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Wolverine World Wide, Inc. (NYSE:WWW)

F2Q08 Earnings Call

July 9, 2008 8:30 am ET

Executives

Christi Cowden – Director, Investor Relations and Communications

Blake Krueger - CEO and President

Don Grimes - Senior Vice President and CFO

Analysts

Jim Duffy – Thomas Weisel

John Shanley – Susquehanna Financial

Mitch Kummetz – Robert W. Baird

Todd Slater – Lazard Capital

Kate Mcshane – Citigroup

Scott Krasik - CL King

Jeff Mintz - Wedbush

Sam Poser - Sterne Agee

Heather Boksen – Sidoti & Company

Operator

Welcome to the Wolverine World Wide second quarter 2008 earnings conference call. (Operator Instructions) I would now like to introduce Christi Cowden, Director of Investor Relations and Communications for Wolverine World Wide.

Christi Cowden

Welcome to our second quarter conference call. On the call today are Blake Krueger our CEO and President and Don Grimes our Senior Vice President and CFO. Other members of the Wolverine management team are sitting in as well.

Earlier this morning we announced record second quarter results. If you did not yet receive a copy of the press release please Lizzi Neinheitz 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

I am pleased to report our 24th consecutive quarter of record revenue and earnings per share. Our team’s excellent execution against our long standing business model led to our record Q2 performance. Our business model is multi-brand, multi-country and multi-category in nature. The distribution of our brands in almost 200 countries and territories around the world enables us to consistently achieve strong results even in challenging economic times and it also reduces our exposure to any single country, consumer group or fashion trend.

Revenue for the quarter of $267.4 million increased 6.8% from the prior year. We achieved revenue increases in all regions and across all of our branded groups. Our sales results also include a revenue reduction of about $3 million from the exit of our transition businesses; slippers, Stanley and private label. Q2 earnings per share of $0.33 were up 17.9% from last year’s $0.28 per share. Included in our earnings results was about $2.4 million of one time expenses primarily associated with the consolidation of our UK offices.

I would like to begin my brand review with Hush Puppies; Hush Puppies revenue increased 4.5% in the quarter. Importantly the revenue gains were broad based across all regions and businesses. Hush Puppy International which operates in about 135 countries through licensing and distribution agreements continues its strong performance with single digit revenue and double digit earnings gains. Hush Puppy base of control distribution around the world anchored by over 400 concept stores helped generate significant increases in global product orders from our licensees and distributors.

At the end of the quarter the International backlog for Hush Puppies was up very strong double digits reflecting the strength of our International businesses and greater design innovation from the new Hush Puppies global design structure. Our new men’s casual product featuring the strike-back comfort gel technology helped contribute to this backlog increase.

The Hush Puppies Europe, Canada, and US businesses also generated revenue gains for the quarter. This was gratifying considering the overall soft retail conditions in some of these key markets. These revenue gains help drive a quarter end inventory reduction of over 20%. Extending our already large base of control distribution for Hush Puppies is a key strategic objective and progress was made on this front during the first half.

In the US three Hush Puppy shop in shops were opened with better independence in the greater New York metro area. In the UK we are excited to announce the opening of our first value retail store on June 7th in Braintree, England. Braintree is about an hour northwest of London. Initial sales results are very encouraging and plans are in place to open one more store in the UK during 2008. Our international licensees added 26 shop in shops in the quarter to bring our global total to over 685.

We are celebrating Hush Puppies 50th birthday this year on a global basis and the PR buzz generated by the new guest designer series continues. Additional special retailer events have been scheduled in Canada, UK and US along with some charity partnerships to highlight the 50th birthday of this great brand. Overall it was a solid quarter for Hush Puppies and we’re very pleased with the revenue increases across all global regions.

The Heritage Brands Group which includes Sebago as well as our two largest licensed footwear businesses Caterpillar and Harley-Davidson reported a quarterly revenue increase of 6.4%. This was the result of increased shipments in CAT and Sebago in the US, Canada and Europe, and increased shipments for Harley-Davidson internationally.

Inventory control initiatives led to a double digit inventory reduction at quarter end. The CAT brand continued to make good progress in the US in the quarter with a significant sales increase. These results were fueled by increased shop in shop installations and expanded distribution for our CAT rugged casual line.

The CAT footwear business in Canada was also up significantly with early placement of the super duty extreme work collection. Despite difficult trading in Europe the CAT business reported a net single digit revenue increase due primarily to greater demand for our active and rugged casual footwear collections.

Turning to Harley-Davidson, growth outside the US continued in the quarter with the European, Canadian and International businesses all reporting a sales increase. These increases were offset by a planned reduction in the US business which relates to our previously reported decision to refocus the distribution of Harley-Davidson footwear in this market. We expect to return to growth in the US market in the second half of 2008 based on the strong reaction from retailers to Vulcanized Garage Collection and the new Premium Performance Riding Boots. These products will hit retail in Q3.

