Crocs (CROX) Q2 2014 Results - Earnings Call Transcript

Jul.22.14 | About: Crocs, Inc. (CROX)

Crocs, Inc. (NASDAQ:CROX)

Q2 2014 Earnings Conference Call

July 22, 2014 9:00 AM ET

Executives

William Kent – Senior Director-Investor Relations

Andrew Rees – President

Jeff Lasher – Chief Financial Officer

Analysts

Scott Krasik – Buckingham Research Group

Jim Duffy – Stifel Nicolaus & Company

Erinn Murphy – Piper Jaffray & Co.

Taposh Bari – Goldman Sachs

Corinna Freedman – Wedbush Securities Inc.

Sam Poser – Sterne Agee

Steven L. Marotta – C.L. King & Associates

Mitch Kummetz – Robert W. Baird & Co

Operator

Welcome to the Q2 2014 Crocs Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. I would like to remind everyone that this conference is being recorded. It is my pleasure to turn the conference over to William Kent, Senior Director of Investor Relations. Mr. Kent, please go ahead.

William Kent

Thank you. And thank you all for joining us today for our second quarter 2014 earnings conference call. Yesterday evening, we announced our second quarter 2014 financial results. A copy of the press release can be found on our website at crocs.com. We would like to remind everyone that some information provided in this call will be forward-looking, and accordingly, are subject to Safe Harbor provisions of the Federal Securities Law.

These statements include, but are not limited to, statements regarding future revenue and earnings, backlog and future orders, prospects and product pipeline. We caution you that these statements are subject to a number of risks and uncertainties described in the Risk Factors section of the company’s 2013 report on Form 10-K filed on February 25, 2014, with the Securities and Exchange Commission.

Accordingly, all 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 discussions of these risk factors. Crocs is not obligated to update these forward-looking statements to reflect the impact of future events. The company may refer to certain non-GAAP metrics on this call. Explanation of these metrics can be found on the earnings release filed late yesterday and on our investor website once again at crocs.com.

Joining us on the call today are Andrew Rees, President and Jeff Lasher, Senior Vice President and Chief Financial Officer.

I’ll now turn the call over to Andrew Rees.

Andrew Rees

Thank you, William. Good morning, and thank you for joining us today for our second quarter 2014 earnings call. This is my first opportunity to speak with investors on an earnings call as President of Crocs, and I look forward to an ongoing open dialogue with you all about our company’s performance.

I will start with some brief business and financial highlights from the quarter, and then I would like to tell you about our plans to improve the business operations of the company.

Revenue during the quarter increased by $13 million, or 3.6% to $377 million compared to 2013. Income from operations for the quarter on a non-GAAP basis excluding certain non-recurring and special items was $58.7 million, compared to our like result of $58.1 million in 2013.

These revenue results were slightly ahead of our forecast we shared with you in May, and the Crocs brand continues to achieve modest top line growth globally. We realize we are not delivering the appropriate level of profitability to our shareholders. We know that in order to unleash the potential of the brand and play to win going forward, we need purposeful change in our strategy, organization and ultimately, our approach to the market.

Over the last several months, we have been engaged in a comprehensive strategic review of the business around the globe. Through this process we identified seven key long-term structural improvements; we expect to allow the company to achieve its potential. they are as follows: one, driving cohesive brand positioning from region-to-region and year-to-year to avoid consumer confusion and to create more powerful consumer connectivity to the brand; two, developing powerful products stories supported by effective marketing; three, enhancing engagement with key wholesale accounts in select markets to drive profitable sales growth; four, gaining greatest strategic and economic leverage from our direct-to-consumer assets including owned retail stores and e-commerce; five, prioritizing investment in large scale geographies to focus our resources on our biggest opportunities; six, increasing working marketing spend by approximately 50% through investing savings realized from reducing marketing overhead; seven, streamlining the cost structure by reducing decentralization, duplication and complexity across regional offices and the corporate center.

As well as addressing the long-term strategy, we’ve identified four key actions to obtain short-term wins: first, in the product arena, we tend to focus on our core molded footwear heritage, as well as develop innovative key casual footwear platforms. To accomplish this, we are restructuring the product development function to emphasize product innovation and margins in multi footwear and key casual footwear lines. We also intend to streamline the product portfolio to give us the right products to drive growth and eliminate SKU proliferation, eliminate non-core product development and will explore strategic alternatives for non-core brands.

Second, from a geographic perspective, we intend to refine our business model globally. Moving away from direct investments in retail and wholesale businesses in smaller markets and transferring significant commercial responsibilities to distributors and third party agents. These realignments are already underway in Brazil, Taiwan and other markets around the globe.

In addition, we intend to focus on our key markets globally. These are China, Korea, Japan, North America and Europe; these five markets represent 85% of our annual volume. We are working to improve our business in Japan through broadening our base of wholesale accounts. Specifically entering the family footwear channel I’m working with our key partners there to develop strong product marketing messages in the market.

