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Executives

John McCarvel – CEO and President

Russ Hammer – CFO, SVP of Finance and Treasurer

Analysts

Reed Anderson – D.A. Davidson

Jeff Klinefelter – Piper Jaffray

Jim Duffy – Stifel Nicolaus

Kevin Ken – Robert W. Baird

Jim Chartier – Monness, Crespi & Hardt

Steven Martin – Slater Capital Management

Crocs, Inc. (CROX) Q2 2010 Earnings Call Transcript August 5, 2010 5:00 PM ET

Operator

Thank you for standing by, everyone. Welcome to the Crocs, Incorporated fiscal 2010 second quarter earnings conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time. I would like to remind everyone that this conference is being recorded.

Earlier this afternoon, Crocs announced its second quarter 2010 financial results. A copy of the press release can be found on the company's website at www.crocs.com. Reconciliations of the non-GAAP measures mentioned on the call today can be found on the Investor Relations section of the Crocs website.

The company would like to remind everyone that some of the information provided in this call will be forward-looking and accordingly are subject to the Safe Harbor provisions of federal security laws. The statement concern plans, beliefs, forecasts, guidance, projections, expectations, and estimates for future operations.

Crocs cautions you that these statements are subject to a number of risks and uncertainties described in the Risk Factors section of the company's 2009 Annual Report on Form 10-K, filed on February 25th, 2010 with the Securities and Exchange Commission.

Accordingly, actual results could differ materially from those described on this call. Those listening to the call are advised to refer to Crocs' Annual Report on Form 10-K, as well as other documents filed with the SEC for additional discussion of these risk factors. Crocs intends that all of its forward-looking statements in this call will be protected by the Safe Harbor provisions of the Securities and Exchange Act of 1934. Crocs is not obligated to update its forward-looking statements to reflect the impact of future events.

Now at this time, I would like to turn the call over to Mr. John McCarvel, Chief Executive Officer of Crocs. Please go ahead, sir.

John McCarvel

Thank you, operator. Good afternoon and thank you for joining our second quarter earnings call. On the call with me today is Russ Hammer, our Chief Financial Officer.

We are very pleased to announce better-than-expected operating results for the second quarter of 2010. We are clearly seeing the financial benefits of executing our strategic plan, which we have shared with you during the past few earnings calls. We are striving to develop a global brand with a balanced business model.

Let me summarize some of the highlights of the quarter. First, our revenue growth was broad bases, all markets and all sales channels reflecting the renewed strength of the brand globally.

Second, the performance of our customer direct channel reflects solid growth in both – both through expansion and same store comp sales. As an example, same store comp sales for Q2 in the U.S. market was 8%. Third, our operating margins in all regions reflect the efforts of our very talented global operations team to evolve our business model while continuing to develop our unique in-season auto replenishment system.

And fourth, our SG&A cost aligned to our business model. We increased our marketing spend in the quarter by $7 million to $15.5 million to drive brand awareness, new product introductions and channel sales with our key wholesale customers globally. We are striving to develop a balanced business globally and are working to minimize the seasonality of our product portfolio.

Revenue increased by 31% to $228 million over an adjusted revenue of $174 million recorded in the second quarter of 2009, which excludes $23.7 million in previously impaired product sales reported last year at this time. Our international sales accounted for 61% of total revenue and we continue to believe this is a key strategic strength for Crocs. We are encouraged with the development of the BRIC and Middle East markets.

We are very pleased with the resurgence of our wholesale business channel. We have invested significant management time and efforts to methodically rebuild our wholesale business, especially in the U.S. market. Sales of Crocs products with our major retails partners and department stores, family channels, sporting goods, and with our independents are all up consistently through Q2 and into early Q3. We hear customers are returning to retailers actively looking for the brand.

Over the past two years, we have seen significant diversification of our product portfolio and collection, all building on our core design fundamentals of comfort, casual fun and colorful. Today, we have over 250 models of shoes across a diverse range of sales channels. While our core products are still up 21% of our overall sales, we continue to bring relevant and exciting new products to market.

New products introduced in spring-summer of 2010 accounted for 31% of our first half sales. As with most of our brands, we are currently pre-lining our spring-summer ’11 products with key customers and are excited about the response and indication we are receiving. We continue to invest and develop our direct channel business, which has performed exceptionally well. Russ will expand on our financial performance of our direct channel later in the presentation.

