Under Armour Management Discusses Q3 2012 Results - Earnings Call Transcript

| About: Under Armour, (UAA)

Under Armour (NYSE:UA)

Q3 2012 Earnings Call

October 25, 2012 8:30 am ET


Thomas D. Shaw - Director of Investor Relations

Kevin A. Plank - Founder, Chairman of the Board, Chief Executive Officer and President

Brad Dickerson - Chief Financial Officer and Principal Accounting Officer


Omar Saad - ISI Group Inc., Research Division

Kate McShane - Citigroup Inc, Research Division

Michael Binetti - UBS Investment Bank, Research Division

Camilo R. Lyon - Canaccord Genuity, Research Division

Joseph Parkhill - Morgan Stanley, Research Division

John Zolidis - The Buckingham Research Group Incorporated

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

John D. Kernan - Cowen and Company, LLC, Research Division


Good day, ladies and gentlemen, and welcome to the Under Armour Inc. Third Quarter Earnings Webcast and Conference Call. [Operator Instructions] As a reminder, today's conference call is being recorded. I'd now like to turn the conference over to your host, Mr. Tom Shaw, Director of Investor Relations. Please go ahead.

Thomas D. Shaw

Thanks, and good morning to everyone joining us today's third quarter conference call. During the course of this call, we'll be making projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution that such statements are subject to risks and uncertainties that could cause actual events or results to differ materially. These risks and uncertanties are described in our press release and in the Risk Factors section of our filings with the SEC. The company assumes no obligation to update forward-looking statements to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of an unanticipated event.

Joining us on today's call will be Kevin Plank, Chairman, CEO and President; followed by Brad Dickerson, our Chief Financial Officer, who will discuss the company's financial performance for the third quarter, provide an update to our 2012 outlook and introduce our preliminary 2013 outlook.

After the prepared remarks, Kevin and Brad will be available for a Q&A session that will end at approximately 9:30 a.m. Finally, a replay of the teleconference will be available on our website at approximately 11:00 a.m. Eastern Time today. And with that, I'll turn it over to Kevin Plank.

Kevin A. Plank

Thank you, Tom, and good morning, everyone. 10 consecutive quarters of 20-plus percent top line growth. 12 consecutive quarters of 20-plus percent growth in Apparel. Third quarter revenues up 24% and EPS up 23%. Inventory is down 2% year-over-year. These numbers speak to the level of consistent execution that you'll come to expect from an industry leader like Under Armour.

We are a growth company. One that in 7 years in the public markets has proven our ability to patiently unlock the power of the next great global athletic brand.

So I will start with some commentary on how we achieved our strong third quarter results. I believe the most compelling piece of our growth story is our patience in developing our brand and the opportunity that provides us to continue to grow at this accelerated pace into 2013 and beyond.

But first, the scoreboards. The external financial scoreboard is full of Ws, with balanced contributions on the revenue side from our 3 key Apparel drivers of Men's, Women's and Kids.

When we spoke after our first quarter results earlier this year, we talked about 2 key themes that were critical to our success in 2012 and beyond.

First, when we innovate and add value for the athlete, we win.

And second, our success in balancing the need to improve operationally in critical areas like supply chain, planning and design while executing to deliver that 20-plus percent growth.

So looking at our innovation and operational scoreboards, the results were equally strong.

First on innovation. The strong acceptance we saw this past quarter for our Spine footwear technology and the fact that Cam Newton Highlight cleat was the single most compelling on-field product at retail in 2012 is great evidence that our thought leadership has raised consumers' expectations for Under Armour footwear.

So what opportunities does this success provide us? We have talked extensively about getting the cadence right in our footwear business and these strong launches will be followed up with a UA Cam Highlight trainer, a $150 training shoe inspired by the iconic look of the game shoe. And our Spine platform will expand with more acceptable products that incorporates the same technology found in our premium running shoe.

In our Women's business, our key spring introductions of the Armour Bra and our Studio line continue to track very strong at retail. Our "Sweat Every Day. I WILL." campaign, the latest incarnation in our What's Beautiful marketing efforts and our team's heightened focus on fit and design is helping us bring new female consumers into the Under Armour brand everyday and expand our addressable market.

As part of that goal, we are adding to our strong leadership team in Women's with the addition of Leanne Fremar who's joining us as Senior Vice President, Executive Creative Director for Women's. Leanne comes to Under Armour from Theory, where for 10 years she served as Creative Director. Leanne will be spearheading our new presence in New York City, where we will be able to benefit from not only of the cultural influence, but also the great talent pool that exists there for both Apparel and footwear.

So with Women's, much like footwear, our ability to innovate provides the opportunity to expand beyond our core athletes with relevant products for a slightly different consumer. She demands the same level of functionality as the elite athletes and our innovation agenda is focused on bringing that level performance to a broader range of consumers.

I mentioned our operational scoreboard earlier. And I believe our results in this area speak to the tremendous focus and investments we put into our supply chain.

Growing at a 20-plus percent rate for the past 10 quarters has, of course, challenges. We've had to grow with our existing suppliers while adding new ones and quickly become experts as we innovate our way into new product categories.

However, timely investments and strong leadership in our back end has helped us deliver this consistent growth. We've added to our apparel sourcing base and are making strides in our ability to balance inventories with demand.

And now, in our 7th year in footwear, we've developed a solid footwear supply chain team in Asia and here in Baltimore that will allow us to keep up with the demand that we are generating.

In addition, our growing presence in the category has enabled us to develop strong factory relationships critical to us reaching our long-term goals.

So great quarterly and year-to-date results some big Ws on both the innovation and operational scoreboards, a lot for the Under Armour team to be proud of. But what excites us as a team is the opportunity ahead.

Because when we look at all the components of our business, whether it's a product category, geography, a point of distribution, we believe we are consistently in the early stages of growth. That is the lens through which we view the opportunity and why we are confident about our ability to grow.

I spoke earlier of our continued expansion in footwear, up almost 30% year-to-date. We are in our 7th year in the cleated business. And while our market share is very significant, it still continues to grow.