Third, from an organizational perspective we have reorganized key business functions to improve efficiency. Yesterday afternoon, we made an announcement that will eliminate 183 positions globally, reducing structural complexity, size and cost. Of these reductions 70 current and planned positions are in Colorado the remaining are in global functions.

We made these personnel decisions to prioritize profitable growth drive greater efficiency and manage overall costs in the future. We believe that this will be part of the first steps to unlock the power of the brand and unleash the entrepreneurial talent in the global organization.

Four, we expect to close or convert 75 to 100 company on retail locations around the world as part of this initiative. We have already closed or converted 18 stores during the quarter. We are refocusing our global company owned e-commerce efforts to keep 11 of our current 21 sites that drive a vast majority of our profitable online sales. While discontinuing or consolidating the rest, this is part of an overall effort to focus our investments and energies where we can drive profitable growth.

We have completed analysis that identifies the primary drivers are slow performance across regions. In the near term we’ve identified four opportunities to turn around the operational performance of our retail stores in stock and inventory management promotional activity and marketing, organizational execution and the evolution of concepts and space allocation. There are somethings that are working well that we are not changing. These include focusing on delivering products that meet our consumers’ needs and continuing to bring the profound comfort of Crocs shoes to the world’s feet.

We’re also continuing to build on our “Find Your Fun” brand positioning, which is authentic and aligned with our consumers’ needs and valleys. It differentiates us in the marketplace and we’ll continue to bring this alive in our culture too. We also announce that we will open a Global Commercial Center in the Boston area in late 2014, housing key merchandising, marketing and retail functions. We chose the Boston location in order to attract senior footwear and retail talent of the organization.

The Global Commercial Center in Boston will join the Product Creation and Global Shared Services Center in Niwot, Colorado. The cornerstone of the support of our global business, Amsterdam will be our European commercial center, Singapore will be our Asia commercial center and Tokyo will be our Japan commercial center, each housing key international marketing, sales retail operations and local finance functions for their region.

Jeff will cover in detail the financial impact of our strategic initiatives. This clear strategic focus will simplify our workflow allowing us to develop and execute more powerful and cohesive global brand stories. By clearly defining our core products that will allow us to focus our growth initiatives around products, while we are competitively well positioned for success. We are evolving to become a merchant driven organization supported by central product development and marketing teams. We will deliver a more cohesive global store assortment activated by powerful marketing stories and increased working marketing spend.

I’ll now turn the call over to Jeff.

Jeff Lasher

Thank you, Andrew. Good morning, and again thank you for joining us today to review second quarter 2014 financial results. In summary, revenue in the quarter was above our guidance, which includes strong performance from our Europe segment and continued strength in Asia Pacific. Gross margin was down from prior year, but adjusted operating earnings were up slightly versus last year. I will go over the quarter in more detail to discuss the transition of earnings per share calculations and briefly discuss our projections for third quarter 2014 revenue.

Second quarter revenues increased $13 million to $377 million or 3.6% up compared with 2013. Despite continual unfavorable exchange rates with the United States dollar year-over-year revenues grew in both the European and Asia Pacific regions. Specifically, the Europe region grew 21% powered by 32% increase in wholesale over the last year. Retail sales grew 9% in the quarter and same-store sales were up 1% in Europe.

Asia Pacific revenue was up 9% for the quarter with retail up 9% and wholesale up 6.5%. Same-store sales in Asia were negative 6% as we had difficult comps in weak demand in China and Korea. Our business in Japan was down 6% on a constant currency basis, primarily caused by weak at once demand in wholesale in lower sell through in this sporting goods channel.

In Japan, we are refocusing the wholesale strategy towards the family-footwear channel which allows for greater diversity in our product line up and reduces the reliance on COGS in that market. To decline of a Japanese Yen, adversely impacted year-over-year second quarter revenues by about $2 million and operating income by approximately $0.5 million.

In addition, we continuously challenges in our Americas wholesale channel primarily caused by significant year-over-year erosion of our South America volume. In South America, we are taking action to change our business model. We have already transitioned or closed half of the retail stores, and we plan to transition the remaining stores in internet site to partners.

Same-store sales in the Americas regions were down 6%. For the quarter, we have reduced our promotions in stores. Overall, while our sales were down, margins improved in retail 90 basis points. We have been disappointed with our retail results in 2014 and the key priority for the rest of the year will be improving the retail sales performance.

We will transition to a more merchant driven retail approach, focused on key styles with strong demand. We although exit underperforming styles quickly and manage the retail stores for economic gain. In addition, we planned to close 25 to 30 stores in the Americas region. Outside of the Americas we planned and closing our converting 50 to 70 stores.

