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Joe’s Jeans Inc. (NASDAQ:JOEZ)

F2Q 2014 Earnings Conference Call

July 10, 2014 16:30 ET

Executives

Lori Nembirkow - General Counsel

Marc Crossman - President and Chief Executive Officer

Hamish Sandhu - Chief Financial Officer

Analysts

Richard Magnuson - B. Riley & Company

James Fronda - Sidoti & Company

Steven Chang - Rudgear Capital

Operator

Welcome to the Joe’s Jeans Fiscal 2014 Second Quarter Earnings Call. My name is Leslie, and I will be your conference coordinator for today. At this time, all participants are in a listen-only mode. However, we will be facilitating a question-and-answer session towards the end of today’s conference. As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today’s conference, Lori Nembirkow, General Counsel for the company. Please proceed.

Lori Nembirkow

Thanks, operator, and thanks to everyone for joining the call. Present on our call today to discuss our results are Marc Crossman, our President and CEO; and Hamish Sandhu, our CFO.

Before we start, let me review the company’s Safe Harbor language. Today’s call may contain forward-looking statements, which are statements of the company’s or management’s intentions, hopes, beliefs, expectations or predictions of the future. These statements are subject to risks and uncertainties that could cause our actual results to be materially different. You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date they are made.

I also refer you to our reports that are filed with the SEC, which includes our quarterly report on Form 10-Q filed today. This report includes information that could also cause our actual results to be materially different from those contained in any projections, which may be made during this conference call. By making any forward-looking statements, the company undertakes no obligation to update them for revisions or changes after today.

Marc Crossman

Thanks, Lori and thanks to everyone for joining us today. I will speak about the second quarter results and then I will turn the call over to Hamish for a discussion of our other financial results. Finally, we will end with a Q&A session.

We are pleased to announce in the second quarter net sales increased by 56% to $48.2 million. This included $18.7 million to our top line as a result of the purchase of Hudson. Our operating income increased 57% to $3.3 million. This compares to operating income of $2.1 million in the year ago period.

Before I address the sales channels, I want to say a few words on the cost savings we expect to realize as a result of our acquisition of Hudson. As we have said in the past, the greatest source of cost savings will come from centralized purchasing. We have been hard at work putting a structure in place to realize those benefits. To be clear, the results you see today are not reflective of that work. We expect to start seeing the benefit of that work in the third quarter and continue to ramp up during the fourth quarter. By year end, we expect to be running at an annualized cost savings rate in excess of $10 million per year. In addition, we expect our core results, excluding cost savings to pick up in the back half of this year.

I will discuss the sales growth of our wholesale and retail segments in more detail now. During the quarter, our wholesale business grew 66% to $40.4 million. More specifically, Else branded wholesale sales declined by 103%, representing a $1.3 million contraction, Joe’s declined by 3% and Hudson branded wholesale sales contributed $17.9 million. Our women’s wholesale business grew 80% to $28 million. Joe’s women’s business slightly declined by approximately $400,000 and Hudson added an additional $13 million of sales.

Premium denim in general continues to be a challenging category of retail, which impacts both of our brands. Due to weather constraints, our spring Joe’s products sold slowly and resulted in less demand in the back half of the season by our replenishment styles and fewer reorders than normal on fashion. We are also seeing the girl turning to alternative fabrication and are introducing several non-denim programs for fall for our Joe’s like off-duty, which are leggings made of innovative textiles and simple seam design. We have recognized this as one of the fastest growing segments in the market and have offered an array of very fashionable designs that have strong bookings by our retailers already. We are expanding on this category for the fourth quarter with a variety of items and fabrications that can easily be integrated in everyday wardrobe.

Our men’s wholesale sales grew 44% to $9.6 million. Joe’s men’s wholesale sales declined single-digits during the quarter and Hudson contributed $3.4 million. Joe’s men’s specialty store business was flat to the prior year despite a challenging second quarter business due to weather. We met our forecasted department store sales figures, which resulted in a single-digit decline that was directly in line with the way denim was being planned by this sector.