Our share in Running is in the low single digits, but we're in the early stage of growth and just now finding the right cadence in this $6 billion category in the U.S. alone.

So it's that opportunity, the chance to combine the power of the Under Armour brand with our endless pursuit of innovation that drives us as a company. And we are fortunate that those opportunities exist everywhere for us. They exit in nation category for our brand like Women's Studio, mountain, lacrosse, outdoor and soccer. We have the opportunity to be a meaningful brand in every sport category. So while we don't discuss these businesses on these calls, you should know that there is a team at Under Armour living and breathing these opportunities, ensuring that we are authentic and focused on the Under Armour consumer in each of them.

They exist in new geographies, in markets where consumers are not yet aware that they must protect our house. They exist in markets like the U.K. where we do a large percentage of a fairly small European business. So we've planted the seed with our new relationship with Tottenham Hotspur Football Club in London and it's off to a great start as we again bring the Under Armour brand to a completely new range of consumers.

We have a wide path to develop the Under Armour brand outside of North America and we have the additional benefit of reaching these new consumers through not only a physical retail presence, but a visual one as well.

Our challenge internationally will be setting the right priorities, determining which markets are the best fits for our brand and investing to drive that growth. We are laying the foundation with steps like our Tottenham relationship and our first stores in China. But again, we are still in the early stage of growth outside of North America.

Here in the U.S., we understand that a key element of our brand strength has come as a result of selling our products in authentic sports retail environments like Dick's Sporting Goods, the Sports Authority, Academy, Inhibit. So as the breadth of our products expand and our distribution continues to evolve here in the U.S. and globally, we will always be rooted in this authentic sporting goods distribution where our brand has been built.

Our existing team has much to be proud of. Ten consecutive quarters of 20-plus percent revenue growth is a testament to their work. As we prioritize around all the opportunities facing us, we are supplementing this team with new leadership in some critical areas. These new leaders, Charlie Maurath in, International; Jim Hardy in Supply Chain; and Leanne in Women's, bring numerous years of industry experience to their new positions. Beyond that experience, they also bring new thinking and a new dimension to how we approach these opportunities.

So in summary, we remain a growth company. The right balance of aggressive execution and strategic patience has helped us deliver very strong financial results. But what brings all of us to work each and every day is the knowledge that, that opportunity for our brand remains vast and that we are in a unique position of being the next great global athletic brand. And with that, I'll turn it over to our CFO, Brad Dickerson. Brad?

Brad Dickerson

Thanks, Kevin. I would now like to spend some time discussing our third quarter financial results, followed by our updated 2012 outlook. I will conclude with some initial thoughts on 2013.

Our net revenues for the third quarter of 2012 increased 24% to $575 million. Apparel grew 22% to $445 million during the quarter, representing the 12th straight quarter of at least 20% growth for our largest product category.

We continue to see strong results across our Men's, Women's and Youth categories. Men's was led by training, hunting and underwear, with underwear driven by the category's introduction into over 500 department stores year-to-date.

On the Women's side, we are experiencing strong results in our Studio line and Sports Bras to continue to deliver a better balance of performance and design.

In Youth, we more than doubled our graphic business year-over-year while also expanding into more than 250 department stores.

Our Direct-to-Consumer net revenues increased 31% for the quarter, representing approximately 24% of net revenues compared to 22% in the prior-year period.

In our retail business, we opened 4 new Factory House stores during the third quarter, increasing our Factory House store base to 96, up 26% from 76 locations at the end of the third quarter in 2011.

We plan to open 5 additional Factory House stores in the fourth quarter, bringing our total Factory House store count by year end to 101.

In e-commerce, we have seen improvements in site fee and functionality in the last quarter and the conversion GAAP year-over-year has narrowed.

Third quarter footwear net revenues increased 21% to $63 million from $52 million in the prior year, representing approximately 11% of net revenues.

As you will recall, we shipped nearly 5 million in introductory footwear product to our Japanese licensee, Dome, in last year's third quarter. Not counting this one-time shipment, our footwear growth was closer to 33% year-over-year. New 2012 running product led by UA Spine continued to be the largest contributor to category growth.

Our Accessories net revenues during the third quarter increased 37% to $54 million from $40 million in the prior year period, led by strong performance in headwear and bands.

International net revenues were roughly flat in the third quarter at $32 million and represented approximately 6% of total net revenues. Adjusting for the previously mentioned footwear sales to Dome, international net revenues grew approximately 18%.

Moving on to margins. Third quarter gross margins expanded to 48.7% compared with 48.4% in the prior year's quarter. Three factors primarily drove this performance during the quarter.

First, as expected, we are starting to see some relief in input cost. Lower North American Apparel product cost, partially offset by higher North American footwear product cost, positively impacted gross margins by approximately 30 basis points.

Second, more favorable year-over-year sales discounts and allowances also benefited our gross margins by approximately 20 basis points.

And finally, following some delivery challenges we had to airfreight some product to service demand, which negatively impacted gross margin by approximately 20 basis points.

Selling, general and administrative expenses, as a percentage of net revenues de-leveraged 60 basis points to 32.9% in the third quarter of 2012 from 32.3% in the prior year's period. Details around our 4 SG&A buckets are as follows.

First, marketing cost increased to 11.4% of net revenues for the quarter from 10.4% to the prior-year period. Expense de-leveraged during the period was primarily a function of increased advertising in connection with our key media campaign for footwear and Women's.

Second, selling costs held steady at 7.9% of net revenues.

Third, product innovation and supply chain costs decreased to 7.5% of net revenues from 7.7% in the prior-year period, driven by an overall expense leverage in these areas given our top line growth.

Finally, corporate services decreased to 6.1% of net revenues for the quarter from 6.3% in the prior-year period. Operating income during the third quarter grew 21% to $91 million compared with $75 million in the prior-year period. Operating margin contracted 30 basis points during the quarter to 15.8%.

Our third quarter tax rate of 36.1% was slightly favorable to the 36.3% rate in last year's period. A resulting net income in the third quarter increased 25% to $57 million compared with $46 million in the prior-year period.