In some cases these exits will be time with contractual rights and it will be relatively affordable exits. In other cases, we may take additional charges to accomplish our goal and streamlining our retail store portfolio around the globe. We expect store closings will reduce revenue by approximately $35 million to $50 million and reduce SG&A expense by approximately $17 million to $25 million in significant impact on future operating income.

We think we can close over 30 stores in the back half. A rough estimate of store closing cost in Q3 is about $3 million to $6 million as each store should cost about $100,000 to $200,000 to exit. This amount is in addition to the retail – to the asset impairments already included in our results.

With regard to products, the second quarter revenue growth was driven by a global average selling price increase of 0.5%, primarily driven by new product introductions and strength in men's loafers and women's wedges. Unit volume increased 3.6% to just under 17 million pairs.

During the three months ended June 30, clog silhouettes represented approximately 44% of sales, this is flat to 2013. Adjusted gross margins were down 90 basis points from 55.2% to 54.3% compared with the same period in 2013. We saw our currency related decline in gross margins in Japan and increased shipping costs globally, both of which were offset by decrease in promotional and clearance activity.

Importantly, gross margins in the Americas regions improved 90 basis points, reflecting less promotional activity in direct-to-consumer sales. We are emphasizing profits over revenues, and we’ll discontinue some of the excessive promotional activities that took place in 213. While this in other product rationalization activities may hurt overall sales and retail comp sales, we remain laser focused on improving the profitability of the business as our top commercial priority.

Selling, general and administrative expenses excluding certain items increased $3 million or 2% to $146 million. Overall, this increase was more than explained by higher building and occupancy expenses related to additional retail stores, which totaled over $4 million. In addition, we increased our allowance for doubtful accounts by $3 million as we are seeing slow payments from some of our Asia wholesale accounts. This was offset by lower variable compensation and other efficiencies.

Excluding cash expense of $9.5 million primarily related to restructuring and ERP implementation, non-cash charges of $7.3 million primarily related to store closures, costs and accelerated depreciation, non-GAAP operating income was $58.7 million, compared to $58.1 million in 2013 on a comparable basis. Our investor website provides the complete reconciliation of all special items.

We experienced restructuring charges as a result of transition activities, additional operating expenses related to our ERP implementation, and accelerated depreciation of assets for retail stores that are part of our closure plans. We expect future corrective actions to result in additional restructuring charges as we start executing on a profitable revenue growth strategy. specifically, we expect the Q3 2014 restructuring charge of between $8 million and $10 million, related to the reduction in force in addition to the retail exit costs.

In the second quarter, we closed 18 stores around the globe and ended the quarter with 624 stores, up 50 from June 2013, but only up 5, compared to year-end 2013. We anticipate a reduction in our total fleet by year-end. For the quarter, we incurred income taxes of $18.7 million. This higher tax rate in the quarter is directly attributable to the charges that I’ve just highlighted. excluding such items, the effective tax rate was 32% on a non-GAAP basis in the second quarter.

As we transitioned the U.S. business, the overall tax rate increased on a percentage basis, as certain expenses do not carry the same timing for tax purposes and may not carry the same value. In addition, until our business improves profitably – profitability in the U.S., we cannot book the benefit from losses for tax purposes. We expect our tax rate on adjusted EBIT to be approximately 25% to 28% for the full-year.

Earnings per common share in the quarter were $0.19 on a GAAP basis and $0.36 on a GAAP fully diluted basis. On a year-over-year comparable basis, excluding the overall impact of the preferred share issuance in January, non-GAAP EPS is $0.46, compared to $0.48 per share last year.

It is important to understand the pieces that make up the GAAP EPS reconciliation, including the impact of Blackstone preferred stock investment. Please refer to the non-GAAP reconciliations included in our website for further details.

GAAP net income for the quarter was $23.3 million. Dividends and dividend equivalents of $3.8 million related to Series A preferred stock issued to Blackstone were deducted from this amount, leaving GAAP net income for common shareholders of $19.5 million.

An additional $2.6 million, or 13.5% was deducted from the $19.5 million as undistributed earnings related to the preferred stock. This is based on the 2-class method, leaving $16.9 million for common shareholders for EPS. Weighted average shares used in the EPS calculation was 87 million shares.

Finally, we repurchased just over 2.3 million shares during the quarter at an average price of $14.71 for an aggregate cost of approximately $34 million, excluding related commission charges under our previously announced $315 million repurchase plan. year-to-date we have repurchased approximately $15 million with the common stock. we will continue to be patient, methodical and opportunistic in the execution of this buyback plan.

We ended the quarter with $409 million of cash on the balance sheet; while our inventories and accounts receivable were significantly higher than 2013, timing of the collections and our global focus on reducing current assets is forecasted to reduce these amounts by year-end. Inventory in the Q2 was – it was impacted by our higher volume of pre-booked orders, as the in-transit inventory of fall seasonal orders was up $16 million from last year representing half of our year-over-year increase in inventory levels.

