The News is Good, But the Loss is Higher? Skullcandy’s March 31 Quarter

Skull’s loss for the quarter ended March 31 rose 27.9% from $3.7 to $4.9 million.  Sales rose just 1.4% to $46.3 million while the gross profit margin dropped from 40.9% in last year’s quarter to 37.5% in this year’s.  The pretax loss rose 50% from $4.6 to $6.9 million.

The balance sheet remains as strong or stronger than it was a year ago.  Cash on the balance sheet rose $12 to $14 million, as did accounts payable, as Skull stopped taking some discounts for early supplier payments.  Paying early would boost the gross margin and stopping early payments would reduce it.  They don’t tell us what the impact was.

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IASC Skateboarding Summit – Have We Found a More Valuable Way to Talk With Each Other?

So there I was sitting in the conference room of the Embassy Suites for day one of the IASC Skateboarding Summit waiting for the dreaded retailer panel to start.

You all know the panel I mean.  They have one at every industry trade show and conference I’ve ever been to.  Three or four retailers sit up on stage, a moderator feeds them questions they often have in advance (well, that’s what I always did) and they give cautious answers that aren’t that useful, typically aren’t a reflection of actual business conditions, and make unrealistic requests of the industry and the brands to “fix” skateboarding, or snowboarding, or whatever.

Then, something strange happened.  Brent Futagaki, VP of Marketing for Active Ride Shop, David Toole the owner of Bluetile Skateshop in South Carolina and Sam Schuman, the owner of 303 Boards in Denver started talking openly and honestly about market conditions.

Under the always subtle and gentle guidance of moderator Don Brown, Sole Technology VP of Marketing, they talked about how important shop decks and their proprietary apparel brands were to their shops, and that they needed them to be profitable.  One of them (sorry, forgot who) acknowledged that they knew that brands were going to do what they thought they needed to do.   There was no call for brands to change or restrict distribution.  Sure, “It would be nice if they did, but…”  There was some discussion about how some exclusive shop product, or at least product that they had for maybe a week or two before it went to broader distribution, would be nice.  But there were no unrealistic expectations- no outrage because each business was doing what it perceived to be in its own best interest.

You know, this sounded like three businessmen talking about running a skate business rather than three skaters trying to run businesses.  What a fascinating juxta positioning.

This refreshing, somewhat unexpected (to me anyway), and immensely valuable trend continued in spades with the next panel.  Attorney to the industry Greg Weisman moderated a panel that included (from left to right as you looked at the stage)  Zero and Fallen founder Jamie Thomas, Blitz founder Per Welinder and Sole Technology founder Pierre Andre Senizergues.

Quite a lineup.  Three founders, who started as pro skaters, had some huge successes, then some challenges.  For the most part, they told us openly and honestly about those problems.  How fast growth can make it hard to look up and see what’s happening.  How too much success too quickly can create self-assurance that may not be justified as market conditions evolve and make it hard to react to changes.

All the people in the audience are dealing with exactly the same issues these successful industry veterans were describing.  And yes, I just called them successful regardless of the fact that some highly publicized bad things have happened to them.

Because “bad things” happen to everybody who runs a business.  The measure of your success isn’t whether or not you have them, but how you acknowledge or react to them.  My hope is that everybody in the industry will be a little more comfortable acknowledging these bad things.  Perhaps we’ll see fewer bullshit press releases describing a severe business dislocation as “Taking it to the next level.”  We can all hope to learn a bit more from each other if it’s okay to admit your mistakes.  Maybe we can even help each other.

Five years ago, if any of these panelists had called me and asked if I wanted to invest in one of their projects, I would have said no.  Now, even though I’m pretty risk averse, I’d at least listen.  I don’t think you’d find my attitude in this regard different from most angel investors, venture capitalists, and private equity guys.

Not to sound over dramatic, but failure is the crucible good business people are forged in.  Okay, it’s a little over dramatic.

Jamie Thomas ended the panel, which ran way over its allotted time, by an emotional description of what he’d been through, what he was doing now, and how he was working in a small space with a couple of friends to refocus on the Zero brand and how happy he was to just be making product he thought people wanted.

When he finished, Greg Weisman wisely said, “Okay, we’re done.”   There was just nothing to add.