Third quarter diluted earnings per share grew 23% to $0.54 compared to $0.44 in the year-ago period.

Now moving over to the balance sheet. Total cash and cash equivalents at quarter end increased to $157 million compared with $68 million at September 30, 2011. We had no borrowings outstanding in our $300 million revolving credit facility at quarter end.

Long-term debt, including current maturities decreased to $72 million at quarter end from $80 million at September 30, 2011.

Inventory at quarter end decreased 2% year-over-year to $312 million compared to $319 million at September 30, 2011, driven by success around our inventory management initiatives, along with some supply chain challenges that delayed the receipt of some products.

Our investment in operating capital expenditures was approximately $16 million for the third quarter and we now plan for 2012 operating capital expenditures towards the higher end of our previously provided range of $60 million to $65 million.

Now moving on to our updated outlook for 2012. Our prior outlook called for 2012 net revenues of $1.8 billion to $1.82 billion, representing growth of 22% to 24% and operating income of $205 million to $207 million, representing growth of 26% to 27%. Based on our current visibility, we are updating both our net revenues and operating income guidance to the high end of our prior guidance.

Our updated net revenues outlook of $1.82 billion represents growth of approximately 24%, while our current operating income outlook of $207 million represents growth of 27%.

With this updated outlook, I'd like to provide some additional color on several items.

First on net revenues. The drivers of our net revenue guidance remain relatively unchanged from our prior guidance and assumes similar winter weather patterns as last year and more moderate expectations within our e-commerce business.

Moving on to gross margins. We now expect full year gross margins to decline as much as 40 basis points off of last year's 48.4% level. This compares to our prior full year outlook of flat to down slightly year-over-year.

We continue to see similar dynamics as outlined last quarter. Improved North American apparel product margins, primarily through easing [ph] product cost, offset by more aggressively moving through excess inventory at our Factory House stores and a less advantageous mix, giving our footwear growth and e-commerce assumptions.

Regarding the gross margin guidance change, we have talked in the past about finding the right balance between inventory management and servicing customer demand. While demand for the Under Armour products remain strong as demonstrated by our year-to-date 24% net revenue increase, we continue to have some supply chain challenges fulfilling this demand. The near-term impact will come in the form of incremental airfreight cost. Despite these costs, we believe core improvements continue to be made across our supply chain and see no change to our longer-term opportunities from a gross margin perspective.

Shifting to SG&A. We continue to see a consistent year-over-year expense rate in marketing and the greatest expense leverage in corporate services. In aggregate, for the year, we expect SG&A leverage will more than offset gross margin contraction and drive modest operating margin expansion off of last year's 11.1% rate.

Below the operating line, the only change to our prior guidance is the full year effective tax rate, which we now see at approximately 37%, slightly down from our prior guidance at the lower end of a 37.5% to 38% range.

Finally, on the balance sheet, we continue to make positive strides with inventory management, including better aligning our biases of forecast and reducing the creation of excess inventory. We expect inventory growth will remain below our net revenues growth during the fourth quarter.

Before we turn over for Q&A, we would also like to provide you with our preliminary outlook for 2013.

Based on our current visibility, we anticipate 2013 net revenues to be at the lower end of our long-term growth target of 20% to 25%, and operating income growth to be closer to the midpoint of our long-term growth target of 20% to 25%. We will provide additional details in our 2013 guidance in future calls after we gain a clearer picture of full year bookings, which to some degree are predicated on the consumer environment heading into the upcoming holidays.

Several factors to consider for 2013 include the following: first, we anticipate opening approximately 10 Factory House stores in 2013, representing 10% door growth compared to 26% door growth expected to the close of 2012; second, we expect higher gross margins, given the continuation of the favorable product cost environment, particularly in the first half of the year; third, we expect gross margin gains we partially offset by continued SG&A investments in areas such as innovation and supply chain.

Overall, we expect moderate full year operating margin improvement. We would now like to open the call for your questions. [Operator Instructions] Operator?

Question-and-Answer Session


[Operator Instructions] Our first question comes from Omar Saad of the ISI Group.

Omar Saad - ISI Group Inc., Research Division

Kevin, you mentioned -- 2 questions. You mentioned on some of your prepared remarks the importance of the authenticity of the sporting goods channel and how critical that has been for the brand and will continue to be for the brand. Can you talk about the channel distribution options for you guys as you think about some of the new areas where you want to grow, International, Women's. Is that still the right channel especially International? Are there sporting goods, authentic sporting goods retailers, available that you guys can partner with? And also how does that make you feel about owning retail? Are you thinking about to the extent there isn't a great sporting goods channel in some of these opportunities? Are you guys revisiting the idea maybe doing a little bit more own retail outside of the factory channel?

