Rocky Brands, Inc's CEO Discusses Q1 2011 Results - Earnings Call Transcript

Apr.26.11 | About: Rocky Brands, (RCKY)

Rocky Brands, Inc. (NASDAQ:RCKY)

Q1 2011 Earnings Conference Call

April 26, 2011 16:30 ET

Executives

Brendon Frey – ICR, Inc.

Mike Brooks – Chairman and Chief Executive Officer

Jim McDonald – Chief Financial Officer

David Sharp – President and Chief Operating Officer

Analysts

Reed Anderson – D.A. Davidson

Mitch Kummetz – Robert W. Baird

Operator

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands First Quarter Fiscal 2011 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 for you to queue up for questions. (Operator Instructions) I would like to remind everyone that this conference call is being recorded.

And we’ll now turn the conference over to Brendon Frey of ICR.

Brendon Frey – ICR, Inc.

Thanks. Before we begin, please note that today’s discussion including the Q&A period may contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Such statements are based on information and assumptions available at this time and are subject to change recent uncertainties, which may cause actual results to differ materially. We assume no obligation to update such statements. For a complete discussion of the risks and uncertainties, please refer to today’s press release and reports filed with the Securities and Exchange Commission including Rocky’s Form 10-K for the year ended December 31st, 2010.

I’ll now turn the conference over to Mr. Mike Brooks, Chairman and Chief Executive Officer.

Mike Brooks – Chairman and Chief Executive Officer

Thank you and thanks for everyone for joining us this afternoon. With me on today’s call are David Sharp, President and Chief Operating Officer and Jim McDonald, Chief Financial Officer and Treasurer.

Thanks everyone for joining us on today’s call. We are very pleased with our first quarter results, which represent a very good start to the year. Our performance highlights the emphasis we have put on profitably growing our business by focusing on the expansion opportunities of our higher margin company-owned brands, reducing our retail operation, restructuring our retail operation, and reducing our debt commitment.

As expected, total sales were down year-over-year due to a $4.4 million decline in sales to the military as we completed nearly all of our current orders under our GSA contract prior to the first quarter. In addition, there were approximately $1.7 million in licensed Dickies business during the year ago period then we did not anniversary that agreement expired at the end of 2010. However, we were able to replace all of the loss Dickies sales with gains in our Rocky brand both in Work and Hunting categories, our Georgia Boot, work boot brand, and our western brand, Durango.

This was achieved through a combination of unit growth and higher average selling prices. Coupled with better than expected growth from our new commercial military business, we were able to grow our wholesale segment 5% year-over-year and do so at much better margins. This helped our earnings per share improved to $0.07 from a loss of $0.10, despite a $0.07 drop in overall sales and the fact that we had 33% more shares outstanding versus the same period a year ago.

Another factor was the operating results in our retail segment. Despite sales off slightly from a year ago, the profitability improved meaningfully. Thanks to an increase in gross margins and higher selling prices and lower expenses as a greater percentage of sales. We’re transitioned via the Internet and direct shift from our warehouse versus our fleet of mobile stores.

Finally, perhaps most notably, our interest expenses were $4.4 million less than it was a year ago as a result of a successful recapitalization effort over the past 12 months.

To underscore our funded debt at the end of March was down more than 41%, $19 million to $27.8 million versus from $46.7 million the same date last year. Not only are the interest rates more favorable under this new facility, we signed last October, but the free cash flow that historically was used to service our debt obligation is now being redirected towards working capital purposes, thus reducing our borrowing needs throughout the year. We really started to see the benefits of our hard work during the back half of 2010. As I said on our fourth quarter earnings call things begin to fall in to place nicely after several years of both internal and external challenges.

Our first quarter results are a continuation of these trends and based on the sales, marketing and product strategies that we have in place. I anticipate we will be able to drive year-over-year wholesale growth and improve earnings during the remaining quarters of 2011.

I will now turn the call over to Jim to review the financials.

Jim McDonald – Chief Financial Officer

Thanks Mike. Net sales for the first quarter were $52.3 million compared to $56.1 million for the corresponding period a year ago. Wholesale sales for the first quarter increased 5% to $39.8 million compared to $37.9 million last year. The sales increase was driven by growth of our Work and Hunting company-owned brands which more than offset the $1.7 million decline in our Dickies licensed business.

