Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Sophie Argiriou – Director Investor Communications

Laurence Sellyn – EVP & Chief Financial Administrative Officer

Glenn Chamandy – President & CEO

Analysts

Analyst for Anthony Zicha - Scotia Capital

Sara O'Brien - RBC Capital Markets

Jessy Hayem - TD Newcrest

Omar Saad – Credit Suisse

Martin Landry - Desjardins Securities

David Glick - Buckingham Research

Doug Cooper - Paradigm Capital Inc.

Scott Rattee – Blackmont Capital

Vishal Shreedhar - UBS

Andrew Burns – Thomas Weisel Partners

Claude Proulx - BMO Capital Markets

Hugh Bourgeois -- National Bank Financial

Gildan Activewear Inc. (GIL) F4Q09 Earnings Call December 10, 2009 8:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the fourth quarter 2009 Gildan Activewear earnings conference call. (Operator Instructions) I would now like to turn the conference over to your host for today’s call, Miss Sophie Argiriou, Director of Investor Communications. Please proceed.

Sophie Argiriou

Thank you, Chanel. Good morning, everyone and thank you for joining us. Earlier this morning, we issued our press release announcing our earnings results for the fourth quarter and full fiscal year of 2009. Later today we will also be filing with the Canadian Securities Regulatory Authorities and the U.S. Securities Commission a report to shareholders containing management’s discussion and analysis and consolidated financial statements for the full fiscal year ended 2009. These documents will be available on our website at www.gildan.com.

I am joined here today by Glenn Chamandy, our President and Chief Executive Officer; and Laurence Sellyn, our Executive Vice President and Chief Financial and Administrative Officer.

Before we begin, I would like to remind everyone that certain statements included in this conference call may constitute forward-looking statements within the meaning of the US Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve unknown and known risks, uncertainties, and other factors which could cause actual results to differ materially from future results expressed or implied by such forward-looking statements.

We refer you to the company’s filings with the US Securities and Exchange Commission and Canadian securities regulatory authorities that may affect the company’s future results.

I would now like to turn the call over to Laurence.

Laurence Sellyn

Good morning. We will review our results for the fourth quarter of fiscal 2009, which we reported this morning, as well as the progress of our retail strategy and the announcement today of new retail programs, and the outlook for our business for fiscal 2010.

Results for the fourth quarter continued to reflect the positive momentum begun in the third quarter. Before the $0.07 EPS impact to the special distributor devaluation discount, which was announced in conjunction with a reduction in gross selling prices in the first quarter of fiscal 2010, and which is required to be accounted for as an adjustment to sales and margins in the fourth quarter, EPS of $0.42 was well ahead of both internal expectations and consensus estimates for the quarter.

EPS in this basis was also marginally higher than results for the fourth quarter of last year, in spite of the significant deterioration in the overall economic environment and the resulting decline in industry demand.

Compared with last year, the benefit of increased manufacturing efficiencies, more favourable product mix, and lower selling, general and administrative expenses offset the negative impact of lower activewear selling prices, lower unit sales, and production downtime taken in the fourth quarter of fiscal 2009.

Sales in the fourth quarter declined by 7.1% compared to the fourth quarter a year ago to $302 million. Sales of activewear and underwear were down by approximately 5% and sales of socks declined by approximately 15%, although sales for continuing sock programs increased slightly from the fourth quarter of fiscal 2008.

The decrease in sales of activewear and underwear was due to significant promotional discounting in the U.S. distributor channel, the impact of the special discount, lower realizations on international sales due to the stronger U.S. dollar compared to a year ago, and a 1.3% reduction in unit sales volumes.

These factors were partially offset by more favourable activewear product mix due to the timing of shipments of seasonal fleece and long sleeve t-shirt programs.

The 1.3% decline in unit sales volumes of activewear and underwear was achieved in spite of a 12.3% decline in demand from screen printers, based on the stars report. The reduction in overall industry demand negatively impacted Gildan's unit sales volumes in the quarter by approximately 900,000 dozens. Normal seasonal reductions in distributor inventories in the fourth quarter reduced sales volumes by approximately 400,000 dozens, compared to the fourth quarter of last year when distributors continued to restock inventories due to concerns about industry supply constraints and selling price increases.

These negative factors were almost fully offset by further market share increases in the U.S. distributor channel, combined with significantly increased penetration in international and other screen print markets. Higher market share in the U.S. distributor channel increased unit sales volumes by approximately 600,000 dozens and further penetration of international and other markets increased unit sales volumes also by approximately 600,000 dozens, compared to the fourth quarter of fiscal 2008.

We continue to gain market share in all product categories in the U.S. wholesale distributor channel. Market share in all categories combined was 57.1% in the fourth quarter. Market share in 100% cotton t-shirts was 62.6%. We achieved the leading market share in the 50-50 t-shirt category in the fourth quarter with a share of 38.1%. Our fleece share increased to 56.9%, and our share in the sport shirt category was 44.2%, up from 38.1% in the third quarter and 37.8% in the fourth quarter a year ago.

Overall industry inventories in the U.S. wholesale distributor channel at the end of the fourth quarter were in good balance. Distributor inventories decreased by 22% compared with last year, compared with a 12.3% decline in distributor shipments to screen printers.

Gildan's share of distributor inventories was 50.1%, compared with our market share of 57.1%, so the demand for Gildan products exceeds our share of inventories in the channel.

