Skechers U.S.A. - Earnings Call - Q2 2011
July 27, 2011
Transcript
Speaker 5
Ladies and gentlemen, thank you for standing by. Welcome to the Skechers U.S.A., Inc. second quarter 2011 earnings conference call. During today's presentation, all participants will be in a listen-only mode. Following the presentation, the conference will be open for questions. If you have a question, please press the star followed by the one on your touch-tone phone. For operator assistance at any time, press star zero. Today's conference is being recorded, July 27, 2011. I would now like to turn the conference over to Skechers. Please go ahead.
Speaker 2
Thank you, everyone, for joining us on Skechers' conference call today. I will now read the safe harbor statement. Certain statements contained herein, including without limitation, statements addressing the beliefs, plans, objectives, estimates, or expectations of the company, or future results or events, may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements involve known and unknown risks, including but not limited to global, national, and local economic, business, and market conditions in general and specifically as they apply to the retail industry and the company. There can be no assurance that the actual future results, performance, or achievements expressed or implied by such forward-looking statements will occur. Users of forward-looking statements are encouraged to review the company's filings with the U.S.
Securities and Exchange Commission, including the most recent annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all other reports filed with the SEC as required by federal securities laws for a description of other significant risk factors that may affect the company's business, results of operations, and financial conditions. With that, I would like to turn the call over to Skechers' Chief Operating Officer and Chief Financial Officer, David Weinberg. David?
Speaker 1
Thank you for joining us today to review Skechers U.S.A.'s second quarter 2011 results. As always, we will open the call to questions following our prepared comments. Net sales were $434.4 million for the second quarter, and operating loss was $48.4 million. Net loss for the second quarter was $29.9 million, and diluted loss per share was $0.62. For the six months, net sales were $910.6 million, and operating loss was $33.6 million. Net loss for the six months was $18.1 million, and diluted loss per share was $0.38. Our second quarter 2011 sales decreased by 14% over the same period last year due to the difficult comparison against a record second quarter 2010, which primarily benefited from strong toning sales at high ASPs.
During the second quarter, we also aggressively reduced our excess toning inventory by selling 2 million pairs of our original Shape-ups for a loss of $21 million. We recorded an additional $4.4 million reserve for our remaining toning product. The impact of these two transactions was a loss of $0.31 per diluted share and a reduction in margins from what would have been 41.5% to 33% for the quarter. We believe the clearing of this excess original toning inventory will better position us for the future as we deliver new product over the coming quarters. In an effort to better serve our accounts in the second quarter, we reorganized our domestic sales force and created a Skechers fitness team and a team to handle our lifestyle and core product.
Second quarter highlights include high double-digit sales growth in our international wholesale business, which is the result of double-digit improvements in both our international subsidiary and international distributor businesses, double-digit sales growth in our international Skechers retail division, double-digit sales growth in our kids' division, launching of our new lightweight running and walking footwear, and an extremely strong balance sheet with $250.8 million in cash or approximately $5.19 per share. Overall, we believe we are well-positioned in terms of product design, marketing, and distribution as we continue to introduce new footwear. A year ago in the second quarter, domestic wholesale business was exceptionally strong due to higher ASPs as well as a growing surge in the toning market. This tough comparison, as well as the clearing of inventory, resulted in a decrease of 32% in our domestic wholesale business over the same period last year.
Along with clearing our inventory, our focus in the second quarter was on delivering new lifestyle and performance products in the market and building on the strength of our core lines with fresh looks. We experienced double-digit growth in our kids' footwear, growth in several fitness lines, and solid sales in several of our core lines. In the second quarter, we developed several new television campaigns, including two commercials for our new lightweight toning and running product starring Dancing With the Stars host Brooke Burke, as well as a new Kim Kardashian and Kris Jenner commercial. These commercials will support our fall and holiday business. We also have print advertisements with these celebrities in our new product that appeared in targeted magazines, outdoor billboards, and in airport security bins, further leveraging the power of these celebrities.
We are excited about our recent signing of upcoming football star Danny Woodhead, who represents Skechers. As an underdog in his field, we believe the New England Patriots running back is an ideal choice to represent our new performance running and training footwear. We also developed several new kids' lines, including Bella Ballerina, which launched in our retail stores in the second quarter. With solid sales in this line and several of our other existing kids' lines, we believe these shoes will sell well during our back-to-school season. While we are strategically looking at our marketing spend, we continue to believe that marketing is integral to our success as it builds brand recognition and creates consumer demand. We remain committed to both our retail partners and the fitness market.