Sebago brand posted a double digit revenue increase in Q2 reflecting strong performance in Canada, Europe and the US. Increased sales in the quarter were generated by strong demand for our new product offerings, especially the Officers Collection of Moccasin Hand Sewn and the new Lake Collection a driving Moc inspired package of premium footwear. Regionally sales were brisk in New York and Florida.

During Q2 new Sebago brand concept stores were opened in Cairo, Egypt, Cannes, France and Oslo, Norway. We now have 30 Sebago concept stores around the world with further expansion planned in 2008. Overall it was a very good quarter for the Heritage Brands Group.

Turning to the Wolverine Footwear Group, revenue for the quarter increased 7.7% over the prior year despite as planned significantly lower sales for the private label and Stanley businesses that we are exiting this year. The sales growth was broad based but all brands and regions reporting revenue increases. The Hytest Mobile Distribution and the Bates businesses had an especially robust quarter both with strong double digit revenue increases.

The Wolverine Brand continues to be the leader in the core work category with second quarter revenue gains in the low single digits despite a tough US work environment. Much of the increase was driven by the new premium priced contour Welt collection which continues to perform at retail with sell throughs consistently in the 5% to 6% per week range.

The Bates business continues to be recognized the military for cutting edge product innovation. In addition to shipping to special operations forces the most technical boot provided to the US military, that’s the Alpine Tora Bora boot; Bates was able to win a tender for an innovative light weight dessert assault boot for the same military community.

Both programs meet the tough demands of our military forces and have received strong feedback. Bates is focused on providing the very best and most innovative product to the US military and the civilian service sector. The Wolverine, Hytest 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 record quarter of revenue and earnings. Sales for the group were up 2.1%. In North America Merrell sales were strongest brand generated a solid double digit increase. This increase was partially offset by lower shipments in the quarter to a large international distributor due primarily to the timing of its fall deliveries and some delayed shipments to Europe all of which are expected to ship in the third quarter of this year.

The Outdoor Group continues to achieve excellent profit leverage and increased gross margin continues to fuel brand building investments in product development and marketing. Merrell’s Outventure category had a strong quarter and continued to establish the brand as the leader in the performance outdoor segment.

This category is showing double digit increases in 2008 for both shipments and backlog by virtue of its multi-sport; water-sport and hiking collections specifically the Moab Ventilator, the Axis Intercept and the Waterpro Maipo are selling well globally for men while the Siren and Chameleon Arch programs continue to appeal to female outdoor consumers around the world.

Merrell’s performance at retail was strong around the world across a broad range of product categories and channels of distribution. In the US sell throughs at retail were very strong. Merrell continues to gain market share as it pursues its mission to inspire the outdoor athlete in everyone with products that comprise of performance and style.

The Merrell apparel program which launched in fall ’07 is on plan. The business is expected to more than double in the fall ’08 season on a relatively small base and the spring ’09 line is being well received by our customer base around the world. The Merrell direct to consumer initiative continues to expand with a goal to reach 70 branded concept stores globally by the end of 2008.

In addition to the Merrell stores operated by our distribution partners the first company owned US flagship store will open in San Francisco in Q3 and will be followed with additional store openings later this year in Portland, Oregon and Birmingham, Alabama. In addition to flagship and regular price full line stores Merrell will end the year with about 700 shop in shops globally and 13 outlet locations in the US.

Turning to Patagonia we are happy with the progress we are making with strong shipments for the quarter on a relatively small base. Steady progress is being achieved within the core North American market and we continue to add international territory. The men’s product has been the center of our initial success at retail and as an example has moved into the number three position within our own multi-brand Track ‘n Trail stores. Behind a well received line of innovative winter boots the backlog for women’s product has moved into the double digits and presents a future growth opportunity.

The Outdoor Group continues to be the company’s largest revenue and earnings generator. Returning to our consolidated businesses which includes footwear, apparel and leather our quarter end order backlog was up almost 4% our quarter end backlog number was impacted by about 2.4% due to significantly lower close out orders and lower orders for our discontinued businesses; slippers, Stanley and private label.

We were pleased with our positive backlog position given our better than planned shipments in the quarter and especially since our reported backlog number is weighted to our owned US, European and Canadian businesses which are reported at the wholesale selling price while our other International orders are based on royalty or licensee income.

On a parage basis our quarter end footwear backlog was up over 8%. During the quarter we also experienced a significant shift from future order to at once orders which are shipped as received and are not part of our quarter end backlog number. Overall we are very pleased with our Q2 performance especially in light of the challenging retail and consumer environment in several key markets. This record performance was achieved while managing our inventories to obtain a 7% reduction at quarter end.

Before turning the call over to Don Grimes I would be remiss if I didn’t take this opportunity to announce the recent retirement of Steve Gulis. Steve most recently served as President of our Global Operations Group but most of you probably know him for the 14 years he served as the company’s Chief Financial Officer. I have worked with Steve for over two decades and he made many valuable contributions to the company during his 23 years here. We all wish him well during his richly deserved retirement.