We also heard short presentations from some worthy nonprofits.  My takeaway is that there’s a lot of need (skate related or not) out there and some organizations doing good work are struggling to keep going.  I can’t help them all, but I’ve made a small donation to one.  Hope you do the same.

The conference actually started with IASC executive director Thomas Barker presenting an over view of the State of Skate Industry Survey, done in conjunction with Transworld.  Thomas sped through an overview.  On every slide I wanted to stop him and ask questions.  Happily, the complete presentation is supposed to show up in the attendees’ inbox today, and I’m guessing I’ll get lots of my answers from that.  There was so much great data and he was going so fast that I can’t even give you a summary here.

At the end of day one, we heard from HookIt COO Carl Thomas.  Carl’s company has software and algorithms that allow brands and professional athletes to track their online engagement and put a value on it.  Poor Carl had to rush through a complex presentation on an important idea because the conference had run a bit long and people had to get on a bus to go the Adidas video premiere.  The bus, of course, ended up leaving late.

His presentation generated quite a few questions, many of which I’d label as cautious.  People, what HookIt does is coming.  Maybe somebody will do it different or better, but it’s coming.  You need to check it out and, I’m guessing, ultimately use it.

And Carl, the next time you talk to us, I recommend you not try and relate skateboarding to golf or assume we’re all for skate being in the Olympics.

The second day started with an update on skateboarding and the 2020 Olympics from International Skateboarding Federation President Gary Reams.  I knew what we were in for when he had to start his discussion with a list of the acronyms we needed to understand in order to make sense of what he was going to say.  In spite of that (because I don’t remember any of them), I had a few takeaways.

First, this is a complex, highly political process with a lot of money at stake.  That’s just the way it is.  Second, Gary listed the people who are involved in his organization and all I can say is if that group can’t represent skateboarding well, nobody can.  Third, Gary and his group apparently have the support of the International Olympic Committee and a close relationship with the U.S. Olympic Committee.  You might think that’s enough to get us whatever we want however we want it, but it’s not.  I suppose that’s indicative of just how convoluted the process is.  Finally, I decided that skateboarding may or not end up in the Olympics, but given the work the ISF has done, it’s their ball to run with and nobody else can pick it up.  Let me know if I can do anything to help Gary.

Next, we had panel on woman’s skateboarding.  It featured Mimi Knoop, Kim Woozy, Lisa Whitaker and YuLin Olliver from the Woman’s’ Skateboarding Alliance.   The woman’s market is growing in importance so we need to pay more attention.  The most interesting thing to me was some of the discussion about how girls/woman are received/perceived at skate venues.  I hadn’t focused on some of those potential barriers.  I guess I learned that selling to woman is the same as selling to men, except that it’s completely different.

The “AHA!” conference moment for me was the retail and brand owner panels, where I heard what I hope was a major change in how we communicate with and help each other.  That could be worth a lot.

Online Advertising: Is the Bubble Bursting?

It has been an element of faith that the days of print advertising were ending and we’d all be making our advertising and promotion buys online.  I still expect print to be in a long term decline, but I just read a pretty persuasive article that talks about the decline of online advertising and the reasons for it.

The article is an analysis of the online market as a justification for why you should consider shorting Google (Alphabet), but that’s not why I’m sending it to you.  Just to be clear, I don’t own the stock and am not short it.

Here are my takeaways from the article.  You may find you have different ones.

  1. The quality of online advertising is declining.
  2. It’s increasingly hard to know what value you’re getting for your money.
  3. There’s a reasonable chance you’re not getting what you’re paying for, and it may involve intentional fraud.
  4. An increasing number of people (including me) are fed up with intrusive ads and (especially for me) videos that you can’t stop and are using ad blockers.

Assuming the article and its prognostications are accurate, what does it suggest?  Certainly not going back to print.  But it does suggest you have to press the right people to demonstrate the value of your online ad buys (which is zero if your target customer is using an ad blocker. Wonder if you get charged anyway).  And it also suggests to me an even greater importance to connecting with your customers on social media, listening to them, and following their lead.

Here’s the link to the article.

GoPro’s Quarterly Results: They Have to Create Other Revenue Sources. How?

GoPro released the 10-Q for their quarter ended March 31st last Thursday.  The company’s net income dropped from a profit of $16.8 million in last year’s quarter to a loss of $107.5 million in this year’s.  The balance sheet remains very solid, though not quite as solid as a year ago.

