A Sustainable Competitive Advantage: The Zumiez 100K

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I have written before about the value of Zumiez’s hiring, training, and promotion process. They take kids with a passion for the activities and brands their stores sell, train them, support them, make them compete with their peers, and promote the ones who succeed. The average age of store managers is something like 23 and pretty much all their district and regional managers started out as sales people in a store. 

This approach to culture and staffing is so important to them that it’s been allowed to impede their growth plans when they couldn’t identify enough good people to staff new stores. In hindsight, I imagine they are thrilled that happened given the way the environment for brick and mortar is evolving.
 
Anyway, it’s easy to read SEC filings and intellectualize about this, but when you walk into the annual 100K party at Keystone, where the company’s best sales people are celebrated, you look up and see a sustainable competitive advantage staring you right in the face. That’s never happened to me.  The fact that I was afraid I was the oldest person in a room of 1,300 only dampened my enthusiasm a bit.
 
A competitive advantage is only sustainable if none of your competitors can duplicate it. I suppose somebody else could do what Zumiez does, but they’d better get started. They’re 30 plus years behind.
 
I’m guessing most of the Zumiez sales people don’t read my column. If they wrote one I’d sure as hell read it to find out what brands were succeeding. If they did read it, I’d tell them how lucky they are to have jobs involved with something they love (hell, maybe just to have jobs), solid support and training, the opportunity to advance based on performance and, if they want it, a career.
 
And finally, I’d tell them what a great thing it is to be part of something that can support and validate them. Without getting too deep into generational history (read this book if you are curious what I’m talking about), let’s just say that this is a group of young people who are going to have to pull together to solve some big problems not of their making. I’m seeing it with my own kids (they don’t work at Zumiez) as they form groups and relationships outside of the immediate family that involve strong personal bonds. I see it where I went to college, where the number of students who return for reunions are much larger than they ever were in my generation.
 
So the environment Zumiez has created not only works for these young people, but for Zumiez as well and is consistent with the way generations turn over and repeat themselves in our society over decades. And it has significant implications for how any brand markets itself today.
 
But, as usual, I digress. Back at the 100K, the introduction of brand founders was particularly interesting. In groups (there’s a lot of them), they march founders out on stage and give each one a chance to say a few words. Somebody told me they’d meant to bring a decibel meter to measure the applause each brand got (or didn’t get). That would have been brilliant. I would love to publish that list with the noise levels listed.
 
Among the brands that got the loudest cheers were brands that are urban, or youth culture, or whatever word you want to use. But they were definitely not action sports brands. Not to say that some action sports brands weren’t well received, but I thought the reception of the various brands was a good indication of how the industry is evolving.

It is true that a deeply imbedded, successful culture can be destructive to a company if the culture resists evolving with the competitive and economic environment. I can’t say for certain that Zumiez (or any other company) won’t someday have that problem.  But Zumiez can minimize that potential by just letting the young sales force that is part of its target demographic drive brand selection and be the arbiter of what’s “cool.”  If they do that I think this competitive advantage can continue to be sustainable.  That’s a hell of thing and unusual in our industry.

 

 

Does it Matter What Industry We Think We’re In? Zumiez’s Quarter

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For many of us, “action sports” doesn’t really describe our target market anymore. We struggle (or at least I struggle) with words like “youth culture” or “fashion” or “outdoor” to describe it. None of them work very well. They are all correct, but not adequate or complete. 

Maybe Zumiez has helped me figure out why. During the conference call, CEO Rick Brooks said, “…it’s really not about e-commerce, it’s really not about stores, it’s about meeting whatever our customers want and whatever channel they want it, anyway they want to get the product. That’s where we’re trying to play and we’re trying to dominate the market in that arena of integrated multichannel selling.”
 
He’s also talked about the fact that they had reduced their North American store projection over the years from 800 to between 600 and 700, but with no decline in revenue from what they would have expected with 800. That is due to the growth of ecommerce and integrated multichannel selling (also known as the now ubiquitous omni channel).
 
The thought that popped into my head was that Rick probably didn’t care quite as much as he used to whether the customer was best classified as action sports, youth culture, fashion, outdoor, or something else. What he cares about was that Zumiez carried the apparel, accessory, footwear, and limited hard goods brands (because that’s a point of differentiation- for now- for Zumiez) that his teen to young adult customers want.
 
At some level Zumiez, or any other retailer for that matter, isn’t going to define itself quite as rigorously as it used to. Its customer is going to define it. That will happen at least partly through Zumiez’s rigorous and ongoing process of identifying and assisting new brands and integrating them into Zumiez’s selling channels at whatever level they can succeed. They discuss the process of identifying and supporting new brands in the conference call. Here’s part of what CEO Brooks say on the subject:
 
“…we are just laser-focused on trying to be supportive and a really good partner for our small retail brands. And again, we have hundreds of brands today that we’re doing business with, just like we always have. And some of them are just in a few doors, and we want to be the right way for that young brand, and we want to do everything we can to help see them be successful. Maybe it’s just those 10 doors, but we’re hoping that over time — and they have to do their job well, too, of making sure that they have great products. They have to have a great marketing, and product and marketing have to be completely aligned with the unique brand positioning. And then they have to have great retail partners that believe in full price selling.”
 
It occurs to me we’re already seeing the customer define the brand happen in the decline of traditional print and media advertising. Why bother spending money (whose impact was already unclear) to define yourself to a certain customer group when the omnipotent, endlessly connected customer with near perfect information is going to decide for themselves what you stand for? 
 
It certainly changes the roll of the marketing department. It doesn’t have to explain what the company is about. It has to listen to the customer to evolve with them but not, it occurs to me, let that customer pull the company too fast or in a direction which will ultimately be wrong.
 
And yet, in response to analyst’s question, Rick talks about their Ultimate Gift Guide that they are mailing to selected control groups to see what kind of response they get. Maybe the role of print is changing in ways we don’t quite understand yet. I’d love more details on how they see the guide tying into their ecommerce channel.  
 
Zumiez may also have an advantage in this environment in the way they identify store managers and give them a high level of management discretion.
 
So I think I’m going to stop stressing out about what to call our industry. I’ve concluded not only that it’s less important, but that it might be a mistake to worry about it as it could lead to resistance to inevitable change.
 
Meanwhile, back in the financial statements, Zumiez’s revenues rose 6.2% to $191.1 million in the quarter ended November compared to the quarter ended October 27 last year. Ecommerce sales were 11% of the total (10.7% in last year’s quarter). They had a net of 55 more stores open in this year’s quarter (541 in North America at the end of the quarter). Comparable store sales increased 1.5%, “…partially offset by the negative impact of the calendar shift, which moved a week of the back-to-school season into the second fiscal quarter of fiscal 2013 and out of the three months ended November 2, 2013 compared to the prior year quarter.” The impact was $7 million.
 
Comparable store sales include ecommerce sales. They rose 7.9% while brick and mortar sales were up only 0.7%. 
 
