Cherokee's (CHKE) CEO Henry Stupp on Q3 2017 Results - Earnings Call Transcript

| About: Cherokee Inc. (CHKE)

Cherokee Inc. (NASDAQ:CHKE)

Q3 2017 Results Earnings Conference Call

December 08, 2016, 08:30 AM ET

Executives

Patricia Nir - IR, Addo Communications

Jason Boling - Chief Financial Officer

Henry Stupp - Chief Executive Officer

Analysts

Nick Meyers - ROTH Capital Partners

Jeff Van Sinderen - B. Riley and Company

Operator

Greetings and welcome to Cherokee Inc. Third Quarter 2017 Earnings Conference Call. At this time, all participants are in listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host Ms. Patricia Nir, Vice President of Addo IR. Thank you. You may begin.

Patricia Nir

Thank you. Speaking today will be the company’s Chief Executive Officer, Henry Stupp; and Chief Financial Officer, Jason Boling. You can find accompanying slides for today’s call on Cherokee’s Investor Relations website.

Before I hand the call over to management, please note that on this call certain information presented contains forward-looking statements. Certain statements contained herein may contain forward-looking statements for purposes of the safe harbor provided by the Private Securities Litigation Reform Act of 1995. When used the words anticipates, believes, expects, may, should and similar expressions are intended to identify such forward-looking statements.

Forward-looking statements included in this conference call involve known and unknown risks and uncertainties that may cause the actual results, performance or achievements of the company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. A further list and description of these risks, uncertainties and other matters can be found in the company’s Annual Report on Form 10-K for the fiscal year 2016 and the company’s quarterly reports on Form 10-Q.

Given these risks and uncertainties, you should not place undue reliance on forward-looking statements as a prediction of actual results. The company disclaims any intent or obligation to update any of the forward-looking statements contained herein to reflect future events or developments.

Certain of the information in today’s call, including non-GAAP SG&A, non-GAAP operating income, EBITDA and non-GAAP net income may be considered non-GAAP financial measures. Management believes this information is useful to investors because it provides a basis for measuring the company’s available capital resources, the capital performance of its business and its cash flow, excluding expenses related to professional fees from legal and due diligence for actual and potential acquisitions and business developments related to the identification and establishment of new brand licensees that would normally be included in the most directly comparable measures calculated and presented in accordance with general accepted accounting principles GAAP.

In addition, the company’s management uses these non-GAAP financial measures along with the most directly comparable GAAP measure in evaluating the company’s operating performance, the capital resources, and cash flow. Non-GAAP financial measures should not be considered in isolation from or as a substitute for financial information presented in compliance with GAAP, and non-financial measures as reported by the company may not be comparable to similar titled amounts reported by other companies.

The non-GAAP measures described above and are reconciled to the corresponding GAAP measures in unaudited condensed consolidated financial statements included in the company’s earnings release under the heading GAAP to Non-GAAP Financial Metrics, which is posted on the company’s website, cherokeeglobalbrands.com.

And with that, I’ll hand the call over to Cherokee’s Chief Executive Officer, Henry Stupp.

Henry Stupp

Good morning, everyone, and thank you for joining us. Today I'll start with an overview of our acquisition of Hi-Tec Sports International Holdings, a global leader in the footwear market which we announced last week and are pleased to confirm we closed yesterday, December 7. Jason will then briefly walk you through our fiscal third quarter financial results and outlook for 2017 and fiscal 2018 and then I'll provide further detail about the operational highlights for our brands, including retailer and wholesaler updates before turning it over to Q&A.

So I'll start with Hi-Tec. Hi-Tec Sports International maintains distribution across multiple retail channels and manages a diverse portfolio of high equity brands, including its namesake Hi-Tec brand, in addition to Magnum, 50Peaks and its Interceptor brand. Currently Hi-Tec products are sold predominately under the Hi-Tec and Magnum brands in over 110 countries throughout the United Kingdom, Continental Europe, United States, Canada, South and Central America and Asia and are distributed through major retailers, independent distributors, licensees and direct to consumer by e-commerce in their own dot com platform.

In 2015 Hi-Tec's brand generated an estimated $288 million in worldwide wholesale sales. Cherokee global brands has established a solid track record of identifying brands with strong growth potential and we are excited and confident in our strategic decision to acquire this high equity brand portfolio and I am very pleased to share a few details with you about the value that the Hi-Tec, Magnum, 50Peaks and Interceptor brands brings to our portfolio.

Hi-Tec immediately enhances our leadership in key categories, including footwear, apparel, accessories and outdoor products, while driving long-term growth, and creating new revenue streams in numerous markets.

