Billabong Update: The Deal is off, or at Least Changing

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What We Know 

Billabong announced yesterday that there would not (at least at the present time) be a sale of the entire company to either the Sycamore Consortium (which includes Paul Naude) or to the Altamont/VF group. The company further announced that they were still talking to both groups “…regarding proposals presented to the Company for alternative refinancing and asset sale transactions, the proceeds of which would be used to repay in full the Company’s existing syndicated debt facilities.”
 
Billabong also lowered its guidance again, indicating they now expect EBITDA for the year of $67 to $74 million AUD (Australian Dollars). That’s before any “…share of Nixon NPAT and before Significant and Exceptional Items.” The last guidance the company offered was in February, when they indicated an EBITDA of $74 to $85 million AUD including $4 million AUD from their share of Nixon at the upper end. Ignoring Nixon and taking the midpoint of both ranges then, guidance has been reduced by about 9%.
 
They especially point to poor conditions in Australia and startup losses of $4 million AUD higher than expected for SurfStitch in Europe. Australian wholesale is on plan, but retail declined. Comparable store retail sales are 5.4% below “…the previous corresponding period and gross profit is 2.3% below…” The Americas are noted to be slightly ahead of plan and Europe remains weak, especially for the Billabong brand as was anticipated in February.      
 
You can see the announcement here. It’s under “Recent News” and is called “Company Update.” Trading in the stock started again and by the close of the day (Australian time) it had fallen to $0.23 a share in (AUD) on very high volume of 65 million shares.
 
The other information we have is that there are ongoing layoffs, West 49 is up for sale and, according to Billabong Chairman Ian Pollard, they are “…aggressively reducing costs across all our global operations.” Restructuring and reducing costs, of course, has been part of the plan since Launa Inman became CEO, but it’s starting to feel less like a strategy and more like a financial necessity.
 
The other thing I think we know is that the banks, which have Billabong’s assets as collateral for its loans, wants to get paid off and will “encourage” deals that contribute to that end.
 
What We Don’t Know
 
The first thing we don’t know is why there was no deal. Obviously the reduced guidance had something to do with that. It might be that the required lease payments on all the stores (that don’t show up on the balance sheet) were also a concern.
 
But strategically, if I were a potential buyer, the most important thing to me might be the prospects for the Billabong brand itself. I’d know that if I bought the whole company, I would expect to sell some brands, but I’d have to believe I could maintain and grow the Billabong brand or why make the deal?
 
For its part, the Billabong Board of Directors might not have wanted a formal offer if it was really low. If they thought such an offer reflected only current circumstances and not the fundamental value of the company and its brands, they wouldn’t want to disclose and then reject it. Assuming, of course, that they think they have a choice.
 
That choice pretty clearly doesn’t include selling more stock right now. But, given the conversations we’re told are now going on with Sycamore and Altamont/VF, Billabong’s choices may include selling assets and raising some more expensive debt that lets them pay off their banks.
 
Actually, I guess their choices do, not may, include selling assets; the question is just at what price. Billabong would certainly prefer not to be selling under these circumstances, while Sycamore and Altamont/VF (and other potential buyers that might pop out of the woodwork if certain brands are for sale?) will hope they can get a great deal.
 
Meanwhile, lenders like Sycamore and Altamont/VF might be thinking, “Well, I’m not ready to be all in on this one at any purchase price we can negotiate, but if I lent Billabong some money in the form of convertible debt, it might work out.”
 
The lender would earn a nice interest rate and be in a position to control a chunk of stock when the company recovered. If things went south, they’d be a lender and not a common equity holder protected to some extent by the value of the assets they’d have as collateral.
 
Now this all depends, as it does in any deal, on the cash flow making sense for Billabong based on the asset purchase prices, the interest rate, and the amount lent. We have no idea how that looks. Still, it feels like Billabong and either of these two potential partners might be more likely to have a meeting of the minds in a debt and asset sale scenario than a purchase. I don’t know why I said “feel.” That’s what Billabong told us in their update. Maybe now you understand a little better why.

 

 

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.     

 

 

K-Swiss Acquisition of OTZ Shoes: There’s More Here than Meets the Eye

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When I first read about this deal, I thought “Good for the team at OTZ. I hope K-Swiss does well by them” and kind of let it go. Then at a reader’s urging, and through a few clicks on the internet, I decided there might be something to write about here. I don’t have any information that isn’t public. 

First, I went and looked at K-Swiss. It felt like a confused brand. It’s certainly not action sports. It’s part casual footwear and part athletic footwear. It’s not youth culture as I think about it. It kind of seems like casual sneakers in search of a market position (Well, there’s another company I’ll never consult for).
 
Apparently, I’m not completely out of line to suggest that it had some issues. Its stock reached an all-time high in the middle of November 2006 at a bit above $37.00 a share. In January 2013, right before its acquisition by E.Land was announced (I’ll get to that) K-Swiss stock was trading at $3.13 a share.
 
Its last 10K filing for the year ended December 31, 2012 showed sales that had dropped over the year by 17% from $268 million to $223 million. It lost $35 million dollars and had lost money in the three prior years as well. It last turned a profit in 2008, when it earned $21 million on sales of $327 million. Guess it’s at least partly a victim of the economy.
 
OTZ Shoes, according to its web site, was conceptualized in 2005 and came into being in 2009. The idea was based on “… the oldest shoes ever found. These belonged to Oetzi, the iceman, and dated back to 3300B.C. The shoes were quite remarkable considering the time period – made of deer skin stitched to a bear skin sole with an internal woven net filled with dried grass and moss for warmth and comfort.”
 
OTZ CEO Bob Rief should expect a call from me, because I really, really want to know if they ever tried to duplicate those shoes out of the original materials just to see how functional they actually were. Don’t suppose you could sell them, but it would have some PR value.
 
