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Volcom’s New Positioning and Kering’s Half Year Results

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Back on July 9th, Volcom presented a new brand vision to a group of 100 retailers and media people. I wasn’t invited so all I know is what was reported in Transworld and a little that some people have told me.

Last week Kering, Volcom’s parent company, released its results for the 6 month ended June 30, 2014, so this seems like a good time to touch on both and the relationship between them.
Just to remind everybody, Kering’s 2013 revenue was 9.7 billion Euros. Its Luxury Division, which includes 13 brands, like Gucci, that I’d characterize as high end provided 67% of its revenue. Its Sport and Lifestyle Division (S&L) provided the rest of the revenue (3.25 billion Euros) and includes Puma, Volcom, and Electric. “The PUMA Group owns the brands PUMA, COBRA Golf, Tretorn, Dobotex and Brandon.”
Puma’s 2013 revenue was 2.002 billion Euros and its “recurring operating income” was 192 million Euros. Volcom and Electric together had revenue of 245 million Euros and generated “recurring operating income” of 9 million Euros. Puma, then, dominates the S&L division.

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Kering tells us Almost Nothing about Volcom’s Results

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Kering reported its earnings for the September 30 quarter last week. We learned very little about Volcom and Electric. It’s like trying to find out what’s going on with Ride when we review Jarden’s financials or Reef when we look at VF’s. They just aren’t big enough to require much disclosure. What I do believe is when there’s good news, more time is spent on the smaller brand’s results. To me, the lack of information speaks volumes. Let’s see what we can find out.

Remember that Kering (then PPR) announced the acquisition of Volcom back in May 2011 and paid $608 million. The last time Volcom, as a public company, reported a quarter ended September 30 it was in 2010. Their revenue in that quarter was $105 million. 
 
Volcom is part of Kering’s Sports & Lifestyle Division. That division includes, in addition to Volcom, Puma, Cobra, Tretorn and Electric (acquired with Volcom). That entire division reported revenue of 896 million Euros for the quarter. (If we use the exchange rate at September 30 2013, that’s about $1.21 billion). But Puma represented 825 million Euros, or 92% of the total. So, according to my careful calculations, Volcom, Electric, Tretorn and Cobra together for the quarter had revenue of 71 million Euros. That’s $96 million at the September 30 exchange rate.  That represents a decline of 7.9% from 77.5 million Euros in the same quarter last year for the entire division. 
 
So what do we know?  We know that Volcom, Electric, Cobra and Tretorn together had about $9 million less in revenue than Volcom (including electric) reported during the quarter than ended September 30, 2010.   I have no idea what revenues Tretorn and Cobra had and whether those revenues grew or shrank. Do your own guessing, but by way of example, let’s say they are just $5 million each during the quarter.  That would leave Volcom and Electric combined at $86 million. 
 
We are told in the conference call that Volcom’s revenues were up 2% compared to the same quarter last year so that suggests that Cobra and Tretorn were down. 2% if probably not quite the kind of growth Kering had in mind when they spent $608 million. Kering says Volcom benefitted from the introduction of shoes and “resilience” in apparel. Its sales were “solid” in the North American market. Electric, they say, is “refocusing” on accessories and that impacted its results. Resilience and refocusing are the kinds of words you use when things aren’t going all that well, though how a 2% increase represents resilience beats the hell out of me. 
 
I don’t know if Volcom’s 2% growth includes Electric or not. I think not, but remember that the $102 million Volcom reported in its last September 30 quarter before being acquired does. 
 
When Volcom was acquired I wrote an article that congratulated Richard Woolcott and the Volcom board of directors for selling at the right time and for the right reasons. There’s a lesson there for anybody building a company, and at least one of you is now going to get a call from me this week suggesting it’s time to sell. 
 
The Kering press release does not even include complete financial statements, and many of the numbers are adjusted to reflect a “constant group structure and exchange rates.”   It’s bad enough that in the U.S. they do the conference call before the analysts really have time to analyze the press release and before they see the 10Q. That Kering can get away with doing it before they’ve released complete financial statements at all just amazes me. You won’t be surprised to learn that most of the questions are “strategic,” which in this case means there’s not much else you can ask about. I have no idea why the analysts tolerate it. Conference calls are starting to feel like Kabuki theater. 
 
It looks like Volcom (including Electric) isn’t doing very well based on the few numbers we are provided. Interesting that nobody else has even raised the issue. Certainly they are nowhere near performing up to expectations at the time they were acquired. What happened? Don’t know. I imagine that Kering’s expectations didn’t help things. But I also think, as I wrote at the time, that Volcom had gone a long way towards filling the niche they had positioned themselves in, and growing beyond that has proven difficult.
 
 

 

 

Relaxed Fit

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Maybe a month ago, I was walking through a local mall visiting all the usual retailers to see how things looked. I stopped at a PacSun store and was attracted to a table with some Volcom shorts on it in colors I really liked. There was a sticker on the shorts that said, “Relaxed Fit.” 

I paused for a moment, looked around the store to clear my head, and then read the sticker again. Yup, it said “Relaxed Fit.”
 
There was a moment of mental paralysis, then the thoughts all poured out at once. “This must be some sort of cool marketing trick I just don’t understand, the stickers are there by accident- some clerk is screwing around with my brain (and it’s working), is this really where our market is going, there’s some kind of new trend I don’t know about, yes, that must be it, maybe it means to be fit and relaxed, Kering (Volcom’s owner) is making them do this, no, wait, somebody slipped something in my soda…”
 
I walked out of the store determined to pretend this had never happened. But three weeks later, in another mall in another city I made the mistake of checking again and there the shorts were with that same diabolical sticker. My attempt at denial was foiled.
 
But happily I was saved by my ever vigilant research department that sent me this New York Times article called “Three’s a Trend | Men’s Shorts That Are Loose, but Refined.”
 
“Loose, but Refined” is conceivably a perfect (and hopeful) description of Volcom owned by mostly high end fashion company Kering. Grabbing at straws as I am, I’ve decided to believe that Volcom’s “Relaxed Fit” sticker is just a bow to this fashion trend shaped by their large corporate owner. See, I don’t know a lot of surfers, skaters and snow sliders that need relaxed fit clothing.
 
Okay, I’ve had a little fun with this, and I’m sure Volcom isn’t the only one doing it. I suppose I need to recognize that all our customers can’t be teenagers and that body shapes change with age (not mine of course). Yet in our push for growth, we get further and further from our roots. The ASC conference the day before the Agenda Show celebrated the importance of authenticity, but I wonder just what kinds of customers we can make product for before we begin to lose it.
 
I hope Volcom can stay loose.

 

 

PPR’s Annual Report: How’s Volcom Doing?