We believe the restructuring of our sales force to create a Skechers fitness team and a team to handle our lifestyle and core product will better serve our accounts and reflect our evolving product offering. We have received positive feedback from key accounts that were in our offices this month revealing a new product that will launch later this year and early next year. Turning to our international business, we achieved record second quarter and six-month international revenues with sales of more than $105 million for the second quarter and approximately $275 million for the first six months. Our international wholesale business grew year over year by 35% in the second quarter. The growth was the result of significant quarterly improvements in both our international subsidiary and joint venture businesses, which were up 23%, and within our international distributors, which were up 67%.
This growth was attributable to a strong mix of our toning performance, casuals, and kids' footwear in key countries around the world, as well as the strengthening of some economies. Several countries are still facing economic challenges, including parts of Eastern Europe, and while our business is slowing in a few of these markets, we've been able to grow significantly in others. Our subsidiary countries continue to show very positive improvements in sales, marketing, and product mix. As we mentioned on the first quarter conference call, we are particularly pleased with our growth in Italy, which improved again by triple digits for the quarter due to the broad acceptance of our toning and fitness product in that market. Three of our 10 subsidiaries did not show improvements in the quarter. However, two of these grew for the six-month period.
Canada was slightly down for the six-month period, which we believe is in part a result of the slowing of toning sales in North America. Our joint ventures in Asia continue to improve with growth across all our regions: China, Hong Kong, Singapore, and Malaysia. We believe that our recent efforts to build our presence through advertising and expand our retail footprint with 51 retail stores and approximately 400 shopping shops are positively impacting our business. In the quarter, our joint ventures opened three Skechers retail stores: one concept store in Indonesia and two outlet stores in China. A key factor for the growth of our distributor business is the opening of Skechers retail stores in regions where they sell our footwear. These stores serve as marketing vehicles and help to build the brand and brand awareness.
At quarter-end, there were 164 distributor-owned or licensed Skechers retail stores around the world. 19 distributor stores opened in the second quarter, one each in Australia, Estonia, Japan, South Africa, and our first store in Greece. Our distributors in Taiwan and the Philippines each opened two stores, and our distributor in Mexico opened three new stores in the quarter, bringing their total to eight stores in their first year of operation. Our distributor in South Korea opened six stores, bringing their total number of Skechers stores to 36, with another 14 planned by year-end. No distributor-operated stores closed in the quarter. Marketing is also fundamental to the growth of our international subsidiaries, distributors, and joint venture partners, and most of the regions utilize the proven marketing campaigns we have created domestically, translating them into their local languages. Some countries also use local celebrities to create regional campaigns.
Currently, Hong Kong, South Korea, Greece, Croatia, Taiwan, South Africa, Uruguay, and Canada are using the power of local celebrities. We are pleased with our record international sales, which represented 28% of our total business. We believe there are continued opportunities for growth in many markets given the right product, marketing, distribution, and management. We believe that we will continue to see growth in our international businesses through the second half of 2011 based on our strong sales across our subsidiary, joint venture, and distributor businesses. In our company-owned retail business, domestic sales were flat, and our international retail sales increased approximately 42%, for a combined 4% increase for the second quarter. In the second quarter, we had a negative domestic comp store sales of 10.2% and positive international comp store sales of 0.3%. At quarter-end, we had 305 company-owned Skechers retail stores.
In the second quarter, we opened 16 domestic stores, including our first stores in Kentucky and Iowa, and two Skechers fitness stores: one in the Las Vegas Forum Shops and one in San Diego, bringing our total number of Skechers fitness stores to five. We closed two domestic retail stores during the quarter. In the quarter, we also expanded our landmark Manhattan Beach store by 1,000 square feet, creating adjoining Skechers fitness and lifestyle stores that allow consumers to shop a complete Skechers offering for men, women, and kids. This month, we've opened a concept store in Wisconsin, and later this week, we will open our sixth Skechers fitness store, which will be in a Chicago suburb. We plan to open another 15 stores this year, including stores in Chile and England.
Before we move on to our financial review, I'd like to mention our licensing division, an additional revenue and profit channel for the company. Through selectively licensing our name and images, we are extending our brand awareness with new categories. We currently have Skechers-branded kids' apparel, backpacks, socks, scrubs, and eyewear available. We'll also be launching Skechers luggage and watches later this year. We recently signed a licensing deal for men's and women's Skechers fitness apparel and accessories with leading manufacturer Lianfeng, which will come to the market in 2012, and we are working on additional licensing opportunity. Turning to our second quarter 2011 numbers in more detail. As I mentioned earlier, second quarter sales were $434.4 million compared to $504.9 million in the second quarter of 2010, a 14% decrease from the prior year due to the difficult comparison against a record second quarter 2010.
