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Quiksilver (NYSE:ZQK)

Q4 2013 Earnings Call

December 12, 2013 4:30 pm ET

Executives

Robert Jaffe

Andrew P. Mooney - Chief Executive Officer, President and Director

Richard J. Shields - Chief Financial Officer and Principal Accounting Officer

Analysts

Taposh Bari - Goldman Sachs Group Inc., Research Division

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

Kelly L. Halsor - BB&T Capital Markets, Research Division

Joseph Bess - Roth Capital Partners, LLC, Research Division

Jeffrey Wallin Van Sinderen - B. Riley Caris, Research Division

Andrew Burns - D.A. Davidson & Co., Research Division

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

Christian Buss - Crédit Suisse AG, Research Division

Operator

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the Quiksilver Fiscal 2013 Fourth Quarter and Full Year Financial Results Conference Call. [Operator Instructions] I would like to remind everyone that this conference is being recorded.

And now, I would like to introduce Robert Jaffe, Investor Relations for Quiksilver. Please go ahead, sir.

Robert Jaffe

Thank you, operator. Good afternoon, everyone, and welcome to the Quiksilver fiscal 2013 fourth quarter and full year earnings conference call. Our speakers today are Andy Mooney, President and Chief Executive Officer; and Richard Shields, Chief Financial Officer. Bob McKnight, our Executive Chairman, joins us as well.

Before we begin, I'd like to briefly review the company's Safe Harbor statement. Throughout our call today, items may be discussed that are not based on historical fact, and are considered forward-looking statements within the meanings of the Private Securities Litigation Reform Act of 1995. In particular, statements regarding Quiksilver's business outlook and future performance constitute forward-looking statements, and results could differ materially from those stated or implied by these forward-looking statements as a result of risks, uncertainties and other factors, including those identified in our filings with the Securities and Exchange Commission, specifically under the section titled Risk Factors in our most recent annual report on Form 10-K and on our quarterly reports on Form 10-Q. All forward-looking statements made on this call speak only as of today's date, December 12, 2013, and the company undertakes no duty to update any forward-looking statements.

In addition, this presentation may contain references to non-GAAP financial information. A reconciliation of non-GAAP financial information to the most directly comparable GAAP financial information is included in our press release, which can be found in electronic form on our website at www.quiksilverinc.com.

We have also posted on the Investor Relations section of the company's website supplemental financial tables, which you may find helpful. These tables contain additional information on Quiksilver Inc.'s continuing operations and discontinued operations for the current and prior periods.

With that, I'd like to turn the call over to Andy Mooney.

Andrew P. Mooney

Thank you, Robert. Good afternoon, everyone, and thank you for joining our call today. For the fourth quarter, Quiksilver and Roxy brand sales remained steady compared with the same quarter last year. However, as expected, we saw a significant decrease in DC brand sales. While total net revenue decreased, this quarter's pro forma adjusted EBITDA improved by $3 million, primarily due to improved gross margin and SG&A reductions of $15 million, excluding severance and other restructuring charges.

Since our last conference call, we continued to reduce costs and rightsize the organization in line with our Performance Improvement Plan (sic) [Profit Improvement Plan]. We also took steps to enhance the top line medium to long term. I will highlight these actions, then Rich will take you through our Q4 financials in detail, and then we'll open up the call for Q&A.

On cost reduction and rightsizing, we further reduced our athlete and event rosters and made some difficult decisions to reduce marketing headcount. These steps will allow us to increase marketing resources devoted to new and traditional media on sales support and athlete activation beginning spring of 2014.

We continue to see gains in our direct-to-consumer business. E-commerce revenues grew 22% in Q4, and we continued to improve the profitability of our brick-and-mortar retail stores by closing 17 underperforming retail stores, mostly located in Asia Pacific and Europe.

We sold the snowboard business, Mervin Manufacturing, for approximately $58 million, and are working on opportunities to divest other non-core operations, including Hawk and Surfdome. We also made the decision to discontinue the Moskova and our Maui and Sons license.

With regard to our management team, we named a global Chief Information Officer, global heads of retail, e-commerce and our Waterman business. We strengthened our global distribution, logistics and supply chain teams with the recent additions of a Global Vice President of Distribution and a Vice President of Strategic Sourcing.

We made important headway in optimizing our supply chain, reorganizing the function, recruiting experienced executives for key positions and establishing global processes and controls.

We made solid strides in rationalizing our style counts, further reducing SKUs for fall holiday 47% over prior year, and anticipate realizing the benefit of these actions in fall 2014 and beyond.

To enhance the sales efficiency, we reorganized our U.S. wholesale sales force and have begun analyzing our wholesale operations in EMEA, and began centralizing e-commerce to global systems and processes under the leadership of a new global head of e-commerce.

Turning to the sales growth part of our plan, we used a portion of the proceeds from the Mervin sale to invest in our joint ventures in Mexico and Brazil, and we now own 100% of our operations in both countries.

We entered into our first major licensing agreement with the U.S. subsidiary of Li & Fung, a multibillion-dollar global apparel group. Li & Fung will design, manufacture and market children's apparel bearing the Quiksilver and DC brand trademarks in the Americas. We expect this agreement to help grow our children's apparel business, and it dovetails with the Profit Improvement Plan, enabling us to focus our energies and resources on our core apparel business, while significantly reducing SKUs in our supply chain.

