DECKERS OUTDOOR (DECK) Q1 2011 Earnings Call Transcript

Transcript

Speaker 0

I would like to remind everyone that this conference is being recorded. Before we begin, I would also like to remind everyone of the company's safe harbor policy. Please note that certain statements made on the call regarding our expectations, beliefs, and views about our future financial performances are forward-looking statements within the meaning of the Federal Securities Law. These forward-looking statements are intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. These statements relate to the company's anticipated revenues, expenses, earnings, gross margin, and capital expenditures, and the outlook for the company's markets and the demand for its products. The forward-looking statements made on this call regarding our future financial performance are based on currently available information.

Because our business is subject to a number of risks and uncertainties, some of which may be beyond our control, actual operating results in the future may differ materially from the future financial performance expected at the current time. Deckers Outdoor Corporation has explained some of these risks and uncertainties in its earnings press release and in its SEC filings, including the risk factor section of its annual report on Form 10-K. In its other documents filed with the SEC, listeners are cautioned not to place undue reliance on forward-looking statements, which speak only as of the dates hereof. The company undertakes no obligations to publicly release or update the result of any revisions to forward-looking statements. I would now like to turn the conference over to the President, Chief Executive Officer, and Chair of the Board of Directors, Angel Martinez. Please go ahead, sir.

Speaker 6

Thank you, everyone, for joining us today. With me on the call are Chief Operating Officer, Zohar Ziv, from London, and Chief Financial Officer, Tom George. We're pleased with our start to 2011. We believe that the merchandising and marketing strategies we put into place over the last few years have continued to drive growth in our domestic wholesale, consumer direct, and international distribution channels. In addition, the direct wholesale business in the United Kingdom, Benelux, and France aided our results. In the first quarter, we witnessed a strong response to our spring collections and believe that many of our new product introductions have resonated with consumers worldwide. Over the past several years, the UGG brand spring line has evolved considerably to include a diverse selection of fashion sandals, sneakers, slippers, knits, and boots.

It has performed very well over the last few years, resulting in more shelf space with the majority of accounts this season. This includes more than 250 shop-in-shops in key independents, in addition to the many customized displays created for the UGG brand by our department store partners. Shelter has been consistently strong across the board, and we expect that demand for our sandals and sneakers will accelerate as the weather continues to warm. The results in our retail stores have also been very encouraging. We've added nine stores since a year ago, including several in warmer locations such as Miami, Los Angeles, and Las Vegas. This helped drive sales early in the quarter when much of the country was covered with snow and provided us with good initial reads on many of our spring styles. Internationally, much of the wholesale business to date has been driven by core collections.

We believe an opportunity exists for our expanded product line. We still plan to open approximately 15 new stores in 2011, the majority of which will be open during the back half of the year and will be outside the U.S., primarily in Asia. Our international business had its best first quarter ever, due largely to the contribution of our newly converted wholesale business in the UK and Benelux. The transition to selling directly to retailers has gone well for the most part, and the benefits from this move are expected to be even more pronounced later in the year. Based on the fall pre-book, accounts in the UK will be carrying much broader merchandise assortments than last year, highlighted by more fashion boots, casuals, including sneakers, as well as several styles from our cold weather collection. I'd also like to provide an update on our operations in Japan.

Before I do, let me say how saddened the entire Deckers family is by the tragic events caused by the earthquake and tsunami on March 11. I'm happy to report that all of our associates and their families are safe and sound. As you know, we recovered our distribution rights in Japan in 2009, and since that time, we've been strengthening our management team, selectively adding wholesale distribution and preparing to open a handful of retail stores. Japan, which was not a significant portion of sales in 2010, is predominantly a fall-winter business. At this point, we haven't received any significant order cancellations. Our Tokyo stores remained open, and we're seeing traffic levels return to normal. We did push the grand opening of our second store, also in Tokyo, to June. However, we had a soft opening in April and we're pleased with the results so far.

That store, by the way, is in the Ginza district. I'm very proud to announce that the UGG brand received the Footwear Brand of the Year award from the American Apparel and Footwear Association at the 33rd Annual American Image Awards held in New York City last night. This prestigious award is attributed to a great team effort company-wide. After a very strong 2010, Teva's gotten off to a good start this year, driven by the performance of several new product introductions. As you know, we've been working on transforming Teva into a more complete outdoor brand by leveraging its leadership position in sports sandals to capture a greater share of the much larger closed-toe market.