If forced to characterize the OTZ brand, I’d call it outdoor with a cool factor. It’s not action sports in the traditional sense, but that’s fine. The connection to Oetzi and the oldest shoe in the world lends the brand a distinctiveness. I hope they cherish and manage that well because it might be a long term point of differentiation. I’d suggest more pictures and info on Oetzi and his shoes on the web site. I’m surprised there aren’t any. Maybe copyright or trademark issues?
 
What initially troubled me was that this deal felt a bit like Kering (formerly PPR) buying Volcom and Deckers buying Sanuk. In both those cases, a larger company that was kind of circling the youth culture/action sports space wanted credibility and an entrée to those consumers. In both cases, so far, the deals haven’t worked out the way the acquirers envisioned, especially given the prices they paid.
 
Under the acquisition agreement, “…OTZ Shoes will continue to operate as an independent subsidiary of K-Swiss Inc., with key executives remaining in place.” Let’s hope that deals holds up. I’d be very curious as to what the actual language in the contract says.
 
Then I thought to myself, “K-Swiss’ problems look like they go way beyond anything OTZ can resolve no matter how successful it is,” followed by “Why has OTZ allowed itself to be bought by a company that’s going south at a disturbing rate?”
 
Turns out, there was a simple answer. On April 30, 2013 E-Land, a Korean conglomerate, concluded the acquisition of K-Swiss that was announced in January. Here’s the press release. It says, in part, “Established in 1980 in Korea, E.Land has grown to become one of the largest South Korean conglomerates, primarily specializing in fashion and retail/distribution. E.Land is Korea’s first and largest integrated fashion and retail company, with operations spanning nine different countries across three continents, including Korea, China, India, the United States and Italy. Comprised of over 60 affiliated entities, the Company offers close to 200 brands and operates more than 10,000 stores worldwide, recording approximately US$7.1 billion of revenues in 2011. E.Land’s newer businesses also include restaurants, construction and leisure.”
 
That’s a lot of brands and a lot of stores. Clearly OTZ and K-Swiss will have the resources they need. I have to imagine that E.Land management hopes the team at OTZ can be of assistance to K-Swiss, though for all I know K-Swiss can grow by leaps and bounds just by being in E.Land’s distribution channels. Then again, I just wrote about Decker and expressed some concern that they might not understand what they’d bought in Sanuk and that they might try to distribute it in ways that wouldn’t help the brand. 
 
Obviously E.Land will offer OTZ some opportunities to expand distribution. I hope the independence that OTZ has been promised extends to having control over when, where, what kinds of stores the brand goes into. I’m also wondering if we can expect more acquisition from E.Land in our space.

SPY’s March 31 Quarter: Really Good News

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This is a little weird for me, but I’m not going to start with the numbers. Rather, I want to start with some of CEO Michael Marckx’s comments in the conference call. 

I may not have these quotes exactly right because I can’t type as fast as he talks. He said things like:
 
·         “Super service is at the heart of the company’s culture.” “How can we make people happy?”  
·         “The mission and vision are universally understood in the company.”
·         “Improved product mix with higher quality and prices.”
·         “Reinvigorated brand profile.”
·         “An organization that is firing on all cylinders.”
 
This is backed up by the numbers, and it’s a transformation process SPY has described and pursued over some quarters now. They’ve been consistent in their approach and goals.
 
Basically, they are doing a lot more with less and I think it’s because, “The mission and vision are universally understood in the company.” That’s not voodoo. It’s common sense. When you are running a business there are endless invitations to be distracted. That will never go away, but when there is consensus on mission and vision, you have a shield to reduce the impact. Ideas and opportunities either fit the mission and vision or they do not. Okay, it’s not always that clear cut, but the consensus motivates everybody to focus on the right stuff and to not waste time and resources. Everybody in the organization is empowered to say, “Nope, doesn’t fit. We’re not going that way.” Think of the improvement in organizational efficiency created by that common knowledge and consensus.
 
The other thing I like, of course, is that SPY’s strategy is pretty consistent with the one I’ve been proselytizing about recently. It’s where you focus on gross margin dollars and cautious distribution as part of your strategy to create brand distinctiveness and recognize the tie in between marketing and operations. To make a long story short, I think it’s a way for some brands and retailers to improve their operating income line with less risk.
 
SPY’s revenues rose 10.6% to $9 million from $8.1 million in the same quarter the previous year. But SPY branded products were up 14% or $1.1 million and represent essentially all sales in this year’s March 31 quarter. Remember in last year’s quarter they were still getting rid of their discontinued licensed product inventory and sold $300,000 of it. That’s all gone.
 
We should take a moment and pause to recognize that as far as I can tell SPY is officially no longer dealing with any of the self-inflicted problems it had over the last six plus years. Being out from under all that is one of the things that makes their strategy viable. Gee, I had a lot of fun writing about that stuff and am kind of going to miss it.
 
The gross profit percentage was 51% compared with 47% for last year’s quarter. Apparently the leading cause of that increase is that they are no longer selling the closeout licensed products which had a lousy margin. However, they also note that they are getting lower costs from more Chinese made product, that their international business is more cost efficient, and that they are selling higher margin products “…due to increased levels of sales to specialized core accounts and optical channels.”
 
Selling and marketing expense fell 21% or $800,000 to $2.9 million. They restructured and cut stuff. But they also had to spend $100,000 more in sales incentives and commissions. You know, I always loved signing big commission checks. The bigger the better, because that meant the company was doing better.
 
Okay, so they cut marketing costs by $600,000, but increased SPY branded sales by 14%. That’s pretty good. I guess some of those marketing costs weren’t quite as necessary as everybody thought. There’s a lesson there somewhere.
 
I want to hypothesize that if they didn’t have an organization with consensus on vision and mission they couldn’t have gotten that increase while making the cuts. I think their brand positioning and distribution strategy allowed them to accomplish more with less. Think about that.
 
