Deckers Outdoor: High Sheepskin Costs Make This Company Cheap

| About: Deckers Outdoor (DECK)
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Shares of Deckers Outdoor (DECK) fell an incredible 16.9% in Friday's trading session after the designer and marketer of footwear, apparel and accessories, known primarily from the UGG shoes, reported its third quarter results.

Third Quarter Results

Deckers Outdoor reported third quarter revenues of $376.4 million, down 9.2% on the year. Gross margins fell by 670 basis points to 42.3% for the past quarter, on the back of higher sheepskin costs.

Net income fell from $62.3 million last year to $43.1 million in the third quarter of this year. Diluted earnings per share fell from $1.59 per share to $1.18 per share. On average, analysts expected the company to earn $1.05 per share.

The company repurchased 1.83 million shares during the quarter, for a total consideration of $84.7 million. So far in 2012, Deckers Outdoor has repurchased for $184.7 million of its own shares, leaving another $115.3 million under its current authorization.

CEO and Chairman Angel Martinez commented on the results,

Over the past two years, we have raised prices on selective key styles to help mitigate the impact of an 80% increase in our sheepskin and raw material costs over this same period. We believe that these selective price increases, particularly during a period of one of the warmest years on record, has pushed us above the consumers' price-value expectations for the UGG brand.

Segmental Information

UGG Brand

Net sales for the UGG brand fell 11.6% to $332.8 million. The decrease in sales was driven by lower domestic and international sales. Same store sales declines were partially offset by an increase in new retail store openings and eCommerce sales.

Teva Brand

Net sales for the division rose 22.1% to $17.9 million. Sales increases were driven by an increase in international distributor sales and the launch of the brand in Japan.

Sanuk Brand

Net sales for Sanuk rose 17.6% to $18.3 million. Sales growth was driven by domestic wholesale and eCommerce sales.


For the full year of 2012, Deckers expects to increase annual sales by some 5%. This implies full year revenues of $1.45 billion. Earlier, the company guided for 14% full year revenue growth which implied full year sales of $1.57 billion. The guidance assumes that fourth quarter revenues are expected to come in around $653 million, up 6% on the year.

Full year diluted earnings per share are expected to fall 33% to levels around $3.40 per share. Earlier, the company guided for a 9-10% decline in earnings per share, compared to 2011s annual earnings of $5.07 per share. Fourth quarter earnings per share are expected to come in around $2.60 per share, down 14% on the year. Previously, Deckers guided for a 22% increase in fourth quarter profits.

Full year gross margins are expected to fall some 430 basis points driven by higher sheepskin costs and lower European margins.


Deckers Outdoor ended the third quarter with $61.6 million in cash and equivalents. The company operates with $332.9 million in short and long term debt, for a net debt position of $272 million.

For the first nine months of 2012, Deckers Outdoor generated revenues of $797.1 million. The company net earned $31.0 million, or $0.81 per diluted share.

The market currently values Deckers Outdoor at $1.1 billion. Based on the full year revenue outlook, the market values the firm at 0.8 times annual revenues and 8-9 times annual revenues.

The company currently does not pay a dividend.

Investment Thesis

Year to date, shares of Deckers Outdoor have fallen some 60%. Shares rose from $75 in January to highs of $90 in February. Shares continued to slip away after the company gave a poor update on the full year 2012 results. Weaker consumer confidence and higher input costs put pressure on revenues and profits. Consequently, shares are exchanging hands at just $29 at the moment.

Over the past five years shares are down some 30%. Shares fell from $50 in 2008 to lows of $15 during the crisis. Shares rallied driven by the strong performance of the UGGs and reached highs of $120 in 2011. Shares have fallen some 75% from that point in time. Between 2008 and 2012, revenues doubled from $689 million in 2008 to an expected $1.45 billion in 2012. Net income rose from $74 million to an expected $125 million over the same time period.

I think shareholders are overreacting a bit lately. Full year revenues doubled over the past years, and are still expected to increase. Furthermore the company remains profitable and is valued at just 8-9 times earnings, despite the fact that earnings per share have fallen some 33%.

A 75% sell-off from 2011s high is overdone despite the revenue growth slowdown and margin pressure. The company remains profitable, has a modest debt position, and trades at low valuation multiples. I see significant upside if margin pressure alleviates. Furthermore the sizable share repurchases are a positive sign.

I might initiate a long position next week.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in DECK over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.