Retail sales for the first quarter were $11.7 million compared to $12.9 million a year ago. Finally, military segment sales decreased $4.4 million to $800,000 compared to $5.2 million for the same period in 2010. The decrease in military sales was attributable to the completion of our initial order under our contract with the GSA before the start of this year.

Gross profit in the first quarter was $19.3 million or 36.8% of sales compared to $18.8 million or 33.4% of sales for the same period last year. The 340 basis point increase in our gross margin was driven by the increase in sales in our military segment, which carry lower gross margins in our retail and wholesale segments coupled with higher average selling prices. In addition, we benefited from the higher sales mix of company-owned brands, which carry higher gross margins than licensed brands.

Selling, general and administrative expenses were $18.2 million or 34.8% of sales for the first quarter of 2011, compared to $18 million or 32.1% of sales a year ago. The increase as a percentage of sales was attributable to the decrease in military segment sales, which carry little to no SG&A expense.

Income from operations decreased to $1 million or 2% of net sales for the period compared to $700,000 or 1.3% of net sales in the prior year. Interest expense decreased 87% to $200,000 for the first quarter of 2011 versus $1.6 million for the same period last year. The decrease is attributable to reduced borrowing versus a year ago combined with lower interest rates as the result of our new $70 million revolving credit facility signed in October 2010.

Net income for the first quarter was $500,000 or $0.07 per diluted share, based on 7.5 million shares outstanding, a significant improvement over the net loss of $600,000 or $0.10 per diluted share based on 5.6 million shares outstanding we reported in the year ago period.

Now, turning to the balance sheet, funded debt as of March 31, 2011 decreased 40.6% or $19 million to $27.8 million, compared to $46.7 million at March 31, 2010. We were able to reduce our funded debt using proceeds from the equity offering we completed in May 2010 and cash generated from operations.

Inventory increased 16.1% to $61.7 million at March 31, 2011 compared with $53.1 million of the same date a year ago. The increase in inventory is primarily the result of lower than desired levels a year ago due to supply chain constraints. We feel very comfortable with our current inventory position.

Dave will now update you on the growth initiatives we are working on for 2011.

David Sharp – President and Chief Operating Officer

Thanks Jim. In summary, we have four growth strategies they are first value-based customer segmentation, second focused brand extension, third geographic expansion outside the United States and fourth capitalize on the growing popularity of our Military Boots.

We are making headway on the all four strategies; however, in the quarter, our efforts are best example by our outstanding results with commercial military boots in our duty division. These are military boots other than those made on the contract the U.S. Departments of Defense. They are sold direct to individual soldiers usually prior to special deployments and are procured at the AAFES and NEXCOM stores on military bases or through big private retailers that specialize in this kind of trade. Sometimes these retailers will be called upon to outfit a small unit the special war fighters. A major difference in this type of business versus the Departments of Defense contract is that we must have inventory on hand to capitalize on the higher margin at one’s opportunities. This is partly the reason our inventories marginally higher this year than last. In the quarter in the category, we were able to ship $8 million versus $4.9 million the year before, that’s an 81% increase.

Now to brand extensions and an update within our western division, where perspectively we see considerable upside with our Durango brand. Previously, we reported on the strong sales at retail of our Flirt by Durango products. These are ultra-lightweight boots playfully styled for the core Southwestern playing states markets with colorful leathers and creative stitch patterns.

Additionally, we have men's versions of these boots that are also retailing well at major western stores. This month many key retailers are reporting that they have sold through 50% of their inventory on these products. We are continuing to expand these groups with positive results including just like mom and dad, kids versions. At this point in time, our future bookings are up approximately 16% in our Durango brand largely because of the growing popularity of these products.

Now regarding our international business, we continue to be successful on our plan of engaging distributors in the geographic regions targeted for expansion. In the quarter, our sales outside of North America more than $0.5 million up threefold from the prior year period and gratifying because at this point most of our international business is in our Hunting category, which shifts mainly in the third and fourth quarters.

Most notable in this quarter, we entered into an agreement with a recomp company who will distribute our Hunting footwear and apparel in Germany. They have a robust sales and distribution network with eight sales people servicing 300 hunting specialty retailers in the German marketplace.