This collaborative effort between our product, our marketing, and our sales teams has resulted in shelf space gains throughout our current distribution and has also led to new distribution, including some resellers who walked away from the brand a few years ago. We've also attracted a younger, more active consumer as well, also reducing the brand's dependence on weather. The first quarter certainly had a share of less than ideal conditions in many parts of the U.S., and this continues. Despite this, we experienced solid sell-through thanks to the emergence of our expanded collection of Light Hikers featuring eVent waterproof technology and closed-toe, water-friendly, multi-sports shoes.

Speaker 0

Please stand by. Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Deckers Outdoor Corporation first quarter fiscal 2011 earnings conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for your questions. If anyone has any difficulties hearing the conference, please press star, then zero for operator assistance at any time. I would like to remind everyone that this conference is being recorded. Before we begin, I would also like to remind everyone of the company's safe harbor policy. Please note that certain statements made on the call regarding our expectations, beliefs, and views about our future financial performances are forward-looking statements within the meaning of the Federal Securities Law.

These forward-looking statements are intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. These statements relate to the company's anticipated revenues, expenses, earnings, gross margin, and capital expenditures, and the outlook for the company's markets and the demand for its products. The forward-looking statements made on this call regarding our future financial performance are based on currently available information. Because our business is subject to a number of risks and uncertainties, some of which may be beyond our control, actual operating results in the future may differ materially from the future financial performance expected at the current time. Deckers has explained some of these risks and uncertainties in its earnings press release and in its SEC filings, including the risk factor section of its annual report on Form 10-K and in its other documents filed with the SEC.

Listeners are cautioned not to place undue reliance on forward-looking statements, which speak only as of the dates hereof. The company undertakes no obligations to publicly release or update the result of any revisions to forward-looking statements. I would now like to turn the conference over to the President, Chief Executive Officer, and Chair of the Board of Directors, Angel Martinez. Please go ahead, sir.

Speaker 6

It has performed very well over the last few years, resulting in more shelf space with the majority of accounts this season. This includes more than 250 shop-in-shops in key independents, in addition to the many customized displays created for the UGG brand by our department store partners. Sell-through has been consistently strong across the board, and we expect that demand for our sandals and sneakers will accelerate as the weather continues to warm. The results in our retail stores have also demonstrated momentum. The performance of these products underscores our belief in the year-round potential of the Teva brand and provides us with a powerful message when promoting our fall collection. More recently, the momentum in our sandal business has picked up, and we expect demand for both traditional styles and new offerings to increase as we get into the category's prime selling season.

In Europe, we see a lot of product opportunities similar to the U.S. Now, in its second year of operation, our Benelux wholesale business continues to perform very well, and we're making inroads in France. In the UK, the Teva brand is less developed, and the market is more competitive. We're pleased with the initial results from our conversion to a wholesale business model. I'll now turn the call over to Zohar Ziv. Zohar?

Speaker 4

Thanks, Angel. As you know, on January 1, we converted to a wholesale business model for the UGG, Teva, and Simple brands in the UK and regained our distribution of the UGG and Simple brands in Benelux. The combined total of these businesses was approximately $7 million on a distributor basis last year and consisted of more than 750 accounts. These are our two largest markets behind the US, which give you a sense of the size and complexity of the task our new team in Europe has been tackling the past several months. I joined them in January to help oversee the transition and lead the search for the right person to run this business over the long term. With any new venture, there is a learning curve and kinks that need to be ironed out.

We experienced some delivery delays and softness in our four retail stores in the UK. The good news is we expect those shipments to go out in the second quarter, so we believe we will see the sales catch up then. We believe our retail performance was related to some operational issues that have now been resolved, combined with general weakness in the UK retail market due to recent austerity measures and a 14% increase in VAT, which appears to be impacting consumer spending habits. We are quite pleased with how things progressed during the first 90 days, and we remain optimistic about our future prospects in the UK, Benelux, and throughout the continent. This optimism was reinforced with the recent appointment of Steven Murray as President of Europe, Middle East, and Africa.

Steve is a seasoned footwear executive and brings more than 20 years of brand-building experience to our company. I'm confident that he is the right person to oversee our growth in these regions during this critical stage of our international expansion. I'll turn the call now over to Tom. Tom?

Speaker 7

Speaker 6

Been very encouraging. We've added nine stores since a year ago, including several in warmer locations such as Miami, Los Angeles, and Las Vegas. This helped drive sales early in the quarter when much of the country was covered with snow and provided us with good initial reads on many of our spring styles. Internationally, much of the wholesale business to date has been driven by core collections. We believe an opportunity exists for our expanded product line. We still plan to open approximately 15 new stores in 2011, the majority of which will be open during the back half of the year and will be outside the U.S., primarily in Asia. Our international business had its best first quarter ever, due largely to the contribution of our newly converted wholesale business in the UK and Benelux.