The 15% reduction in sock sales in the mass retailer channel was due to the discontinuation of sock programs such as the Fisher Price infant sock program which did not fit with Gildan's business model. Discontinued programs reduced unit sales volumes of socks by over 2 million dozens compared to a year ago. The timing of fluctuations in retailer inventories also reduced year over year sales volumes in the fourth quarter by approximately 1 million dozens. However, the impact of the timing of shipments into the channel was more than offset by the strong sell-through to consumers of continuing mass market sock programs, which reflected on average double-digit growth compared to the fourth quarter of last year.

New private label sock brands performed particularly strongly and gained market share.

Sell-through of continuing sock programs positively impacted unit sales volumes by approximately 1.2 million dozens.

Gross margins in the fourth quarter reflected both the significant impact of short-term promotions in the fourth quarter as well as the impact of the special distributor inventory devaluation discount announced in the first quarter of fiscal 2010.

Before reflecting the impact of the charge for the special discount, gross margins in the fourth quarter were 28.7%, compared to 26.8% in the fourth quarter of fiscal 2008.

The increase in gross margins of approximately 200 basis points compared with the fourth quarter of fiscal 2008 before the special discount was due to increased manufacturing efficiencies and lower cotton and energy costs, which together increased margins by close to 550 basis points, and more favourable product mix, which increased margins by approximately 260 basis points.

These positive factors were partially offset by the approximately 450 basis point negative margin impact of increased promotional selling price discounts compared to a year ago, and the approximate 160 basis point negative impact of production downtime taken in the fourth quarter to continue to balance activewear inventory levels.

Our cost of cotton consumed in the fourth quarter was $0.61 per pound, which was lower than the fourth quarter of last year but still higher than industry competition due to our decision to fully cover our fiscal 2009 cotton commitments before the precipitous decline in cotton and other commodity prices in the latter part of 2008.

Selling, general, and administrative expenses declined by $2.6 million compared to the fourth quarter of fiscal 2008, primarily due to efficiencies and savings achieved in the management of supply chain and distribution expenses, as well as the impact of the lower value of the Canadian dollar on corporate administrative expenses, partially offset by higher depreciation expenses and an increase in provisions for doubtful accounts receivable expenses.

In addition to generating EBITDA of $61.5 million in the fourth quarter, we reduced inventories by $37.7 million and reduced days of sales outstanding and accounts receivable to 45 days, compared to 52 days at the end of fiscal 2008.

Consequently, we generated cash flow of $113 million in the fourth quarter and ended the fiscal year in a very strong liquidity position.

As of year-end, cash and cash equivalents amounted to $100 million, while our $400 million bank credit facility was unutilized.

Inventories at year-end were $15 million lower than at the end of fiscal 2008, as higher unit volumes of activewear finished goods were more than offset by reduced quantities of sock inventories, the favourable impact of manufacturing efficiencies, and lower cotton and energy costs on inventory valuations, and lower work in progress inventories.

Management believes that the current level of inventories is appropriate and provides Gildan with flexibility to service demand in its markets in the event of any improvement to the economic conditions and industry demand, or in order to take advantage of additional new business opportunities.

No production downtime is currently scheduled for the first quarter of fiscal 2010 other than the normal holiday shutdown over the Christmas period.

As stated in our press release, we are excited to announce that we have secured new retail programs which will begin shipment in the second quarter of fiscal 2010. We have continued to build on the successful performance of our private label sock programs and have been awarded an important and strategic underwear program, as well as a smaller underwear program and three further sock programs.

The annualized sales revenue from the new programs, which have already been obtained in fiscal 2010, is currently estimated to be approximately $70 million.

We expect to be in a position to provide additional detail and color on our new programs when distribution to retailers has begun. At this point, however, it is sensitive to provide more detailed information for competitive reasons and to respect the confidentiality of our retail customers with respect to their product introductions and branding strategy.

The company has not experienced any material losses of existing retail programs other than the acquired sock programs which Gildan has discontinued for economic reasons.

We are very excited about our positive momentum in implementing our retail strategy. We believe that our business model for mass retailers is now clearly established and well-recognized and accepted by retailers. Our model is based on one, providing our retail customers with quality products at globally competitive prices which allow retailers to generate attractive margins; two, driving strong retailer sales to consumers due to incorporating enhanced quality features; and three, facilitating supply chain consolidation by retailers due to our large scale capital intensive manufacturing, our geographical proximity to U.S. markets, our financial stability and strength, and our excellent reputation for corporate social responsibility and sustainability, which is an important element in the branding of retail products for consumers.

In addition to our private label programs for national mass retailers, we are continuing to make steady progress in expanding our Gildan branded products with regional retail chains. We are building on existing programs with regional retailers to become a full line supplier of branded basic family apparel and leveraging the positioning of our brand in approximately 1700 retail doors across North America. We are also participating in extended testing of Gildan branded socks in a major national mass retailer in Canada.

We continue to have a conservative view with regard to the economic outlook for fiscal 2010. However, even though our base case business plan and internal financial forecasts for fiscal 2010 reflects no benefit from improved overall industry demand, we are positive and optimistic about the prospects for growth in Gildan sales and earnings in fiscal 2010.

While we have not provided earnings guidance for fiscal 2010, we have provided the following modeling assumptions which management is currently using in its internal forecasting. Number one, we are projecting 25% year over year growth in unit sales volumes in activewear and underwear, which will bring sales in fiscal 2010 close to our existing textile manufacturing capacity. The projected increase in unit sales volumes in fiscal 2010 is based on assuming no growth in overall industry demand in both screen print and retail markets, a higher market share in the U.S. distributor channel, the non-recurrence of destocking by distributors, which significantly reduced sales into the channel in the first half of fiscal 2009, continued significant penetration in international and other screen print markets, and the impact of new retail programs for underwear, which we have secured and expect to begin shipping in the second quarter.