I am extremely pleased to officially welcome Don Grimes to the company who is participating in our quarter end conference call for the first time. I know you’ll all be kind to Don. Don brings a fresh perspective to the business with his extensive background in global consumer brand. I will now turn the call over to Don our Senior Vice President and CFO who will provide you with additional information regarding our Q2 results.

Don Grimes

Earlier today we reported record financial results for the second quarter ended June 14, 2008. Revenue for the quarter totaled $267.4 million a 6.8% increase over revenues of $250.3 million in the prior year. Earnings grew 17.9% to $0.33 per fully diluted share versus $0.28 per fully diluted share for the second quarter of 2007. We are very proud of the fact that the company has now delivered double digit growth and earnings per share in 17 of the last 19 quarters. Outstanding performance which reflects the effectiveness of our diversified business model.

For the first half of 2008 revenue reached $555.6 million a 4.6% increase over the $531.4 million reported for the first half of 2007. Fully diluted earnings per share grew to $0.79 up 17.9% from $0.67 per share for the same period in 2007. We continue to achieve excellent operating and financial leverage as the rate of growth in operating income with more than twice the revenue growth rate and the rate of growth in earnings per share was more than three times the revenue growth rate.

The strong revenue growth in the second quarter was broad based with all branded operating groups contributing to the increase. Foreign currency translation specifically a weaker US dollar versus the Euro and Canadian dollar had a 2% positive impact on reported revenue in the quarter while our continuing planned exit from our private label, Stanley and slipper businesses had a 1.3% negative impact on revenue growth in the quarter.

Gross margin for the second quarter 2008 was 38.3% a modest improvement over the 38.2% gross margin in the prior year. Benefits from foreign exchange were essentially offset by higher freight and product costs the later being partially driven by the closure of factory in China and incremental reserves related to the future liquidation of closeout inventory. On a year to date basis gross margin has expanded 88 basis points to 40.3% driven by favorable foreign exchange and a positive shift in product mix.

Operating expenses in the second quarter were $76.5 million or 28.6% of revenue compared to $72 million or 28.7% of revenue in the prior year second quarter. As Blake mentioned included in the quarter are $2.4 million of expenses related to the ongoing consolidation of our European operations which had a 90 basis point impact on our operating expenses as a percent of sales.

Even with those expenses and a robust double digit increase in advertising expenses behind our brand portfolio we achieved expense leverage in the quarter driven by continued financial discipline particularly in the general and administrative area. Year to date operating expense are up 5.5% reflecting both a 1.9% impact from foreign exchange and continuing investment in product development and brand support.

Consistent with the first quarter we’ve booked tax expense using an effective rate of 33.5% in the quarter and we’re still projecting a full year tax rate of 33.5%. The company repurchased 209,700 shares in the open market in the quarter at an average price of $28.21 resulted in weighted average shares outstanding used in the fully diluted earnings per share calculation for the quarter of 50.7 million shares.

We remain confident that repurchasing equity at current price levels is an excellent use of the company’s financial resources and in the best long term interest of our shareholders. We have 1.4 million shares remaining under our April 2007 share repurchase authorization and we’ll continue to opportunistically repurchase shares as deemed appropriate by our Board of Directors and Management.

Turning to working capital our active inventory management program has helped drive inventories down 7% to $171.7 million at quarter end. We believe there are continuing opportunities for improvement in our overall inventory efficiency. Improvements that may result in not only actual reductions in inventory but also improved service metrics having the right inventory available at the right time.

On a rolling 12 month basis inventory turn over improved to 3.8 versus 3.6 at the end of last year’s second quarter. Accounts receivable of $195.6 million at quarter end is an increase of 12.8% over the $173.4 million in the previous year. Much of the increase is due to very strong close to the quarter, shipments of products for which we haven’t yet collected, a modest lengthening of terms particularly with our US customer base contributed slightly to the year over year increase.

We believe the prudent use of our very strong balance sheet to facilitate sales growth is entirely appropriate particularly in today’s turbulent economic environment. Our AR continues to be quite strong and our day sales outstanding remain below our own internal target. Our performance metrics continue to improve. On a trailing four quarter basis the company’s return on assets improved 150 basis points to 14.4% at the end of the second quarter and our return on equity improved 260 basis points to 20.2%.

Both of these ratios are at historically high levels with our return on equity exceeding 20% for the first time in more than two decades. Our net cash position remains solid as we ended the second quarter with cash of $77.9 million and total interest bearing debt of $41.2 million of which $30.5 million was drawn from our revolving line of credit. Cash from operating activities in the first half of the year was $40.1 million an outstanding 19.3% improvement over the prior year.

Today we are reaffirming our previously stated 2008 revenue guidance of $1.23 billion to $1.26 billion. Given the uncertainty in economic environment we expect second half revenue growth to be less robust than that experienced in the first half. Growth and full year gross margin will be driven by favorable foreign exchange and favorable product mix partially offset by increased product and freight costs.

