WeSC’s Annual Report; Numbers and Strategy

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I didn’t spot WeSC’s annual report until Shop-Eat-Surf did a story on it. Now, I’ve been through it. The Swedish approach is an interesting combination of a U.S. style annual report and our 10K SEC filings. I’ll start with a review of the numbers, but more interesting (I hope) will be a discussion of WeSC’s strategy and market position.

A Few Numbers

WeSC is a Swedish company, so their functional currency is the Krona. All numbers are in Swedish Krona unless I say otherwise. By way of reference, there were six Krona to the U.S. dollar at the end of the company’s April 30 fiscal year. A year earlier, it was 7.62.
 
WeSC’s revenues for the year ended April 30 were 408 million. At the end of fiscal year exchange rate, that’s about US$68 million, up 11.2% from 367 million the previous year. In constant currency, it grew by 20%. Gross profit margin was 45.9% down from 46.9% the previous year.
 
Pretax profit fell 28% from 56 million to 41 million. Net profit was down 40% from 48.8 million to 29.4 million. I should note that the income tax rate jumped from 13.1% to 27.7% and that pushed net income down more than you would have expected. Earnings per share fell from 6.6 to 3.98 Krona. The lower tax rate last year was due to booking a tax loss carry forward.   It was a one-time event (hopefully). 28% is a normal tax rate.
 
WeSC explains that “For the full-year 2010/2011 the dollar was an average of approximately 4.2 percent lower than in 2009/2010,” and “…the euro was an average of approximately 10.5 percent lower than in 2009/2010.”
 
“The lower dollar and euro exchange rates against the Swedish krona have had a positive effect on gross profit in the form of lower production expenses. At the same time the lower dollar and euro exchange rates against the Swedish krona have reduced revenue, because of which the total effect on gross profit was negative (the majority of purchases are in US dollar and the majority of sales are in euro).”
 
WeSC also notes that higher cotton and shipping prices had a negative impact, though they passed on some part of those increased costs as higher prices. 
 
WeSC’s lament about higher costs and exchange rates sounded an awfully lot like Billabong’s. At least WeSC didn’t have droughts and floods to worry about in their home market and isn’t as dependent there on owned retail as Billabong is. 
 
Only 18% of the company’s revenues are in the U.S. In U.S. dollars, it’s about $12.1 million at the April 30 exchange rate. Its next largest markets by revenue are Sweden, Germany, France and Italy with 16%, 10%, 9% and 9% of revenues respectively. The company reported it was in 2,410 retailers in 21 countries. 626 of those are in the U.S. The next largest is Italy with 320.
 
One of the things we’ve noticed in reviewing other company’s results is that they are focusing on growth outside of the U.S. due to better margins and growth opportunities. WeSC seems well positioned to take that approach as well. They’ve just started their program to enter China. U.S. sales for the April 30 year generated an operating loss of 2 million Krona.
 
57% of revenues come from distributors. 35% is through wholesale with the remaining 8% from direct retail sales. Like many other companies, WeSC is bringing its distribution in house as it grows. In the last fiscal year, it acquired its Danish distributor. Previously it had done the same in Germany and Austria. As of April 30, WeSC had 28 retail stores it calls concept stores. It owns eight of them directly. They plan to open more (don’t say how many) and I’m wondering how many you open before you’re seriously in the retail business and not just doing concept stores any more.
 
On the balance sheet, I noticed that inventory fell over the year from 28 million to 24.5 million. That’s interesting with the increase in sales and the acquisition of one distributor, which normally causes inventory to increase. I imagine some of it has to do with the strengthening of the Krona, which would reduce the cost of product bought in other currencies when translated back into Krona. It probably also reflects the brand exclusivity the company wants and an effort to make the distributors keep the inventory.
 
Accounts receivable rose 46% from 71.4 million to 104 million. Some or that would occur naturally with sales growth, but the strengthening of the Krona would reduce the value of receivables in other currencies, so I’m unclear as to the reason for the increase. WeSC notes the company has 57 million in overdue receivables (compared to 28 million at the end of the prior year). They have those “…without impairment losses being considered necessary.” Of this 56 million, 7.8 million is more than 91 days overdue and another 7.4 million is 61 to 90 days overdue.
 
The company’s “provisions for impaired accounts receivable at year-end” has fallen from 3.3 million to 2.6 million even as total receivables and total overdue receivables have grown significantly. I’ve seen language like this before (I think in Billabong’s financials) and it just doesn’t make sense to me that you can have a lower provision with that kind of increase in receivables. You can’t conclude that there is not an increased receivables risk, even if you assume you aren’t going to have to collect your Greek receivables in Drachmas.
 
The footnote goes on to explain that the company has 14 customers who owe the company more than a million Krona and together make up 80% of receivables. Five of those owe WeSC more than five million Krona each and account for 56% of receivable. I imagine some of those are independent distributors.
 
WeSC has no long term debt. Current liabilities rose from 52.9 million to 68.5 million as a result of a 22.3 million liabilities to credit institutions. This represents money they’ve borrowed that’s secured by receivables. The current ratio has fallen from 3.1 to 2.4, but is still more than adequate. Total debt to equity is 0.57, up from .40 a year at the end of the previous fiscal year.
 
Strategy and Some Interesting Comparisons
 
WeSC talks about its strategy as being more penetration of existing markets, entering new markets, launching new product groups, and opening more retail stores. That, of course, is more or less the same strategy that a whole bunch of other brands have. Why might WeSC succeed at it?
 
In a word, “street fashion.” It now seems like an obvious thing, but it was some time before 2000 when CEO Greger Hagelin thought of it. Or at least I think he thought of it. Reminds me of Skullcandy’s Rick Alden wandering around one day some years ago and thinking, “cool, stylish, earphones for the exploding portable electronics market.” Both seem obvious now, and I’m sure I’m not the only one who’s said, “Why didn’t I think of that?”
 
If you’re a street brand or an action sports brand, it’s hard to become a fashion brand. Ask Burton. Ask Volcom who, in my opinion, sold to PPR at least partly because they so solidly owned their own market niche that they couldn’t break out of it and continue growing without help from a fashion player.
 
But if you’re starting from scratch, selling “…streetwear with style, a cross between traditional streetwear and contemporary fashion…,” maybe you can have a foot in both markets. “Because of WeSC’s unique identify, other brands carried by retailers are seen more as complements than direct competitors.”
 
That might be a bit arrogant. But if it’s true, it’s pretty damned powerful.
 
The result, CEO Hagelin says, is that “We are one of the few brands that can sell our products in everything from action sports stores to fashion boutiques, to some of the world’s best department stores…” And they are able to “…broaden our distribution with watering down the brand…,” he goes on to say.
 
Street fashion does fit in a lot of places, and allows for product extensions, because of the brand’s positioning, that an action sports or street wear brand would have a hard time accomplishing. WeSC’s foray into high end headphones and luxury sneakers are two examples of such extensions. The company tries not to compete on price.
 