We further consolidated product design into our 2 global centers of excellence, aligned the product design calendar and reengineered workflows. Although we made solid progress in SKU reduction, we still have significant remaining opportunity in this area.

Our new product development teams are on track to improve product design across all 3 brands. As a reminder, we don't expect those efforts to bear fruit until fall 2014 for apparel, and spring 2015 for footwear.

In summary, we continue to make good progress in our Profit Improvement Plan in the areas of cost reduction, globalization, brand rationalization, supply chain and licensing, and I remain confident that we're heading in the right direction.

With that, I now turn the call over to Rich to discuss our financial performance in detail.

Richard J. Shields

Thanks, Andy. And thanks, everyone, for taking the time to join us this afternoon. My comments will refer to our Q4 results from continuing operations, unless otherwise noted, and all sales comparisons assume constant currencies.

Q4 net revenues decreased by $47 million or 9%. DC brand sales made up the entire decrease, down $47 million, primarily in the North America wholesale channel. This was in line with our expectations that we shared in September.

In the Americas region, revenues decreased 14%. That decrease was focused in DC, with Quiksilver and Roxy brands basically flat. The revenue erosion was focused in the United States. Canada was up 9%, and our Mexico and Brazil operations, where we recently purchased remaining minority equity interests, increased revenues by 42% and 24%, respectively.

EMEA revenues were down $17 million, with $14 million of that decrease coming in the DC wholesale channel. Quiksilver and Roxy brands -- brand revenues each decreased modestly in EMEA.

France and Russia each generated revenue growth, and Spain was well down versus last year.

In our APAC region, revenues increased by 9%, with Roxy and Quiksilver providing the growth. Japan, Indonesia and Korea each generated double-digit percentage growth, while Australia revenues decreased.

Globally, retail channel sales were flat, with modest comp store sales growth offset by fewer store months open compared to Q4 last year. We closed 17 underperforming retail stores during the quarter and ended the quarter with 631 owned and operated stores.

Our emerging markets and e-commerce channels each continued to show solid growth in Q4, up 32% and 22%, respectively.

Moving to gross margins. Reported gross margins were up 140 basis points to 47% of net revenues. Included in Q4 gross margin are restructuring and special charges of $2 million associated with the write-off of exited brands and severance for supply chain staff, as we further centralized that function. If we exclude those restructuring charges, Q4 gross margins would have increased 190 basis points.

Americas region margins were flat, with our direct-to-consumer channels showing margin growth, Quiksilver and Roxy wholesale channels showing increased margins and DC wholesale channel margins down significantly from last year.

EMEA margins increased by 400 basis points. Margin growth in wholesale and e-commerce channels were partially offset by lower margins in the retail channel in EMEA, where late deliveries forced additional discounting, as the product arrived in the tail part of the season. EMEA margins also benefited from liquidation of aged inventory and the related reserve flow-through.

Asia Pacific margins decreased modestly due to retail channel discounting, largely in Australia.

SG&A decreased by $7 million. Included in SG&A are restructuring and special charges of $10 million in Q4 this year versus $2 million in Q4 last year. These charges include severance, as well as the cost of early lease terminations for underperforming retail stores.

Adjusting for those items, SG&A was down $15 million on an equivalent basis to Q4 last year. Expense reductions were driven in compensation, commission, travel, professional fees, sponsored events, as well as selling costs.

We continue to execute against our Profit Improvement Plan in Q4. This included further staff rightsizing, closing underperforming retail stores, exiting the Maui and Sons business in Japan and discontinuing the Moskova brand. As a result, restructuring and special charges include $7 million of severance, $4 million in lease termination costs and $1 million of inventory write-downs.

Q4 pro forma adjusted EBITDA was $35 million, an increase of $3 million compared with last year. This improvement was driven by the SG&A reduction, and as well as the gross margin improvement.

In our Q2 earnings call, we indicated that we expected pro forma adjusted EBITDA in the second half of fiscal 2013 to increase relative to the comparable prior year period. We are pleased that we were able to achieve growth on that metric in both Q3 and in Q4, measured on either continuing operations or on all operations.

Moving below EBITDA. The Q4 tax provision includes a noncash charge of $157 million related to taking allowances on the net operating loss carryforward deferred tax assets in France. We have NOLs of EUR 356 million in France, which were created in the Rossignol disposition in 2009. These deferred tax assets were carried on the balance sheet, tax effected, at $157 million. Based upon the cumulative losses we have incurred in France in recent years, we took valuation and reserves against those deferred tax assets. This does not preclude our future use of those NOLs, and those NOLs do not expire.

Moving to the balance sheet. Inventory increased by $11 million versus last October. The increased stock level is primarily in U.S. retail stores, where we believed that thin store stock depth was impacting sales. We added $8 million to retail store inventories in the U.S., and the U.S. comp store sales growth performance has justified that decision.

The quality of our inventory improved, as we continued to liquidate aged inventory. Aged inventory decreased 15% and represented less than 6% of aggregate stocks at the end of Q4. Importantly, reducing aggregate inventory levels will be a focus initiative in 2014.