The transition to selling directly to retailers has gone well for the most part, and the benefits from this move are expected to be even more pronounced later in the year. Based on the fall pre-book, accounts in the UK will be carrying much broader merchandise assortments than last year, highlighted by more fashion boots, casuals, including sneakers, as well as several styles from our cold weather collection. I'd also like to provide an update on our operations in Japan. Before I do, let me say how saddened the entire Deckers family is by the tragic events caused by the earthquake and tsunami on March 11. I'm happy to report that all of our associates and their families are safe and sound.

As you know, we recovered our distribution rights in Japan in 2009, and since that time, we've been strengthening our management team, selectively adding wholesale distribution and preparing to open a handful of retail stores. Japan, which was not a significant portion of sales in 2010, is predominantly a fall-winter business. At this point, we haven't received any significant order cancellation. Our Tokyo stores remained open, and we're seeing traffic levels return to normal. We did push the grand opening of our second store, also in Tokyo, to June. However, we had a soft opening in April, and we're pleased with the results so far. That store, by the way, is in the Ginza district.

I'm very proud to announce that the UGG brand received the Footwear Brand of the Year award from the American Apparel and Footwear Association at the 33rd Annual American Image Awards held in New York City last night. This prestigious award is attributed to a great team effort company-wide. After a very strong 2010, Teva's gotten off to a good start this year, driven by the performance of several new product introductions. As you know, we've been working on transforming Teva into a more complete outdoor brand by leveraging its leadership position in sports sandals to capture a greater share of the much larger closed-toe market. This collaborative effort between our product, our marketing, and our sales teams has resulted in shelf space gains throughout our current distribution and has also led to new distribution, including some resellers who walked away from the brand a few years ago.

We've also attracted a younger, more active consumer as well, also reducing the brand's dependence on weather. The first quarter certainly had a share of less than ideal conditions in many parts of the U.S., and this continues. Despite this, we experienced solid sell-through thanks to the emergence of our expanded collection of Light Hikers featuring event waterproof technology and closed-toe, water-friendly, multi-sports shoes.

Speaker 1

In the first quarter compared to $43.2 million in the same period of 2010. Combined net sales of the company's other brands were $6 million in the first quarter of 2011 compared to $8.4 million a year ago. Included in these numbers were global retail store sales of $35.4 million, up 52.8% from $23.1 million in the first quarter of 2010, driven primarily by nine new stores. In addition, our same-store sales increased 2.6% for those stores that were open for the full three months ended March 31, 2010, and 2011. With regard to our same-store sales, as a reminder, we were up against a tough comparison from a year ago when same-store sales increased 28.2%. In addition, as Zohar Ziv just mentioned, we did experience softness in our UK retail stores due to some operational issues.

Excluding the four UK stores that are in our comp base, same-store sales in the first quarter rose 14.3%. Sales for our global e-commerce business, which are included in the brand sales numbers as well, increased 27.3% to $23.5 million in the first quarter from $18.4 million in the prior year. Also included in the brand's sales numbers, domestic sales for all brands increased 26.6% to $148.1 million compared to $117 million in the first quarter last year, and international sales increased 45.8% to $56.7 million compared to $38.9 million in Q1 2010. International sales were 27.7% of total sales for the first quarter, up from 25% in the same period last year. Gross margin for the first quarter was 50%, flat with the year-ago period.

Gross margin was approximately 100 basis points below our guidance due to lower than expected international margins driven by mix, lower margins for the smaller brands, and certain UGG and Teva brand deliveries in the UK that shifted into the second quarter. While the sales were made up during the first quarter by stronger than expected domestic growth, the margins in our U.S. wholesale business are lower than international wholesale margins. Total SG&A expense for the quarter was $74.3 million or 36.3% of net sales compared to $49.1 million or 31.5% of net sales a year ago. SG&A increased primarily due to transition cost and operating expenses related to our transition to a wholesale business model in the UK and Benelux and the additional marketing and legal investments we outlined in our year-end call.

There were also the nine new retail stores that were not open during the first quarter last year and additional increases in variable expenses for the increased sales. Operating income for the quarter was $28.2 million or 13.8% of sales, compared to operating income of $28.8 million or 18.5% of sales last year. Our effective income tax rate was 30%, down from 37.2% in the first quarter of 2010, primarily due to a higher mix of our international business forecast for 2011. Men and women, the performance of these products underscores our belief in the year-round potential of the Teva brand and provides us with a powerful message when promoting our fall collection. More recently, the momentum in our sandal business has picked up, and we expect demand for both traditional styles and new offerings to increase as we get into the category's prime selling season.