But I have to note that public companies pressured to grow seem to have an almost innate ability to screw up distribution eventually. It’s uncanny.
 
CEO Hagelin’s letter to shareholders also notes that, “The basis for our success, as well as our biggest challenge, is to continue to enlist skilled employees and outstanding WeActivists, who will help us strengthen and spread our brand and corporate culture.”
WeActivists are “…informal brand ambassadors.” They “… are strong-minded, successful individuals who are dedicated to their professions and to WeSC. WeActivists range from artists skaters and snowboarders to photographers, musicians, DJ’s and others who are extremely good at what they do, whether famous or totally unknown. WeActivists share a “street mentality,” and each one serves as an individual ambassador for their subculture.”
 
That sounds a lot like what Skullcandy does with its own extensive group of informal brand ambassadors. The focus on employees who can spread the brand and strengthen the culture sounds like Zumiez’s outstanding employee development program. There is no reason to reinvent the wheel.
 
The one thing I didn’t see in the annual report was a discussion of the competition. I hope that’s just an oversight. I’m intrigued as I think about who their competitors are, and I can’t really name them. Obviously, it’s not that they don’t have any. But if my observation that there are some barriers to being either street or fashion and moving into street fashion is accurate, then maybe WeSC has a head start.
 
But first movers, if that’s what WeSC is, aren’t always the ones who ultimately succeed in a market. It might be that WeSC is just now getting big enough to be noticed by the big fashion players, and that could force the company to pay more attention to competition. I have no knowledge of this, but perhaps the company’s longer term strategy is to get purchased by one of the very large players. I can imagine that WeSC’s positioning might attract some big multiples if those potential buyers consider it valid.   

 

 

Jarden’s September 30 Quarter And the K2 Rolling Stones’ Limited Edition Ski Collection

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As you know, Jarden is a big, multi brand company that did $6 billion in its last complete year. They’ve got over 100 brands including Crock Pot, First Alert, Coleman, and Mr. Coffee. They also own K2, Ride, 5150, Planet Earth, and Volkl and that’s pretty much why we are interested in the company, though I think I’ve got a toaster oven one of their brands made.

The brands we care about are part of their Outdoor Solutions segment that did $707 million during the quarter (the whole company did $1.8 billion) and aren’t broken out from the rest of the brands in that segment. So we’re reduced to scouring footnotes and the conference call to see if we can find anything interesting.

Here’s the link to the 10Q. I’m not going to do my standard analysis of the income statement and balance sheet because the company’s pretty solid and I can’t really pull out any specifics that are relevant to action sports and youth culture.
 
Hiding in plain sight is the fact that Jarden is another big corporation that’s in our space and has been for some years now. Guess we should be used to it. That size and the extent of their operations gives them a perspective on the on the economy and business conditions that can highlights some things we are also thinking about.
 
One of those is China. Jarden management noted in the conference call that they expect Chinese wages and benefits will “…continue to rise by 15% to 20% annually as the Chinese economy becomes more consumer oriented and that the long-term trend in shipping and transportation costs will continue upwards.” As a result, they are bringing certain products back to the U.S. for manufacture. Time Magazine wrote about it as an example of an expanding trend. No snowboards or skis yet, according to the article.
 
A second is their focus on “achieving greater efficiencies from working capital.” That’s the stuff we’ve all been working on since the economy got tough; controlling inventories, being careful with credit, watching expenses. You know- all the operating stuff you do to try and bring a few more bucks to the bottom line when sales growth is a bit harder to come by.
 
With regards to the winter sports business, we did get a few pieces of information. They note that K2, Volkl and Marker have had strong early orders, especially in Europe. They think retailers are trying to replenish record low inventory positions.
 
There’s also a note about there being a Seattle K2 concept store that’s open on a seasonal basis. I haven’t seen it, but will have to track it down. Jarden has Rawlings and Coleman outlet stores. They say they are interested in doing more retail, but don’t offer any specifics.
 
I also found out that Jarden has an investment in Rossignol (size not specified) though they aren’t involved in running it.
 
Finally there are, in fact, going to be Rolling Stone limited edition skis from K2. I really don’t know whether or not I like this idea. I’d love to talk to the marketing guys about their rationale. I was relieved to see that it’s apparently not on any snowboards. Maybe it was the threat of putting Rolling Stones graphics on Ride that made Robert Marcovitch leave town.
 
As you know, Robert was the CEO of Ride and stayed with the company when it was acquired by K2 and when K2 was acquired by Jarden. He was running (very successfully I heard) the entire Jarden winter sports business until a bit more than two months ago, when he was promoted to CEO of Coleman and sent to their headquarter in Wichita, Kansas from Seattle.
 
Now the plot thickens. We learn in the conference call that, “…Robert and his senior team have been looking at Coleman on a global basis, looking at where our customers are, and how we need to be able to respond to a growing global presence…”
 
Out of this review came a decision for Coleman to put a facility in Denver“…that puts us closer to an international airport, puts us closer to people to work in the outdoor industries in our core consumer group and we think it’s a move that is going to kind of reinvigorate Coleman and put us on its next leg of growth over the next 10 years.”
 
Nice work Robert!! I don’t actually know any of this, but it just feels like he took the job, got to Wichita, and decided he needed to be back near the mountains. I’d love to see the Power Point he used to convince senior management.
 
On a serious note, I suspect that part of his new job is to get Coleman out of Wichita figuratively as well as, I guess, literally. This is a well-known brand that I think of as reliable, workmanlike, and venerable. In some ways it feels like a utility; it always works and it’s always there when you need it, but it’s definitely not cool. Robert has the background to make it cool and expand its market reach and I’ll bet that’s part of the plan. I think there’s a lot of potential there.
 
Should be fun to watch.

 

 

Billabong Has a Meeting

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Billabong held its annual shareholders meeting October 25th.  Chairman Ted Kunkel and CEO Derek O’Neill made short speeches you can read here that contained a few pieces of interesting information. Looking over the longer term, however, I am more interested in an issue they discussed and acknowledged as being important, but didn’t really get into at the level I would have liked.

That issue is the question of what percentage of sales can be represented, in the retail they own, by the brands they own.
 
To be honest, I would have managed it exactly the way they did because I wouldn’t have been in hurry to give my competitors any more information than I needed to. And because I’m guessing the shareholders wouldn’t have wanted a two hour speech.
 
I discussed this when I wrote about their annual report for the year ended last June 30th. To summarize, when you buy retail, you do it partly to get the higher margin. But you don’t get that higher margin right away. First, you have to sell the existing inventory at normal retail margins. Second, you have to stock the stores with new inventory, but you only get higher margin when the product sells at retail- not when it goes into the store, which is when you would have gotten it before you owned the store. Third, you have to replace brands you don’t own with brands you do own. The more you do that, the more money you make.
 