Regarding liquidity. We ended Q4 with $234 million in liquidity, including $177 million available on our credit facilities. We managed working capital as a source of cash in 2013 compared with a significant use of cash in fiscal '12.

In May, we put a new 5-year credit facility in place, covering our major subsidiaries in the Americas and the Asia Pacific region. We then financed our long-term debt in July, and executed a 3-year credit facility for Europe in October.

In November, we divested Mervin and received a payment of approximately $58 million. So we feel well positioned from a liquidity and a debt maturity standpoint to focus on our Profit Improvement Plan.

Lastly, we want to share a status report on our Profit Improvement Plan initiatives and how our progress on them map against the assumption we used in building the plan's financial targets.

Our Profit Improvement Plan anticipated divesting nonstrategic operations, including Mervin, Hawk and Surfdome, as well as licensing certain peripheral product categories. The activities we recently announced regarding licensing and divestitures are congruent with what we modeled in the Profit Improvement Plan, and we continue to believe that our 2016 revenue target will be achieved.

With regard to gross margin. We are forecasting that the percent of revenue from our e-commerce and our retail stores will be higher than we initially anticipated in our Profit Improvement Plan, which would be favorable to our original gross margin assumptions. We believe we are on track with our supply chain initiatives, and that those initiatives should begin to provide some margin benefit beginning in the fall 2014 season.

We also expect ongoing incremental margin improvements from our supply chain initiatives in 2015 and 2016, in line with the targets we outlined in our Profit Improvement Plan.

Moving to SG&A. We believe we are likewise on track with our SG&A initiatives. The $18 million in severance recorded in the second half of fiscal 2013 reflects our focus on rightsizing our global staff. And while the higher revenue mix from e-commerce and retail channels will be positive to gross margin, these channels carry higher SG&A than the wholesale revenues. So we continue to believe that we're making good progress on our Profit Improvement Plan initiatives and that we are on track to achieve our target EBITDA.

With that, I'll turn the call back over to Andy.

Andrew P. Mooney

Thank you, Rich. So just to recap, we've made good progress in lowering costs, strengthening our management team, globalizing key functions and processes, reducing SKUs and product counts, and forming the foundation for improved efficiencies. Our entire team remains focused on the successful execution of our Profit Improvement Plan.

Robert Jaffe

Operator, that concludes our prepared comments. We're now ready for the Q&A session.

Question-and-Answer Session

Operator

[Operator Instructions] We'll take the first question from Taposh Bari. Please go ahead.

Taposh Bari - Goldman Sachs Group Inc., Research Division

I was hoping you guys can go -- if you could just do a quick post-mortem on this past quarter. You operated in a variety of regions, a variety of channels, a variety of brands. I was hoping you can, Andy, maybe highlight, looking back at the last 90 days, some of the things that maybe surprised you to the upside or downside?

Andrew P. Mooney

Actually, for this quarter, Taposh, there wasn't actually much in the way of surprises. We signaled pretty clearly in Q3 the ongoing weakness in DC footwear sales in North America and the wholesale channel. And Quiksilver and Roxy revenues held up, generally speaking, across the board in all regions in both wholesale and retail. We continue to remain optimistic about our direct-to-consumer element of our business. The wholesale channel sales -- sorry, retail brick-and-mortar sales were very steady and e-commerce sales continued to show robust double-digit gains. And what we'd really love to see is -- we continue to see very slow erosion in the specialty core surf and skate chain worldwide, offset by pretty robust growth in emerging markets, particularly for us, Russia, Brazil, Mexico and Southeast Asia, and even Japan this quarter.

Taposh Bari - Goldman Sachs Group Inc., Research Division

That's helpful. Can you help us contextualize -- I know you're not giving guidance, but help us think about the path. You're in [indiscernible] now. I know this is a multiyear story to recovery. But help us think about the path over the next couple of quarters in general, and also particularly on the brand level. So DC down 25% this past quarter. Was that all concentrated in the fourth quarter? Or are we going to continue to see steep declines at that brand in 2014?

Andrew P. Mooney

Well, we -- as I said, I think we signaled, and we certainly saw here, the weakness that's continued in the North America channel. Generally speaking, we had some weakness for the exact same reasons in Europe, but not to anywhere near the same degree. We're actually continuing to seeing gains in DC footwear pretty much outside of those 2 areas. The key to DC footwear is really to reengineer the line to get into the sweet spot of price. There are 120 million pairs of accessibly-priced vulcanized canvas footwear sold annually. And by accessibly priced, I mean, the products that retail in the $45 to $49 price zone. Our line today starts at $55. So we sell 4 million pairs of vulcanized canvas footwear out of a 120 million-plus market. The reason we sell such a small number is because we're outside the price zone. We'll be in the price zone beginning fall '14. So really, I think for DC, the revenue line is going to continue to be choppy between now and when we start to really enter the sweet spot, as it were, on price, at least in North America.

Richard J. Shields

Andy, I'd just add one thing on DC is that, I think we need to look back at Q4 last year, where I think we discussed the fact that there was a significant acceleration of kind of pushing product into the channel. So DC for the full year is down single digits, and a good piece of that is just because of the Q4 2012 push.