The approach we have taken to pricing and incentivizing wholesale distributors is expected to help to enhance Gildan's market share in the U.S. wholesale distributor channel in fiscal 2010 by positioning distributors to better plan their business as a result of reducing the reliance on short-term promotions and enabling them to further stimulate screen print demand for Gildan's products.

Preliminary stars data for the month of November indicates that Gildan's overall market share for the month increased to 62.7% compared to 57.1% in the fourth quarter. We are also projecting 5% unit sales growth in socks in fiscal 2010, after taking account of the offsetting impact of discontinued sock programs. These projections for sales volume growth assume no benefit from growth in overall industry demand in either the screen print or retail markets, which we are not currently anticipating, and include no impact of further new retail programs.

We are currently in active discussions to respond to opportunities to obtain additional new programs across all retail product categories, which will potentially further enhance unit sales growth in fiscal 2010 and support continuing strong growth in retail in fiscal 2011.

Secondly, in order to maintain our market share leadership and drive topline growth, the company is prepared to continue to price aggressively in the assumed environment of weak global economic conditions and weak industry demand.

Assuming an approximate 5% decline in selling prices in fiscal 2010 compared to fiscal 2009, and the impact of a higher proportion of underwear in the company’s product mix, consolidated net sales in fiscal 2010 are projected to be slightly in excess of $1.2 billion, up approximately 17% from fiscal 2009.

Thirdly, gross margins in fiscal 2010 are currently projected to be approximately 26%. Gross margins for the first quarter of fiscal 2010 are currently expected to be close to the same level as the fourth quarter of fiscal 2009, before the impact of the special devaluation discount in the fourth quarter.

However, gross margins are forecast to be negatively impacted in the balance of the year by further promotional discounting in the distributor channel and volatility in cotton, energy, and other commodity costs.

Our cotton and energy costs for the first half of fiscal 2010 are expected to be materially lower than the first half of fiscal 2009, but are expected to increase in the second half of the fiscal year and to be higher than the second half of fiscal 2009.

Also, gross margins in the fourth and first quarters of the fiscal year traditionally benefit from a more favourable seasonal product mix.

Fourthly, excluding the impact of prior year income tax recoveries to the tax benefit related to restructuring charges due to the closure and relocation of U.S. sock finishing operations, the effective income tax rate in the fourth quarter as 1.2% and 2.2% for the full fiscal year, compared to 4.4% for the full year in fiscal 2008. The reduction in effective income tax rate for the fourth quarter and the full year reflected the lower proportion of profits earned in Canada and the United States. Based on the normal allocation of profits between the legal entities and in anticipation of a higher proportion of retail activities being performed in the U.S., we currently expect a tax rate of approximately 5% in fiscal 2010.

Fifthly, we are currently projecting capital expenditures of approximately $130 million in fiscal 2010. Our planned capital expenditure program includes the completion of the Rio Nancy 4 sock manufacturing facility, further textile capacity expansion in the Dominican Republic and Honduras to support projected growth in activewear and underwear, further investments in bio-mass facilities to reduce energy costs and to reflect our commitment to sustainability, a new head office building in Barbados, and a new state-of-the-art U.S. distribution center in Charleston, South Carolina, which will be utilized to support the company’s retail strategy and which is also expected to generate cost reductions and improved efficiencies in servicing retail customers as a result of consolidating existing distribution capacity.

In conclusion, we are pleased with the earnings and cash flows which we have announced today and we are optimistic about our outlook for top and bottom line growth in fiscal 2010, even with the assumption of no economic recovery or improvement in industry demand in fiscal 2010.

In addition, we expect to generate free cash flow again in fiscal 2010 after investing in significant capital expenditures and therefore further increasing the amount of cash which is accumulating in our balance sheet.

Management and our board of directors recognize the need to deploy our cash balances in order to achieve maximum value for our shareholders. Our primary use of cash will continue to be to finance our working capital and capital expenditure requirements to support our organic growth. Our main focus is a successful execution of our organic growth strategies, but at the same time we will be open to evaluating strategic acquisition opportunities which complement our organic growth and meet our return on investment criteria based on our risk adjusted cost of capital.

We will opportunistically consider share repurchases if management and the board at any time believe that our shares are under-valued, and we also intend, as we have done periodically in the past, to discuss with our board the possible introduction of a dividend as we believe that we have the financial strength and cash flow generation capacity to support a dividend after financing the working capital and capacity expansion required to support our organic growth strategy. Thank you.

Sophie Argiriou

Thank you, Laurence. This concludes our formal remarks. Before moving to the Q&A, as always I would ask that everyone try and limit their questions to two or three in order to give everyone the opportunity to ask a question and time permitting, we’ll circle back for the next round of questions. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Anthony Zicha of Scotia Capital.

Analyst for Anthony Zicha - Scotia Capital

This is George calling in for Anthony. A two-part question -- first, could you provide some color on your CapEx number? How much of it is wrap-up related, how much capacity would it bring online? And also your guidance calls for an increase of 25% in activewear and underwear volumes. You say that you are pretty close to full capacity. So how quickly can you ramp up to meet this additional demand that may come online from restocking?

Glenn Chamandy

The first part of your question as far as our capacity expansion, we are planning to increase our capacity in two of our existing facilities, which is the Dominican Republic and Rio Nancy one, which will increase our capacity close to about 60 million dozens of underwear and activewear on an annualized basis.