Kevin A. Plank

Yes, well I think it definitely forces our hands as we look outside the United States. Beginning here, I don't think we can reiterate enough the strong partners that we have, the relationship and partnership we have with Dick's Sporting Goods is really, is clearly our largest customer and has been a real advocate for our brand from the beginning. And so you'll continue to see large investments in their doors and what we're doing on a partnership level at that level. And it's not limited to just Dick's though either, throughout sporting goods as a channel for us. So we're very proud of our relationship there. And I think we're demonstrating with things like the 20-plus percent Apparel growth that we'll still continue to grow there too. More productive floor space, more compelling shops and better stories and then we'll continue to come back. And I think be a driver for those doors as well is demonstrating with innovation and winning. And then we're also leveraging again our core basics with the sporting goods guys with helping us with footwear in getting our market out there. And so what we, really, we reset in 2010 with the idea of selling product above $100, that's typically not where sporting goods is selling footwear either. So it's been challenged. But we found success beginning with our roots and things like the Highlight cleat at $130 this past football season with something that was great and that's leading over to the new Cam Highlight trainer that we have coming out in a few weeks. So we'll continue to set the mark of what we're doing at sporting goods. At the same time, you're watching the brand evolve. And again, I'm speaking domestically. But many of the players I'm talking about can help us overseas as well, at least one in particular. So as we move to the mall channel, that's been a new challenge for us as well on the footwear side but really a big opportunity. And I think the first thing you're seeing is the commitment that we have. And one of the things we're looking with a partner like a Foot Locker for instance is somebody who gives us the ability to find distribution outside of the United States. We haven't found the right court. Again, speaking outside the U.S., I think you're finding consistency again. We're in about 250 Foot Lockers today. We're at similar number of Champs today. So we're nowhere near the 4,000-plus stores that Foot Locker has capability to. But again, that's opportunity as you watch us become more appropriate with the consumer who's shopping there. And we're going to continue to make those kind of investments to find out how we can be important out of the United States also. Distribution, what you're seeing in, pick a category like Women's, where department stores have become important to us and we are expanding our distribution there. We're going into and we've added -- we're in about 300 Macy's right now, as well as going into about 150 Dilliards. And Women's is important for us in those stores. Women's is -- I'm sorry, underwear is a huge leader in defining for us in those doors as well. And then we're also doing -- footwear is important. The partnership that we have with Finish Line right now and what they're doing with taking over the Macy's format. Something is very exciting for us. Where I think it's going to give us the ability to really story-tell. So in short, where you have of a very core company that began with roots in sporting goods, I think we're finding ways to translate our story beyond sporting goods, but using and leaning on that authentic base. And so I think we're doing a pretty good job of streaming out towards doing that. As far as it goes with our own retail from that standpoint, I mean, without question, some of these markets -- it's sporting goods, it doesn't really exist as a channel or it's completely polluted as a channel. It's really difficult in some of the places that we've looked at. The U.K. is probably a great example of that with JJB recently going out of business also. So we have some ideas and our ideas basically believe with -- I don't know if there's one strategy or there's one channel we're looking at as much as I believe that Under Armour should be everywhere. And I'm not saying that discounting the brand and the other things that you've seen pervasive in some of these other markets, but we need a strategy in every place where the consumer is shopping and thinking about sweating. And so that's how we're approaching it. And I do believe that our own retail will play a role in that. And what we haven't established yet is the flagship mentality or idea of going in and trying to buy our way into high-street retail. But I do think there's a good compromise where we can create a physical presence in store, not unlike the way we've let ourselves into China that we now have 3 stores in the Shanghai area. We have a couple more opening in Beijing. And you're really seeing a nice base that begins with performance, but the consumer's beginning to get it. And probably, the last thing I'd end with is while we need those physical presence, I think that we have the unique opportunity to redefining the way that we take our product abroad and that digital is going to play such a critical role and that being there and maxed out on the e-commerce side is something where we think we can really be important. So I think it's really fairly balanced. And if I try to sum up my answer to you, Omar, I'd say it's going to begin with first of all, we're going to protect, we're going to defend, we're going to attack in our core sporting goods distribution. We're going to use that here in the U.S., continue to double down on the plays we've made, expanding to the mall with key important partners like Foot and Finish and the things we're going to do there. Letting them, as you watch them expand to department stores and what, again, Finish is doing with like a Macy's, as well as taking our own core products like underwear and some other things that we can do to expand the brand. So I think that we're playing. We've got a lot of cards out there. I don't feel like we're spread too thin though. I think like our message is consistent and I think that the chapters of our story makes sense right now. So I think we feel pretty good and we have a lot of upside in the math as we look to the future right now.


Our next question comes from Kate McShane of Citi Research.

Kate McShane - Citigroup Inc, Research Division

I was wondering if we could have a little bit more detail on inventories. Can you break out any areas in terms of what categories where inventories are maybe higher than the corporate average? What product are you finding you have to airfreight and how inventories are at your retail accounts?

Kevin A. Plank

Sure, Kate. And I think the first and foremost, the things -- the message to get across is obviously demand for our brand is very strong. Obviously, 20% growth in apparel kind of proves that out. With that growth, supply chain is always going to be challenging. Last few years, this year, even into next year, we know there's going to be challenges to support that strong demand for our brand. Our job is to execute and manage through these challenges and then our teams obviously have done that. The back half of this year though, we do have a little bit of some challenges on the apparel side of the business, really relative to the on-boarding of a couple of new factories and it persisted in Q3. It'll persist a little bit in Q4. And again, our team did a great job managing our way through some of those challenges to deliver the demand. One thing I think to notice though is in prior years, we've had similar challenges to support the growth of our brand that we're having this year. However, the change probably being is in prior years we've had a lot more inventory kind of as a backstop to offset some of those challenges. And obviously, we talked a lot about our inventory management initiatives over the last 12 to 18 months and we've seen a lot of success in those initiatives. And the one thing we've talked about is kind of the analogy of the pendulum and that we know that when we manage inventory that the pendulum will continue to swing. It's an imperfect science. Our job is to make sure that pendulum swings in a very, very narrow of range. Right now, when we look at our current inventory balance being down 2% year-over-year, a lot of that is due to some great successes we've had. An of example of that is the creation of excess inventory, where year-to-date, we've created 9 million units less of excess inventory and sold 2 million units more. So that's a great job by our teams in managing inventory. However, that does create some challenges when you have some delivery challenges on the supply chain side where you don't have that backstop of inventory to help you out through that. So because of that, the balance of inventory management initiatives and some delivery challenges really was more important for us to deliver the goods we are manufacturing for the current demand. That's what caused some airfreight in Q3. It'll persist a little bit in Q4 and that was kind of the call down of our gross margin a little bit as our job is to manage our way through this. Our job is to meet demand and we'll have to pay a little bit of a price to do that. Overall, though, I think the big message, big takeaway is longer-term progress is still on track even though we'll take a few small steps forward and backwards in a short period of time. It's really important to note that with the people we've brought on board, the leadership we've brought on board, the process improvements we're putting in place, the system enhancements we're putting in place, longer-term progress is still on track.


Our next question comes from Michael Binetti of UBS.

Michael Binetti - UBS Investment Bank, Research Division

Brad, can you just help me really quickly walk through the math on how the supply chain challenges you point out in the third quarter resulted in higher airfreight, but that you did see favorable impact from allowances and discounts year-over-year?