Joe’s business was driven by a strong replenishment program and benefited from a new non-denim twill program launched in both the specialty and department store channels during the quarter. The program was so successful that we are setting up a full replenishment program in 5 to 7 colors for fall and have key department and specialty stores rolling out this program. We have identified the non-denim category as a key driver for the back half of the season and expect to see growth from both five-pocket silhouettes as well as the drop pant. Our Hudson business continues to grow as we expand our presence in key doors.

Our international business increased from $630,000 to $2.5 million. Of that, Hudson accounted for $1.5 million. Joe’s international business continues to benefit from new franchise stores that just opened in the Philippines and Thailand as well as new distribution partners in the Middle East, China and Europe. Hudson’s international business continues to be impacted by its transition to a new distribution agreement with Fashion Preview. Sales of our Else line declined 103% from $1.3 million a year ago. As we stated last quarter, we continue to reevaluate this brand and continue to test the brand internationally to see if it has a place in the international market.

Our overall retail sales grew 19% for the quarter. This growth was a result of contribution from Hudson’s e-shop and operating three more stores this year than a year ago. This quarter we also reversed the trend from previous quarters and have an increase of 1% in same-store sales. We made up for mid single-digit traffic declines and a drop in our AUR with an increase in conversion, an increase in unit sold per transaction and a strong e-shop business.

Our gross margin contracted by 1 percentage point to 69% during the quarter. This is primarily due to having more days on sale at the outlets this year versus a year ago. Gross margin in our full price business remained flat and gross margins in our e-shop increased. We continue to see improvement in our retail business. The trends in the third quarter are improving vis-à-vis what we saw in the second quarter. Third quarter-to-date, our same-store sales comps are running in the mid single-digits with the comparable number of days on sales.

I will now turn the call over to Hamish for a more detailed discussion of the financials.

Hamish Sandhu

Thanks, Marc. As Marc just discussed for the quarter, on a consolidated basis, net sales increased 56% to $48.2 million from $30.9 million over the prior year period. Both retail and wholesale sales increased by growing 19% and 66% respectively. Same-store sales growth for the Joe’s stores opened at least 12 months and e-shop increased 1%, same-store for our brick-and-mortar Joe’s stores decreased by 1%, and same-store sales for our Joe’s e-shop increased by 22%.

Retail sales represented 16% of overall net sales for the quarter. We think this percentage is indicative of our overall business for the year as we layer on a full year of operating results for Hudson. Wholesale sales increased 66% during the quarter driven by the addition of Hudson. Our overall gross profit increased by 67% to $22.6 million from $13.5 million in the year ago period. Overall gross margin increased to 47% from 44% in the prior year period and increased mostly due to the addition of $8,512,000 in gross profit from our Hudson brand, which carries a higher average wholesale price than our Joe’s brand and contributed to increase in gross margin percentage.

Our wholesale gross profit was up 92% to $17.2 million from $9 million in the prior year period. Wholesale gross margin was up 6 percentage points coming in at 43% compared to 37% in the prior year. Again, wholesale gross margin percentages benefited from the addition of our Hudson brand.

Retail gross profit was up 18% to $5.4 million from $4.6 million in the prior year period. Retail gross margin was 69% compared to 70% in the year ago period. Retail gross margins continued to be impacted by heavier promotions by our competitors, which resulted in more promotions at our outlets than the year ago period. We also benefited from the addition of $837,000 in net sales and $610,000 in gross profit from Hudson’s e-shop.

Consolidated operating expenses were higher in the second quarter of fiscal 2014 compared to 2013 at $19.3 million compared to $11.4 million. Operating expenses were higher in our wholesale segment due to the addition of Hudson. Operating expenses for Joe’s without Hudson were mostly flat for the comparative periods. Operating expense in our retail segment increased due to the addition of three more stores in our store base and Hudson’s e-shop.