Retail represented 38% of Billabong’s revenues in their last complete year, and they didn’t own all of their retail for the whole year. In a perfect world, they’d like to sell only Billabong and Billabong owned brands in their retail stores. But a West 49 store can’t be all Billabong brands and still be a West 49 store. Can it?
 
No, and Billabong knows that. Certainly it can be 30%. How about 75%? At what point does stocking a store with owned brands impact the store’s image and market position? When do the non-owned brands you carry in stores begin to feel like they aren’t getting enough space to be merchandised well and that all they are doing is helping Billabong build its competitive position against them?
 
I don’t think either Billabong or I have a solid answer to that. It probably varies according to brand and retail location. But I bet they are thinking about it every day and I wish they’d talked more about it though, as I said, I didn’t expect them to. This may be the single most important issue, among those they can control, that impacts their future results.
 
CEO O’Neill pointed out that “…the family brand share in all of the Group’s acquired retail operations has been lifting and this is leading to better profitability for the business,” so they are starting to get the promised benefits. 
 
Chairman Kunkel gave us some specific data for West 49. Before the acquisition, Billabong had an EBIDTA of about $5 million from West 49 and “…a store penetration level of 15% company owned product.” For the year that will end June 30, 2012, they expect an EBITDA of $15 million and a penetration level of 35%. Notice that the EBITDA contribution tripled but the penetration level didn’t. That’s the higher margins at work I assume.
 
Just to carry this a bit further, we see that the ratio of EBITDA to store penetration last year was 0.33. In the current fiscal year, they expect it to be 0.43. Now, I don’t quite know what to call that calculation, because I just made it up, but higher is better. If I were Billabong, I’d have a graph that tried to project it as owned brands retail sales grew. I say “tried” because I’m not sure it’s completely a linear relationship as there are other factors involved I’m not sure how to include.
 
Ted Kunkel also said some interesting things in describing the company’s rationale for its increased retail focus. He said the two key groups in the industry were the brand owners and the specialty retailers, with the brand owners being the product innovators and the retailers the “…important interface through which the brands connect with the consumers.” I wouldn’t make quite such a clear distinction. Specialty retailers have a role in product innovation- or at least in trend identification and communication that leads to product innovation.
 
He goes on to say: “One particular trend among the larger mall-based retailers has been a transition to vertical product, thereby reducing the floorspace available to authentic boardsport brands and, in many instances, watering down the appeal of the stores to the core boardsports consumer  demographic.”
 
Certainly this is a valid reason for Billabong, and other brands, to move into the retail space. But if accurate it seems to imply declining importance to the specialty retailer. Or maybe it makes the ones who are left even more important.   
 
Derek O’Neill started his presentation by reminding the audience of some of the challenges they had faced last year even beyond the ones involved in integrating new acquisitions. These included earthquakes in Japan, floods in Australia, weak economies, and a rapidly gyrating Australian dollar. I thought he made an important comment when he noted that it wasn’t the level of the Australian dollar that was a problem, but the volatility. Obviously, Billabong wasn’t the only company affected by these.
 
He also gave us information on what’s happened in the quarter that ended September 30. Total sales were up 24.7% in constant currency. Excluding acquisitions, they rose 6%. In their owned retail in the U.S. same store sales rose 6.4%. Without providing any numbers, he describes their U.S. wholesale business as “stable.” I guess that’s an improvement.
 
No numbers on the Australian wholesale business either, though he indicated that specialty account base was performing “quite well.” Their owned retail business in Australia had positive comps of three to four percent. He described Europe as having “solid revenue growth year to date” but with slightly lower margins due to higher product costs.
 
The year seems to be starting out better for Billabong, with some of the promised improvements in owned retail coming on line and more to follow. Sounds like the wholesale business is a bit more problematic.  Lacking financial statements with a bottom line, we have to be a bit cautious in reaching conclusions about their first quarter performance. My focus will continue to be on the extent to which they can push their owned brands into their retail.       

 

 

The New LAUNCH LA Trade Show; I Wondered When This Was Going to Happen

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Well, what a long strange trip it’s been.

It was just about a year ago that the demise of ASR was officially announced. Since then, as the trade show environment has evolved and people have worked to figure out how to adapt, I’ve written a few times about trade shows. Here, here, here, here, here, here, and here actually, from oldest to most recent.

You would think that would be enough, but yesterday’s announcement of the new LAUNCH  LA trade show has compelled me to take pen to paper (metaphorically speaking) and review the events of the past year. At some level, the launch of LAUNCH (sorry- somebody had to say that) kind of represents the end of this phase of our trade show evolution. Let’s see why this is by reviewing a little trade show history and evaluating the LAUNCH concept.
 
Since ASR Died
 
Remember how the announcement that ASR was folding was kind of a surprise, but not really once you adjusted to the initial shock? Agenda saw (correctly) an opportunity and I’d say they’ve benefitted from ASR closing. I’ll be curious to see how it works out as they move to Long Beach and grow to the next level.    Outdoor Retailer has tried to get some refugees from ASR to exhibit at their show. One thing we all agree on is that the goal of whatever happened next was not to replicate ASR.
 
Our various trade associations all found that funding they had been receiving from ASR went away with that show. Naturally they wanted to replace that, but they were also concerned where their members were going to gather, exhibit, and go to see products and do business.
 
There were I gather a lot of gyrations and conversations among the trade associations and existing trade show organizations, but obviously they weren’t able to reach a cooperative agreement on a new show. As I wrote in one of my earlier articles, the surf and skate disagreements over ASR contributed to the skate hard goods companies pulling out of ASR, and it wasn’t quite clear to me why they were going to get along now in a trade show environment. Skate’s sort of found a home at Agenda for the time being.
 
I also asked in my writings if we needed a replacement for ASR and noted that starting a trade show from scratch required a whole bunch of money, experienced people, and a long lead time. In other words you had to finance and build an organization and not expect it to bear any fruit for maybe a year. 
 
Meanwhile, lurking in the lichens, was Surf Expo whom we haven’t mentioned yet. I guess I’ll start by noting that Surf Expo Show Director Roy Turner is on the non-elected SIMA Advisory Board, as you can see here on SIMA’s web site. I wonder what advice he gave them about trade shows.
 
Surf Expo did a few things right. First, they didn’t try to rush in to fill a perceived void left by ASR. Second, they stayed away from all the gyrations as all the other players tried to negotiate a coalition that would create an ASR replacement.
 
Now, I’m sure there were various calls from various organizations to Surf Expo asking them to be part of that coalition and the third thing Surf Expo did right was to recognize that if they wanted to do some kind of West Coast show, they didn’t need help to do it. They already know how to put on trade shows.
 
Fourth, and most strategically, Surf Expo figured out that the only thing that really mattered was whether they could create a show format that retailers and brands found valuable. If they couldn’t do that, who cared?
 
Finally, they determined that the show needed to be a youth culture rather than action sports show. And that brings us to……….
 