Second quarter gross profit was $143.3 million, or 33% of sales, compared to last year's gross profit of $237.6 million, or 47.1% of sales. The decrease in gross profit during the quarter was due to a combination of the clearing of excess toning inventory and the overall slower sell-throughs at full price compared with the same period a year ago. Second quarter selling expenses were $53.1 million, or 12.2% of sales, compared to $52.4 million, or 10.4% of sales in the prior year. The higher selling expenses for the quarter were primarily the result of continued marketing and advertising expenses that were committed two months ago. We expect to lower marketing expenditures in the back half of the year. For the second quarter, general and administrative expenses were $140 million, or 32.2% of sales, compared to $127.3 million, or 25.2% of sales in the prior year.
The increase in the G&A dollar amount was due to a combination of increased rent from our retail expansion of 43 stores, increased warehouse and distribution costs, and R&D expenses for some of our key new product initiatives. Total operating expenses for the second quarter were $193.1 million, or 44.4% of sales, compared to $179.7 million, or 35.6% of sales in the second quarter of 2010. During the second quarter of 2011, we saw loss from operations of $48.4 million, compared with income from operations of $58.8 million a year ago. Net loss was $29.9 million, compared to net income of $40.2 million last year. Net loss per diluted share in the second quarter of 2011 was $0.62 on approximately 48.3 million average shares outstanding, compared to net income per diluted share of $0.82 on approximately 49.1 million average shares outstanding in the prior year.
We recorded an income tax benefit of $20.8 million during the second quarter of 2011 as compared to income tax expense of $20.4 million during the same period last year. Now turning to our balance sheet, which remains extremely strong. At June 30, 2011, we had $250.8 million in cash, or approximately $5.19 per share, which provides us with sufficient capital for our many growth initiatives as well as our continued infrastructure build-out. Trade accounts receivable at quarter-end were $276 million, and our DSOs at the end of June 30, 2011, were 54 days versus 48 days in the prior year. Total inventory, including merchandise in transit at June 30, 2011, was $325.8 million, representing a decrease of $72.8 million from December 31, 2010. We will continue to aggressively manage our inventory over the coming quarters and expect to see further reductions in the back half of 2011.
Long-term debt at June 30, 2011, was $81.1 million, compared to $14.5 million for the same period last year. The increase in long-term debt primarily relates to the financing, which we completed in the second quarter for our Rancho Belagio facility equipment. Shareholders' equity was $946.9 million versus $945.8 million at December 31, 2010. Book value, or shareholders' equity per share, stood at approximately $19.59 as of June 30, 2011. Working capital was $624.3 million versus $666.1 million in the prior year period. Capital expenditures for the second quarter were approximately $49.5 million, of which $7.5 million consisted of 16 new store openings and several store remodels, $12 million for our new domestic distribution center, and $26 million for our domestic distribution equipment.
In summary, the second quarter was a very difficult comparison in terms of revenues and margins as we were up against a record quarter last year for both measures. Also impacting our margins in the second quarter was the aggressive reduction of our excess toning inventory by selling 2 million pairs of our original Shape-ups for a loss of $21 million. We recorded an additional $4.4 million reserve for our remaining toning product, which we believe reflects net realizable value. We feel this was a big step in reaching our goals for the year, which include right-sizing our inventory, bringing new products to the market, and getting our overhead in line with anticipated 2012 sales. Recently, we have leveraged our experience and learning in the toning category to develop a new footwear in both our core lifestyle lines and our rapidly evolving performance division.
This product was delivered to our own Skechers retail stores in the second quarter. The initial sell-throughs have been strong, and we believe we'll accelerate as the marketing begins for back-to-school. We are now delivering these lines to our wholesale accounts across the country, as well as to our international subsidiaries and distributors, and believe that they will sell well based on early feedback. We're also pleased with the reception of our holiday 2011 and spring 2012 product offerings for men, women, and kids in our pre-line reviews throughout this month. As we manage our expense structure and inventory to be in line with expected 2012 sales, we believe we are on strong financial footing, $250.8 million in cash, and a new 1.8 million square foot distribution facility with increased efficiencies slated to be fully operational in the fourth quarter.
We expect the tough comparisons to continue in the third quarter, given the record quarterly revenues above $550 million last year. We have a healthy backlog in international, and we are planning to open approximately 15 company-owned Skechers stores this year. With the clearing of excess inventory, delivering fresh product this year in accounts across the country and around the world, and managing our expenses, we believe we are well-positioned for the future. I would like to turn the call over to the operator to begin the question and answer portions of the conference call.