Upon closing, we immediately transitioned Hi-Tec from a wholesale business to a branded licensing model, while maintaining our global distribution partnerships, which will eliminate our inventory and manufacturing risk, while accelerating expansion opportunities into new markets and new product categories.

We have already executed license agreements for the core Hi-Tec, Magnum and related brands for the footwear category that will strengthen and expand our presence in United Kingdom, Continental Europe, United States, Canada and Africa with significant, experienced growth-oriented wholesale operating partner licensees.

In addition, we have entered a master license agreement for the United Kingdom and select countries in Continental Europe for apparel and accessories. These new licensees join our existing licensees for other European countries and separate license agreements for the Interceptor brand, which is sold exclusively at Walmart US and other territories including Africa.

Our existing platform of relationships and capabilities is key to our growth strategy as we intend to secure additional wholesale distribution and retail licensing partners for the Hi-Tec brands that allows to quickly expand into new categories and into new markets.

Working in tandem with Hi-Tec's exceptional senior management team, the sales, marketing and licensing integration process has been initiated and we currently estimate that it will take approximately 3 to 6 months to complete.

Throughout the integration process we will work alongside the Hi-Tec team and our new operating partner licensees to ensure a seamless transition at retail. Hi-Tec's existing people and processes will remain largely in place and existing Hi-Tec customers and distributors should experience no disruption to their business. In addition, we shall maintain existing distribution agreements for the core brands throughout the globe, including South and Central America, the Middle East and Asia.

In total, Hi-Tec expands a global retail base to over 110 countries and offers additional strategic wholesale and retail relationships that present attractive cross-selling opportunities between our existing brands such as Cherokee and Tony Hawk with the Hi-Tec brand portfolios, including rapid expansion into new categories and distribution channels. Hi-Tec's portfolio of high equity brands synergizes perfectly with our existing portfolio, while allowing us to further build our presence in the active, outdoor markets.

Currently Hi-Tec's core footwear portfolio is predominately sold in the athletic, active and outdoor retail space. Through new licensing partnerships we will be able to efficiently expand Hi-Tec's brands into additional categories, including apparel, accessories, wearables, outdoor products and more.

Beyond our licensee efforts, our 360º capabilities platform is a powerful brand accelerator and a key differentiator that enables our licensing partners to expand wholesale retail relationships and enter markets more quickly than ever before. We are excited about deploying these resources behind new growth opportunities with Hi-Tec's brands to ensure that they realize their full global potential.

Our combined strengths will position Cherokee Global Brands to further expand our vision, agility and scale across the globe and in multiple channels, categories and formats. Platform and portfolio synergies are central to all of our acquisitions and Hi-Tec will support both in very powerful ways. So these are just a few initial highlights of the great things we are looking forward to through this important acquisition. And we know there will be many more to come.

In a minute, Jason will review the economics of the transaction in greater detail, including the international tax advantages associated with our new Netherlands-based operations, but I'll highlight the favorable economics. We expect Hi-Tec will contribute approximately $19 million of revenue and $7 million of adjusted EBITDA respectively in the first full fiscal year post-acquisition.

As detailed in the press release, the transaction was funded through a combination of cash on hand, debt, equity and proceeds received from the sale of assets and prepayment of minimum royalty guarantees, maintaining a healthy, relatively unlevered balance sheet and a healthy capital structure is of utmost importance to Cherokee Global Brands and we believe we funded the transaction in accordance with these objectives.

Through the equity offering, we not only grew our relationships with several of our existing shareholders, we also diversified our shareholder base, enabled us to accomplish another important objective and that is increasing shareholder liquidity.

As a result of the transaction we have provided updated annual guidance for fiscal year 2017 for our existing business and fiscal year 2018 for the combined Cherokee Global Brands and Hi-Tec businesses. Jason will cover our outlook in greater detail momentarily.

It's worth emphasizing that post-Hi-Tec, Cherokee Global Brands will be more diversified than ever before, across geographies, retailers, brands and product categories. Performance in fiscal 2018 will be more balanced across each of these facets and we expect to see strong contributions from both our organic and acquired growth initiatives.

Including Hi-Tec, over the last five years, we have grown from approximately 20 countries to over 110 from approximately 5000 doors to over 12,000, plus of course an ever-expanding e-commerce business. As is evident, we are excited about the future of Cherokee Global Brands. I'll be back to talk about our brand performance in greater detail. But first, I'll turn the call over to Jason to discuss our fiscal 2017 third quarter financial results in greater detail. Jason?

Jason Boling

Thank you, Henry. And good morning, everyone. I'll start today's discussion with a recap of our third quarter and nine month financial results, followed by a review with the financial impacts of the Hi-Tec acquisition. I will then elaborate on our recently issued outlook for fiscal 2017 and fiscal 2018.