Now, for some more detail on the continuing improvements in our Lehigh retail business. As Mike and Jim have commented, we continued to improve our operations and profitability of this enterprise by emphasizing our low-cost web-enabled solution for companies who put their workers in footwear designed for specific on the job needs.

In the quarter, we again reduced our investments in the legacy business model and enhanced our growing e-commerce capabilities. Specifically, we closed nine of our stores on many warehouses in the quarter. In April of 2010, we operated 15 stores. We are now operating three stores, which are all profitable. In April of 2010, we operated 62 shoe mobiles. Today, we are operating 51.

In the quarter, we reduced our outside sales force from 18 to 12 and at the same time, we’ve beefed up our inside sales force and higher key personnel to further support our growing e-commerce business and social marketing initiatives. At this point in time, 27% of our retail business is transacted through our e-commerce side versus 18% in the first quarter of last year. We are very optimistic about future of our new retail business model and the investments we’ve made over the past 24 months.

Before I turn the call back over to Mike for his closing comments, we know you will be interested in learning how we believe increased product cost might affect our margins during the balance of this year.

As we’ve reported on earlier calls, tactically we are engaged in reengineering some products and resourcing others to offset increased raw material costs. Further, it should be noted that we ramped up the facility we owned in the Dominican Republic in 2010 and we’re on our way to ramping it up again this year by another 50%. This year this facility will supply approximately 30% of our footwear needs, so will enjoy some fixed cost leverage from this dramatic increase in production.

All this production in our owned facility will also mitigate problems with supply that we’ve experienced over the past 18 months as our Chinese vendors rationalize and struggle with labor, political, and economic issues which have constrained their capacities. As we stated on our 2010 year end call, regardless of where inflationary pressures take us this year, we believe we will remain competitive because of our diverse supply base and strong brands.

Now, Mike will give his closing comments. Mike?

Mike Brooks – Chairman and Chief Executive Officer

Thank you, David. We are very encouraged by the start of 2011 and continue to be optimistic about our prospects both over the remainder of the year and longer term.

As previously announced, I will be transitioning to the role of Executive Chairman of the Board on July 1st and David will take it over as Chief Executive Officer. While I will still be involved in shaping the strategic direction of the company, it will be David who will be overseeing the day-to-day operations. David has been with Rocky Brands for more than a decade, and during his time he has been intimately involved with all areas of the business. Since being appointed President in 2005, he has spearheaded many of the initiatives that are fueling our recent improvements. I can’t think of anyone more qualified for the job.

In addition, he will be supported by a deep bench of seasoned executives beginning with Jim McDonald as well as our newly appointed Heads of Wholesale, Retail, and International.

As I prepared to turnover the stored ship of the company by Great Uncle started more than 79 years ago. I am confident it is on the right track towards sustainable long-term sales in earnings growth. And then our employees and shareholders will benefit from future leadership team we have assembled.

Operator, we are now ready to take questions.

Question-and-Answer Session

Operator

Thank you. We will now be conducting a question-and-answer session. (Operator Instructions) Our first question is from Reed Anderson with D.A. Davidson. Please go ahead with your question.

Reed Anderson – D.A. Davidson

Hi guys.

Mike Brooks

Hey Reed.

Reed Anderson – D.A. Davidson

Nice quarter.

Mike Brooks

Thank you.

Reed Anderson – D.A. Davidson

Couple of follow-up questions I guess, first off, Mike remind me the timing and magnitude of the price increases you’ve taken so far and also kind of what you are thinking as you look into early next year on that front.

Mike Brooks

We took a price increase, Reed January 1st of 5%. And frankly we are evaluating whether we would take one, a second one this year or not and that hasn’t been determined this time. But I’m sure that we would be taking another one at the end of this year or the beginning of next year of ’12.

Reed Anderson – D.A. Davidson

Okay. And then it was more or less across the board. That’s the thing.

Mike Brooks

Yes, yes, about 5% across the board, yes.

