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Wolverine World Wide, Inc. (NYSE:WWW)

Q1 2008 Earnings Call

April 16, 2008 08:30 am ET

Executives

Blake Krueger – Chief Executive Officer and President

Stephen Gulis – Executive Vice President, Chief Financial Officer

Christi Cowden – Director, Investor Relations and Communications

Analysts

Jim Duffy - Thomas Weisel Partners

Mitch Kummetz - Robert Baird

Kate McShane – Citigroup

Todd Slater – Lazard Capital Markets

Jeff Edelman – UBS

Scott Krasik - CL King & Associates

Jeff Mintz - Wedbush Morgan Securities

Chris [Zetia] - Susquehanna Financial Group

Sam Poser - Sterne Agee

Operator

Please stand by. We are about to begin.

Good morning and welcome to the Wolverine World Wide’s first quarter 2008 earnings conference call. All participants will be in a listen-only mode until the question-and-answer session of the conference call. This call is being recorded at the request of Wolverine World Wide. If anyone has any objections you may disconnect at this time.

I would now like to introduce Ms. Christi Cowden, Director of Investor Relations and Communications for Wolverine World Wide. Ms. Cowden you may proceed.

Christi Cowden

Thank you, Dana. Good morning everyone and welcome to our first quarter conference call. On the call today are Blake Krueger, our CEO and President, and Steve Gulis our Executive Vice President and CFO.

Earlier this morning we announced record first quarter results. If you have not yet received a copy of the press release please call Libby [Neinheis] at (616) 233-0500 to have one sent to you. The release is also available on many news sites or it can be viewed from our corporate website at www.WolverineWorldWide.com.

Before I turn the call over to Blake Krueger to comment on our results, I would like to remind you that the predictions and projections made in today’s conference call regarding Wolverine World Wide and its operations may be considered forward-looking statements by securities laws. As a result, we must caution that as with any prediction or projection there are a number of factors that could cause results to differ materially. These important risk factors are identified in the company’s SEC filings and in our press releases.

With that being said I would now like to turn the call over to Blake.

Blake Krueger

Thanks Christi. Good morning and thanks for joining us today. I am pleased to report that our company prevailed in the face of a challenging retail and economic environment to post our 23rd consecutive quarter of record revenue and earnings per share. Rigorous execution against our long-standing business model led to our record Q1 performance. This model is focused on three key elements. First, marketing a strong portfolio of eight lifestyle brands. Second, leveraging our brands in almost 200 countries and territories around the world. For Q1, for example, about 70% of our profits were generated outside the U.S. Third, marketing our brands to different global consumer groups through a number of different distribution channels.

This model enables us to consistently achieve strong results while reducing our exposure to any single country, consumer group or fashion trend. Revenue for the first quarter of $288.2 million increased 2.6% from the prior year. We achieved revenue increases in all regions; North America, Europe and International markets.

Our sales results also include a revenue reduction of about $3 million due to the exit of our transition businesses. That is Slipper Stanley and Private Label. Q1 earnings per share were $0.46 up 17.9% from last year’s $0.39 per share. At quarter end inventories were down 4% and our order backlog was up over 10%.

We are pleased with our first quarter results which were achieved in a tough retail environment. We believe 2008 will be another record year for the company and we are increasing our 2008 earnings per share estimate to a range of $1.83 to $1.90 per share.

I would like to begin my brand review with Hush Puppies. Hush Puppies revenue declined in mid single-digits in the quarter as a strong increase in the global licensing business was offset by lower sales in the brands three wholesale territories. Our leverage, however, was good as earnings were essentially flat in the quarter.

In the U.K., Q1 shipments were adversely impacted by the financial reorganization of two significant customers. In the U.S. the sales force realignment that we implemented late last year to separate the domestic Soft Style and Hush Puppies businesses as well as lower shipments to mid-tier department stores contributed to a first quarter sales decline.

In Canada, we experienced challenges meeting demand at our Montreal distribution center at the end of the quarter. This impacted our ability to fully maximize shipping opportunities.

The Hush Puppies international licensing business had a strong quarter with double-digit increases in both revenue and earnings. Our International basis stores grew by the addition of four new stores, bringing the total number of global Hush Puppies concept stores to 402 at quarter end. Our global Hush Puppies licensees will also help us celebrate a very important milestone for the Hush Puppies brand this year.

Hush Puppies will be 50 years old this year and the special events have already been held in Toronto, London and New York to introduce the new Guest Designer series. This series was developed by celebrity stylist Phillip Bloch from New York and Rachel Fanconi from London. This initiative has generated substantial press and elevates the fashion quotient and product price point of our global Hush Puppies brand.

Hush Puppies remain our most global brand and continues to build on its iconic heritage.

The Heritage Brands Group which now includes Sebago as well as our two largest licensed footwear businesses, Caterpillar and Harley Davidson, reported a mid single-digit revenue decline in the quarter. This was the result of tougher trading positions in several countries and our decision to refocus the distribution of Harley Davidson footwear in the U.S. Earnings for the group were above our plan but down a couple of percent from last year. Proactive inventory management programs for the group yielded a strong double-digit inventory reduction in the quarter. The group closed the quarter with a strong double-digit order backlog.

Cat footwear continued to make good progress in the U.S. reporting a low single-digit revenue gain and also continued its strong performance in the international market. These results were offset by a mid single-digit decline in Europe and lower volume in Canada due in part to the previously mentioned constraints in our Canadian distribution center.