General and administrative expense was down $600,000 or 28% to $1.4 million. There were some headcount reductions, but also less in legal, professional services and general corporate matters. I suspect some of that decline is the result of getting past old problems.
 
Overall, operating expenses fell from $5.95 million to $4.57 million, a 23.2% decline. That left us (drumroll please) with an operating profit of $29,000 compared to an operating loss of $2.16 million a year ago.
 
Interest expense rose from $0.4 million to $0.8 million. Some of that is non-cash. We’ll get to the balance sheet in a minute. There was still a net loss of $721,000 but that compares to a loss of $2.6 million in the same quarter last year. Net cash provided by operations was $1.55 million compared to operations using $363,000 of cash last year.
 
On the balance sheet, cash is up from $416,000 a year ago to $1.4 million. Receivables are unchanged. Inventories have fallen from $6.3 million to $5.9 million. All that’s good. The continuing problem of course is the notes payable to shareholders of $19.6 million and the negative equity of $14.3 million. A year ago, those numbers were $13.7 million and negative $9.8 million respectively. As I think everybody knows, if it wasn’t for shareholders with deep pockets, SPY would have closed or been sold long ago. It looks, however, like those shareholder contributions might be coming to an end.
 
I don’t really have any criticism of SPY operationally. It appears that they’ve got some well positioned, distinctive product offerings, a focused organization, financial discipline and (which I really love) an awareness of the connection between how you operate and how your offerings are received.
 
I love it when a plan comes together.

 

 

Decker’s Quarter: What’s Up with Sanuk?

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I think the last analysis I wrote on Deckers may have had the same title. Which is okay because though Deckers also owns UGG, Teva and other brands, we’re mostly interested in Sanuk which spring from the surf industry and was acquired by Deckers. I’ll give you a brief overview of Decker’s March 31 results, and then tell you what we know about Sanuk. 

Decker’s sales rose 7.1% to $264 million from $246 million in the same quarter last year. The gross profit margin was up slightly from 46% to 46.8%. But selling, general and administrative expenses went up 19% from $101 million to $121 million. As a result, operating income fell 78% from $11.9 million to $2.6 million and net income was down 87.5% from $8 million to $1 million. Below is a chart from the 10Q that breaks down Decker’s sales and income from operations by brand and channel including Sanuk. Ecommerce and retail includes the sale of the brands sold through those channels.
 
 
The first thing you might notice is that Sanuk’s wholesale revenue was down 7% to $30 million. On a different chart I’m not going to reproduce here we find that Sanuk sold, in addition, $918,000 in the ecommerce channel, up from $107,000 in last year’s quarter. Retail sales of Sanuk were $17,000. Total Sanuk sales, then, were $30.95 million.
 
CEO Angel Martinez tells us that domestic sales of Sanuk were up “double digits” versus last year’s quarter. The wholesale business was up “mid-single-digits.” The overall revenue decline was mostly due to Asia. “I believe,” he says, “much of the decrease can be attributed to the normal growing pains many young brands experience, as they make the transition from niche player into a larger market participant. Until now, the Sanuk brand relied solely on distributors to launch and grow the business in the international markets, namely Asia-Pacific. And with the formation of the Sanuk management team and Deckers’ subsidiaries in Japan, we now have the infrastructure to take a more direct involvement in the Sanuk brand’s operation throughout the region.”  
 
In the wholesale channel, Sanuk’s $30 million in revenue produced $9.4 million in operating income. That’s a 31% operating margin. UGG’s operating margin was 17% and Teva’s 19%.
 
Deckers paid a high price for Sanuk. They are still paying it. In 2013, 36% of Sanuk’s gross profit will be paid to the former owners. In 2015 it’s 40% of gross profit. No payment in 2014.   Partly, they paid for that operating margin. But partly they paid due to expected growth. In the conference call, CEO Martinez tells us they’ve opened the first Sanuk brand store in Santa Monica. He continues:
 
“The store is in the heart of Southern California, home to the surf culture, from which the Sanuk brand was born, and one of the busiest tourist destinations in the country.”
 
“It’s the meeting of these 2 worlds that serves as the basis for our strategy with the Sanuk brand. First and foremost, we must continue to connect with our core consumer who influences much of the U.S. market and other markets inspired by surf culture. At the same time, we need to expand the brand’s conversion beyond the beach and evolve the product line to reach new audiences, while still retaining and maximizing our current audience.”
 
So they are going to connect the core market and the tourist market? Is that the new audience he wants to reach? While “maximizing our current audience?” Shit oh dear. I don’t want to read too much into a single paragraph, but it does leave me wondering if they understand what they’ve bought and know how to maximize its value. Interestingly, there’s very little discussion of Sanuk in the question and answer part of the conference call. I would have thought the analysts would be all over how Deckers could get some more of that 31% operating margin.
 
Mr. Martinez is not on my distribution list. If he were, I would direct him to some of my comments in the last two days on Skullcandy and VF, to my presentation at the IASC Skate Conference, and to some of my earlier articles. The Sanuk brand can certainly expand, but it has to be to some part of the youth culture market- not the tourist market.
 
To say again what regular readers must be really tired of hearing, the further a core based brand gets from the core market, the less identification there is with the brand and the bigger the danger of losing that core market without getting the broader market. Consumers in the broader market may know your brand, but they won’t know its story, and there goes your point of differentiation.
 
In the 10Q they say, “We believe that the Sanuk brand provides substantial growth opportunities within the action sports market, as well as other domestic and global markets and channels in which Deckers is already established.” I’d be interested in knowing which markets and channels they are referring to though I don’t expect to read that in public documents.
 
We also learn that, “Wholesale net sales of our Sanuk brand decreased primarily due to a decrease in the average selling price, as well as a decrease in the volume of pairs sold. The decrease in average selling price was primarily due to a shift in product mix, as well as an increase in the amount of discounts given as the brand moves from an at once to more of a prebook business.” Each of the price and volume declines cost about $1 million in revenue.
 