We remain in the testing and development phase of our ERP system implementation. We went live with SAP in Australia on April 1 without significant issues and on July 1, we went live in Japan again without issues. A successful global ERP system implementation is a key operational priority. We expect the SAP system to leverage our operating costs and provide efficiencies in 2015.

Entering into the third quarter, our backlog was up approximately $45 million to just over $206 million, while we are pleased by our increase globally in pre-books. we are driving a shift from at-once to pre-books in Europe and Japan, such that reliance on pre-books would result in overly optimistic growth expectations in wholesale.

we expect GAAP revenue of approximately $300 million to $305 million in the third quarter of 2014, driven by strong contributions from Europe, it is important to remember that we will be impacted by a number of variables that will affect revenue for the balance of 2014 and full year 2015.

These include one, store closures as mentioned earlier and a reduction to our phase of opening stores; two, lower at-once orders as our pre-book percentage of wholesale increases; and three, continual impact of transitions in our geographic locations around the globe including South America.

I will now hand this call back to Andrew for some closing comments before we take questions.

Andrew Rees

Thank you, Jeff. This is an exciting time, transition for Crocs. Our near-term focus is on controlling costs and reorganizing for better operating margins, which will prepare us for future profitable revenue growth from our core products in markets. we’re confident we have the right plan for driving performance improvements with critical implementation steps already underway.

Crocs is a powerful, global, lifestyle brand with strong potential. I’m excited to work with our team to realize our potential and create improved returns for our shareholders.

Operator, we do now like to open the line for questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions) Our first question on line comes from Mr. Scott Krasik from Buckingham Research. Please go ahead.

Scott Krasik – Buckingham Research Group

Hi, thanks. congratulations, Andrew. welcome.

Andrew Rees

Thank you, Scott.

Scott Krasik – Buckingham Research Group

I guess, I think we understand you’ve been sort of doing the due diligence or focusing on Crocs for almost a year now. Can you maybe talk about what you see in the opportunities or how they’ve changed in the six or nine months that you’ve been looking at the Crocs opportunity?

Andrew Rees

Thanks, Scott. Yeah, I think it has been closer to six months, but yes, I have had the opportunity to be engaged with the company for some period of time, I’ve been formally on board as the President for only about six weeks. But I think in terms of what’s changed, I probably focus on what’s positive and what our opportunities are. I think if you start off with the positives, there’s tremendous opportunity in upside here at Crocs. we are a powerful global brand. we have distribution across the globe, our brand name is extremely well known, we have portions of our product line that are extremely profitable. We have a strategically valuable direct-to-consumer distribution assets in terms of retail and e-commerce and we have good relationships with both distributors and wholesale partners.

What’s challenging is I think the company has spread themselves too thin in the past. they’ve spread to themselves too thin in terms of product, they’ve spread the marketing around the world, they’ve spread their assets in terms of distribution across the great number of countries, go to market in 90 countries across the world.

And so I think as you see in the comments we’ve made and the plan we’ve put in place, we’re aggregating for strength, we’re focusing on our core products, we’re focusing on our core markets and we’re going to drive the business in terms of growth through our wholesale partners and fundamentally, we’re cutting costs to enable us to spread more money to the bottom line. So I think you got those positives and negatives, and I think that’s where we’re focused.

Scott Krasik – Buckingham Research Group

Okay, and thanks. and then just one follow-up in terms of the 12% operating margin target, how do you view gross margin playing in that as you’ve pointed out, you do have some very high margin businesses, but there’s a lot moving around the mix?

Andrew Rees

There is a lot that moving around in gross margin, and I think that is going to continue to be moving around in gross margin. On the positive side, we believe we can strengthen our core multi-business, which is where we make very strong margins. On the negative side is like every other players that’s manufacturing in China will be a norm where we’re experiencing cost increases from our factories. And then our distribution mix also affects that. so we see probably not significant increase or decrease, but we think margins can stay where they are.

Scott Krasik – Buckingham Research Group

Okay. thanks and good luck.

Andrew Rees

Thanks, Scott.

Operator

Thank you. Our next question on line comes from Jim Duffy from Stifel. Please go ahead.

Jim Duffy – Stifel Nicolaus & Company

Thank you. Hello, everyone, good morning. It sounds like a thoughtful plan and I am pleased to see you’ve begun to take action in advance of the appointment of our CEO. few questions with respect to the restructuring, Jeff, can you perhaps, talk about the margin and working capital influence from SKU rationalization and then with respect to the 12% operating margin objective, what do you see as the timing for that and then I have a follow-up question thereafter?

Jeff Lasher

Thanks, Jim. good morning. We had a little bit hard time here and you sort of – when you come back on their follow-up question, you could just speak up just a little bit, might help us out, but we try to answer your question about working capital and the margin implications of our product rationalization. We believe that we think we can get our working capital down for year-end and going forward in the future with our inventory and our working capital needs of our retail stores, relaxing a bit. we think we can get some savings on that inventory line on that front as well.