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When a smaller company in our industry is acquired by a conglomerate, it often becomes difficult to follow how the acquired company is doing because the conglomerate isn’t required to release any details on that company’s performance. Think Reef after it was acquired by VF (though I imagine we might have heard more if Reef had been doing better). 

PPR, however, is telling us a bit about what’s going on with Volcom and its plans for the Sports & Lifestyle segment of which Volcom is a part. 
 
PPR is a French company with revenues of 9.7 billion Euros in the year ended December 31, 2012. The current exchange rate is about $1.3 to the Euro. So 9.7 billion Euros is around US$ 12.6 billion. It acquired Volcom in July of 2011.
 
PPR has two divisions; its Luxury Division and Sport & Lifestyle. PPR’s luxury brands, including Gucci, Bottega Veneta, and Yves Saint Laurent, contributed 64% of its revenue for the year, or 6.2 billion Euros. The remainder (3.532 billion Euros) came from its Sports & Lifestyle segment that includes Volcom and Electric as well as Puma, Cobra (golf) and Tretorn (outdoor footwear). 
 
The last complete fiscal year results for Volcom we saw before it was acquired was for the year ended December 31, 2010. In the complete year, in US dollars, Volcom reported revenue of $323 million. Operating income was $30 million net income $22 million. Keep those numbers in mind as we move forward.
 
Of the total Sport & Lifestyle segment, Puma revenue represented 3.271 billion Euros, or 92.6% of the segment’s total. That means that Volcom, Electric, Cobra and Tretorn collectively generated revenue of 261 million Euro. You can see that result on page 27 of this PPR document. Go ahead and look just so you know I’m not making it up.
 
At 1.3 Dollars to the Euro, that’s about US$ 339 million. That’s only 2.7% of PPR’s revenue for the year, so it’s not really significant financially.
 
There is a bit of confusion here. Page 40 of the full financial result (which you can down load here  (It’s the first item on the list after you click “documents” at the top) talks about “Other Brands” in the sport and lifestyle segment. That is, all brands in that segment except Puma. It specifically lists Volcom and Electric (but not the other brands) and says they had revenue of 261 million Euros and recurring operating income of 15 million Euros. But it seems to exclude Cobra and Tretorn.
 
I can’t tell, then, if the 261 million Euros in 2012 revenue is just Volcom and Electric or includes these other two brands. I suspect that it does.      
 
Compare those numbers for Sport & Lifestyle segment excluding Puma with Volcom’s numbers in its last year as a public company. Note that operating income is US$ 19.5 million and is a third less than Volcom’s stand-alone operating income in its last full independent year.   At best, Volcom has grown only a bit. If that 261 million Euros in revenue includes Cobra and Tretorn, Volcom’s year over year revenues could have fallen. In the fourth quarter, according to the financial report, Sport & Lifestyle revenues rose 7.6% on a comparable basis. But excluding Puma, comparable segment revenues were down 4.8% and totaled 64 million Euros. As far as I can tell Volcom (including Electric) is most of what’s left in the segment after you remove Puma. 
 
I would like, at this time, to renew my congratulations and admiration, expressed at the time of the deal, to the Volcom management team for the timing of their sale to PPR and the price they got.
 
In the conference call, we learn that Volcom held its gross margin, but that marketing initiatives had a negative impact on operating margin. PPR management also referred to a “…worsening economic context…” and a “…major reorganization of certain retailers, notably in the United States…” in the second half of the year. 
 
Puma’s recurring operating income for the year was down 13% while that of the other sport and lifestyle brands rose 9.6%. EBITDA fell 10.5% for Puma but rose 28.1% for the Sport & Lifestyle segment. Remember most of the improvement in the other Sport & Lifestyle brands results from owning Volcom for a whole year. Impossible to tell what they would have been without that.
 
In spite of the rising sales Puma’s net income fell from 230 million Euros in 2011 to 70 million Euro in 2012. PPR is implementing a Transformation and Cost Reduction program for Puma. This will involve clarifying brand positioning, improving product momentum, improving efficiencies in the value chain and revamping the organization. Apparently, the organization didn’t evolve as the brand grew and that caused some problems. I’d note that as this program of transformation and cost reduction proceeds, average head count at Puma has risen from 10,043 in 2011 to 10,935 in 2012.
 
It’s also interesting to see that for the year wholesale revenues, which accounted for 81.6% of Sport & Lifestyle revenue, grew by only 0.6%. We’re told, “The unsettled economic environment in Western Europe, coupled with the reorganization of Volcom’s distributor store networks in North America, weighed on the performance of this distribution channel during the year.”   Retail sales in directly operated stores (don’t know if that includes online) rose 17.6%.   
 
In the conference call, we were told that more Sport & Lifestyle acquisitions were expected after Puma had been turned around and that there would be a focus on outdoor. Puma is to remain the core of the Sport & Lifestyle segment.
 
Here’s what PPR wants to do with its Sport & Lifestyle brands:
 
“For its Sport & Lifestyle brands, PPR’s strategy is based on expanding into new markets while bolstering
growth in the most mature ones, developing distribution, launching new products that are consistent with each brand’s DNA, and continuing to identify and foster synergies between the brands, particularly in sourcing, logistics and knowledge sharing in the areas of product development, distribution and marketing. The objective is to regroup sports brands that have an extension into Lifestyle.”
 
There’s nothing wrong with that but it’s kind of generic and pretty much lists what all brands want to do. But as I’ve noted before, that’s all you can expect in a public document. No company wants to lay out its strategy in detail for its competitors. 
 
While Puma struggles and it’s not clear that Volcom is doing all that well, PPR management is looking at revenues from their Luxury Brands that grew 26.3% year over year, while Sport & Lifestyle was up only 11.9%. Recurring operating income from Luxury was up 27.6% but fell 12.1% in Sport & Lifestyle. EBITDA rose 26.6% in Luxury, but fell 9% in Sport & Lifestyle.
 
It’s enough to make a management team schizophrenic. The Luxury Brands that represent two thirds of your revenue are doing great. Sport & Lifestyle, where you obviously see potential and opportunity (or you wouldn’t have bought Volcom) aren’t doing so well. But you expect to make further acquisition in this segment and have an outdoor focus.
 
We’re only a year and a half from the acquisition of Volcom, and that isn’t long to integrate a company and bring the strengths of PPR to bear. Puma has obviously helped Volcom introduce its new shoe line. But Puma and Volcom seem to me to be very differently focused companies. And as I think about outdoor, I’m not sure that’s how I think of either of them.
 
When PPR bought Volcom, I suggested, kind of half seriously, that maybe PPR would turn Volcom into an upscale, boutique kind of brand and develop some appropriate products. I’m now up to maybe two-thirds serious about that.
 
PPR no doubt has noticed that everybody is interested in the youth culture and outdoor markets and think they should be too. Can’t blame them. But I come away from their documents and conference call with the sense that they maybe they aren’t quite clear on what the sport/lifestyle/outdoor market represents.
 