Brad Dickerson

Yes, really liking it Michael. So if you look at last year, if you remember what we're talking about last year, again, we've had supply chain challenges pretty much every year to support our growth. It's our team's job to manage through that. If you remember our conversation last year was some of those conversations where we were trying to sell some stuff to customers and get some customers to take some product, sometimes it was a little bit late. Sometimes it was exchange type product to deliver to them to keep the shelves full because of the demand for our brand. And that costs us sometimes a little bit on the discount side. Mostly around the areas where we weren't getting stuff maybe on time last year and we had to give them something else in exchange for that. So we called out those sales discounts and allowances last year again to meet demand. This year, the change being a little bit is that we don't have that backstop of a lot of excess inventory, so it's really important that we're delivering exactly what we plan to sell on the retail floor. So the need for sales and discounts is reduced this year because we're not selling, we're basically selling exactly what they wanted. The challenge for us though obviously without that backstop of inventory is to get that product there on time. Therefore, you're seeing more of an airfreight pressure this year to get that product from manufacturing on time. And that's really the difference year-over-year if you look at sales discounts and allowances versus airfreight.

Kevin A. Plank

Michael, too, I would just want to give I think a callout to our team as well is that good companies even in tough quarters, they do what they said they're going to do. And this is I think a really good case of really the way our team came together is that when we do see challenges is that we make things happen. And more importantly, we do it the right way. And we're very, very proud of that. And it always begins with leadership. I mean, this quarter, what Jim Hardy has done and meant to our supply chain and coming in now here and just a under a shade -- under 6 months, has really jumped in. First and foremost, bought into the Under Armour culture in a way that is unique and then more importantly, leading the team. So we saw that. That was evident this quarter in the things that our team did to ensure that we got the product to our customers they're looking for. And the good news is that they're still hungry for a lot more. So we'll make that happen. The things we've done as well just building out our supply chain from a systems standpoint. We continue to sophisticate there with a great partner like SAP and building that out in some of the systems we're adding to our ERP system, and our planning system as well. Physically, we've added a new warehouse in Rialto, California that's just come online, it'll be nearly more than 1 million square feet that will give us more capability and servicing and getting our product from the Far East into the U.S. as well as we just continue to become more sophisticated there. Our factory base, building new relationships. 2012, we found ourselves really in this kind of Tweener phase where we're good, smaller company or becoming a bigger company and realizing that we frankly started outgrowing many of our suppliers. And so we initiated a lot of new relationships in the last 12 and 18 months. And frankly, those sometimes just take a little time. And factor that with a planning group that Brad has really championed and building out on our side. And with again, good senior leadership that we brought from Black & Decker and some other companies that really understand and are best-in-class at doing this. It just takes a little bit of time. That mantra of 7 years that I use, it's pretty defining for us celebrating our 7th year as a public company in November, 7 years in footwear and a few other things that you see a shift beginning to understand the cadence and becoming a little more professional. But first and foremost, we're going to have adversity. We're going have things where we get challenged. But I think we're very proud of our team that 10 straight quarters of 20-plus percent growth is demonstrative of the type of leadership we're putting in place. And the fact that we're getting -- we're not certainly -- we're not declaring victory. We don't have everything solved yet. But we sure are getting a lot better.

Michael Binetti - UBS Investment Bank, Research Division

Kevin, can I ask you quick follow up? Just on the 2013 initial guidance, you pointed to the retailers ordering now and will have a better look at how that year will go next year as you get through your bookings for next year. But we've seen all year these guys went through a rough winter last year than the spring was warmer than expected early on. We've seen the retailers ordering pretty close to what they were actually seeing on the floor at this time. Obviously, the weather is off to a slow start this fall. I mean, what's your sense as to how the early orders that you've seen, how your strategic partners are feeling about the year ahead? Do you feel that they're still ordering, looking at it right now and follow off to the slow start or how much conservatism do you feel like there is out there in the early orders that you are seeing at this point?

Brad Dickerson

So I think that begins with us being prudent the way that we approach the year in the same approach we took is we basically we weren't looking for any upside from a year ago. So I walked outside this morning. It's 65 degrees and you just watch people walking down the street in Bermuda shorts and you're going, "What's going on? It's late October." So the good news is we've had a couple of cold pops. And we when we see that, traditionally, we've seen over the last 17 years in business, business screams when we get it's 30 or 40 degrees outside and kids are running through their local sporting goods store and buying their ColdGear Mocks. But frankly, we've evolved as a company where we're not dependent on that anymore. So the way that we're approaching 2013 in general, it's again I think when we started to see this last year, we made a decision actually -- fortunate for us, a couple of years ago, we decided we no longer wanted to be weather-dependent as a company, but we wanted to become innovation dependent where we can control, we could be, we could define our space and not waiting for mother nature to get cold or anything else. So innovation for us is going to continue to be a focus and I'll take a second to tell you about 2013. We're going to continue to grow in the core categories like Men's, Women's, Youth apparel and then our direct consumer channel will continue to be a force for us as well. You're also going to see a continued expansion of key platforms that we have. Things like Charge Cottons and Storm Cotton giving the consumer reason to buy is that whether it's a long sleeve shirt or sleeve shirt, depending upon the weather, we've got an answer for them which is a best-in-class product whether it's a T-shirt that dries 5x faster than any T-shirt out there or it's a sweatshirt that frankly you can wear in a rainstorm. Those types of things where -- and again the category of Cotton as a whole, it will be roughly a $200 million business for us as we look in 2013. It didn't exist in 2009 for us. So we'll continue to do that. Take again Storm, which is the Storm Cotton product as well, it's another franchise. And to be clear, there's some crossover between Storm Cotton and just Storm as a finish. It'll be in much of our outerwear and a few other things. But that will be nearly a $200 million franchise for us as well. So again, these are technologies that we didn't have in our vernacular as recent as 24, 30 months ago. And the good news is that we've got an innovation pipeline with these things that are filled. And so our job as a brand is to edit, to make sure that we're picking the right technologies that are going to have the breadth and the bandwidth to be able to go and expand with the size of and scale of the size of the brand I think that we can become. We've got some great things coming with our baselayer business. Sonic HeatGear on the Women's side is something that's going to be great for us. And again, I can't emphasize enough expand these franchises. ColdBlack is in there as well but Storm and Spine on the footwear side that you're seeing as something began as a running shoe that this week we're launching Spine footwear in basketball that will start hitting retail this week as well. Taking franchises that we have like the Highlight net aesthetic [ph] which is something that's iconic again on the footwear side and translating that over into a training shoe. So I think the heightened focus that we have on newness and innovation means that we're going to begin to exit some of the -- we have the ability to evolve and move on. 2013, we're going to continue to position footwear with the results international for 2014 and beyond. It's great having leadership here on that side and we're going to keep rolling.