Turning to our results for the third quarter and first nine months of fiscal 2017. GAAP revenues for the third quarter were $6.5 million compared with $8.1 million in the prior-year period. This decrease is largely due to the expected decrease in North America revenues relating to the Cherokee Brand as we continue to transition away from Target and to our new wholesale licensees.

During the quarter, some of the decrease was offset by revenue increases globally, particularly in South America, India, the Middle East, South Africa and Asia as the demand for Cherokee brand products continues to grow.

We recognized an additional $272,000 of revenues over prior year's quarter relating to the acquisition of the franchise Flip Flop Shops. During the third fiscal quarter, we also recognized revenue from the launch of our Tony Hawk signature collection at Walmart Canada.

For the nine-month period of fiscal 2017, GAAP revenues were $25.6 million compared to $26.8 million in the prior year period. Revenues were not materially affected by devaluations in foreign currencies. Cherokee-brand royalties earned by Target during the nine-month period were $9.4 million, a decrease of $3.1 million over the same prior year period. With an annual minimum guarantee of $10.5 million, we expect the balance of $1.1 million will be recorded during the fourth quarter of fiscal 2017.

Furthermore, we anticipate that we will also begin to record our first revenues in the fourth quarter of fiscal 2017 from our new wholesale license agreements with domestic licensees for Cherokee branded products, with deliveries to retailers occurring during the last portion of the fourth quarter and product sales commencing in early fiscal 2018.

GAAP selling, general and administrative expenses were $7.7 million compared to $5.6 million in the prior-year period. The increase in SG&A was primarily related to an increase in professional fees from legal and due diligence expenses associated with the Hi-Tec acquisition. Our 10-Q filing, which will be filed later today, includes details relating to these expenses. SG&A expenses for the nine-month period totaled $20 million, compared with $15.4 million in the prior year period.

As we've noted throughout fiscal year, our SG&A expenses have been elevated relative to historical periods as a result of our increased business development activities, while we expect to see reduced business development expenses starting next year, following the closing of the Hi-Tec acquisition from the fourth fiscal quarter, we do expect increased integration costs throughout fiscal 2018. As Henry noted, we expect the sales, marketing and licensing integration to take between 3 to 6 months to complete, with no disruption to our customers and distributors.

Non-GAAP SG&A, which excludes the aforementioned legal and professional due diligence fees totaled $5.3 million for the third quarter. This compares to $5 million in the prior-year period. For the nine-month period, non-GAAP SG&A totaled $16.2 million compared to $14.6 million in the prior-year period.

For the third quarter GAAP operating loss was $1.2 million, compared to operating income of $2.5 million in the prior-year period. Operating income for the nine-month period totaled $5.6 million, compared with $11.4 million in the prior year period.

Non-GAAP operating income, excluding the aforementioned fees totaled $1.2 million for the third quarter of fiscal 2017. This compares to $3.1 million in the prior year period. For the nine month period, non-GAAP operating income totaled $9.4 million compared to $12.2 million in the prior year period.

GAAP net loss totaled $900,000, or a loss of $0.10 per diluted share, compared to GAAP net income of $1.6 million, or $0.17 per diluted share in the prior-year period. For the nine-month period, GAAP net income totaled $3.2 million, or $0.37 per diluted share. This compares to $7 million or $0.79 per diluted share in the prior-year period.

Excluding the legal and professional due diligence fees, non-GAAP net income totaled $700,000 or $0.08 per diluted share. This compares to $2 million or $0.22 per diluted share in the prior-year period.

For the nine-month period, non-GAAP net income totaled $5.6 million or $0.64 per diluted share. This compares to $7.6 million or $0.85 per diluted share in the prior-year period. Non-GAAP EBITDA for the third quarter totaled $1.6 million, as compared to $3.4 million in the prior year period.

For the nine-month period, non-GAAP EBITDA totaled $10.5 million from $13.2 million in the prior-year period. We recorded a tax benefit of $489,000 in the third quarter. This compares to a tax provision of $800,000 or an effective tax rate of 34.2% in the prior-year period.

At October 29, 2016, our cash and cash equivalents were $7.5 million, compared to $6.5 million at January 30, 2016. Net debt for the quarter was $9.7 million and our leverage ratio was 1.9 times for the trailing 12 month period. Cash flow from operations for the nine-month period was $8.6 million compared to $8.8 million in the prior-year period.

I'll now turn to the Hi-Tec acquisition. As Henry mentioned earlier, subsequent to quarter end, we entered into a definitive agreement to acquire all issued and outstanding share capital of Hi-Tec Sports International Holdings for an aggregate cash purchase price of approximately $94 million on a cash free debt-free basis, based upon normalized working capital.

