Orange 21’s Results for Quarter Ended March 31

/0 Comments/in /by

Orange 21 (Spy Optic) has been through a lot. The recession and resulting economic conditions were enough, I’m sure we’d all agree, for any company to deal with. But since CEO Stone Douglass came in, they’ve also settled a dispute with former CEO Mark Simo and No Fear, done a rights offering (they raise about $2.5 million net), replaced their bank line with an asset based line of credit, dealt with a bunch of bad inventory, rationalized and restructured their factory in Italy, borrowed $3 million from Costa Brava, which is owned by its largest shareholder, and cut expenses including ten percent pay cuts for employees, which are still in effect.

They’ve also negotiated deals with O’Neill, Jimmy Buffett and his Margaritaville brand and, recently, Mary J. Blige to design, manufacture and market sun glass lines under their names. If those lines are successful, it will give them volume and help utilize their factory’s capacity.

And as if doing all this wasn’t a full time job, they still had to run the business.
 
Yet every time I go in a shop and ask how Spy Optics is doing (most recently last week), people say good things and tell me it’s selling well. So in spite of all the distractions, the brand still seems to be well positioned.
 
Sales rose 11.4% to $8.3 million, and they saw improvement across all products lines. Sunglasses represent around 80% of sales and goggles, 20%. They believe “…the overall increase is partly due to an improvement in the economy and consumer confidence as well as an increase in our efforts with certain key accounts and focus on close out sales.”
 
You can see the impact of the closeout sales on the gross margin. There was “…an increase of $0.7 million in discounts related to an increase in close out and key accounts sales in the U.S.” Total gross profit grew 2.5% from $3.6 to $3.7 million, but gross profit margin fell from 48.9% to 45%.
 
Sales and marketing expense grew 13% to $2 million due mostly to commissions on sales increases and the addition of a VP of sales. General and administrative expenses fell 9% to $2 million. Here’s the link to the whole filing if you want to pour over the details yourself. http://www.sec.gov/Archives/edgar/data/932372/000119312510117198/d10q.htm
 
Research and development expenses were up 69% to $400,000. There was some additional head count, travel and entertainment, and some expenses for the newly licensed brands. You’d expect that.
 
Overall, the loss from operations grew from $776,000 to $889,000 and the net loss went up from $804,000 to $937,000.
I retrieved the balance sheet from March 31, 2009 to compare to the most current one. We see that receivables have fallen 6% from $5.3 million to $4.9 million. You like to see receivables fall as sales increase, though typically they rise.  Inventory was down 20% to $8.3 million, also a good thing. Total current assets were down 14.9%.
 
Current liabilities were down 25.2%. The biggest decreases were in the line of credit, which fell from $3.5 to $2.2 million, accounts payable, which were down 33.6% to $4.3 million. Looks a lot like good financial management and expense control. The current ratio improved from 1.21 to 1.38. Not a big improvement, but progress.
 
There were no big changes in the non-current assets. Long term notes payable jumped from $270,000 to $3.2 million due to the $3 million note from Costa Bravo. Much of the proceeds from that note were used to pay off the BFI line. I have to believe it’s easier and cheaper to have longer term money from a major shareholder than short term money from an asset based lender.
 
Total stockholders’ equity fell from $7 million to $4.6 million, or by 35%. Total debt to equity has increased (a bad thing) from 2.28 to 3.36 times.
 
Orange 21 is doing everything they can to control spending and improve their balance sheet. What they need most is higher revenue. Hopefully, a continuing economic recovery and sales from their new licensing arrangements will give them that. I guess it may also help that the cost of the product they make in their Italian factory will decline in dollars if the Euro continues to weaken.   

 

 

Volcom 1st Quarter Ended March 31- Numbers, Macy, Inventory Management

/0 Comments/in /by

Volcom filed their 10Q on May 10th. After I listened to the conference call and they said how well the brand was doing in Macy’s, I was determined to get into a Macy’s and see for myself before writing this. I’ve done that now, so we’ll take a look at the numbers then move on to what I saw in Macy’s. Seems to me there are some interesting strategic issues there; not just for Volcom but for the industry.