Overall, revenues for the Cat brand were down in the low single-digit range reflecting market conditions and trends in the global boot market. This is likely to continue into the second quarter; however order backlogs for the second half are up strong single-digits reflecting the positive reaction to the fall/winter collections. For Cat we received very favorable reactions to the new industrial work boot collection including the Super Duty Extreme Work product as well as the new non-sweat and waterproof program.

In the Lifestyle category, the extended [I] technology range and the new SRX Sport collection have also met with good initial response.

Turning to Harley Davidson, this brand continues to deliver against its strategic objective of expanding its distribution outside the U.S. market. The European and international businesses reported solid growth in the quarter. Growth in international markets was offset by a planned revenue decline in the U.S. following our previously reported decision to refocus the distribution of Harley Davidson footwear in this market. The impact of this strategy will continue through the first half of the year but the order backlog for the second half is showing a double-digit increase.

This forward order position for Harley Davidson is fueled by a very strong response from dealers and retail stores for the new Premium Performance riding collection and the introduction of the Southern California Garage collection of lifestyle inspired skate and vulcanized products.

The Sebago brand had a very positive start to the year posting a revenue gain in the high single-digit range and delivering strong earnings improvement in the quarter. This reflects very good product sell through and excellent retail response to new higher margin product introduction. In the quarter, the U.S. and European Sebago businesses grew at a double-digit pace despite challenging retail conditions. Sebago has also had a very positive reaction to its spring and fall 2008 collection including the new Lakes Collection, a driving moc inspired package that leverages the brands premium hand sewed heritage as well as the Officer’s Collection, a rugged casual line of moccasin constructed hand sewn.

Sebago also expanded in better grade distribution in the quarter both domestically and in international markets. It was another good quarter for the Heritage brands group.

Turning to the Wolverine footwear group, revenue was up in the mid single-digit range as strong sales in base in the high tech mobile distribution network offset lower sales in the U.S. for the Wolverine brand and as planned significantly lower sales in the Stanley and Private Label businesses that we are getting out of this year. Our Wolverine International and Wolverine Apparel businesses also posted revenue increases in the quarter.

The Wolverine brand continues to focus on delivering innovative new product. A contour [wealth] collection of premium priced boot product, which is direct attached product, continues to outperform with very good sell throughs at retail. Wolverine continues to hold the number one position in the domestic work market.

The Bates business had an excellent beginning to 2008 as the military substantially increased its requirements during the quarter. Bates continues to be recognized by the military for cutting-edge product. During the quarter the brand began shipping the Alpine Tora Bora boot to the Special Operations Forces. These high value boots have received a very strong initial response and are the most technical boots provided to the U.S. military. With revenue gains in all channels of distribution, the Bates business achieved the highest first quarter revenue in its history.

The Wolverine and Bates brands continue to have incredible brand loyalty and are recognized as the gold standard in their respective categories.

Continuing with the outdoor group. This group which consists of Merrell and Patagonia had another excellent quarter. Q1 sales increased in the upper single-digit range with Merrell accounting for virtually all of the increase. The group achieved excellent leverages. Earnings were up over 3x the rate of the sales increase.

Merrell is off to another great start this year with solid first quarter increases in U.S., Canadian and European businesses. The timing of shipments to a couple of larger distributors resulted in lower sales for the Merrell International business. Merrell closed the quarter with a sold double-digit increase in order backlog.

For spring there was a strong consumer response across the entire Merrell product line which is substantially broader than it was just several years ago. Merrell’s growth over this period of time has been driven by the consistent development of superior product and the extension of the brand into new product categories. The entire product line performed well in Q1 but Merrell had an especially strong spring season in the multi sport category including the new Aqua Sport, Chameleon Speed and the women’s Siren product lines and the women’s casual category.

The quality of Q1 sales was even stronger when compared to the prior year as the sales mix for the quarter included substantially less close out and discontinued merchandise. This in turn contributed to the strong earnings leverage Merrell achieved in the quarter.

The global retail presence for Merrell also continues to expand. Fifteen new Shop-in-Shops were opened in the quarter and we now have over 500 concept stores and Shop-In-Shops in place in over 100 countries. Our first company-owned Merrell store in Whistler, Canada – home of the 2010 Winter Olympics, is doing well and performing above our plan. This will be followed up by more Merrell store openings in the U.S. including a flagship store in Union Square in San Francisco.

The intent of the Merrell consumer to repurchase the brand is the highest of any footwear brand, athletic or non-athletic, as reported by MPD Market Research. We continue to believe that Merrell will be our first billion dollar brand.

Turning to Patagonia. The footwear business that we launched last year continues to gain momentum. Although still a relatively small business, Patagonia’s footwear has captured the essence of this great brand and met the needs of the very loyal Patagonia consumer. Sales continue to build in the Patagonia website, catalogs and concept stores where the parent brand does over half of its business. Our goal, which is to market the best footwear with the least harm to the environment, is being achieved. Patagonia footwear ended the quarter with a strong double-digit order backlog.

The outdoor group continues to be the company’s largest revenue and earnings generator.

Overall, we are pleased with our Q1 performance especially in light of the challenging retail and consumer environment in several key markets. Our brands are now marketed in almost 200 countries and territories around the world, which mitigates our exposure to any single market, consumer group or fashion trend. Our fall 2008 product lines were well received by our retail partners and we entered the second quarter with our overall order backlog up over 10%. A significant amount of that increase is scheduled for the third and fourth quarters.