We believe the direct channel is key to connecting with new consumers and exhibiting the expanded Crocs product line. We opened 30 new stores, Shop n Shops and outlet stores in Q2 mainly in the U.S. and Asia.

We will continue to selectively expand in the Americas and Asia and we are focused on building a stronger retail presence in Europe. We are evaluating various new locations throughout the European region and expect additional locations to be opened in early 2011.

In our Internet services group, we have now deployed our Demandware Internet services platform in the Americas and Europe in 10 different languages. We intend to launch five new websites in Asia starting in Q3. This will include local currencies, new languages, and gives us the ability to customize the solution for local markets.

Gross margin for the second quarter was 57.8%. The improved gross margin performance reflects the effects of restructuring of the Crocs business in 2009 and the continued improvements in our supply chain globally. We also realized a slightly more favorable channel mix than expected. We do anticipate gross margins in future quarters to be affected by product cost, inflation from the factories and in our logistic services. We are not immune from the cost pressures of the industry, but believe our unique supply chain strategies will afford us the opportunities to mitigate some of the anticipated increases.

Our gross margin in the back half of the year will also be impacted by fall-winter products that have slightly lower gross margins. We continue to be pleased with the results our new campaigns for 2010, our “Feel the Love” campaign, which builds on the comfort and casual aspects of the Crocs brand. We have an integrated activation program that incorporates digital print media, television, advertising, bill boards in high traffic areas and bus route programs, which we have successfully used in Asia for some time.

Based on the success of the first half 2010 marketing program, we plan to invest in incremental $8 million to $10 million in marketing in the second half of 2010. We believe we have innovative new marketing programs with our key retail and distribution partners as well as improved visual merchandising solutions.

With that, I would like to turn it over to Russ.

Russ Hammer

Thanks, John. Thanks to everyone joining us on the call today and listening via webcast. I will begin with a review of our income statement starting at the top with revenue. Total revenues for the second quarter increased 31% to $228 million over adjusted revenue of $174 million we reported in the second quarter of last year, which excludes $23.7 million in previously impaired sales that we stated would be non-recurring. On a GAAP basis, revenue increased 15% year-over-year.

By channel, wholesale sales rose 12% to $140 million. Retail sales were up 20% to $66.4 million and Internet sales increased 24% to $21.6 million. Same store sale comps for the second quarter, as John mentioned earlier increased to 8% in the Americas. We ended the second quarter of 2010 with 363 company operated retail locations compared to 310 this time a year ago. This is an increase of 30 stores from 333 stores at the end of Q1. Compared to Q2 ’09, we have decreased the number of kiosks by 30 and have increased our full price and factory direct stores by 56.

Now by geographic region. Sales in the Americas rose 23% to $104.8 million from $85.85 million. Asia sale increased 11% to $88.6 million compared to $80 million and sales in Europe increased 7% to $34.6 million versus $32.2 million a year ago. For Q2 2010, 61% of our sales came from outside the United States. This reflects the strong global reach of the Crocs brand, which consumers purchase in 129 countries. We are very proud that approximately 70% of our second half wholesale business is pre-booked.

Backlog as of June 30th, was up 41% from last year to $118.5 million. We continue to have great success with our Crocband collection as well as women flat, kids footwear. In fact three of our top styles are part of our back-to-school collection.

Our average selling price for the second quarter 2010 increased 12%, or $1.96 to $17.76 from $15.80 one year ago. Our product mix continue to diversify over the same period last year with 24% of Q2 sales coming from our new spring-summer 2010 products including the popular Crocband collection. Classic and Core represented 12%, and 21% of Q2 2010 sales, respectively. As our mix shifts towards a higher percentage of new products with higher price points, we expect our ASPs will continue to increase in future periods.

Now, for gross profit. Gross profit increased 30% to $131.9 million compared to $101.1 million with the gross margin up 670 basis points to 57.8% from 51.1% a year ago. The significant improvement in gross profit is the result of our effective cost reduction actions, namely the consolidation of our global warehouse footprint, a more efficient supply chain, including a greater degree of direct shipments to our customers as well as the increased sales contribution from our consumer direct division, which carries a higher gross margin in our wholesale channel.