Numbers

First thing I did was go get the March 31, 2009 balance sheet so I could make a reasonable comparison. Still no long term debt, more cash and short term investments, day’s sales outstanding reduced from 76 to 60 days. The inventory turn, as reported in the conference call, was 4.8 times. Everything’s fine; certainly no issues here that would prevent them from pursuing their long term strategy. Balance sheets aren’t much fun to analyze when they are solid. On the other hand, it doesn’t take much time.
 
On the income side, they did better than they had expected. Revenue was up 13% to $77.4 million reflecting strength across all product lines (except juniors which was down 17%) and all segments. Gross profit rose from $34.4 million to $42 million, and gross profit margin was up from 50.3% to 54.2%. Gross profit margin was weakest in the US at 49.7%. It was 60.4% in Europe and 62.2% for Electric.
 
It would be well if you remembered that the in the same quarter last year consumers weren’t buying anything, and companies were discounting to move inventory. So at some level impressive increases are not surprising. We’re seeing them from other companies as well.
 
PacSun represented 10% of their product revenues for the quarter, down from 11% last year. They expect revenues from PacSun to remain flat in the coming quarter. Here’s what they say about PacSun. It’s worth reading.
 
"We recognize that any customer concentration creates risks and we are, therefore, assessing strategies to lessen our concentration with Pacific Sunwear. We cannot predict whether such strategies will reduce, in whole or in part, our sales concentration with Pacific Sunwear in the near or long term. Because Pacific Sunwear has represented such a significant amount of our product revenues, our results of operations are likely to be adversely affected by any Pacific Sunwear decision to decrease its rate of purchases of our products. A decrease in its purchases of our products, a cancellation of orders of our products or a change in the timing of its orders will have an additional adverse affect on our operating results."
 
I’m not quite sure how to interpret this. Anybody have any ideas, please let me hear them. First, they don’t know if the concentration is going to go down or not, or when. But you’d expect the concentration to fall with an overall increase of sales at Volcom. If not, that would mean PacSun was buying more if it were to continue to represent the same percentage of Volcom product revenues. Would Volcom sell them more? Then there’s the talk about the impact of PacSun decreasing their purchases. Why would they do that? Maybe (I hope) because Volcom won’t sell to them at the prices they want? This reads almost like a "Risk Factor." They didn’t put this discussion in here for no reason.   I will watch with interest.
 
After PacSun, revenue from the next four largest accounts represented 4% of product revenue.
 
Selling, general and administrative expenses rose from $28 to $31 million. Operating income rose 73% from $6.3 to $11 million. Net income was up 78.5% to $7.5 million. Volcom expects to double revenue by 2014 with operating margins improving to 15% to 20%.
 
One interesting operating comment they made during the conference call was how they were carrying higher inventory of certain basics for reorders, but that these were products that would be sold for several seasons. Having cut my teeth in this industry on the one season snowboard business, I just get all a dither when I hear about product that can be sold through multiple seasons at normal margins. I don’t know how much product it is, but there’s a lot of money and headaches to be saved doing that.
 
Strategy and Macy’s
CEO Richard Woolcott outlined six general strategies that Volcom will pursue. They included:
·         Maximizing wholesale distribution
·         International growth
·         Making Volcom the hottest brand in active sports
·         Growing the Electric brand
·         Having exceptionally innovative product
·         Cautiously increasing their direct to consumer business including ecommerce.
 
I suppose, except for the grow Electric one, most larger companies in this industry would subscribe to these objectives. The devil, as always, is in the details. And that brings me to my visit to Macy’s.
 
I only visited one. It was at the Alderwood shopping center north of Seattle. I was on my way back from a very pleasant weekend in Vancouver with my wife.
 
I wish I’d thought to take a picture, but you’ll have to settle for the thousand words. Less, actually. This Macy’s tended to give each brand its own space coming out from the wall. The wall itself would have the brand logo, and the width of the space was determined, I assume, by the success of the brand. So there was Adidas, North face, etc. I don’t remember them all. I looked for Volcom and didn’t see it. Nor, I realized, did I see Quiksilver, Billabong or any other of our major brands.
 