LAUNCH  LA
 
LAUNCH will be held next July 25th and 26th in Santa Monica and given the timing, I imagine most of the product there is going to be seen for the first time. It is not a West Coast Surf Expo. It is not an action sports show. It is not a replacement for ASR. Here’s how they describe it.
 
“LAUNCH LA is a juried event and our panel of experienced and influential experts will screen each company based on quality, design and originality in order to ensure the best product assortment from leading men’s and women’s contemporary fashion labels, footwear and accessories brands, lifestyle and action sports lines, as well as swim, apothecary, and technology collections.”
 
It was probably inevitable I’d like the idea since I more or less suggested it back in July when I wrote: 
 
“If I were going to create a youth culture trade show from scratch, I’d start by developing the list of brand’s I’d want to have exhibiting. Would it include some surf/skate/snow brands? Sure. But I think I might want Apple there (who knows if they’d want to come). And Facebook. And some music companies, and some game companies, and some other brands and activities that I don’t even know about because I’m not quite as cool as I used to be.”
 
“The show I envision wouldn’t be about skate or surf or moto or fashion though I suspect it would include elements of all of those and more. It would be about ‘STUFF THAT’S IMPORTANT TO PEOPLE AGES 14 TO 25.’”
 
If they do this well, it will be a badge of credibility to be allowed to exhibit at LAUNCH. That, of course, implies some limits on growth, but I don’t see that as a bad thing. I also note they’ve chosen to call it “LAUNCH LA,” implying there might be, for example, a “LAUNCH NY.” Maybe they’ll eventually hit some other cities as well. I don’t know this, but it feels like they might be starting down a road towards a group of similar regional shows featuring the most relevant brands and products from those regions.
This will get particularly interesting if (when?) the jurors they have chosen as the arbiters of who gets to exhibit turn down some of the larger, well established brands. If they don’t do that, and we end up with most of the same old brands exhibiting the usual products, it will jeopardize the credibility of the whole concept. From the web site, I get the feeling they are going to require the selected brands to focus on one or a few products that in some way are innovative, technically or otherwise.
 
It also appears to me that there’s no limitation on which companies from which industries might end up exhibiting. I like that. A really cool and well-designed product from an industry we don’t usually associate with our world could show up. I hope there are some surprises. It will help the show’s cachet.
 
And as long as they’re going to have jurors for innovation and design, maybe they should have some to vet the brands for their business practices. Retailers would know that any company exhibiting at Launch could probably be counted on to deliver. Performance is typically a concern of retailers when they choose new brands.
 
For some years now, I’ve been asking what industry we were becoming. I’m still not sure I know the answer, but when a show like LAUNCH LA is started focused on design, fashion, and innovation- coolness if you will- rather than skate, snow surf, or another sport, I know I’m not the only one thinking along those lines.
 
The announcement of LAUNVH LA marks the end of the reverberations caused by ASR going away. I suppose I shouldn’t just assume that this new show will be successful, but there is a hole to fill and I’m pretty sure the people bringing us the show didn’t decide to announce it without researching the concept and how it would be received.
 
I’m looking forward to hearing more about how, exactly, exhibitors will be chosen.

 

 

September’s Leap in Outdoor Sales

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The Leisure Trends Group does a lot of good work. On October 20th, they sent out an email you may have seen announcing record September outdoor retail sales of $462 million up 17% over a year ago. Leisure Trends analyst Scott Jaeger said it was the strongest September since they started keeping records in 1998.

Great news obviously. But I’d like to offer a perspective on those results that’s a bit different from what Leisure Trends offers. Here’s a quote from the release.

"As we have seen over the past several years in both our consumer studies and the retail tracking numbers, consumers will spend on their passions, even in uncertain and difficult economic times," states Jaeger. Jaeger continues "Most Active Americans recently shared with us their current attitudes towards their favorite outdoor recreational activities and the products they buy to do those activities, and the following quotes sum up this willingness to spend on what matters." 

"These are the things that bring our family and friends together. They are very important to us."

"My sports are not a luxury, they are a necessity. They keep me healthy, both physically & mentally, make me more effective & competitive at my work, and improve my family relationships."

"I am so pumped to be able to actually spend a little bit more money this winter on my favorite gear."

I’m not saying this is wrong. But there is a sense of glorying in our own wonderfulness that bothers me a bit. Actually it bothers me a lot, but I’m trying to be subtle here. Not my strong suit.
 
Back in April I wrote about SIA’s end of year sales report. SIA (using numbers provided by Leisure Trends, he points out with only a minor sense of irony) reported that through February for the season, winter sports sales were up 13% in dollars but only 8% in units. In February, unit sales fell by 2% and dollar sales by 1.5%, but gross margins rose by 8%. I suggested the results were at least partly because, as an industry, we were controlling inventory. I wrote:
 
“Won’t it be fun when customers start coming in [next fall- as in now] looking for cheap stuff and you can tell them that not only isn’t there any, but if they don’t get what they want now, they may not get it? You’ve already improved your gross margin by next year just by not having a bunch of inventory left and we’ve collectively improved our brands’ images.”
 
“As an industry, we go to conferences, hold trade shows, create learn to ski/ride programs, run all sorts of programs, do studies advertise and promote, and spend overall millions of dollars trying to get people to try riding/skiing and stick with it.”
 
“But I’d hypothesize that we could forgo a bunch of that if we just didn’t get so damned greedy and continued to control our inventories. Oh, and we- you, that is- could make more money with less risk.”
 
“Now, I’m the guy who’s always said every business is going to (and should) make the decisions that they perceive to be in their own best interest. That’s true. But it looks to me right now that what’s good for your business is probably good for the industry in at least this one instance. Everybody left standing in the ski/board industry has figured out, finally, that there’s no way to make money in winter sports if you’ve got a pile of left over inventory. And also you won’t be able to pay your bills.”
 
Leisure Trends is talking about the outdoor industry and I’m talking about the winter sports business, a subset of outdoor. Still, I don’t think winter sports is the only industry that has had to learn the hard way the lesson, and opportunity, of inventory management since the economy went south. And in September, I suspect a whole lot of outdoor sales are winter sports related.
 
We do ourselves a disservice if we conclude that our customers bought our products because they really, really love us and can’t get along without us. I hope that’s part of it, but I think what you’re seeing is more the result of your smart business practices last year then a renewed gushing of affection.
 
Your customers are responding to a lack of closeouts and an understanding that they need to buy what they want at full margin now if they want to get it.
 
Keep up the good work.    

 

 

Peak Resort’s Initial Public Offering. What’s Going On?

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Back on April 18th, Peak Resorts filed an S-1 with the Securities and Exchange Commission (SEC) to take the company public. There have been four amendments since then, with the latest filed September 19th. Here’s the link to that most current version of the S-1. The company is not yet public but, based on that filing, is still working on the process.

