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K-Swiss (KSWS) may be poised for a turnaround, if they continue to experience strong international results and solve their U.S. based sales.

3rd Quarter Results

For the third quarter of 2006, total worldwide revenues declined 2.6% to $133,135,000, compared with $136,668,000 in the prior-year period. Domestic revenues decreased 21.0% to $81,697,000 in the third quarter, and international revenues increased 54.9% to $51,438,000.

Total worldwide revenues for the first nine months of 2006 decreased 2.2% to $407,315,000, compared with $416,285,000 in the first nine months of 2005. Domestic revenues decreased 15.8% to $266,195,000 in the first nine months of 2006, while international revenues increased 40.9% to $141,120,000.

Net earnings for the third quarter of 2006 were $20,950,000, or $0.59 per diluted share, compared with $21,062,000, or $0.59 per diluted share, in the prior-year period. Net earnings and net earnings per diluted share for the nine months ended September 30, 2006, increased 3.9% and 5.1%, respectively, to $66,194,000, or $1.87 per diluted share, compared with $63,691,000, or $1.78 per diluted share, at September 30, 2005.

The company has a Return on Capital of 113% and an Earnings Yield of 12.3%.

Key Drivers

The table below breaks out performance for the three month and nine months ending September 30, 2006, by geographic segment and by major brand.

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Hans chart 1
Hans chart 2

Sales are down in the United States by 21% for the 3rd quarter, and by 15.8% for the nine months. In Europe sales seems to be accelerating with revenue up by 69.6% for the 3rd quarter and 55.5% for the nine months. This holds true for other international sales as well. Looking at the two main brands, K-Swiss and Royal Elastics, the same pattern holds, with the United States down for the quarter and the nine months, and international (including Europe) up strongly. Should this pattern continue the company will begin to experience positive revenues and earnings in two or three several quarters, as the international sales becomes a larger part of the business.

Of interest, K-Swiss orders and revenue are declining in the United States and growing internationally. Worldwide futures orders with start ship dates from October through March decreased 10.9% to $171,923,000 at September 30, 2006, compared with $193,038,000 at September 30, 2005. Domestic futures orders decreased 32.0% to $92,914,000 at September 30, 2006, from $136,644,000 at September 30, 2005. International futures orders increased 40.1% to $79,009,000 at September 30, 2006, from $56,394,000 the previous year.

Management hired experienced brand and design managers in the United States to help correct the sales problem. It will take a year so to begin to see results of this effort. If the international sales can continue their momentum, and the company can correct the problems with the US sales, K-Swiss is likely to experience a turnaround over the next year. This will present investors with a nice opportunity to acquire shares at a discounted price by buying on any near term pullbacks.

Management

Insiders control 0.5% of the company’s class A shares and all the company’s Class B shares. Each share of Class B Common Stock is freely convertible into one share of Class A Common Stock at the option of the Class B stockholder. Holders of Class A Common Stock are entitled to one vote per share and holders of Class B Common Stock are entitled to ten votes per share for all matters submitted to a vote of the stockholders of the Company, other than the election of directors. Holders of Class A Common Stock are initially entitled to elect two directors and holders of Class B Common Stock are entitled to elect all directors other than directors that the holders of Class A Common Stock are entitled to elect. This effectively gives insiders significant control of the company and a strong incentive to see the company does well.

Other Considerations

In October 2004 the Board authorized the company to repurchase 5 million shares expiring December 2009.

Conclusion

K-Swiss is an interesting turnaround opportunity. If they are able to sustain their international sales and profit growth and reinvigorate their sales in the United States, they will experience substantial sales and earnings growth. With a high Return on Capital and Earnings Yield, the company is fundamentally strong.

The primary risks are the turnaround of sales in the United States and the continuing momentum of sales internationally.

KSWS 1-yr chart

KSWS

Disclosure: Author has no position in KSWS.

Source: Will K-Swiss Experience a Turnaround?