Our next question comes from Camilo Lyon of Canaccord Genuity.

Camilo R. Lyon - Canaccord Genuity, Research Division

So just going back to the inventory question. Do you feel that you guys have enough -- what's your ability to meet the auto-replenishment demand in the fourth quarter if weather does get colder? Given that your inventories are now down 2% and you had some supply chain challenges?

Kevin A. Plank

Yes, Camilo. Obviously, again, we're going to see a little bit of those challenges into Q4 also and that's why again we're going to lean a little bit on airfreight to make sure we can meet that demand. So, especially around seasonal product, I think that is where the need will be to get that seasonal product in on time. Specifically, around some of the product that Kevin was talking about outside of maybe our ColdGear mock product. When you look at auto replenishment, we tend to lean a little bit heavier in Q4 on auto-replenishment. And some of those areas that you do lean on are some of those areas that maybe are a little more weather-dependent. And coming out of last year's warm winter, I think the retailers obviously had some stock of that very cold weather-dependent product and we do, too. So I see less risk in the auto-replenishment sides. I think we're well positioned from the inventory perspective to satisfy that demand, that need if the weather behaves for us.

Camilo R. Lyon - Canaccord Genuity, Research Division

So that outlook on the source of upside from that part of the business doesn't sound like it changed? Is that correct?

Kevin A. Plank

Yes. From an outside perspective, I think you looked at the same thing that we talked about last quarter in Q4 and that, one, is weather; and two, is our e-commerce business. And we talked about taking a more moderate approach to our e-commerce business last quarter. We've seen some positive trends in the third quarter. But such a large volume of our e-commerce business is done the last 2 months of the year and we want to be careful how much we guide and anticipate the benefit to be much during the last 2 months. So we're still taking kind of a moderate view towards our e-commerce the last 2 months.


Our next question comes from Joseph Parkhill of Morgan Stanley.

Joseph Parkhill - Morgan Stanley, Research Division

I was wondering if you could talk about given the lower levels of excess inventories, how you're thinking about your outlet business next year. Will that impact sales at all? Are you planning to supplement that with more made-for-product and then maybe how that impacts your margins within this retail segment?

Brad Dickerson

Yes, good questions, Joseph. And obviously, the level of excess we have as a company, outlet's going to be a big part of the relief valve for that excess. So we talked this year a lot about leaning on our outlet business this year and that having obviously a negative impact to our gross margins. Because we're going to lean on them from an excess inventory perspective, especially in the back of the year, which we're doing right now. Obviously, creating a lot less excess units this year even more so than we had planned to create less. That does impact the business a little bit now with next year. So we've had to look at next year's business and know that we're going to lean a little bit more on the made-for side to fill in the gaps on outlet. There's good and bad to that. The good being obviously that gives us a good ability to control the products in the space and outlet. The challenge to that obviously is we have to make more products versus having the products here in the warehouse. So our teams are working on that right now. To your point, the result of that should be trying to get the right balance of made-for versus excess as we move throughout the year. The percentage of made-for should be higher next year versus this year and there should be a positive impact to gross margin next year on that also.

Joseph Parkhill - Morgan Stanley, Research Division

Just a big picture around footwear over the next several years. Do you think that footwear will outpace apparel growth in the next several years? And is there kind of a market share that you look for targeting or think that's achievable within the subcategories that you compete?