In Europe, we see a lot of product opportunities similar to the U.S. Now, in its second year of operation, our Benelux wholesale business continues to perform very well, and we're making inroads in France. In the UK, the Teva brand is less developed, and the market is more competitive. We're pleased with the initial results from our conversion to a direct wholesale model. I'll now turn the call over to Zohar Ziv. Zohar?

Speaker 4

Speaker 7

Thank you, Zohar. I'll go over the financial results for the quarter. In the first quarter of 2011, net sales increased 31.4% to $204.9 million versus $155.9 million in the first quarter last year. Net sales of UGG brand products increased 42.2% to $148.4 million versus $104.4 million in the first quarter last year. Net sales of Teva brand products increased 16.8% to $50.4 million. Net income for the first quarter of 2011 was $19.2 million compared to net income of $17.9 million in the first quarter of 2010, and diluted earnings per share was $0.49 versus diluted earnings per share of $0.46 in the first quarter last year. Please note that all share and per share amounts discussed in this call, including amounts for prior periods, take into account the 3-for-1 stock split in the form of a stock dividend that was distributed in July 2010.

Turning to the balance sheet, at March 31, 2011, our overall inventories increased 55.6% to $107.1 million versus $68.8 million a year ago. By division, UGG inventory rose 55% to $68.9 million. Teva inventory increased 63.9% to $30.7 million, and our other brands' inventory increased by $1.9 million to $7.5 million at March 31, 2011. The increase in UGG and Teva inventories was primarily attributable to a larger spring 2011 assortment for the UGG brand, a growth in spring orders for both brands, the warehousing of spring 2011 inventory supporting the new wholesale European business that was previously fulfilled by international distributors, and nine additional retail stores compared to a year ago. In addition, at March 31, 2011, we had cash and cash equivalents totaling $437.9 million, up 22.5% compared to $357.3 million at March 31, 2010.

Accounts receivable at March 31, 2011, were $78.2 million compared to $54.6 million at March 31, 2010. The increase was attributable to increased sales, lower reserves for bad debt, and lower reserves for discounts. During the quarter, we did not repurchase any shares under the current share repurchase program. We have approximately $20 million remaining authorized under the program. Now, moving on to our outlook. Based on better-than-expected first quarter results for the UGG brand, partially offset by the reduced outlook for our developing brands, we are raising our 2011 guidance. We now expect 2011 revenues to increase approximately 21% over 2010 levels, up from the previous guidance of approximately 20% growth. For the full year, we now expect UGG brand sales to increase by approximately 21%, up from our previous expectation of 19%. We still expect Teva sales to increase in the low 20% range.

Combined sales of our other brands are now expected to increase approximately 5%, down from our previous expectation for an increase in the low 20% range. The lower outlook is primarily attributable to lower European and e-commerce expectations for the Simple brand, combined with supply chain constraints for Subo and Anu. We currently expect diluted EPS to increase approximately 13% over 2010, up from our previous guidance of approximately 10% growth. Our forecast is based on a full-year gross margin of approximately 51% and SG&A as a percentage of sales of approximately 29%. In the first quarter, compared to $43.2 million in the same period of 2010, combined net sales of the company's other brands were $6 million in the first quarter of 2011 compared to $8.4 million a year ago.

Included in these numbers were global retail store sales of $35.4 million, up 52.8% from $23.1 million in the first quarter of 2010, driven primarily by nine new stores. In addition, our same-store sales increased 2.6% for those stores that were open for the full three months ended March 31, 2010, and 2011. With regard to our same-store sales, as a reminder, we were up against a tough comparison from a year ago when same-store sales increased 28.2%. In addition, as Zohar Ziv just mentioned, we did experience softness in our UK retail stores due to some operational issues. Excluding the four UK stores that are in our comp base, same-store sales in the first quarter rose 14.3%. Sales for our global e-commerce business, which are included in the brand sales numbers as well, increased 27.3% to $23.5 million in the first quarter from $18.4 million in the prior year.

Also included in the brand sales numbers, domestic sales for all brands increased 26.6% to $148.1 million compared to $117 million in the first quarter last year, and international sales increased 45.8% to $56.7 million compared to $38.9 million in Q1 2010. International sales were 27.7% of total sales for the first quarter, up from 25% in the same period last year. Gross margin for the first quarter was 50%, flat with the year-ago period. Gross margin was approximately 100 basis points below our guidance due to lower than expected international margins driven by mix, lower margins for the smaller brands, and certain UGG and Teva brand deliveries in the UK that shifted into the second quarter. While the sales were made up during the first quarter by stronger than expected domestic growth, the margins in our U.S. wholesale business are lower than international wholesale margins.