The gross margin declined slightly from 37.3% to 37%. “The decrease was primarily driven by the deleveraging of our store occupancy costs and an increase in ecommerce related costs due to ecommerce sales increasing as a percent of total sales. This decrease was partially offset by an 80 basis points benefit due to prior year costs related to a step-up in inventory to estimated fair value in conjunction with our acquisition of Blue Tomato.”
 
Without the Blue Tomato inventory step-up, then, the gross margin would have been 36.2%.
 
SG&A expense as a percentage of sales rose from 25.4% to 26.2% or from $45.7 to $50.1 million. Part of the increase was from “…deleveraging of our store operating expenses.” I might have expected the opposite result with 55 more stores open. No detailed explanation is offered.
 
There was a charge of $1.3 million for settling litigation included, and some additional investments in their ecommerce business. There was a benefit of 0.6% because they reduced the expected earnout payments for the Blue Tomato acquisition. That happens because Blue Tomato isn’t performing as well as they had previously expected. That does not necessarily mean it’s performing badly. Total charge for the Blue Tomato acquisition this quarter was $1.7 million.
 
Operating profit fell from $21.4 to $20.7 million and net income was down from $12.7 to $11.9 million. The balance sheet is fine, and there’s no big change from last year. Inventory is up, but it’s consistent with having 55 more stores. In North America, inventory per square foot was basically flat.
 
I guess I’ll have Rick Brooks help me end this. 
 
“I just view retail in America as over-stored. I think, in particular, teen retail is way over-stored. And that is one of the reasons that there’s such tremendous promotional pressure in the teen retail world. One of the reasons, not all of them. But it is a significant reason, I think, that we see the level of promotional cadence in the teen world that we’re seeing today.”
 
That’s a problem for everybody in this space- not just Zumiez. And it’s a reason why you have to operate well. Sales and margin increases are hard to come by. The winners, I think, will be letting their customers help them determine their market position. I think Zumiez’s management would agree with that.

 

 

You Own Action Sports in the Mall. Now What? Zumiez’s Quarter

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 The headline I guess is that for its quarter ended August 3rd, Zumiez increased its sales and profits smartly. We have to talk about the impact of the Blue Tomato acquisition (July 4, 2012) and some restructuring costs, but basically things look good on a quarter over quarter basis. 

The more interesting issue, however, is the one I started to highlight when I talked about PacSun’s results. Zumiez is now the only pure retailer with an action sports focus in the mall. They describe themselves as “…a leading multi-channel specialty retailer of action sports related apparel, footwear, accessories and hard goods, focusing on skateboarding, snowboarding, surfing, motocross and bicycle motocross (“BMX”) for young men and women.”
 
I know Vans, Quik, and Billabong have mall stores, but they aren’t pure retailers and their focus is on their own brands. Their retail will live or die with the strength of their brands. Let’s not look for Billabong, just as an example, to replace Element with another skate brand if it’s not selling well. PacSun, as I discussed recently, has changed their focus away from action sports towards California based fashion trends.
 
If it’s too much to say that Zumiez owns the mall action sports niche, we can at least say they are the leader in the U.S., with 495 stores. They also have 27 in Canada and seven in Europe under the Blue Tomato name.
 
As CEO Richard Brooks describes it, their goal  “…is to reach all of our global markets with the right number of highly productive stores and a strong omni-channel presence that seamlessly extends our culture and our unique perspective on the action sports market wherever and whenever our customer interacts with us.”
 
So they are all about action sports. It’s great to be a leader in a niche as long as that niche supports your growth. I’d go so far as to say that through their consistent pursuit of a solid strategy over many years, their willingness to try and support new brands, the culture they’ve nurtured and their attention to system and operations that strive to get the right product to the right place at the right time, Zumiez has done most things right.
 
As you know, I’ve discussed how the action sports industry is actually smaller than we all thought it was during the good old days. I haven’t had anybody tell me I’m wrong about that. And we’ve all noted that fashion, youth culture, urban, or some other descriptor we haven’t come up with yet is a more accurate description of the market as it’s evolving.
 
If I were Rich Brooks, what would keep me up at night is wondering whether the market the company has worked so hard to stake its claim in isn’t changing so much that the competitive strengths the company has worked so hard to develop might not support the growth I need as a public company.  And if I step outside of the action sports market seeking that growth, how does that affect my ability to compete?
 
And Now, the Numbers
 
Sales for the quarter were $157.9 million, up 16.9% over the $135 million in last year’s quarter. North American sales grew 13.7%. European sales were around $6 million. Remember Zumiez only owned Blue Tomato for 1 of 3 months in last year’s quarter. Ecommerce sales increased 19.1% and represented 8.8% of revenue for the quarter, or %13.9 million. Comparative store sales were up 0.9%, but that includes the ecommerce results. Brick and mortar comparable store sales fell by 0.4%. If you add August in, comp sales are up by 0.8% for the year. By the way, I think including ecommerce sales in the calculation is the way to go. You just can’t isolate brick and mortar from ecommerce results any more.
 
The top line included 52 more stores than they had in last year’s quarter and benefitted from a calendar shift that meant the first week of back to school was in this second quarter instead of the third.
 
The gross profit margin rose from 34.4% to 34.9%. Most of the improvement was the result of not having half a million dollars in relocation costs they had last year, and not having another half a million in inventory step up costs they had due to the Blue Tomato acquisition. The product margin was “down slightly.” They expect it to be flat to slightly down for the rest of the fiscal year. 
 
Selling, general and administrative expenses rose from $42.6 to $47.3 million, but as a percentage of sales fell from 31.6% to 29.9%. Last year’s SG&A expenses included $800,000 in corporate office relocation costs. There were also $2.4 million of Blue Tomato related acquisition costs. In this year’s quarter there are $1.7 million of such costs. If we remove those costs from both quarters, SG&A expenses rose from $39.4 to $45.6 million.
 
Net income rose from $2.1 to $4.7 million.
 
There were comments about how promotional back to school continued to be and, consistent with other companies, how tough things were in Europe. There was this comment from CEO Brooks: “I think there is a trend back towards young women wanting to see more brands, perhaps better quality, in some of the clothing that they wish to purchase.” If he’s suggesting that fast fashion- cheap clothing bought often- might wear out its welcome, I agree with him.
 
I’ll be interested to watch Zumiez’s comparative store sales in coming quarters. I’ll also be interested to see if market evolution requires them to change the way they describe their market position in their filings. To me, Zumiez’s key strategic issue is whether the action sports market by itself will support the business they are building.

 

 

Zumiez’s Quarter: Comments on Growth and Ecommerce

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Zumiez’s 10Q and conference call for its quarter ended May 4th offered some insight into its growth strategy that I think are worth reviewing. Some of it isn’t new, but taken together the comments are interesting. 

Some Points of Strategy
 
At the end of the quarter, Zumiez had 503 stores; 475 in the United States, 22 in Canada and 6 in Europe. CEO Richard Brooks tells us in the conference call that they “…see room for new store growth in the U.S. and continue to plan our business here to be between 600 and 700 stores.” That includes outlet stores. They think they can triple the number of stores in Canada.
 