We’ll have our usual fun with the numbers, but let’s start with a discussion of the market and strategic situation GoPro finds itself in.  That’s ultimately what will determine the numbers after all.

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Amazon, the Omnichannel, and the Impact of Retailers’ Brick and Mortar Legacy

On April 24th, the Seattle Times ran an article called “Amazon’s Imitation Game.”  It starts by describing how Amazon has knocked off an aluminum laptop stand by Rain Design that had been selling on Amazon for 10 years at a price of $43.00.  Amazon started selling a similar product last July for around half that price.

On Amazon, you can see various Rain Design products including a number of laptop stands and you can see the Amazon knock off at around half price.  Amazon Basics, the article tells us, includes low price copies of a number of an increasing number of products (900 right now including 284 added in 2015).

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More Declines in Department Store Locations?

The Wall Street Journal had an article this morning on how many locations certain department stores needed to close if they wanted to get their sales per square foot back to 2006 levels.  While they may not (mostly) be the retailers we (hopefully) expect to sell to, the discussion of the dynamics leading to the closings that have already occurred and the possible need for more is interesting.

“Sales at the nation’s department stores averaged $165 a square foot last year, a 24% drop since 2006, according to company disclosures and Green Street estimates. Over the same period, the stores reduced their physical footprint by 7% in aggregate.”

The article notes, to nobody’s surprise, that internet sales are partly responsible for all the store closing to dates.  But we’ve got the spokesperson for JC Penney saying that when they close, especially in a smaller market, internet sales go down.

Will the first person who figures out exactly how exactly how brick and mortar and online influence each other please let me know?

I’m pretty sure that even without the internet, there would be ongoing store closings, but I’m sure not as extensive as it has been and will continue to be.  The impact on malls will also be pronounced.

Before I give you the link, be aware that only the first couple of the lines will be available on the page.  You have to copy the headline into your search window, do a search, and click on the first result that comes up.  Then the whole article will be visible.  No idea why that works.

Here’s the link.

Skullcandy’s Strategic Positioning and Annual Results

Somehow, I didn’t see Skull’s 10-K with their results for the December 31, 2015 year when it came out and then I found myself busy with a couple of clients.  But it’s not so much that I want to give you a deep dive on the financials, but that I want to talk about their strategic balancing act a bit. There are some things we can all learn.

Let’s take a brief look at the numbers and then move on to that.

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Some Numbers on Online Retail and Perspective on the Teen Market

Moss-Adams Capital is the mergers and acquisitions, capital raising, strategic advising arm of Moss-Adams LLC, which does accounting, wealth management and taxes.  As you may be aware, they’ve been pretty active in our industry, whatever industry we’re now in.  For some time, they’ve published a report that provides information on which deals have been recently completed at what prices.  I’ve always reviewed it, but never highlighted it.

Now, it seems that they’ve expanded that report to include some good information on the size of and trends in the online market.  This is definitely worth your time as it’s pretty short and includes some ideas and data you may find interesting.  Thought provoking?  Call to action? Downright scary?

Some of the ideas, hopefully, won’t be new to you, but it’s succinct enough that I bet it find its way into some of your planning and strategy discussions.

As we all struggle to figure just what the hell “omnichannel” means and what, exactly, we need to do about it, I’ve seen some companies find themselves in an uncomfortable defensive position.  What I mean by that is that they spend a bunch of money on their online presence but the additional gross profit they generate doesn’t cover those costs.

Moss-Adams notes that online (including mobile) sales accounted for 7.3% of total U.S. retail sales in 2015 and two thirds of total retail sales growth that year.  Obviously, if your brick and mortar sales should be down 7.3% but you’re up 7.3% in online sales but have all the additional costs associated with online (depending on the comparative gross margins) you’re in a bad place.

This, essentially, is why your engagement with the omni channel has to be the place where the whole is greater than the sum of its parts.  You have to be online, but spending money to cannibalize your brick and mortar sales is completely defensive and maybe destructive.

Here’s the link to their report.

Meanwhile, I came across a chart with some information on the evolution of the teen retail market between 2003 and 2014.  I imagine you’ll want to think about what it means.  Though maybe it doesn’t have any deep meaning and is just good information.  I got it from a free publication I get five days a week called The Daily Shot.