During the conference call, between the presentation and the question and answer session, there was a short video featuring flashes of most of their brands. There was a lot of action sports material in it. But occasionally when the skate or snowboard trick was bracketed with the golf shot, it felt like there a certain discontinuity in the whole thing. Maybe I’m reading too much into that, and it was perfectly appropriate for the audience. But I think PPR knows that they need to think about how the brands in their Sport & Lifestyle segment are positioned and, ultimately, why they are in the business if they can’t get growth and returns consistent with their luxury brands.

 

 

PPR Earnings Release and Volcom- Exit Strategies for Core Brands

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This article was occasioned by PPR’s release of its quarterly results, but that’s not really what it’s about. When PPR, or Decker’s or VF or Jarden releases earnings we’re interested in what happened mostly because we’d like to know what’s going on with Volcom, or Sanuk, or Reef, or K2/Ride. We never find out very much. 

Volcom is in PPR’s Sports & Lifestyle Division which includes Puma and Volcom (including Electric). Puma did 821 million Euro in the March 31 quarter and “other” brands in that division, which means Volcom, did 65.6 million Euro. That’s about $87 million at the March 31 exchange rate.
 
Maybe ten days ago, I wrote about Nike’s quarter, indicating it was kind of a waste of time for me to analyze Nike’s financials. Instead, I tried to focus on some comments Nike’s CEO made about sources of product innovation. The goal was to try and provide a little perspective that maybe helped smaller companies in action sports (or maybe it should be called active lifestyles?) think about how to compete and succeed in the eight hundred pound gorilla era. I think that approach is valid not just for NIKE, but for all the large companies that have bought up companies in our industry.
 
PPR management made clear in the conference call that they were disappointed in Puma’s results, and that they were working hard to improve them. At the time of PPR’s acquisition, there was speculation that Volcom might help Puma become “cool” and that we could see a Volcom shoe line created with Puma’s help.
 
At the time of the acquisition by PPR, Volcom was a company that was very strong in its market niche but, in my analysis, didn’t have anywhere to go. It was so closely identified with its niche it didn’t have the strength to break out of it. PPR, with about 4 billion Euros of revenue in the recently completed quarter, and the owner of such luxury brands as Gucci, Bottega Veneta and Yves Saint Laurent, didn’t buy Volcom for its 65 million Euros of revenue (1.6% of PPR’s total) and its growth potential in the “core” market. They didn’t buy it just to help Puma or to do Volcom shoes.
 
What do they have in mind? What do any of these behemoths have in mind?
 
At the most obvious level, PPR saw what VF has done with Vans and The North Face in its action sports segment and the associated growth rates and said, “We want a piece of that too.” If nothing else, you might expect that PPR will be interested in additional acquisitions in the space, perhaps in competition with VF.
 
Neither Nike, nor PPR, nor VF is interested in a brand that has no potential beyond the “core” market. It would just be too small to temp them. When the PPR/Volcom deal went down, I suggested, only partly in jest, that maybe PPR would expand Volcom into upper end boutiques. I (probably) don’t see any product collaboration between Volcom and Gucci. But I’ve watched brands like Nixon get some traction in that upper end market with some of their higher priced product, and I just wonder what’s possible. With PPR’s help, could Volcom open some stores that carried some new classes of Volcom product? Go and see what WESC is doing. 
 
A brand, like Volcom, that’s secure in its niche and roots has the potential to grow out of that niche without confusing its customers and destroying its market. It’s not a sure thing, and it’s not easy. It’s management’s challenge every day.
 
For better or worse, we created that opportunity when we chose to pursue growth across markets and expand distribution. We created a much larger market, but one we couldn’t take advantage of on our own.
 
Large, successful companies in action sports are small, inexperienced players in the broader fashion business. As Volcom discovered, even going public and shoring up your balance sheet doesn’t solve that problem.
 
I’m sitting here trying to think of companies who have smashed through that barrier without help. I’m not doing very well. Everybody who is thought to have the potential to go from core to fashion seems to be acquired.
 
That, I guess, is the strategic point I started to think about as I read PPR’s quarterly report and looked for information on Volcom. A successful exit strategy for an action sports brand owner, in general, will require a revenue size that is proof of concept and is big enough to be interesting to a possible buyer. There also has to be an indication that you can hope, with the right support, to move past the core market and into the much larger fashion space. You can see that’s an issue for hard goods brands.
 
In the future, then, when I review the reports of Nike, VF, Decker, Jarden, VF and any other big companies involved in our industry,  I’ll try and pull our trends and ideas that are more interesting than the change in the current ratio. More fun for me to write. Hopefully, more valuable for you to read.         

 

 

A Little More Information on Volcom’s Sale to PPR

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Often when a deal happens, all you know for sure is what’s in the press release. Typically that press release doesn’t offer a completely objective perspective about the process and motivations that lead to a deal. But if it’s a public company, and you’re willing to dig into mounds of fine print, sometimes you can find out a bit more.

That would be true with PPR’s acquisition of Volcom. Don’t get all excited. I don’t have any deep dark secrets to tell you. There’s nothing that would change my opinion that Volcom made themselves a good deal at the right time for the right reasons (in fact, this reinforces my opinion). But we’ll know a bit more about how and why the deal happened.

When I reviewed Volcom’s last quarterly report, I noted that a law suit had been filed as a result of the deal alleging that Volcom and PPR had done various bad things not in the shareholders’ interest. A second one was also filed but both are now being settled. We don’t know the terms, but one of the conditions was that Volcom amend its Schedule 14D-9 to include some more information on the deal. So we have the plaintiffs in those two lawsuits to thank for some of the additional insight.
 
From various documents filed as part of the deal, we know that the first contacts between PPR and Volcom management was on February 8th and 9th, 2010 where “…there were initial discussions about the businesses and histories of Volcom and PPR, as well as ways the companies might work together.” On March 11, PPR told Volcom they were interested in a potential strategic transaction. No purchase price was mentioned. There were ongoing meetings and conversations through April, but around April 28, Volcom told PPR that it intended to pursue its strategic plan “…rather than continue talks with regard to any potential strategic transaction…”
 
There was further contact on July 15 that lead to an informal meeting in Newport Beach, California between PPR CEO Pinault and Volcom CEO Richard Woolcott and President Jason Steris. Nothing happened and there were no further discussions for several months.
 
Meanwhile, on October 22 another company contacted Volcom and said they were interested in acquiring Volcom. Volcom had conversations with that company between October 25 and the end of December, 2010. Bidder A (as this company is called) signed a confidentiality agreement and proceeded with its evaluation of Volcom. On February 1, Bidder A informed Volcom that its review supported a price from the low $20s up to $25.00 a share.
    
