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Executives

Russ Greenberg - EVP and CFO

Jean Madar - Chairman and CEO

Analysts

Linda Bolton-Weiser - Caris

Joe Altobello - Oppenheimer

Erin Murphy - Piper Jaffray

Mimi Noel - Sidoti & Company

Rommel Dionisio - Wedbush Morgan

Inter Parfums, Inc. (IPAR) Q2 2008 Earnings Call Transcript August 12, 2008 9:00 AM ET

Operator

Good day, everyone, and welcome to Inter Parfums Incorporated second quarter 2008 conference call. At this time, I would like to inform you that this conference call is being recorded and that all participants are currently in a listen-only mode.

I will now turn the conference over to Mr. Russ Greenberg, Executive Vice President and Chief Financial Officer. Please go ahead, sir.

Russ Greenberg

Thank you. Good morning. And welcome to our 2008 second quarter conference call. If you have not received a copy of the press release, we issued yesterday afternoon, please contact Linda Latman of The Equity Group at 212-836-9609 and she will fax or e-mail a copy to you.

Before proceeding further, I want to remind listeners that this conference call may contain forward-looking statements which involve known and unknown risks, uncertainties, and other factors that may cause actual results to be materially different from projected results.

These factors include but are not limited to the risks and uncertainties discussed under the headings "Forward-looking statements and risk factors" in Inter Parfums' annual report on form 10-K for the fiscal year ended December 31, 2007, and the reports Inter Parfums' files from time to time with the Securities & Exchange Commission. Inter Parfums does not intend to and undertakes no duty to update the information discussed. As most of you know, when we refer to our European-based operations we're primarily talking about sales of prestige brand name fragrances, which are conducted out of France. When we discuss our United States operations, we are referring to sales of specialty retail and mass market products.

Moving onto our second quarter financial results, as we reported yesterday, net sales rose 20% to $99.1 million from $82.8 million, and at comparable foreign currency exchange rates, net sales were up 12% for the period.

European-based operations achieved sales of $83.9 million, a 19% increase compared to $70.5 million in the same period last year. Sales by our U.S. based operations rose 23% to $15.2 million from $12.3 million in the second quarter of 2007. Moving onto second quarter profitability measures, gross margin was 57% in this year's second quarter as compared to 58% in 2007, with the slight decrease attributable to the effect of the decline of the U.S. dollar against the Euro on European-based product sales to U.S. customers. Sales to these customers are denominated in dollars while costs are incurred in euro. SG&A expense, as a percentage of sale was 50% for both periods.

As we noted last quarter, Q1 sales included a significant contribution from the launch of Burberry and Bebe. However, a significance portion of the advertising expenditure requirements are incurred when our distributors sell these products to retailers, which for the most part took place in the second quarter of 2008.

Thus, promotion and advertising represented 18.7% of sales for the current second quarter, as compared to 13.5% of sales for the first quarter of 2008, and as compared to 16% for the second quarter of 2007.

Royalty expense included an SG&A aggregated $7.9 million and $20.1 million for the three and six-month periods ended June 30, 2008, respectively, as compared to $7.9 million and $17.5 million for like periods in 2007.

Operating margins in 2008 were 6.9% of net sales as compared to 8.2% in 2007. Net income was $3.8 million, up slightly from last year's $3.7 million, and diluted earnings per share were $0.12 for both periods.

Thus, through the first half of 2008, our sales increased 32% to $222.2 million from last year's $167.9 million. In constant dollars, first half net sales were up 24%. Net income increased 31% to $12.5 million, or $0.40 per diluted share, from $9.5 million or $0.31 per diluted share in the first half of 2007.

Based upon our guidance, which calls for net sales of approximately $460 million and net income of approximately $26.8 million or $0.87 per diluted share, we're obviously looking for an even stronger second half.