I had to ask for Volcom. "Around the corner on the left," I was told. I looked. Couldn’t find it. Asked somebody else. "Over there in the corner by the door."
 
Finally, I spotted a little Volcom sign on the wall right next to a Quiksilver sign. I was in the corner area of the store that I’d estimate was 30 feet square. Maybe a bit bigger. There was also an O’Neill sign up there. This area was full of racks. The merchandising technique seemed to be to see how many garments you could cram on a single rack. This wasn’t the Volcom area. Or the Quik or the O’Neill or the Billabong or the Element area (I think there were some other brands as well). But all those brands were there. Not in their own area, like other brands in the store, but all together in one area with the racks of Volcom not significantly distinguished from the racks of, say, Quiksilver.
 
The message I got from Macy’s was, "Here’s some more brands. We’ve got to carry them, but we don’t understand them (they all kind of seem the same anyway) and they aren’t important enough to us to merchandise them well."
 
To say that I was a bit dismayed is putting it mildly. Every brand there was damaged by the presentations or lack of presentation, of their brand. If this is "maximizing wholesale distribution," we’re in trouble. And I doubt this contributes to making any brand in that dog pile of brands "the hottest brand in action sports." Made me appreciate what core retailers do for brands.
 
Maybe I walked into the wrong Macy’s. At my earliest convenience, I’m going to visit another.
 
Volcom had a good quarter. But what I saw at this Macy’s store highlights the difficulties inherent in growing as distribution expands.     

 

 

What’s Going on in Greece and Why You Might Care

/0 Comments/in , /by

The concept of the European Community and a common currency worked okay (though with massive misallocation of capital) as long as long as there was lots of growth and lots of money and lots of subsidies for poorer countries and low interest rates. For a long time, what you could earn on a German bond wasn’t that much lower than what you could earn on a Greek bond of similar duration (as little 20 basis points- one fifth of one percent- in 2007), implying a similar risk. The idea was that they were both parts of the Community, had a common currency, and that the rich would continue to take care of the not so rich.

Then, a few weeks ago, the bond market, which tends to have a mind of its own and doesn’t much care what speeches government officials make, decided that support wasn’t going to be there and that Greece, to use the technical financial term, was going in the crapper. Rates on five year Greek bonds soared to 15%.

Normally, when a country screws up financially like Greece has, a big part of the solution is to devalue the currency. That makes exports grow as they become more competitive, imports fall as they become more expensive, and it’s cheaper to pay off debt denominated in local currency. And of course, the tourists flock to the suddenly inexpensive country (assuming the people aren’t rioting in the street over austerity measures).
 
This has been doing on ever since there’s been money. Well, maybe not the tourist part. Go read This Time is Different; Eight Centuries of Financial Folly by Reinhart and Rogoff. One of the things they note is that Greece has been in some form of default for half of the last 200 years.
 
The Greeks should just crank up the printing press and turn out a whole bunch of Drachmas. It wouldn’t be easy, but over time would work.  Oh wait- there aren’t any Drachmas any more. There’s only these Euros and Greece can’t devalue them. Well, that’s an inconvenience.
 
As Greece’s cost of financing its debt goes through the roof (even ignoring that they are going to have to issue more debt that somebody is suppose to buy- no idea who) the austerity measures will have to become even tougher. This of course slows the economy further and reduces tax collections, making the problem worse.
 
I should note the Greeks are already notorious for managing to not pay taxes. In the last year for which figures are available, there were only 6 (yes SIX) Greeks out of a population of 10 million who reported income of a million Euros or more. Damn clever those Greeks. Maybe a bit too clever.
 
So I suspect that Greece is heading for an even deeper recession (I won’t use the “D” word though that’s what I really think will happen). I won’t even be surprised to see them default on some of their debt. That may take the form of a rescheduling which stretches out the term, reduces the interest rates or some other manipulation. As far as I’m concerned, that’s as much a default as just not paying.
 
The Europeans are making a whole lot of noise about injecting liquidity and bailout packages and backup lines of credit. But at the end of the day this is not longer about liquidity. It’s about a national balance stuffed with liabilities they can’t pay. Somebody is going to take a loss. The argument is just over whom. We are, by the way, having the same argument in the United States.
   