Zumiez plans to open a total of 58 new stores in 2013, including nine in Canada and six in Europe. So that means 43 new ones in the U.S. getting them to a total of 518 by year’s end.
 
With regards to their longer term plans for Europe, CEO Brooks tells us, “We’re not prepared to talk about the total European opportunity at this point, other than to say it’s significant, and we’re talking about hundreds of stores, not below, not in the double-digit number, but in the triple digit number, the store opportunity in Europe. And we don’t want to get too far ahead of ourselves. Again, because we’re, you worked with us for a long time, you know that we like to show results.”
 
So the goal is hundreds of stores in Europe (I don’t know if they will be branded Zumiez or Blue Tomato or both) but not too quickly. They are looking at a five year horizon for Blue Tomato to “…be a meaningful part of our business.”
 
The next piece of related information is that comparable ecommerce sales were up 13.1% and represented 11.8% of the quarter’s revenue compared to 7.7% of revenues in the quarter ended April 28th last year. Comparable ecommerce sales do not yet include Blue Tomato. That will happen in July, when Zumiez will have owned it for a year.
 
Talking about ecommerce, CEO Brooks tells us the following:
 
“We are also investing heavily in enhancing and expanding our unique perspective on the action sports lifestyle into the virtual space…There is still a great deal of a room to further integrate our selling platforms, but we continue to make important strides towards creating an omni-channel business that gives consumers quick and easy access to the product they want, however they want, anytime they want, and also delivers the same great Zumiez brand experience they’ve come to expect from us.”
 
This isn’t new and it isn’t exclusive to Zumiez. Brands and retailers are working to figure out how to give a consumer who is pretty clearly in charge access to their product in the way the consumer wants it and to control that interaction (at all the “touch points” as it’s being called). How, everybody including me wants to know, do you manage brick and mortar and ecommerce so that they are complementary and supportive rather than competitive?
 
Here’s part of the answer according to CEO Brooks:
 
“As we evaluate and execute on opportunities in the U.S., it’s important to note that we’ll actively manage the entire store portfolio, and we expect to close some low performing stores. Our goal here is to reach all markets in the U.S. with the right number of high productivity stores and a strong omni-channel presence.” He makes similar comments about how they expect to expand in Europe.
 
As a public company, continued growth has to be important to Zumiez. In maybe two to three years, assuming they can make the right deals in the right locations, they will reach 600 stores and have to face that probability that store growth will start to slow in the U.S. Part of their answer to slower growth here is growth in Europe. Another part is higher store productivity, ecommerce growth, and taking advantage of synergies in whatever form they exist between brick and mortar and online. This is their omni-channel strategy.
 
Part of that productivity focus, as well as a point of differentiation for the Zumiez brand, comes from the brands they carry. One analyst asked the following question:
 
“And it seems like some of the larger, more mature action sports brands are broadening the distribution.” Really?! No kidding?! Is this really happening?! Shocked! I’m shocked!
 
The analyst continues, “Seeing some of it up here, and even moderate department stores. I guess, how does that change your appetite for some of these big, well-established action sports brands?”
 
Rich Brook’s answer won’t surprise anybody who’s been following Zumiez for a while. “…I guess I’d challenge you to find much product in our store that is from those large, well-established actions sports brands. In most cases, we move beyond them pretty significantly. So you won’t find a very big presentation, if any, at all.”
 
Go back and read that carefully. Note that this is a trend we’ve seen in other retailers. PacSun for one, as I noted the last time I wrote about them. Just in case any smaller specialty retailers might be reading this, which brands are you carrying? Hopefully, it’s not the ones who give you the biggest discounts or stuff on consignment, because I can pretty much say you won’t earn a dollar on product that doesn’t sell.
 
I am not saying “Don’t carry big brands.” I am saying carry the brands that your customers want, that let you earn the margin dollars you need, and that differentiate you. I’ve been arguing for years in favor of trying new brands even though that often seems risky, because it’s riskier not to try.
 
Financial Results
 
Sales for the quarter grew 14.3% from $129.9 million to $148.5 million. Blue Tomato’s sales were up 8.6% and added $9.1 million to revenue. North American sales were up 7.3% or $9.5 million. Comparable store sales fell 0.7% compared to an increase of 12.9% last year. Brick and mortar comparable store sales were down 1.8% but, as noted above ecommerce, which is included in comparable store sales, was up 13.1%. This quarter was a week shorter than last year’s quarter. The sales increase came from new store openings (42 compared to last year’s quarter) and the addition of Blue Tomato.
 
The gross profit margin declined only very slightly from 32.4% to 32.3%. The merchandise gross margin rose by 0.6%.
 
Selling, general and administrative expenses (SG&A) as a percentage of sales rose 26.8% to 29.6%. 1.2% of that increase was due to higher spending on ecommerce. Given their strategy, I see that as positive. 0.5% was the result of comparable store sales being down, and they had a $1.1 million (0.7%) charge for Blue Tomato future incentive payments.
 
The higher SG&A expense reduced pretax income by 47% from $7.8 million to $4.1 million. Net income was down 45% from $4.5 million to $2.5 million.
 
As management acknowledges, the European environment is really tough. I think it’s likely to stay that way for a while. But Zumiez has big plans for it. They see it as a source of growth when North American store openings slow in a few years and that certainly explains at least partly the price they paid for Blue Tomato.
 
The things I find most interesting about Zumiez’s strategy is how they are evolving the brands they carry, and their focus on the “omni-channel” strategy where they, and the rest of us, try and figure out how to make the brick and mortar and ecommerce whole more than the sum of its parts.     

 

 

Zumiez Annual Results and its Evolution as a Brand

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I’ve talked before about brands becoming retailers and retailers becoming brands. There’s a lot of uncertainty as to what that would mean and how it would cause the market  to evolve. I’ve also said that the best retailers make the brands they carry credible- not the other way around. That’s true, but I don’t think I completely understood the implications. 

I’m sure I still don’t- completely.  But Zumiez, with its annual report and conference call, may have advanced my thinking a bit. I want to talk with you about how Zumiez management sees their company developing. I’ll get to all the numbers, but this isn’t about comparable store sales, or the growth of ecommerce, or the number of stores they open, but what it means for Zumiez to be a brand and how they expect to reach their customers.
 
The Integrated Experience
 
Interestingly, and maybe intentionally, you don’t really find the discussion in the 10K (which you can read here). They say, under Marketing and Advertising, “We seek to reach our target customer audience through a multi-faceted marketing approach that is designed to integrate our brand image with the action sports lifestyle,” but that’s as far as they go.
 
Multi-faceted marketing approach requires some more explanation. Integrating the brand with the lifestyle goes a long ways towards Zumiez giving credibility to the brands it carries.
 
Let’s start by noting that Zumiez includes ecommerce sales when calculating comparable store sales. To me, that’s an acknowledgement that ecommerce and brick and mortar sales impact each other and neither can be looked at in isolation. It is also an acknowledgement that the relationship between them is dynamic and a bit uncertain. We’re all still learning. CEO Richard Brooks notes in the conference call that they are going to have to “…reinvent the way we think about these metrics…” and they say in the 10K that, “There is significant interaction between our in-store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers.”
 