Sanuk inventory increased from $12.1 million to $15.1 million, or by 25%. Kind of seems like a big increase when sales are declining, though some of that may be due to the transition of the Sanuk business in Asia. For the year, they are projecting that Sanuk revenues will grow 10% to 13%, down from prior guidance of 15%.
 
Sanuk is a great brand. I try to be cautious in reading too much into the comments in the 10Q and conference call because you don’t get the whole story there. Yet some of the comments, as you will have noticed, leave me a bit concerned. I will look forward to better news in future quarters.

 

 

Skullcandy’s Quarter: I Think I Recognize This Strategy

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New President and CEO Hoby Darling has been at Skull north of two months now, and the company has released its first 10Q and had its first conference call with him at the helm. The outlines of his strategy are starting to become clear. Interestingly, you’ll note some similarities with the strategy of certain VF brands as I described it yesterday and with what I’ve been generally recommending for a while now. Let’s start with the numbers and then move on to that strategy. 

Financial Results
 
Net sales were down 30.4% to $37.1 million for the March 31 quarter. They were $53.3 million for the same quarter in the prior year. North American sales fell 37.9% from $46.1 million to $28.7 million. Part of the reason for the decline was a 67% reduction in “…the highly discounted off-price channel….” They had said they were going to do that and I think it’s a great move, consistent with the strategy they outline. Gaming headphone sales (Astro) rose 43.8%, but CFO Westcoat also notes in the conference call that “All of our full price audio channels were down.” He also notes gains in their 2XL brand business.
 
He made another interesting comment, saying that, “With respect to pricing bands, sales of under $100 declined due primarily to promotion and mix while sales in the over $100 band increased 29.1%, primarily from the sales of our premium gaming headphones.” I know they’ve been pushing the higher priced products, but he makes it sound here like traction at the higher price points was only with gaming. 
 
International sales were up 17.5% to $8.4 million but “Included in the North America segment in Q1
2013 and Q1 2012 are net sales of $2.1 million and $3.4 million, respectively, that were sold from North America to customers with a “ship to” location outside of North America. Adjusting these sales into the international segment, international net sales decreased 0.6%.”
 
The overall gross profit margin fell from 48.1% to 44.5%. In North America it was down from 47.1% to 43.5%. They tell us this was due to “…an increase in tooling depreciation and a write off of $0.8 million of inventory related to end of life products (“EOL”).” I assume the tooling depreciation is an ongoing expense. Assuming the inventory write downs are done, gross margin should begin to improve based just on its absence. We’re told in the conference that 2.2% of the decline was a result of the inventory write-off. We couldn’t, in the conference call, get a definitive answer that there was no more inventory to be written down.
 
If they’ve got overvalued inventory, I’m thrilled to see them recognizing that it sucks and writing it off. I recommend this to everybody. Inventory delusion disease is a terrible condition, but treatable with a dose of reality. I also see the write down as consistent with Skull’s strategy as I’ll explain.
 
The international gross margin fell from 54.4% to 48.1%. This was due to the bankruptcy of retailer HMV in the UK and higher levels of discounting.
 
Skull is and has been in the process of moving to some higher priced but lower margin products. As you know, I’m all about how many gross margin dollars you can generate as opposed to just the gross margin percentage. I like that approach and, once again, think it’s consistent with the strategy they outline. What I don’t know is what the impact of the 67% reduction in sales in the off-price channel was on the gross margin. Were those lower margin products and how many dollars are we talking about?
 
Selling, general and administrative expenses rose from $24.1 million to $26.3 million. As a percentage they jumped from 45.3% to 71%. Unless they chose to gut their expenses, a big percentage increase was inevitable given their sales decline. There was also $1.2 million in costs there resulting from Jeremy Andrus resigning as CEO and $2 million associated with property and equipment related to the inventory that was written off. Ignoring those one-time items, they did cut their spending, but I’d say they maintained it at a level consistent with their branding and market positioning.
 
The bottom line was a loss off $7.05 million compared to a profit of $1.12 million in last year’s quarter. This quarter’s result was helped by an income tax benefit of $3.35 million.
 
Turning to the balance sheet, cash was up to $34 million from $11 million a year ago. Receivables fell 11% from $39 to $35 million and inventory was pretty much constant at $51 million. I might have expected more decline in both receivables and, especially, inventory given the sales decline and the $800,000 inventory write-off.  They don’t offer any details about receivables. CFO Kyle Wescoat tells us in the conference call that “The principal reason for higher-than-expected inventory is Best Buy’s shift of their reset, which was originally scheduled for March but changed to June, and higher Astro inventory to support the brand’s rollout to retail, which was initiated in the back half of 2012.”
 
Skull has two large customers (Target and Best Buy) that accounted for 33% of their revenue in the first quarter. One was 15% and one 18%, but we don’t know which is which.
 
Skull has no long term debt and no bank debt.                 Current ratio has improved from 3.04 to 4.22 and total liabilities to equity is, oh hell, too strong to bother calculating.
 
Issues of Strategy
 
Let’s start with the questions CEO Darling says he asked himself before he took the job:
 
·         Are headphones commodities, and does innovation matter?
·         Does the audio category have defensible barriers to entry?
·         Will the market continue to grow?
·         Does the Skullcandy brand resonate with its core consumers and can it resonate more broadly, giving us opportunity to expand?
 
Great questions. I guess he must have answered either “yes” or “probably” or he wouldn’t have taken the job. My answers are some headphones are commodities (but some aren’t), innovation matters, any barriers to entry will be based on branding but it seems like an awfully crowded space, so maybe there aren’t really any, the market will continue to grow, Skull resonates with its core consumers (or they wouldn’t be its consumers) and I don’t know.
 
He goes on to say, “What I believe ultimately determines which companies separate themselves from the pack and thrive over the long term is consumer-focused innovation and creating deep emotional connections to consumers through clear messaging and brand identity.”
 