As noted during last quarters call we expect our full year operating expenses to increase as a percentage of sales driven by the European consolidation expenses noted above and continued investment and product development and marketing initiatives behind our brand portfolio. Net net we’re projecting operating margin expansion of 30 to 50 basis points for the year. We are reaffirming our full year earnings guidance of $1.83 to $1.90 per fully diluted share.

Before turning the call back over to Blake I’d like to tell everyone how excited I am to have joined Wolverine World Wide as Chief Financial Officer. The opportunities for our strong brand portfolio around the world are enormous. Aptly my extensive background in branded global consumer products will enable me to partner with Blake and the entire organization in an incredibly effective way.

I had the opportunity to meet with several of the research analysts that cover Wolverine during the Fanny show last month in New York and I look forward to meeting many more of you as the WSA show in Las Vegas later this month. With that I’ll turn the call back over to Blake for some closing comments.

Blake Krueger

In closing we are pleased to have delivered another quarter of record revenue and earnings. Rigorous execution against our business model which is multi-brand, multi-country and multi-category in nature allows us to efficiently build global brands, limit risks and gain market share while delivering outstanding financial results in a variety of economic climates. Thanks for your time and attention this morning we’ll now turn the call back to the operator so we can take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Jim Duffy – Thomas Weisel.

Jim Duffy – Thomas Weisel

I had a question on where you are seeing strength and weakness globally if you could provide a little bit of color on the overall environment.

Blake Krueger

Obviously being in 200 countries and territories around the world has its advantages. Obviously there are some consumer and retail issues here in the United States. In certain countries in Europe maybe primarily the UK that is also the case. This is also in light of the fact that we have many other significant territories that are doing just fine. What’s interesting in Q2 the USA was actually on a percentage growth basis our second best performing region which we found very encouraging and frankly it’s a testament to our product innovation and what our brands are putting out there for the consumer.

Jim Duffy – Thomas Weisel

Are you feeling any slow down in Europe?

Blake Krueger

Yes, I think there is some slow down and some credit issues in the UK primarily, maybe a little more than some of the other countries in Europe. Their currency remains fairly strong and it’s still a large and very important market. Our business in Europe has grown from about 3% five or six years ago to over 20% today and we still feel like we’re under distributed in Europe and we’ve got plenty of room for growth.

Jim Duffy – Thomas Weisel

One last question about the Outdoor Group, how should we think about that shift in revenues into Q3?

Blake Krueger

It’s hard to think about anything in this environment in a concrete form. There was a pretty significant shift to large international distributor. I’m trying to recall probably in total in the $3 to $3.5 million range. That will be shipping in Q3 as opposed to maybe a similar shipment in Q2 last year. I’d probably think in those terms.

Jim Duffy – Thomas Weisel

Should we be looking for a return to that mid single to high single digit growth in the Outdoor Group in the back half?

Blake Krueger

We believe so, we think Q2 sales performance was really impacted by delayed shipments to the international distributor. We had some product delays from the Far East going into Europe that also impacted our European sales in the quarter. Frankly in Q2 the Merrell brand in particular had much fewer close out sales which also had an impact on their overall sales number.

I think also in the United States and a few other markets the retailers are cautious and it’s for that reason that we really saw an up tick in our at once orders and a fall off, a transfer from future orders to at once orders in the quarter which was just the opposite of our experience in Q1. We’ll wait and see what happens in Q3 and Q4. I think retailers are understandably cautious especially in the USA market and they’re only ordering as necessary and they’re really relying on those brands like Merrell which continues to outperform.

Don Grimes

Obviously we avoid giving revenue guidance by quarter but our ability to view future business the fact that Blake talked about shift from future orders to at once orders so that shift has made it even more difficult to actually get a good handle as we sit here today on what the revenue will be in Q3 and Q4.

Operator

Your next question comes from John Shanley – Susquehanna Financial.

John Shanley – Susquehanna Financial

I wondered if you could give us a little bit of guidance in terms of the strong sales results of the Merrell brand in the US is that being driven from existing retail accounts or have you opened up any new channels that have also helped to stimulate strong growth of the brand in this country.

Blake Krueger

Obviously the new running program is going after some new distribution for the brand but that’s very very small base in the quarter at the present time. Most of that growth is going to come in the future. I would think for about the last couple of years Merrell has been primarily focused on taking additional shelf space from the competitors in the retailers and in other distribution channels that it’s in.

John Shanley – Susquehanna Financial

You mentioned in your preliminary comments that you feel Merrell is gaining market share. Do you have any specifics that you can share with us in terms of what Merrell’s share of its specific market is?

Blake Krueger

It’s really hard to say, it depends on how you split up the market. They are clearly the dominant player in multi-sport and really in outdoor performance, still gaining market share. The retailers in the US are having a bit of a tough time now with traffic counts and sales. As Merrell sales go up they’re obviously taking in a macro sense market share from somebody and continuing to perform for the retailers.

In times like these the retailers tend to refocus back on those brands that have historically performed for them and continue to perform. We’re encouraged despite maybe the overall gloomy news regarding the economy.