As Andrew just mentioned on the margins, we anticipate some pluses and minuses in the margin category. as Andrew said, we have some favorable mix implications from focusing on our core products clogs, flips, flats, sandals, men’s loafers and women’s wedges going forward. At the same time, we have some cost pressure in general from our factories and other supply chain issues as everyone else does. So, we think overall our margin is not really the story that’s going to drive the operating margin improvements we think it will be in the leverage of our SG&A going forward, which will drive us to that 12% operating margin as a target for us.

As far as the dates in which we think we can get to that 12% operating margin, it’s not going to be in 2015, it will be out in future years, but as we progress toward that target, we’ll give you a little bit more sense of when that we think, when we think that can be achieved.

Jim Duffy – Stifel Nicolaus & Company

Okay, thanks. And then, follow-up on the SG&A opportunity, what’s the evidence that marketing works for casual footwear of this sort I guess from where I said, I’m questioning why spend another two points of sales 50% increase in the marketing budget. Thus far I haven’t really seen good evidence, that your marketing efforts have proven to demonstrate good returns?

Andrew Rees

Yes, good question Jim. So, to start with so we are not planning to spend two points of sales more on marketing. We are going to spend at a small amount incrementally on marketing, the vast majority of the increase in working spend will come from reducing the infrastructure. And the infrastructure is both people, agencies and a variety of expenditures within the marketing budget that essentially weren’t reaching the consumer and weren’t working. So, the vast majority of the increase comes from internal efficiencies.

And then, a good question is – what’s the evidence? We believe there is strong evidence that we look at our competitors set, we believe a number of those have had tremendous success with launching new product lines and enrolling the consumer in the brand story and some of the key features and benefits of that products. Our intent is to the marketing will be extremely product focused it will be around our products, our technologies and the benefits that we bring to the consumer and we plan to spend that money, as we talked about in an aggregated way in the key markets.

Jim Duffy – Stifel Nicolaus & Company

Thanks for that, and good luck.

Andrew Rees

Thank you.

Operator

Our next question online comes from Erinn Murphy from Piper Jaffray. Please go ahead.

Erinn Murphy – Piper Jaffray & Co.

Great, thanks. Good morning and congratulations on much improved execution in the quarter. And, Andrew welcome. So, I guess, first Andrew for you, I would just let a little bit more deep on the short closers, what went into your selection process for the – towards the year your markings have closed. And then, just any further detail on the bucket from a regional perspective of the stores you are going to initially be closing. And then, 12 months from now how should we think about that profitability of the remaining fleet?

Andrew Rees

Okay, great. So, three questions, I’ll take the first question around, how do we think about it, then I’ll let Jeff answer where the – where there is closures are occurring on a geographic basis. And then, we’ll tackle the profitability question, there is really two fundamental things, that when into selecting the stores was their performance. So, their sales margin and operating contribution, obviously we’ve opened a lot of stores recently. So some of that was tricky relative to new stores but we search that current performance and are likely future performance and where they go to make a contribution.

The second aspect was strategic, so where they had markets, where we believed we wanted the points of distribution, the brand presence, where they in places that we thought we had chances of improving our performance in the future as we float new products, new product stories and improved marketing. So, those where the two primary aspects, I’d say to be frank the profitability and the operating performance was the major driver. We recognize that the company rush to open the significant number of stores and when you open stores you don’t always make all the right real estate decisions and we need is to address some decisions totally.

As far as the regional opportunity Erinn about 25 to 30 of the stores are in the United States. Those are mostly full priced stores located out of the South East although there is a handful they are in the South East. But for the most part those are stores outside of the South East of the United States 25 to 30. The remaining 50 to 70 around – in the rest of world about half of those are in Asia as we refine our fleet and understand what works well. Frankly, those are the – ones that are easier to get out of – short-term leases, we have less investment, we have opportunities to exist those at certain points in time during the contract where they have contractual rights to exit with relatively little cost.

The other half are in Europe and in general we were thinking that $100,000 to $200,000 will be in average as far as what we expect to pay to get out of that store. As you know some of those will be low cost or little cost to us as an organization to exit. Some of those will cost more as we try to get out of a particular contractual obligation. The last part of your question Erinn was what was a profitably as the fleet looks like when finished I think the best way to say it – it will be solidly profitable. The hurdle rate that we’ve established to essentially operate a store is – as a healthy hurdle rate, let’s put it that way and we don’t want to be operating a store that’s marginal contributing.

Erinn Murphy – Piper Jaffray & Co.

Great that’s very helpful. And just to follow-up on a prior question on the SKU rationalization initiative 30% to 40% since fairly significant, I’m just curious, if there are specific product lines that you’re planning to discontinue completely or is it just more about broad brush pairing back across the portfolio. And then within that key rationalization how are you thinking about the clog versus non-clog mix?