We are also expanding on all the projects that Laurence had mentioned in the call, which is the distribution centers in the States and Barbados, and we are also currently planning to build the building, shell building of our Rio Nancy textile facility but we are not committing to the actual equipment and capital of that facility but we want to have the building and infrastructure up during this year into next year so that we can react if capacity requirements exceed the required capacity build-up of the DR and Rio Nancy one beyond that 60 million dozen.

Our current run-rate is approximately just under -- our capacity right now is between 51 million and 52 million dozens and we are just running slightly below that at the current level today.

Laurence Sellyn

And we can ramp up that increment of capacity in the DR and Honduras very quickly to respond to additional sales opportunities.

Analyst for Anthony Zicha - Scotia Capital

Is there particular, like, a number you can give us in terms of [inaudible] or capacity that this CapEx kind of represents or could represent at the [inaudible] max level?

Laurence Sellyn

I didn’t hear the question, George, I’m afraid.

Analyst for Anthony Zicha - Scotia Capital

Can you give us like some kind of capacity number that this CapEx may represent -- like how many mega dozens are we looking for moving forward using this CapEx number? How much [can an early ramp-up do]?

Glenn Chamandy

Without putting equipment in Rio Nancy 5, the capacity would be about 60 million dozens.

Analyst for Anthony Zicha - Scotia Capital

Okay, thanks. And last question --

Laurence Sellyn

And Rio Nancy 5 fully ramped up, if we proceed with the ramp-up, would take us to about 80 million dozens.

Analyst for Anthony Zicha - Scotia Capital

Thank you.

Operator

(Operator Instructions) Your next question comes from the line of Sara O'Brien of RBC Capital Markets.

Sara O'Brien - RBC Capital Markets

Can you talk a little bit about SG&A expenses going into F10, given the new retail programs? Are you expected to see some increase in SG&A as a percentage of sales next year and I just wonder if you can give us some kind of magnitude there.

Laurence Sellyn

We are looking at a reduction of SG&A, Sara, in 2010 in terms of percentage of sales. We are seeking to get closer to our objective of 11% of SG&A to sales -- you know, let’s say 11.5% would be a kind of reasonable assumption for you to use. And reasons why we think that is achievable is that this year we incurred some legal and professional fees that we don’t expect to have to replicate in 2010, plus we also had some bad debt provisions that accumulated during the year, including in the fourth quarter that we don’t expect to have to reflect in 2010.

Sara O'Brien - RBC Capital Markets

Okay, and that 11 to 11.5 would include the --

Laurence Sellyn

I would use the high-end of that range as I said as a modelling assumption, Sara.

Sara O'Brien - RBC Capital Markets

Okay, including FX impacts from a higher Canadian dollar?

Laurence Sellyn

Yes.

Sara O'Brien - RBC Capital Markets

Okay. And I just wondered, on the selling prices, the discount of 5%, I’m just trying to understand what that program is -- is it a new catalog pricing that is going to take Gildan's pricing down 5%, or is it sort of like a volume rebate at the end of Q4 that you are paying your distributors?

Laurence Sellyn

Well, it’s a mixture of everything, Sara, and I don’t think we want to get into the details of our incentive programs, but it would be a mixture of promotional discounts as required to drive volume in this environment, you know, together with normal, ongoing annual incentive plans.

Sara O'Brien - RBC Capital Markets

Okay, and I just wanted to just refer -- Glenn, once you commented that there was no purpose of throwing bad money after good to kind of stimulate demand. Have things changed so that you think this strategy is going to work going through the year or do you think there’s a point where you decide you don’t need to discount this much anymore?

Glenn Chamandy

Well, I think first of all, the market has stabilized over the last couple of quarters right now, which is a good thing, so we are not seeing the type of decreases we saw last year, so that’s the -- I think the first and more important thing. And secondly, what we’ve been trying to do is actually to try and bring some stability to the market and because there was a lot of promotional activity last year, the end user, which is the screen printer that purchases from our distributor, was purchasing every time he saw a sale. So if there was a promotional activity, he’d wait until the promotions would happen before he actually makes his purchase decision. So by having a -- what we think is an everyday low price, what we’ve been able to do is actually bring some consistency in pricing in the market which will allow our distributors and their end users to actually plan their business better and have much more consistent flow of merchandise into the channel and hopefully will stimulate demand in the long run and that’s I think where we positioned ourselves today.

Laurence Sellyn

And I don’t think, Sara, we’ve ever suggested that this strategy we’ve taken to pricing hasn’t worked or that it’s been throwing good money after bad. You know, we feel that the pricing volume, market share trade-offs have been good economic decisions for the company.

Sara O'Brien - RBC Capital Markets

Okay, and could I just ask -- so far in your Q1 strategy, have competitors matched your pricing or is your price the most deep discount and therefore that is driving your market share win?

Laurence Sellyn

Sara, I think you know do your channel checks with distributors and you can see whatever feedback you get from that but I don’t think we want to talk about what our competitors are doing.

Sara O'Brien - RBC Capital Markets

Okay, thank you.

Operator

Your next question comes from the line of Jessy Hayem of TD Newcrest.

Jessy Hayem - TD Newcrest

I’m just wondering -- you’ve alluded in the past that the gross margins that you are going to be achieving in the retail programs would be the same as in wholesale for activewear. Would this still be the case in potential contracts that you’d be looking at?

Glenn Chamandy

On a long-term basis, definitely our margins should be similar in retail and wholesale. There could be some additional costs associated with actually building up sales in terms of training and other expenses but based on our projected ability to service long-term programs and price these to market, they should be very similar in margin.

Jessy Hayem - TD Newcrest

Okay, and then with regard to the contracts that you have or the programs that you have announced, I mean, typically once you change programs at retailers, you are kind of winding down old inventory and replacing it with new merchandise, especially if it involves sort of privately branded merchandise -- is it fair to assume that you are going to be bearing some of these costs in the transition or not really?