For reasons, we have discussed in prior releases and conference calls, our business has become more seasonal, generating a higher proportion of our annual sales and profits in the second half of the year as compared to the first half. As in the past, our guidance assumes that the dollar remains at current levels.

Before turning the call over to Jean, there is one point worth mentioning. Some of you may have noticed that our effective income tax rate was 38% for the current second quarter, up from last year's 31%. This is primarily the result of valuation allowances that have been provided in 2008 on deferred tax assets relating to foreign net operating loss carry forwards. We are providing for these valuation allowances as future profitable operations from our four newly formed European-based distribution subsidiaries is not assured. We expect our annualized tax rate for the year to come in around 35% to 36%.

Jean, I will turn it over to you.

Jean Madar

Thank you, Russ, and good morning. We appreciate your interest in Inter Parfums and your participation on today's conference call.

Moving on to recent developments, as we reported last month, we entered into an exclusive six-year worldwide agreement with Bebe stores under which we ill design, manufacture and supply fragrance, bath & body products and color cosmetics for company-owned Bebe stores in the U.S. and Canada, as well as select specialty and department stores worldwide.

There is something very appealing about the Bebe brand, and the striking hip, sexy and sophisticated clientele who wear the Bebe clothing. We are going to capture the essence of the brand and package it in the Bebe products that we'll bring to the market.

As we reported, a lip gloss collection will be in Bebe stores for the upcoming holidays, and by mid-year 2009, the signature fragrance should be in 200 of their stores here in the U.S. There will also be a separate line of products for the 60 or so Bebe sports stores. While the agreement covers for bath and body, we have no immediate plan there is that category but over time we certainly expect to develop additional products for both domestic and international distribution.

We are now the fragrance and beauty partner for five distinct specialty retail brands, Gap, Banana Republic, New York and Company, Brooks Brothers, and now Bebe. We are more convinced than ever that our specialty retail business model is the right one for us, one that we can build upon with additional names and with distribution well beyond the domestic namesake stores.

Our sales formula is basically as follows. Once we have created products for our specialty retail partners, distribution begins at the U.S. stores which are responsible for selling and marketing.

For overseas markets, including the brands franchise and company-owned stores we have licensing agreements in place. Our global distribution network sells into appropriate retail outlets including specialty and department stores duty free and other travel retailers. As we've most licensing arrangements, we have advertising, promotion, and royalty commitments with the brand's licensor.

As Russ mentioned, much of the growth in our U.S. operation during the second quarter was due to international distribution of Gap and Banana Republic fragrance and personal care products. At the time of our last conference call, we had just announced our international distribution agreement with Gap Inc. for both Gap and Banana Republic.

I am delighted to report that this program is moving full steam ahead, product placement, sell through, and reorders are proving to be very promising. To give you a sense of our initial success, you can now find Banana Republic personal care products in specialty and department stores in Chile, Uruguay, Mexico, Argentina, the Philippines, Singapore and Taiwan.

We're also sold in the U.K. at stores like House of Fraser, John Lewis and Harrods. Gap, the iconic American brand, has widespread appeal overseas. Our Gap products are being sold in Taiwan, Singapore, Uruguay, Chile, and Mexico.

In the not too distant future, we expect to see both brands sold into the Gap and Banana Republic franchise stores overseas in southeast Asia and the Middle East. As we mentioned on the last conference call, Banana Republic and Gap personal care items are currently available in military stores on American military bases across the globe.

Let's move on to Brooks Brothers. We have a number of activities in the works. Most important is the launch of our men's and women's collection for sale initially at Brooks Brothers U.S. locations. This will be the first fragrance for woman sold by Brooks Brothers. At the same time we redesigned the three existing men's fragrance program and both the new collection and the reinvigorated older collections will debut in the form. International distribution is planned for next year.

With respect to our European-based operations, Burberry brand sales continue to produce strong growth. As expected, the rollout of Burberry the Beat was the prime catalyst and during popular Burberry Britt, which was launched in 2003, also factored into the increasing brand sales.