Total SG&A expense for the quarter was $74.3 million or 36.3% of net sales compared to $49.1 million or 31.5% of net sales a year ago. SG&A increased primarily due to transition cost and operating expenses related to our transition to a wholesale business model in the UK and Benelux and the additional marketing and legal investments we outlined in our year-end call. There were also the nine new retail stores that were not open during the first quarter last year and additional increases in variable expenses for the increased sales. Operating income for the quarter was $28.2 million or 13.8% of sales compared to operating income of $28.8 million or 18.5% of sales last year. Our effective income tax rate was 30%, down from 37.2% in the first quarter of 2010, primarily due to a higher mix of our international business forecasted for 2011.

The tax rate is expected to decline to approximately 32% in 2011, driven by the increased mix of international profits. As a reminder, our SG&A projection includes certain initial charges related to our transition to a wholesale business model in the UK, Benelux, and France, as well as additional investments in several key areas of the business that we feel are important to the long-term development and growth of the company. These include approximately $8 million of initial costs related to our transition to a wholesale business in the UK, Benelux, and France, approximately $11 million of additional marketing and advertising spend to support the UGG brand's men's and women's prospect initiatives, and a $10 million increase in our legal expenses to further fund the protection of our intellectual property and trademarks. The aforementioned investments total approximately $0.50 per diluted share.

For the second quarter of 2011, the shift to the third and fourth quarter of the distributor equivalent of $50 million of business or approximately $0.25 per share has a significant impact on this year's Q2 results. Therefore, we currently expect revenues to increase approximately 4% compared to the second quarter of 2010, and we expect to report a diluted loss per share for the second quarter of 2011 of approximately $0.25. In addition to the impact from the aforementioned revenue shift, we are absorbing the fixed overhead for our new UK, Benelux, and France direct subsidiaries during the weakest quarter for wholesale. In addition, the second quarter of 2011 includes additional fixed overhead from new retail stores that were not open during the second quarter of 2010 and other general administrative costs.

Also, the second quarter guidance includes roughly $4 million related to our European transition to a direct wholesale model, approximately $1.5 million of increased legal spend to defend our intellectual property, and about $2 million of increased marketing spend. These investments total approximately $0.13 per diluted share. Without the impact of the revenue shift and these investments, we would be guiding for earnings in the second quarter of 2011 closer to the Q2 2010 earnings. I'll now turn the call back over to Angel.

Speaker 6

Thank you, Tom. We're pleased with our recent performance, and we continue to be optimistic about our growth opportunities during the remainder of the year. Based on current sell-through trends and the result of our fall pre-book, we expect our global momentum to continue. While we project product costs to be up approximately 10% over 2010, with the majority of the increase coming during the back half of the year, we have several things currently working in our favor. We were able to raise some prices thanks to the strength of the UGG and Teva brands. We increased prices between 5% and 10% on several UGG styles for fall, and we'll be doing the same with Teva for spring 2012. Furthermore, a conversion to wholesale business in the UK and Benelux is positively impacting margins, as is the continued growth of our consumer direct business.

We're also working closely with our manufacturers and suppliers to find other ways to help offset the continued rise in commodity prices, namely sheepskin. Net income for the first quarter of 2011 was $19.2 million compared to net income of $17.9 million in the first quarter of 2010, and diluted EPS was $0.49 versus diluted EPS of $0.46 in the first quarter of last year. Please note that all share and per share amounts discussed in this call, including the amounts for prior periods, take into account the 3-for-1 stock split in the form of a stock dividend that was distributed in July 2010. Turning to the balance sheet, at March 31, 2011, our overall inventories increased 55.6% to $107.1 million versus $68.8 million a year ago.

By division, UGG inventory rose 55% to $68.9 million, Teva inventory increased 63.9% to $30.7 million, and our other brands' inventory increased by $1.9 million to $7.5 million at March 31, 2011. The increase in UGG and Teva inventories was primarily attributable to a larger spring 2011 assortment for the UGG brand, the growth in spring orders for both brands, the warehousing of spring 2011 inventory supporting the new wholesale European business that was previously fulfilled by international distributors, and nine additional retail stores compared to a year ago. In addition, at March 31, 2011, we had cash and cash equivalents totaling $437.9 million, up 22.5% compared to $357.3 million at March 31, 2010. Accounts receivable at March 31, 2011, were $78.2 million compared to $54.6 million at March 31, 2010. The increase was attributable to increased sales, lower reserves for bad debt, and lower reserves for discounts.