He takes quite a bit of time to discuss what the company has to do. More clearly defining the brand comes first. He wants the best ideas to go forward- not merely good ones. And they need to be products that meet a customer need rather than one that just fills a place in the product line or reacts to what a competitor is doing. His goal, I think, is fewer, more distinctive, relevant products.
 
There are going to be some changes in distribution. “We need to do a better job segmenting our retailers by consumer and aligning our product and marketing assets,” Darling says. There will also be some new products in adjacent categories like speakers, but not until they have the right, distinctive, product. He believes “The company has developed an R&D and audio engineering function that I believe is unrivaled in the industry” to help Skull accomplish that. Quite a claim given who some of the competitors are.
 
But to me the most important thing he says is that about how the company expects to grow. He sees Skullcandy using its foundation in action sports as the basis for its growth in youth culture- not the mass market. If you’ve followed any of my writings, you know I think that the farther you get away from the foundation of your brand into very broad distribution, the harder it is to connect with a customer in a meaningful way. They may know your brand, but they won’t know your story.
 
So it looks to me like we’ll see Skull being a little more cautious and thoughtful in its distribution, and I think that’s great. Bluntly, I think it’s their only choice. As he puts it, “We believe we are one of the only audio companies that has brand permission to play across all of youth culture and we intend to take better advantage of it moving forward.” That’s a big bet, but I think it’s the right one.
 
Part of that bet is going to be a focus on relationships with their retailers. As I wrote yesterday when talking about VF, as I said at the Skateboard Industry Summit, and as I’ve been writing in my column for a while, distribution is way more complicated now than “core” or “noncore.” Each decision to sell (or not sell) to a retailer, be it a chain or a single specialty shop, has to be made based on how, in concert with that retailer, you can reach your target customer and represent the brand well. That what Skullcandy says it’s going to do.
 
Hoby Darling does a great job laying out a vision of a Skullcandy that’s more product driven, and is focused on utilizing its credibility in action sports as a springboard for the broader youth culture market, but not the mass market. He describes a process where you do it right, if not as quickly as you might want. I think that ends up generating a better bottom line with less risk, even if it doesn’t give you quite the rate of revenue growth you might want.
 
The problem, of course, is Skullcandy is a public company with pressure for increasing revenue. After he’d laid out this detailed vision and strategy one of the analysts asks when they could expect to see some of Skull’s new, recently introduced products in Best Buy and Target.
 
To his credit, he calmly explains that “…part of our plan is we launch these innovative products going forward as we generate demand at the core before we roll them out.” I think it’s exactly the correct strategy for Skull, but I wonder if Wall Street gets it.
 
The strategy makes sense, but doing it right is going to take time and probably constrain top line growth some.

 

 

VF’s First Quarter: Outdoor and Action Sports Continue to Shine

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VF’s March 31 10Q reported an overall 2.15% increase in revenues from $2.556 billion to $2.612 billion from the same quarter last year (Would have been 1% more, but they sold the John Varvatos brand).   But outdoor and action sports revenue was up 9.7% from $1.264 billion to $1.384 billion, representing 53% of total revenue for the quarter.  Here’s the link to the 10Q.

Just to remind you, the brands in the outdoor and action sports segment are Vans, The North Face, Timberland, Reef, Jansport, Kipling, Lucy, Smartwool, Eastpak, Eagle Creek and Napapijri. In 2013, The North Face and Vans are expected to be VF’s two largest brands by revenue, we learn in the conference call.
 
Total company revenues were up $55 million for the quarter. Outdoor and action sports revenue grew $120 million. Obviously, other segments were down to not up very much and action sports is carrying the load for VF right now. That, of course, is the whole concept behind having a diversified group of businesses.
 
The gross profit margin improved an impressive 2.4% to 48.1%. The improvement was across the whole company and “…reflects lower year-over-year product costs and the continued shift in our revenue mix towards higher margin businesses.” For the whole of 2013, however, they expect gross margin to be up only about 1%. The biggest improvement is in the jeanswear segment due to a big decline in cotton prices since last year’s quarter. 
 
Marketing, administrative and general expenses rose from $853 million to $899 million and as a percentage of sales from 33.4% to 34.4%. CFO Robert Shearer tells us that “Half of that increase came from out growing D2C [direct to consumer] business and the other half is due to higher levels of marketing spending.”
 
Operating income was up 14% from $314 million to $358 million. Outdoor and action sports reported what they call a coalition profit of $226.5 million, representing 53.5% of total coalition profits for the quarter of $423.6 million. Lower other expenses, including a lower tax rate, helped net income to increase from $215 million to $270 million.
 
The balance sheet is in good shape with a current ratio of 1.9 and a debt to total capital ratio of 28.4%, down from 36.1% a year ago. I was impressed to see a decline in inventory from $1.52 billion to $1.41 billion, though of course some of that decline is the result of the sale of the John Varvatos brand.
 
North Face revenues grew 6% globally, with a 25% increase quarter over quarter in the direct to consumer (D2C) business. There was a “slight” increase in wholesale business. Revenues in the Americas region were up 3%. They don’t break out the United States. Outside the Americas, the brand grew 11% “…with balanced strength on a D2C and wholesale basis.” In Europe, the increase was “modest.” Online was up more than 30%. Asian North Face revenues rose more than 40%. No idea what the base number is.
 
It’s really interesting to see VF take The North Face and evolve it from more of a technical mountain brand to a lifestyle, fashion brand. Obviously, that’s necessary if they expect it to continue its growth.
 
“Global revenue for Vans in the first quarter was up 25% with strong double-digit growth in all 3 regions, including both the wholesale and the D2C businesses.” In the Americas, it was more than 20%. Outdoor and action sports Group President Steve Rendle noted strong sell through in men’s apparel at the wholesale level. He said it was up over 50% year over year. I suspect that’s from a small base.
 