John Shanley – Susquehanna Financial

In your comments about the Merrell store expansion do you see this as a potential catalyst to really making aggressive move into retailing and is there a possibility that you’d consider converting the Track ‘n Trail stores into the Merrell outlet if the market opportunity exists for a strong growth in that category as well.

Blake Krueger

We see Merrell retail as really an opportunity of growth for the company to be honest. We also like e-commerce and we also like several of our other potential avenues. You have to remember that although we operate 91 or so stores here in the United States we’ve got 3,600 points of global distribution for our brands around the world. Most people today don’t realize that Hush Puppy has 400 branded Hush Puppy concept stores around the world that’s very powerful.

We think Merrell can get to globally maybe around 70 stores by year end and clearly the potential for Merrell stores over the long run whether we own it and operate them in our own territories or our distributors operate them globally is in my mind at least as great as it is for Hush Puppies.

John Shanley – Susquehanna Financial

Is your preference to have company owned stores or does it matter to you one way or the other?

Blake Krueger

On our model, our international distribution model is frankly great. We like, in many countries around the world our good international partners are retailers as much as they are wholesalers. In a lot of those markets the retail is less overbuilt, a little bit of a wide open than it is here in the United States. It’s an easier competitive environment.

In the short an near term even though we’re going to be opening company owned Merrell stores like we did in Whistler the home of the Winter Olympics or our new store in San Francisco or a couple of other we’ve got scheduled this year we’re going to be putting as much time and effort behind expanding our international base of controlled distribution for Merrell. It’s an opportunity for the company especially when coupled with apparel.

John Shanley – Susquehanna Financial

I wonder if you could comment on what’s prompting the renewed vigor of the Bates operation that had been a trouble part of the company for the last several quarters and all of a sudden it seems to be a real vigorous growth opportunity. What’s going on?

Blake Krueger

As we said over the last couple of years we expected this year the Bates business to reach a pre-war normalized level. I think we’ve gotten there. Quite honestly I think our sales this year in Bates have been front end loaded in the first half. I think we said that at our year end call and maybe in our Q1 call. We expect some fall off in Bates in the second half of the year but fundamentally the success in Bates like most brands in our industry is driven by product innovation. Even in tough economic times if you’re out there with superior product you’re going to do just fine.

John Shanley – Susquehanna Financial

The last question I have is on the price increases that you’re finding in China specifically and what that may mean in terms of your spring ’09 wholesale pricing structure. Are you going to have to raise prices in order to absorb some of the cost increases that you’re incurring in China?

Blake Krueger

The pricing pressure from China in my opinion is going to continue. Maybe if we see oil back down at $90 a barrel and some other things happen it will abate at some point. The strengthening of the Chinese currency and labor costs and food and energy over there is going to put pressure on footwear. The United States sources today over 85% of all footwear consumed comes from China.

I think you’re going to see prices going up. I think for the second half primarily which includes much of our spring/summer ’09 lines we were able to negotiate and we believe lock in place 3% to 5% price increases which when I talked to my friends around the industry appears to be almost best in class performance. I don’t know what the second quarter of ’09 will hold or the rest of ’09 but we expect the pricing pressure to continue.

We’re going to stay flexible on sourcing initiatives. We’re going to look at reengineering product and not take the quality out of the product by reengineering it. We’re going to continue to look at select price increases.

Don Grimes

We felt some of the impact of increased factory costs in the later part of Q2 part of that was driven by the closure of one factory. I think I read the other day that about 2,000 shoe factories have closed in China some of the middle sized factories have closed down due to the profit pressures. We had to shift some production for our soft style shoes to another factory at a higher cost and we felt some of that impact in Q2. As a result our brands have gone forward with some price increase in the later half of ’08 planned prices in the later half of ’08. We’re trying to respond appropriately.

John Shanley – Susquehanna Financial

Have the retailers been fairly responsive in terms of being able to bear these price increases or are you getting a lot of resistance?

Blake Krueger

In the US in particular they’ve been amazingly quiet. You have to remember that although footwear is centered in China many other industries from electronics to furniture to you name it is also centered in China and I think the consumer in general and the retailers also in general understand that some of the price increase is coming through from China are frankly warranted by macro economic conditions.

Operator

Your next question comes from Mitch Kummetz – Robert W. Baird.

Mitch Kummetz – Robert W. Baird

A couple questions on the backlog I’m have a little bit of a tough time understanding. It was up over 10% at the end of Q1 and now I think you said it’s around 4% in dollars. You did talk about a shift away from future orders to at once. When you reported the last quarter I think you said that the backlog at that point which was up over 10% was more skewed towards Q3 and Q4 versus Q2.

Are you actually seeing cancellations on those orders that you’d already received at the end of Q1 or are you just not over the course of the second quarter were you just not getting in the orders that you were getting in a year ago at this time? Could you give us a little more color on that?