Kevin A. Plank

As Brad said the first one was a good question, that was a great question. So let me take a minute actually get into footwear for a second. Coming of the Spine, I think there's a lot of speculation of how do we feel about how we feel about our Spine launch. We made a big deal about its launch in New York City with Tom Brady and Lindsey Vonn, Kemba Walker. So we had I think a lot of excitement going into it. But we learned a lot too. This is really exciting for us because it's true, it's our first really commercial midsole technology that gives us a platform to build on. And so we want to be clear that where we're starting with Spine is not exactly where we're going to end up. And this isn't a -- we threw it against the wall and try it. But we're going to come back and we're going to commit and we're going to market and we're going to tell the story of what Spine is. And most importantly, you're going to watch the product evolve. You're going to watch the product evolve and continue to get sleeker, continue to do improved aesthetic, continue to become more conducive to what the athlete is looking for and we're starting to see that. So Spine 1 was a great learning experience for us. And what we have hitting retail so far is the update to that, which is actually Spine Storm playing into that Storm technology, of that water resistant capability frankly that makes any product Under Armour and that begins to hit retailers in December. It's something that's going to be really exciting for us. But you look at where we've come from going back to the 2009, 2010, when we said we are going to reset footwear. Our goal is to sell products above $100. So with Spine at that $100 price point, we're finding out what the consumer will pay for Under Armour footwear at $100 and coming back with Spine's [indiscernible] it will be $110 shoe as well. It plays into the Charge RC franchise. We really set the tone with at a $120 shoes. But having what we are -- what we have with Spine is something that gives us a great place to go. I want to reiterate that we are committed to the Spine platform. And again, what's exciting is that we also have Spine 2 is going to be coming in early spring of 2013 for us as well. There's an update to the upper and you'll see just again a few things refined in the midsole as well. But you'll see us continue to tell the story of giving the consumer something that they can expect in footwear from Under Armour to see on a consistent basis. I'm actually going to take liberty and I'm kind of going to go a little couple more aspects of footwear as well. But we're really pleased with where we are right now, particularly coming off the cleated side and I think I don't even give enough credit for our cleated business because everyone sort of relegates it to being a smaller category and not that large. But the fact is we're making great gains there and the authenticity and credibility that we're building there is something that we believe we can prove will help take us off court and into the large markets like running and training and other places where we can be successful. But we had great success in 2012 and particularly around football and baseball the on-field to the tune of roughly depending on who you talk to if you look back maybe 18 months Under Armour was in the 20s to mid-20 range in terms of market share. And today, depending on who you look at, we're in the 25% to 30% range. So we've made gains in a big way. And more importantly, we're just starting to hear it from our consumers or athletes is that the specificities they're looking for is our in-line product and is something that is good and qualified enough to be on an NFL field to the likes of Tom Brady or any of the stars that we have playing for us right now. And I'll take a minute for this, but I don't know if anybody watched the World Series last night. But we actually had 8 players in the game between both sides playing last night. And most importantly, on the Giant's side behind home plate with Buster Posey, who was the comeback player of the year in the National League, and for a second we also had the American League comeback player of the year Fernando Rodney of the Tampa Bay Rays, but Buster I think is one of the favorites for MVP. And with the big Under Armour logo behind home plate is something that made us very proud. But probably last night, not as proud as Pablo Sandoval, the big panda, as they call him, who hit 3 home runs in the game in the World Series, which is a pretty extraordinary thing and something we're really excited about. On the football side, the Cam Highlight cleat I think it was the most exciting product at retail this year at $130 a look that no one has ever seen before. Really defining for us and the [ph] product Nike that sold basically out by the end of July there was no product left in the market. So we're coming back and we're going to build on that in December with a couple of key partners with the Cam Highlight trainer that's going to launch in December at $150 and it's a product I think that again is going to continue to add texture that will be one of those reach and statement products that, A; we think we can sell with the pairs we're going to put out there." But more importantly, it's going to continue to help position Under Armour footwear for something bigger. And beyond that, innovation, newness as we think about 2013, we're not done with Spine, we're not done with the Highlight. There's a pipeline of midsole technologies, innovation in footwear and the committed team that we have working on it is pretty extraordinary. We have lots of athletes wearing and authenticating Under Armour right now. We have iconic-looking, premium-priced performance product, i.e. things like Highlight, et cetera. And we're committed to the franchises, things like Spine, we're committed to it for the long haul and you'll continue to see us cross-pollinate with things like the Storm flat platform as well. The start of that Spine franchise is playing out in basketball and, of course, we're going to continue to expand it in the $6 billion category of running. But I'll tell you there's more footwear innovation to come in 2013 as well. So you're walked into a loaded question with that one there so thank you for asking.


Our next question comes from John Zolidis of Buckingham Research.

John Zolidis - The Buckingham Research Group Incorporated

I was wondering if I can ask a little bit more about the department store launches. Can you talk about what products you put in the department stores, how it's gone so far? And in particular, if you think there's been any impact on either the DTC business or the traditional distribution channels with the sporting goods partners, and then kind of how do you see that evolving over time?

Kevin A. Plank

Yes, we've entered a little more than 500 new points of distribution year-to-date so throughout 2012. And so we've been pretty thoughtful and strategic as I mentioned about 300 Macy's, about 150 Dillard's. And beyond that, there's a few other key partners that we've had in there. But really, the story that we've led with a majority of these has been our underwear story on the Men's side, you've had a limited or maybe a little more than a limited display on our Women's product because again, just finding out the appropriate distribution for where women shop is part of what our goal is there. But we're still in the introductory phase. Take Macy's for instance. We've learned that prints and colors perform better than basics in things like underwear for us there. We're testing a few things like our tech fleece in November and a few of our basics. But golf I think is something that at least stylizes. It's something that gives an opportunity there, but Youth is something where again we're constantly struggling for Youth distribution and so the department stores give us good access there. And on the Men's side, we are pretty limited I think with the display that we have in Men's. For Dillard's as well it's led by underwear and boy's, much smaller assortment than girls, Women's and Men's. So we're really I think we're biding our time. We're making sure that we have success and that we have wins. We're making sure that it's appropriate and that it works and that the brand is relevant there. To the answer to the tune of how it affects any of our own stores or our known DTC, we haven't seen any cannibalization there. Our DTC today from a bricks-and-mortar standpoint is defined as 96 outlet stores today so there's not a lot of crossover with that. And we haven't seen any cannibalization of our -- more importantly, our core distribution. So we feel very, very good about it and I think, what you'll notice, with 38% growth in 2011, with 24% growth this quarter and where we're trailing for the year, we feel like we've got the 5 growth engines we were talking about since our roadshow, Men's apparel, Women's apparel, footwear, International, Direct-Consumer, we're very fortunate to have the ability to lean on any one of those when we need to. But to generate or drive more growth, we're not desperate for distribution and it gives us the ability to be selective with not only the partners that we choose, but then the assortments that we actually put in those partners as well. So we want to protect our current partners first and foremost.


Our next question comes from Mitch Kummetz of Robert W. Baird.

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

Brad, you talked about earlier, you talked about how ColdGear replenishment is heavier in the fourth quarter or replenishments in general that's heavier in the fourth quarter. Can you give us some sense as to what type of percentages in terms of your overall apparel business in Q4 like cold year replenishment?

Brad Dickerson

Just to give you some context to that, overall for the year, it's probably in the 25% to 30% range on replenishment. When you get into the fourth quarter, you're probably more in the 35% range for replenishment. So in general, it's definitely higher, but it's not significantly higher.

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

And can you remind us how that business performed last year in Q4? I assume it was not very strong?