Next month, the global launch of Jean Lanvin begins following the preview in France in July. The new fragrance by Van Cleef & Arpels called Fairy is also set for launch later this year. And the new fragrance for ST Dupont called Passenger will also debut this fall.

Finally, we're extremely pleased with our license to create, produce, and distribute fragrances under the Paul Smith brand which would have expired in 2010 has been extended through December 31, 2017 on comparable terms and conditions.

Before taking your questions, let me share with you some of our upcoming presentations. Russ and I will be conducting meetings in New York with Oppenheimer on September 9 and in Boston with Sidoti and Company on September 23.

Although, it is some time off, we again will present at the Wedbush Morgan California conference in December. We hope that we'll get to meet some of you in person at these events.

Operator, we can open the floor for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Linda Bolton Weiser of Caris.

Linda Bolton-Weiser - Caris

Hi. I was just wondering, if you could talk a little bit about inventory. It was up, I think over 50% year-over-year, a little bit more than the increase in the first quarter. Does it relate to the seasonality of the business changing? Is that part of it? Can you talk about where you think the inventory might be by the end of the year?

Russ Greenberg

Well, I can tell you that the inventory is up for several different reasons, and of course the seasonality that I discussed during my remarks is one of the reasons. The second is you also have to take into consideration that we have the three largest brands or the three most significant brands in our portfolio are all experiencing launches beginning in the third quarter.

So, there is a significant inventory build for those particular launches. If you look historically, throughout, I guess, even the last three or four years, the end of the fourth quarter is usually the period when the inventory is actually the lowest, and I kind of expect that to happen again this year. I think that the inventories will start to go down a little bit at the end of the third quarter and then much more significantly by the end of the fourth quarter, but certainly also keep in mind the inventory levels for the distribution subsidiaries also do play a little bit into the factor.

Linda Bolton-Weiser - Caris

Great. And then can you talk -- the gross margin decline was a little larger than we expected, and you explained about the Euro/Dollar situation. I would expect that as a comparison the year-over-year comp gets a little bit less in the second half than maybe with the growth margin performance year-over-year improve a little, is that a correct assumption on my part?

Russ Greenberg

You're not far off, I think. I think the fact of the recent exchange rate changes, we've seen some strength in the dollar over the recent past. I think that's going to play a role in the second half of 2008.

Part of it is the euro effect and a little is also part of product mix, certain of our lines generate different margins than others. We all know that the prestige side of the business generates a higher gross margin than the mass market side, the mass market and the specialty retail side of the U.S. operations, and again when you look at growth rates, if the growth rates are equal, then that won't have an influence on the margins, but if prestige grows at a faster rate, the margins tend to get a little higher. If the U.S. side of the business grows at a higher rate, then you'll see a little bit of a decline.

Linda Bolton-Weiser - Caris

Okay. And finally, on the Burberry, I guess, I had thought maybe most of the launch was over with by the end of the second quarter. What additional geographies will experience launch activity in the second half of the year for Burberry the Beat?

Russ Greenberg

Go ahead, Jean.

Jean Madar

No. I will say that most of the important countries at the end of the second quarter have launched Burberry the Beat. We are experiencing strong reorders, but in terms of geography, we still have some duty-free and airlines to open. We expect that let's say by September to be full distribution for the Beat.

Linda Bolton-Weiser - Caris

Great. Thank you very much.

Russ Greenberg

Thank you, Linda.

Operator

Your next question comes from the line of Joe Altobello of Oppenheimer.

Joe Altobello - Oppenheimer

Hi, guys, good morning.

Russ Greenberg

Good morning, Joe.

Joe Altobello - Oppenheimer

First question is on the composition of the European-based operations. I imagine that you guys are seeing a shift somewhat towards markets like eastern Europe and Asia and away from markets like western Europe, for example. What impact will this have over the next quarters, maybe even years on some of your margins and profitability?