Take a look at his’ comments in the conference call on what Zumiez is trying to accomplish and why.
 
“…what I really want to get everyone focused on this idea of what we’re really trying to do, which is build an omni-channel model, which is an integrated, multichannel selling platform, where you can unleash the power of what we’re doing with inventory and the brand experience for consumers, as well as our salespeople in every touch point of the business.”
 
He sees a lot of opportunity in their pure ecommerce play, “But the primary opportunity is going to be continuing to look and build — continuing to look at how we build this integrated multichannel selling platform across the organization and that’s really where our growth has been coming from, will continue to come from, as I see it over the next year or so.”
 
If you’re unclear about what he means by touch points and why they are important, take a look at this book, which I’ve recommended before.
 
CEO Brooks believes “…we’re in a period of market consolidation, where the best operators will win share.” Acknowledging the power that the consumers now have, he continues, “…when you talk about the power of the consumer, the integration of their ability to shop in any time of the day, any place, any time through these new smart devices I think it simply means that more volume moves towards the direct channel, in whatever form that may take… And I think what it highlights is that there is simply too much physical retail space. When we talk about share consolidation,…that’s the underlying reasons, as we see it, for the consolidation that’s taking place…our perception is that we’re in the early stages of this idea of omni-channel retail, of integrated multichannel selling…So this has a ways to go. It’s going to take a number of years yet for this fully to play out. And that’s why in our comments, you hear us talk about, again, striving to make the right investments, continuing to invest in our people throughout the organization, as key things that are going to drive our ability to perform well in this kind of environment.”
 
Like me, and probably most of you, Richard Brooks doesn’t know exactly how this is all going to work out but he’s sure it’s going to continue. I wonder which retailer will be the first to have one of those solid object, 3D printers.
 
In the past, Zumiez has indicated they thought they might ultimately have 600 to 700 stores in North America. But Brooks says Zumiez is “…regularly reevaluating what that range is…” and that they are managing their store portfolio “aggressively.” That’s because they are not as focused on their store number as on how those stores fit in with their omni-channel world.
 
“…it doesn’t really matter where we end up in that 600 to 700 range, we’re modeling the same amount of revenue. It’s how we’re capturing the revenue, Paul, that is the key thing and in which channel we’re capturing it, whether it be purely e-commerce, whether it be in-stores or whether it be an integrated omni-channel world.”
 
We could go back to the 10K (it wouldn’t hurt you to skim pages four and five) and learn what Zumiez thinks are their competitive strengths and growth strategies. But I’ve listed and discussed them before. I think those strengths and strategies are basically tactics. Their strategy is to develop an integrated omni-channel retailing model where each channel supports the other and, by doing that strengthen the Zumiez brand, makes it something of an arbiter of the brands it carries, and create a competitive advantage. They’ve been working on it for years, and it feels like market evolution is playing right into their hands.
 
There is a danger for brands here and I’ve written about it before. To the extent Zumiez can actually succeed in becoming an arbiter of which brands are cool, and to the extent a brand becomes dependent on a large order from Zumiez, a brand might lose some control over its own destiny. What that probably means is that brands need to pursue some of the same “touchpoint” strategies as Zumiez.
 
Financial Results
 
As of February 2, 2013, Zumiez had 500 stores; 472 in the U.S., 20 in Canada (ten opened during the year), and 8 in Europe (remember they acquired Blue Tomato in July of 2012). In the year ended February 3, 2012, they opened 53 stores, closed five, and acquired eight. Typically, each store gets merchandise five times a week. Private label was 16.9% of net sale, consistent with the last couple of years. No single brand accounted for more than 9% of their revenues. That’s up from 6.3% the prior year.
 
Sales for the year ended February 2 grew 20.4% from $556 in the prior year to $669 million. This includes $28.3 million in net sales from Blue Tomato, which are not yet included in comparable store sales. Comparable store sales rose 5.0%. That 5% includes a 2.9% increase in brick and mortar sales, and a 32% increase in ecommerce sales which, as I noted above, are included in comparable store sales. Note that the most recent year included an extra week compared to the previous year. That’s just the way the calendar worked out.
 
Men’s apparel represented 34% of net sales. Footwear was 23%, accessories 19%, and hard goods and junior apparel each 11%. It’s been assumed that carrying hard goods has been an important differentiator of Zumiez in the mall. I’ve assumed that as well, but I think if I were Zumiez management, I’d be taking a close look at the roll of hard goods. I’m guessing they aren’t highly profitable, but they take up some room. Wonder how few they can carry and still get the market differentiation they think it provides?
 
Of the total sales of $669 million, $619 million were in the U.S. and $50 million were foreign. Foreign includes Canada and Blue Tomato. 
 
Gross margin fell from 36.3% to 36%. Selling, general and administrative expenses (SG&A) rose from $141 to $173 million and as a percent of revenue were up from 25.4% to 25.8%. Advertising expenses, which exclude sponsorships and vendor reimbursements (love to know more about that), were $6 million, up from $2.5 million the previous year and $1.3 million the year before that. I interpret that as more spending to support the Zumiez brand, consistent with what I’ve described above.
 
Zumiez also committed $700,000 to the Zumiez Foundation, a charitable nonprofit organization focused on the helping the under-privileged. Cool.   
 
Operating profit grew about $8 million to $68.5 million, and net income was up 12.9% from $37.4 to $42.2 million. The latest year’s results included $7.3 million in costs associated with the Blue Tomato acquisition and $2.1 million in charges for relocating their home office and ecommerce fulfillment center.
 
For the last quarter of the year, net sales rose 21.7% from $184 to $224 million compared to the same quarter the previous year. The gross profit margin fell from 38.9% to 38.2%. Comparative store sales (including ecommerce remember) fell 1%. Net income grew from $18.7 to $22.9 million. There’s no discussion of the quarter’s results in the 10K.
 
The balance sheet is fine. There’s a big decline in cash, but that’s due to paying for Blue Tomato, their share repurchase program and the cost of opening new stores.
 
The Plan for 2013.
 
Zumiez expects to open 60 stores globally during the current year. 15 will be in Europe and Canada. Due to economic conditions in Europe, they have reduced their projections for Blue Tomato, though they don’t say by exactly how much.
 
They don’t provide a projection for the full year because, according to CFO Chris Work, “…consumer sentiment is tough to gauge and there is still uncertainty about the sustainability of an economic recovery.” For the first quarter they expect “…same-store sales [including ecommerce remember] to decrease in the mid-single-digit range.”
 
But they “…are planning our comparable store sales to increase in fiscal 2013, although we are cautious in outlook and believe this could be lower than comparable store sales in 2012.” Chris continues, “…we expect our consolidated product margins, excluding the impact of the inventory step up, to be down slightly. We plan to continue making strategic investments that we believe will reap long-term benefits, focused on enhancing the customer experience across multiple channels, growing our international footprint and investing in our people and infrastructure to support our domestic and international growth in 2013 and beyond. We expect these investments to slightly deleverage our overall gross margin, as well as SG&A for 2013. However, we expect operating profit to increase.”
 