Upon closing of the transaction which occurred on December 7, we have sold substantially all the operating assets related to the Hi-Tec's wholesale operations to new operating and licensing partners with the proceeds of approximately $28 million funding a portion of the Hi-Tec acquisition purchase price. Net of these proceeds and other post-closing adjustments of $4.9 million, we expect that the value paid for the Hi-Tec intellectual property assets to be approximately $61.1 million.

We are performing the full accounting valuation work necessary to appropriately value the Hi-Tec intellectual property assets in relation to authoritative accounting guidance and expect to provide that information with our next 10-K filing.

We estimate sales and adjusted EBITDA from Hi-Tec in the first full fiscal year of approximately $19 million and $7 million respectively, which translates to an acquisition multiple of approximately 3.2 times revenue and 8.7 times EBITDA using estimated value of the IT purchased above.

In addition, our new Hi-Tec licensing partners have $5.5 million in annual minimum guaranteed royalties each year for the first five years post acquisition, which equates to over $27 million. We have funded the purchase of the Hi-Tec acquisition through cash on hand, proceeds from the sale of assets, the prepayment of the first year of guaranteed minimum royalties under license agreements with certain operating partners and distributors of Hi-Tec, net proceeds of a public offering of the company's common stock, proceeds from a new credit facility with Cerberus, and proceeds from a receivables funding loan extended by one of the company's directors, each of which is described more fully in the form 10-Q which will be filed later today.

Importantly, Hi-Tec builds upon our track record of highly strategic and disciplined acquisitions. Historically, we have avoided high levered deals at unattractive multiples and Hi-Tec is no different. Post transaction, we are pleased with our capital structure, we evaluated many different financing alternatives and decided to keep our debt to EBITDA ratio low, while also increasing our liquidity.

Importantly, we believe we have the financial flexibility and cash flow to continue to invest in our growth initiatives. From a strategic perspective, we furthered our goal of diversifying our revenue streams across product categories, points of distribution and geographies.

Now let's discuss our guidance for the fiscal 2017 year. It is important to note that the guidance does not include any potential impact of the Hi-Tec acquisition for the remainder of this fiscal year or the additional shares issued relating to the equity raise. In addition, these measures of the EBITDA and EPS are presented on a non-GAAP basis as they exclude any transaction and integration costs associated with the Hi-Tec acquisition.

As outlined in our earnings release, we are currently expecting the following for fiscal 2017. Revenues are anticipated to be approximately $32 million, non-GAAP EBITDA is approximately - is anticipated to be approximately $12.5 million, non-GAAP EPS is anticipated to be approximately $0.76.

Reflecting our full-year 2017 revenue guidance is organic growth in our Tony Hawk brand, increased international licensing revenues for the Cherokee brand and the revenue contribution from Flip Flop Shops which we are expected to be offset by the anticipated decline in royalty revenues from the Cherokee brand, as we transition to our US wholesale partners.

As outlined previously, our fiscal 2017 guidance reflects the recognition of annual minimum guarantees from Target, which equates to a year-over-year decline of approximately $4.4 million.

Turning our attention now to fiscal 201, it is important to note that the guidance does include the impact of the Hi-Tec acquisition for this fiscal year. Once again, the measure of EBIT DA is presented on a non-GAAP basis, as they exclude any transaction and integration costs associated with the Hi-Tec acquisition.

With that said, we currently expect the following for fiscal 2018, revenues are anticipated to be in the range of $49 million to $50 million, non-GAAP EBITDA is anticipated to be in the range of $19 million to $20 million.

As highlighted, Hi-Tec is expected to contribute approximately $19 million in revenue and $7 million in adjusted EBIT DA for the first full fiscal year post close. We also believe there will be a significant tax benefit to having the licensing business headquartered in the Netherlands, with the statutory corporate tax rate of approximately 25%. This should reduce our consolidated effective tax rate going forward.

Also reducing tax rate, we have acquired as part of the transaction approximately $40 million of Netherlands tax benefits relating to the amortization of intangibles previously transferred to the Netherlands. As such, we expect a consolidated effective tax rate in the mid-20s.

We have historically discussed transitioning to an international tax structure and have found setting this structure out to be costlier than the immediate benefits, but with this acquisition, we are well-positioned to transition from existing some IP rights to the Netherlands to further benefit from lower corporate tax rates. After the issuance of 4.2 million shares, which includes the exercise of the underwriter option relating to our secondary offering, we now have 12,951,284 shares outstanding.

Thank you for your time. I will now turn the call back over to Henry.

Henry Stupp

Thank you, Jason. Last September, we begin to outline our plans for the future growth and development of our Cherokee, Tony Hawk, Flip Flop Shops, Everyday California and Point Cove brand. I'll start with our namesake Cherokee brand in the US, where we work hand-in-hand with our licensing partners to secure retail distribution.