Outside of the Americas, Vans revenues grew 30% with D2C up more than 40%. Europe by itself was up 30% and Asia more than 20%.
 
Timberland revenues were up 2% for the quarter, including “double-digit growth” in D2C. Outside of the Americas, revenue was flat. VF acquired Timberland just over a year ago, and its integration is still a work in progress. I will be very interested to watch what VF does with Timberland. I wonder if there won’t be an evolution similar to what we’ve observed with The North Face.
 
We learn that “Reef had a very good quarter,” but that’s all we learn.
 
VF expects the direct to consumer business to represent 23% of total revenues in 2013 and expect to see it expand in the future. They plan to open about 160 stores this year after ending last year with “…roughly 1,100 doors across all of our brands across the world.”
 
One of the analysts asked, “And online, cannibalization with wholesale, is there any channel conflict there? I thought CEO Eric Wiseman’s answer was instructive, though he avoided directly addressing the issue of competing with the wholesale channel except to say “We try very hard to use this [D2C strategy I think he means] as a supportive strategy for our brands and to avoid cannibalization. And we actually work with our wholesale partners to where – they know where we’re going to put stores.”
 
I’m lacking some details here, but telling them where the new stores are going is hardly working with them.
 
Let me continue to quote his answer at some length:
 
“A great example of this is Vans, which in the last 2 or 3 years, has put up a lot of stores around New York City, around Boston, now around Philadelphia, where we didn’t have substantial distribution. And we just didn’t have the doors there that let the brand speak to the customers… And that’s true in markets in Europe and in Germany. It’s true in the U.K.”
 
“…didn’t have the doors there that let the brand speak to the customers…” he says.  Hmmm. So apparently they think that the other retailers that carry their brands in those areas weren’t doing a very good job? Or at least they believe they can do a better job themselves. 
 
He continues:
 
 “That’s how we look at it. And we have so much runway, because we ended last year with roughly 1,100 doors across all of our brands across the world. So we’re so relatively undeveloped that we still see lots of runway before the cannibalization thing comes into play. The e-commerce thing is a tricky thing. Because we don’t know if that’s — we can’t really say where those customers are coming from, whether they’re new customers to the brand, whether they used to shop in our stores or somebody else’s stores. What we do know is we have to create a compelling way for our consumers to engage with our brands from their phones, from whatever devices they have, and we have to let them shop while they’re there.”
 
Bottom line is we can expect more stores from VF and they’d like to perpetuate the idea that this is somehow good for other retailers that carry their brands. Like all of the rest of us, they are unclear as to if and how online sales relates to and impacts, for better or worse, brick and mortar sales.
 
A couple of weeks ago at the IASC Skateboard Industry Conference, I made a presentation suggesting, among other things, that distribution was much more complex that it used to be and that deciding who and where to sell was much more critical to your brand positioning. I further said that if you can’t get big sales increases, you can still hope to improve your operating income through recognizing the links between how you operate and manage your inventory and your marketing. I also noted that being more purposeful with your distribution and controlling consumer touch points had to potential to reduce expenses and improve margins and brand positioning. 
 
Effectively, VF is implementing most of the strategy I suggested. If they think it’s a good idea, you should at least look into it for your brand or store.        

 

 

Some Interesting Numbers

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I was lucky enough last week to be at IASC’s Skateboard Industry Conference. I was sorry to have to leave early, but among the things I enjoyed doing while there was making a presentation. As part of that presentation I showed some numbers provided by Snowsports Industries of America and I wanted to share them with you. Here they are for five complete snow seasons.

2007/2008
2008/2009
2009/2010
2010/2011
2011/1012
Units Sold
31,370,674
26,960,496
26,633,131
28,157,156
23,900,283
Dollars Sold
$1,980,551,677
$1,730,590,053
$1,798,552,214
$2,001,686,760
$1,854,581,370
Inventory Dollars
$487,541,750
$505,431,179
$441,593,937
$450,570,953
$571,271,999
Gross Margin
44.40%
42.30%
43.80%
46.50%
44.70%
GM Dollars Earned
$879,364,945
$732,039,592
$787,765,870
$930,784,343
$828,997,872
Remember when the economy went off the cliff in 2008 and the snow was none too good? Look what happened between the 2007/2008 and 2008/2009 seasons. Pretty much everything went south, except unsold inventory which went north. Not a pretty picture.
Then, in a completely expected and quite reasonable fear induced panic, the entire industry got rid of all that inventory. And to say they were cautious in ordering for next season is a bit of an understatement.
A funny thing happened. In the fall of 2009, when snow sliders walked into their favorite retailer to take advantage of the anticipated fall sales they found, well, nothing. It became very apparent that if they wanted the product, they needed to buy it now at full price. And that’s what they did.
Look at the numbers in the 2009/2010 column. Unit sales were down, but dollars sold, gross margin, and gross margin dollars earned all rose. That happened while year-end inventory fell 13%.
With product not quite so widely distributed and in short supply, and with limited left over product from the previous season, customers were willing to pay more and buy sooner.
Let me just say it once more. More gross margins dollars were earned on lower unit sales. With any luck at all, customers learned not to expect discounts all the time, to value the brand a bit more, and that they couldn’t wait until the last minute and expect to get what they wanted.
What I conclude from these kinds of numbers, and what I said at the conference, was that as long as the economy was weak and sales increases harder to come by, maybe you could strengthen your brand and bottom line by taking a different approach than you had in the past.
I’m all for sales increases, but don’t focus on getting them exclusively. Looks carefully at your distribution and who you are selling too. Distribution is no longer “core” or “not core.” Each new account needs to be reviewed separately for its fit with your customer base and brand positioning. You want to avoid the broad fashion industry, where you’re a small fish in a huge pond and where the customers, even if they know your brand, won’t know your story and what makes you legitimate. They may not even care.
Change your thinking a bit so you feel it’s okay for a retailer to sell out of your product and you have to tell him there’s no more right now. There’s nothing a retailer wants more than a product that sold well at full margin that he can’t get any more of. Let the consumers discover that your product is kind of exclusive and communicate that at the speed of light to their friends. Bet you won’t have to spend quite so much on advertising and promotion, your brand will be stronger, your gross margin higher, and disputes between brand and retailer fewer. There are other benefits as well.
This isn’t as easy as I make it sound in a couple of paragraphs, but I’m pretty certain it’s worth your consideration in a week economy and highly competitive market where most of your competitive advantage comes from a brand story and positioning rather than product differentiation.
I’m suggesting you could make more money with less risk. That has to be at least worth thinking about.
If you want a copy of the power point I presented at the IASC conference, let me know.