Like all of us, Zumiez is hostage to economic conditions. But they are pursuing their strategy (as discussed above) even at some short term cost and have the balance sheet to do it.

 

 

Zumiez’s October 29 Quarter and a Strategic Observation

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Zumiez reported sales growth during the quarter of 16.9% from $154 million to $180 million. Without the Blue Tomato acquisition, sales would have risen 11.7%. The gross profit margin fell from 38.9% to 37.3%. Selling, general and administrative expenses rose from $37.1 million to $45.7 million, or by 23.2%. As a percentage of sales, they rose from 24.1% to 25.4%. 

Net income fell 10.4% from $14.1 million to $12.7 million.
 
Comparative store sales were up by 3.7% and ecommerce sale were 10.7% of the total, up from 6.4% in the same quarter last year (Remember that now includes Blue Tomato, which does quite a bit of online business). Zumiez ended the quarter with 495 stores; 471 in the U.S., 19 in Canada and 5 in Europe. They’ve added a net of 48 stores since October 29, 2011.
 
Let’s remember that the July 4 acquisition of Blue Tomato in Europe for $74.8 million plus contingency payments of up to $28.6 million had an impact on their results, as has the new ecommerce fulfillment center in Edwardsville, Kansas and moving their home office from Everett to Lynnwood, Washington. Without the costs associated with the corporate relocation and Blue Tomato acquisition, SG&A would have been 23.7% of sales; lower than the same quarter last year.
 
The 1.6% decline in gross margin “…was primarily due to a 90 basis points increase in ecommerce fulfillment and ecommerce shipping expenses and an 80 basis points impact of a $1.4 million charge recorded during the three months ended October 27, 2012 related to a step-up in inventory to estimated fair value in conjunction with our acquisition of Blue Tomato.” They gained 40 basis points by leveraging store occupancy costs over higher comparable store sales. It’s noted in the conference call that product margins would have improved slightly without Blue Tomato.
 
During the quarter, Zumiez booked $2 million in expense as part of the expected contingency payment for Blue Tomato. This explains part of the increase in the SG&A expense line. There was also a 1% increase in corporate costs and a 0.3% increase in amortization of intangibles as a result of the Blue Tomato deal. These increases were offset to some extent by a 0.4% decline in incentive compensation and a 0.9% improvement in store operating efficiencies.
 
Zumiez’s lease on its former corporate headquarters doesn’t expire until 2017, and they’ve got some ongoing costs for it. During the quarter, they booked $200,000 in cost of goods sold and $300,000 in SG&A. 
 
The balance sheet shows the impact of the Blue Tomato acquisition. If it’s slightly weaker than it was a year ago I guess, it’s still very solid, so no discussion is required.
 
Zumiez’s 10Q (see it here) tells us that, “The activity of Blue Tomato that was included in our condensed consolidated statements of income from the acquisition date to October 27, 2012 was net sales of $9.6 million and a net loss of $1.8 million.”  Of those Blue Tomato sales, $8.1 million were during the quarter. It doesn’t tell how much of the loss was during the quarter, but it obviously had a negative impact.
 
In theirs earnings release and conference call, Zumiez acknowledged that their sales and earnings during the quarter were below what they expected. “The shortfall in sales came primarily from softness in Europe, which we attribute to unfavorable weather and pressure on consumer spending as a result of difficult macroeconomic conditions,” said CEO Rick Brooks.
 
As an aside, I’d encourage all of you not to think the crisis in Europe is over. I didn’t quite know whether to laugh or cry when I heard that some of Greek’s debt had been effectively converted into zero coupon, perpetual bonds. Financial alchemy is so much fun!
 
For the fourth quarter, Zumiez expects same store sales to decline by 3% to 4%. 
 
“The fourth quarter guidance assumes a decline in product margin compared to last year, primarily related to a modest decline in our domestic margins as a result of our current sales projections and lower margin experienced for our Blue Tomato business due to their product mix and effects of the inventory step-up.”
 
They expect that acquisition related charges during the quarter will be $3 million.
 
To sum it up, Europe and Blue Tomato aren’t performing to expectations, there have been some substantial, though expected, costs for the acquisition and changes in location, winter business is weak, and the economy’s none too great in North America either.
 
With that as background, let’s move on to the strategic question I alluded to in the title.
 
Zumiez has positioned itself as an action sports lifestyle brand. CEO Brooks noted in the conference call that he believed in that lifestyle. “The lifestyle has real resonance,” he says.
 
I read public information not just to tell you how an individual company is doing, but to look for issues that everybody in this space probably needs to think about. The one I find myself thinking about right now is just what is the action sports lifestyle market and how big is it?
 
It’s hardly the first time this issue has been raised, and not just by me. The action sports industry is really pretty small, or at least that’s what I believe. And it’s been compromised by big players in youth culture, fashion, urban street wear; pick your term. The borders are no longer as clear as they once were.
 
When Volcom was sold to PPR, I complimented them on selling at the right time before they needed a deal. Volcom owned their market niche, but where did they go from there? They needed expertise they didn’t have to branch into the larger market. How successful they will be is still an open issue.
 
Zumiez is the core action sports shop in the mall. They own that niche. It’s been validated by other brands opening their own mall retail stores. But when you’re so successful, and so closely identified with a niche, how do you grow and how to you respond as the market evolves away from core action sports while still keeping your credibility in the market you’re successful in? 
 
Zumiez can and will open more stores (their target is 600 to 700). But as an example of what I mean, I want to focus on Zumiez’s discussion of its men’s footwear business in the conference call.
 
Here are CEO Rick Brooks’ comments on that business:
 
“I read it in many of your notes that we’ve seen athletic footwear really start to take off both in the sense of athletic shoes, but we’re seeing that really calling out basketball and running as categories. Obviously those are areas that we play.”
 
“If you don’t come to us for basketball shoes or for running shoes, they come to us for a skate shoe. So I think that we have some challenges there relative to just a cyclical cycle in footwear.”
 
“I would anticipate that we’re probably more likely in the early phases of an athletic footwear trend, than the later phase at this point based upon our experience what we see in the marketplace.”
 
“So as we think about what we’re going to do with footwear going forward, we definitely think we have some opportunities where we know we’re missing a few things with some key brands in our current business.”
 
I’d love to dig in more deeply on this subject with Rick. But what I’m hearing him say is that there’s some men’s footwear product Zumiez could be carrying they don’t carry now that would be responsive to market trends.
 
But it seems to me that product isn’t necessarily representative of the action sports lifestyle. The question for Zumiez (and other companies as well) is the extent to which they respond to these trends.
 
Do they carry it and compete for the customer who wants that product? Or do they decide that it’s not representative of the action sports lifestyle? If they carry it, they may hold onto a customer they would otherwise lose. But they may also find themselves in a market where their advantage is less (because it’s not all about the action sports lifestyle) and could even confuse their core customers. If they don’t carry it, they may lose a customer they had before and find themselves isolated as the market changes.
 