During the quarter, we did not repurchase any shares under the current share repurchase program. We have approximately $20 million remaining authorized under the program. Now, moving on to our outlook. Based on better-than-expected first quarter results for the UGG brand, partially offset by the reduced outlook for our developing brands, we are raising our 2011 guidance. We now expect 2011 revenues to increase approximately 21% over 2010 levels, up from the previous guidance of approximately 20% growth. For the full year, we now expect UGG brand sales to increase by approximately 21%, up from our previous expectation of 19%. We still expect Teva sales to increase in the low 20% range. Combined sales of our other brands are now expected to increase approximately 5%, down from our previous expectation for an increase in the low 20% range.

The lower outlook is primarily attributable to lower European and e-commerce expectations for the Simple brand, combined with supply chain constraints for Subo and Anu. We currently expect diluted EPS to increase approximately 13% over 2010, up from our previous guidance of approximately 10% growth. Our forecast is based on a full-year gross margin of approximately 51% and SG&A as a percentage of sales of approximately 29%. Compared to 2020, this includes exploring new footwear materials and new production technologies, as well as production capabilities outside of China. In addition, we continue to focus on our long-term operating margins and, over time, believe we can realize additional cost savings in our supply chain, including freight and warehousing, and further diversification of our product line to lessen our dependence on prime twin face sheepskin.

In the fourth quarter of 2010, 17 of the top 30 best-selling women's styles and 24 of the top 30 men's styles contained no or little sheepskin. To close, I would just say that we're very pleased with our first quarter performance. Our business is much bigger than it was a few years ago and is more complex than it was just a few months ago. I'm very proud of how our entire team has executed. We're all set and very well set up for a very good 2011, especially in the back half when the majority of our sales and profits are generated. Operator, we're now ready to take questions.

Speaker 0

Thank you. Ladies and gentlemen, at this time, if you would like to ask a question, please press star one on your telephone. If you're joining us using a speaker phone, we ask that you please release the mute function to allow your signal to reach our equipment. Once again, star one, please. We'll go first to Jeff Kleinsalter with Jefferies.

Speaker 2

Yes, thank you. Just a couple of questions. One on the domestic side. Angel, if you could talk a little bit more about that or give more specifics on the growth of the UGG brand. What did it grow in the wholesale channel domestically, you know, versus the retail contribution? If I missed that earlier, I apologize, but just curious on that trend. Also, any color on the sales balance, new styles, what they represented versus kind of existing, just to get a sense of category expansion. Just one international question for you, and that's, I think you mentioned that basics were selling in pretty well, and you will work toward more of a broad-based assortment being received by international accounts. If you could just clarify that a little bit more. Thank you.

Speaker 6

Let me start with the last question. Internationally, especially in the UK, the business was driven by classic. When we say basic, I mean it really is, yeah, it has been classic business. If you put yourself in the distributor's position, introducing new styles outside of that classic look of the brand was a risk to them, and they knew they were transitioning out. We really have become very aggressive in developing the brand, certainly the spring collection especially, around the new styles that have been performing well here. You'll see that on an ongoing basis be a bigger and bigger part of the mix in the UK. Certainly, the sell-throughs are, despite the economy in the UK, we're pretty satisfied with what we're doing there.

We're going to be transitioning to a broader basis, much like we did here, which includes the knits and the sneakers and the sandals on the UGG brand. The other question on the.

Speaker 1

Jeff, on the domestic wholesale business for UGG, we had a solid quarter from that perspective, and the domestic wholesale business for UGG was up 16% for the quarter relative to the prior year.

Speaker 6

In terms of the sales blend, Jeff, as a basic.

Speaker 1

Our effective tax rate is expected to decline to approximately 32% in 2011, driven by the increased mix of international profits. As a reminder, our SG&A projection includes certain initial charges related to our transition to a wholesale business model in the UK, Benelux, and France, as well as additional investments in several key areas of the business that we feel are important to the long-term development and growth of the company. These include approximately $8 million of initial costs related to our transition to a wholesale business in the UK, Benelux, and France, approximately $11 million of additional marketing and advertising spend to support the UGG brand's men's and women's prospect initiatives, and a $10 million increase in our legal expenses to further fund the protection of our intellectual property and trademarks. The aforementioned investments total approximately $0.50 per diluted share.

For the second quarter of 2011, the shift to the third and fourth quarter of the distributor equivalent of $50 million of business or approximately $0.25 per share has a significant impact on this year's Q2 results. Therefore, we currently expect revenues to increase approximately 4% compared to the second quarter of 2010, and we expect to report a diluted loss per share for the second quarter of 2011 of approximately $0.25. In addition to the impact from the aforementioned revenue shift, we are absorbing the fixed overhead for our new UK, Benelux, and France direct subsidiaries during the weakest quarter for wholesale. The second quarter of 2011 includes additional fixed overhead from new retail stores that were not open during the second quarter of 2010 and other general administrative costs.