I will now turn the call over to Steve Gulis, our Executive Vice President and CFO, who will provide you with some additional information regarding out Q1 results and our outlook for 2008. Thanks.

Stephen Gulis

Thank you, Blake. Good morning everyone. This morning I will review the first quarter 2008 financial highlights for you and give a brief update on our estimates for the remainder of the year.

We are extremely pleased to announce record financial results for the first quarter of 2008 as revenue of $288.2 million increased 2.6% over the $281.1 million reported in 2007. Earnings per share increased to $.046 per share, a 17.9% increase over the $0.39 per share reported in 2007.

These record results reflect the strong balance of our business model as our brand diversification, international reach and distribution strategy all provided benefits during the quarter. We had several areas of the business with solid revenue growth in the quarter; the Merrell brand, Sebago brand, our own retail operations and royalty-based licensing and distributor businesses had the strongest revenue growth rates during the quarter.

Also, currency benefits of 2.6% were offset by reductions in re-order rates in several of the branded operations as the retail environment in a number of key markets impacted at-once order rates. Despite these retail challenges, consumer acceptance of our brands around the world has never been stronger.

Record earnings per share totaling $0.46 in the quarter were driven by strong gross margin improvement in the business, a 160 basis point improvement. This resulted from an improved mix of higher margin goods being shipped in our branded footwear businesses – 40 basis points, initial pricing margins generated by the brands in footwear – 70 basis points, and the positive impact of foreign currency – 50 basis points which occurred primarily in our continental European operations which operate with the Euro as their functional currency.

The company’s selling and administrative expenses increased 4.9% to $85.2 million. As a percent of revenue, 2008 first quarter selling and administrative expenses were 29.6%, a 70 basis point increase. The majority of the increase reflects expanded investment in brand development through product marketing and retail placement initiatives, particularly in the Merrell brand.

Corporate expenses in the first quarter were flat on a dollar basis with 2007 as we continue to aggressively control spending in areas not related to brand building. The combination of the gross margin improvement and the increase in brand development initiatives resulted in a 100 basis point improvement in operating margin on a year-over-year basis.

Operating income for the business increased by 11%, reflecting our strong operating model. We continue to forecast full year operating margin expansion of 40-60 basis points, primarily driven by further gross margin expansion.

Record first quarter 2008 earnings per share of $0.46 exceed the first quarter of 2007 by $0.07 per share or 17.9%. The estimated annualized tax rate for both years was 33.5% and the weighted average shares outstanding used in the fully diluted earnings per share calculation for the first quarter of 2008 was 51.5 million shares.

We are pleased that the company has generated a double-digit increase in earnings per share in 16 of the last 18 quarters.

From a balance sheet perspective accounts receivable increased 12.2% on a year-over-year basis. This increase reflects the strong demand for spring goods which were shipped during the back half of the quarter. Our day sales outstanding of 58.9 days continues to be below our internal goal of 60 days and the overall aging of the company’s accounts receivable continues to be strong.

Inventories of $188.2 million at quarter end represent a decrease of 4% when compared to the first quarter 2007 levels. Strong inventory management programs continue to be executed throughout the business. This has not only resulted in a more efficient use of working capital, but has also generated a portion of the gross margin improvement as we have less end-of-season close out merchandise to move into retail channels.

We continue to mine additional inventory improvement opportunities throughout the company’s supply chain and believe that further efficiencies can be obtained.

During the quarter we repurchased 1,817,100 shares of stock at an average price of $26.22. These repurchases were executed at a 15.5% discount to our recent 52-week high and continue to provide our shareholders with a solid return. We have approximately 1.6 million shares remaining in the April 2007 board re-authorized repurchase program and we will continue to evaluate the appropriateness of repurchases on a go-forward basis.

The company’s cash position remains strong and we ended the quarter with $47.5 million of cash on hand. Additionally we have total interest bearing debt of $70.8 million at quarter end. Our overall capital structure remains strong and the cash generation and borrowing capacities of the business will allow us to drive further shareholder value by funding growth initiatives and providing appropriate returns of cash to our shareholders.

The quarter’s strong operating results and aggressive management of our balance sheet have generated further improvements in our return on assets and return on equity. On a trailing 12-month basis, return on assets improved to 14.3%, a 160 basis point increase over 2007 levels. And return on equity improved to 19.7%, a 230 basis point increase over 2007.

These returns reflect top quartile performance when compared to other companies in our footwear and apparel peer group. Additionally the improvement in these metrics, our consistent earnings per share gains and continued cash flow generation from operating activities have consistently created value for our long-term shareholders.

I would be remiss if I did not address the cost pressures which many industries are experiencing for products sourced in Asian markets. Today approximately 85% of the footwear consumed in the U.S. is sourced in Southeast Asia. Virtually all footwear companies are experiencing higher prices, particularly from China. We expect price increases in the 3-5% range. These price increases reflect the increased costs of labor, oil and energy, rubber, transportation and appreciation of the Yuan. We are responding to these cost increases by maintaining a flexible and diversified sourcing strategy re-engineering product where applicable and passing on selective price increases to our global customers. We have dealt with these challenges on a proactive basis in the past and we will continue to take appropriate action to protect the profitability of our business model.