Operator

At this time, we'll take a question from Mitch Kummetz with Robert Baird.

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

Just hoping to get a little more color on the sales side of the Profit Improvement Plan. I mean, it sounds like you're still guiding to something a little north of $2.2 billion for 2016, which would be $400 million of incremental sales from where you ended this year. I was just hoping to get a little bit of color on and what are the opportunities to pick up $400 million over the next 3 years? I mean, maybe if you could just sort of order of magnitude by brand or by geography, I think that would be very helpful.

Andrew P. Mooney

Yes. So what we foresee over the next few years is -- we believe there's opportunities in all 3 brands, but they're really distinctly different. In the case of Quiksilver, we believe there's opportunities to take share within the core channel, particularly when we see the current weakness of some of our competitors in the marketplace. We also see a lot of opportunity in Quiksilver to really do a better job in North America, particularly in the fall/winter selling cycle. In Europe, we have a very balanced 50-50 fall to summer -- spring to fall business. We don't have that same balance here in North America. And we see that as a distinct opportunity. We also see a distinct opportunity for Quiksilver in closed-toe footwear. We're essentially not in that market right now. We're only really in the sandal market, and we think there's opportunities there. For Roxy, we believe there's real opportunity to expand beyond core surf and snow and to move more into active categories. We have made initial forays into that category with Outdoor Fitness. We want to kind of really build on that success and really see channel expansion, in the case of Roxy, taking us into sporting goods as being an area of opportunity in both apparel and footwear. And then on DC, it's really about -- it's 2 types of opportunities. It's reengineering the line to get into the sweet spot of volume. We're actually doing quite well in the higher price points in the core, which is good for brand equity. But we need to fundamentally reengineer the line in both adults and kids to get into the sweet spot of price. We'll begin that in fall, and we'll be much more aggressive on that front in spring. The lead times are a little longer in footwear than they are in apparel, but we'll be very much finished with that transition in terms of reengineering the line for spring. And then on apparel, I think with DC we're essentially starting from scratch. There's lots of upside in apparel. We've been recruiting design and merchant expertise there. Apparel for DC, because it's been a footwear-oriented brand, has been treated as an accessory to the footwear business. With the new organizational alignment, we now have expertise in apparel for DC, and we have expertise in footwear for Quiksilver and Roxy. Both businesses historically have been treated as footwear -- have historically been treated as accessories in the Quiksilver and Roxy side of the business. So lots of opportunities.

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

And then again on regions, I mean, you guys obviously break the business out by 3 geographic regions now. Again, when you think about those in terms of their contribution over the next 3 years and order of magnitude, how would you order those?

Andrew P. Mooney

I actually think of it more in terms of countries than I do regions, per se. I think we've got -- as everybody does, I think we've got tremendous opportunity in BRIC markets. We're seeing some of that in both Russia and Brazil right now. We're doing well in India, but the retail channel in India is very nascent, and we'll expand at the rate at which that expands. We have a great partner in India with Reliance, a well-capitalized, well-managed partner there. And we have lots of upside in mainland China, and are in discussions with our JV partner there to see how we can improve our business there. In the developed markets, it is -- in the developed markets, I see it primarily being a share -- I don't really see the industry expanding, per se, if you define the industry as the core channels. In the developed markets, I see it being a share gain. And consolidation are going to occur in the developed markets. But I think we've also got to be looking at core channel expansion and an ongoing shift in terms of the percentage of revenues, in our case, from wholesale to D-to-C.

Operator

At this time, we'll move to Kelly Halsor with BB&T.

Kelly L. Halsor - BB&T Capital Markets, Research Division

I just wanted to dig into gross margins a little bit more. Obviously, it was up in the quarter, which is great to see for the first time since Q1. Can you just talk about the puts and takes of that, in terms of whether it was lower sales to the off-price channel, better inventory management versus some of your initiatives that you have in place, including the SKU rationalization, where you are in terms of that program, and then obviously the benefit of the restructuring of the supply chain? And then how we would view that going forward into 2014?

Richard J. Shields

Yes, Kelly. I think that the supply chain initiatives that we outlined, and we talked a little bit about the progress that we're making there, that we feel good about the progress on the supply chain initiatives. We've seen some SKU reduction happen already. More to come in 2000 -- and fall of '14 and out in 2015. So we'll continue to see that happening. What we laid out in the Profit Improvement Plan was that the margin improvement would probably happen later in the timeframe than some of the other opportunities. And that's what we continue to anticipate. So when I think about being up 140 basis points reported, and then if you take out the severance that was recorded in cost of goods sold for some of the rightsizing that we did in Q4 regarding the supply chain, and also a $1 million charge as we exited the Moskova brand and some other small categories, you're up 190 basis points. And so if I think about that in terms of maybe the U.S. market or the Americas market as a good bellwether, is that we saw good margin growth in Quiksilver and Roxy. And then the DC margins were well off of Q4 last year, as you would anticipate, because you're not -- we weren't taking discounts in Q4 of 2012 with the kind of a significant inventory push into the mid-market channel. So I think that we feel good about the initiatives around supply chain and feel good about the team that's been built. And now we're starting to kind of really reengineer the processes around supply chain management.