Russ Greenberg

As we mentioned in the past, there is certainly strength in the emerging market areas, but from a gross margin standpoint or from a selling price standpoint, our pricing is fairly consistent within the different markets. So, I am not sure that you're really going to see an influence of changes in margins as a result of the geographic locations where our products are distributed.

Joe Altobello - Oppenheimer

Okay.

Russ Greenberg

Jean, did you agree with that?

Jean Madar

Yes, and I will say that you should leave emerging markets are from SG&A point of view are usually less expensive to cover, but we are investing tremendously in advertising and in the merchandising in the countries like Russia and China where the competition is becoming very fierce, but for the long-term we think that it is the right thing to do.

Joe Altobello - Oppenheimer

Okay. If anything, the margins should get better in countries like Russia and China, for example?

Jean Madar

Yes.

Joe Altobello - Oppenheimer

Okay. And then, in terms of your comments earlier, Russ, about guidance with the dollar euro exchange rate where it is right now, this is maybe a little bit trivial, but do you mean at the end of June or right now? Literally, the dollar has obviously strengthened significantly in the last week.

Russ Greenberg

If you remember from prior conference calls, we build our guidance based upon a current exchange rate that encompasses a longer period than a spot rate. We certainly do not base it on a spot rate. It is based on a three to six-month trend, so based on we know where the dollar is today, and we just reiterated our guidance, so we're certainly comfortable with where the dollar is against the euro and how that impacts our guidance right now. But as we always say, we're going to continue to monitor, and depending on which way the dollar goes against the euro, if we see that we need to modify upward or downward our guidance, we will do what's appropriate.

Joe Altobello - Oppenheimer

Okay. Fair enough. And then lastly, in terms of the interest expense, if you guys had about $72 million of debt, total debt at the end of the first quarter and you paid less than $400,000 of interest expense at least on the P&L, what was driving that and what should we expect for interest expense in the back half of the year?

Russ Greenberg

Interesting. I really didn't think that the number was very significant, but one of the reasons why interest expense was lower than one might expect, I think that's what you're saying?

Joe Altobello - Oppenheimer

Right.

Russ Greenberg

Is the fact that if you read through the 10-Q you will see that we have a couple of swap transactions, and we actually had approximately a $400,000 gain on the fair value of a swap.

Joe Altobello - Oppenheimer

Got it.

Russ Greenberg

Which reduced interest expense for the period.

Joe Altobello - Oppenheimer

That was one-time?

Russ Greenberg

And that’s one -- exactly.

Joe Altobello - Oppenheimer

Okay.

Russ Greenberg

I hope that answers your questions.

Joe Altobello - Oppenheimer

It does. Perfect.

Russ Greenberg

Okay.

Joe Altobello - Oppenheimer

Okay, thanks.

Operator

Your next question comes from the line of Neely Tamminga of Piper Jaffray.

Erin Murphy - Piper Jaffray

It is actually Erin Murphy for Neely. Jean, I had a quick question for you actually with respect to the New York and Company business. How has that been performing? You spoke on the last conference call about color cosmetics you're testing in some of their stores, if we can have an update on that and I have a follow-up question.

Jean Madar

Sure. For New York and company we've seen that the price point of our color cosmetics which says where we sell lip gloss around the $3 has been very successful. So, we have for the third and fourth quarter we have a very aggressive program of color cosmetics. We are also working on the new program of small-sized fragrance which will be introduced in 2009.

Erin Murphy - Piper Jaffray

Okay. And then, just to follow up, the very aggressive color cosmetics for Q3 and Q4, is it more of the lip glosses or should we expect something else?

Jean Madar

You are going to see shadows, you are going to see more than just lip gloss.

Erin Murphy - Piper Jaffray

Okay. The stores you tested it in were obviously well since you're going ahead with this?

Jean Madar

Absolutely. We're going full steam in channel wide.