Our strong first quarter results and the solid quarter end backlog in excess of 10% position the business for continued growth in 2008. We are maintaining our revenue estimate in the range of $1,230,000,000 to $1,260,000,000 and have increased our earnings per share estimate to a range of $1.83 to $1.90, an increase of our previous estimate of $1.80 to $1.88. We are estimating continued operating margin expansion for the remainder of the year with gross margin increases being partially offset by continued investment in our growth brand. As discussed earlier, cost increases from sourced factories around the world are impacting the overall product cost. However, these pressures will be offset in other areas of the business as gross margin improvements are expected to continue from pricing improvements, strong inventory management, positive impact from foreign exchange and continued improvements in business mix.

In closing, we are very pleased with our first quarter results and our strong start to 2008. Our diversified business model is benefiting our shareholders as our brands continue to grow market share in these challenging times.

I thank you for your time and attention and will now turn the call back to Blake for some closing comments.

Blake Krueger

Thanks Steve. We are pleased to have delivered another quarter of record revenue and earnings. Our business model which is multi-brand, multi-country and multi-category in nature minimizes risk and permits us to outperform in a variety of economic climates. This model also enables us to consistently deliver excellent financial results while investing in growth initiatives and product innovation.

We will now turn the call back to the operator so we can take your questions. Thanks.

Question-And-Answer Session

Operator

Thank you. The question-and-answer session will be conducted electronically. If you would like to ask a question please do so by pressing the * key followed by the 1 on your touchtone telephone. If you are using a speakerphone please make sure your mute function is turned off to allow your signal to reach our equipment. We will proceed in the order that you signal us and we will take as many questions as time permits.

Once again, please press *1 on your touchtone telephone to ask a question.

We will pause for a moment to assemble our roster.

We’ll go first with Jim Duffy with Thomas Weisel Partners.

Jim Duffy - Thomas Weisel Partners

Thanks very much. Great quarter guys. A question for you on the license business, in aggregate what type of growth rates have you been seeing on your license business portfolio? Is that seasonal or is it growing as a percent of the mix?

Stephen Gulis

Our royalty-based licensing businesses are growing a little bit faster than the base of our business, Jim. We have strong international partners that really represent our brands well in their local markets and it is driving really nice improvements for the overall business right now.

Jim Duffy - Thomas Weisel Partners

When you look at it in terms of a return on capital decision are there businesses in that international licensing portfolio that it would make sense to acquire or bring in house? Or are there not many that are at that stage?

Blake Krueger

Jim this is Blake. I think at this time we are constantly reviewing that precise issue in our internal meetings but we still have lots of upside opportunity in Europe. As you know we own our operations in greater Europe, Canada and the United States. Europe has been a very good growth vehicle for the company for some period of time, so whether we will vertically integrate at some point in the future and select countries around the world I don’t know. But right now we are focusing on where we are at.

Jim Duffy - Thomas Weisel Partners

So as for now it is a prioritization of resources, I presume?

Blake Krueger

Correct.

Jim Duffy - Thomas Weisel Partners

And then a question on the Bates business. That was, I suppose, stronger than you had suspected. Does that change your outlook for the Bates business for the year?

Stephen Gulis

Not really. We think Bates really has found a normalized level. I’m not sure our government is the best merchandisers that exist out there, but they hit us with some unexpected requirements in the first quarter and we were able, frankly, our manufacturing team to respond and meet those needs. We think it hasn’t really changed our full year outlook for Bates.

Jim Duffy - Thomas Weisel Partners

Okay. And then the final question…you’ve been doing a good job on the expense side by having Steve do two jobs. How is the CFO search coming along?

Stephen Gulis

Very good. We’re going to announce something next week.

Jim Duffy - Thomas Weisel Partners

Okay great. Congratulations again guys.

Operator

We’ll go next to Mitch Kummetz with Robert Baird.

Mitch Kummetz - Robert Baird

Thanks. Let me offer my congratulations. Can you just comment a little bit more on the retail environment. You made a comment that re-orders were soft in the quarter. I know it is tough to do but how much of that do you think is a function of it is a tough environment in general versus unfavorable weather and can you talk about how you guys see inventory levels at retail right now given that business has been soft?

Stephen Gulis

Yeah. Let me address a few of those issues. I think retailers probably starting last summer were looking to plan excitement in their stores through their future orders. So future orders I think in general have stayed pretty steady across the industry and the smart retailers are planning that excitement period by period. I think where volatility maybe has increased a little bit is in the at once still in orders. Retailers are looking to adjust their inventory levels through at once orders. So for example the first six weeks of this year you might see at once orders are down and then a surge up in the next 5-6 weeks a they start to get a handle on their spring season. So the orders are volatile. I would think at once still in orders are a little bit more volatile across the industry than future orders.

As far as inventory levels I think we have all seen the March numbers and I think the small independents out there and the outdoor specialty shops that are operating fewer stores and they are really very good operators and they keep a good eye on their business. We do a lot of business with those people. If we continue to have some high single-digit and double-digit decreases in the mid tier department stores and other retail channels you are going to see some inventory continue to build up there. There is probably again right now a little more athletic inventory out there than brown shoe inventory.

Mitch Kummetz - Robert Baird

Okay. Blake you just mentioned that if your futures orders had been a little more steady than the at once business…I know your backlog is up over 10%. When you look at that obviously at this point into Q1 that backlog is a mix of still some spring deliveries and obviously some fall stuff as well. When you look at the two prebook orders for fall versus spring are they pretty comparable? Is fall coming in better than spring was or vice versa?

Blake Krueger

I think if you looked at our order backlog right now just to give you a little bit of an idea on timing you would find that our Q2 scheduled deliveries at this time are lower than our Q3 and Q4. That is not saying that Q2 is weak at all right now it is just that our backlog right now is skewed into the fall season.