Glenn Chamandy

No, there’s -- no, what we’ve done is we’ve actually -- the products that were discontinued, I mean, we basically have -- that inventory is no longer in our system and basically there should be no costs at all.

Jessy Hayem - TD Newcrest

Right, and the underwear, I still hear completely new programs at retail.

Glenn Chamandy

Those are new programs, yes.

Jessy Hayem - TD Newcrest

Okay, and then as far as on cotton, in your assumptions for the outlook, you are assuming I think that cotton would remain at current prices, or in the assumptions you provided for gross margins and so on -- are we to understand from that that you --

Laurence Sellyn

At current future prices.

Jessy Hayem - TD Newcrest

Correct, so are we to understand from that that you are un-hedged for the second half of fiscal year 10 at the moment?

Laurence Sellyn

You know, we have done some hedging but we don’t want to disclose what our hedging position is, Jessy, for competitive reasons at this time.

Jessy Hayem - TD Newcrest

Okay, and then I just want a clarification on the capacity -- Glenn, you mentioned, or Laurence you mentioned in the opening remarks that your sales expectations of $1.2 billion will bring you close to your full capacity -- I suppose you are talking about the full capacity of 52 million before the expansion that you are planning in the DR?

Laurence Sellyn

Correct.

Jessy Hayem - TD Newcrest

Okay, and that’s still about $8 million CapEx to expand the DR?

Laurence Sellyn

Yes.

Jessy Hayem - TD Newcrest

Thank you very much.

Glenn Chamandy

And maybe one more point is that we still have sufficient inventory going to season to capitalize on any opportunities if there is upside in terms of market demand.

Jessy Hayem - TD Newcrest

Yes, thank you very much.

Operator

Your next question comes from the line of Omar Saad of Credit Suisse.

Omar Saad – Credit Suisse

A couple of questions, if it’s okay -- the first one, I want to make sure I understand the special distributor inventory devaluation discount. Essentially, and Glenn, I think you mentioned this move to more EDLP pricing as opposed to the volatility of promotions coming on and off. Is this kind of -- to make sure I understand, is this in essence the inventory you already have out there in the channels, you are kind of using the EDLP pricing and kind of giving a retroactive discount on inventory you’ve already shipped? Is that the right way to think about it?

Laurence Sellyn

Yes, it’s giving the benefit of the reduction in gross prices that was announced in October, applying that to the inventories that the distributors had purchased and that they had in inventory.

Omar Saad – Credit Suisse

Okay, great, that’s easy to understand then. On the other side of the equation, on kind of your revenue outlook, last quarter I think you talked about 3 million units of restocking, potentially. I think you alluded to the potential for some market -- some growth in the market size. It sounds like you are backing off that a little bit today, you know, assuming kind of flat market, no restocking. Is there anything to read into that? Is there something you are seeing out there in the channels that is changing your opinion on that?

Laurence Sellyn

We’ve always had a conservative outlook on demand recovery and economic recovery and I think we indicated that on our Q3 call. We had in previous calls talked about what would happen if there was some minimal growth and we’ve taken that out of our volume projections. I think we had said previously $7 million of additional volume in the screen print markets. If you take out the growth, you come to about $6 million, divided between market share increases, penetration in the international and other markets, and the non-recurrence of destocking from the prior year. I don’t think we want to give a split of the components of these three but the total number, we are still comfortable with.

Omar Saad – Credit Suisse

Got it, but you are not -- it sounds like -- I think Glenn mentioned stability too. [It sounds like] there’s been any change in the market conditions.

Glenn Chamandy

Well, the market conditions are more stable today than they were obviously a year ago and hopefully we will see some pick-up and as we go through the year this year and what we’ve been able to do is stabilize the pricing in the market and that’s the first step of hopefully the market recovering.

Laurence Sellyn

The market continues to be weak and reinforces our outlook on the economy but we don’t have a crystal ball, we don’t have visibility and we don’t know what is going to happen as we go through fiscal 2010. Hopefully there will be a better environment than what we are projecting.

Omar Saad – Credit Suisse

Got it, and then last question on the gross margin guidance you gave, it’s helpful, the first quarter, fourth quarter seasonality, thinking about it that way -- with the 5% kind of pricing that you are talking about, negative 5% pricing you are talking about for next year, what are the offsets to that that allow you to make -- and especially since I think cotton might climb up a little bit later in the year and through your COGS, what are the offsets that will allow you to kind of maintain that sort of margin level?

Laurence Sellyn

Just give me a second -- so we are looking at something like 400 basis point improvement in margins compared with 2009, negative selling prices would decrease margins by about 600 basis points, so the non-recurrence of the de-val would offset that by about 100 basis points. A more favourable mix would be about 350 basis points and lower manufacturing costs year over year would contribute about 550 basis points, which nets out to the 400 basis points improvement between 2009 and 2010 that we have modeled.

Omar Saad – Credit Suisse

Excellent. Thanks so much.

Operator

Your next question comes from the line of Martin Landry of Desjardins Securities.

Martin Landry - Desjardins Securities

Could you give us on your guidance, could you give us a bit of color -- how much of your underwear program accounts for the 25% volume growth?

Laurence Sellyn

We said 25% in activewear and underwear and I think we’ve given you all the elements to be able to figure this out because we just talked about how much of that is coming from the activewear and the screen-print market and we are talking about the total sales being close to our existing capacity.

Martin Landry - Desjardins Securities

Okay. Second point, could you give us a bit of color on how your international operations are performing -- Europe, Mexico? Are we seeing a growth over there?