It is, by any measure, not an easy time to take a company public. Skullcandy, you’ll recall, had to delay their offering a while due to market conditions. I don’t think Peak Resorts is facing any better conditions.

Peak Resorts operates 12 ski areas in the Midwest, Northeast, and Southeast U.S. They had about 1.8 million skier/boarder visits in the 2010/2011 season. Total revenues for the fiscal year ended April 30, 2011 were $98 million. Mount Snow generated 40% of Peak’s revenue and Attitash, 12%. None of the other areas generated more than 8%. Lift tickets were 52.2% of total revenue and food and beverage, 15.5%. Hotel/lodging represents only 6.5% of total revenue because Peak’s areas are overnight drive ski areas and day ski areas. They don’t have any of the areas characterized as fly destination areas.
 
That’s part of their strategy as all their areas “…are located in or near metropolitan areas and target a regional market.” They think their experience in acquiring, integrating and managing areas is one of their competitive strengths, and they expect to look for more acquisitions.  
 
Numbers
The S-1 still has a lot of the usual holes in it. They expect to raise about $75 million, but we don’t have a proforma balance sheet yet showing what it will look like after the offering. Neither do we have an estimate of the share selling price, or specifics as to how the proceeds will be used, though they note that a chunk will be used to pay down debt. We’ll get back to that.
 
We do, however, have historical financials. Revenues for the three years ended April 2009, 2010, and 2011 were $84.3 million, $89.8 million, and $97.6 million respectively. Earnings from operations for the same three years were $9.9 million, $13.8 million, and $16.8 million. As a percentage of revenue, earnings from operations have grown from 11.7% to 15.3% to 17.2% over those three years.
Note that their latest acquisition, Wildcat Mountain, was completed October of 2010, so its results are included in the April 30, 2011 numbers.
 
Interest expense, at $10.8 million, was 12.8% of revenue in 2009. In 2010, it was $11.4 million or 12.7% of revenue. The numbers for 2011 are $11.3 million or 11.6% of revenue. Those numbers exclude, for 2009-2011, $2.1 million, $2.2 million, and $2.6 million of interest that was capitalized rather than expensed.
 
Taxable income was a loss of $492,000 in 2009. There were profits in 2010 and 2011 of $2.8 million and $6.4 million respectively. In 2009 and 2010, Peak Resorts was a subchapter S corporation, so there’s no corporate income tax on the income statement. Those earnings, or the loss, flowed through to shareholders who are responsible for paying the taxes in 2009 and 2010. Net income is therefore the same as taxable income for the company. For the 2011 fiscal year, as part of doing this stock offering, they converted to a C corporation and had to book a $10.4 million income tax provision. That resulted in a loss of $4 million for the year. But there’s some funky deferred tax stuff going on, so if you can’t ignore the number, you can’t take it as typical of their tax rate going forward either. That is, their tax rate will not be 163% of income in future years.   That would be discouraging.
 
Ok. Balance sheet. There was a time when I wrote a lot more about winter resorts for SAM. Back then, I used to tear my hair out trying to decipher balance sheets with negative current ratios and other interesting stuff. Finally, I reconciled myself to the inevitable gyrations of winter resort balance sheets and focused more on cash flow.
 
Peak Resorts has $107.6 million in long term debt as of April 30, 2011. As part of current liabilities, they have an additional $34.8 million representing the current portion of long-term debt and capitalized lease obligations. That is, they’ve got to pay or refinance $34.8 million of debt before April 30, 2012. Basically, it’s one big payment due April 1, 2012.
 
Also at April 30 2011, they had $27.7 million of cash on their balance sheet. If a winter resort was ever going to be flush with cash, it would be at April 30. $11.3 million of that cash is restricted. That restricted cash is the “…interest due on our outstanding debt with EPT, our primary lender, and rent under the lease for the Mad River resort for the 10 months following April 30.” So that $11.3 million is not available for paying down the debt due this fiscal year. 
 
A little footnote diving tells us that this is the only year through the 2016 fiscal year where Peak Resorts has to pay off a big chunk of debt. In none of the other years through 2016 does the amount of principal due even get to $1 million. In the S-1, Peak Resorts says they “…have $28.3 million under various loan agreements to fund expansion and capital expenditures at our ski areas. We expect that our liquidity needs for the near term and the next fiscal year will be met by continued use of operating cash flows (primarily those generated in our third and fourth fiscal quarters) and additional borrowings under our loan arrangements, as needed.”
 
Peak Resorts is telling us they can pay off the $34 million in long term debt due this year from resources created or available to them from the normal operation of their business. Good, but I’ve got questions.
 
We know the $11 million in restricted cash isn’t available for debt repayment. The $28 million available under existing lines seems to be for expansion and capital expenditures and that would be borrowings from basically the same people they already owe the $34 million to (EPT- see below). The Consolidated Statement of Cash Flow for 2011 shows net cash provided by operating activities of $12.2 million. But they used $13 million in investing activities, most of which was additions to property and equipment and land held for development. Capital expenditures in the current fiscal year are projected to be $11-$13 million. We also know (because they tell us) that “…the repayment of this debt will not result in additional borrowing capacity under these credit facilities but may create available collateral for future borrowing if necessary.”
 
Overall interest rate on the debt is around 10%, and some of it is escalating. Given that interest rate, and the amount of interest they are paying (as described above) you can see why they are planning to use some part of the offering proceeds to pay down debt. It will do wonders for their cash flow and bottom line.
 
Who’s EPT?
Entertainment Properties Trust is Peak Resort’s only lender. It describes itself as“…a specialty real estate investment trust (REIT) that invests in properties in select categories which require unique industry knowledge, and offer stable and attractive returns.” It’s traded on the New York Stock Exchange under the symbol EPR. If you go to the link above and click on “Portfolio” along the top, you’ll come to a map that shows all their properties. If you then click, on the left side, on “Metropolitan Ski Parks” the map will show nine ski areas that are all part of Peak Resorts.
 
I’m told by people wiser than I that what’s happened REIT wise in the winter resort business is that there was a trend for REIT operators to buy areas and then lease them back to the operator. These resorts are shown as part of EPT’s portfolio, but they aren’t all owned by EPT. If they were, then Peak Resorts wouldn’t have on its balance sheet the debt from buying them. It would just be making lease payments and be responsible for running them.
 
The debt that Peak Resorts has to repay to EPT this fiscal year is the “Mount Snow Development Debt.” It’s due April 1, 2012. It “…represents obligations incurred to provide financing for the acquisition of land at Mount Snow that is in development stages.” Under an agreement dated April 4, 2007, EPT lent Peak Resorts $25 million which I assume was used to buy that land. An April 1, 2010 modification to the agreement increased the amount to $41 million. That increase included $8.7 million in accrued interest to the date of the modification. $25 million plus $8.7 million is more or less the amount that’s due next April.
 