But what the hell. Our industry doesn’t sell much to Greece and we don’t buy much from them so why should we care? In the first place, the somebody who may take the loss is all the European banks who hold most of this Greek government debt. When banks lose money, their capital declines. Banks make loans based on some multiple of their capital. If they lose money, they either have to raise more capital or cut lending. If they lose 100 Euros and are leveraged ten to one, that’s 1,000 Euros of lending they can’t do. You may have noticed that has had a bit of an impact over here.
 
In the second place, there’s the little matter of Portugal, Spain and Ireland which are in none too good a shape themselves (though nowhere near as bad as Greece). Where’s the money going to come from to bail them out and which banks hold their debt? They use the Euro as well, so devaluation isn’t an option for them either.
 
Again, if each country still had their own currency, the Greek Drachma, Irish Punt, Italian Lira, and Spanish Peseta would all be devaluing, the German Mark would be rising, and the usual adjustment mechanisms would be working. They aren’t and they can’t while the currency union exists.
 
The financial markets see this and are concerned that either the currency union comes apart (very messy in the short term, though perhaps a good results in terms of resource allocation in the longer term) or there’s a potential for default on sovereign debt. The result is a lot of pressure on the Euro.
 
I expect that Europe will have a double dip recession and won’t be surprised if the Euro goes to parity with the dollar. I’m actually putting my money where my mouth is in this case and have started the process of pulling some Euros we have back into dollars. Wish I’d started two months ago.
 
I’m hopeful it’s clear by now why you care about Greece and the mess in Europe in general. Tougher economic times there mean less consumer spending. A weaker Euro means our exports become more expensive. The good news, I suppose, is that imports from Europe become less expensive. Maybe all those snowboards being made in China will be made in Austria again.
 
Remember when the subprime crisis started? “It will be contained,” said Fed Chairman Bernanke. And in Europe they couldn’t figure out why they should possibly care about a bunch of bad residential housing loans in the US. Then Lehman Brothers blew up and we went from “It will be okay” to global economic recession in about 20 minutes. 
 
That’s how these things have always happened (go read that book I mention!). It’s okay until it isn’t and everybody gets caught by surprise. Maybe, if you think my analysis is reasonable, there are some things you should be looking at now just in case so you don’t get “caught by surprise?” 

 

 

What Are Big Brands Doing in Retail? It’s a Bit Scary

/0 Comments/in , /by

Below is the handout I distributed at IASC’s Skateboard Industry Summit at the end of April where I talked about the evolving retail environment.  These are quotes from recent fillings and conference calls by Billabong, Genesco (owners of Journeys), Nike and Zumiez about how they see the retail environment and their involvement in it.  Except for Nike, you’ve seen these if you’ve read in detaill my most recent analysis of these company’s results.

These quotes aren’t my opinion or interpretation; they are what the senior executives actually believe and are doing.  In general, they are unclear about their growth opportunities in core stores and the survivability of those stores.  They think they can merchandise their own brands in their own stores better than in the core shops.  They like the higher margins.  You really need to read these comments.  Draw your own conclusions.

Billabong

 There is still “…a little bit of an apprehension to actually placing forward orders, and some customers preferring to do a little bit of business in season.” “I’d say that’s a trend that’s probably going to be there for a little while,” he continues.
 
Jeff’s Comment: I’d be curious to know just what he means by “a little while.”
 
“I can’t sit here at all and say that all the accounts that we are currently dealing with will still be there in three months time,” is how he puts it. He also thinks they may have to tighten credit by the end of the current six months.
 
“If you look at the wholesale level, most of the business going on, the buyers are focused on your price point category and up to your mid price print category.” “…in our own retail, which has definitely outperformed our wholesale side in this period, in our own retail we can showcase and merchandise a product across all the price points and we’re doing really well right across the board.”
 
“The cycles with our own retailers, we are beginning to drop product into our own retail even faster than wholesale channel. We are beginning to, on certain key styles…build product that may go into our own retail before even the wholesale consumer sees it in an indent (sic) process. But we’re beginning to utilize our own retail to test product a lot more and we’re just becoming a little more focused on that shortening of the whole supply side.”
 