Well, this is why companies have managers, and I imagine Zumiez managers asks themselves this question every day about every product and every brand they carry or consider carrying. They’ve responded at least partly with an emphasis on systems that get the right product to the right stores (micro sorting they call it) and by giving store managers quite a bit of discretion, as they describe it, in selecting inventory.
 
But more globally, the issue is just what is the action sports lifestyle market? It’s not what is used to be.

 

 

Zumiez Releases More Information on Blue Tomato

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Life is so not fair. Here I am on vacation, vowing to just get the Zumiez analysis done. I do that, I send it out and now I can relax, right? Nah. Literally 20 minutes later, along comes an 8K/A from Zumiez filed with the SEC giving us the Blue Tomato financial statements.

Let’s try and keep this short. First, here’s the link to my article on Zumiez’s quarter. I noted in that article:

“The Blue Tomato acquisition closed on July 4th. They paid $74.8 million for it (59.5 million Euros actually). Blue Tomato has 5 retail stores in Austria and a big online business. Lord knows Zumiez didn’t pay that price for 5 stores so it’s clearly a really big online business. There are also potential additional payouts totaling $27.2 million at the current exchange rate, part of which is in Zumiez stock, through April 2015.”
 
The presentation of financial statements in Austria is different from the U.S., but my review of the notes suggests that accounting standards are similar. There’s actually a footnote describing the differences and for our purposes, they aren’t that different.
 
The April 30 balance sheet (numbers in Euros) for Blue Tomato shows current assets of 13.85 million. That includes merchandise inventory of 3.9 million and cash of 5.2 million. There are also trade receivables of almost 1 million which I wouldn’t necessary expect from a retailer, but things work differently in Europe. Maybe it’s just money due from the credit card companies.
 
Fixed assets are 2.6 million. I assume that’s the net value after depreciation. There is only 355,000 in intangible assets. Liabilities are 2.85 million, of which 1.85 million is bank loans and overdrafts. Equity is 9.26 million. The balance sheet then, is very solid.
 
The income statement is for the 2011/12 fiscal year, but it doesn’t say on the income statement what month that year ends. I’m guessing it’s April 30 since that’s the balance sheet date. Revenue from merchandise sale was 29.5 million. Expenses for materials and other purchased services were 16.78 million, giving a gross profit of 12.69 million, or 43%.
 
However, this is a retailer. Remember that in the U.S. a retailer would typically include in cost of goods sold certain salaries and occupancy costs. Blue Tomato doesn’t present its numbers that way. That’s neither right nor wrong- just different.
 
Total personnel expenses, we see next, were 3.4 million of which 20.5% was for payroll taxes and contributions. Blue Tomato had 137 employees. They report operating income of 4.7 million, but that includes “other expenses” of 4.05 million. That’s kind of a big number to not identify. I’ll check the footnotes. Nope, no note explaining that.
 
Blue Tomato’s net income for the year is 3.49 million, or 11.8% of revenue.
 
Zumiez goes on to provide us with some more information in the form of unaudited, proforma income statements for the year ended January 28, 2012 as if the Blue Tomato acquisition had occurred on January 30, 2011. As Zumiez points out, all we’re doing here is adjusting some numbers and applying U.S. generally accepted accounting principles, and there’s no reason to think this actually represents how the year would have gone. Still, it’s instructive.
 
The bottom line is that Zumiez reported a net income of $37.4 million in the year ending January 28, 2012. If you add Blue Tomato in and adjust its accounting to U.S. standards, the net income of the consolidated entity is $30.92 million, a decline of 17.3%. Since Blue Tomato made money, how come?
 
First, as I discussed in my original article, there’s a write up of inventory value of $2.2 million that increases the cost of goods sold. But the bigger number is the increase in selling, general and administrative expenses of $11.25 million. That includes $2.3 million of additional amortization expense for the acquired intangible assets, $200,000 of additional depreciation expense, and $8.7 million of future incentive payments to the owners of Blue Tomato.
 
There’s also a tax benefit of $2.3 million.
 
I guess everybody is trying to figure out if Zumiez got a good deal, or paid too much or what. It’s very much a strategic purchase which means we won’t really know for a while. Let’s put it this way; with the limited information I have, I’d say they paid a lot, but purchased a high quality business. If it continues to grow, and offers Zumiez international expansion opportunities, it will have been a good deal.

 

 

Zumiez’s July 28th Quarter; Forget the Numbers. I Might Have Had a Strategic Epiphany

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Okay, I don’t mean it. No way I can ignore the financial results. It’s just not the way my mind works. But I was so struck with something President and CEO Rich Brooks said in their conference call that I wanted to start there. He said, as a brief part of a longer answer to an analyst’s question, “…we are an action sports lifestyle retailer.”

Well big deal, right? We all knew that. But for some reason, I paused, thought, and on the margin wrote, “Yeah, but is anybody else?”

That opened a mental floodgate. Well, obviously some independent, specialty retailers still are. And I guess some smaller brands (especially in hard goods) are all about action sports. But I perceive that most of our not small brands and multi-outlet retailers are more focused on youth culture than on action sports, though action sports is certainly an important part of that focus. Many of these brands and retailers would say they have their roots in action sports, or have a focus there, or however they put it, and they do. But more and more, with growth, their customers are increasingly removed from the action sports market.
 
The conventional wisdom, which I’ve supported, is that this is inevitable with growth, and is especially inevitable with public companies that have to seek regular growth. They use their roots in action sport to make their brand or stores or both attractive to the broader youth culture or fashion customer that they have to have to get the sales growth. Their target has to be the broader market. Being only an action sports brand or retailer probably restricts growth. 
 
Zumiez, on the other hand, starts with the action sports participant or close follower as their target, focuses there, and invites the broader customer base in if they’re interested. That doesn’t change as they grow. As they describe it, everything they do in their stores from the people they hire, to the way they merchandise, to the brands they sell are action sports based.
 
I suppose I’m oversimplifying this distinction to make a point- which I will eventually get to. Certainly some brands can argue that they are just as action sports focused as Zumiez. Yet as they work to grow their customer base past action sports, that argument gets harder to make.
 
To the extent this distinction is accurate, other brands and retailers are essentially building Zumiez’s market niche and competitive advantage for them. That’s why “…we are an action sports lifestyle retailer,” struck me. Zumiez’s competitors are doing its work for it. That’s my point.
 
Maybe I’m the only one surprised here. Zumiez’s management will tell you they’ve been pursuing this same market positioning since the company’s founding in 1978. And of course my analysis only becomes valid (if you think it is- can’t wait to hear) after the action sports market got much more inclusive, more broadly distributed, and of interest to really big players in the branded consumer products market. So to that extent, I guess Zumiez got a bit lucky.
 
Zumiez stuck to its strategy even as the market changed. Other brands and retailers chose to expand their focus with that market evolution. I’m not suggesting one is right and the other wrong, but it seems to have worked for Zumiez so far.
 
And, now those boring numbers. Probably shouldn’t say that. This will be where people stop reading.
 