SG&A decreased $32.3 million or 26% to $93.3 million compared to SG&A of $125.6 million a year ago. As a percentage of sales, SG&A decreased to 40.9% from 63.5% in the year ago quarter. As a reminder, all of our retail expenses including occupancy cost and store labor are in our SG&A, which now make up about one-third of our operating budget. Retail related cost included in SG&A were $31 million, up from $25 million a year ago, but remain fairly constant as a percent of revenue.

Our improved top line performance coupled with the benefits from our enhanced operating platform help reverse negative operating results from a year ago in a very meaningful way. We achieved operating income of $38.9 million compared to an operating loss of $24.5 million in Q2 ’09. Our operating margin for the second quarter of 2010 was 16.9%.

For the second quarter, our effective tax rate was 17% versus guidance of 30%. The lower tax rate resulted in a $0.06 per diluted share favorable impact versus guidance. These tax savings were the result of the company restructuring its international operations, cost sharing arrangements and release of valuation allowances related to net operating losses in various international entities.

Second quarter net income improved to $32.2 million or $0.37 per diluted share compared to a net loss of $30.3 million or a loss of $0.36 per diluted share and of course (inaudible) period last year.

Now, let’s turn to the balance sheet. We ended Q2 2010 with $96.9 million in cash, an increase of 25% over cash of $77.5 million at June 30th, 2009. At the end of Q2 2010, the company had no bank debt and we were in compliance with all of our covenants.

Inventories at June 30th, 2010 were $113.6 million, a slight increase of 2% over inventories of $111.6 million at June 30th, 2009. We ended Q2 with accounts receivable of $94 million compared to $67 million a year ago.

Now, to our guidance. For Q3 2010, we expect revenue to be approximately $205 million, a 24% increase over third quarter 2009 adjusted revenue of $165 million, which excludes $11.5 million in impaired product sales that we have stated would be non-reoccurring. On a GAAP basis, we expect third quarter 2010 revenue to grow approximately 16% year-over-year.

We expect diluted earnings per share in the range of $0.22 to $0.24 for Q3 2010. This represents a significant improvement over the diluted earnings per share of $0.09 we reported in Q3 09, which excludes a one-time tax benefit of $0.16 we reported in the year-ago period. We expect our tax rate for the remainder of the year – for the third quarter to be approximately 22%.

For the full year 2010, we are projecting capital expenditures to be approximately $34 million.

I will now turn the call back to John for some closing comments.

John McCarvel

Thanks, Russ. We are pleased with the solid growth of our top line revenue coupled with the effects of our gross margin improvement. We will continue to manage and develop the brand carefully for sustained long term growth. In conclusion, as the evidence mounts, the Crocs turnover is irrefutably underway. We hope those who prematurely published our obituary a year ago will now take some time to give us our due for the positive achievements of our company, brand, and product over the last 12 months.

With that, operator, I’d like to turn it back to you. We’d be happy to take questions now.

Question-and-Answer Session

Operator

Thank you, sir. (Operator instructions) We’ll now take our first question from Reed Anderson with D.A. Davidson.

Reed Anderson – D.A. Davidson

Good afternoon and congratulations on another nice quarter.

John McCarvel

Thanks, Reed.

Russ Hammer

Thanks, Reed.

Reed Anderson – D.A. Davidson

A couple of question. First of all I want to just focus on the gross margin because it was extraordinarily high versus where I think I was expecting and probably a lot of people. And I just want to get a sense, John, your comment that the second half will be lower. I mean is it relative to what you saw in 2Q, or is it more to what I describe as kind of more of a low 50s sort of level that seemed where this business was going to be tracking. So, can you give us a little more color how we think about that in the second half?

John McCarvel

Sure. You know, we are very pleased with our second quarter margin. The improvement in margins exceeded our own even internal expectation. But, I think what we'd like to kind of assure you is, really based on three factors. One, we have worked really hard at a supply chain solution for our direct shipment programs and we have the benefit of having factories closer to market with Italy and with Mexico to the European and in U.S. Americas market and of course in Asia we have the factories there in Southern China. So that has really accelerated our ability to drive gross margin.

Secondly, cost reduction, supply chain efficiencies that we’ve been working on for the last 12, 18 months continue to roll through the balance sheet and then into our P&L. And last is really our direct-to-consumer mix was solid this quarter-end, especially for a lot of our newer products that we launched, which we’ve talked about in prior calls, which were at a higher ASP that’s driving better margin.