It was December 16, 2010 when PPR contacted Volcom again about a potential strategic transaction. A confidentiality agreement was signed on February 1, 2011. Due diligence was undertaken for about two months and on March 4, PPR told Wells Fargo Securities (representing Volcom) that their analysis supported a price of $23.00. On March 17, Wells told PPR that Volcom was talking to other potential buyers as well.
 
PPR formally bid $23.00 a share on April 21. There were some additional meetings. PPR increased its offer to $23.50 on April 29.  The first offer was contingent, among other things, on CEO Wolcott’s “…entry into a new employment arrangement with PPR.” The second offer “…was not conditioned upon Mr. Richard Woolcott’s entry into a new employment agreement.”
 
I have no idea if that change has any significance at all. But the lawyers thought it was important enough to be included in the narrative so I’m just curious.
 
Now it gets interesting. On May 1, Wells contacted PPR’s representatives and told them their bid of $23.50 per share was not the highest. Bidder A had bid $24.00 earlier in the day. They recommended that PPR increase its offer before the Volcom Board of Directors started discussing the offer later that day.
 
Damn! This even gets exciting when you read about it in lawyer speak. It’s what makes doing deals “fun.” Think of the sense of urgency, the impact of different time zones and the fact that there were three companies involved. And three sets of lawyers. And, I assume, three sets of financial advisors. PPR increased its offer to $24.50.
 
In what I’ll call “dialing for dollars” Volcom’s representatives went back to both PPR and Bidder A and asked them to increase their bids. Both declined.
 
“Later in the night (Central European Time) of May 1, 2011…” Volcom’s lawyers told PPR’s lawyers “…that if PPR were willing to modify certain terms of the proposed merger agreement, the Volcom Board of Directors was prepared to approve the merger agreement and sign it immediately.” Those modifications obviously happened and “The Merger Agreement and Share and Voting Agreement were executed by the parties in the morning (Central European Time) of May 2, 2011.”
 
The Schedule 14D-9 lays out this whole process in much more detail on pages 10-22. You might want to take a look at it.
 
In those pages, we also learn something about the motivation for the deal. In the normal course of business successful companies will be approached by various entities about possible strategic transactions. This was true for Volcom from 2007 through 2009. As a public company, they have a fiduciary responsibility to consider if any of these transactions might be in the best interest of their shareholders. It feels from reading the pages above that it was somewhere around the end of 2009 when Volcom decided to look at the possibility of a transaction more seriously.
 
Not that they had to do one- but the world had changed enough (financial crisis, great recession, difficulty in growing) that taking a more serious look made sense. Still, in August 2010, Volcom released some financial projections as part of their five year plan that showed the company growing its earnings per share from $0.91 in 2010 to $3.37 in 2015. If they thought they could accomplish that, why sell at $24.50 a share?
 
I don’t know the answer to that, but I do know that in August of 2010, and prior to that when the projection was being prepared, we were all hoping for an economic recovery that has turned out to be more anemic than expected. People who don’t change their opinions when the facts change probably shouldn’t be running companies. Maybe those projections were part of the negotiations. The documents indicate they were provided to the potential acquirers.
 
As noted in the Schedule 14D-9, Volcom considered the risks of being independent when evaluating the offers to buy the company. “The Board of Directors considered in its assessment, after discussions with the Company’s management and advisors, the risks of remaining an independent company and pursuing the Company’s strategic plan, including the risks relating to:
               • increasing competition in the branded apparel and eyewear industries; and
               •trends in the branded apparel and eyewear industries, including industry consolidation, input costs and pricing trends.”
 
They put it a little more strongly in the revised Schedule 14D-9 where they replaced an existing paragraph with the following as they explained the background and justification for exploring a transaction (emphasis added by me):
 
“…in light of the Company Board’s further review of the recent state of the sports apparel and eyewear industries and the increased competitive challenges for the Company, the Company Board authorized members of Volcom’s executive management team to formally engage Wells Fargo Securities to act as financial advisor to Volcom to explore a potential sale of Volcom and authorized Wells Fargo Securities and members of the Company’s executive management team to continue discussions with Bidder A.”
 
In a fairly short time, then, Volcom management had gone from a very positive August 2010 projection to thinking they should sell the company for a price that would be way too low if they still thought they could make those projections while staying independent. Good for them. I can’t resist pointing out that I’ve highlighted the same issues Volcom identified in my analysis of their public filings, so I can’t really do anything but congratulate them on their insightfulness.
 
For those of you who might want to sell a company someday, I’d note again that Volcom negotiated from a position of strength when they did not have to do a deal. Look how long it took, and of course it’s not closed yet. Even when you’re not a public company, doing it well takes a long time and is a lot of work.    

 

 

Volcom’s March 31 Quarter and Some Related Thoughts on the PPR Deal

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We’re probably down to the last one or two quarterly filings we’re going to see from Volcom as all filings will cease when the PPR acquisition of Volcom closes. There was no conference call this quarter because of the impending deal, so all I’ve got to work with is the 10Q.

Total revenue was up 12.6% compared to the same quarter last year from $77.4 million to $87.1 million. Keep in mind that they completed the acquisition of their Australian licensee last August. This is responsible for $5.16 million of the total product revenue increase of $10 million for the quarter. Gross margin on product fell from 4.1% from 53.9% to 49.8%. “This decrease,” they say, “is primarily due to more in season discounted product sales and lower margins achieved on off-price sales during the three months ended March 31, 2011 compared to the three months ended March 31, 2010.”

Revenue for the quarter rose in each of Volcom’s four segments; United State, Europe, Electric and Australia. Operating income, however, fell in all four. In the U.S., it was down from $2.74 million to $897,000. In Europe the decline was from $8 million to $6 million. Electric’s operating income fell from $266,000 to0 $119,000. Australia showed an operating loss of $26,000.
 
Selling, general and administrative expenses rose from $31 million to $36.6 million. $2.2 million of the dollar increase was the result of the acquisition of the Australian licensee. Payroll accounted for another $900,000, advertising and marketing for $800,000 and increased bad debt expense $700,000. As a percentage of revenues, it rose from 40% to 42%.
 
The result of the lower gross margin and higher operating expenses is a net income that fell from $7.5 million to $4.6 million.
The balance sheet is still strong. It will shortly become irrelevant with the closing of the acquisition, but I would note that accounts receivable rose 22.6% to $73.2 million. I assume that part of that is due to receivables acquired when they bought their Australian licensee, but I don’t know how much.
 
In an interesting but probably ultimately unimportant development, a class action lawsuit was filed on May 4 (two days after the PPR deal was announced) claiming Volcom’s directors breached their fiduciary responsibility.  “The complaint alleges that the Offer and Merger involves an unfair price, an inadequate sales process, and that defendants agreed to the transactions to benefit themselves personally.”
 