You may have noticed that the economy hasn’t exactly improved since April 4, 2007. I would guess that any land Peak Resorts bought is worth a bit less than it was. I suppose it’s unclear if it would make economic sense to develop it. Peak Resorts balance sheet shows $28 million in land held for development. I wonder if that’s the Mount Snow land. If so, then none has been developed and sold. If it had been, the proceeds are required to be used to pay down the debt.
 
On October 30, 2007 Peak Resorts entered into an option agreement with EPT Ski Properties, Inc. (a subsidiary of EPT) giving EPT Ski Properties an option to purchase Hidden Valley, Snow Creek, Brandywine, Boston Mills and the part of Paoli Peaks owned by Peak Resorts at prices specified in the agreement. The same agreement would allow them to assume Peak’s leases at Big Boulder, Jack Frost, and Paoli Peaks. It could exercise any or all of these options on or after April 11, 2011. If EPT did exercise any of those options, it would, under the agreement, immediately lease the areas it bought back to Peak Resorts.
 
One wonders if the prices in that agreement under which EPT could exercise its options are as attractive to EPT now as they were when the agreement was signed in 2007.
 
So What’s Going On?
All I know is what I read. Nobody at Peak Resorts can talk to me because they are in the middle of the offering process. Down to the earnings from operations line, Peak Resorts results look good and improving, and the Peak Resorts managers are known as good operators.   But the interest burden is substantial and they’ve got $35 million in principal to pay off by next April 1st. It looks to me like the deal made with EPT in 2007 doesn’t seem quite so good in 2011’s economic reality and hasn’t worked out the way both sides hoped it would.
 
I heard on CNBC yesterday that the first IPO in two months had just been completed; a testament to how tough this market is. I would expect you wouldn’t try to do one now if you didn’t need to. I hope the next amendment gives us not only a proforma balance sheet showing some debt repaid from the offering proceeds, but a proforma income statement that shows what will be significant improvement of their bottom line from a lot less interest expense and a normalized tax rate.  

 

 

I Like Market Data

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Even before they contacted me to ask if I was interested in writing about it, I’d seen that Krush had released the Executive Summary for the Krush Buyers Report and it seemed an intriguing idea. Most of my five loyal readers know I think three things about market research and data.

First, that we don’t get enough of it, though that seems to be changing. Second, that when we do get good data, we, as an industry, sometimes don’t know how to make use of it so don’t really understand the value. That’s a particular problem if you’re a company trying to sell the data you worked hard to collect. Third, you have to drill down on the methodology to understand the strengths and weaknesses of the collection and analysis process. That’s true for any process; not just Krush’s.
What Krush did was invite “…a select group of brands exhibiting at AGENDA to preview their upcoming Spring 2012 lines to their consumer fan base using KRUSH technology.”  Then they had, “Consumers – thousands who represent brands’ trend setters as well as their “mall-shopping” followers – rated each item from new collections in an online SneakPeek™ event on KRUSH. “ They generated 135,217 ratings of 1,059 different products that included pretty much everything but hard goods.
The idea is that Krush can take this data and generate a report for each brand that indicates what is likely to sell (or not sell) well when the product hits the retailer, thereby allowing the brand to positively influence retailer buys and sell through and perhaps adjust what they produce.   The question I asked immediately, that you are no doubt asking and, to be fair, that Krush acknowledges in their summary as key is, “How do we know these results will really be predictive of what people will buy?”
Krush has done this before with scores of brand, and tells me the data is “predictive” of what’s actually sold. But of course as a brand, you won’t “know” how it worked until the product hits the retailer and you compare what sells with what the reports said would sell. Let’s take a closer look at their methodology as they describe it and see if there are some obvious questions we might ask.
Here’s how Krush starts its description of its methodology:
“KRUSH uses proprietary Crowdsource™ technology that leverages proven predictive models, game theory and online social networking technologies to capture, systematize and analyze large amounts of data designed to assist brands in improving demand forecasting and sales of goods in the Action Sports and Lifestyle industry.”
Well, that sounds impressive and seems kind of intuitively reasonable. Trouble is, I have no idea what it means. They go on to say their “Web-based platform allows manufacturers to preview items from upcoming lines to consumers and fans of the brand up to one year before market introduction in an online SneakPeekTM event.”
Now we’re getting somewhere. Consumers see the product on line and tell you what they think about it. I understand that, though the process is much more complicated than I’ve glibly described it. Here’s what Krush says:
“…manufacturers submit their line-ups to KRUSH which are entered into our system and tagged for features such as color way, material, style, trim, accents etc. KRUSH then leverages social networking communities to identify consumers and fans of the brand, then invites selected individuals to preview and rate the latest items. Using an intuitive rating system, consumers indicate whether they like or dislike each item in the line. Within days there are enough ratings to produce accurate predictive data…”
Now, I think, some of the questions you might want to ask about the process become obvious.
1.       The participants are “self-selected” as fans of the brand. They are, for lack of a better word, “core” customers. Does that selection process bias them towards the brand? Maybe that’s a good thing.
2.       What exactly do they see on line? One piece? All the brand’s pieces? A brand’s piece compared with comparable pieces from other brands? Line drawings or actual photos? In one color? Which color? On a model or just the item by itself?
3.       Is the comparison valid across categories?  That is, should we be asking just if the consumer likes this hat better than another hat or is the right question if they’d chose the hat over the t-shirt or the pair of pants or another brand’s hat?
4.       Will what a consumer is disposed to buy based on what they see in the survey be what they are disposed to buy in an actual store or an online site?
5.       Are suggested retail prices featured in the online survey and is price taken into account in estimating probability of purchase?
6.       Why do we believe that months later a customer’s bias will remain the same? I suppose that’s a problem we have to deal with no matter what.
7.       80% are male and 63% are between the age of 15 and 20. What do you do with this data if that isn’t your market?
Krush goes on to say, “Each item within a SneakPeek and the SneakPeek as a whole are then scored using a combination of proprietary popularity and ranking algorithms that incorporate preferences, passions, purchasing intent, demographics, influence, and other factors. The items are then normalized and ranked, with the highest scores indicating the most popular items and the lowest scores reflecting the least popular items in the line.”
You can see from that quote they are trying to deal with some of the questions I raised. In fact, if you go to this link and then hit “continue browsing” you can see the brands they are, have, and will be collecting information on. In fact, you can rate the open brands’ products.
When you do this, you’ll be asked if you “like” or “dislike” the product. The price is given and you can “Buy It Now” or reserve it if it’s not yet available. There’s also a box for a comment.   Go do it yourself. It’s better than my description.
Spending a couple of minutes doing this answers a few of the questions I asked (and suggests that maybe I should have spent time on the web site before asking them) and raises some new ones. For example, it seems that I can give my opinion on any product I want. Trouble is, cool as I am, I am not the target demographic. My opinion messes things up. But then, when I try to say I “like” something, it makes me login to my Facebook account. Krush wants access to my information on Facebook and wants permission to email me. I wasn’t prepared to do that. Maybe that helps to self-select against people they really don’t want in the sample.
Where the item is available now, the price is shown and you are offered the chance to buy it. You see a standalone picture of the item. Sometimes it’s on a model. As you can see, each brand apparently has considerable flexibility in how they show their products. And of course, you’re being asked to like or dislike a single product in isolation from other brands, colors, and merchandising presentation. Well, nobody is suggesting that isolating and figuring out consumer motivations is easy.
You, as a brand, have some beliefs, probably both anecdotal and empirical, about who your customers are and why they buy your product. Maybe Krush’s process will allow you to test those. In any event, you’d certainly want to know something about how the different factors are ranked, which is given more or less emphasis, and why. As Krush notes, the participants identify themselves as “core” (not Krush’s word) consumers. Is that your market?
While we’re on the subject of trying to ferret out consumer motivations, you might go read a book called Blink, by Malcolm Gladwell. He’s the guy who brought us The Tipping Point. Here’s the ubiquitous Amazon link to Blink.
I think what Krush is doing is a good idea. Of course, if it works well, you won’t have any choice but to use it because everybody else will be. It could become sort of like, “Show me the CarFax!” That would have to be Krush’s wildest dream.
My guess is that it will be like all the market research I’ve ever seen. Not a panacea, but useful if you’re thoughtful about how it’s done and how you use it. To use Krush’s word again, it’s “predictive.” It’s not going to tell a brand precisely what and how much to make and a retailer what and how much to buy. The point of this article is that with Krush’s market research, or anybody else’s, you’ve got to dive deep into the details before deciding to participate and if you decide to participate to get real value out of it.