I think when you think of the Q3 and second half margins, we expect our margins to be in the low-to-mid 50s, no different than what we have said through the whole process. I think it’s important to point out factors that are going to influence our margins again in the back half of the year. So, second quarter is always our highest quarter, it has been traditionally our highest quarter. So, we are going to see a little bit lower volume, which is going to impact the gross margin. Our fall-winter products have slightly lower margins compared with our spring-summer line, which we have shared with you in the past.

And then the last piece of it is that with all of us in the industry today, we are going through the same dynamic with our Asian supply partners and we are going to see some level of cost increases, which will impact Q3, Q4 margins to some level.

Reed Anderson – D.A. Davidson

Okay, that’s very helpful. And then – and the last piece, John, on the cost increases, presumably that also bleeds in the first half of next year as well or is it really more you just think in the next couple of quarters?

John McCarvel

No, I think it’s a sustained cost increase in the factories.

Reed Anderson – D.A. Davidson

Okay, that’s what I figured. Okay, good, that’s, again, that’s very helpful. Then on the – Russ, the comment you made on same-store sales up8%, I mean from what I recall you must have, where you were tracking kind of April-May, you must have seen some nice acceleration in June. Could you talk about that and if there were – whether there were some marketing or promotion that have kicked in to help that – just kind of give us some color on that as well.

Russ Hammer

Sure, Reed. So, in – as you said, the second quarter was 8% but June actually came in at 13.4%, very strong. And as we saw the advertising impact and then the products that we are a little short on, on our own consumer direct channels in Q1 so that we could make sure the wholesale channels got them first, we then set them in.

And another data point for you are the like comps right now in the Americas are at 20%.

Reed Anderson – D.A. Davidson

Wow!

Russ Hammer

We are really seeing acceleration in our direct channels. Really I mean year-to-date in June we were up 9.3%, but July comps are very strong. They are very, very – again, exceeding our own expectations.

Reed Anderson – D.A. Davidson

That’s terrific. And then last one from me for now, and I’ll let somebody else jump in, you talked about the incremental marketing spend, obviously seeing your comps, you are getting the benefit there. Where will that be directed? Will this kind of more broadly where you are already putting the marketing dollars or you are going to do some other things with that incremental spend?

John McCarvel

Yes, two-fold. One, we are going to continue to work with our key wholesale customers as we have in programs with them for the third quarter. And then one other thing we are doing, you will see starting tomorrow, is that we have a back-to-school video that we’ll start to air on multiple channels here in the U.S. market first to support our new back-to-school line of shoes that we are launching this year and as Russ said pre-books on those and what we are shipping on a wholesale basis they are three of our top ten kids models today. And you will see the ad running with a tag line also with the Nordstrom sport kids products.

Reed Anderson – D.A. Davidson

Excellent, good, thank you very much. Good luck. I will let somebody else on.

John McCarvel

Thanks, Reed.

Russ Hammer

Thanks, Reed.

Operator

And Jeff Klinefelter with Piper Jaffray has the next question.

Jeff Klinefelter – Piper Jaffray

Great, thank you, congratulations, everyone in the Crocs team. It’s a terrific quarter.

John McCarvel

Thanks, Jeff.

Russ Hammer

Thanks, Jeff.

Jeff Klinefelter – Piper Jaffray

So, on the wholesale business I mean I think digging a little deeper, John, into the success of the turnaround here, wholesale and even U.S. as an example, I mean can we drill down a little bit and look at where the biggest strength is coming from when we think about volume per door or comp door gains versus number of doors versus number of new styles per door. Just to get a sense for the direction that the wholesale channel is taking the brand. Is there any way to break it down to that level to kind of understand the building process as we go into 2011? And then, Russ, did you comment – actually I don’t know if I missed this, but did you comment on any spring booking numbers at this point?

John McCarvel

Well, I think Jeff in my – I just briefly said – last question first – that we don’t have pre-book numbers in yet, we are just starting pre-books for August 15th in our cycle, so we’ll start to see it here in the next two weeks. I think as we’ve talked in the past, door count is something that we moved away from because of the volume per door and it really wasn’t a good indication, but I can talk to it at a higher level and just talk about may be channels a little bit to see if I can answer your question, give you some color.