I am pleased to report that we've made wonderful progress in identifying key retailer partnerships, including a focus on digital commerce with Amazon, especial distribution with retailers such as Babies R Us, Buy Buy Baby, regional partnerships with retailers such as Bell's and a focus on national, regional grocery, including the very respected Meyers operation and Grand Rapids, plus the operation club channels. As a result, we will achieve our goal of watching an 800 to 1200 doors during fiscal 2018.

Cherokee Global Brands has a lot of experience introducing general and merchandise into the grocery channel. Domestically there is a big push for grocery retailers to broaden their product offerings to include higher-margin categories such as apparel and accessories to further engage consumers and cultivate royalty. This is a global trend that began with hyper markets in Europe, Canada, South America and now Asia.

We initiated the broadening of our distribution years ago, starting with Tesco and more recently we have experienced much success with Comercial Mexicana, which following their recent merger was Soriana Mexicana will grow our footprint from just over 100 stores to as many as 600 locations in the next 1 to 2 years.

Total Falabella in South America and our recent introductions into Ahold Albert Stores in Czech Republic are a few more examples of the success within the grocery channel. Demand for Cherokee product is building, as we move from our legacy partner into new channels and look forward to building on Cherokee's reputation as an authentic, high quality, affordable, iconic lifestyle brand across the categories consumers care about most.

Through a growing licensee base, we envision a future in which the most comprehensive assortment of Cherokee branded products is available to Cherokee loving consumers across the US and internationally, as our domestic base and collaboration with our account management team is securing placement for more product in many more global markets.

As part of our strategic growth plan for Cherokee, we'll also be creating capsule collections and customized merchandising programs for specific retailers that offer a limited product collection aimed at raising the overall profile of the brand. These and many other new initiatives will support ongoing awareness, affinity [ph] and brand penetration for Cherokee.

Turning our attention to Canada, we continue to monitor the performance at Sears Canada, while performance is clearly trending softer than we had hoped, we will continue to work closely with Sears to optimize Cherokee brand performance during the most recent management transitions.

Based on her channel checks, enthusiasm for the brand remains very strong in Canada. So we are evaluating all options to ensure the Cherokee business reaches its full potential and its very important market.

At Comercial Mexicana in Mexico, our year-to-date fiscal 2017 retail sales increased approximately 5.6% and we expect as mentioned earlier store count to increase from just over 100 doors to approximately 600 doors over the next two years.

In South America with our partners, Tottus and Falabella, retail sales year-to-date increased 22% in Chile and 7.8% in Peru in local currencies. Central and South America are growing regions for retailers and for the Cherokee brand in particular and we're excited to further our presence in these territories.

Along these lines, we're in advanced discussions with the largest general merchandise retailer in Central America to distribute the Cherokee brand and look forward to making additional details available in the very near future.

In Central Europe, we remain very pleased with the performance of Cherokee branded Ahold Albert Stores where falling Albert's Black Friday promotion customer traffic increase threefold and retail sales of Cherokee product more than doubled. With regards Argos in the UK, now that the merger has been completed we have met with Sainsbury's executives to explore expanding our relationships through their brick-and-mortar locations. At this time, we are in early discussions and we will share updated details as our conversations progress.

And in Asia, we continue to be very pleased with the growth of Cherokee brand with our partners in Japan and Nishimatsuya where sales grew an additional 12% in India at unlimited stores which a year-over-year increase of 43%, and in South Africa Pick N Pay where sales of Cherokee branded products grew 22% year-over-year in US currency. Overall, we continue to be very pleased with the growing consumer awareness and demand for Cherokee's iconic lifestyle products across the globe.

I'll now turn to our Tony Hawk brand, where we continue to see exciting results, particularly in growing our global reach. The Tony Hawk brand is continuing to pick up steam in Canada, Latin America, the United Kingdom and Continental Europe. Starting with Walmart Canada, we are very pleased with the performance of Tony Hawk following the mid-August lunch, retail sell-through continues to be strong and in many categories is outperformed initial expectations.

Walmart tells us that the product is selling briskly and we are working closely with them to meet the demand, optimize future assortments and plan new category introductions. Together we are exploring many new ways to expand the breadth of Tony Hawk products and to ensure that the Canadian consumers enjoy unprecedented access to the full Tony Hawk brand experience.

Walmart is another example of retail partners that is leveraging our 360° platform and we are thrilled to be building our relationship with them in new international markets. In fact, today I am pleased to announce new license agreements with Walmart Argentina and Walmart Chile for the Tony Hawk brand.