“If you look at the big retail brands out there, they don’t have a buyer to get past, they just decide what they’re going to make and they put it in their own stores and therefore they could have a very short cycle.…we are looking more and more at some of our own retail stores where we can looking at touching on a more vertical model. And not having that delay with going out and having an eight week ordering pattern and then go away and ordering product, we’ll just go straight to retail.”
 
What percentage of total revenues could retail represent?” somebody asked. “It’s probably going to depend on what happens with the wholesale account base,” O’Neill responded.
 
Genesco
Genesco is looking at “very modest” store growth in Journeys. They say they don’t want to have happen to them what has happened to other retailers who have over extended themselves on their store count. They mention Footlocker, The Gap, and Starbucks as retailers who are closing stores because they got a bit overextended. They plan to open only 50 net new stores over the next five years across the whole company.
 
They also note that they have another wave of store leases coming up for renewal. They expect to get lower costs and more favorable terms when those leases are renegotiated. Overall, they expect that with very modest store growth and comparable store sales growing by only two to three percent, they can expand operating margins from the current five to eight percent and grow earnings per share by 15% to 20% annually. Obviously, they see a lot of opportunity in reducing costs and operating efficiently.
 
He notes that when, for example, a five store chain has a lease coming up for renewal, it will find Genesco on their landlord’s doorstep taking over that space. 
 
The other thing that’s happening, as they describe in discussing their hat, uniform and sport apparel business, is that they “…are consolidating the industry. The mom and pops are going out of business or they are credit constrained and can’t stay fresh.” 
 
President and CEO Robert Dennis talked about how the economics of their hat and hat related business has changed as they have gone from 150 to 800 stores. The difference, he says, “is enormous.” There is tremendous leverage with landlords, the companies from whom you license product, vendors, and infrastructure.
 
He also characterizes most of these small players’ systems as being “from the dark ages.” 
 
Nike
“We’re also starting to realize the broader benefits of becoming a better retailer. Over the past few years, we’ve spoken about expanding our direct-to-consumer business. We saw a huge upside to bringing innovation and excitement into the marketplace in our own stores, with our wholesale partners and online.”
 
“To do that we committed to building our retail capabilities, smoother product flow, surgical assortment planning that focuses on key items, more compelling merchandising, stronger brand stories and more efficient back-of-house systems. All balanced to produce greater consumer experiences and strong profitability. It’s a powerful mix that helped NIKE Brand Retail deliver 11% revenue growth and 140 basis points of gross margin expansion year-to-date.”
 
“We will continue to invest in bringing world-class solutions to consumers who are hungry for new retail experiences. Nowhere is this more important than online. The digital lifestyle is driving dramatic change in our industry and significant potential to our company. We are attacking that in every dimension; online shopping, customization, immersing our brands in consumer cultures and telling inspiring and entertaining stories.”
 
“Comparable sales for brick and mortar Nike-owned retail stores increased 17%, and online sales grew 25%. Profitability for the businesses grew even faster as better merchandising, lower promotions and more surgical mark downs drove gross margins up 550 basis points versus last year.”
 
Zumiez
 “Our stores bring the look and feel of an independent specialty shop to the mall by emphasizing the action sports lifestyle through a distinctive store environment and high-energy sales personnel. We seek to staff our stores with store associates who are knowledgeable users of our products, which we believe provides our customers with enhanced customer service and supplements our ability to identify and react quickly to emerging trends and fashions. We design our stores to appeal to teenagers and young adults and to serve as a destination for our customers.  Most of our stores, which average approximately 2,900 square feet, feature couches and action sports oriented video game stations that are intended to encourage our customers to shop for longer periods of time and to interact with each other and our store associates.”
 
 Jeff’s Comment: Except for the mall location, how is this different from any other core shop?
 
Zumiez pursues, on a national scale, the same branding strategy the best independent retailers pursue.  “We seek to build relationships with our customers through a multi-faceted marketing approach that is designed to integrate our brand image with the action sports lifestyle.” They spent $822,000 on advertising in fiscal 2009.
 