Mitch Kummetz - Robert Baird

Okay. And how about…it sounded like as you went through the different segments of the business that backlog is up across all of those businesses. Is it also up U.S. versus international? It sounds like international business might have been a little bit softer in that first quarter.

Stephen Gulis

International business was actually pretty good in the first quarter and we don’t break it out by brand but I think virtually all of our brands have a backlog increase and several of them, half of them, double-digit. So we feel good.

Mitch Kummetz - Robert Baird

Okay. Then lastly, are you guy’s still expecting stronger sales growth in the back half than the first half? I guess a lot of because the backlog for the back half is a little bit stronger…because when you look at your full year sales guidance at least the high end of that guidance would suggest stronger growth in the back than the first and to your comments Blake it sounds like the backlog skews a little bit more towards Q3 and Q4 than Q2 as well?

Stephen Gulis

Yeah Mitch. That would be correct. I think we are still anticipating a challenging retail environment for the back half but we feel that the growth rate could improve on the back half over the first half. That is correct.

Mitch Kummetz - Robert Baird

Okay. That’s all I have. Thanks.

Operator

We’ll go next to Kate McShane with Citigroup.

Kate McShane - Citigroup

Hi. Good morning. Most of my questions have been answered but I was wondering if you could provide us with any commentary on the global macro environment? We have been hearing conflicting things about Western Europe I guess in particular in terms of the strength or the weakening of the economies over there. I was wondering what you were seeing in your business as a result of that?

Blake Krueger

Well we can give you a little insight. We try not to frankly over concentrate on macro economic issues. We figure if we can continue to develop superior product we are going to win in any environment but I think it seems to be a little bit softer right now in Europe. I would say that the U.K. maybe is a little bit softer than the continent at the present time. You also have to remember that going back 3-4 years ago the U.K. had a very strong 3-4 year run for footwear and really apparel. So I think the U.S. economy still is the engine for the world. Maybe that won’t be the case 100 years from now but at the present time it is still the engine for the world. There is a little softness in markets out there but with our global business model it mitigates a lot of that risk.

Kate McShane - Citigroup

Okay. Thank you. The numbers that have been coming out of Sebago have been improving and very strong and I wonder if there have been any further plans to expand Sebago’s distribution beyond its current distribution channels?

Stephen Gulis

I think in the United States…in Europe as you know the Sebago brand is a premium brand in all the better footwear shops. We think frankly there is a lot of growth for Sebago. We do not, however, intend to take Sebago down market at all. We have plenty of growth opportunities in our designated distribution channels.

Kate McShane - Citigroup

No plans to bring it in to the malls? Not to be specific, but we’ve seen Sperry at Finish Line for example.

Blake Krueger

Yeah we don’t have any of those plans at the present time.

Kate McShane - Citigroup

Okay. Thank you.

Operator

We’ll go next to Todd Slater with LazardCapital.

Todd Slater - LazardCapital Markets

Thank you. Great job everyone. Just on the international…70% of your EBITDA came from international this quarter, is that correct?

Stephen Gulis

That is correct.

Todd Slater - LazardCapital Markets

Is this an appropriate run rate that we should be considering for the year?

Stephen Gulis

It is a little bit higher than what our average was last year, Todd, for the full year. So I think in later quarters in the year you’ll see the mix come down a little bit. But probably a 60/40 international-U.S. mix for operating profits is probably still a pretty good ratio to look at for a full year basis. Any one quarter can deviate from that a little bit but I think that is the appropriate range to look at going forward.

Todd Slater - LazardCapital Markets

Okay. Well maybe it would be helpful to look at what sort of the revenue run rate is and if that is obviously growing faster than domestic revenue?

Stephen Gulis

The revenue run rate…we actually were up in all regions of the world last year so our international revenues were solid. We were up mid single-digits in most of our international areas in the first quarter so that was pretty solid performance.

Todd Slater - LazardCapital Markets

So that’s running a little faster than domestic?

Stephen Gulis

Yeah.

Todd Slater - LazardCapital Markets

And you would expect that to continue for the next…the back half?

Stephen Gulis

We think that there…our market share in the international markets is not as developed as what it is in the U.S. market for several of our brands so there is more opportunity in those international markets.

Todd Slater - LazardCapital Markets

Right. Okay. And that’s a high margin…obviously higher margin business?

Stephen Gulis

The licensing drives a higher and royalty based business drives a higher operating margin, but the wholesale businesses which we own are pretty parallel to the U.S. wholesale businesses.

Todd Slater - LazardCapital Markets

Okay. With licensing that all is higher. Now can you just remind us how you manage the currency fluctuations? What would happen to the PNL theoretically or directionally if the dollar strengthens or slides against other currencies in the back of the year? Is that a potential issue?

Stephen Gulis

We’re buying forward contracts for product being bought for our own international wholesale operations. So we are out a little bit…6 or the 9 month range. It depends on where we are at in the calendar buying forward contracts so we are locking into our product costs for a 6-9 month basis. So there is a pretty significant delayed impact and the reason we do that is that way we can protect our initial pricing margins by taking appropriate actions at the wholesale level. So if we saw the dollar strengthen quickly and we knew that our product cost was going to go up in those markets we’d have to take other actions to protect our pricing margins. So we have the time built in to take appropriate actions to protect our gross margins.