The South American launch for Tony Hawk is planned for spring and summer 2017 and will feature comprehensive boys and young men's apparel, accessories and footwear assortment. With approximately 460 retail locations, Walmart Argentina and Walmart Chile represents a significant opportunity to further expand the Tony Hawk brand into two high growth markets.

In addition, we are now in discussions regarding new partnerships for Tony Hawk in Asia. We are particularly excited about opportunities in both Japan and China with the skateboard culture sliding, especially as we move towards the 2020 Olympics in Japan, where skateboarding will be introduced as a new metal sport. The theme of global expense with Tony Hawk brand continues with the signing of a new licensee for Continental Europe.

Based in Leicester, Fashion UK is an established apparel company with a focus on license merchandise. It is set up to supply multi-product categories across Continental Europe in the UK with a strong focus on product design, quality and of course speed to market.

With over 19 years of experience, Fashion UK has considerable knowledge and contacts throughout Europe and is known for being apparel specialists in the boys, girls, ladies and men's categories from a full range of sportswear, to socks, underwear, and of course nightwear.

The initial focus for the Tony Hawk brand will be featured in over 900 CNA stores throughout Germany, France, Belgium, Luxembourg and the Netherlands, with an option to extend into other CAN territories. This new licensee builds upon our presence in the UK with Sports Direct.

As we noted in our last call, Sports Direct remains an important partner for building our presence and distribution in the UK, product sell-through continues to track positively and we recently extended turnover licensing contract and expand the scope of our product assortment, especially in their brick-and-mortar stores.

Now back to our US business for Hawk. Despite the challenges facing Kohl's and broader mid tier retail in general, consumer demand for the Tony Hawk brand is very strong in the United States and we fully plan to expand into additional avenues into in the US, including expansion into new channels, particular specialty retail and additional product categories where we believe the brand has been underrepresented.

I will now turn to the performance of Flip Flop Shops, where since our last call we have refined the business model and expanded our global retail partnerships, we are advancing our multi-format and business model growth plans. Today we're excited to announce that we've entered into a letter of intent for master franchise agreements with Australian based The Product Group to expand Flip Flop Shops into two strategically important markets, Australia and New Zealand, with a focus on travel and destination retail.

The agreement calls for the establishment development of at least 30 new shops throughout Australia and New Zealand, including key locations in Sydney, Melbourne, the Gold Coast, all major airports and extend the brand's footprint to over 156 franchise locations worldwide.

The new Flip Flop Shop locations will begin opening spring of 2017 and will be developed throughout the region of the next 10 years. This is one of several new ventures that we've undertaken with Flip Flop Shops and is a true testament to global opportunity for the Flip Flop Shops brand and model as our strategic growth plan comes to fruition.

We are especially pleased to partner with the product group, who has a well-established track record in the region. Australia and New Zealand are important markets globally for casual footwear and we were determined to bring our unique offering to the strategically important region.

New format growth has been central to our strategic plan for Flip Flop Shops right from the beginning, so we are equally excited to report that we've identified several larger scale shop programs for the US market that are combination of freestanding stores, super kiosk and shop in shops especially to retailers.

As an update on our channel expansion loyal [ph] plans, flipflopshops.com, our first venture into a wholly owned e-commerce platform is set to launch next week with plans to offer a limited product assortment and then expanding it over time as we gain additional insight. Flipflopshops.com provides a great opportunity to get closer to our customers and to support our valued franchisees.

We have created a unique model in which Cherokee Global Brands will share the gross profit of sales and flipflopshops.com with our franchisees and we're excited about the potential for them to grow with us in the digital space and to synergize Flip Flop Shops traditional brick-and-mortar business.

As I've noted in past calls, Flip Flop Shops is an important platform for scaling our portfolio of fashion and lifestyle brands. And I'm happy to share an important update on this front. A full assortment of Everyday California branded products is set to debut Flip Flops Hops the spring. This represents the first as many opportunities that we will explore to synergize our portfolio, in this case expanding one of our own brands into Flip Flop Shop locations.

In other Everyday California expansion news, we're in discussion will licensing partners to extend the brand into additional new product categories, including wearables, electronics and skincare products. We expect to announce more in this early next year. But in general, we are excited by the opportunity to leverage our growing licensee base to expand outside of traditional categories.

Around the other brand discussion, we continue to build upon our relationship with Reliance trends in India for our Point Cove brand, with an upcoming e-commerce launch scheduled for spring 2017. E-commerce is one of the fastest growing platforms in India and on a year-over-year basis sales were up 200% driven by an increased focus on older girls and boys apparel.

We're also excited to be in discussions with several retail and wholesale partners regarding future opportunities to bring the Point Cove brand to the US and other global markets.