Speaker 5
Thank you, sir. Ladies and gentlemen, we will now begin the question and answer session. If you have a question, please press the star followed by the one on your touch-tone phone. If you need to withdraw your question, press the star followed by the two. If you're using speaker equipment today, you'll need to lift your hands up before making your selection. Our first question comes from the line of Scott Krasik with BB&T Capital Markets. Please go ahead.
Speaker 0
Hey, David.
Speaker 1
Hi, Scott.
Speaker 0
A couple of questions. I guess first on the Shape-ups that you did sell, the loss of $21 million, where does that leave you then on the Shape-ups that are left?
Speaker 1
We have less than half of what we started with, but we think we kept ourselves the core product. We've kept some work that sells well and some basic product that we think sells through our retail stores and through some of our international. We've kept a limited number of SKUs. We felt taking the $4.4 million puts us in pretty good shape. I would tell you the inventory is probably in the $40 million or less range right now.
Speaker 0
Because of the nature of the styles, the impact on what you could sell them for is less, that's why it's only $4.4 million?
Speaker 1
Correct. What we did was we took a very strong approach to moving inventory through channels we wouldn't normally. We think they're going to make money on selling the shoes, and the balance we plan on selling through our own channels of distribution at this point in time. There is a big difference. These shoes we think are more basic shoes that we could sell through our own retail division for quite some time.
Speaker 0
Is there a big difference between your quarter-end balance sheet and where you stand today, or it's just down a little bit?
Speaker 1
It has only been three weeks, so it hasn't changed significantly.
Speaker 0
You guys can move a lot of shoes in three weeks.
Speaker 1
Not through our own retail operations. We're getting ready for back-to-school, and we are moving more through there.
Speaker 0
Okay. The nature of wholesale jobbing or discounting, that period of it's done?
Speaker 1
Yes, so far.
Speaker 0
That's good. On the expenses, I know you didn't guide people towards any cost-cutting for this quarter, but as we look out now and you guys have a little better visibility on fall sales, how do you see the operating expenses shaping up?
Speaker 1
No pun intended, I assume. As we stand right now, we're reviewing it, and as I said in my comments, we will be spending somewhat less in marketing. Certainly, in the production end of it, we've already finished our commercials and making the animated portion of our commercials, and our media spend will be down for Q3 as well. As far as the G&A expenses, we've started to attack those. We plan to be in line by year-end. They take a little longer to do. We have some mitigating factors there in that we will start having duplicative costs for the distribution center as we get to the end of this quarter. Right now, we have training exercises going on, so we have excess personnel out in the distribution centers as well.
While you might see some improvement in the real dollar amount, I wouldn't expect to see those until Q3, I mean, Q4 or early Q1.
Speaker 0
In terms of the scope or magnitude, what's on the potential chopping line? Do you think you could get your G&A dollars below a 2010 level?
Speaker 1
I think the goal originally is certainly to get them below 2010 levels. Our G&A line was increased by $100 million in 2010. If you look at those places that are growing, obviously, we can't decrease the expenses for the new retail stores, nor would we curtail the growth of our operations in Southeast Asia, but all the growth aside from those two very distinct pieces are certainly under review to get them back into line with 2010 and before.
Speaker 0
Okay. Lastly, aside from any unforeseen write-downs around Shape-ups that you don't know about right now, a lot of other moving parts in gross margin, but is there anything, you know, higher costs, certainly higher wage rates, all of that, is there anything structurally that makes you think you won't be able to get to 41%, 42% gross margins in the back half of this year?
Speaker 1
No, I think we should be pretty consistent, even though Q2 was probably our toughest comparison. We had probably, for what will be the balance of the year, a smaller % of new style that will come out with full margins. We still would have been at 41.5% without the one sale. I think structurally, we still anticipate being there.
Speaker 0
Okay. Excellent. Thanks very much, David.
Speaker 5
Thank you. Our next question comes from the line of Claire Gallagher with Capstone Investments. Please go ahead.
Speaker 3
Hi, David.
Speaker 1
Hi, Claire.
Speaker 3
Just wanted to touch base for a minute on what you're seeing here. It's early for back-to-school, but I believe last time we talked, we talked about the shelf space converting, the toning shelf space that you used to have, now converting to the core product and the new fitness product. If you could maybe give us an update on how that's going and what you're seeing and if you are kind of maintaining shelf space or maybe if you lost some, just an update would be great.