If we look at department stores today, we have gone through this year a whole overhaul [ph] of our relationships how engaged, the fact that we are going to do this, this marketing campaign for back-to-school and specifically tag it with in this case Nordstrom, we are doing that with others in the department store channel. And we are starting to see, as I said in the call, the resurgence of consumers coming back to the wholesale space looking for Crocs products. I think that coupled with the number of new models that we have for next year for spring-summer we are seeing significant interest, additional style counts that they will be taking kind of additional door that they are opening, but no firm commitment, no clear understanding exactly what that expansion will look like, and that analogy goes through the other channels with sporting goods as well as the family channel, which we’ve talked about on the call before. We’ve done a significant amount of work in that channel for the last year. We believe it’s where our consumers shop and we feel comfortable, confident that we are going to see door growth and SKU count go up in each of those channels. And I think the independence as we talk about are key to building the brand in the early days, and they are key to Crocs to continue to sell our products with the right portfolio of products that we have today throughout that U.S. market. So, I hope that gives you a flavor for magnitude and volume.

Jeff Klinefelter – Piper Jaffray

Yes. Now, that’s very helpful. In terms of a couple of like housekeeping modeling questions for SG&A, you are spending $8 million to $10 million of additional marketing for the year. Given the other initiatives you have in place offset by some of the efficiencies you are realizing, what – where should that – generally speaking, you think the SG&A dollars for the year, Russ, how should we think about that in terms of dollar year-over-year growth at this point? And then also just for Q4 I know you are not getting Q4 specific guidance, but given the seasonality of the business, how should we be thinking about that as an early setup here, going into that quarter?

John McCarvel

Jeff, maybe I will do those. I think when we look at marketing spend for the year, we internally believe that we need to continue to invest in rebuilding the brand in both the U.S. marketplace as well as in Europe. We think our marketing spend this year will be up about $8 million to $10 million from what we had discussed in prior meeting and in discussions. It will be closer to $47 million, $48 million in marketing spend. With the expansion of the number of retail doors globally now to be about 400 stores by the end of 2010, we think our overall SG&A spend will be somewhere between $345 million and $350 million. That’s our best estimate at this time.

Jeff Klinefelter – Piper Jaffray

Okay. And then, John, also about Q4, how should we think about I terms of it being more of a heavy direct and retail quarter versus wholesale?

John McCarvel

We look at the back half of the year being 45% wholesale, 55% direct business, and as we’ve said before, it’s our toughest quarter, Q4, from a product standpoint. We are working hard to overcome that. Right now our goal is to be breakeven or marginally profitable for Q4 and then accelerating into 2011 with our new line of spring-summer products.

Jeff Klinefelter – Piper Jaffray

And just one more thing in Q4, John, I know last year ended up being more challenging, you had to participate in the promotional cycle, you with your own stores and your own Internet kind of keeping in step with what your wholesale, retailer customers were doing. In terms of what the sensitivity with regard to the fourth quarter, what could result in both upside and downside? Has it really come down to what level of comps you are generating in your own business? Has it come down to whether or not one of your item hits really hits for wholesale and there is more reorder than you thought? And how much variability do you see in that season?

John McCarvel

Probably for us the easiest – the easiest season for us to predict is more the fourth quarter where we have a pretty good feeling for the product sales. (inaudible) eight products or as we had in the past, a hero product that drove revenue and significant volumes. Today, we are much more distributed from a product standpoint. We have a larger portfolio of boots and winter footwear this year. So I think we are more evenly distributed from a product standpoint.

Globally, I think having the global balance continues to be a strength. We saw a lot of product in the more warm climates in the U.S. but as we bring on Brazil and we bring on Southern markets a little bit more aggressively this year than we have in the previous years, I think we hope that that’s going to balance our Q4.

But in the U.S. marketplace, it’s really hard. I read lots of differing information what we are going to see from a retail season for this upcoming Christmas holiday season, what the economy is going to look like with the election coming up in November. I think we are sensitive to what will happen and how discounts will affect comp sales as well as our own sell-through.

Jeff Klinefelter – Piper Jaffray

Okay, great, thanks a lot. Congratulations. I will let someone else jump on.

John McCarvel

Thanks, Jeff.

Operator

And moving on to Jim Duffy with Stifel Nicolaus.

Jim Duffy – Stifel Nicolaus

Thank you and great quarter, everyone. I wanted to make sure, like Jeff, I am understanding the business flow in the back half of the year. You mentioned the 41% increase in the backlogs. Russ, could you repeat what you said about pre-booked business? You gave some statistic—

Russ Hammer

We said that 70% of our second half wholesale business is pre-booked.