In summary, we'll make a meaningful progress against our strategic goals of diversifying our brand portfolio and growing our global points of distribution. We are driving organic growth with our brands at a time when retail is moving faster as never before and operating with unprecedented complexity. Retailers today are having to do more than ever before, but with far fewer resources. They are having to make ongoing investments in technology, digital supply chain upgrades even as they reinvent their brick-and-mortar locations.

They simply cannot do all the heavy listening, nor do they want to and that will continue to work to our advantage. Now more than ever retailers need the vision, agility and scale that we deliver through our high equity brands and our powerful platform of capabilities. Retailers count on our brand vision to bring excitement and relevance to the customers, they depend on the agility of our platform to quickly seize opportunities and ramp up programs in record time. And they love the scalability of our brands, and how they are relevant in multiple categories, how they translate globally and across innumerable digital and physical touch points.

In short, everything we do is guided from the retailer’s point of view. Our mantra, think like a retailer has served us well and will continue to do so as we identify and integrate new partnerships and as we expand into new channels, new categories and new formats.

In closing, we're excited about the direction of Cherokee Global Brands. We're confident in our strategies and believe that a global operating platform and strong portfolio of brands will drive robust top-line growth in fiscal 2018. We look forward to executing on our organic initiatives and further strategic acquisitions in order to deliver strong growth and value to our shareholders for the quarters and years to come.

Thank you all for listening this afternoon, for your continued support. And with that, we'll open up the call for questions. Operator?

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] Our first question comes from the line of Dave King with ROTH Capital Partners. Please proceed with your question.

Nick Meyers

Good afternoon, guys. This is Nick Meyers on for Dave King. How are you doing?

Henry Stupp

Good. Good morning.

Jason Boling

Good morning.

Nick Meyers

Good morning. Yes, first of Hi-Tec. So between the various growth drivers for the brand, I think it’s including international gains, category expansion and growth into the domestic mass retail channel. What do you see as the biggest near-term opportunity and which of these is included in the $19 million of revenue you guided to?

Jason Boling

Well, the category expansion we intend to introduce a very small capsule going into the Q4 of fiscal '18, really the focus for the upcoming year is to continue to introduce the current product portfolio into new markets the Cherokee Global Brands already services and then to ensure a successful transition to the new operating partner licensees.

The future of the brand, especially as we move in fiscal '19 will be the introduction of new categories for the full family and that will include apparel, accessories, wearables and outdoor products. That will apply not only to the Hi-Tec brand, but to the other brands in the portfolio, including Magnum, 50Peaks and the Interceptor brand, which is sold at Walmart in the United States and several other territories around the world.

Nick Meyers

All right, perfect. Good color. Thank you. And then on in the 37% EBITDA margin you guided to is below your legacy rate, what's the amount of incremental investment you are expecting for Hi-Tec and do you see the margins on the business – and where do you see the margins on business going over the next couple of years?

Jason Boling

Yes, we baked into the first year, you know, certain transition costs and infrastructure cost to make sure that we set the table for the future category introductions. So traditionally we expect their margins to grow in the next couple of years into mid-40s. Over time, we do see our operating margins grow for each of our brands and that's before we calculate into the synergy opportunities with respect to having a European based operation and how we could service our partners better in Europe using the leveraging facility in Amsterdam and then conversely having an operation here in the United States that can help support all of our domestic licensee. So we do believe that margins would grow. It’s generally being our track record.

Nick Meyers

All right, perfect. Thank you. All right and then lastly, it sound like Hi-Tec should generates some meaningful tax advantages from keeping IP overseas, I know you mentioned already, but how should we be thinking about the blended tax rate for fiscal '18, and what are the implications for amortization?

Jason Boling

Yes, so the blended tax rate we're talking about is going to be in the mid-20s and that's largely due to the fact that the corporate tax rate in the Netherlands is a about 25% and then we have the IP amortization which was part of the acquisition, which allows us to further reduce our effective tax rate in the Netherlands.

Nick Meyers

Okay, perfect. Thank you. I'll step back for now. And good luck for the rest of the year.

Jason Boling

Thank you.

Henry Stupp

Thank you.

Operator

Thank you. [Operator Instructions] Our next question comes from the line of Jeff Van Sinderen with B. Riley and Company. Please proceed with your question.

Jeff Van Sinderen

Good morning and let me add my congratulations on the Hi-Tec acquisition.

Jason Boling

Thank you.

Henry Stupp

Thank you. Jeff.

Jeff Van Sinderen

Look, I know you guys spoke a lot in your prepared comments, but just a couple of points of clarification, given that you've been working on the Hi-Tec acquisition I think for a while and you've gotten to know that business a little bit, maybe you can speak a little bit more about which opportunities for growth at Hi-Tec you think hold the most promise longer-term, I know you spoke about getting into apparel and accessories that kind of thing, maybe you can touch on that.