Andrew Rees

Perfect. There are two pieces to the rationalization. So there is, there was a mechanism within the company which where they never fully discontinued all products and some of them kept coming back on a regional basis. So the rationalization addresses all SKUs that we think are end of life and we don’t wish to manufacture and distribute anymore. It addresses product lines such as our lead product line that we don’t wish to manufacture anymore.

As we look to the core of the brand we think the brand plays best in casual situations and it will be in an effort to push the brand to more dressy or formal situations with leather boots with some heel product et cetera. So it’s a combination of trimming within the existing product line and exiting product line, so while we don’t think we have a right to play.

Erinn Murphy – Piper Jaffray & Co.

That’s helpful. And just last question for you, and I’ll let someone else ask a question. On just a structural change you are making both in Europe and Asia on kind of pushing the wholesale model to be more pre-booked versus that one. So, that actually have an impact on the gross margin profile of your wholesale businesses in those regions. Thanks.

Andrew Rees

Not really, I think it’s generally a win-win for the customer I think what we’re transitioning win-win for the customer and for us. What we are transitioning away from as a historic business model which had been more orientated around us buying the inventory and then selling in season to a wholesale customers and over time we transition part of that buy to a pre-book and still less part of it as a – as in at once. I think we are just being much more consorted effort working with our key wholesale partners to have them place their orders upfront and sort of the inventory as they desire. So it doesn’t require additional discounts or a margin hit, it really just a different way of working. So that in or itself should not be affecting the margin.

Operator

Thank you. Our next question online comes from Taposh Bari from Goldman Sachs. Please go ahead.

Taposh Bari – Goldman Sachs

Hey, guys, good morning. Had a question on some of the targets you’ve provided in the press release this morning. So it looks like you want to get returned to a 12% EBIT margin, it looks like you’re coming off with the 7% base, off of a trailing 12-month period. So if I’m doing the math correctly, the store closures are going to get you about 30 basis points, expense reductions by the end of 2015 gets you another 80 basis points. But I’ll leave close to 400 basis points and accounted for. and in response to one of the earlier questions, it sounds like gross margins are going to be pretty constant. So can you help us understand, what’s some of the bigger sources of SG&A leverage will be, if I’m getting that math correctly, as you think out over the next couple of years?

Andrew Rees

Yes, not really sure that I follow your math completely, because what we said was we expect our retail stores to generate about $35 million to $50 million of revenue, we’re going to take out of the model of the business that we have today. Our operating margin dollars will not change, so our operating percentage will increase substantially with a $50 million reduction in revenue without any change to our operating income.

In addition, we think we can save about $10 million on an annual run rate associated with the opportunities that we listed out today and the actions that we’ve already taken, which is really important for one to know, we’ve already taken a lot of these initiatives to save the $10 million. So that will be an accretive one full point of, almost one full point of margin enhancement.

So between those two will be – we’ll get a good running start and the second piece is to leverage our SG&A with growth in our revenue over time, as we grow in our core categories of Crocs’, flips, flats, sandals, men’s loafers, women's wedges and other products that we are going to put all of our attention on and we’re going to stop being distracted by other niche products.

Taposh Bari – Goldman Sachs

Okay. I’ll take the details of the question for Jeff. The other question was in the press release, you talked about 2015 revenue is being impacted by store closures, and then suggesting that 2016 will be a year of a resumed revenue growth, it sounds like for the overall company. So are you implying that 2015 will be a year of absolute revenue declines for Crocs in aggregate and if that’s the case, I would have expected, it doesn’t sound like you need to get much wholesale growth to withstand the retail closures, so just trying to understand if there’s some unique going on to wholesale I would suggest that revenue decline in that business as well next year.

Jeff Lasher

Good question, Taposh. So as you call out, there is clearly a revenue headwind by closing store, this is the right time to do from a profitability perspective and the structure of the business, absolutely that it creates a revenue headwind and in terms of where we net out overall, frankly I think it’s too early to say. Obviously, we are going to be looking for wholesale growth, we haven’t started to show that product and book those orders to spring. So we’re a little ahead of ourselves there, but you’re right of relatively modest growth in the wholesale business would counteract that, it’s too early to say whether we will be able to achieve that yet.

Taposh Bari – Goldman Sachs

Okay. But there’s nothing unique going on as far as your niches go, that would suggest the strategic reduction in wholesale business next year, is there?

Jeff Lasher

No.

Taposh Bari – Goldman Sachs

Okay. One more if I can sneak it in, I know there’s a lot of focus on the long-term here, but if you can just provide some context into the spring season in the U.S. how that play out, I know that your Americas region is influenced by what’s going on in South America, but if you can provide some additional context into the U.S.? that will be helpful.