Online and Teen Market 4-16









The PacSun Bankruptcy

Nobody who’s followed PacSun or my analysis of it was very surprised by yesterday morning’s filing of a Chapter 11 bankruptcy.  We’ve had a number of retail bankruptcies and I expect more.

Somebody suggested to me that the filing might occur around this time because their 10-K with audited financials would be due to be published, and their auditor would have to give them a “qualified” opinion as part of the audit.  That is, they’d say they had concerns about PacSun’s ability to continue as a “going concern.”   That tends to make lenders and suppliers uneasy.

Looks like the person who suggested that was right on.

If you’ve read the press release from PacSun, you know that the filing is being done as part of a plan negotiated with their debt holder, Golden Gate Capital and Wells Fargo who has a line of credit to PacSun.  This is optional, but here’s a link to the article I wrote on PacSun back on December 20 after their published their last 10-Q.  I said in that article:

“As I’ve reminded you before, they also have a $75.6 million payment to make for a term loan and some “payment in kind” interest due December 7th 2016. The line of credit from Wells Fargo matures the same day.  It’s pretty clear they won’t be able to make that payment from their own cash flow. They are talking with the lender (Golden Gate) about how that might be managed.”

The writing was on the wall at least back then.  I’d say sooner, but obviously it’s nice to get through the holiday season before you take this kind of step.

Let’s take a look at the proposed plan as described in the press release and then move on to the numbers for the last quarter and the fiscal year.

What’s the Plan?

Golden State Capital is going to end up owning PacSun as a private company.  Shades of how the Quiksilver bankruptcy ended up.  Regular readers already know, and are probably tired of my saying it ad nauseum, that there’s a conflict between being a successful brand and a public company in our current and projected economic environment.  That’s especially true in our industry.

“Golden State Capital will be converting more than 65% of its term loan debt into the equity of the reorganized company and providing a minimum of $20 million in additional capital to the reorganized Company upon its emergence from Chapter 11 to support its long-term growth objectives.”

Literally as I write this, PacSun has just filed the 8K describing the bankruptcy filing in more detail.  Golden State will end up owning 100% of PacSun’s equity.  So if you are a common stockholder from before the filing, sorry, because “…on the effective date of the Plan, all previously outstanding equity securities of the Company shall be cancelled and discharged.”

The term loan is about $77 million.  65% of that is $50 million.  At the end of the fiscal year, on January 30, the line of credit outstanding was $18 million.  Wells Fargo was providing the line of credit.  As part of the bankruptcy filing and restructuring plan, Wells Fargo will provide a $100 million debtor in possession (DIP) line of credit.  “Wells Fargo has also committed to provide a five-year $100 million revolving line of credit effective upon the Company’s emergence from Chapter 11 and subject to certain conditions.”   DIP financing has a priority over certain debt of the company prior to the bankruptcy filing, so it’s more secure than you might expect lending to a company in bankruptcy to be.

I still think PacSun President and CEO Gary Schoenfeld has pretty much done all the right things since he took over some years ago.  He inherited a chain that had lost relevance to its target market.  Reclaiming that was a hard, long term project under any circumstances.  Here’s how he described it in his last conference call.

“Without a doubt, the bar keeps getting raised in terms of what it takes to be successful, given overall headwinds in retail and apparel and the battles for consumer discretionary spending. Clear merchandising strategies, consistent in-store execution across our entire chain and further penetration into the digital world of our customers, are all essential.”

He goes on to say, ““Our liquidity has been adversely impacted by our negative operating results and we cannot assure you that we will have sufficient liquidity going forward if certain negative trends continue, or if we are not able to refinance the Term Loan in light of the upcoming maturity of the Wells Credit Facility and the Term Loan.”

PacSun ran out of cash and, as a result, time.  CEO Schoenfeld explains in the press release that the bankruptcy is meant to solve two “…structural issues that operationally we could not fix on our own.  First is a very high occupancy cost of approximately $140 million per year, and second is nearly $90 million of long-term debt coming due later this year.”

The debt issue and associated interest expense is resolved by conversion of 65% of the Golden Gate debt to equity.  The occupancy cost (store lease) issue will be managed “…either through landlord negotiations or lease rejections…” as part of the bankruptcy process.”   I expect to see some further store closings and I consider those necessary and appropriate.