Blake Krueger

Let me first say that future orders are always subject to some percentage of cancellation, push back, and delays, whatever. A dollar of at once orders obviously computes to a higher sales number than a dollar future orders. Our Q2 backlog though, what was interesting is I tried to give you the parage number but our parage number was puts our global business in perspective. I think our Q2 backlog number was first and foremost affected by our strong shipments over planned for the quarter which is a very good thing.

We had about a 2.4% impact because of lower close out orders and obviously lower orders for Stanley, slippers and private label. Our backlog number that we’ve always quoted of course is more weighted to our own businesses which are the footwear and the backlog is in at a wholesale selling price as opposed to license or royalty income.

What we saw in the second quarter and frankly surprised me a little bit was a pretty significant shift from future orders to at once orders. That would have impact our backlog number at once orders are not in our backlog number. I think it’s just retailers being relatively cautious and in waiting to order what they need and not burden themselves with future orders. That may reverse, the trend was just the opposite in Q1 maybe it’s going to reverse in Q3 and Q4 but it clearly was a significant trend in Q2.

Don Grimes

To underscore what Blake said. If you take the official reported backlog of almost 4% and adjust it for the 2.4% related to the close out and the discontinued businesses you get about 6.5%. If you evaluate that in the context of the really strong revenue growth in Q2 and the shift between at once and futures I think you come up with a conclusion that is more consistent with what you’ve seen in the past in terms of the backlog number.

Mitch Kummetz – Robert W. Baird

Since you already had some back half orders in your backlog at the end of last quarter should we be thinking that the decline in the backlog reflects you would expect less sales growth in Q4 than Q3? I would imagine that you’d have had more Q3 orders in your backlog versus Q4 orders at the end of last quarter. Now you probably have a larger portion of Q4 orders in.

Blake Krueger

We’re just into the Q3 but just to give you a little color and a little guidance. I would say today our view on Q3 is that Q3 is going to be a little stronger than Q4 right now. Again, that could change with order trends that could change with the ratio of futures to at once orders but right now I would think that Q3 is going to be a little bit stronger for us than Q4.

Mitch Kummetz – Robert W. Baird

Maybe a little help on the margins as well. You mentioned about $2.4 million in incremental expense from this consolidation.

Don Grimes

In SG&A, yes.

Mitch Kummetz – Robert W. Baird

When does that anniversary, when do we stop seeing that impact?

Don Grimes

We recorded the expense in this year’s quarter so when you get to next year’s Q2 we wouldn’t have those expenses but there will be our full year earnings guidance reflects some additional consolidation type expenses in Q3 and Q4. That’s embedded in the earnings guidance and that embedded in the operating margin growth that I have sighted.

Mitch Kummetz – Robert W. Baird

When we’re thinking about gross margin versus SG&A for the balance of the year the gross margin up around 10 bps in this quarter SG&A down 10 bps which was the opposite of what we saw in the first quarter where gross margin was a lot stronger and SG&A was higher as a percentage of sales. Should we expect the Q2 trend to continue over the balance of the year to get to your guidance? I think you mentioned the continued benefit from FX and mix shift over the balance of the year but then some opposite impact, adverse impact from production, freight and all that.

Don Grimes

We do expect gross margin expansion in the later half of the year versus the prior year. As we said before we also expect some SG&A de-leveraging on a full year basis and that will continue in Q3 and Q4 as we continue to make investments behind some of our initiatives. Net net we’re projecting that 30 to 50 basis point operating margin growth versus the prior year.

Operator

Your next question comes from Todd Slater – Lazard Capital.

Todd Slater – Lazard Capital

You said you saw some slow down in the UK I’m wondering if you could talk about your expectations for second half growth internationally in the UK which is an important market for you as well as the rest of the world.

Blake Krueger

I would think that right now we expect very good growth in the second half in our international markets including Europe in that overall definition. Some markets like the UK are experiencing a little tougher retail conditions probably not at the level we’ve experienced here in the United States but I think the UK in particular is experiencing some of that right now. A lot of our other international markets though, licensing and distribution are very solid with strong backlog positions for that segment of the business.

Todd Slater – Lazard Capital

Would you mind updating us on the international segment in terms of revenue and EBIT margin contribution for the quarter or the year?

Blake Krueger

I don’t know if we normally give that level of detail quite honestly.

Don Grimes

I will say in the first quarter we sighted that our non-US business contributed 70% of the operating profit for EBIT in the quarter. In Q2 that dropped to about 60%.

Todd Slater – Lazard Capital

Is that due to seasonality or is that?

Don Grimes

I believe we had sighted it as full year go forward with about 60/40 between international and US and so obviously what we experienced in Q1 this year was excessively high in terms of the mix between the US and non-US pieces of the business from a pre-tax contribution standpoint.

Todd Slater – Lazard Capital

So we’re just back down to normalized levels. Q1 was a bit of an anomaly. What was the FX benefit in terms of EPS in Q2 I know you mentioned how much it affects revenues, how much are you assuming in the back half of the year as well.