Also, the second quarter guidance includes roughly $4 million related to our European transition to a wholesale business model, approximately $1.5 million of increased legal spend to defend our intellectual property, and about $2 million of increased marketing spend. These investments total approximately $0.13 per diluted share. Without the impact of the revenue shift and these investments, we would be guiding for earnings in the second quarter of 2011 closer to the Q2 2010 earnings. I'll now turn the call back over to Angel.

Speaker 6

Speaker 7

In the second quarter, there'll be, yeah, roughly, yeah, the balance will be in the second quarter. Really, it was more planned in the first quarter, but there's some of that that shift in, you know, the delayed shipments that moved more to the second quarter. You're right, better half is in the second quarter.

Speaker 4

What is your, I'm sorry, how are you looking at the gross margin in Q2 and the SG&A in Q2 here? I'm having trouble just even getting near the negative $0.25. If you could help.

Speaker 7

Speaker 4

Why aren't you seeing more benefit there? Just out of curiosity.

Speaker 7

Speaker 1

Way of getting it all working together.

Speaker 6

If you can appreciate this, I mean, effective January 1, we flipped the switch on our UK business and absorbed over 100 people, absorbed a fairly complex chunk of business. You know, it correlated to, in a business that's growing like this, changing the tire on a car that's still moving. It has been a test of our operational capabilities. I think our team's done a wonderful job. We've assimilated the new teams. Zohar's been over there since the first of the year. What our intention is to really hand over to Steve an organization that is prime for growth. The core team that's been in the UK for the last few years has done a fantastic job, but the business is expanding and growing in complexity, the e-commerce component of it, the retail component of it, the multi-channel distribution component of it.

All of these things have been a real test of how well we operate, and I think we're passing the test quite well. I think you'll see results sort of line up supporting that over the next few quarters.

Speaker 1

Okay. If you could isolate just a few of the operational things that caused missteps during the quarter, it would be helpful if you could highlight for us what some of those were.

Speaker 7

I don't really want to get too specific. I mean, we

Speaker 0

Speaker 2

Okay.

Speaker 7

There's actually, you know, higher revenues now that we're on a wholesale business in the third and fourth quarter.

Speaker 2

Speaker 7

Right. That better expected reorders is not really in that thought process. Normalized reorders, but not better than expected reorders. Okay.

Exactly.

Just on the transition, just so I have this correct, Tom, when you talked about, you know, $50 million is the distributor equivalent at a wholesale level, and then you throw out a $75 million number. I'm just curious, between the two of them, I thought it was initially $50 million. Does that $75 million include some growth in the back half as you broaden the assortments or UGG or build out the type of business, et cetera? I'm just, what's understanding the two numbers?

Yeah, the $50 million is where you take a wholesale number of approximately $70 to $75 million and adjust that to what it would have been at a distributor level.

Okay. Okay.

By definition, there is some growth, you know, organic growth as well if you were to look back at last year's second quarter.

Okay, the $75 takes into consideration some of that growth, correct?

Yes, it does.

Okay. All right.

It's growth as well as a change in the model.

Right. Right. It's both. No, I got you. Okay. All right. Thank you very much, and best of luck.

Effective January 1, we flipped the switch on our UK business and absorbed over 100 people, absorbed a fairly complex chunk of business. You know, it correlated to, in a business that's growing like this, changing the tire on a car that's still moving. It has been a test of our operational capabilities. I think our team's done a wonderful job. We've assimilated the new teams. Zohar's been over there since the first of the year. Our intention is to really hand over to Steve an organization that is prime for growth. The core team that's been in the UK for the last few years has done a fantastic job, but the business is expanding and growing in complexity, the e-commerce component of it, the retail component of it, the multi-channel distribution component of it.

All of these things have been a real test of how well we operate, and I think we're passing this test quite well. I think you'll see results sort of line up supporting that over the next few quarters.

Speaker 6

Okay. If you could isolate just a few of the operational things that caused missteps during the quarter, it would be helpful if you could highlight for us what some of those were.

Speaker 7

I don't really want to get too specific. I mean, we did make some management changes on the retail side, and that obviously creates a loss of momentum, if you will. I mean, when you have to change some management out, this is, as much as anything, a learning curve for a new team. It has been an aggressive learning curve as well. As you can imagine, things aren't always going to operate as effectively and as smoothly when you're combining a new team on top of a new business, on top of a growth market. Those are the things that we sort of managed through this. There are lots of little things. It's hard for me to point to any one real big thing. There really aren't any one real big thing. These are, as much as anything, I would almost call them growing pains.