Laurence Sellyn

We’re seeing growth in our international markets. Last quarter we grew international close to -- well, we talked about a combined significant 600,000 dozen impact from the international and other markets.

Martin Landry - Desjardins Securities

Okay, fair enough and last question, on Rio Nancy 4, are you fully ramped up yet for that facility?

Glenn Chamandy

No, what we’ve -- up until now, we’ve moved all of the packaging and the finishing offshore, which we completed sometime in Q409. And that plant will start production sometime in April of fiscal 2010 and that’s when it will begin the knitting process as well.

Martin Landry - Desjardins Securities

Okay. Thank you very much.

Operator

Your next question comes from the line of David Glick of Buckingham Research.

David Glick - Buckingham Research

Good morning, and first of all, congratulations on securing the new retail programs. That’s very exciting. Just most of my questions have been answered -- I am wondering if we can get a little bit of color on the sales flow for the year. Clearly as you start to fill in the pipeline on these new programs in the second quarter, that’s going to be a significant sales increase but listening to you discuss the improvement in market share in November suggests that we could see a sales increase in the first quarter, so I’m wondering if you can give us some sense on how the sales might flow as the year unfolds.

Laurence Sellyn

I don’t think I want to provide that kind of assumption at this stage, David. You have the information of where our market share is in November and obviously we’ve also provided our -- some indication of margins in the first quarter so we are hopeful that the first quarter is going to be a good quarter for us.

Glenn Chamandy

Maybe just to point out that last year in the screen print, a lot of the destocking happened in Q1 and Q2, so that part of the opportunity will come in in the early half of next year.

David Glick - Buckingham Research

Okay, great. Thanks a lot, good luck this year.

Operator

Your next question comes from the line of Doug Cooper of Paradigm Capital.

Doug Cooper - Paradigm Capital Inc.

Just to confirm on the capacity -- 51 million or 52 million is the activewear capacity, and then the sock will be in addition to that currently? About 33 million dozen currently?

Laurence Sellyn

Well, there are two facilities --

Doug Cooper - Paradigm Capital Inc.

Not including Rio Nancy 4?

Laurence Sellyn

-- so the combined is --

Glenn Chamandy

When we ramp up Rio Nancy 3 and Rio Nancy 4, our capacity will be about 60 plus million dozen.

Doug Cooper - Paradigm Capital Inc.

On the socks?

Glenn Chamandy

Yes.

Doug Cooper - Paradigm Capital Inc.

Okay. And then just getting back to the retail wins, you said incrementally $70 million of retail revenue as it stands now in 2010 -- what did you do retail total in 2009?

Glenn Chamandy

You know, most of the retail was the socks and we haven’t disclosed what we generated in activewear and underwear in retail. We haven’t segregated that from our -- the rest of our activewear and underwear sales.

Doug Cooper - Paradigm Capital Inc.

Right. Would you say 5% of total revenue?

Glenn Chamandy

Well, if you take the sock business, it’s around close to 250 million.

Doug Cooper - Paradigm Capital Inc.

250 million for the socks only? Okay. In terms of other retail wins, is there -- can they happen anytime throughout the year or are there specific time periods where you have -- the programs will come in sort of spring and fall sort of thing, or can it happen anytime?

Glenn Chamandy

Well, we are being presented with the opportunity all the time but right now, we are really focusing on the fall and back-to-school and the holiday season. And we’ve got significant momentum today. You know, we’ve been driving our retail strategy now for many years and this is the tip of the iceberg for us in terms of our momentum, so we feel very comfortable that we will continue to drive new programs as we go forward and the question will be when the timing of these programs will be shipped but there’s definitely we’ll have momentum going into the back half of 2010 and into 2011.

Doug Cooper - Paradigm Capital Inc.

Right, and when you say strategic underwear program, is that strategic because it could lead into t-shirts and fleece and sports shirts?

Laurence Sellyn

I think we’ll provide more color when we start shipping the program.

Doug Cooper - Paradigm Capital Inc.

Okay, and just one final question -- so your retail with the underwear win, could you talk about what your market share will be on underwear and socks in the retail channel?

Laurence Sellyn

There will be lots of opportunity that we are just beginning.

Doug Cooper - Paradigm Capital Inc.

And the t-shirts, if you want a t-shirt, that would be multiples bigger than an underwear program, I’m assuming?

Glenn Chamandy

We’d rather not say today but I can tell you that we were looking at many opportunities in all categories -- socks, underwear, and activewear type products, so we’d just prefer not to say right now but we are being presented with many opportunities and we are continuing to drive as hard as possible and continue our success as we go forward.

Doug Cooper - Paradigm Capital Inc.

Okay, perfect. Thanks very much, guys.

Operator

Your next question comes from the line of Scott Rattee of Blackmont Capital.

Scott Rattee – Blackmont Capital

Just a couple of questions -- I was just sort of curious -- could you remind us with the sock rationalization, when does that -- when does the sort of rationalization sort of anniversary, so to speak?

Laurence Sellyn

It’s pretty well anniversaried -- there might be some anniversarying next year, but it’s minimum. It could be maybe a million, million-and-a-half dozen.

Scott Rattee – Blackmont Capital

Okay, so we are through the majority, the balance of it is done?

Laurence Sellyn

There will still be cost savings as we ramp up our Rio Nancy 4 that will come in during the year in 2010.