Erin Murphy - Piper Jaffray

Okay. Thank you. And then just quickly on Bebe, and so lip gloss expected for holiday this year. Any idea on pricing?

Jean Madar

We're going to try. We are doing, you know, the Bebe agreement was signed, if I remember beginning of July, so we went very fast in order to capture some sales in the fourth quarter. Bebe wanted to have some color cosmetics, and because of the organization and the team that we have in place we think we will be able to supply them with a first collection of color cosmetics, but the Bebe business is moving very fast because we assigned this agreement beginning of July, we have already we're working right now on molds for the bottle for the launch of next year. So, we are very much on time and moving very fast for Bebe which is a very exciting brand.

Erin Murphy - Piper Jaffray

Okay. I guess, in terms of price point was my question, so price point for some of the products versus some of your other specialty retail partners, whether it is Gap or Banana, should we be expecting it in between those retailer science.

Jean Madar

The price point will be in the $40 to $50 for 3-ounce fragrance.

Erin Murphy - Piper Jaffray

Okay. That's very helpful. Thank you both.

Jean Madar

Yes, thank you.

Operator

(Operator Instructions) Your next question comes from the line of Mimi Noel of Sidoti & Company.

Mimi Noel - Sidoti & Company

Jean?

Jean Madar

Yes, Mimi.

Mimi Noel - Sidoti & Company

If you don't mind, I would like to follow up on the inventory. Up 50% year-over-year, and you mentioned there were three major product launches that are attributable to that? What are they?

Jean Madar

So, we have Lanvin, new fragrance for Lanvin, major launch for Lanvin, product is Jean Lanvin. We have also launch for the new Van Cleef & Arpels women's fragrance, called Fairy, which is going to happen now at the end of the third quarter, and we'll be launching of course the new Brooks Brothers line this year.

Mimi Noel - Sidoti & Company

Okay.

Russ Greenberg

I am sorry. In addition to that, we're also gearing up for the holiday season for the new Burberry fragrance for Burberry The Beat.

Mimi Noel - Sidoti & Company

Yep. So there is…

Jean Madar

In inventory, we have all the gift sets of Burberry the Beat which is an enormous program which will be shipping in between August and September.

Mimi Noel - Sidoti & Company

Okay. Then, I guess, the implication for revenue growth in the back half of the year looks like it is even less than 8% if I did my math right. Is there a disconnect there? Should I factor in the notion that currency isn't going to be the exchange won't be as favorable? Am I overlooking anything else and that's just the way it works or can you elaborate at all?

Russ Greenberg

We really can't elaborate much more than the guidance that we've issued.

Mimi Noel - Sidoti & Company

Okay.

Jean Madar

We are being cautious. We are in a very tenuous economic environment, and we're factoring all of a lot of different variables into our guidance.

Mimi Noel - Sidoti & Company

Okay.

Russ Greenberg

And that's where we end up. I really don't think we want to elaborate more on that.

Mimi Noel - Sidoti & Company

Fair enough. I do have one or two more questions. On the A&P, do you think we saw a peak in the second quarter on a dollar basis or on an expense ratio basis? Can you comment on that?

Russ Greenberg

When we came in the second quarter it was about 18.7%. That's higher than our historic. Usually it runs approximately 15%, 16%.

Mimi Noel - Sidoti & Company

Yes.

Russ Greenberg

So, I think that's probably it. I don't think you will see much higher than that as a percentage of our sales.

Mimi Noel - Sidoti & Company

Okay. Just one last question if you don't mind. The royalty expense was lower than I had thought, flat with last year despite an almost 19% increase in Prestige sales. Does mix have something to do with that?

Russ Greenberg

I think what you need to take into account is Lanvin is no longer royalty-based.

Mimi Noel - Sidoti & Company

Okay.

Russ Greenberg

All right. And that's direct comparison. For the first six months of last year Lanvin was a license, so we did pay a royalty, and for the second six months it was not.