Jim Duffy – Stifel Nicolaus

Okay. So that’s the wholesale component of it. Now, how is that different from what you saw coming into the spring season or may be what you had seen second half of last year?

Russ Hammer

Well, spring-summer books and ships heavier in the second quarter because that’s our largest from a quarter – from a seasonality standpoint. But – we are very pleased with the strength of our pre-books right now in our backlog.

John McCarvel

I think, Jim, Russ also had made the point in his portion of the presentation that if you look at where we were at the end of Q2 ’09, we are up 41% year-over-year. We feel we are in a much healthier position going into the back half of the year than we were a year ago to the tune of about almost $40 million.

Jim Duffy – Stifel Nicolaus

That’s great, and the pre-booked element has progressed that direction, is that about where you want to see it or do you still see more room to navigate the business towards pre-book?

John McCarvel

No, I think we are happy with that bounce if we are in the 65% to 70% range that’s great for us. And then I think when we get products that are a hit a become hero products then it plays to our advantage of being able to build product in market in a more auto-replenishment model, but you’d always like to have more pre-booked dollars than what you have and we are happy with where we are obviously versus a year ago.

Russ Hammer

Now, Jim, keep in mind, the pre-books are as we said are the wholesale business. And as John mentioned earlier, our marketing campaign is aimed at the kid back-to-school business here especially the ones we are having with Nordstrom, which is not included in that pre-book, so we are very pleased with the pre-books and cautiously optimistic on the consumer direct side.

Jim Duffy – Stifel Nicolaus

Great. And then specific to the 3Q guidance, you mentioned strong comps thus far through July. What is the comp that’s assumed in the 3Q guidance?

Russ Hammer

Our Q3 guidance were to assume comps for the quarter to be up about 15%.

Jim Duffy – Stifel Nicolaus

Okay. And then, John, could I ask you to may be comment on the reception to the toning shoe that you’ve seen in the market and how Crocs is positioning that uniquely relative to the rest of the category?

John McCarvel

You know for us we’ve looked at the toning category for a while and we contemplated products in this space going back even three, four years ago. I think today what you see is, we see a lot of sports shoe type products and a lot of flip-flop that have been the really early products into this space. And we think, I mean we are showing now the new line of toning products that – at the retailer this week we’ve done them. We have showed them in our previous meetings with our key customers and we will introduce those into the direct channel in limited volumes in Q4, but we are taking a much different slant on what toning means and how it can fit into your life style, not that you have to go out of your way to put on a kind of a clumsier, larger type of shoe, exercise shoe in some cases or exercise types flip-flop. We think we have a design innovation that fits with Crocs innovation and comfort. So you will start to see products from us in this space later part of this year in the direct channel and then with our wholesale partners into early part of ’11.

Jim Duffy – Stifel Nicolaus

Yes, just saw them today at a retailer and I say they look great. The other interesting thing is that price point seems very approachable relative to the category. So, good luck.

John McCarvel

Thanks. We hope our consumers feel the same way on the price point, Jim.

Russ Hammer

Thanks, Jim.

Operator

And next is Mitch Kummetz with Robert W. Baird.

Kevin Ken – Robert W. Baird

Hi, guys, this is actually Kevin Ken calling in for Mitch. Hey, Russ, I think on the Q1 call you broke down the gross rates with wholesale and retail within each of the geographical regions. Would you mind doing that again this quarter?

Russ Hammer

Sure, I would be happy to, Kevin. If you look at the Americas wholesale market, it grew second quarter 2010 over second quarter 2009 17%. And Asia wholesale grew 16%, and Europe was about flat. And we saw very strong growth in the retail markets in all channels. And in the Internet was up as well in the Americas and the Europe is down slightly and Asia.

Kevin Ken – Robert W. Baird

Okay. And then, I think you are – I think you guys mentioned that within the U.S. wholesale channel family, sporting goods, department store and independents were up during the quarter. Can you confirm that and then specifically within that family channel I think you guys have made comments in the past about how a famous footwear is at about 120 doors and looking to expand. Can you guys talk about what your plans are with them for the remainder of this year?