Sales for the quarter ended July 28th were $135 million, up 20.4% from $112 million in the pcp (prior calendar period- same quarter last year). They ended the quarter with 457 stores in the U.S., 17 in Canada and five in Europe. Ecommerce sales were 6.9% of net sales compared to 5.3% in the pcp. Comparable store sales rose 9.5%. They ended the quarter with 50 more stores than a year ago.
 
The Blue Tomato acquisition closed on July 4th. They paid $74.8 million for it (59.5 million Euros actually). Blue Tomato has 5 retail stores in Austria and a big online business. Lord knows Zumiez didn’t pay that price for 5 stores so it’s clearly a really big online business. There are also potential additional payouts totaling $27.2 million at the current exchange rate, part of which is in Zumiez stock, through April 2015.
 
Acquisitions complicate financial statements a bit. Let me walk you through the impact. First, Blue Tomato contributed $1.5 million in net sales and a net loss of $600,000 during the quarter. There were $1.5 million in transaction expenses (stuff like legal fees) they booked as part of selling, general and administrative expense (sg&a) during the quarter. They also booked there $700,000 for the first anticipated incentive payment.
 
The inventory they acquired had to be written up $2.2 million and is being expensed to cost of goods sold over 5 months. That’s the period over which they expect to sell the inventory. Half a million of that was booked in the quarter and I guess most of the rest will be in the next.
 
There was also a $500,000 net foreign currency gain in the quarter, mostly from the Blue Tomato deal, that was part of other income.
 
We’re not quite done with Blue Tomato, but let me tell you that Zumiez had net income of $2.07 million in the quarter, down 19.5% from $2.59 million in the pcp. Zumiez shows some pro forma financial information “…as though the acquisition of Blue Tomato had occurred on January 30, 2011.” You can review Zumiez’s 10Q here if you’re interested in all the adjustments they made (see page 11). I’m sure you’re all rushing to see that.
 
What they report is that, on a proforma basis with Blue Tomato included, they would have had a profit of $930,000 this quarter and a loss of $1.07 million in the pcp.
 
And while we’re on one time event kind of stuff, you will recall that Zumiez move their home office and ecommerce fulfillment center. That cost them $1.3 million in the quarter.
 
The gross profit margin grew 1.4% from 33% to 34.4% in the pcp. Most of that came from product margin improvement of 1.2%. Sg&a expenses rose from $33.5 million to $42.6 million. As a percentage of sales, it rose from 29.8% to 31.6%. Most of the increase was the result of the Blue Tomato and relocation expenses already described.
 
Earnings before income taxes rose from $4 million to $4.8 million, but an increase in the tax rate from 35% to 56.5% left them with a lower net income. They “…estimate our effective tax rate will be adversely impacted by the tax effects of the acquisition of Blue Tomato.”  That’s what we’re seeing here. I’m not clear how long that impact lasts.
 
Let me see if I can work my way around to a closing by reviewing some comments that were made by Zumiez management in the conference call. CEO Brooks starts by talking about the continuing key drivers of the business; “…higher store productivity, domestic new store growth, greater penetration in e-commerce, and international expansion.”   He talks, as he has before, about Zumiez’s “…highly differentiated product assortments and exceptional in-store experience continues to attract and engage our core consumer…” Nothing new there.
 
Then, later, in response to an analyst question, he says, “I think our buyers do great job in terms of driving our margin forward and negotiating with our partners on price. I would also add that our inventory levels are, in terms of the quality of inventories, are in very good shape.” He also talks about how their brand selection, buying and inventory management means that most of their promotions are planned tactics as opposed to responses to market competitive conditions.
 
Further discussion is about the ongoing implementation of inventory assortment planning tools. “We’re talking,” he says, “about being able to, at a SKU level, be able to assortment plan on every brand category combination by week, by location. So, very powerful tools that allow us to build up from those base-level sort of plans up to what our overall open-to-buy planning is, and of course reconciling those things together.”
 
Finally, he talks about it becoming “…an omni-channel world.” Zumiez see online and brick and mortar as increasingly integrated going forward. He expects this integration to proceed “…to the point where I’m not sure I’m going to be able to tell you in future what’s driving volume and transaction in stores and what’s driving volume and transactions online because they’re going to be that tightly integrated. The consumer gets to choose and all that’s important is that we’re in every channel they want and the way they want us, with a great brand experience and the product they want.”
 
I’ve been pointing recently to how other companies are responding, in a way similar to Zumiez, to the power of the consumer, the need to offer them experiences (due to availability and lack of differentiation in product), the need to operate well and the tie in between those quality operations and your marketing, and the breakdown between the historical brand/retailer business model. You know- retailers becoming brands and brands becoming retailers.
 
You can see in Zumiez’s discussion how they see the pieces fitting together. Other companies have essentially said the same thing. I suppose they always did fit together, but in better economic times it wasn’t quite so important.
 
There is one fly in the ointment here. When Rick Brooks talks about his buyers doing a great job, what I hear is how hard they are squeezing their suppliers. Well, that’s their job. And it’s certainly true that their strategic positioning and investment in systems, which I have highlighted, may give them the ability to do that.
 
As everybody knows, the relationships between brands and retailers are evolving fast. But both sides still need to make money.
 
Zumiez made a strategic decision in acquiring Blue Tomato that in the short term (I’m not quite sure what “short term” means) has hurt their financial results and the market didn’t like it. Oh well. I think public companies are too quarter to quarter oriented anyway. We didn’t get any information about it this time, but I’m sure that some European stores are in Zumiez’s future now that they have a management team over there to lead implementation. As management emphasized, Blue Tomato’s culture is very similar to Zumiez’s. It will be interesting to see if they can pull off the same kind of brand positioning in Europe that Zumiez has in the U.S. when they do open more stores there.   

 

 

Zumiez Buys Blue Tomato

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Well, this one caught me by surprise, though I guess it was supposed to. No, not that Zumiez bought Blue Tomato, though that caught me by surprise too. What surprised me is that Zumiez has a “…strategic plan to build the leading global action sports retail business.” And, according to the press release, this acquisition is the “next step” in that plan, so I guess it’s not new.

 Zumiez CEO Rick Brooks noted, “The similarities between each organization’s culture and operating philosophies give us great confidence we can successfully leverage our combined expertise to selectively expand Blue Tomato’s European footprint and strengthen our foundation to support future international development.”

I knew about the Canadian expansion, and I knew Zumiez is planning something like 600 U.S. stores, but I didn’t know about these global plans. I don’t recall any specific discussion in any SEC filings or in a conference call. Maybe I just missed it.
 
All the currency figures I’m going to give you are in euros. The current exchange rate is 1.265 euros to the dollar. To hear Zumiez’s announcement and discussion of the transaction, you can call (877) 523-5612 and enter passcode 16847. The press release and SEC filing is available here.
 