Todd Slater - LazardCapital Markets

Okay. Just remind me…I apologize…how much of the quarter had – what kind of a core expense was there in the quarter also relative to OI?

Stephen Gulis

There was about a 50 basis point of the 160 basis points in gross margin improvement came from the weakening of the U.S. dollar primarily against the Euro.

Todd Slater - LazardCapital Markets

Okay. And then just as a guidance question. Tax rates came in at about 33.5% which is higher than your tax rate guidance for the year of I think 32.8%. How should we be modeling the rest of the year?

Stephen Gulis

Right now that is our annualized estimated tax rate. One thing that is out there is that Congress has not approved the recent R&D tax credits. So we’re not allowed to include any benefits from R&D credits in our annualized tax rate. So if…depending on what happens with the elections and Congress and everything else we would expect that to happen some time in the year but at this point we can’t provide for that and that does have some fairly positive benefits for us.

Todd Slater - LazardCapital Markets

But in the mean time that is not in your guidance?

Stephen Gulis

That is not in our guidance because we are not allowed to project it.

Todd Slater - LazardCapital Markets

Okay. So we should be using maybe a little higher tax rate?

Stephen Gulis

The tax rate of 33.5% would be an annualized rate.

Todd Slater - LazardCapital Markets

Got it. Okay. Perfect. Thanks very much and best of luck.

Operator

We’ll go next to Jeff Edelman with UBS.

Jeff Edelman - UBS

Thank you. Good morning. A couple of questions here. One, how much is your royalty income running at this point? And where is it classified? Is it classified as revenue or just to the cost of goods?

Stephen Gulis

No it is in our revenue base and it runs around 5-7% of our overall revenue on any quarter.

Jeff Edelman - UBS

Okay. Secondly, how much is your fill in business running on average overall?

Stephen Gulis

If you look at the averages on a long-term basis our future to at once order mix is right around 50/50. With the changes to the market right now it might be sliding a little bit more futures driven to where we might be seeing it a little bit more 60/40 in a year like this. But still a significant portion of our overall business does come from at once weekly reorders.

Jeff Edelman - UBS

Okay. Now your futures are in U.S. dollars, correct?

Stephen Gulis

All of our orders steps that we indicate are translated into U.S. dollars.

Jeff Edelman - UBS

Okay. Then could you help me reconcile? At the beginning of the quarter you had a 10% increase in futures. Second quarter you have got a 10% increase back weighted. Your sales would have been roughly flat if we exclude currency…which would suggest a fairly noticeable fall off in first quarter fill in business and if we are looking at some shift in timing in here do we see a worse or let’s say a more negative comparison in the second quarter in terms of top line?

Stephen Gulis

I think, Jeff, the most difficult…there is no direct correlation behind what our order backlog rate is and what the next quarter and the next two quarters are going to be because there are so many variables out there. We get at once orders in the quarter. We also get future orders in the quarter which are shipped in that quarter. So there are all kinds of things that can impact the overall environment. I think the way to look at it and the way I encourage people to evaluate the backlog is – is there adequate backlog or does there appear to be adequate backlog to drive the revenue growth that the company is estimating? And beyond that it is very difficult to say gee Q2 should be this because the backlog did this or what all the changes are. We are in a difficult retail environment right now or a challenging retail environment. That has probably more impact on our at once and in quarter futures. So there is a lot of variables in there. So I think you have to take a little bit higher look at that and to try to drill down…I haven’t been able to do it in my 15 years as CFO…find a direct correlation.

Jeff Edelman - UBS

I’m trying to help you figure out a way.

Stephen Gulis

If you get it can you email me?

Jeff Edelman - UBS

Let me ask you another way. You want to make sure you get enough inventory to ship and so if we take into consideration everything you have said and your inventory is down 4% is this just because you have been turning it faster? Or you have been conservative on the take in and therefore if you get the fill in business you’ll have to scramble even faster?

Blake Krueger

I think one of the things we have done over the past couple of years is try to focus our inventory on being narrower and deeper because retailers frankly are also waiting longer to place their at once orders and some of their future orders. They want it and they want it when they want it. You can’t blame them. It is challenging out there. So we’re just narrower and deeper with the right stuff, more than we were say 2-5 years ago.

Jeff Edelman - UBS

Okay. I follow. Okay great. Thank you.

One other thing. When does the other expense in there? It looked like it was a significant increase versus income last year?

Stephen Gulis

That had to do with some of the translation in our European operations I believe it was. But I’ll follow-up back with you, Jeff, to confirm that.

Jeff Edelman - UBS

Okay. Thank you.

Operator

We’ll go next to Scott Krasik with CL King & Associates.

Scott Krasik - CL King & Associates

Thanks. Blake you didn’t mention Merrell Apparel this quarter. Where are we at with that?

Blake Krueger

Merrell Apparel is on plan for the year. We are really as excited as we have ever been about the opportunity. We probably couldn’t have timed our launch on Merrell Apparel in a worse environment but we can’t control that. Certainly our conservative approach is paying off given current market conditions. But in 2008 we will be in about 35-40 countries, about 40% of the apparel will be in the USA. The product line has been refocused and redesigned. The full impact of that will be seen in the spring 2009 line which will start to ship this fall. We expect Merrell Apparel this year to be roughly in the $12-$15 million range.

Scott Krasik - CL King & Associates

Okay. So assuming you had some sales in the first half that was implied that the back half would actually be a little bit below a year ago?

Blake Krueger

No, I think both of them will be above a year ago.