John McCarvel

Sure, so, Kevin, I think as Russ said, we said growth was 17% in the U.S. marketplace. Our wholesale growth year-over-year was about 12% and it accounts for 61% of our overall revenue. So, wholesale is very important, Jim, for us, especially in the U.S. and we did talk in the past specific to some accounts with a famous footwear, Shoe Show, Shoe Carnival, DSW, Dillertson [ph], a number of those with growth. We don’t have a clear door count number today in how many specific stores we are in. And plus what will happen is that even when we are in certain doors it depends upon the range of products that they will even carry. Sometimes people go in and look and say, well, you are not in a famous footwear or you have limited quantity. They make their own calls on the amount of product that they put in certain stores in certain geographies. So, what we found was it caused a little bit of confusion to try to get too specific on door count.

Russ Hammer

What we get back to say was is that in each of those categories we see retailers in that space excited about our product and we expect them to add doors and add styles that they will carry going into spring-summer ’11.

Kevin Ken – Robert W. Baird

Okay. And then, Russ, in terms of the product cost increases that we are going to expect going forward, can you help us quantify – can you quantify what that look like in the second half of this year and possibly what you are seeing with the first half of next year?

Russ Hammer

So, if you are specifically referring to the China industry cost, we see the same impact of that 5% to 10% that most of the other – industry sees. And we do expect that in the second half and we do expect that ongoing next year as well.

Kevin Ken – Robert W. Baird

Okay. All right. And that’s it from me. Thanks, guys.

John McCarvel

Thanks, Jeff [ph].

Operator

(Operator instructions) Moving on to Jim Chartier with Monness, Crespi & Hardt.

Jim Chartier – Monness, Crespi & Hardt

Good afternoon. A couple of quick questions first on the SG&A. On the last call I believe you guided to flat to about $390 million in the prior year. So, you are adding $8 million to $10 million this year. So, I am wondering what else you are spending on to get to that $345 million to $350 million number?

John McCarvel

The main portion, Jim, of the increased SG&A is in retail expansion. So you will see greater retail growth – in Q3 and Q4 you will see greater SG&A spend in the retail space. That’s the majority of the cost in SG&A.

Jim Chartier – Monness, Crespi & Hardt

But what – didn’t you – I thought you had told us to expect 400 doors on the last conference call as well.

John McCarvel

Great. So what happened – yes, that’s true and what’s happening a little bit within that mix is that we are shifting a number of Shop and Shops and some of our short term stores are going away at a more rapid rate than previously discussed. And we are adding in incremental full price retail stores in mid mall as well as a few incremental outlet stores, mainly again in the U.S.

Jim Chartier – Monness, Crespi & Hardt

Okay. And then are the margins better on the full price stores in the Shop and Shops?

John McCarvel

It depends a little bit on the product, but generally speaking, yes, where we have a wider portfolio of products, but there are locations where our outlet stores that do primarily sell all full price products do quite well.

Jim Chartier – Monness, Crespi & Hardt

Okay. And then the tax rate that you guided to, is that a normalized rate that we should expect going forward or are there still some deferred tax benefits in there?

Russ Hammer

Right now you should model going forward around a 25% tax rate. So we have seen the benefit of our tax strategy that has brought us down from our traditional 30% and so for 2010 you should model that 25% going forward.

Jim Chartier – Monness, Crespi & Hardt

And then 2011 we should model 25% as well?

Russ Hammer

Correct.

Jim Chartier – Monness, Crespi & Hardt

Okay. And then it sounds like you are still kind of scratching the surface on the Internet business, so I am wondering where you think that can get as a percentage of total sales.

John McCarvel

So, I think we are really happy. In the last quarter we talked a little bit about the Internet sales growth. This quarter year-over-year our Internet growth is about 24% year-over-year. So, when we talked about it, Jim, some of the things that impacted Q1 putting new products for spring-summer ’10 into our direct channel a little bit later in the quarter than may be what we should have and what our competitors did. I think we see the benefit of having a full quarter with new products in our retail stores, thus driving – earning out 24%. And also – and we think it’s a big contributor why comp sales were up both especially on the Americas side that Russ broke out for you in June as well as for July.

Jim Chartier – Monness, Crespi & Hardt

Okay, and then –

Russ Hammer

Jim, as you are thinking about that, the mix between wholesale, consumer direct is about 60%-40% is – we expect them to continue growing at about that rate as we go forward–

Jim Chartier – Monness, Crespi & Hardt

And then looking at the Asian retail business, on a per door basis it looks like it was down, so I was curious what was going on in Asia and on the 10-Q you mentioned some unfavorable weather.