Don Grimes

We are seeing some moderate foreign exchange benefit to reported revenue and EPS but as it relates to the impact of foreign exchange on earnings on a year to date basis we did sight that the second quarter benefited about 2% from a weaker US dollar and we can all do the math and come up with about a $5 million revenue impact on foreign exchange. We also have foreign exchange impacting operating expenses that we incur in foreign currency and I think I quoted about a 1.9% increase on a year to date basis for that.

Consistent with past practice we’re purposely not quoting a specific FX impact on anything other than sales and operating expenses because there are just too many other factors that we have at play here. The way I look at it and the way the company looks at it is that every company in the industry that has a presence in the UK or continental Europe has been a beneficiary of the weaker US dollar really over the last five years or so.

In a fluid and dynamic competitive marketplace there are many pricing decision primarily that are getting made and in some cases don’t get made that are the direct result of foreign exchange trends. Many of the major European retail chains are aware of the foreign currency trends obviously and they’re pushing back on some pricing that would otherwise we’d be able to take.

To take the foreign exchange impact on the top line and then off the foreign exchange impact on the operating expenses and drop that to the bottom line and say this much of EPS is driven by foreign exchange it’s a simplistic of looking at it and in my mind not really reflective of reality. There are just too many other factors that are at play here to distill it down to something as simple as that. Therefore we’re limiting our public comments regarding impact of FX to the impact reported revenue and reported operating expenses.

Todd Slater – Lazard Capital

Are you implying or suggesting that going forward FX becomes less of a benefit on the top line there may be a more beneficial offset somewhere else it’s just not quite as relevant. I’m trying to understand it.

Don Grimes

To extent there’s less benefit from foreign exchange going forward everyone will be impacted by that and there will be more opportunities for front line price increases. Frankly the opportunity directly related to the foreign exchange environment everyone is experiencing.

Operator

Your next question comes from Kate Mcshane – Citigroup.

Kate Mcshane – Citigroup

I wondered if you could give some more detail behind the three Merrell retail stores you plan to open and how big these stores will be. Are they going to be wholly owned by you or is it going to be a partnership like your other Merrell stores?

Blake Krueger

The three stores we’re currently planning including the flagship store we’re opening on Union Square in San Francisco in Q3 will be owned by the company. I don’t have the exact figures on the size of those stores but I think the San Francisco store is in the 2,500 square foot range. It will carry the full Merrell footwear line as well as Merrell apparel and Merrell bags. The other two stores will present Merrell’s lifestyle brand as well.

Kate Mcshane – Citigroup

In terms of your gross margin is there any way you can quantify now much of your gross margins were impacted by markdown money you had to pay during the quarter?

Blake Krueger

I would say I’m sure we can quantify it but just speaking generally I would say it was a relatively small impact in the quarter, very small impact in the quarter.

Operator

Your next question comes from Scott Krasik - CL King.

Scott Krasik - CL King

In the US for as well as the Outventure Merrell stuff is doing I’ve gotten some pretty mixed responses in terms of your casual product line. Is that just as big as its going to be? Have you hit a little wall there; is there something that you can do to really get that casual part of the business going again?

Blake Krueger

The Fusion part, the casual portion of Merrell line has really been Merrell 10 years ago was a men’s hiking boot brand. It has truly been one of the success stories in our industry. It’s been a success story not just through performance outdoor product but really through the Fusion portion of its line. Internally we think there are plenty of growth opportunities on the Fusion side of the line. Our sell throughs on Fusion product, the report cards we get from our top 10 customers have been very, very good whether its women’s casual sandals or some of the other men’s products.

We do believe that there is plenty of growth opportunity even in the USA the largest market for Merrell for that portion of the line.

Scott Krasik - CL King

It just so happened that the outdoor stuff drove the growth this quarter but it very well could shift.

Blake Krueger

Yes, I think the outdoor growth the multi-sport in particular and hiking and some of the sandal products, the performance so far in Q2 and so far in Q3 has been excellent.

Scott Krasik - CL King

I wasn’t sure; in the last two quarters you’ve given the gross margin contribution from currency I think it was 50 basis points in the first quarter. Are you willing to give that for the second quarter?

Don Grimes

No, we’re not going forward with that because of the reasons that I have mentioned in the conversation with Todd a few minutes ago.

Operator

Your next question comes from Jeff Mintz – Wedbush.

Jeff Mintz - Wedbush

A couple of different questions on backlog are the delayed Merrell shipments that you talked about are those included in the backlog or not?

Blake Krueger

The delayed shipments to the international distributor would be in the backlog number. They would not be in the at the full wholesale selling price or what might be the wholesale selling price it would be in there at the much lower royalty income level.

Jeff Mintz - Wedbush

The second question related to that is given the excellent inventory control that you’ve had what do you see as your ability to meet the increase in at once orders and the shift that you might be seeing from your retailers?

Blake Krueger

We’ve been on the narrow and deep inventory philosophy for two years now. We thing we’re pretty good at it. We obviously carry a little of everything but we try and be narrow and deep for each of our brands and the stuff we believe is really going to sell through and the stuff that the retailers are going to come back and want some immediate deliveries on.