 “We have developed a disciplined approach to buying and a dynamic inventory planning and allocation process to support our merchandise strategy. We utilize a broad vendor base that allows us to shift our merchandise purchases as required to react quickly to changing market conditions. We manage the purchasing and allocation process by reviewing branded merchandise lines from new and existing vendors, identifying emerging fashion trends and selecting branded merchandise styles in quantities, colors and sizes to meet inventory levels established by management. We also coordinate inventory levels in connection with our promotions and seasonality. Our management information systems provide us with current inventory levels at each store and for our Company as a whole, as well as current selling history within each store by merchandise classification and by style.”

 

 

Notes from the Skateboard Industry Conference

/0 Comments/in , /by

It was, by any measure, a successful conference and IASC did a great job putting it on. Attendance, at around 95, was up over last year, which was also up over the first year of the conference the previous year. The attendees were the senior people from the right companies. The food continues to improve (breakfast still needs work) and the skating at Woodward West is outstanding. Getting there from Seattle is a bit of an effort and I made the drive from Burbank this time without getting lost (the first year, the sign that said “Paved road ends in two miles” sort of threw me.

IASC kept us busy for two full days on interesting topics that included a key note address by George Powell, social media and action sports, why athletes go broke (I’m still sorry I missed the chance to invest in the rafts that inflate under furniture to protect them from flood waters), ethical sourcing, Shop- Eat- Surf’s Tiffany Montgomery’s interview with former DC Shoes CEO Nick Adcock, and a retail discussion.

Angelo Ponzi from Board Trac was given the thankless task of making the last presentation that summed up everything that had been discussed during the whole conference. Word is he pulled it off and people wanted more time with him, but I had to leave for the airport and didn’t see it. That’s representative of why it can suck to be the last presenter.
 
I talked before Angelo, focusing on the action of some major brands (see my most recent articles on Billabong, Zumiez and Genesco on my web site) with regards to their efforts in retail and relationships with core shops.   I suggested that the decline in the number of core shops, the financial model that needs to be pursued given the economic conditions (lower sales growth, focus on gross margin dollars), and the evolving retail environment suggested some pretty obvious steps that skate companies needed to take to be competitive. I spent a few minutes discussing those steps.
 
I guess if I’d been planning the agenda I would have scheduled discussions that focused more on those steps. They include effective use of your management information systems, focusing on inventory turns- not just gross margin percentages, distribution (“The Industry” is not going to “fix” distribution, but most companies can manage their distribution better if they have better information), and the role of the existing skate distributors. Those topics are clearly not as much fun, but they might be more important to the long term health of the industry.
 
Skateboarding as a sport/activity/lifestyle- whatever you want to call it- seems to be doing just fine, though the individual companies have challenges. I thought skate’s problems and strengths were best framed by a brief exchange between an executive from a major retailer and a hard goods brand owner. The retailer bemoaned team riders showing up drunk,  showing up late or not at all, and not interacting with the kids. The owner said, more or less, “That’s the way it is. If you don’t like it, don’t invite them back.”
 
I’ve never managed skateboard team riders, but I have had some dealing with snowboard team riders. What I’ve always said is that I’d rather have the kid who was personable, professional, and showed up on time (sober) even if he wasn’t quite as good as some other rider so I probably tend to come down on the retailer’s side on this one. Yet the brand owner (a former pro skater like most of them) was defending something that is important about skateboarding and that has allowed it to maintain its edge and underground image even as it has mainstreamed.
 
That edge and image were also handily maintained by something called “hall bowling” the first night and by a report of somebody riding a rollaway bed down the driveway the second. That the bed was ridden was denied in the morning (but there was a mattress under a tree). But as I was printing out my boarding pass I did hear the lodge staff discussing how much to charge for a rollaway and wondering why anybody would allow this group an open bar. I of course, being the sober serious fellow I am, had nothing to do with any of this. Except for the part where I woke up at 4:30 to find that somebody had turned off the power to my room (and to others) and it was about 45 degrees. It’s cold at this camp at 4,000 feet elevation.
 
I can’t wait for next year!