John McCarvel

So, having just moved back from Asia in late June I can tell you that it was – especially in the Northern portion of Asia, in Japan and Korea and China, really cold, rainy weather all the way through the early part of June. So, our China stores and our Japan stores were down year-over-year, quarter-over-quarter, they did comp down. But in stores more to the southern portion of the northern hemisphere, Hong Kong, Singapore, some of the southern stores then our comps were up or were equal to last year. So, yes we do think that the impact of weather hit. Japan is still a difficult retail climate. So, we are happy with flat to nominally up comps in that market.

Jim Chartier – Monness, Crespi & Hardt

And then have you seen an improvement in the comps front in July with better weather?

John McCarvel

We have.

Jim Chartier – Monness, Crespi & Hardt

Are the other stores not comping positively in Asia?

John McCarvel

They are.

Jim Chartier – Monness, Crespi & Hardt

Okay, great. Thanks a lot.

John McCarvel

Thanks.

Russ Hammer

Thanks, Jim.

Operator

Next is Steven Martin with Slater Capital Management.

Steven Martin – Slater Capital Management

Hi, guys. I just was wondering you’ve been under inventoried for a while. Where do you think your inventory is as to adequacy, because I have been in a number of sports authorities, for instance, where you guys manage the inventory and they seem to be particularly light versus other retailers?

John McCarvel

Sports authority, Steven, has a different dynamic. We only started with them in late Q2 only in a smaller portion of their doors with the (inaudible) program and so there is a learning curve that we are going through as they are going through in replenishment. But we are in a different dynamic with them this year. And the sell-throughs in all of our channels have been stronger than what we had expected and what we had pipelined. So, yes, demand has driven some temporary shortages in products now.

Steven Martin – Slater Capital Management

So, if you looked at your quarter-end inventory and the last quarter-end inventory what would that number have been in an ideal situation and should we expect going forward that maybe that’s going to build a little as you open more doors and are in a better position for replenishment.

John McCarvel

No. I think from our standpoint, we believe inventory is positioned well. It’s okay to have some shortages where consumer demand outstrips some of our hot-selling products. We expect inventory to be flat quarter-over-quarter. And we work really hard to grab that auto replenishment model during the Q2 and in Q3 time for the year, so, yes there will be times when any company has product shortages especially on hot-selling products.

Steven Martin – Slater Capital Management

Can you update us on the new Croslite material?

John McCarvel

New Croslite material starts to go into new products in the last half of this year. Performance wise it’s very similar to our existing material so from a consumer standpoint you will see really no change to product performance.

Steven Martin – Slater Capital Management

And from a manufacturing standpoint or cost standpoint?

John McCarvel

It will help us better yield in the factory. It will be at a higher production rate for us. So there are some cost benefits that we can derive from a new material – from a production standpoint.

Steven Martin – Slater Capital Management

All right. Last but not least, where do you stand in the restructuring process on the issues of space, facilities, people, systems, et cetera on shedding excess?

John McCarvel

Well, you know I think worked at this for the last 18 months, I think we have made such radical and significant changes to the business that it’s a phenomenal management team that we have at Crocs to be able to do that in such short period of time. I think from a footprint standpoint we talked about this in the Q. We did take the opportunity to write-off the lease cost – excess lease cost that we have here in Denver as well as in Rotterdam on warehouse space. We think our footprints are well positioned going forward – we are doing one transition this quarter from our own distribution center into a 3PL [ph], so basically all of the restructuring around manufacturing, distribution, logistics and then even with our own offices globally is all completed. And we continue to invest at a rapid rate in new systems to support a three-channel sales strategy that we have. And again, we are moving at a fairly rapid rate. Once we start to see stability in the systems, then as you know after a year, 18 months since we’ll start to derive additional efficiencies out from a headcount and from an efficiency standpoint.

Steven Martin – Slater Capital Management

Thanks a lot and congratulations.

John McCarvel

Thank you.

Russ Hammer

Thank you.

Operator

(Operator instructions) We have no further questions at this time. I’d like to turn the conference back over to our speakers for any closing remarks.

John McCarvel

I would just like to say thanks to all for joining us today and we hope that we’ve answered your questions. We look forward to a great Q3 and Q4 ahead of us. Thanks again.

Operator

This does conclude our conference call today. We’d like to thank you for your participation.

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Source: Crocs, Inc. Q2 2010 Earnings Call Transcript
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