Operating expenses for corporate were higher at $8.4 million compared to $3.7 million in the prior year period. Corporate expenses increased primarily due to the addition of expenses from Hudson’s corporate operations of $4.2 million that we do not have in the prior year period. We generated operating income of $3.3 million compared to $2.1 million in the prior year period.

This quarter, we do not have any non-recurring transaction fees or non-cash charges associated with Hudson’s inventory. However, we continue to have a non-cash fair market value adjustment related to the embedded conversion feature of the convertible notes issued for the acquisition of Hudson. This fair market value adjustment during the quarter resulted in a gain of $4.8 million. The accounting requirement to fair market value, the embedded conversion feature ended on May 8, 2014 when our stockholders approved our ability to issue shares for the convertible notes.

We had net income of $2.3 million for the second quarter of fiscal 2014 compared to $1.2 million for the second quarter of fiscal 2013. We generated fully diluted earnings per share of $0.01 for the quarter. Borrowing availability under our revolving credit facility was approximately $18 million as of the end of our May quarter.

Operator, we are now ready to take questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions) And we have a question from Jeff Van Sinderen of B. Riley & Company. Please go ahead.

Richard Magnuson - B. Riley & Company

Hi, this is Richard Magnuson in for Jeff Van Sinderen.

Marc Crossman

Hey, Richard.

Richard Magnuson - B. Riley & Company

Hi. My question is can you give us the apples-to-apples breakdown of Joe’s wholesale in dollars versus last year and then for Hudson, can you breakup the same metrics?

Marc Crossman

Their overall wholesale dollars?

Richard Magnuson - B. Riley & Company

Yes.

Marc Crossman

I would – no, we don’t give guidance in particular, but they were both down – we intended collectively in the mid single-digits.

Richard Magnuson - B. Riley & Company

Okay. And then can you breakout anything about how big the men’s business is and Hudson in terms of concentration at this point?

Marc Crossman

In terms of concentration of the Hudson business, when you look at the size, it’s the men’s wholesale business is roughly 20%, I would say, the overall, which is similar to what Joe’s is running.

Richard Magnuson - B. Riley & Company

Okay. Can you give anymore detail about each gender segment for both brands, what you are seeing on – where you see the business going up and where it’s down, what you see driving each segment going forward for Q3?

Marc Crossman

Sure. Just to give you some background, I would say overall the industry we saw some clogs in the first quarter that we had discussed as we are coming out of the holiday selling season. So, everything kind of got pushed to the right because of that inventory clog. And what we found is that going into the third quarter and this is what makes us optimistic is that as all the inventories were coming back in line we saw that our sales were outperforming our stock at retail. And then at some point, you become under inventory. And due to all the clean up that we have done of the floors over the course of the first quarter and then here to some degree in the second quarter, it’s opening up dollars to move into the third quarter. I’d say that kind of holds true on both the men’s and women’s side.

In particular, on the women’s side, the reason why we get so excited is that you do have this shift. We have talked in the past how the Lululemon’s of the world have taken away the weekend day jean if you will. The girl no longer throws on a pair of bleach down worn-out denim. She now puts on a pair of Lululemon pants. And what we are finding is that, that Lululemon pants, the girl is wanting something a little bit more dressy for lack of a better word and it’s this new category called athleisure and we have a whole group, where we are doing sweats in French terry, doing an off-duty program that is similar to Lululemon’s pant, but with more of a design feel to it and special prints. So, we are really I think trading into that segment of the market, which is moving really quickly that is where all the growth is. If you are going into the fall for both sides of the ledger of both brands, that’s an area where we are really active in and that’s what give us a lot of excitement going into the back half of this year, because we see a trade going on if you will than we have seen this in other cycles where as soon as you find that spot, it’s going to take off. Everybody is putting market into place, they are realigning their inventories and you are seeing the faster turn. So, that’s what gets us excited about the back half of the year. That’s on the women’s side.

On the men’s side, a lot of colors and again our twill program is doing really well. The one overriding theme that we are seeing here, I know Jeff has talked about this or asked me about this in the past is there is kind of a shift to new product category in that sense that is driving that consumer to get that extra garment in their closet and we are going to be a part of that.