Russ Greenberg

Okay.

Russ Greenberg

I think that's the bulk of it.

Russ Greenberg

Very good. That's helpful. Thanks, guys.

Russ Greenberg

Thank you, Mimi.

Operator

Your next question comes from the line of Rommel Dionisio of Wedbush Morgan.

Rommel Dionisio - Wedbush Morgan

Good morning, Jean, good morning, Russ.

Russ Greenberg

Good morning Rommel.

Rommel Dionisio - Wedbush Morgan

Late in the year when you gave '08 guidance you talked about increasing investments in personnel as you build up the specialty retail business and given the signing of recent agreements including Bebe, could you maybe give us an update in terms of where you are in terms of utilizing the capacity for lack of a better term of the product development personnel and if you're going to need to increase that for future arrangements or do you feel you're kind of all set for now?

Jean Madar

Russ, do you want to answer?

Russ Greenberg

Certainly, and then if you have more to add, go right ahead. We believe that currently we have the required personnel to operate this business as it currently exists, and that includes all five of the line that is we have. We reallocate personnel. The product development that took place in 2006 for Banana Republic and 2007 for Gap, we don't have the launch of significant huge amounts of lines. So, we can reallocate personnel and use some of the people for some of the other lines.

But I do not believe that we are going to need any substantial increase in personnel or human resources to operate the five different brands that we have under the specialty retail operations.

Rommel Dionisio - Wedbush Morgan

Hypothetically, Russ, say you're at two more agreements of a similar magnitude. Would that require additional personnel?

Russ Greenberg

I think it really depends on the size of the project. Again, the two most recent agreements which is, Brooks Brothers and Bebe, the number of stores involved and the number of products that need to be created for initial launch is restricted. It is relatively small. If in fact a chain comes in that has a significant amount of stores it is looking at making a huge presence, well, then, we would have to reevaluate. I think it will be based on the individual agreement that we have.

Rommel Dionisio - Wedbush Morgan

Fair enough. Thanks very much.

Russ Greenberg

Thank you, Rommel.

Operator

(Operator Instructions) Your next question is a follow-up from the line of Linda Bolton-Weiser of Caris.

Linda Bolton-Weiser - Caris

Just we were noticing on some of the Gap products looks like they're clearing out some inventory of maybe the G-7 line. Is that the men's line? Is that going to be discontinued or what's going on there exactly?

Jean Madar

The G-7 line is doing very well. What you are seeing is, we are doing some promotions with some of the ancillary products around the G-7 lines to promote the G-7 lines, the G-7 which for the people men's line for Gap is actually performing very well.

Linda Bolton-Weiser - Caris

And Banana Republic has been doing some promotions of their main fragrances, 30% off or $10 off. Are you supportive or in agreement with the practices they're using for promoting the fragrance because I know in the past Gap had not been successful in that. Are you seeing what they're doing is good and it is going to work from a merchandising perspective in your view point?

Jean Madar

We're approving absolutely the promotions they are doing, especially in the season which is not high season for fragrance sales, second quarter, or never the best season, so for them to promote certain sizes and also the fact that they are doing some coupons with $10 off are completing the marketing of the brand.

Russ Greenberg

Agree.

Jean Madar

On the top of that we have launched, in the second quarter, we have launched a miniature program for Banana Republic, where at each cash register they are selling little replica, little miniatures of the fragrances, and these have proved to be also a very successful program.

Linda Bolton-Weiser - Caris

Sounds good. Thanks.

Operator

There are no further questions. I will now turn the conference back to management.

Russ Greenberg

Okay. Thank you. Again, thank you for your participation on the conference call. Whether you were on the call live or listening via our webcast. If you do have additional questions, as always, I am available by phone. Thank you for joining us this morning. Bye.

Operator

Ladies and gentlemen, this concludes our conference for today. Thank you all for participating and have a nice day. All parties may now disconnect.

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