Andrew Rees

Yes. So there’s obviously two pieces to our U.S. business, there is obviously our wholesale business and our retail business. As you can see from our comps, our retail business was a little stronger earlier in the season and starting towards the back-end of the season and as we talk to our wholesale partners, I think we see in our trend across the board. that business is a little stronger around Easter, but has softened sense. And then our business at wholesale, I think was not as strong as we would have liked it to be and we have some key initiatives in place to strengthen it and build relationships from those key partners, but was acceptable.

Taposh Bari – Goldman Sachs

Okay, thank you very much. Good luck.

Andrew Rees

Thank you.

Operator

Our next question on line comes from Corinna Freedman from Wedbush Securities. Please go ahead.

Corinna Freedman – Wedbush Securities Inc.

Hi there, and good morning. I just wanted to reconcile the comments that you just made about queue rationalization and the wholesale business being relatively stable. is there with 30% less SKUs there, are you offsetting that with expectations and do you provide any pricing changes?

Andrew Rees

So, good question, and the answer is essentially yes to a certain extent. the SKUs that we’re rationalizing, we’re rationalizing, because they were low volume, I mean the aggregate volume of the SKUs that we’re taking out is 30% of the SKUs, but is a very small part of our aggregate sales. And the rationalization brings us tremendous focus, because we no longer have resources worrying about product development, design enhancements and marketing.

We can focus the less resources back on the core products, and on the other flip side of the equation, yes, absolutely, our intent is for our core stories to be bigger, and we’ll make our core stories bigger by partnering more closely with some of our key wholesale accounts and having derivatives or portions of the story that might be exclusive to them and also more colors and more marketing behind them, so that we get credits out there.

Corinna Freedman – Wedbush Securities Inc.

Okay, again, I have two follow-ups. what size ultimately do you think the retail store growth should be, or can we expect further closures beyond the 75 to 100 today?

Andrew Rees

I’ll let Jeff take that.

Jeff Lasher

At this point, the 75% to 100% is all we’re prepared to speak to, and we will be slowing our pace of new additions, but we still are going to be looking at opportunities around the globe, where our model and our economic unit power really pays off. So in markets around the globe, we still have some opportunities for some Greenfield locations. but for the most part, we’ll be slowing our pace of retail store growth, and being more methodical and analytical about our approach to retail. As far as the additional store closures beyond the 75% to 100%, we have targeted those at this point in time, things might change, but for the most part that’s we’re thinking about right now.

Corinna Freedman – Wedbush Securities Inc.

Okay. and lastly, just my last one, if you could just give us the long-term targets for where you see online rates the retail, rates the wholesale and then also domestic versus international, just looking towards that 2016 long-term plan? thank you.

Jeff Lasher

Yes, I think Corinna, I think in general, the growth of the organization is going to come from the wholesale category. I think we will still continue to see growth coming in the Asia-Pacific category segment I should say and growing that China marketplace and Korea marketplace. As Andrew mentioned in his prepared remarks we are going to focus our attention on geographic locations that make sense to us which is China, Korea, Japan, USA and Europe. We are going to focus our attention on the products that really make sense to us, which is clogs, flips, flat, sandals. We are going to focus our attention on direct-to-consumer economic value add were it really makes rational sense for us and we are going to organize our organization around a linear business model that drives SG&A leverage. So with those four things to rationalize the business then we are going to go forward and grow from our core base geographically product wise and segment wise.

Operator

Thank you. Our next question on line comes from Sam Poser from Sterne Agee. Please go ahead.

Sam Poser – Sterne Agee

Good morning, Andrew. Welcome to the party. A couple of things, number one in how many other geographies other than Brazil and Taiwan do you plan to transfer to third party and how much revenue associate, how will that revenue – how much revenue is associated with those changes?

Andrew Rees

Thank you, Sam. We are not prepared to disclose that at this time, we obviously there are two to three additional countries where we are looking to make a transition and I would say the revenue is not significant, but due to the ongoing discussions with those parties in those countries you can’t disclose at time. We disclosed Brazil and Taiwan because we made substantial progress on both those entities.

Sam Poser – Sterne Agee

And then Brazil and Taiwan I mean how much revenue you are going to give up and I mean how does that work I mean I would assume it’s going to help your operating margins because you are going to get rid of the expenses associated with that, that you are also going to give up some revenue there I’m just trying to…

Jeff Lasher

Yes, Sam that’s exactly right, so we take a story like Brazil where we had $25 million to $30 million business and we are transitioning the retail stores to partners – to partner locations, we are going to transfer some other business units to the partner locations utilizing agents and distributors in the local marketplace that have a better knowledge of the marketplace. Our revenue will decline, our operating income should be about the same when we model this out because we are going to have less expenses that we are going to be responsible for in Brazil over time, we’ve already taken those actions. So we’ve already as part of the restructuring charge in Q2, we’ve already restructured the Brazil marketplace. So we are getting closer to our optimal distribution mix in Brazil, we start some ways to go in other parts of the world, but basically the operating income stays about the same revenue drops and so that again drives us to that 12% operating margin over time.