 

 

Get Out of the Office! It’s Amazing What You Can Learn

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Yesterday, I had occasion to meet up with Jaimeson Keegan, who’s the President/Floor Sweeper (according to his business card) of SUPERHEROES Management. It offers athlete and entertainment talent representation combined with social media strategies and some other stuff that I thought was a very sensible aggregation. Anyway, we’re both up here in the Northwest and just thought we should get together and meet each other. Not being from Southern California, we get lonely and don’t have that many people to talk to.

And since we both knew where it was and there was a great coffee place down the street, we met at The Snowboard Connection in downtown Seattle. Owners John Logic and Adam Gerken weren’t there. John, it seems was over at the storage unit at their old location finally cleaning the thing out. They are apparently putting a wrecking ball to that old building, so there was just no way to put off cleaning it out any longer. Adam was off on his first vacation in three years. I took that as a sign the business was doing well.

I saw the Skullcandy display in the store. The sales person was raving about some new, customized display Skull was going to give them that would wrap around the post, or something. I asked if they carried any other headphones and the only thing they had was one pair of Nixon headphones in the case with the other Nixon product.
 
It made for an interesting comparison. Nixon started out in watches and has diversified their product line rather dramatically. Skullcandy has quite a line of tees, sweats, and beanies, but the focus is clearly on buds and headphones. We’ll see if that changes. One reason it might not change is because of different distribution strategies. Skull’s two biggest customers are Target and Best Buy. I’ve seen their product in Fred Meyers and, well, kind of all over the place. Their challenge, as I’ve written before, is to be cool even in wide and widening distribution. I’m prepared to believe you might manage that with headphones (ignoring, for the moment, the issue of inevitable competition). Not with apparel or other products.
 
I didn’t look for Nixon in Fred Meyers and don’t expect to see them there. But I’d expect their brand strength would allow them to sell a broader range of products than Skull but in a more limited distribution. Think of it like this. Skull has broader distribution in a narrower product line. Nixon has narrower distribution with a broader product line.
 
As long as I was downtown and had time on the parking meter, I thought I’d walk across to REI and see what was going on there. The first thing I noticed was that there wasn’t all that much merchandise in the store. I don’t mean it was poorly merchandised or looked bad. I just mean the store could have held a lot more product and not have been even close to cluttered. I’d chalk that up to the economy. As a member of the industry, I say, “Great!” Carefully managed inventory means fewer markdowns, less investment, and consumers anxious to buy. As you know, I think you can sometimes earn more selling less.
 
The ski and snowboard hard goods were right next to each other, more or less forming one section of the store. I really liked the snowboard racks. Ever shopped for area rugs? You know how they hang from a rack and move them from side to side like turning the pages of the book so you get a good look at them? That’s how these racks worked. Great idea.
 
I also noticed that the racks weren’t full. Hope that’s due to good inventory management rather than late shipments.
 
The winter apparel was nowhere in sight. I had to go upstairs to find it. It was pretty much all together with no ski/snowboard differentiation. Patagonia with Marmot with Burton with Nike with Betty Rides and some others. I’ve known Betty Rides owner Janet Freeman for more years than I’m prepared to admit. I don’t think this is the brand’s first year in REI, but it was great to see. Janet, you’ll be glad to know that your brand was as well represented as much larger brands, though it was a bit in the corner. It was interesting, in fact, to notice that no brand had all that much more space than any other. I was also told that REI does no private label.
 
So anyway, that’s what I learned just because I got my ass out of my office chair. I should do it more often.

Lessons From Interbike: Focus In or Focus Out

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I had occasion to be in Vegas on business while Interbike was going on. The company I was working with was exhibiting there, so I took the day to wander around the show. I’d never been to Interbike before. There was something different about this trade show from all the others I’d ever been to. It took me a little thinking time with my favorite adult beverage after I got back to begin to figure it out.
 
What I did notice at the show, of course, was that everybody there- exhibitors, buyers, hangers on- were about riding bikes and making riding better. That’s not a completely unique observation. I’ve made a similar comment about SIA’s snow show in Denver where everybody is somehow or other associated with sliding on snow.
 
But I wouldn’t want to push that comparison too hard. Technology, and improving the technology, in the cause of better riding, was king at Interbike. I guess that’s partly because the technology is so visible and touchable and, apparently, constantly changing. I don’t claim there’s no marketing component to this, or that all the “new technologies” really represent significant changes. But it seemed to my bike uneducated eye that product evolution and improvement was very real.
 
And when I looked at the prices of bikes, it appears the consumer agrees and is willing to pay for it. When a friend told me that the price of a top end bike could be $10,000.00 or even more, I almost peed my pants. It’s been a while since I bought a bike and yes, I do know there are also cheap bikes out there.
 
The other thing that my friend told me was that he had bought his bike some years ago, and still had it. But various parts had been replaced as they wore out or he found an upgrade he wanted. It was the same frame, but not necessarily the same bike.
                   
There’s market value in this kind of focus and community of interests. It tells you who your customers are (and who they are not). It invests the customers in their relationship with the retailer and provides reasons to visit that retailer. It gives the consumer an ownership of the product you can only get when the product is upgradeable, not a commodity, and long lived.
 
It’s not that there isn’t a fashion component to all this, but I didn’t seem much “after biking” clothing or “casual” bike shoes. That’s kind of where the comparison to the SIA show falls apart. Obviously, there’s a huge fashion component there.
  