Speaker 1
I think it's early to give you the overall on the core. On the core, we see it to be fairly stable. There's some switches between men's and women's, and certainly, kids have maintained their presence. Obviously, everybody's just seeing the new fitness for the first time. I wouldn't tell you that we've kept all our shelf space from what was toning last year. That certainly would have been a high piece. What I can tell you is some of the new product we're testing in our own stores for the fitness and for kids, certainly Bella Ballerina and some of the new fitness and lightweight running are testing very, very well in our stores. We believe they're testing well in a few places where we've delivered them to third party, although it's early in the game, and we anticipate they'll pick up through back-to-school.
From everything I could tell and all the feedback I've gotten from the customers that were in for pre-line, they at least are very impressed with the new offerings we have, and there's a significant amount of them. I assume you guys will do your channel checks as we get finished with this conference call and see how they feel about it and then see how they test through back-to-school and early holiday. We think everybody will be impressed with it.
Speaker 3
Okay, great. On the kids' business, it seems like that's definitely a callout this quarter. You know, obviously, you have the Bella Ballerina product, which I've heard really good things about, by the way. Have you changed any distribution there? Are you adding accounts? How's it doing internationally? Could you maybe kind of walk through what is working for you there?
Speaker 1
I think the same as always. We have some new lighted product. Our kids got great reviews at the new pre-line that we have, new and lighter-looking shoes. I don't think anything structurally has changed. There's just new product within the place we're strongest, and I don't think we've changed distribution significantly as far as kids' sales are concerned, both in the United States and around the world. We seem to be picking up momentum. We've had some great products over the last years that have brought new customers in, and this new product is now keeping them, and it even has potential growth written all over it.
Speaker 3
Okay, great. Just quickly on backlog, I think I missed your comment. Did you say that backlog was up internationally and down domestic, or if you could maybe fill us in there?
Speaker 1
Yeah, I think backlogs are now very difficult to compare to last year. We're a little low to try to get on that. They're obviously down from last year, but there are two major circumstances that have to be in, and they're very difficult to quantify. One is that this time last year, our production cycles were out to about five or six months, and our backlogs, because we were so hot, reflected production schedules out five and six months. Additionally, this year, our production cycles are back to 60 to 90 days to reflect that as well. On top of that, you'd have to go back, and I'm sure it's no surprise we had major cancellations through the back half of the year.
If you take out the production cycles and the cancellations, I would say that we're in pretty good shape and think as this new product starts to sell, we'll continue to improve as we get to the back half of the year.
Speaker 3
Okay, your backlog internationally, you did mention that that was up, correct?
Speaker 1
Yeah, that's been up going through the second quarter, but that too is starting to come back because we're only asking them to go out 90 days rather than six months.
Speaker 3
Got it. Got it. Okay, great. Thanks, David.
Speaker 5
Thank you. Our next question comes from the line of Faye Landis with Consumer Edge Research. Please go ahead.
Speaker 4
Hi, can you just give us some insight into what the inventory increases year over year are likely to look like at the end of Q3 and Q4, and then going into next year?
Speaker 1
It's difficult to talk about the timing. I would anticipate by the time we get to Q4, barring any big changes in production cycle, they will be significantly lower than they were last year at the end of the year. Probably somewhat higher than they were in 2009, simply for structural increases in Southeast Asia and a bigger retail base and bigger growth in some subsidiaries around the world. I think it's fair to say that our domestic inventory will be down year over year as we get to the end of this year.
Speaker 4
It'll be a negative number on a year-over-year basis?
Speaker 1
As it looks right now, yeah.
Speaker 4
Okay. Can you just elaborate a little bit more on the production issues that you referred to?
Speaker 1
There weren't issues.
Speaker 4
No, the changes in the way the production works.
Speaker 1
Because we got so hot last year, we were making shoes, and we were making new kinds of shoes that I took all our production cycle out six months. Normally, we've been into a 60 or 90-day production cycle to make new stuff, which we're more into now. We've increased capacity, and obviously, our volume has come back. Production's more in line with the demand. I think it's important to know when you compare inventory year over year, as we go through. From December to second quarter, we deinventoried about $70 million. If you go back historically, you'll see that the end of Q2 is historically a growth piece of inventory because we're going through the strongest part of our year, which is back-to-school, which we deliver at the end of June and obviously July and early August.
If you take into account it's historically a growth time and that we've deinventoried $70 million, you get an idea of which way to how the order of magnitude on the decrease in the inventory.
Speaker 4
Okay, thanks a lot.
Speaker 5
Thank you. Our next question comes from the line of Sam Poser with Stifel. Please go ahead.