Andrew P. Mooney

Kelly, I would just add to it by saying that, when we looked at the potential for margin improvement, it really kind of fell into 2 areas. One was supply chain that Rich alluded to, where vendor consolidation, SKU rationalization, just more professional management of the supply chain, we believed, and we are seeing some benefits coming from that. But also there's historically been a significant drain, if you like, between initial gross margin and final gross margin in the form of inefficiencies that's really in the wholesale sales channel, discounts, returns to the stock, any number of holes in the bucket, if you like. Those are being addressed in a kind of look -- granular look at the wholesale sales operations and how we're managing the sales organization in the field. We've gone through all of that analytical work and have put in the protocols for North America. That will take effect in fall of '14. We're in the process of doing it now for Europe. And probably -- we'll probably get that into effect by holiday '14, spring '15 at the very earliest. So there's 2 big but quite separate areas of ways for us to improve the gross margin line. And you'll see gross margins improve as a function of mix. As Rich said, percentage of total revenues that are coming from DC's -- D-to-C are not only continuing to increase. Good news is higher gross margins. Bad news is higher SG&A. But overall, good news in terms of EBITDA. And I think if you look back over the gross margins by quarter last year, you'll actually see quite distinctively different patterns of gross margin because in Q1, for example, our percentage of retail sales relative to wholesale are significantly higher in Q1 than they are in, say, Q4, and that has a commensurate effect on the margin. We believe we can improve on every quarter, but you're going to see quite big differences from quarter-to-quarter based on the mix.

Kelly L. Halsor - BB&T Capital Markets, Research Division

Okay, that's helpful. And actually staying on the retail strategy, and you mentioned that you're seeing that business comprising a larger part of your sales versus original expectations. And obviously, e-commerce is a big part of that, growing strong double-digits. But could you talk more about your brick-and-mortar strategy? You're still, net, closing stores at this point, but is there an opportunity to open stores globally? Could you break it down maybe by geographical region or concept?

Andrew P. Mooney

We believe -- so let's -- you asked quite a few questions there. So I'll try to parse the questions, if you like, and address each of them. So on the brick-and-mortar side, we absolutely believe there's the potential to add more stores, a few more full-priced stores in developed markets. We're not interested in the opening stores that are not profitable. We're being very selective on the full-priced stores in developed markets, and in particular as we're doing it with our capital. We think there's tremendous opportunity to open stores in emerging markets; particularly Brazil, now that we have full ownership there; India, where we already have a JV partner in Reliance; and longer term, mainland China. The model there is more likely to be in partnership with other partners who are likely to invest their capital. So a tremendous opportunity in full price, but from an absolute store count, definitely more outside the U.S. than inside the U.S. and definitely more focused on emerging markets and ideally, with well-capitalized local partners. E-comm, we see as a tremendous opportunity. We received 30 million visitors to our own branded sites last year. We only converted, on average, 1.5% to 2% of them. So in many ways, we look at our website experience as being our most inexpensive and most important marketing platform. So we're going to put a lot of energy into that. As with the company overall, because of our historical kind of 3 region independence, we had 3 entirely independent e-comm platforms with no ability to leverage content, processes, anything really from platform A to platform C. We have a new global head of e-commerce who's been running our e-comm business in Europe exceptionally well, a gentleman called Nicolas Foulet. He is now our Global Head of E-comm. We're moving to one global platform, one set of global processes and a very different and much higher-quality approach to e-comm than we have. We expect to see benefits from our investment in e-comm coming not just in the form of revenue lift on our e-comm sales, but also revenue lift for the brand. Because clearly, with that amount of visitors, a lot of them are coming to shop the brand and may end up either buying in a brick-and-mortar store or just as likely to buy at stores of our wholesale partners.

Operator

Moving forward, we will hear from Dave King with Roth Capital Markets.

Joseph Bess - Roth Capital Partners, LLC, Research Division

This is Joe Bess asking for Dave. First, I'd like to ask a little bit about your inventory. It sounds like you guys are pretty pleased with sales so far in the holiday season. But I was hoping to get a little bit more color on your DC inventory and then also on your snow apparel. How you guys are thinking about this? Do you see that there's that much excess in the inventory for DC at this point in time, as well as snow apparel? Or how are you thinking about that?

Richard J. Shields

DC inventory is down significantly from where it was last year. We've been managing that appropriately. I think that we feel good about inventory in terms of the quality of the inventory and continuing to reduce the amount of aged inventory. I mentioned that reducing the aggregate amount of inventory will continue to be a focused initiative for next year. And I think that we feel good about what we're seeing in terms of trends and feedback on our fall line, which is kind of fall for next year. And we feel good about the inventory stocks that we have for the current winter season.

Joseph Bess - Roth Capital Partners, LLC, Research Division

Okay, great. And then also, can you talk a little bit about some of the trends you guys are seeing this holiday season? It sounds like you guys had a good November in your retail stores, helped by some promotions. Just kind of trying to get a sense of how you guys are feeling about December at this point and will there be less promotional activity?