 

 

PacSun’s Strategic Positioning and Results for the Year

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There are two things I really like about PacSun’s 10K annual report (read it here) which was filed last Friday. The first is that they are more or less through closing stores. From a peak of 950 stores in 2008, they ended their February 3rd fiscal year with 644 stores. They closed 38 stores in fiscal 2008, 40 in 2009, 44 in fiscal 2010, 119 in 2011 and 92 in 2012. This fiscal year, they expect to close 20 to 30 due to lease expirations or kick-out rights (where they have a lease they can get out from under if, for example, certain sales levels aren’t reached). 

There’s the positive impact on financial results where they aren’t operating poorly performing stores, taking asset impairment charges, incurring cash costs for closings, and lower inventory margins and possible write downs as they close stores. There’s also the fact that they can stop focusing management time, attention and resources on this fundamentally “not fun” even if necessary task. 
 
With that out of the way, what they can do now is focus all their energy on their strategy. As you know, before CEO Gary Schoenfeld took over, PacSun had lost its way. For a variety of reasons, its targeted customers no longer had a reason to visit their stores. PacSun wasn’t cool. 
 
This is an issue that has been recognized since Gary’s tenure started. But they were busy turning over the whole senior management team, closing stores, and dealing with financial issues. With the introduction of their Golden State of Mind brand positioning in 2012, they are primarily focused on implementing the strategy that is to address this. 
 
PacSun characterizes itself as “…a leading specialty retailer rooted in the action sports, fashion and music influences of the California lifestyle.” 
 
They go on to say, “Our mission is to provide our customers with a compelling product assortment and great shopping experience that together highlight a great mix of both branded and proprietary merchandise that speak to the action sports, fashion and music influences of the California lifestyle. PacSun’s foundation has traditionally been built upon a great collection of aspirational brands, including Billabong, Crooks and Castles, DC Shoes, Diamond Supply Co., Fox Racing, Hurley, Neff, Nike, O’Neill, Roxy, RVCA, Vans, Volcom, and Young and Reckless, among others. We also continue to invest in and grow our proprietary brands, which include Bullhead , Kirra , LA Hearts , On the Byas , Black Poppy and Nollie…Taken together, we believe that this mix of brands gives us the capability to offer our customers an unmatched selection of fashionable and authentic products synonymous with the creativity, optimism and diversity that is uniquely California.” 
 
Equally interesting is a presentation Gary made this January at an investors’ conference where he showed how the men’s brand mix had changed from 2009 to 2013. The two empty boxes are for new brands being introduced in 2013. One of them is Neff.
 
 
 
 
Talking about the men’s business in the conference call, CEO Schoenfeld said, “Strong growth continued within our emerging brands and in our footwear business, which was driven by the strong performance by both Nike and Vans but was offset by continued declines in some of our heritage brands and the decline in some of proprietary business as the make up of our brand mix continues a pretty significant shift and in a direction that we are excited about.” 
 
You can decide for yourselves what it means. The point is that they are looking at their brand strategy carefully in terms of the competitive positioning they have chosen and making changes they consider appropriate. In the conference call, CEO Schoenfeld said, “We continued to partner with highly covetable emerging brands that are beginning to make PacSun, once again, the brand destination in the mall.” 
 
Their three main strategic focuses haven’t changed. They are, according to Schoenfeld, “Authentic brands, trend right merchandising and reestablishing a distinctive customer connection that, once again, makes PacSun synonymous with the creativity, optimism and diversity that is uniquely California.”   Their targeted customers are the “…17 to 24-year-old guys and girls who value great brands and have a confident sense of their own style.” 
 
Okay, that’s enough. This is starting to sound like a PacSun commercial, but you get the picture. 
 
Their proprietary brands were 48% of net sales in the year ended February 2nd, 2013. There was a time I would have thought that way too high. But in the era of brands becoming retailers and retailers becoming brands, I don’t necessarily believe that. What PacSun is doing feels a lot like what Buckles does, with the private brands completely integrated into the retailer’s overall strategy, and not just an opportunity for a little more margin. I still wonder when we’re going to see some retailer take one of its successful private brands and sell it to other retailers. Or maybe it’s happened and I’ve missed it? Obviously, brands that have become retailers are doing it. Let me know if you’re aware of an example. 
 
As with all serious retailers, PacSun has a focus on the quality of its information systems and supply chain management. Getting the right product to the right store at the right time is worth a lot in terms of customer satisfaction, not to mention the financial benefits of better inventory and cost management. Typically, each PacSun store received new merchandise twice a week.
 
The Numbers 
 
Most of the numbers in the 10K are for the year, but I’ll give you what we’ve got for the quarter before moving on. Revenue of $228 million was up 4.3% from $209 million in the same quarter last year. However, the year ended February 2, 2013 included an extra week compared to the prior year that generated an incremental $8 million in sales. The gross profit margin was 21.1%, up from 19.3% in last year’s quarter. The loss from continuing operations fell from $26.7 million to $22.5 million. The bottom line improved from a net loss of $38.1 million to a net loss of $19.1 million however discontinued operations (stores being closed) showed income of $2.6 million in this year’s quarter compared to a loss of $11.4 million in the prior year’s quarter. 
 