Where else have I seen the kind of commitment to technology and community of interests I saw at Interbike? The only place that comes to mind is in longboarding. Longboarders, like bikers, seem to be an inclusive, group of people who are accepting of anybody who uses any kind of longboard for any purpose. They share an interest in longboard technology and product improvement. That’s probably why they’ve become as big a chunk of the skateboard market as they have.
 
I had a chance to talk to a bike retailer about skateboarding. He didn’t do skate, but was considering picking up longboards. Not short decks- just longboards. He said he wouldn’t know how to sell short decks and they just wouldn’t fit in his shop. He meant “fit,” I think, in a couple of ways. There was no way he could do a wall of short decks, and his customers wouldn’t be interested. But long boards, as a community with improving technology, and as a mode of transportation as well as competition he could relate to.
 
Biking also has the advantage of being something you can do from oh, I don’t know, ages 5 to 75? And, like skate, you can do it anywhere.
 
But where surf, skate, and snow break down, at least compared to biking and, I suppose, longboarding, is that they have diffused their customer focus. Much of the market (most?) is apparel, shoes, and other products, sold to non-participants. Biking has a broad community of common interest defined by participation. Action sports uses participation to attract nonparticipants to its “lifestyle.” Isn’t it interesting that biking, except for BMX, isn’t considered to be part of action sports?
 
Action sports works hard to keep its core distinctive and maybe even exclusive. You, the uncool person, can’t really belong to that core but you can sort of emulate it if you want by buying this shirt. That’s seen as a marketing strength and for some companies it certainly is.  Biking is about hard goods and everybody is invited in as in longboarding. Hmmm. Is longboarding action sports? Maybe how we label it doesn’t matter and I don’t care.
 
Because of its inclusiveness and focus on participation, you compete in the bike market by making a product that helps the rider participate better. When you do that by definition you join and support the community. If you can’t do that, nobody cares. Energy in the industry is concentrated and focused inward.
 
In actions sports, on the contrary, our growth efforts have inevitably become focused outward. Our energy is diffused and bigger, stronger competitors can break in as the distinction between action sports and fashion becomes blurred.
 
I’m not saying that action sports have done it “wrong” and biking and longboarding have done it “right.” At the end of the day, more people are going to bike at some point in their life than are going to surf.  It’s just the way it is. But there’s food for thought here. Is it better to build your market, like bike and longboarding seem to do, by welcoming anybody who wants to participate or can contribute to better participation? Ultimately, you create some limit to your market.
 
Or should you, as action sports has done, go for the much larger market of nonparticipants, recognizing that as you diffuse your energy over this larger market you invite serious competition and make the exclusivity that was initially your greatest competitive advantage less important?
 
I’ll be damned if I know, but the comparison is certainly intriguing.

Quik Grows its Sales and Profits; I Thought I Heard a New Attitude

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At the start of the quarterly conference call, Quiksilver founder and CEO Bob McKnight always makes a short speech highlighting the good things that are going on. After Rossignol, and through the balance sheet restructuring, they felt a bit like pep talks. He would highlight in a pretty nonspecific ways some things that were going well, and often they seemed like small things. It felt like he was offering reassurance where he could.

Suddenly that’s changed. Call me crazy and hell, maybe I’m imagining this, but his speech for the July 31 quarter didn’t sound like, “It’s going to get better.” It was more like, “It is better.” That was great to hear.

Reported sales were up 14% to $503 million from $441 million in the same quarter last year. They were up 11% in the Americas to $260.2 million, 16% in Europe to $176.4 million, and 20% in Asia/Pacific to $65.5 million. The percentages in constant currency were, respectively, 11%, 2%, and (3%). Quik’s largest customer accounts for about 3% of revenue. Comparative sales for company owned retail was up 21% in the quarter. Ecommerce business rose 65%, and they expect it will represent $25 million in revenue by year end. Overall for the quarter, “…Roxy was down just slightly in the quarter as a brand. Quik was up low single digits, and DC was way up. It’s in the range of 15% to 20% higher.”
 
 
I’ve previously expressed some concern that Quik might put too much pressure on DC for growth. I’ll look forward to seeing some revenue growth from Roxy and Quik and their new collections.  
 
The new Quiksilver Girls line and Quiksilver Women’s business are expected to generate revenues of $15 million. The Waterman collection, and its European equivalent, is now a $35 million business.  Quik needs some serious growth here.
 
One of the things that really caught my attention in CEO McKnight’s talk was the strategy for certain Roxy product to provide better quality and value at a higher price. Aside from generally just liking the strategy as a point of differentiation, it seemed positive, proactive, and confident.    
 
The growth in the Americas came “primarily” from the DC brand. The DC growth came “primarily” from footwear. The Quiksilver’s brand Americas growth was mostly in accessories and Roxy’s growth was from footwear and accessories. Roxy apparel declined.
In Europe in constant currency, DC and Quiksilver revenues rose, but Roxy was down. The 3% constant currency decline in Asia/Pacific came from the Quiksilver and Roxy brands, offset by strong growth in DC.
 
Gross margin percent fell from 52.3% to 50.7%. In the Americas, it fell from 46.7% to 44.2% mostly because of higher cost of goods, but also due to some mark downs. European gross margin fell from 60.6% to 60.3%. In Asia/Pacific it was down from 52.7% to 52.4%. I note again the attractiveness of sales outside of the Americas.
 
Selling, general and administrative expense jumped 14.5% to $221 million. It remained relatively constant as a percent of sales.
Operating income actually fell a bit from $35.4 million to $33.9 million even though they had no asset impairment charge this quarter compared to a charge of $3.2 million last year. It was down in the Americas from $27.7 million to $27.1 million. In Europe it rose 34.7% from $15.6 million to $21.0 million. Asia/Pacific, even with that big gross margin percent, reported an operating loss of $2.0 million up from $1.6 million in the quarter last year. For the whole company, operating income was 6.7% of sales compared to 7.8% in the quarter last year.
     
Interest expense fell from $20.6 million to $15.7 million due to reduction in their total debt. Net income rose from $8.6 million to $10.4 million.
 
The balance sheet has improved from a year ago, with the current ration rising from 2.26 to 2.45 and total liabilities to equity down from 2.45 to 2.14. Receivables are up consistent with sales. Days sales outstanding remained at about 65 from a year ago. In constant currency, inventory rose 24% compared to a year ago. This was required to support higher revenue levels. There were also some early receipts of fall season inventory.
 
I expect to see continuous, gradual, balance sheet improvement as long as the economy doesn’t worsen. And I’d like to see some growth out of the Quiksilver and Roxy brands. But you know what? If we could see those two brands grow slowly but be managed to generate a lot of gross profit dollars, if DC continued to grow but at a moderating pace, and some of the new initiatives began to generate some significant revenues I think we’d have a financial model that might make a lot of sense at the bottom line given the projected economy.