Glenn Chamandy

Yeah, because two aspects -- one is that we moved all of our finishing, which is the labor, high labor content production from the U.S. to Honduras and that really only happened during the third and fourth quarter of last year, so this year we will be able to anniversary lower costs as we go forward. And then as we ramp up the second piece, which is the knitting in Rio Nancy 4, that will allow us to have additional cost savings. Most of that will be towards the end of 2010 and into 2011, so we are going to continue to have margin increases in our socks as we go forward into the next 12 months.

Scott Rattee – Blackmont Capital

Okay, and just on that, on the transition itself, I was under the impression that the finishing was -- is, as you say, it’s one of the most intensive parts of it, so by way of kind of thinking conceptually about how much cost savings has already been achieved versus what is left, is it going forward now through to the completion of RN4, is it still another sort of 50% sort of cost savings associated with that sort of CapEx project or are we even there yet?

Laurence Sellyn

Well, put it this way -- none of it has flowed through our P&L yet because like I said, a lot of it is -- as we move this production off-shore, it only happened in Q3 and Q4, so those savings are in our inventory today and that the total cost savings between our U.S. production, or U.S. domestic production versus our integrated offshore production potentially is $1.50 a dozen and there’s up to -- and our capacity would be almost 30 million dozen, so that’s really where the big opportunity is for us to continue reducing costs as we go forward.

Scott Rattee – Blackmont Capital

Okay, okay.

Laurence Sellyn

-- put our cost-savings in an overall perspective, we mentioned in response to an earlier question that we are looking at seeking to generate approximately 550 basis points of margin improvement in fiscal 2010 from cost reductions and manufacturing efficiencies.

Scott Rattee – Blackmont Capital

Okay, great, thanks that’s helpful. And sort of continuing along on CapEx, when you referred to the bio mass facility, I believe you are in the process of completing one in the Dominican Republic, so with the CapEx going forward, I presume that is for a new complex in the Honduras location -- is that correct?

Laurence Sellyn

Well, we are actually as we speak today, starting up the VR facility and we are planning to start up in fiscal 2010 two more smaller bio-mass facilities in Honduras, one that will be in Rio Nancy 3 and another one in Rio Nancy 4.

Scott Rattee – Blackmont Capital

Okay, and by way of the sort of textile expansion in Rio Nancy, I know you had mentioned that it’s relatively short -- is sort of a three to four month time horizon, is that sort of roughly accurate?

Laurence Sellyn

Yes.

Scott Rattee – Blackmont Capital

Okay, and I guess my final question is you had mentioned with the sort of increasing momentum that you’ve got in the retail group that I think you used the phrasing being at the tip of the iceberg. Will -- is the sort of sales group that you’ve got right now sort of in places, is that adequate? Is that something where maybe not so much for fiscal 10 but even a little further out, is that something that would be -- we should be keeping an eye on by way of sort of growing as that overall contributor to the platform grows?

Glenn Chamandy

Well, you know, we are constantly -- we brought on some new sales individuals this year that are helping obviously to drive our strategy but our focus is obviously to maintain SG&A similar to what Laurence suggested, around 11.5% on a go-forward basis and I think that’s a model that we can live with in the longer term. So our objective is obviously to continue growing the top line and be very SG&A conscious.

Laurence Sellyn

And another thing in addition to what I mentioned earlier that will help our SG&A in 2010 compared with 2009 is further efficiencies in distribution costs, partly as the result of this investment we just made in the new Charleston distribution center.

Glenn Chamandy

And also the investments will not only allow us to reduce cost but also significant increase sales because of the size and capacity of the building up there.

Scott Rattee – Blackmont Capital

Okay, that’s great. That’s helpful. Thanks very much and congratulations on a good quarter.

Operator

(Operator Instructions) Your next question comes from the line of Vishal Shreedhar of UBS.

Vishal Shreedhar - UBS

Just on pricing, is that 5% net down next year including the removal of promotional activity? Or is it going to be slightly less if you factor less promotional activity?

Laurence Sellyn

Well obviously, that includes promotional activity so if there’s less promotional activity, then the 5% will be a lower number.

Vishal Shreedhar - UBS

Okay. Just if we use that 5% as a base, it looks like using previously announced sensitivities, it looks like it’s about $0.45 hit to EPS. I’m just wondering, that seems like a large price to pay for continued market share gains. I’m wondering if there’s other qualitative factors that we need to consider when you considered reducing base pricing.

Laurence Sellyn

Well, we are satisfied that the economics and strategic objective of lowering prices to drive volume are beneficial for the company and for the shareholders.

Vishal Shreedhar - UBS

Okay. I just wanted to ask on the capital structure, obviously very strong in net cash and free cash next year, what is management’s view of an ideal capital structure?

Laurence Sellyn

We [probably highlighted] this as something that we recognize and some of our shareholders have raised this as an issue and what I can tell you is that it’s something that we recognize and we are very conscious of and are discussing with our board and I think as we go through the year, we will communicate what we think is the appropriate capital structure for the company and how we are going to deploy the cash that is accumulating on our balance sheet.

Vishal Shreedhar - UBS

Okay, so I think I got a sense of the answer for my next question -- I was just wondering if there is an amount of time that it’s appropriate to wait for an appropriate acquisition to come through, or if there’s a certain point in time to go you know what, we should look at a dividend or buy-back or something like that. Because I know we were talking about dividends and buy-backs.

Laurence Sellyn

During the course of the year, I think we will communicate some position on how we are going to deploy our cash between the different uses that we discussed.

Vishal Shreedhar - UBS

Okay. Thank you, I appreciate your time.

Operator

Your next question comes from the line of Andrew Burns of Thomas Weisel.