Scott Krasik - CL King & Associates

Above. Okay. Good. Then there was some talk about Merrell getting into the road running category. Are you guys still on plan with that?

Blake Krueger

Yeah we are. We’ve got a collection of great new shoes. We brought in some street running talent to develop those shoes and we’re on plan. We’re not expecting that to be a large out of the box. We are very interested in gaining credibility. As you know Merrell has incredible credibility in the multi-sport category and trail running category, and we want to get in those…get a beach head in the best 50-75 running shops across the country. So that may not be a large business out of the box but we think it is key to the Merrell brand going forward.

Scott Krasik - CL King & Associates

Sure. Then just lastly sort of qualitatively. You had some planned and unplanned management changes in Outdoor and Hush Puppies. Talk about…have there been any hiccups? Have the transitions been smooth? Have there been any changes in philosophy?

Blake Krueger

No. I have to tell you the teams are performing well. I’m probably a little prejudiced but I think we have one of the very best teams in the entire industry and you don’t post these kinds of consistent results without some very, very talented people. There has been no let up at all in the Merrell or Outdoor group for example.

Scott Krasik - CL King & Associates

And no changes in direction or anything?

Blake Krueger

Correct.

Scott Krasik - CL King & Associates

Steve. Lastly, I’m sorry. The gross margin benefit you expect to get from the second quarter generally?

Stephen Gulis

I would say that the second quarter should be or could be pretty much in the same range. Probably 30-50 basis point type improvement.

Scott Krasik - CL King & Associates

Okay. Thanks guys.

Operator

We’ll go next to Jeff Mintz with Wedbush Morgan.

Jeff Mintz - Wedbush Morgan Securities

Thanks. Good morning. To follow-up on Todd’s question from earlier. Could you give us the break down U.S./International of the revenue in the quarter?

Stephen Gulis

I think the best way to view it is low single-digits for the U.S. and followed by a higher increase for Europe and then the highest increase, upper mid single-digits for international if you wanted to break it down that way.

Jeff Mintz - Wedbush Morgan Securities

Okay. And what was just the percentage breakdown? You said 70% of EBITDA came from International but how much of your overall revenue came from outside the U.S.?

Stephen Gulis

About 40% of our revenue base is outside the U.S.

Jeff Mintz - Wedbush Morgan Securities

Okay. 40%. Thanks. And then Steve probably the question for you in terms of the taking on of debt and the plans for the balance sheet in terms of the share buyback, how should we think about the balance sheet through the rest of the year in terms of increased debt and the need for that?

Stephen Gulis

I think there is a couple of key things there, Jeff. One is that we do historically use working capital in the first three quarters of the year and then we generate a lot of cash at the end of the year as our peak working capital period is at the end of the third quarter. We felt there were some opportunities to accelerate our share repurchase program in the first quarter and we did that and I think it paid some good dividends to our shareholders. We’ll continue to look at consistent share repurchases if they are appropriate. But I think given the environment out there also we will maintain a very strong balance sheet position. I mean our net debt position is not that high and we really want to make sure we have flexibility in our capital structure if we see opportunities arise.

Jeff Mintz - Wedbush Morgan Securities

Okay. Great. Then my last question…just on the distribution issues in Canada. Kind of what happened and more importantly do you feel those orders are lost or is it just a delay into the second quarter?

Stephen Gulis

We do not feel that those orders were lost, Jeff. There was some challenges. Our growth up there has outpaced the capabilities of the distribution center up there so we’re looking at some alternatives so we can address the same peak period which would happen at the end of the third quarter. We’ve got plenty of action plans underway to eliminate any further issues.

Jeff Mintz - Wedbush Morgan Securities

Okay. Great. Thanks very much and good luck.

Operator

We’ll go next to Chris [Zetia] with Susquehanna Financial Group.

Chris [Zetia] - Susquehanna Financial Group

Good morning everyone. Congratulations. A couple of questions. Firstly can you just flush out some of the issues and opportunities with regard to the Hush Puppies business? Obviously the wholesale business having some challenges and the licensing business doing well. Maybe you can talk about what is going on the U.K. with the reorganization of some of your two key customers and do you anticipate backlogs to improve for the Hush Puppies business as you go into the back half of the year?

Stephen Gulis

We think right now Hush Puppies is in a positive backlog position overall for the business. The U.K. retail environment, turning first to that country, it has been tougher. We did have some significant customers that went through some financial reorganization and parts of their business were sold. We have managed to keep a substantial portion of that business so that is the good news. Hush Puppies is one of the world’s great brands. It is 50 years old this year. Over 19 million pair. It is one of the top brown shoe brands in the world. We have had steady…very steady growth in our international markets over the last 5-6 years. We don’t see that changing. At over 400 stores and 650 shop-in-shops it is one of the biggest brands out there around the world for dedicated points of sale. So we’re as excited as ever about the potential for Hush Puppies.

In the U.S. market we knew this year was going to be tough because of some of what we believe are the correct actions we took last year to separate the Soft Style business, for example, from the Hush Puppies business but we are getting a shot in the arm with the Guest Designer Series and some of the chatter that is going on about the brand right now.

Chris [Zetia] - Susquehanna Financial Group

How has the transition for the Soft Style product at Penny’s…how has that done for you? Are you pleased with the performance?

Blake Krueger

Yeah we are. It is a question of now restaffing and allocating some appropriate resources to each of those two businesses; Soft Style and Hush Puppies, at least when you look at it domestically.