Andrew P. Mooney

Well, I always have to remind people not to reach conclusions about the company based on observations in the local U.S. market because so much of our business, particularly in the fall/winter season is really driven outside of the U.S. relative to inside the U.S. We're feeling good about where we are in the sell-through and sell-in processes at this point. But I think it's too soon to comment on what we anticipate for Q1 or specifically, what we would anticipate for the month of December.

Joseph Bess - Roth Capital Partners, LLC, Research Division

Okay, great. And then last question. When you think about your SKU reduction, I think earlier in the year, you said you were anticipating about 30% reduction in SKUs. I was just hoping you could give a little bit color on where you guys are at with this initiative and what we should be expecting over the next year?

Andrew P. Mooney

Well, we're actually ahead of our plan in terms of SKU reduction. Clearly, the licensing agreement with Li & Fung on the kids Quiksilver and DC brands in North America or the Americas was a big impetus to that because the kids business is a particularly SKU-intensive business. But we feel that there's potential -- now that we've really got into the weeds in this issue, we feel there's potential even beyond what we modeled in the plan. But by really focusing down on the categories within each brand that will really drive volume, we think we'll get both efficiencies, but also revenue gains by employing a less-is-more strategy on the product front.

Operator

At this time, we'll take a question from Jeff Van Sinderen with B. Riley.

Jeffrey Wallin Van Sinderen - B. Riley Caris, Research Division

Maybe you could just give us a little bit more color on what you're seeing in your EU business. Maybe more on the quality of business in Europe. How bookings are trending for wholesale? And then maybe how retail comps have been running? And has it been more or less promotional there? I guess what I'm trying to get is a sense of, do you think that, that segment or that region is overall stabilizing? Do you think that the environment is getting more stable? Is it getting better? Any color you can provide there would be helpful.

Andrew P. Mooney

Well, again, I think Europe is not really a region anymore. It's really a collection of individual countries. And I think our business, generally speaking, is trending with the economic travails or successes within each country. Our business in Russia is great. Our business in Germany is quite solid. Our business in Spain is quite challenged. And it is generally going in line with the economic ups and downs of each of those individual countries. My European team keeps optimistically projecting a bounce back in Spain. I certainly hope that happens because I feel our business will rebound with it because clearly, historically, it's been a very important market for us. And in some cases, where we have our own retail stores with our newest Board Riders Store in Barcelona in Spain, we're seeing some real success there. But it's a mixed bag. As I said, high-growth markets, we're growing high growth. Challenged markets, we're facing our own challenges. So I think we're going to trend generally -- I think overall, we're going to trend generally with the economic movements in the marketplace. And what we're really looking to do in Europe is gain share. We've definitely gained share in Europe from Billabong. I think you'll see that in their public results. I think we're gaining share from some of the other brands. And our retail business is really quite solid. In Europe, it has not been -- European retail business tends not to be promotional in the same way as it is here in the U.S. with the exception of the U.K. The U.K. is highly promotional. We -- that's probably our smallest volume business in the G5 anyway. But in the G4, if you like, Continental Europe, a lot of the countries, governments mandate when you can actually do promotions. So de facto, it's not as promotional an environment, but success in retail in Europe is more a function of having the right product and getting the right weather. Our summer business caught fire late when the weather changed. And we're praying for snow. And we're getting some of it in Europe right now. So we're kind of feeling good about that right now.

Jeffrey Wallin Van Sinderen - B. Riley Caris, Research Division

Okay, good. And then I know you mentioned you went over areas where you think you want to focus on new store openings. And I'm just wondering, since you have closed some stores in the legacy fleet, how many more of those legacy stores do you feel that you want to close? Are you through that process? And then also maybe you can just touch on what you feel the issue has been with the underperforming stores. Is it locations? Size of the box? And then also curious to know if you're evolving in terms of developing a new store prototype as you roll out more stores?

Andrew P. Mooney

Good question. When you have a portfolio, a global portfolio of stores as large as we have, 631, I think as of today, and I think net more in the future, either owned or through partnership, you're perpetually in the business of opening and closing stores even with a flat count. Just the retail environment shifts, where you might have a good location year 1 and that becomes a poor location in year 5. So I would expect kind of single-digit turnover in the portfolio just as a matter of managing the business well. We do not believe we have a significantly large number of stores to prune from the portfolio to get down to the -- to get down to having a portfolio of stores that we're really happy with. But we're going to continue to prune out the ones in the lowest-performing quartile to try to open new ones in the highest-performing quartile. As it relates to format, I guess I'll say 2 things. We have a very successful format in Europe called Board Riders, that's a slightly larger format, more experiential store. We have 7 of them in Europe, 6 of them in Continental Europe, 1 of them in Russia. These are very exciting stores that have within them restaurants, bars, barbershops. We offer in those stores a broad range -- array of our own products, but also other products that would be relevant to our consumer. So products like GoPro or mophie, the battery charge -- battery packs for iPhone, headphones, that type of thing. We think that makes for an interesting environment for consumers that cuts across all 3 brands. Those stores are performing very well for us. We'd like to experiment with a few of those stores here in North America in 2014 to really check their validity, but we see some real opportunity there. What we've learned from that, which we will actually take in -- we're taking into all of our format at a fairly rapid pace, is that we found where we put all 3 brands in any store, we get an uplift in that store. And we have a number of stores worldwide where we have yet to add DC into the mix. Adding DC into the mix in our stores in Europe has been a big win for us. Not just for DC, it's clearly not cannibalistic to anything that we're doing in Quiksilver and Roxy. It just brings more kids across the threshold and makes for a more interesting environment. So that's one thing that we're doing post haste in all of our stores around the world, particularly here in North America.