Volcom says the case lacks merit, and I imagine they are right. The lawsuit’s contention, or at least one of them, is that Volcom only talked to PPR and if they had shopped the company more widely, they should have gotten more money. Maybe, but I still think the deal
was fully priced.
 
Over the last year, and maybe more, we’ve noticed that Volcom has had some issues with too much inventory and has had to discount to move it. We see the receivables increase and the allowance for bad debt that’s more than 10% of receivables. We note their comments (like other companies) about issues with rising costs and deliveries.
 
I’ve written about what a great job Volcom has done in defining and owning their market space, but how it can be hard for a company to grow out of a market position it is so closely identified with. Related to that I’ve noted some of the apparent challenges the brand has had in the department stores.
 
Volcom’s management didn’t need to sell the company. But if I and others have noticed some of these issues, you know Volcom’s spent a whole lot of time figuring out how to manage them. Apparently, the conversation with PPR took place over a year. With its balance sheet strong, and the brand’s integrity intact, I suspect Volcom looked at the strategic issues I’ve highlighted above and decided it was a good time to negotiate from a position of strength. That’s how you’re supposed to handle the market issues that lead to consolidation.
 
Obviously, PPR will help Volcom manage any cost, manufacturing and delivery issues it has. More importantly to Volcom’s shareholders, though, is that the company found a strategic buyer willing to pay a premium over what a strict financial analysis might suggest the company is worth.
 
PPR’s brands may be sophisticated, but they aren’t cool. Volcom is cool and, PPR is assuming, will help them break into a customer group they don’t really understand and haven’t been able to crack. I think they’re right, as long as they don’t “help” Volcom so much that they try to make it into something it ain’t.

 

 

PPR Buys Volcom, Probably

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You know, I should have seen this coming and been sitting on 10,000 shares. But no such luck and anyway, I don’t own shares in companies I write about. Still, the deal’s not a complete surprise. Vans, DC, Reef, Sector 9 and Hurley are a partial list of industry companies that have been acquired by larger companies that wanted to get into or expand their action sports offering and grow their credibility with that customer group. Consolidation is not new, and most successful companies in our industry seem to reach a point (usually as they start to grow into the larger fashion market) where they perceive they need some help to continue growing and succeed in that broader market.

Volcom has been showing some symptoms of needing that help. Last time I wrote about them, in March, I said,

“But there comes a time, especially as a public company, when that strong brand positioning with a targeted consumer can make growing more of a challenge as the new customers you need don’t feel a strong connection with the brand and the customer you have may feel alienated if and as you do what you have to do to build a connection with the new one.”
 
“It’s not like this is a surprise to anybody who’s been around our industry for a while. Large or small, public or not, every company deals with this when they grow. I wrote last week about how Quiksilver is pushing its DC brand and my concern that they might push it too hard. Burton, when it changed its name from Burton Snowboards to just Burton, was dealing with this issue.”
 
I noted in the article that Volcom was counting on some broader distribution including the department store channel for growth, but that I wasn’t quite sure a company with the motto “Youth Against Establishment” fit in the department stores.
 
I went on to say, “Volcom says they make premium product that typically sells at premium prices and they’ve got a very distinctive image they’ve worked hard and successfully to build over 20 years. That sounds boutique like to me- not department store. Just saying.”
 
They’ve also had some issues with dependence on PacSun and too much inventory. In 2010 revenues were up 15.2% over the prior year, but net income increased hardly at all, from $21.7 million to $22.3 million. A decline in gross margin from 50.2% to 49.2% explains most of that.
 
During PPR’s conference call announcing the acquisition, one analyst ask why, if Volcom actually believes it can earn $2.20 to $2.40 a share in 2014 it was selling now for this price. The PPR CEO answer was something along the lines of “Uh, oh, well, I guess they think it’s a fair price.” Great question I thought and maybe Volcom’s answer has something to do with the issues I raised.
 
By the way, the reason I put “probably” in the article title is because no deal is done until it’s closed. Also, from time to time an offer from one company will result in a higher offer from another company. The board of directors of a public company has a fiduciary responsibility to do what’s in the best interest of their shareholders. They couldn’t just ignore a better offer they think has an equal chance of closing. Of course, what’s “better” can be open to interpretation. I don’t actually expect there to be another offer. PPR, as we’ll get to next, is an 800 pound gorilla and I consider the deal fully priced.
 
PPR had 2010 revenues of 14.6 billion Euros (2.3 billion of which was sold online). That’s north of $21 billion at the current exchange rate. Western Europe is about 59% of their revenues.  North America is 16%. They have 60,000 employees and their products are distributed in 120 countries. Volcom, at $321 million in revenues in 2010 is a tad smaller, but much, much cooler. It’s around 1.5% of PPR’s revenues. I’d like to tell you all about them, but their web site is in French. I guess I can at least say they are a French company.
 
 Oh- wait- here’s the English version. Their luxury group of brands includes Gucci, Bottega Veneta, Yves Saint Laurent, Balenciaga, Alexander McQueen, Boucheron, Sergio Rossi, and Stella McCartney. I’m pretty sure none of these brands are hanging in my closet even though I’m such a fashion forward guy. The Stella McCartney stuff just doesn’t accentuate my bust.
 
They also own PUMA, FNAC and Redcats. Okay, I know what PUMA does. FNAC is apparently in the process of being sold. In 2010, the luxury group was 27% of sales and PUMA was 18%. PPR has over 800 stores globally. Here’s a link to the English version of their 356 page reference document which I am not reading. It has some easy to absorb graphics you might be interested in. It’s a big file and a bit slow to download.
 
This is PPR’s first adventure into the action sports market. It should be interesting to watch. On an operational level it seems obvious that Volcom should benefit from PPR’s size in terms of systems, manufacturing, access to capital and operations. Those synergies are usually real, but also usually harder to achieve than people expect. I guess Volcom will report through PUMA. It was interesting to hear PPR management say that Volcom was complimentary to PUMA and then note that PUMA was not involved in action sports. Maybe they just meant complimentary in terms of getting Volcom into shoes in a much bigger way, which apparently we can expect.
 
PPR, of course, is particularly well situated to increase Volcom’s presence in Europe, where both Volcom and PPR think they have a lot of room to grow. It sounds like we can expect to see quite a few more Volcom stores worldwide (no numbers given). I wonder if Volcom product would fit into any existing PPR owned stores. Many PPR brands can reasonably be characterized as boutique brands and, as I suggested before, if Volcom’s description of their brand and its positioning is accurate, maybe that’s where they belong. But I have a hard time seeing Volcom in a Gucci store at the moment. Maybe Europe is different.
 