Andrew Burns – Thomas Weisel Partners

I am in for Jim Duffy today. Most of my questions have been answered but I have a follow-on on the pricing -- you guided for selling prices down 5% for the full year and in your gross margin guidance, it sounds like there will be further promotional discounting during the balance of the year in addition to the first quarter. So my question is how much of the overall pricing reduction was taken in the first quarter? Was it the majority of the pricing decline or is there more to come?

Laurence Sellyn

I don’t think we want to add to what we have said. You know, we indicated that we are expecting margins in Q1 overall to be close to what they were in Q4 and I don’t think I want to say more about Q1 and as far as the whole year information that we are comfortable to give is that we are modeling ourselves a 5% reduction in overall pricing and because of the offsets, so more favourable manufacturing costs and more favourable product mix, we’re looking at margins being approximately 26% and we will update you on these assumptions as we go through the year and have more visibility.

Andrew Burns – Thomas Weisel Partners

Great, thank you.

Operator

Your next question comes from the line of Claude Proulx of BMO Capital Markets.

Claude Proulx - BMO Capital Markets

I am looking at your $70 million indication for those new retail program and in there you’ve got three such programs -- you’ve got I guess a smaller underwear program and a major underwear program and I don’t know -- $70 million seems low for a major, something that includes a major underwear program. You are looking at the initial sales or are we looking at what the sales could be at maturities? I assume the potential would be larger than that but can you comment?

Glenn Chamandy

We are looking at what we think is the minimum required sales for the space that we’ve obtained. I think it could be conservative, it depends on how successful obviously these programs are but we gave a number that we thought was at the bottom end of the range in terms of the opportunity.

Claude Proulx - BMO Capital Markets

And I guess because those are new -- I guess there’s no historical data so that’s why maybe there’s more reason to be conservative, I guess?

Glenn Chamandy

Well, it’s still a lot of business. We think that this is a major opportunity and that we just don’t have a total understanding of what and how well it’s going to sell. If there’s any indication of how well some of our new sock programs are going, there could be upside to it but right now, we are being conservative and we are focusing on developing new programs and continue to expand our distribution.

We actually, if you look at the opportunity, we’ve expanded our shelf space this year by just in excess of 20% in terms of the amount of shelf space we have, so as far as we are concerned, this is a big successful win for us and we are going to continue to lever it and drive new opportunities and hopefully it will be even larger than 70 million.

Laurence Sellyn

And we are excited about the program and we will provide more information on it once we ship to the retailers and we are in a position to provide more details and more color.

Claude Proulx - BMO Capital Markets

Okay. You said that your product costs in Q4 was $0.61. Can you share with us what it was last year?

Laurence Sellyn

It was about $0.67 in the fourth quarter of last year.

Claude Proulx - BMO Capital Markets

Okay, that’s useful. And last thing, market share obviously up a lot according to initial number from star for November. And then at the same time, I see that you’ve taken this pricing initiative, reducing the gross pricing. To what extent is the large market share gain sustainable? I’m wondering if it’s not just the reaction to that and then after that, we could see the market share coming down to some extent.

Glenn Chamandy

You know, Claude, we don’t know but at the end of the day, there’s two things I think are important -- one is that we have continuing momentum in all categories. A lot of our share is coming right now from 50-50 t-shirts, which was the smallest category and we’ve had -- we’ve just been developing over the last couple of years. Our share reached close to 50% in the month of November, so we are pretty excited and that’s going to help move our overall share up.

And one of the things I think which is important to understand is that our percentage of inventory in the market is very low today and that’s just giving you an indication of how we are positioned. Our products are selling faster than they are being replenished and we are very excited and hopefully we can continue to even gain more share from where we are today and hopefully the market will actually grow and that will even allow us to recover the growth opportunity and the market declined in fiscal 2009 by probably around 12% to 13% and that represents almost 10 million dozens, of which at our share level today is another 6.2 million dozens when the market does come back.

So overall, we think we are positioned right and we have continuing momentum, not just in the U.S. market but as well as all our international markets and we are very excited about next year.

Claude Proulx - BMO Capital Markets

Okay. Thank you very much.

Operator

Your next question comes from the line of Hugh [Bourgeois] of National Bank Financial.

Hugh Bourgeois -- National Bank Financial

I just have three very short questions on RN5 -- first of all, should we still be assuming $85 million to $90 million as a total cost for that facility? Secondly, you mentioned that the shell would probably be done by the end of fiscal 2010 -- what’s the split in terms of total capital to be spent on the shell and the rest of the equipment? Could we use 80-20? And last question, how fast can RN5 be operational once the shell is done and once you decide to go ahead with it?

Glenn Chamandy

Well, the shell is going to be a small investment of roughly about $5 million and again, I just want to reiterate that that’s what we are going to commit capital to this year. So we haven’t committed to any of the equipment to go into the facility. If we do expand this project to its full scale, it would be in the neighbourhood of around $90 million to $95 million, and the time from when the time the building will be complete, which will probably be some time in Q1 of 2011 to really be finished, it would take probably about six to nine months to get the equipment installed in the building and to begin to start capacity if we chose to acquire the equipment for the textile operations.

Hugh Bourgeois -- National Bank Financial

Thank you.

Operator

Ladies and gentlemen, that concludes the Q&A session. I would now like to turn the call back over to Sophie Argiriou.

Sophie Argiriou

Thank you all for joining us. I would also like to take this opportunity to wish everybody all the best for the holiday season on behalf of the management team here at Gildan and we look forward to speaking to you in the new year at our next earnings conference call. So have a good day, everybody, and thank you.

Operator

Ladies and gentlemen, that concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Gildan Activewear F4Q09 (Qtr End 10/5/09) Earnings Call Transcript
This Transcript
All Transcripts