customers will still exists.

We have just taken the department stores segment and given that to Macy’s and arranged the building that now on an exclusive basis and that would begin this spring. The other specialty stores that have carried the brand will continue to carry the brand.

Maggie Gilliam - Gilliam & Company

Okay. Was there any special reason for doing this excluding other stores like higher end stores?

Eric Wiseman

We are looking for a retailer to help us communicate what the brand is around the United States and Macy’s was a great way to do that and they are going to make it important in their stores and that will help expand the awareness of the brand across the United States and the one with few retailers who can do that.

Operator

Our next question is from David Glick from Buckingham Research Group

David Glick - Buckingham Research Group

Good afternoon, Eric. I certainly appreciate your conservatism on how you are planning your business, but it does seem like this retail or restocking scenario are showing some early signs of playing out with our time of replenishment or order retailers advancing orders 30 days, lower clearance levels. But we hope certainly that it translates into sales increases for the suppliers in 2010 and I just trying to figure it out. At what point that happens and retailers have in your showrooms and committed to Q1 and probably in your showrooms about now depending on the business in Q2, I understand your hesitancy to comments specifically unless your order book looks like beyond North Face but, can you give us some insight into what the mind set of your big customers. I know it varies by channel. But what are they waiting to see as it continues to improve into a holiday before they start increasing late spring or early fall orders book. What are the top to top discussions in general you have and how did it change over the last 90 days?

Eric Wiseman

I would characterize that this way. I would say that people are encouraged by what they have seen during back-to-school, but not confident enough to bet big orders, put in big inventory in the store assuming that in the middle and the second half of the next year is going to be strong.

So while they are encouraged, I think you nailed it. I think people waiting to see what this holiday season brings because while there was a little bit of momentum during back-to-school. More important to everyone is how the big holiday season goes. I think as we get deeper and deeper into it, the people will react appropriately based on what they see playing out.

David Glick – Buckingham Research Group

And at that point that could still impact, I would imagine, the second quarter depending on the category.

Eric Wiseman

Yes. Depending on the category, with us, they can affect next month. In our jeans wear business we can, maybe on November 1st, by the middle of December, we will have new products in the stores. That is not true for all of our categories but that is important for us, given the size of jeans wear is of our total business.

David Glick – Buckingham Research Group

Is it fair to say that momentum that you said carried into October, has that been pretty consistent and kind of true on the month-to-date period?

Eric Wiseman

First couple of weeks is pretty good.

Robert K. Shearer

You understand our posture on this. We are waiting to see it play out.

Operator

We have a follow up question from Michael Binetti from UBS.

Michael Binetti – UBS Investment Bank

I just want to ask you about the Vans brand for a second, if you do not mind. I think the last time we heard from you that was close to $800 million business last year. Is that number right?

Robert K. Shearer

That is right.

Michael Binetti – UBS Investment Bank

I am wondering if your current thinking is how big that brand can be longer term. We have not had big Analysts Day with you guys to get an update on that a while. Maybe to put it in another way, you think that you are building out the global infrastructure for that business. What kind of number do you have in mind as you build the infrastructure for that business overtime?

Robert K. Shearer

I am afraid that I can not give you a number for what it could be overtime. We are working on new five-year plans here right now. What I can tell you is that, that brand has momentum; it has not lost the momentum during this recession. We think it has terrific geographic opportunity in Asia, in particular. We launched the brand in China, as we talked about in August 2008 that has vastly exceeded our expectations. The brand is strong and growing in Europe. It is strong and growing in the United States. It will clearly pass the billion dollar mark if it stays on its trajectory which we expect it will.

The question is what happens beyond there and that is the discussion we are having with the Vans team in this room next week.

Michael Binetti – UBS Investment Bank

Now, if I could only finalize it with one last question on the jeans business. I think you talked about on your last call that you are seeing a little bit of impact from moving some products out of the mass business in Europe, in the jeans business? I am just wondering if you could help us quantify really how much that was in this current quarter when that rolls off.

Robert K. Shearer

What I can tell you is that for the full year, it is about $45 million. Not really sure what it was in the quarter. Again, year-to-year most of that impact occurs next year, right? So what we are saying is we still have about $40 million - $45 million worth of business this year. Now that was…

Michael Binetti – UBS Investment Bank

Down about 20 from last year on a full year basis.

Robert K. Shearer

Sixty five last year.

Operator

That concludes today’s Question-and-Answer session. At this time, Mr. Wiseman, I will turn the conference back to you for any additional or closing remarks.

Eric Wiseman

Thanks for joining us today. We are very encouraged by our relative strength in this environment. Step back and we think about the key dimensions of our business. Holding global constant currency revenue to within 4% of what was an all time record in 2008 is something we are proud of. While our earnings per share is below 2008 levels, almost all of that decline is due to currency and pension. The operations of our business remain strong. And last, we are expecting operating cash flows at near record levels in the range $800 million.

So, in total, we are very pleased with that overall performance. We are looking forward to getting more than our fair share of consumers’ dollars during this holiday season and we thank you everyone for joining us. Goodbye.

Operator

That concludes today’s conference. Thank you for your participation.

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