Volcom may be strategically important to PPR, but it’s an awfully small piece of the whole. As I listened to the PPR executives describe Volcom, it felt like they were reading Volcom’s description of itself and its market position right out of Volcom’s 10K. Even though they’ve been talking for a year, I was left unsure if PPR “got it” or not. Over the years, I’ve watched European companies try to break into the U.S. action sports market and just do it wrong. I’ve watched U.S. companies have the same problem going to Europe, if only because we start out thinking of Europe as one market.
 
One European analyst called Volcom a “sports” company and inquired of management if they were thinking of launching a PUMA action sports brand. Happily, PPR made it clear that was a bad idea. There was also a question about whether Volcom and PUMA could be distributed together.
 
PPR talked about “…building the Volcom business globally while maintaining its authenticity” and keeping it positioned as it is today without changing the target customer. Of course that’s what they want to do, or they wouldn’t be buying Volcom. But as I’ve written, it’s also the challenge. Every action sports brand comes up against this. At some level growing and maintaining authenticity becomes as challenge. PPR has, of course, dealt with all forms of distribution and growth issues, but I am not aware that PPR management has experience with this in the youth culture market. Growth, after some point, requires changing, or at least expanding, the target customer.
 
They will be relying on the Volcom team to continue managing the brand. The deal, however, is an all cash one at $24.50 per share (22.6 P/E ratio according to one investment banker) with no earn out component we learned in the conference call. I sure hope Richard Woolcott and his team are happy working with PPR.
 
Given the challenges Volcom faces, they’ve made themselves a good deal at the right time. PPR can certainly make them more efficient operationally, in manufacturing, and financially. They will help Volcom grow especially in Europe, and there will be an expanded retail presence. In the longer term, if PPR and Volcom managements have some patience with each other, we might see Volcom make a transition into the fashion market in a way no other action sports brand has done.
 
Youth Against Establishment indeed.

 

 

Volcom’s Numbers and Opportunities for Growth

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What I’ve admired about Volcom is its consistent approach to the market over most of the life of the company. You get rewarded for that consistent approach with a strong market position and brand awareness among your target customer group. Reef did the same thing with a similar result over many years.

But there comes a time, especially as a public company, when that strong brand positioning with a targeted consumer can make growing more of a challenge as the new customers you need don’t feel a strong connection with the brand and the customer you have may feel alienated if and as you do what you have to do to build a connection with the new one.

It’s not like this is a surprise to anybody who’s been around our industry for a while. Large or small, public or not, every company deals with this when they grow. I wrote last week about how Quiksilver is pushing its DC brand and my concern that they might push it too hard. Burton, when it changed its name from Burton Snowboards to just Burton, was dealing with this issue.
 
I’ll get to Volcom’s numbers. But the numbers tend to work out if the strategy and positioning is correct. Let’s take a close look at some of the comments in Volcom’s annual 10K and recent conference call to see how they’re managing it.
 
Brand Positioning and Growth
Volcom characterizes itself as, “…an innovative designer, marketer and distributor of premium quality young mens and young womens clothing, footwear, accessories and related products under the Volcom brand name.” They say they have, “…one of the world’s leading brands in the action sports industry, built upon our history in the boardsports of skateboarding, snowboarding and surfing. Our position as a premier brand in these three boardsports differentiates us from many of our competitors within the broader action sports industry…”
 
As an apparel/soft goods brand, it’s easier to build your franchise across sports in the action sports market than it is if you’re a hard goods brand based on an individual sport. It’s also easier to grow beyond action sports into the broader market. Everybody needs pants, shirts, and shoes, but not everybody needs snowboards, skateboards and surf boards. I think that’s non-controversial, so I’m not going to spend time on it.
 
Volcom characterizes its brand as “…athlete-driven, innovative and creative. We have consistently followed our motto of “youth against establishment,” and our brand is inspired by the energy of youth culture.” They go on to say that, “We seek to enhance our brand image by controlling the distribution of our products. We sell to retailers that we believe merchandise our products in an environment that supports and reinforces our brand and that provide a superior in-store experience.”
 
From what I can tell, that works just fine in “core” shops and in certain chains, like Zumiez. But once you get to Macy’s and Nordstrom, and your motto is “youth against establishment,” are you controlling your distribution and can these retailers “support and reinforce” the brand?
 
Well, this is hardly an issue that’s unique to Volcom. Every successful brand in our industry thinks about issues of distribution (where to sell and how fast) every day. And of course you have to be successful enough for Macy’s and Nordstrom to want you in the first place before it becomes an issue so it’s kind of under the heading of “good problem.”
 
Volcom indicated in the conference call that they are presently in 150 Macy stores. But I want to return to what they said, and what I wrote, after their last conference call on their Sept. 30, 2010 quarter.
 
“In the conference call, Nordstrom’s is mentioned as having stopped carrying action sports last year. In their previous conference call [for the June 30, 2010 quarter], Volcom was describing the opportunity they had at Macy’s. In this call, we’re told, “Macy’s has been more difficult for us right now in terms of our door count has been reduced over the course of, I think, this year, kind of quarter to quarter.” Quite a change for one quarter. Now Volcom is saying that “…Bloomingdales is our bright spot for our department store business.” But they’re only in eleven stores.”
 
“Those of you who read my last article on Volcom know that I visited a handful of Macy’s stores to look for Volcom and other action sports brands. What I found was that Volcom and other brands were either miserably merchandised or not present at all. It seems kind of clear that there’s some work to be done before Volcom moves much of its inventory in those channels.”
 
Over three quarters, then, Volcom’s description of its success in department stores has been pretty volatile. Last quarter, Nordstrom was noted as having stopped carrying action sports, but this quarter’s 10K lists them as a customer of Volcom.
 
I’m confused. At least in the U.S. Volcom’s growth prospects are closely tied to their performance in some broader distribution channels including department stores, but from public data, I have no clear idea how they are doing there.
 
If Volcom’s management asked me (I won’t hold my breathe) I’d probably suggest that rather than department stores, which are apparently having some difficulties understanding and merchandising action sports brands, they might look for growth in the U.S. through  fashion boutique kind of stores. Volcom says they make premium product that typically sells at premium prices and they’ve got a very distinctive image they’ve worked hard and successfully to build over 20 years. That sounds boutique like to me- not department store. Just saying.
 
But then there’s the public company thing. The department stores offer the possibility of larger purchases which is obviously attractive to any public company that wants quarterly growth.
 
When I wrote about Quiksilver last week, I noted that margins and growth opportunities seemed higher outside of the U.S. The same may be true for Volcom, as we see when we review their numbers. Boy, life was sure easier for a strong action sports brand in this country before the economy went to hell.
 
The Numbers
 
Sales for the quarter ended December 31 rose 22% to $78.6 million. The U.S. segment (which includes Canada and Japan and most other international territories outside of Europe and Australia, but not Electric) increased 18% to $54.3 million. Their five largest full price accounts grew 19% to $15.4 million and represented 29% of the segment’s revenues. It was the same percentage in Q4, 2009. PacSun was $7.9 million for the quarter, up 31% and represented 15% of the U. S. segment revenues.
 