Blue Tomato was founded in 1988 by Gerfried Schuller and has five stores in Austria. It’s got a 10,000 square foot flagship store, two smaller stores, and two other snow focused store that are seasonal. It sells “…an extensive and diverse mix of branded snow and skate hard goods, apparel, footwear, and accessories across Europe.” Its sales in the year ended April 30, 2012 was EUR 29.4 million. That’s a 27% increase over the previous year, and Zumiez says their EBITDA has grown at a compound rate of 42% over the last three years. Their net income for the April 30, 2012 year was EUR 3.5 million under Austrian accounting standards. No idea how Austrian accounting standards are different from the U.S.
 
75% of Blue Tomato’s business, or EUR 22 million in the last complete fiscal year, is done on the internet. They operate in 14 languages and sell to 60 countries, though those sales are concentrated in Europe.
 
Zumiez is paying EUR 59.5 million plus contingent payments of EUR 22.1 million over the next three years that will depend on management achieving certain performance objectives. We aren’t told the specifics, but the contingent payments will depend partly on achieving a certain EBITDA in the 2015 fiscal year and, interestingly, “…the opening of certain defined incremental stores in the European market by the end of the fiscal year ending 2015.” 
 
 Up to EUR 5 million of the contingent payment will be in Zumiez stock. The purchase price will be paid from Zumiez existing cash balances. Existing management will continue to run Blue Tomato.
 
Even ignoring the earn out, the purchase price is more than twice the last complete year’s sales. Shades of Decker’s purchase of Sanuk. I’m really wishing I knew something about Austrian accounting.
 
Zumiez paid what I take to be a big price for Blue Tomato, but they expect it to improve their earnings in the second half of their fiscal year (assuming the deal closes by July 1 as planned). But given the growth Blue Tomato has experienced in what is generally conceded to be a soft and deteriorating European economy, I can imagine why that price might be justified. And, happily for Zumiez, the Euro has weakened in the last couple of months. I wonder if Blue Tomato’s decision to sell now wasn’t based, at least in part, on the overall financial and economic situation in Europe. My hat’s off to them for deciding to sell when things were going well.
 
So Zumiez is going to open some stores in Europe, but we don’t know if they will be Zumiez or Blue Tomato stores, or both. We also have another example of a retailer whose brick and mortar stores, though important for building the brand, are a smaller part of the overall business’ revenues and profits compared to ecommerce. This is not a new trend.
 
I will look forward to watching how the Zumiez’s culture translates to Europe, seeing how and where they open stores, how they integrate inventory management, and how their respective web presences evolve to work with each other.

 

 

Zumiez’s Quarter; Ho Hum, Another Good One. How Do They Keep Doing It?

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If it wasn’t so intriguing, it would be getting boring. Zumiez’s sales for the quarter ended April 28, 2012 grew 22.7% to $129.9 million from $105.9 million in the same quarter the previous year. Comparable store sales were up 12.9%. Ecommerce sales rose 7.7% and were 6.2% of the quarter’s total sales. They think ecommerce may eventually be 10% of their sales. They had 47 more stores than they had at quarter’s end a year ago (445 in total).

You can see their complete 10Q here.

Their gross profit margin rose to 32.4% up from 31.3 in last year’s quarter. Mostly, the increase is due to leveraging their costs across more stores. That is, they have 47 more stores but didn’t have to buy another accounting system to support them, so the accounting system cost per store, to use one example, declined.

Selling, General and Administrative expenses as a percentage of sales fell by 210 basis points (2.1%). Three-quarters of that was due to operating efficiencies from having more stores, and one-quarter from a decrease in corporate costs.
 
Net income rose from $1.9 million to $4.5 million. The balance sheet is solid with no bank or other borrowing. Inventory was up of course, but it was essentially flat on a per square foot basis they tell us.
 
How does Zumiez’s do so well when others are struggling? We can get some insights from the conference call discussion. I also want to remind you of some advantages that aren’t mentioned there.
 
First, Zumiez is at a “sweet spot” in their growth curve. Their goal, you may remember, is 600 stores and right now, at 445 stores and growing, they are still able to find good places to open stores. It’s not like that’s an easy thing to do. Management reminds us of their disciplined application of a strategy they’ve followed since the company was founded, their employee development program, their commitment to infrastructure and systems, and their marketing approach of “…offering highly differentiated assortments of merchandise and delivering best-in-class service.” In other words, they run the business well.
 
Secondly, as I’ve written before, they were the first in the malls and are still the only ones, as far as I know, to offer hard goods. Actually, Billabong stores sell Sector 9 Longboards so I guess it’s not strictly true that they are the only ones anymore.
 
With so many independent specialty retailers closing due to the recession, and with all the brands opening stores in malls, Zumiez’s strategy has been validated by everybody else, but they are still the leaders in executing that strategy.
 
Now, on to some things they said in the conference call. One analyst asks the question I’m asking; “I guess I think probably the question we could ask the most is what is Zumiez doing, I mean that your sales trend is so good?” Here’s management’s answer in part.
 
CFO Marc Stolzman says, “…one of the real strengths…is our merchant’s ability to micro merchandise the product assortment. As a multi-branded retailer, that really is trying to capture each of the micro trends as they are occurring, it really takes a dedicated, very hard focus on the data, and really trying to keep everyone of those hot products in stock. Unlike a lot of our competition, we have purchase orders going back and forth with our vendors on a constant basis, and product coming into our warehouse constantly, instead of having more of an upfront purchase and then working through that inventory or replenishing it.”
 
CEO Richard Brooks adds, “…the benefit of our whole system is what you see is taking place here. With great job by our product team, great job by our sales teams on the web and in stores. And what you’re seeing is, us being able to rack quickly, move to what customers want, still being incredibly well diversified in our brands. I think last year our largest brand was about 6% of sales.”
 
Let’s consider the implications of that. If they have the systems and people to identify the micro trends, as they call them, in each store and the systems to react so they can stock according to those trends, my hat’s off to them. But how might this be impacting the brands Zumiez carries?
 
Note that no brand they carry was more than 6% of sales last June (their private label brands account for about 18% of total revenue for the year). If that’s generally true over the whole year, it limits the leverage any single brand has in negotiating with Zumiez. This is compounded by the fact that Zumiez is becoming a brand by itself and, in my judgment at least, is the most credible of the action sports retailers of any size. It’s good to have your brand in Zumiez. I’ve been saying for years that the best retailers give credibility to the brands they carry.
 
I wonder how Zumiez’s search for micro trends translates into individual store manager’s authority to select inventory and merchandise their stores. CFO Stolzman has told us, ‘…we have purchase orders going back and forth with our vendors on a constant basis…”
 
I can see how this translates into a good thing for Zumiez, and I’d love to talk with them about the algorithms they use in their system to manage their open to buy. But there’s some potential extra work, and therefore costs, for brands selling to Zumiez with, it sounds like, more, smaller purchase orders and potential frequent changes in those orders.
 
Apparently there are few brands that Zumiez absolutely has to carry, and part of their formula for success likely puts some extra demands on brands. That must make for interesting negotiations. If I had that kind of leverage I’d certainly use it.
 
Zumiez management refers to working closely with brands, and I hope part of that relationship is teaching some brands techniques that Zumiez uses to project demand and manage inventory. I can imagine that might be of benefit to everybody.