The balance sheet isn’t as strong as it was a year ago, with the current ratio falling from 1.58 to 1.37. Total liabilities to equity rose from 2.14 to 3.88 which is quite an increase. The liabilities didn’t change much, but equity fell $113 million to $64 million.
 
Inventory rose a bit from $88.7 to $90.7 million. Might have expected some decline with the store closings.  But as I recall, a lot of those closures happened in the first part of 2013, so perhaps we will see it early this year. In the conference call they tell us the inventory was up “…due primarily to timing of a 1 week later end to the fiscal year…leading to increased in-transit inventory. Store inventory per square foot at fiscal year-end was down 11%.” 
 
Net sales for the year rose from $777 to $803 million, or by 3.3%. Comparable store sales grew by 2% during the year. That accounted for most of the revenue growth. Men’s apparel represented 48% of revenue, down from 49% the prior year. Women’s apparel stayed the same at 37%. Footwear and accessories rose from 14% to 15%. Denim overall was 17% of sales, down from 19% in the prior year. Internet sales were 7% of the total, up 1% from the prior year. 
 
The gross margin grew a bunch from 21.9% to 25%. Most of that came from the merchandise gross margin increasing from 46.9% to 49.1%. Selling, general and administrative expenses fell from $242 to $239 million. That includes advertising costs of $15 and $14 million respectively for the two years. There was a $5 million decline in depreciation expense. 
 
Noncash impairment charges for stores fell from $14.8 million last year to $5.3 million this year.  Obviously, those decline as store closures fall, but I would note that most of the charges in the year just ended ($5.2 million of the total) were “Impairment charges from continuing operations.” 
 
The operating loss was $38 million, down from $78 million the prior year. Interest expense rose from $4.4 to $13.3 million so the loss from continuing operations after tax was $52.2 million, down from $82.1 million. The net loss was $52 million compared to $106 million last year. In the year ended January 28, 2012 there was a loss of $24 million from discontinued operations. That loss was $144,000 in the year ended February 2, 2013. 
 
Finally, I’d note that net cash provided by operating activities was $6.4 million, compared to a negative $47.4 million the prior year, and a negative $40.9 million the year before that. That’s good to see. 

So what have we got here? Well, we’ve got a focused strategy that seems to make sense. Whether it’s the right one will become known in the fullness of time. We’ve got financial results that are improving but still poor. Losing $52 million, even though it’s less than last year just isn’t success quite yet.   And we’ve got a weakening balance sheet. The questions seems to be, as it’s been for PacSun before, can the strategy be successful enough quickly enough before the balance sheet deteriorates further. If not, what other sources of capital will be available to them?

 

Naude/Sycamore Bid $0.60 for Billabong, but Deal Not Done Yet

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Paul Naude and Sycamore Partners (“NS”) have made a non-binding bid of AUD $0.60 for each share of Billabong yesterday, down from their preliminary bid of $1.10. Billabong has given them an exclusive period of ten business days to complete their investigation and finalize the bid. You can read Billabong’s press release here. It’s the “proposal update” under “Recent News.” 

And before we get into the details, you might also want to read this article, which was published over the weekend in Australia. Ms. Knight does an excellent job of encapsulating Billabong’s history and the forces and decisions that lead the company to its current situation. I wish I’d written this. Thanks, you who sent it to me!
 
Here’s what we know from the press release:
 
Sycamore is going to form a new company which would legally be the entity buying Billabong. A seller of Billabong shares can either take $0.60 a share or shares (they call it scrip) in the new company. I don’t know if scrip is something different from stock under Australian law.
 
It’s a condition of the proposal that at least 15% of shares accept scrip and that insiders Gordon Merchant and Collette Paull and their families take the scrip unless they get a better offer. Together, they own about 16% of the Billabong shares, and they’ve indicated they’ll take the scrip. What this means is that NS has to come up with less cash then they otherwise would. The fact that they got this provision accepted is to me an indication of Billabong’s need for a deal.
 
I don’t know what will happen, but if I’d paid, say, $5.00 or more (or maybe less) for my Billabong shares and was about to get $0.60 a share, I might just take the scrip and hope Paul and his team can do good things.
 
NS is also going to “…engage an internationally recognized accounting firm to complete a confirmatory quality of earnings analysis typical of an acquisition debt financing.” Not a surprise given the number of times Billabong has reduced its earnings expectations in recent months.
 
Also, the “…conditions of the bidder’s debt funding” have to be satisfied. We don’t know how the debt is being funded or what those conditions are. Could be Sycamore’s money, could be a third party, maybe Paul’s putting in some cash or maybe some combination of all three. In any event, as the press release makes clear, the deal isn’t done and right now neither party has an obligation to go through with it. I suspect the quality of earnings analysis will have a lot to do with satisfying the lenders, whoever they are.
 
We don’t learn whatever happened to the VF/Altamont offer. Maybe they didn’t make an offer or maybe they offered less. As I wrote when their interest was first made public, I thought they might have a hard time agreeing who got which piece of Billabong at what price.
 
As you are probably aware, Billabong’s assets are pledged to their bankers and, basically, that gives those bankers a lot of influence. As bankers, they aren’t so much concerned at this point about Billabong growing and prospering as they are about getting their money back. So it’s reasonable to assume they are in favor of any deal that gets their loans paid off or at least improves their security.
 
Billabong, for its part, can only not make this deal (or some other deal not in evidence) if, with the support of those banks or from another source, they have the working capital to cash flow their business while current CEO Launa Inman’s strategy is implemented. Remember she said at their half yearly presentation that while they were working on it and had already seen some results, the real benefit wouldn’t show up until next year.
 
Unless the quality of earnings analysis turns up something pretty bad, I think the odds are that this deal will happen, though I have no opinion as to what the final price per share will be.