Speaker 0
Hi, David.
Speaker 1
Hey, Sam.
Speaker 0
All right. A couple of questions. Inventory was up 48% on a year-over-year basis, well over about $100 million, and sales are down. Could you, I guess first question is, what were your domestic wholesale in the quarter?
Speaker 1
What were we down? We said we were, we mentioned this at the beginning. We were down about 30% or 40% in domestic wholesale, quarter over quarter.
Speaker 0
Can you give us the actual dollars by category, domestic wholesale, international wholesale, retail, and e-commerce?
Speaker 1
I can. I don't have them here, but you'll see them at the queue when it's released in another week or so.
Speaker 0
Is that U.S. wholesale was down 30 to 40%?
Speaker 1
Yeah.
Speaker 0
How do you foresee the U.S. wholesale in the third and fourth quarter right now?
Speaker 1
It'll probably be down in third. It's too early to talk about fourth.
Speaker 0
Down equivalent kind of numbers, you think?
Speaker 1
Don't know yet. Certainly possible.
Speaker 0
International should be up maybe as strong, but in the, you know, somewhere above 25%, 25%-ish?
Speaker 1
They're coming to stronger comps now. I would say double digits, but I don't think it'll get quite as high as 25%.
Speaker 0
Okay. All right. I guess my question is, when I look at the inventory levels that you currently have and where you're going to end the year, what's making up the difference? I mean, like you said you had 4 million pairs of toning at the end of the first quarter. How many pairs do you have now? A little under 2 million?
Speaker 1
Under $2 million. Then.
Speaker 0
That still leaves the inventory levels significantly. If you take that, if it's $40 million, you have $219 million, sales are going to be down. You should probably, if everything was perfect right now, have about $200 million to $220 million worth of inventory. What's making up that difference right now? Is that really going to be able to move at good margins, or are we going to look at a third quarter that's looking like 38% and then possibly in the mid 40s in Q4 if everything works?
Speaker 1
We think the inventory that we have now is clean and does support what we said, the more normalized margins in the 41% to 42% range. I think it's fair to say that your analysis of inventory is a moving target because last year, I'm sure everybody would agree, we were under inventory or it seemed to be under inventory at the time for what we were making. You have to go back to 2009. While we have somewhat more inventory, it's fair to say that we've brought in some inventory early because our factories had the capacity to make more, and we didn't want to leave them hanging. It's safe to say while we have more inventory on hand than you might like, it's probably offset by a decrease in production schedules in the Orient moving forward. I think we are where we need to be.
We should have higher inventories than two years ago. Two years ago, we didn't have any significant inventory in places like Brazil, Chile, Southeast Asia. Probably in two years, we've opened 80 or 90 retail stores, and our inventory in Europe has grown significantly. Right now is where you'd see it because the end of July and August are big shipping times. If you go back two years and add all of those moving pieces, you won't think the inventory is as out of line as you think in your very quick pack of the envelope analysis you've just done.
Speaker 0
If you look at Q3, if you look at sales in Q3 2009, David, if you look at the inventory that you had, you had $191 million worth of inventory at the end of Q3 2009 or Q2 2009, and you had cost of goods sold of $221 million in Q3, and your margins were 45%. I go, you know, if you were able to do that with those margins and that kind of top line there, it just does seem excessive because your sales are going to fall back on a top-line basis, probably above that level, but not as profitable. Your cost of goods sold goes up, but not to that degree.
Speaker 1
Yeah, I think part of it is a timing issue when goods were received and made in our production cycles from those times. You will see that at the end of the third quarter, but that's my impression right this minute.
Speaker 0
Right. At the end of Q2, you felt at the end of Q1, you felt like you could run a 40+% gross margin in the quarter. Now, granted, you took a hit there. You don't think there's another hit coming, though, is what you're saying?
Speaker 1
I don't think so. Otherwise, I would have reserved for it. I don't see one in the third quarter, not of this magnitude nor that, but you know it's a very fluid business. It's not something I see nor anticipate.
Speaker 0
All right. Thanks, David.
Speaker 1
Okay.
Speaker 5
Thank you. Our next question comes from the line of Chris Nardone with Susquehanna Group. Please go ahead.
Speaker 1
How are you doing, David?
Speaker 0
Hey, Christopher.
Speaker 1
All right. What I want to know is, of this 2 million pair that you got rid of during the quarter, where is that right now? Is that with one particular account, or is it spread across several? Are they moving it as we speak? Have they already moved it and sold it? Just kind of where is it right now?
Speaker 0
It's predominantly at one big account, and he is in the process of selling it and moving it.