Richard J. Shields

Andy, I might add in one item there. I think that -- to kind of talk about a few of the details of kind of the Profit Improvement Plan initiatives around retail. We were not comfortable with the level of management and leadership we had in North America. And we put in a world-class executive for North America. We've also kind of moved toward taking best practices and standardizing those around the globe. We have had inconsistent execution within the retail channel across the different regions. And so we're now working aggressively under the new leadership that's running global retail in terms of setting specific store metrics and in terms of store staff incentives, in terms of training programs for the store's staff and in terms of the discipline process in evaluating new store opportunities and making sure that those processes are both executed at a very high standard and then globalized and standardized across our retail platform.

Andrew P. Mooney

The other comment I would add, I really didn't kind of address this in responding to Kelly's question too, is that we have been -- when we looked to each region, we felt there was opportunities to add outlet stores, both to more efficiently deal with any excess inventory that we have, but ideally, increasingly, we are building specifically for those outlet stores so that the consumer has buy now, wear now options in those stores at any point in time. We think that -- we know that, that will make a difference to the margin profile or the profitability of those stores and help us in terms of brand management with our inventory through the clearance channels.

Operator

Andrew Burns with D.A. Davidson has the next question.

Andrew Burns - D.A. Davidson & Co., Research Division

You touched on this on the last answer here. But I just wanted to have you frame up. On the owned retail performance in the U.S. and globally, you seem to have stable trends here in the second half, which is encouraging. But looking into '14, what are some of the key drivers that can improve retail productivity prior to the new product coming in fall '14, spring '15?

Andrew P. Mooney

Well, one of the things that we've been doing because we can is we've been doing product injections into our retail stores ahead of the calendar that's required to introduce new product for the wholesale channel. In the wholesale channel, you are dictated by producing salesman's samples, getting advance orders, doing the trade show circuit. We kind of bypassed all of that for our retail channels and really started doing injections in both the U.S. and Europe. So we've got some of the products, the newer products that we want to have in retail in the stores quicker. One of the other kind of really important changes that we're going through, which again gives us the level of confidence that we can actually go deeper in SKU reductions is that, as an organization, historically, we have designed for wholesale, and retail has been an afterthought. Increasingly, what we're seeing is, we're going to design primarily for our own retail stores, our own website and our own key wholesale partners. Really, the line will be designed, let's say, for D-to-C, I call it D-to-C plus, would definitely have products that we believe will succeed in our core specialty surf, skate and snow channels, premium products, specialty products for specialty channels. But once you start designing for space, you realize that we actually need significantly fewer SKUs than we have right now and you start monitoring the productivity of those SKUs much more closely. So the fall line has been designed with that in mind. We're very, very connected now between the design process and the consumer through our direct-to-consumer operations, particularly e-comm and retail. And we believe that will intrinsically benefit our wholesale partners by having a much tighter connection between the realities of retail and our product design and development process.

Andrew Burns - D.A. Davidson & Co., Research Division

That's helpful. I know you don't want to give specific guidance, but it sounds like by the second half of '14, there should be a number of positive drivers that should benefit revenue and margin and, at that point, we should be able to see progress towards the '16 goals across all lines of the P&L. But it sounds like the first half, there's still a lot of moving parts and that might not be evident. Is that a fair characterization? Just trying to set expectations appropriately here.

Andrew P. Mooney

Well, I think that we have -- you kind of have to almost break it down to 3 component parts. It's that we've made tremendous progress in the SG&A management front, and I think you're seeing that in spades, if you like, in Q3 and Q4. And we would expect that to continue. You're seeing modest improvement on the margin at this stage because we're in the early stages of getting the benefit from that. But I think you saw some of that also in Q3 and Q4, particularly when you bear in mind the margin hit that we've had to take to really move DC product through the chain. So the last bucket, of course, is the revenue side, which we consistently said, don't expect anything on the revenue side until fall '14 on the apparel side of our business, which represents 75% of our revenues; and more likely spring '15 on the footwear side, which is 25% of our business. So that's -- I think we've been fairly consistent in that kind of breakdown of the Profit Improvement Plan, and I would say that's still the case.

Richard J. Shields

Andy, I'd add one item there. I think that when we talk about the Profit Improvement Plan, and we talk specifically about staffing, we indicated that we want to kind of get through the process of taking some of the staff -- the staffing down pretty significantly as quickly as we could. And we really break the rightsizing of the staff into 2 areas. Areas where we could immediately rightsize just as a function of the initial globalization, which I think -- we wanted to get that done as quickly as possible, and you've seen some significant severance recorded in Q3 and Q4 to that end. There will be some ongoing impact of staffing, but that's really about how -- as we reengineer the process and then we look at efficiencies from the process. So I think why we've -- as we get into the second half of next year, we start to annualize against the lower SG&A that's based upon the staff reductions that we've already taken. So I think that you'll start to see those -- the level of severance that we'll book in the next year will be well down from this year.