And maybe you can give us, I guess your early sense of which opportunities you think are likely to bear fruit first with Hi-Tec? And then any sense of that you can give us about the royalty rates for Hi-Tec if those are sort of industry-standard and if there is anything we should be aware of there, that would be a good place to start? Thanks.

Henry Stupp

All right. So, let's start first by talking about category expansion. We have already secured a broad United Kingdom, Continental European licensee for the apparel and accessory category. We'll be announcing our strategic operating partner licensees early next week.

That company has a lot of experience with some exception well-known brands not only for distribution throughout Europe, Middle East and Africa, but is also global supplier to the world for several well-known brands.

So we've already been working behind the scenes to develop the infrastructure, the design direction, not only for the Hi-Tec, but also for the Magnum brands and we will then be able to leverage that design infrastructure similar to how we work with our 360° model with other licensees that we've already identified and we've initiated discussions with both domestically and internationally.

No surprise to us, but as soon as the announcement was made we started to receive inbound calls from existing partners that we have globally and domestically, but also from new large-scale manufacturers who were interested in getting into this high-growth category, the active outdoor.

We like to say internally that walking is a new running and it's very democratic and it works for the whole family. So we're very excited about the full family category expansion opportunities associated with it.

As a result of that, answering your question, the introduction of these new categories will naturally drive increased distribution from the footwear, which is today heavily concentrated on sports specialty and specialty channel. The broadening of the categories will allow us to introduce Hi-Tec, footwear, and the full family offering into broader retail channels and that's something that we had done the work on behind-the-scenes prior to the acquisition and that’s something that we're most excited about.

From the royalty rate standpoint, it's very consistent with the rates that we've been working on with our Cherokee brand. They are you know in the - we haven’t disclosed the rates, but they are in the mid to high single digit rates on a wholesale basis and we are very pleased with the - obviously significant financial support that we've garnered upfront from the new operating partner licensees that have already signed on.

Jeff Van Sinderen

Okay. Good. That’s really helpful. And then because I know you guys have given guidance for next year. Anything else you can help us with as far as some of the assumptions that are baked into that for next year.

I guess in other words what I'm trying to get is a sense you know what you baked in for the legacy brands, obviously there is a lot of moving parts I understand that, so you may not want to speak too much about that.

But - and then also do you plan to give quarterly guidance or should we assume that you'll pretty much be on track to give annual guidance going forward as the year unfolds. And then anything you can give us on what adjustments to EBITDA are baked into the Hi-Tec? I know obviously you have transitional things and integration things, but anything you can give us that’s baked into that 7 million figure? Thanks.

Jason Boling

All right. So at present we don’t plan on giving quarterly guidance, we plan on giving annual guidance. We plan to take the next 6 to 12 months to completely integrate the new opportunities with our existing platform and we very much look forward as a company to going back to straight GAAP reporting.

I think historically you know that we would prefer to report in GAAP numbers. However, listening to the street and some of our larger shareholders we felt that it was important through an acquisition cycle like the one we just concluded that we do break down the one-time costs, particularly with respect to the significant costs that we incurred while we went through the integration and the acquisition of Hi-Tec.

In terms of the Cherokee business, we - at this stage we've given our high level guidance and specifically with request to the Hi-Tec business and I mentioned earlier in one of the remarks, we have baked in transition costs and infrastructure build out to ensure that we set the table correctly for the future.

So we are comfortable with our guidance, it’s the first time as you know that we've issued guidance and we will update any material changes as the year progresses.

Jeff Van Sinderen

Okay. Thank for that. And best of luck of holiday.

Jason Boling

Thank you very much, Jeff.

Henry Stupp

Thanks, Jeff.

Operator

Thank you. Mr. Stupp – I am sorry…

Henry Stupp

Yes, I just want to thank everyone for their support. Our team is working very hard. I do want to complement the exceptional management team at Hi-Tec. I believe on behalf of our team at Cherokee Global Brands, the first step for us when reviewing an acquisition opportunity is to get to know the management team and our decision was driven largely by the exceptional team that's in place. There's a lot of very young, intelligent management that are going to bring a lot to the Cherokee brand portfolio. We have a lot to learn from them and we are very excited to work with Ed and Martin and the entire team over at Hi-Tec. We couldn't be happier with the relationship that’s been forged over the last 18 months as we got to know each other and look very forward to a bright future. On that note, I'd like to wish everybody a very Happy Holiday and look forward to speaking in the New Year.

Operator

Thank you. This concludes the teleconference. You may disconnect your lines at this time. Thank you for your participation.

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