Speaker 1
Okay. I guess also with your current retail accounts, where do they stand from an inventory position on that category? How clean are they at this point? We're hearing from some that they still have product, maybe a little more than they would like. I'm just trying to understand between what's being liquidated third party, what your existing accounts have, what destruction that might create, whether it comes back to you or not. I'm just trying to get some training reference there.
Speaker 0
I don't believe it comes back to us. I think he's going to put it into the marketplace as best product price he can. While some accounts do have some inventory, there seems to be a price at which they sell it. I think the plan would be for this person that bought it is that he has the capital to move it out to at least something that when he came to us, we thought we'd pass along to him and try to keep margins at a place where they could get significant margin. He obviously has a lower cost, so he could keep it at the lower margins and continue to move it and sell it to those places that will continue to have it at nice margins, albeit at a lower price point.
Speaker 1
Okay. You don't foresee any disruption or anything coming back to you looking for either additional support or things along those lines just because there might be duplicate product at different prices out there at this point?
Speaker 0
They are retailers. I'm sure they'll always be looking for something, but I don't anticipate anything. Otherwise, I wouldn't have done it.
Speaker 1
Okay. When you talk about some of this new product, and you know we visit a lot of your retail account doors, I am yet to see it show up. I'm kind of curious what's been the response. Are they still sort of waiting to maybe pare back some toning inventory first before taking on big commitments? Is it just a timing issue? I'm yet to really see it in any meaningful quantities at all just yet. I see some of it in your stores, but not at wholesale accounts.
Speaker 0
Right. I think they came to our stores first. We're just starting to deliver them, probably mid-June was the earliest they went out. Obviously, they're in a testing stage. I don't think anybody came in to decide to have it replaced or try to comp Shape-ups or original Shape-ups with this new product, but they certainly all came and tested. You have to go visit their test stores and see what it is. From what we hear, there's certainly product that is testing quite well and is due for an expansion of doors. All the things we've heard from our pre-lines are positive. We're waiting for them to redo plans and see how much space is available and see how it tests through and see what growth we're going to get.
Speaker 1
Most of that, David, is on a new fitness product, correct?
Speaker 0
No. I think what they saw here, the new deliveries are probably fitness first, but what they saw here that we talk about for late back-to-school and holiday in spring was Active, Men's USA, new kids' shoes, new Cali, new sandals. We've shown them a whole plethora of new items. Some of the new fitness items, actually, Bella Ballerina is a kids' shoe that's been on our own stores and is just starting to deliver. Wherever that's tested, it's tested extremely well, even at third party. We've had our LIV shoe out and where that's testing, tests quite well. We've got a few items. We've redeveloped all the categories. There is no category that we play in that doesn't have new offerings or significant new offerings through this pre-line.
I would tell you that you really got to do your channel checks and wait as this stuff goes out and they try it and see how much ignition, which we think can be a lot, we really get.
Speaker 1
Okay. More specifically to the third quarter, to ask you more point-blank, when you think about the possibility that Q3 U.S. wholesale could be down 25% or 30%, something in that range, and international could be, I don't know, call it a mid-teens rate and domestic, you know, in the retail piece might be, call it flattish or depending on what the comp is. Nonetheless, you get a revenue decline somewhere in this mid-high single, maybe 10%. I'm trying to get a sense of if you assume that your gross margin could be at a 41% range, I'm trying to get an understanding of the magnitude of how much selling expense could actually come in. I mean, could that drop year over year by $10 million? Is that a realistic assumption, or is it down moderate?
I'm just trying to get conceptually about, as you go into the back half, how this expense structure could start to look.
Speaker 0
I don't know about commitments too far out, but for Q3, I would anticipate that our selling expense line is down in this $10 million plus range.
Speaker 1
Okay. G&A? Could G&A?
Speaker 0
That may come down a little bit. I have offsets. I think that remains relatively flat, maybe down a little bit because we're starting, because I have the duplicative cost and it's a big international for our subsidiaries and joint ventures. I think it's going to be another quarter before you start to see any significant movement at that line.
Speaker 1
That could still be, I mean, that's still going to be up $10 million plus because you still have stores, you have duplicate distribution center costs, you're still moving units, correct? I mean, it's not like it's going to be down year over year.
Speaker 0
No, I think it would be fairly consistent quarter to quarter.
Speaker 1
Okay, when you put in all the puts and takes, from a profitability perspective, you still think you'd be profitable in the third quarter?
Speaker 0
It's kind of early to tell. It certainly is the plan.