What this doesn’t address, obviously, is the strategic issue of PacSun’s market position and its relevancy to its target customers.  Have they made progress?  I think so.  Are they there yet?  Apparently Golden State thinks they are or can be with a lower cost financial structure that allows them to pursue their strategy.  We’ll see.

Financial Results

The quarter and year ended January 31, 2016.  Know that I’m doing this based on the financials in the press release, rather than the 10-K which isn’t out yet.

For the quarter, net sales were more or less constant at $232 million.  The gross margin fell from 26.1% to 24.3%.  The operating loss declined from $7.42 to $5.49 million, largely due to expenses that fell from $67.8 to $62.1 million.  The net loss declined from $26.0 to $10.0 million, but the decline is almost entirely the result of having a loss of $14.3 million loss on the derivative liability in last year’s quarter compared to a gain of $192,000 in this year’s quarter.

For the year, sales were down 3.13% from $826.8 to $800.9 million.  The gross profit margin fell from 27% to 25.4%.  They reduced expenses from $238.4 to $221.6 million, but the operating loss rose from $15.1 to $18.0 million.  Interest expense, by the way, was $17.3 million, and much of that cost goes away in the conversion of debt to equity.  The reported gain on that derivative liability was $2.3 million last year and $27.7 million this year.  Take that into account as I tell you the net loss improved from $29.4 to $8.5 million.

The expenses include the $140 million in occupancy costs Gary Schoenfeld refers to in the press release, and that will be reduced as PacSun works its way through bankruptcy, but we don’t know by how much.  You can see that between some reduction there and the decline in interest expense, all other things being equal, the year just ended probably would have been profitable.

PacSun ended the year with 601 stores compared to 605 at the end of last year.  126 were outlet stores, up from 120.

The balance sheet is, well, kind of irrelevant since it’s about to change dramatically.  However there are a few telltale signs worth highlighting.  First, cash and cash equivalents fell from $22.6 to $6.2 million.  I’d note that net cash provided by operations went from a positive $10.7 million last year to a negative $15.1 million in the year just ended.

Inventory, interestingly, rose 18.2% from $81.7 to $96.5 million.  Wouldn’t necessarily expect that with cash constraints and constant sales.  Hard to imagine them buying in anticipation of a bankruptcy in this industry where what’s selling changes so quickly.  Hard to imagine brands not being cautious in selling to them as I’m hardly the only one who saw this coming.

Speaking of inventory, I guess I should remind anybody who has product at PacSun on consignment and thinks that they either can get paid or get their inventory back what happened with the Sports Authority bankruptcy.  Here’s the link to the article I wrote about the litigation over this issue on my site.  Don’t know if this will be an issue with PacSun or not.

One of the headlines in the press release says, “ALL KEY SUPPLIERS TO BE PAID.”  I have a couple of comments.  First, I wonder what “key” means.  Second, I wonder when.  Under the bankruptcy law, no old debt can be paid except as part of the plan when the company comes out of bankruptcy.  However, bankruptcy judges have wide discretion and you probably remember Quiksilver getting the court’s permission to pay some important suppliers.  Wonder if they called them “key?”

Third, I wonder if paid mean paid in full and, if so, why they didn’t say that.  Fourth and finally, I wonder how much, if anything, suppliers who aren’t “key” will get paid.

On the liability side of the balance sheet, accounts payable rose 17.8% from $36.8 to $43.3 million.  The line of credit was $0 last year and $18 million at this year’s end.  PacSun had told us they expected to borrow up to $35 million for inventory and to pay “most” of the advance back by year end.

Current portion of long term debt went from $541,000 to $77.4 million at January 31 as the note to Golden Gate came to within a year of being due.  Long term saw a similar drop, from $94.4 to $26.8 million.  PacSun also has long term debt for a mortgage on a facility they own.

Equity is a negative $15.5 million compared to negative $9.4 million at the end of last year.

Though I can’t quantify them, I see the significant financial benefits that will accrue to PacSun under the proposed plan.  But retail conditions remain somewhere between difficult and brutal and I’m still waiting to be completely convinced that PacSun can again become a destination store for its target customers.