Gross margin for the quarter fell from 49.2% to 45% overall. In the U.S. segment (remember that’s not just the U.S.) It was 42% down from 48.1% in the same quarter in 2009. The reason is that they were too optimistic in their sales projections and inventory had to be liquidated in the fourth quarter. Probably has something to do with the rise in PacSun revenues.
 
Net income for the quarter was $1.6 million, down from $3.4 million in the 4th quarter of 2009.
 
For the year, revenues rose 15.2% to $321 million. That’s still below 2008’s $334.3 million.
Gross profit margin fell from 50.2% to 49.2%, but that’s an improvement over the 48.8% of 2008.
 
U.S. segment sales rose 15.3% to $218 million and represented 67% of revenues. Europe, at $70.3 million, was essentially constant and was 22% of the total. Electric grew 30.3% to $27.5 million and was 9% of the total. Australian segment revenue was only $7.7 million, but remember Volcom just acquired it’s licensee in that country last August 1, so the numbers will be much higher this year.
 
Sales in the U.S. (the country- not the segment) totaled $161.4 million. Canada was $37.4 million and Asia/Pacific $32.1 million. 18% of 2010 revenue came from Volcom’s five largest customers. That’s down from 20% the previous year, and 28% the year before that. PacSun was 10% of total product revenue in 2010. 10% of total product revenue is $32.1 million. PacSun operates only in the U.S. and Puerto Rico. Knowing Volcom’s U.S. sales, we can calculate that 20% of those sales were to PacSun. 
 
Volcom sells product that it categorizes as men’s, girls, snow, boys, footwear, girls swim, Electric, or other. Of these nine categories, men’s was $168 million, or 52.4% of product revenue. Girls, at $55 million or 17% is the next largest.   
 
The gross profit margin in the U.S. segment was 46.1% for the year. It was 55.6% in Europe, 58.9% for Electric, and 43.8% in Australia. Management tells us that the Australian gross margin will be around 50% once it’s fully integrated.
 
We don’t have a gross margin number broken out for just the U.S. If I were a betting man, I bet that the gross profit margin in just the U.S. is lower than that 46.1% for the U.S. segment. As with Quiksilver, you can see that Volcom’s bias would be to increase sales outside of the U.S., where margins are significantly better.
 
Volcom notes that one of its strategies is to take control of its international operations in countries where they have licensees when the license agreement expires. The one in South Africa expires at the end of this year. Brazil is at the end of 2013. So is Argentina, but it can be extended for five years. Indonesia’s expires at the end of 2014.   
 
 Selling, general and administrative expenses rose 16% from $111 million to $129 million. As a percentage of sales, they rose a bit from 39.5% to 39.8%. Of that total advertising and promotion accounted for $26.8 million in 2010 and $21.9 million in 2009. In 2011, estimated minimum payments for professional athlete sponsorships are projected to be $8.7 million.
 
Net income rose slightly from $21.7 million to $22.3 million. In 2008 it was $21.7 million. As percent of sales, it fell from 7.7% to 6.9%.
 
The balance sheet continues to be solid with no long term debt even after they paid out $24 million as a special dividend to shareholders.
 
Other Information
 
Retail’s always interesting to talk about.  Volcom owns 13 full-price retail stores and licenses 11 more around the world. They own the two multi-brand Laguna Surf and Sport stores and have 10 outlet stores. As you’ve probably heard, they are purchasing those 10 stores from the operator. Volcom seems focused on retail locations that “present our brand message directly to our target market.” I think that’s a good reason for a brand to have a limited number of retail outlets.
 
Volcom has basically the same cost pressures that other companies are feeling, and expects input costs to be up between 15% and 20% in the second half of the year. What was a bit different was their apparent confidence that, “As far as the cost increases go, generally, those are going to be passed through as price increases.”
 
Maybe that says something about the strength of the brand. Other companies are not quite so certain they will be able to pass through all the costs increases, recognizing that the consumer will have something to say about that. CEO Woolcott acknowledges later in the conference that consumer acceptance of price increases is an open issue.
 
Volcom has as strong a brand as any significant player in our industry. Maybe, within its target segment, stronger. But, as was discussed above, the price of that kind of strength can be difficulty growing outside of that segment. Like a lot of brands, I think we’ll see a strong international focus from Volcom. That’s where the margins and growth opportunities seem to be. In the U.S., it will be interesting to watch where growth happens. I imagine Volcom would like to sell less to PacSun, core stores can be hard to get enough consistent growth out of and, as I indicated, some of the department stores just don’t seem to get it.

 

 

Volcom’s Quarter Ended Sept. 30 and Some Strategic Industry Issues

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Those of you who read my stuff know I never try to be the first published. When Volcom did their press release I reviewed it. I listened to the conference call and read its transcript and thought about it. Then I reviewed their 10Q when it was finally released. Then I thought about it some more.

Now, I’ve thought enough. What I was thinking about as I reviewed Volcom’s material was the distinctions (and similarities) between the action sports, youth culture, and fashion markets. You see, I’m not sure just what market we are any more. Action sports, to me, is that fairly small market composed of consumers who are participants in the sports and maybe the first level of nonparticipants who are closely interested in the sports and the lifestyle. Fashion is by far the largest market. If the people in that market want a surf brand, they may be as content with Hollister as with Quiksilver. Or they may just like a plaid shirt style they saw somewhere and are happy to buy it at JC Penney. They may not even know that isn’t cool.

I see Volcom as being in the youth culture market, but holding on to its action sports roots and trying to reach up into fashion as a condition of growing. That could leave Volcom (or any other brand) stretched a bit thin in terms of market positioning.
So let’s look at Volcom’s results and discussion around those results in term of the changes that are going on in our industry and market and see if we can draw broader conclusions that go beyond Volcom.
 
The Balance Sheet and Issues of Strategy
 
Volcom’s balance sheet at September 30 remains very strong, if not quite as strong as a year ago. But it’s strong enough for them to pay a $1.00 a share cash dividend to shareholders of record at November 8th at a cost of $24.4 million. Even though it’s strong, I want to spend time on the receivable and inventory numbers, as this might get us to some of the broader industry trends I want to focus on.
 
Consolidated accounts receivable were up 17% to $81.8 million at September 30, 2010 compared to one year ago. Days sales outstanding were up to 91 days from 88 days a year ago. So on average it’s taking them three days longer to collect.
 
Inventories over the year are up 65% from $22.4 million to $37 million. By comparison, sales grew 11%. Inventory turns over the year fell from 5.8 times to 4.6 times. The number of days it took them to turn their inventory, therefore, rose from 63 to 80 days. Higher is generally better than lower when you talk about inventory turns, though too high a turn rate can indicate you’re not keeping enough inventory on hand.
 