Reed Anderson – D.A. Davidson

Okay, good. And then you are talking, then also kind of shifting gears, looking at the Durango piece. You talked a lot about that and it’s great to see that new product, lot of demand there in the sell-through rate. What I’m curious about is I’m suspecting the majority of that is through existing customers. I mean that’s a very well defined channel. I’m wondering if there has been some broader distribution that’s helping or if that’s just literally the products doing so well on existing distribution. Just some color and that would be helpful, please.

Mike Brooks

Reed, currently we are selling to customers that we have sold in the past. And we are not reaching significantly any new distribution. So, we are stealing shelf space from our competitors in existing distribution. However, we recently engaged with a research firm who helped us to explore what Durango could be in the future in terms of expansion. And back in the last 90s, up to 2000, 2001 Durango’s business was, it enjoyed a large business in the fashion and in distribution, particularly in the I-94 Corridor. So we are developing product right now that will help us approach that market once again. And we are pretty optimistic the trade and consumers still remember the Durango brand for that kind of product. The former owners of Durango, EJ Footwear jettisoned that business before we purchased it in 2005.

Reed Anderson – D.A. Davidson

Sure, it’s great. In terms of inventory, lot of people in your industry, in footwear and apparel companies are reporting big inventory increase. So yours actually was relatively modest by some standards. And I’m just wondering if, I mean, do you feel like you have enough inventory or is that, I guess, are we kind of at a point where we are kind of building a little bit higher level of inventory to support some of your initiatives, it’s going to level off, just a sense of where we are as you look out the next couple of quarters, what we might look like a year from now?

Mike Brooks

Reed, I think we are right where we should be. And last year as we reported we struggled like many others to get adequate inventory from China. We were transitioning more and more production to our Caribbean, Dominican plant. So, and of course, the big change in the military, which was the DoD business, was make and ship. So, we were holding very little inventory there. So, I feel a lot better this year than we were last year. And there were many things out of our control and we lost sales because we had not enough inventory last year. We are trying to balance that. And I think we are in pretty good shape. David, I don’t know (indiscernible)…

Reed Anderson – D.A. Davidson

And you feel that inventories at retail are very clean at this point as well?

Mike Brooks

Yeah, retail sales held up pretty well. I don’t see any push back. We made another running change over the last year and a year, year and a half to filling our independent back with reorders, every two weeks, every 14 days and that’s, it was our inventory out and we think theirs as well.

Reed Anderson – D.A. Davidson

Good. And the Dominican facility, the expansion there, where we are at and is that up and running, are we getting, what’s the timing on getting that?

Mike Brooks

It was, we had to take over new buildings in the last 18 months, which we have completed, we are running both of those new buildings, making good quality footwear and it was difficult in the second half of last year to get there, but with happy report we are up and running and in good shape in the first quarter of this year.

Reed Anderson – D.A. Davidson

Okay, good. And then just one more, I’m just curious at the Analyst Day you were talking about some of the things, the good things happening at Lehigh and how that business is shifting more, you’ve finally really seen the shift to the e-commerce piece there. I’m just curious is the transaction size look similar when somebody does an e-commerce order versus when you would sell to them on the site or is that actually a little bit bigger order or small, I’m just curious on that.

David Sharp

No, transaction size at website.

Reed Anderson – D.A. Davidson

Okay, good. All right well, that’s all I have. Thanks guy.

David Sharp

Thanks Reed.

Operator

Thank you. The next question is from Mitch Kummetz with Robert W. Baird. Please go ahead with your question.

Mitch Kummetz – Robert W. Baird

Thanks and congratulation on the quarter. I have a handful of questions here. Let me start on the western business. David I think on the last conference call you had said you expect that business to be up high single-digits this year. It sounds like the bookings are coming in what you’d say 16% based on the Durango side. So, you are still looking for high singles or have your expectations improved since the last call on that piece of the business?

David Sharp

We get so much of our business is still at one. As I said, you know, I’ll be reluctant to say could be stronger than 9% 10% at this time. We actually could have much better picture in western in the first quarter we didn’t comment in the prepared thing about the Rocky western business. We have a new program that we hope to deliver in that quarter, but its now making in to the stores it came in late didn’t make the quarter end a pretty big program that we launched in Rocky Western Boots. And I think that for about the years that Rocky Western can also and the year in the strong single digits also.