Obviously, we've made some investments in Japan. I still consider that a new market. I think we're just getting our act together there, building a great team. We have a great presence. The new Ginza store is absolutely beautiful. It's as beautiful as our Madison Avenue store. That market loves UGG. We anticipate that business to continue to develop very nicely. Just looking at China, that continues to be an important market and an important growth market for the brand, for UGG, for Teva as well. The retail base that we have there is performing quite well, and we're building a solid team. That's key. Korea is a very important market. We really are focusing on the Korean market as a place the brand can grow significantly. There's a lot of demand for UGG in Korea.

About the distribution in Europe.

Speaker 7

Speaker 7

No, we didn't buy them out. We let those contracts.

Right. That better expected reorders is not really in that thought process. Normalized reorders, but not better than expected reorders. Okay.

Exactly.

Just on the transition, just so I have this correct, Tom, when you talked about $50 million is the distributor equivalent at a wholesale level, and then you throw out a $75 million number. I'm just curious between the two of them. I thought it was initially $50 million. Does that $75 million include some growth in the back half as you broaden assortments or UGG or build out the type of business, et cetera? I'm just, what's understanding the two numbers?

The $50 million is where you take a wholesale number of approximately $70 to $75 million and adjust back to what it would have been at a distributor level.

Okay. Okay.

By definition, there is some growth, you know, organic growth as well when you were to, you know, look back at last year's second quarter.

Okay, the $75 takes into consideration some of that growth, correct?

Yes, it does.

Okay, all right.

It's growth as well as a change in the model.

Right. It's both. No, I got you. Okay. All right. Thank you very much, and best of luck.

I think we, in that particular case, drank a little bit too much of the green Kool-Aid perhaps, and the product stopped being attractive and comfortable and started being mostly green as a priority. We're off that. The product looks a lot better, and retailers will vote with their wallets. That's what I'm expecting. We'll see what kind of vote we get. We feel pretty good about what we're looking at. Sales meetings are coming up now in May. They'll be out selling the season immediately after that, and time will tell. As far as acquisition goes, clearly, there's opportunity in the marketplace. We continue to look for the right brand that'll fit into our total brand portfolio. We've seen some pretty good things over the last couple of years that we've been pretty aggressively looking. It seems like maybe longer than that, but we have been.

We will zero in on the right acquisition. I'm feeling pretty confident about that. We're going to be selective, I guess. It's important to be picky right now. It's important to get something that really has great lifestyle potential globally. When we find that, we'll be very aggressive in getting that done.

Speaker 5

Okay, thanks a lot.

Speaker 7

Thank you.

Speaker 4

Moving on to RBC Capital Markets, Howard Tubins.

Speaker 3

Oh, thanks, guys. Maybe just a question on inventory. Where do you think it'll be, Tom, at the end of the second quarter in terms of increase versus last year?

Speaker 7

The young consumer in China wants to discover their country, no different than people did here when they got a car and realized they could drive to the Grand Canyon. We're going to see that as an evolving outdoor market, and the Teva brand, I think, will be well positioned to take advantage of that. What was the other part of the question?

Speaker 5

About the distribution in Europe.

Speaker 7

Oh, distribution in Europe. One of the things that we've really done here is that we've been very disciplined about the UGG brand, especially. We really wanted retail partners, people who would focus the brand and bring it to life the way that we envision it. We're just implementing that same strategy in Europe. In that mix, as happened here a few years ago, you unfortunately have to, what I call, unsell people. You have to stop doing business with certain customers because they're either unwilling or unable to continue to have the same brand vision you have. We're doing that. The good news is that it's not a significant number of customers. Most people are willing to accept the brand vision we have and move toward it with us and become a full partner. I'm pretty excited about the direction that's going in.

You'll see it as time goes on in shop and shops, and the spread and assortment of product in every country in Europe will expand significantly as it did here.

Speaker 4

All right, thank you very much.

Speaker 7

Thank you.

Speaker 5

Thank you.

Speaker 4

Next, we'll hear from Tiburon Research. Rob Wilson.

Speaker 5

Yes, thank you. Did the recent decision from the European Union or the European Commission to lower their duties on Chinese footwear, does that change your margin expectations in the UK or total company this year?

Speaker 1

No, this is over. It doesn't impact us significantly because the bulk of our products were really exempt from the duty that was until March of this year. It's not impacting us.

Speaker 5

Why were your products exempt?

Speaker 7

Speaker 4

Ladies and gentlemen, that does conclude today's conference.

Deckers Outdoor - Earnings Call - Q1 2011

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