Speaker 1
Okay. Okay. On the tax rate, I'm just curious because you had a $21 million gain in the second quarter. I'm just kind of curious, maybe explain why that was so high and what we should do going forward.
Speaker 0
This year is going to be an odd year. Going forward, it's going to be a strange tax rate. You'd have to stay close to us to find out. I think basically what happened was, and don't tell anybody in Washington, is that we certainly had profitability overseas and losses in the United States. The tax rate we had sort of flipped around and we've had losses in a high-tax jurisdiction and profits in a no-tax jurisdiction, which is why you flipped to the 50% number. I would tell you after this year, we will go back to probably the low 30s if everything evens out.
Speaker 1
What should we use for pre-Q3 and Q4?
Speaker 0
Q3 and Q4, I would go back to the 30% or 35%, 30% rate depending on what it is, unless it turns out that we do end up with a loss and a big loss here and a big profit overseas, in which case that could come down dramatically.
Speaker 1
Okay. Just on the fourth quarter, I just want to clarify something. When you get to the fourth quarter, by then the conversions in the new distribution center will be complete. Will you still be running duplicate facilities by then?
Speaker 0
By that time, we anticipate it'll be very small. All but two buildings. Four of the buildings go away. Two buildings we still have to carry to the end of the year. We'll have slight duplicate rent, and we shouldn't have any duplicate personnel by the time we get there in August. Training should be complete, at least by the end of October. Most of those duplicate costs should be gone.
Speaker 1
Okay, could you grow revenues by the fourth quarter, or that just remains to be seen at this point?
Speaker 0
I think it remains to be seen, but I would tell you it's probably unlikely that we would catch last year's fourth quarter. With the new product we have out there, you never know because we still have a production cycle where we can make for Q4 and could show some dramatic changes. I think it's too early to forecast that.
Speaker 1
All right. I'll get back in the queue. Thanks, David.
Speaker 0
Thanks.
Speaker 5
Thank you. We have time for one final question from the line of Scott Krasik with BB&T Capital Markets. Please go ahead.
Speaker 0
Thanks. David, just a few follow-ups. Can you talk about, I missed it first, what was the comp, your retail comp, domestically?
Speaker 1
Minus 10.
Speaker 0
Okay. What is the composition of those sales as Shape-ups have slowed down? Has Kids increased as a percentage of the total? Has it just shifted to other women's product? How is that going?
Speaker 1
It depends on how you count. Kids is certainly a slightly higher %. That's about it. I think other than that, they've remained relatively stable between women's and men's. It's just changed, and it's a lower ASP. Actually, our comps are not down as much in units as they are in dollars. If you're talking about units, it hasn't changed as significantly. If you're talking about dollars, obviously, women's has come back and men's and kids is a bigger %.
Speaker 0
Okay. Could you give us some more confidence that the $1 million to $2 million pairs of Shape-ups you have left, I know you said they were more basic styles, but can you give us any evidence of why you think they will continue to sell at a similar rate or at a similar price?
Speaker 1
They continue to sell in our stores, and we have a lot of pricing power as it cleans out more in the marketplace. They continue to sell at our stores, and there's some places internationally where we continue to get orders and reorders. It's something we've seen.
Speaker 0
Do you have any retailers that have a lot of it that you know will be concerned with any pricing action by anybody, or you?
Speaker 1
No, I don't think so. I mean, that's more of what we've just sold. I don't know that ours is meant, we haven't kept what we think was necessary for domestic wholesale. It's more for retail and international that we've kept this tranche of shoes, so to speak.
Speaker 0
Okay. It seems like from our checks, there's nothing hotter at retail right now than Toms shoes. Are you guys catching any of that with Bobs?
Speaker 1
Yeah, we're having a good start to it. It's kind of early.
Speaker 0
Is this something that can move the needle for you guys?
Speaker 1
Certainly. Everything we're in can move the needle if it hits. We don't try anything that we anticipate being small.
Speaker 0
Your retailers that you sell to, they don't have access to Tom's, correct?
Speaker 1
I would think so.
Speaker 0
Okay. All right. Thanks, David.
Speaker 1
Okay.
Speaker 5
Thank you. At this time, I'd like to turn the conference back for any closing remarks.
Speaker 2
Thank you again for joining us today on the call. We would just like to note that today's call may have contained forward-looking statements. As a result of various risk factors, actual results could differ materially from those projected in such statements. These risk factors are detailed in Skechers U.S.A., Inc. filings with the SEC. Again, thank you and have a great day.
Speaker 5
Ladies and gentlemen, this does conclude our conference for today. Thank you for your participation. You may now disconnect.