Chris [Zetia] - Susquehanna Financial Group

And a positive backlog which you referenced, Blake, is that towards I guess the second half of a weight and see the improvement?

Blake Krueger

Yeah. That would be more second half weighted.

Chris [Zetia] - Susquehanna Financial Group

Okay. Steve a question for you. On the gross margin trends, obviously the out performance included on the gross margin for the quarter…I guess as you look at the gross margin in the quarter and the pricing – is any of that being driven by the increase [inaudible] pricing that maybe you are passing on due to higher sourcing costs? Or has that not impacted the PNL? Is that more of a second half scenario?

Stephen Gulis

I think it is going to be more prevalent in the second half. We did move a few prices in the first half of the year to accommodate some of the price cost increases that we had. But from a gross margin perspective we are expecting further improvement but not at the rate we had in the first quarter. Probably about half that rate overall for the remainder of the year if you took the balance of the year would be the appropriate way to look at it. We think, again, that is a balance of the things I mentioned in our prepared remarks.

Chris [Zetia] - Susquehanna Financial Group

Okay. And is that also a function of continued reduction in terms of inventory? You were down 4%. I think you were down 10% coming out of last year.

Stephen Gulis

It is not just the…the pure reduction doesn’t necessarily drive it as much as the proper management of it and the timing of when we are getting rid of stuff and getting the best prices we can and not purchasing close out merchandise basically. So yes a piece of that will be further inventory management but it doesn’t necessarily mean there will be a reduction in the inventory.

Chris [Zetia] - Susquehanna Financial Group

I see. It is just an improvement in the quality in terms of the inventory as you go forward.

Stephen Gulis

The efficiency of the use of the inventory.

Chris [Zetia] - Susquehanna Financial Group

Okay. Then the last question I have…you didn’t talk too much about your direct to consumer business. Maybe talk about track and trail, what’s going on in the outlook business and any color possibly on same store sales performance for that division?

Blake Krueger

Just to give you an idea we closed the quarter with 91 stores. I think we had 72 in the outlet arena under a number of different fascias and 19 Merrell and Track and Trail stores. Our stores themselves were down between 1-2% comp store sales decrease in the first quarter. I have to tell you compared to the rest of the world out there that is pretty superlative performance actually. But those stores carry for the most part our brand so it is just an indication of how our brands are performing at retail. Our eCommerce business for the quarter was up over 40%. So we are very pleased with the growth in that vehicle. Overall for the first quarter it is a blended direct to consumer we would have been up close to 5% comp store when it is all blended together.

Chris [Zetia] - Susquehanna Financial Group

Okay. Thanks very much gentlemen. Congratulations.

Operator

We’ll go next to Sam Poser with Sterne Agee.

Sam Poser - Sterne Agee

Good morning and congratulations. Just a couple of follow-ups. In the U.S. other than the Merrell brand what are we looking for the rest of the year looking at Caterpillar and Harley and Hush Puppies and so on? Can we expect to see the top line start to improve? Clearly you are managing the businesses quite well.

Blake Krueger

I think, Sam, for example Cat had a sales increase in the U.S. in the first quarter. When you look at where that brand is positioned here that was pretty good performance. I think everybody is holding their breath a little bit about the retail environment for the rest of the year so it is difficult for us to sit here and predict. We can look at our backlog and look at the feedback we are getting from retailers and believe that we are going to have improvement in virtually all of our brands in the second half and the last three quarters. But we had a bit of a mixed bag in the USA in Q1.

Sam Poser - Sterne Agee

How have the standards changed from the retailers of how they are viewing filling in business? Are they shifting in general to buy narrower and deeper as well? Are they raising their expectations of an item or of a brand so if it is not really performing extremely well are they backing off the fill ins more than they had a year ago?

Stephen Gulis

Sam this is Steve. I think it is fair to say that retailers have gone narrower and deeper also and that benefits everybody because it is easier for us to make sure we are in stock on core products but it also keeps them from having all that fringe product which may not be what the consumer really wants and desires. So…I think that paralleling the merchandising mix and making sure there is an agreement between the provider of the product and the retailer as to what we’re going to sell to the consumer in the season is important. So that has had some positive benefit. You’re not out there trying to guess what the retailer is going to reorder. You pretty much know because you go into the season with a pretty focused perspective on a partnership basis really.

Sam Poser - Sterne Agee

And some of your competitors have started to…are going through some large transitions and because of the way you price you goods, I believe you said 6-9 months out you are locking in your prices, I think some of your competitors might not have done that. Are you finding that has given you a competitive advantage when you are showing the product to people and working on your price value relationships across all of your brands?

Stephen Gulis

I think what it really gives is it gives everybody time to merchandise in and to flow in the pricing that has to occur. So it is not an overnight and you don’t get that dramatic drop. We were criticized at one time, Sam, for not having as big a pick up in that arena because we were going out and the dollar continued to weaken and we didn’t get all the benefit of the steepness of the erosion of the U.S. dollar but having that time is very valuable. If you can work with your account base and say this is what is going to be happening down the pipe it does give you a benefit.

Sam Poser - Sterne Agee

Okay. Well thank you very much and continued success.

Operator

At this time we have no further questions. I would now like to turn this call over to Ms. Cowden. You may proceed.

Christi Cowden

Thank you. On behalf of Wolverine World Wide I would like to thank you again for joining us today and as a reminder our conference call replay is available on our website at www.WolverineWorldWide.com.

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Source: Wolverine World Wide, Inc. Q1 2008 Earnings Call Transcript
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