With those numbers as background, let’s look at their discussion of inventory. Here’s what Volcom said about their inventory situation in their 10Q. “We believe that as of September 30, 2010, we have excess inventory levels on hand and in order to align these inventory levels with current in-season demand, we anticipate that we will experience higher inventory liquidation sales during the fourth quarter of 2010.”
 
They talk about this at some length in the conference call and give more detail on how it happened and what they are doing about it. First, they note that their 2010 strategy “…has been to gain floor space and market share throughout our account base. Along with increased focus on marketing and promotions, these initiatives have included incentive programs to improve retailer margins in order to insure continued strong orders for Volcom products.”
 
They certainly aren’t the only company with a strong balance sheet that thought a recession was a good time to take some market share, and they are probably right about that. But they chose to do it partly with programs (including some pre-book discounts and a little more markdown allowance) that reduced their gross margin in their United States segment (that includes Japan and Canada but not the Electric results in any of those countries) from 49.9% in the same quarter last year to 45.4% in the same quarter this year. Overall, their gross profit margin fell from 51.6% to 49.6% in the quarter.
 
Moving into next year, they expect to curtail some of these incentive programs. “We believe this will help us recover some of the lost gross margin, while maintaining our market share gain.”
 
Will whatever market share gain they’ve achieved be maintained when they remove the incentives? Yup, that’s the big question. Billabong was concerned enough about this issue that they chose to limit their discounts and incentives during the recession even at the cost of some sales. I’ve argued pretty strongly that your focus in a period of slower sales growth needs to be on expense control and generating gross margin dollars even at the expense of sales growth. It’s an issue for every solid brand in the industry and we’ll find out over time what the right answer is. It is, of course, possible that there are different answers for different brands.
 
Meanwhile, speaking of issues everybody in the industry has to deal with, Volcom indicated they are seeing upward pressure on manufacturing, freight, and raw material costs in the area of 15% to 20% FOB.  That’s more than some other companies have suggested. But Volcom, and everybody else, has to ask how consumers will react in this economic environment as brands try and make up for some or all of these costs increase with higher prices. And Volcom will be dealing with that as they withdraw certain
of these incentives from their customers.
 
Just this morning, somebody sent me a short, article on these costs increases coming out of China. You can read it here.
 
We are, by the way, still talking about inventory. What I like about how this article is working out is that we’re tying balance sheet to income statement to global strategy. It’s important to understand those relationships.
 
Why did inventory get so high? Volcom chose to carry more inventory “…to capitalize on potential in-season business.” They did this because of “…the retailers’ general reluctance to pre-book at historic levels.” They also “…made earlier and bigger buys on select styles due to longer lead times in China, and to take advantage of volume pricing.” When they did that, they had higher expectations for the second half of the year which did not materialize.
 
I wonder if retailer’s reluctance to pre-book should be looked at as an opportunity to sell in season or as an indication that consumers are expected to remain cautious in their spending.
 
Some of this inventory is going to carry over to next year and was bought with that in mind. I think that carrying over some styles in certain basic product is a good idea as long as the market will accept it. But Volcom said they “…plan to get rid of…” about $3 million in inventory in the fourth quarter and that will impact their margins.
 
How exactly are they going to get rid of the excess inventory? They don’t exactly say, but they do note that they expect that sales to PacSun will increase 17% in the fourth quarter. In the third quarter, PacSun bought $6.9 million. 17% would be an increase of about $1.17 million, and I wouldn’t be surprised if a chunk of $3 million in inventory they want to get rid of is going there.
That certainly creates an opportunity to discuss PacSun’s strategy and place in the market and Volcom’s relationship with them, but this article is going to be long enough and I’d better move on.
 
Before I get off inventory, there’s one more industry strategy issue that relates to it I want to discuss. It’s the role of the department stores. In the conference call, Nordstrom’s is mentioned as having stopped carrying action sports last year. In their previous conference call, Volcom was describing the opportunity they had at Macy’s. In this call, we’re told, “Macy’s has been more difficult for us right now in terms of our door count has been reduced over the course of, I think, this year, kind of quarter to quarter.” Quite a change for one quarter. Now Volcom is saying that “…Bloomingdales is our bright spot for our department store business.” But they’re only in eleven stores.
 
Those of you who read my last article on Volcom know that I visited a handful of Macy’s stores to look for Volcom and other action sports brands. What I found was that Volcom and other brands were either miserably merchandised or not present at all. It seems kind of clear that there’s some work to be done before Volcom moves much of its inventory in those channels.
 
Volcom’s inventory numbers, then, span a bunch of industry strategic issues that are important to all the players in our industry. These include the strength of the economic recovery, increasing product cost, delivery issues, the impact of fast fashion, changes in the retail base and its willingness to place preseason orders, and the inevitable difficulties of growing into the fashion/department store market. Nobody’s business model works the same way forever.
 
And that is the end of the inventory discussion. Finally.
 
Income Statement
 
For the quarter, revenue rose 11.4% to $104.7 million. For nine months, the increase was 13% to $244.6 million. Electric was the best performing segment, with an increase of 29% to $8.9 million. That’s 8.5% of the quarter’s total revenues.
 
Gross profit rose from $48.5 million to $52.8 million in the quarter, but gross profit margin fell from 51.6% to 49.6%. Selling, general and administrative expense rose by 17.6% to $33.9 million.  As a percentage of revenues, they rose from 30.7% to 32.4%. Volcom states:
 
“The increase in absolute dollars was due primarily to increased payroll and payroll related costs of $1.5 million, incremental expenses of $1.1 million associated with our recently acquired Australian licensee, increased marketing and advertising costs of $1.0 million, and increased commissions expense of $0.6 million associated with an increase in revenues between periods. The net increase in various other expense categories was $0.9 million.”
 
Operating income was down 8.6% to $18 million. Net income fell slightly from $13.3 to $13 million. It would have fallen by another million if Volcom hadn’t had “other income” that was about $1 million higher than in the same quarter last year due to a foreign currency gain.
 
Conclusion
 
I hate calling a section “conclusion,” but I couldn’t come up with anything pithy and witty and wanted you to know the income statement part was over. What I hope you’ve gotten out of this is the importance of the inventory change and number and how it relates directly to a series of strategic issues that Volcom, and the rest of the industry, is managing. I wish I had more detail on their inventory. How they manage the issues around inventory will have a lot to do with how Volcom progresses as a company. That’s always true, but my point is that it’s particularly true in our current operating environment.
 
As I said at the start, Volcom is a youth culture company with its roots in action sports and reaching for fashion as a condition of continued growth. They seem to have arrived at that time in their growth and development (due partly to economic conditions) when their business model may have to evolve a bit. That’s not a criticism. Every company that starts small in this industry hopes that someday they have to deal with the issue.