Andrew P. Mooney

I think the other thing that we feel good about is all of the difficult decisions that we made this year on the marketing front, reduction of our athlete roster, reduction of event participation and the most difficult element, reduction in headcount, that has freed up the marketing dollars that we aimed to free up to drive demand. So those dollars have been freed up for use in spring of 2014 and beyond. Not -- if we get better sell-throughs in spring 2014, it will reflect in better advanced bookings further on. So again, on the revenue side, fall '14 for us begins Q3 of fiscal next year. But we'd like to try and get -- really get our sell-throughs moving in advance of that as a function of spending -- it's not spending more absolute dollars, it's spending the dollars differently in marketing from how we've spent them in prior years.

Operator

[Operator Instructions] And at this time, we'll take a question from Jim Duffy with Stifel.

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

A couple of questions. First, is the SAP implementation for all regions complete at this point?

Richard J. Shields

No. We have communicated that the Asia Pacific rollout, which will largely be around Indonesia and Australia, would be done in spring 2014, and we continue to be on track for that.

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And then Rich, with the SKU reduction and supply chain focus in 2014, can you put some shape around the opportunity for working capital improvement in the year?

Richard J. Shields

We made some improvement in working capital this year. As I mentioned, the working capital was actually a source of cash this year versus a significant drain last year. And I think that we also shared that while we're pleased to have made progress in inventory regarding the aged inventory, I think -- I still think that with $339 million of inventory on hand, we think that there's opportunities there as well. And so -- and that will be a real driver of the working capital opportunity looking forward.

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

Okay. Question on the licensing agreement. I was encouraged to see the licensing for the U.S. kids business. Are there other new licensing agreements in place that haven't been announced? How is your progress in this area coming along?

Andrew P. Mooney

Well, our original model was that our categories representing about 10% of our revenues in total were -- had the potential to be licensed with partners who could generate more growth than we could, plus it would take both capital and SKUs out of the system and allow us to focus on our kind of core business. We're satisfied with the progress. We have a number of deals in various stages of execution right now. On the one hand, we're tracking against the plan. But on the other hand, we want to make sure that we have -- we're picking the right partners, and we have the right economic terms when we do -- when we go through the process. But we're happy with the progress to date relative to our plan.

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

So I suppose we should expect more on that in '14, Andy?

Andrew P. Mooney

So that's the plan. And as I said, we model 10%, and we expect to deliver on that aspect of the plan.

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

Great. And then seemingly very encouraged by the initial signs in the direct-to-consumer business. Would it be accurate to say that the wholesale business has proven more difficult than you had expected?

Andrew P. Mooney

The wholesale business? Was that your question?

Jim Duffy - Stifel, Nicolaus & Co., Inc., Research Division

Yes. Correct.

Andrew P. Mooney

Well, I would say that the -- I guess I'll answer that in kind of 2 -- maybe 2 or 3 ways, is that I think our wholesale business is in transition, in that we're seeing a rotation out of the small independent mom-and-pop operators in surf, skate and snow into other -- in some cases, other wholesale players. That could be, in the case of Europe, it could be large multi-outdoor players like Decathlon or it could be pure play e-commerce players like Surfdome in their own stable in Europe, or Amazon, even here in the U.S., or eBay. There's a lot of activity happening on web for pure-play retailers that clearly didn't exist before. So you've got a rotation out. Definitely, the small independent operators are much more challenged than they've ever been, today. And we're seeing, I'd say, some modest contraction in that channel, but it's rotating into other channels.

Operator

At this time, we'll take a question from Christian Buss with Crédit Suisse.

Christian Buss - Crédit Suisse AG, Research Division

I was wondering if you could provide some color on the timing of the remaining divestitures. By what point do you think you'll be able to be completely clean in terms of your brand mix?

Richard J. Shields

So for the -- we announced categorizing Mervin, which we've already divested, as well as Surfdome and Hawk, as discontinued operations. We're in discussions in both of those areas. And I would think that it's difficult to anticipate when exactly those would come, but I would think in the first part of calendar 2014.

Christian Buss - Crédit Suisse AG, Research Division

And that's helpful. And then in terms of your debt schedules, are you comfortable with the composition of debt now? Or is there any additional maneuvering that might be likely?

Richard J. Shields

I think we've largely done the heavy lifting there with a 5-year asset-backed facility for the Americas and the APAC subsidiaries, a new 3-year facility that we've put in place for Europe, the refinancing that we did in Q2. So the next time that we've got any significant debt maturity is the Boardriders notes, which are due in late 2017. So I think we're in good shape.

Operator

At this time, we have no further questions in queue. I'll turn it back over to our management team for any additional or closing remarks.

Robert Jaffe

That concludes today's call. On behalf of everyone here at Quiksilver, thank you for participating and we look forward to providing our first quarter fiscal '14 results in March. Thank you.

Operator

Once again, this does conclude today's conference call. Thank you all for your participation. You may now disconnect.

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