Brad Dickerson

Yes, again there's a balance there in auto-replenishment, so it's not all cold weather-dependent product. Obviously, our cold weather-dependent product is going to be heavy in Q4 and also early Q1. But there's also some more versatile product in auto-replenishment also that wouldn't be cold weather-dependent. So there's a little bit of a balance in those numbers. So obviously when you look at last year's numbers in a warm weather environment our versatile product, our fleece product did very, very. While obviously, our cold weather-dependent product did not perform as well. So again in this environment, this year kind of the same balance. We're kind of forecasting and planning our business in the same weather environment as last year, so we would expect our versatile product, our less weather-dependent product to perform well and our cold weather-product would not perform well if the weather was warm.

Mitchel J. Kummetz - Robert W. Baird & Co. Incorporated, Research Division

Quickly, one last question. In terms of carryover inventory at retail, I mean you alluded to it in your comments you've talked about it before. Can you tell us what impact that's having in terms of how you're deliveries are flowing in the back half of the year did that put a little pressure on Q3 that maybe helps you a little bit in Q4? Or how should we be thinking about that?

Brad Dickerson

Yes, I think it's a good way to look at it. Obviously, when you see that cold weather kind of replenishment cycle start, that'll usually start in September. So from that perspective, if you carry inventory into this year from last year, you would expect the start of that cycle would be really servicing demand from that cycle would be from product you already have in stock. So to your point it definitely impacts the beginning of the cold weather auto-replenishment cycle, which that would be September, October time frame. For the most part, it's I think where you would see the most impact from the last year's weather and the inventory stock.

Kevin A. Plank

We have time for one more question.


And our final question comes from John Kernan of Cowen.

John D. Kernan - Cowen and Company, LLC, Research Division

Just wanted to -- wondering what you're planning in terms of international growth into 2013. What's embedded in your assumptions? And what you're learning about that soccer and European consumer following the launch of the Hotspur partnership last in the summer?

Kevin A. Plank

Yes, on the international front, Charlie's just getting here and what he's doing is, of course, doing a deep dive on what Under Armour is and what it looks like. With 90-plus percent of our business coming from North America today, first and foremost, we're going to protect that. We're going to drive it against that as well. But we see the opportunity abroad is extraordinary. It's led by the example of our business in Japan. First and foremost, those guys are going to do close to $200 million this year and we're looking at a business that'll grow of north of 30% to 40% as well looking at 2013. So we've got great upside and belief there. I talk about leadership because what we have in Japan is a guy named Shinji Kushiro [ph] who runs Dome Corporation, our partner there and he runs that company. There's 300 people or 400 people that they have at Dome today. They work for Shu [ph], they work for Under Armour and they believe in their mission. So we know how critical it is to get that right in the other regions that we have around the world. So finishing off Asia from what Shu's [ph] doing in Japan to appointing leadership in China as well will be the next thing is we're building out our office in Shanghai and really getting things going. So you'll see a little bit of shift in taking some people that understand the DNA and the way that things work at Under Armour here in Baltimore and how they can use that to their advantage of not feeling just an office in another city and halfway across the world. We've done frankly the same things in Europe. Charlie just got back and spent the last couple of weeks over in Europe and I met them actually last week and we went and saw the Spurs play Chelsea. And it didn't work out as well as we thought with the game. But I tell you having that partnership and being in that league and playing probably the best team in the world. And Chelsea is a really big deal. And I think we enjoyed it. And more importantly, they're good enough to win a game like that which just kind of the view and I guess a way to think about the way we look at Europe is that we believe we're good enough to win as well. It's just going to take a little bit of time and it's going to mean having the right leadership there. But the strength that we have in our growth drivers here it allows us to make these longer-term investments. I mean the Cotton deal is one that we are investing for the future is that we're exposing the Under Armour brand to a consumer that hasn't had any impact or hasn't seen us before. So being and just watching the activation around that stadium and people really getting to know and see Under Armour is pretty cool to happen. And more importantly, we realize it's still going to take a little bit of time. In Europe, we're still in investment mode. In Asia, I can say the success that we have in Japan is something that's profitable for us and working. In China we're still in investment mode and we're building there. And then frankly on a global stage we've got a couple of other places that are some really nice opportunities for us that are our making a difference that you wouldn't think about such as Latin America and places we've been investing for 3 or 4 and 5 years that are beginning to come back for us. So we've always talked about international being more of a 2014, 2015 story for us. We feel really good about that. Bringing in a pro who's seen the big movie like Charlie before is really going to help us. But of course, it's not one person. Charlie's also brought a team with him. And frankly we're giving him some of the best assets that we have in the company that will help him round out. We're doing it abroad as well. So I think it's going to start with logistically also. It's going to be important for us and so we need supply chain a few other things but we're going to use 2013 not as a reset, but we're going to drive, we think we can make great strides there but we're going to put ourselves in a position to be as we say the world's #1 athletic performance brand.

John Zolidis - The Buckingham Research Group Incorporated

Sounds great. And if you don't mind me squeezing one more question. The cash flow, performance this year is going to be up big given the improvements in working capital. Brad, how are you thinking about capital allocation next year CapEx and maybe additional uses of that cash?

Brad Dickerson

We're still rolling some ideas up around that right now, so we'll give you some more guidance on that as we get to our January earnings call. But obviously, cash flow for us is tied to inventory and the management of inventory. So when you see us be successful in managing inventory the benefits of that flow to the free cash flow metric. When you see challenges in inventory you see vice versa for us so cash for us right now is all about inventory. Our job is to put ourselves in the position to have cash on the balance sheet. It's important for us. It's important for us from a competitive perspective to position ourselves to have that strength in our balance sheet. So we want to manage inventory efficiently the best we can without the pendulum swinging too far. That will benefit our cash. And we think at this point in time, it's important for us to keep that cash in the balance sheet and or use it for appropriate investments to continue to drive growth in our long-term brand.

Kevin A. Plank

Thanks for joining us on the call today. We look forward to reporting you our fourth quarter fiscal results, which tentatively has been scheduled for Thursday, January 31 at 8:30 a.m. Eastern Time. Thanks again, and goodbye.


Ladies and gentlemen, this does conclude today's conference. You may now disconnect, and have a wonderful day.

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