Richard Magnuson - B. Riley & Company

Okay. And then in retail, could you talk anymore about your brick-and-mortar comps and like what merchandise affected the margins this year versus last year and what areas went up versus went down?

Marc Crossman

Yes. So, on the brick-and-mortar, it was similar to the overall. If you want to break the two out separately from each other, because we haven’t done that in the past, I would say that the traffic performance at full price was better than the traffic performance at outlet just to characterize it for you. That’s why we are a little bit more promotional in the outlet side of the business. In terms of the AUR going down in both businesses, both full price and outlet is we are seeing a shift to more of the lifestyle brand, if you want to call that the knits and wovens that we are putting into the stores are the collection items. And those collection items typically carry a lower – not a lower gross margin, a lower AUR than our core denim. That’s kind of driving that shift.

Now, you are also seeing that there is a push and a pull, our UPTs are going up, which is a function of converting better and driving more garments into their shopping bag. So, I say, it’s a push and pull. We are just excited that we came out of it with positive comps this quarter. And then I can tell you we are mid single-digits going into quarter-to-date so far in this third quarter. So, things seem to be getting better, stabilized. The traffic at full price certainly looks better. And even at the outlet business, the degradation has slowed. And so we are seeing that the traffic slow down a bit, I guess, is the best way to put it. So, we are very encouraged.

Richard Magnuson - B. Riley & Company

But the traffic what you said was better at the full price than it was at the outlets, can you actually breakout the outlet store comps versus the full price store comps?

Marc Crossman

We don’t. We combine them together.

Richard Magnuson - B. Riley & Company

Okay, alright. And then I have one last question, we know that you are focused on the sourcing efficiencies on leverage and can you update us on the shift to manufacture in Mexico? Has your timeframe for that to come onboard change it all or is it still in plan?

Marc Crossman

No, our timeframe has not changed. I think what I was trying to highlight is the magnitude, I mean, we are seeing the benefits of sourcing both here and down south. So, we are actually getting dollars off our contracting here in the U.S. by consolidating the buying power if you will. So, you are going from your company, traditionally we had 2.5 million to 3 million units that we were – that you are buying every year. And now, we are layering on another 1.5 million units on top of that so to have a 30% plus increase in the number of units that you are giving contractors, we are getting volume discounting. And that’s what we are starting to see is we are finding areas where we could take units and consolidate them, whether it’s by region or by actual manufacturer, it’s a process. You have to develop into those factories and it takes anytime I decide to do something it takes nine months for it to sell through into the product if that hits our warehouse. So, what I wanted to highlight is we closed the deal October 1 and here we are kind of around that month eight measure, if you want call that, month eight, month nine and we are going to start to see that filter into the numbers. I just want to be very clear we have got a lot of questions about that, that we are now at that point where all the work we have done and put in place to get that volume efficiency, we are going to start to see ramp up as that product sold into the channel in the third quarter, fourth quarter and certainly for 2015 and it’s a big number. And you will see the margins expand significantly.

Richard Magnuson - B. Riley & Company

Okay. Well, thank you very much.

Marc Crossman

It’s a pleasure.

Operator

And our next question comes from James Fronda of Sidoti & Company. Please go ahead.

James Fronda - Sidoti & Company

Hi, guys. How are you?

Marc Crossman

Good.

James Fronda - Sidoti & Company

Most of my questions have been answered, but I guess just on promotional activity, are you seeing that weighing at all going into the third quarter?

Marc Crossman

Yes, we – when we ran our July 4 sale, we were one day further on – had one more day incremental of sale. So, we had started the sale on Wednesday whereas last year because July 4 fell on Thursday, I believe we started on Thursday. So, we had one more day of sale, but our promotion a year ago we are running at 40 off and this year we ran at 30 off, it’s just a generalization of where our sale was running. And we saw is that we comped up, so more days on sale by one and a lighter promotion and we still saw our sales comp up.