Sam Poser – Sterne Agee

Okay, and then I mean I hate to beat the dead horse, but I mean in 2015 I mean how should we think I mean about set revenue growth next year and sort of SG&A dollars in a pure sense from a growth perspective. I mean how should we think about that?

Jeff Lasher

I think in 2015 like we mentioned there is going to be some puts and takes right, so first of all you have the $50 million of retail revenue up to $50 million I should say of retail revenue that may come out of the model over time. We are going to focus our attention on wholesale and e-commerce growth, but our revenue in general is going to be under pressure because of that modification of go-to-market on the retail front. On the operating margin basis we expect to see some improvement in 2015, whenever they willing to get some guidance around 2015 just some kind of high level views and then we have to remember that you were early in the stage as far as this and as we get closer to 2015 we will set some better targets for you.

Sam Poser – Sterne Agee

Okay. And then, lastly, I mean the stock is going up nicely today, you bought back 2.3 million shares in the quarter. I was wondering why didn’t you step up in buyback more given that higher in the price, the higher in the stock goes, the higher your share count remains. Can you just give some more detail on how your – what the thought process was during the quarter and sort of more detail on what opportunistic means and how are you going to approach. And regionally I thought you planned to get the share count to get this almost completed by September of this year, but it’s going much more slowly. So I mean how long do you think this is going to take the complete the repurchase and so on and so forth.

Jeff Lasher

Well, I think first a couple of facts, so we did buyback in the quarter stock price of $14.71, 2.3 million shares. So we made a lot of progress against our goal. We are patience, we are methodical and we are working together as a team to determine the best course of action on a regular basis. I think we are going through this process and we still have a target $350 million, we just going to do it very methodically over time.

Sam Poser – Sterne Agee

All right. Thank you, and good luck.

Jeff Lasher

Thank you very much, Sam.

Operator

Our next question on line comes from Steve Marotta from C.L. King & Associates. Please go ahead.

Steven L. Marotta – C.L. King & Associates

Good morning everybody. Thanks for taking my question, two quick questions. One, when you actually arrive at the 12% operating margin, what do you assume as from a product mix standpoint for Classic clog and non-clog roughly?

Jeff Lasher

That’s a hard question to answer Steve. I think we – the strategic decision that we’ve made is to shift the focus of the company back to both pieces of the business, right. I think if you look at what’s happened in the last couple of years has been an outsized focus on non-clog business. So we’ve made this strategic decision today to focus, but on the molded business and it’s really molded versus clog business as well as the casual silhouettes where we’ve been successful.

So I think what that will do over time will remain that we can grow in both arenas. I would imagine over a long period of time that the non-molded business will probably grow – still grow slightly faster than the molded business, but we are going to get growth back into the molded business. So I think you have a very gradual change in mix over a number of years.

Steven L. Marotta – C.L. King & Associates

That’s very helpful, thank you. And lastly, what is your assumed comp geographically for the third quarter as well as consolidated?

Jeff Lasher

At this time we are anticipating conservative same-store sales in our model, we’d rather not disclose a specific number, but we are acknowledging that the realities in the marketplace as we look around our same-store sales, our performance in Q2 and modeling those into our Q3 projections.

Steven L. Marotta – C.L. King & Associates

Terrific. Thank you.

Jeff Lasher

Thank you, Steve.

Operator

Our next question comes from Mitch Kummetz from Robert Baird. Please go ahead.

Mitch Kummetz – Robert W. Baird & Co

Yeah, thanks. I got a few questions I guess on the store count, so you are closing stores and you are slowing the pace of the stores, so is there a kind of a year-end store count that you are looking for?

Andrew Rees

We said in the script Mitch that we thought that year-end will close around 30, we’ll have nominal amount of store openings, so the net will be kind of in that 15 to 30 range down.

Mitch Kummetz – Robert W. Baird & Co

Okay. And then you also mentioned in the press release that you’re looking to explore strategic alternatives for non-core brands. Is there anyway you can give a sense to what kind of what the volume of non-core brands is today and 12% operating margin assumption is that – is the elimination of those brands kind of baked into that 12%?

Jeff Lasher

Yes it is, and the second half of that question on the revenue front it’s not really that material is less than 1% or 2% of total revenue.

Operator

Thank you. Our last question on line comes from Mr. Jim Chartier from Monness, Crespi, Hardt. Please go ahead.

Jim Chartier – Monness, Crespi, Hardt & Co.

My questions were answered. Thank you.

Operator

And at this time Andrew, we have no further questions.

Andrew Rees

Great. Well, thank you very much everybody for the participation in today’s call, much appreciated and we look forward to ongoing dialogue with you all.

Operator

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

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Crocs (NASDAQ:CROX): Q2 EPS of $0.36 beats by $0.05. Revenue of $376.9M (+3.6% Y/Y) beats by $4.14M.