Mitch Kummetz – Robert W. Baird

Okay. That’s helpful. Thank you. And then Jim on the gross margin, could you break out gross margin by operating segment for the first quarter, you know, wholesale, retail and military

Jim McDonald

Yeah, sure. Gross margin on wholesale was 33.5%, retail was 49.6% and military was 13.2% or 36.8%.

Mitch Kummetz – Robert W. Baird

Okay. So, when I look at the wholesale piece actually the wholesale and retail were up. So, how much of the improvement in wholesale was attributable to Dickies coming out of the mix this year versus last year versus price increases or anything else that might have moved that up?

Jim McDonald

I’d say about half that was attributable to each rep of about 140 basis points there on wholesale and we had higher average selling prices. We took our price increases we said in January, but we are still selling the goods that were in inventory last year, which we bought at a lower price. So, and then the other is the Dickies business, which was a net margin of about 20% versus our regular margin on wholesale on the low 40 on our company-owned brand. So it’s about 50/50 split I would say.

Mitch Kummetz – Robert W. Baird

Okay, great. And then Mike I think you had said in your prepared remarks that you are expecting sales growth over the balance of this year. I don’t know if that you meant that in aggregate or growth in each of the next few quarters. You still have some tough comps on the military side and then you are also lapping to Dickies businesses. First of all clarify your comments and then there is something that you are seeing out there that, you know, acceleration some of the other pieces that would make up for the tough military comp in the Dickies loss?

Mike Brooks

I think I said on our wholesale brand.

Mitch Kummetz – Robert W. Baird

Okay.

Mike Brooks

Specifically we don’t want to be too excited. I’m pleased we have been able to accomplish obviously lot of things out there in the marketplace without our control. So, but I think we are going to see on the wholesale side a sales increase this year led by all the Rocky brands and our owned brands. The sales increase that we gave up on Dickies is as we stated many times before just wasn’t profitable or at the same level as our owned brands and the military isn’t profitable either on the DoD business, but this special military business is quite profitable that we’re selling under the Rocky brand as well.

Jim McDonald

Okay. I think as we stated before we look at our retail business being relatively flat with last year and was down a little bit in the first quarter, but I think will be relatively flat as we move forward here and our military business now what we have in orders right now is in the neighborhood of about 2.5 million for the year unless we get some more…

Mitch Kummetz – Robert W. Baird

DoD?

Jim McDonald

That DoD, right.

Mitch Kummetz – Robert W. Baird

Right.

Jim McDonald

Tele segment and we did about 70 million last year. So we’re looking at about $15 million delta there.

Mitch Kummetz – Robert W. Baird

Yeah. Okay, last question and I guess this one is for you Jim, on the interest expense, I think you had said previous call $1.5 million for the year you’re still looking for that or maybe something a little less at this point?

Jim McDonald

1.5 million?

Mitch Kummetz – Robert W. Baird

Yeah.

Jim McDonald

I think we are provided interest rates stay where they are at we might be a little bit less than that, but no not tremendously significant. Right now, we are paying our – we’re at the lowest point on interest spread, where the LIBOR plus 150 basis points. So I think we did 250,000, but this isn’t what our borrowings rather at their lowest. They will start to go up as we move towards second half of the year to fund our working capital for that period.

Mitch Kummetz – Robert W. Baird

Okay. And yeah, let me ask one other question on the hunting business, I think on the last call to you, you said that you’re encouraged by how the bookings were looking on that business, I would imagine you have a pretty full fall order booking at this point or any comments you can make on that piece as you think about the back half of this year in terms of the pre-book?

Mike Brooks

Yeah, the bookings have come in pretty well. I think the sustained winter, the colder weather we had really our retails had a great season, particularly some of the key retailers we have had a great season with us. So the bookings are up, yeah, versus last year.

Mitch Kummetz – Robert W. Baird

Okay, thanks. Good luck.

Mike Brooks

Thanks Mitch.

Operator

(Operator Instructions) I have no further questions in queue. I’d like to turn the call back over to management for closing remarks.

Mike Brooks – Chairman and Chief Executive Officer

Well, we thank you very much for listening in and David and Jim look forward to speaking to you in about 90 days. Thank you very much.

Operator

This concludes today’s teleconference.

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