James Fronda - Sidoti & Company

Okay. And I guess from these just on the general overhead, do you think that $18 million for the quarter that’s a good run rate going forward even with new store openings or that might tick up a bit?

Marc Crossman

I think that’s a good indication of a run rate that you can use going forward. Hopefully, with seasonality in terms of volume on the top line, there is some variable components in overhead. So, you will some increase of that as well playing through to the…

James Fronda - Sidoti & Company

Okay, alright. Thanks guys.

Marc Crossman

Thank you.

Operator

And our next question comes from Steven Chang of Rudgear Capital. Please go ahead.

Marc Crossman

Hey, Steven.

Steven Chang - Rudgear Capital

Hey, guys. Nice quarter. Couple of housekeeping questions. You had mentioned that there was no inventory step up for the inventory you acquired from Hudson this quarter, but did you sell any inventory that you had marked up, so there is still some gross margin impact or was that all done and did it all go through already in Q1?

Marc Crossman

That all went through, Steven, in Q1.

Steven Chang - Rudgear Capital

Okay. And then did I hear you correctly, there is no more – going forward, there shouldn’t any fair market adjustment going forward?

Marc Crossman

That is correct. Basically, what happened is that we had a stockholder meeting on May 8 and we received approval to issue the shares supporting the convertible debt that’s on our books. So, that being the case that convertible derivative was then reclassed from a long-term debt into equity and is now referred to as convertible feature in equity.

Steven Chang - Rudgear Capital

Okay. And then when you guys talk about the $10 million in cost savings, is that just from moving production to Mexico or is that both moving some production to Mexico and bigger buying power?

Marc Crossman

It’s a combination of both. We are not going to breakdown the individual components.

Steven Chang - Rudgear Capital

Sorry.

Marc Crossman

I would just leave it as we can shift manufacturing to different areas of the world and then also go to existing contractors and get better pricing. And suffice it to say that, that’s all going to take place. And in 2015, we will have a full year of this is how our manufacturing makeup is going to be in terms of where we are manufacturing and where we are actually consolidating the units.

Steven Chang - Rudgear Capital

And finally, it seems like the last – parts of last year and the early part of this year that the promotional environment was sort of due to, there isn’t a lot of new – there is no new fashion trend and that kind of results in more promotion. Now, that you have seen this athleisure stuff work, should that lessen the promotional environment or does it – is it separate, because the promotional environment is more among the outlets than at full price?

Marc Crossman

I think it will lessen it. When you have – now the outlets have – it won’t filter down to the outlets for a little while, but I think that as you think about the promotional environment, you are exactly right, when we have to either take goods back or mark them down, a lot of the times, most of times it’s fashion not your core. And now I think we are entering into a space where we are going to have some real solid trends, where we can get on the calls. And instead of saying our core basics are what’s driving the business, we will have fashion items driving the business. And that to me is where we get excited, where there is a lot of newness in the space. A perfect example, we had a jean called the Flawless, where you can literally spill wine on it and its rolls off like a duck, got picked up by GMA, got picked up by Good Morning America, I am sorry, Spotless, got picked up by – in the press and we sold out of our entire inventory. Now, we only had a few thousand pieces and we could have sold a lot more than that, but it’s a perfect example of how, there is this pent up demand to go buy a new product and I think that we are now entering that cycle where there is going to be a whole category to offer.

Steven Chang - Rudgear Capital

Great. Thanks a lot guys.

Operator

And we have no further questions at this time. I will now turn the call over to Mr. Crossman for any closing remarks.

Marc Crossman

Yes, I appreciate everybody joining us on the call. And if you have additional follow-up questions, please feel free to call Hamish or myself. Thank you.

Operator

Thank you. Ladies and gentlemen, this concludes today’s conference. Thank you for participating. You may now disconnect.

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Source: Joe's Jeans' (JOEZ) CEO Marc Crossman on F2Q 2014 Results - Earnings Call Transcript

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