We always believe we have room for improvement in our overall aggregate inventory. On the other hand our performance, especially this past quarter when there was a significant shift to at once orders from future orders was confirmation that we’re doing a lot of things well in keeping the right stuff in our warehouses for our retailers.

Jeff Mintz - Wedbush

Do happen to have the share count at the end of the quarter?

Don Grimes

The actual shares outstanding?

Jeff Mintz - Wedbush

Yes.

Don Grimes

Forty nine point six million shares. That’s not the weighted average share outstanding for the quarter that’s at the end of the quarter.

Operator

Your next question comes from Sam Poser - Sterne Agee.

Sam Poser - Sterne Agee

When you shifted Sebago out of the Outdoor Group into the Heritage Group can you give us an idea of how that impacted both Q1 and Q2 so the value of that just for planning purposes.

Blake Krueger

We really don’t think it had a huge impact on either quarter from an overall company standpoint. There’s a separate Sebago team, product development, general manager and everything else. We made that shift primarily to take advantage of the infrastructure that the Heritage brands group has in Europe and also the strong international infrastructure Heritage Brands have and frankly to have the Outdoor group focus primarily on Merrell which has been our main growth driver over the last several years.

Sam Poser - Sterne Agee

In sales dollars how much did that really impact that better than expected number in the Heritage Group? Without Sebago would the Heritage Group have been negative?

Don Grimes

The growth rate is normalized for reclassifying Sebago into Heritage. It was apples to apples basis. We reclassified prior year Sebago activity into the Heritage Brands Group.

Sam Poser - Sterne Agee

On a diluted basis what share count should we use down through the year?

Don Grimes

In the 50.5 to 51.5 million range is what we’re going for now. Obviously we will continue to opportunistically buy back shares but the unknown is the share price which has an impact on the fully diluted calculation.

Sam Poser - Sterne Agee

What was the profit matrix of your own stores versus the distributor run stores?

Blake Krueger

It’s hard to give you any general comments on that. I will tell you that our own stores, about 90 stores in the USA substantially outperformed the FDRA index in the first half of the year. The comp store FDRA index year to date was down about 5% and the performance of our stores which carry primarily our brands although it was negative it was much better than that. Our e-commerce business year to date is up significantly and was up well over 50% in Q2.

Sam Poser - Sterne Agee

With the new stores, when the Merrell stores started to come in you had spoken earlier also about some Hush Puppy possible stores in the US as well. Is this situation where you’re going to take back more business for yourself possibly away from some of the retailers that aren’t managing your brand as well as you would like?

Blake Krueger

We don’t view it that way. We really view it as a necessary brand building growth initiative. If you look back over the last 20 years wherever a brand has levered in some level of controlled distribution its wholesale business almost every time grows. The business with existing retailer based becomes even stronger. It’s not just a top line and a P&L impact we’re trying to show the Merrell brand in particular in the best possible light as a true lifestyle brand.

We wouldn’t anticipate opening these stores as frankly taking back any business. I suspect when we open the Merrell flagship store on Union Square in San Francisco I expect the Merrell business at Macy’s which is a block away will increase.

Sam Poser - Sterne Agee

Are you planning on making money on that store on Union Square? The rents aren’t prohibitive enough to do that. I can see.

Blake Krueger

We hope so. The rents are always outrageous but I don’t know if we’ll make money on the store in the first year out of the block but our plan is to make money on all of our retail stores.

Operator

Your next question comes from Heather Boksen – Sidoti & Company.

Heather Boksen – Sidoti & Company

I have one quick question involving what you were talking about with retailers switching to more at once orders. Is that phenomenon really occurring across the brand portfolio or is it more in any one particular group or brand?

Blake Krueger

Actually it was in Q2 it really occurred across the brand portfolio. We’ve got eight great brands and a variety of different target consumers and distribution channels but it was at least in the United States something that was pretty universal in Q2.

Operator

Your next question comes from Mitch Kummetz – Robert W. Baird.

Mitch Kummetz – Robert W. Baird

Could you talk about how it breaks up by product group and US versus international? I think you’d said that Hush Puppies backlog was up double digits can you talk about the other groups and then again US versus international was it up for both those two.

Blake Krueger

Our backlog was up for all of our regions. I would say that on a parage basis our international backlog at the end of Q2 was the strongest.

Mitch Kummetz – Robert W. Baird

Then by product group was it also up for Wolverine, Heritage and Outdoor.

Blake Krueger

The backlog was up across all of our major brands.

Operator

At this time we have no further questions.

Christi Cowden

On behalf of Wolverine World Wide I’d like to thank you for joining us today and as a reminder our conference call replay is available on our website at www.WolverineWorldWide.com. The replay will be available through Wednesday July 23, 2008. Thank you and good day.

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Source: Wolverine World Wide, Inc. F2Q08 (Qtr End 06/14/08) Earnings Call Transcript
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