Fat Lady Sings. K2 Buys Ride

K2’s purchase of Ride, announced on July 22 and expected to close within 100 days, is as close as we’ll ever get to a capstone on consolidation.

We all were intellectually aware of consolidation, but this makes you aware in your gut. Burton and K2 now control what I’d estimate to be 65 percent of the U. S. snowboard hard goods market. Add Salomon and Rossignol and the number jumps to north of 75 percent. The number two, independent, snowboard only brand in North America is now Sims
Three questions:
 
·         What the deal?
·         What does it mean for the industry?
·         How is K2 going to manage it?
 
The Deal
 
The only info we’ve got on the deal comes from the press release and Ride’s 8K filing with the Securities and Exchange Commission. K2 is buying the common stock of Ride. That is, it’s buying the whole company- not the assets like in the Morrow deal and so many other snowboard deals.
 
So K2 gets all the assets and all the liabilities, known and unknown. If a two-year-old Ride binding blows up, somebody is hurt, and Ride is sued, K2 will be responsible. In an asset deal, they typically would not be- which is one reason asset deals are often popular.
 
Ride’s stock will be acquired in exchange for K2 common stock. Ride shareholders will receive K2 shares “with an approximate value of $1.00 for each share of Ride stock owned.” Given the number of Ride shares outstanding, that means a purchase price of around $14.3 million. Both boards of directors have approved the deal. One of the reasons it will take so long to close is that Ride shareholders have to approve the deal as well.
 
The deal is being structured so it’s tax free to Ride’s shareholders. Ride’s directors have already agreed to vote their shares in favor of the deal.
 
To get Ride from the July 22 agreement date to closing, K2 has agreed to extend $2 million in interim financing to Ride in exchange of a promissory note that can be converted into Ride stock. The note’s initial interest rate is eight percent. That rate increases one percent every 180 days up to a maximum of eighteen percent on the unpaid portion of the note and any accrued interest, however the notes is payable in full on November 19, 1999.
 
The note is convertible by K2 at any time into Ride’s cumulative convertible preferred stock and is automatically converted under certain circumstances if the merger agreement between K2 and Ride is terminated. K2 would get one share of the convertible preferred stock for each dollar that is still owed from the principal and unpaid interest of the note.
If somebody else buys Ride, or agrees to buy ride, before the note is repaid or converted, K2 can demand to be paid in cash for up to a year based on the price of Ride’s stock (which could go up if a better deal comes along).
 
Ride, as a public company, has an obligation to consider any better offers that come along. This note is structured not only to give Ride working capital to get it through the period until closing, but to make it less likely that any such deal will come along. If the deal with K2 closes, there’s nothing but intercompany debt that gets eliminated in consolidation and doesn’t much matter.
 
As another step in keeping Ride operational until the deal closes, the two companies have agreed that K2 will acquire Ride bindings with an approximate cost of $700,000 and assume Ride’s obligations to ship Ride customer orders of approximately $8.4 million in bindings and apparel. K2 will purchase approximately $4 million in inventory from Ride’s vendors to fill these orders.
 
What’s it all mean? The two companies are getting so far into bed with each other before the deal closes that it’s unlikely it won’t close or that another buyer will come along.  
 
The transaction will be accounted for as a purchase rather than a pooling, and now I’ve put my foot in it because I have to explain the difference.
 
First, if you buy assets, you assign values to the assets based on what they are really worth. So is you’re buying accounts receivable for $100,000, but know that only 85 percent are collectible you’d “allocate” $85,000 of the purchase price to those receivables. After you’ve allocated as much of the purchase price as you can to the assets, the rest is allocated to goodwill. Goodwill sits on your balance sheet and has to be amortized (taken as an expense some at a time) over a period of many years, but isn’t deductible for tax purposes.   In addition, no bank ever thinks good will is worth anything when considering whether or not to lend you money.
 
Allocation of purchase price in an asset deal also has a major impact on who pays what tax when the deal closes, but since this isn’t an asset deal and I hate it when readers fall asleep, we’ll skip that. You’re welcome.
 
A pooling is a straight exchange of stock where the values on the two company’s balance sheets are added up. No goodwill is created. No assets are written up or down and there’s no allocation of purchase price. The only adjustments are the netting out of any inter-company debts (amounts the two companies owe each other).
 
K2 is buying Ride’s stock with its stock, but it’s not a pooling because Ride shareholders are getting a certain value per share- not just K2 shares with a value completely dependent on the market. It’s a purchase. That’s what the Financial Accounting Standards Board says, so that’s the way it is.
 
Once K2 knows exactly how many shares it’s exchanging for Ride, and the market price of those shares at closing, it will know how many dollars it paid for Ride by multiplying the market price of each share by the number of shares they are giving Ride shareholders. The accounting interpretation of the deal is that K2 is buying Ride’s equity, a balance sheet number. At March 31, that number was 16.1 million dollars. I’m sure it’s lower now. I wouldn’t be surprised if it’s around 14.3 million dollars.
 
To the extent that the purchase price is higher or lower than Ride’s actual equity at closing, other balance sheet items will be adjusted to reflect fair market values. For example, if the purchase price is $100,000 higher than the value of Ride’s equity at closing, the value of other Ride assets will have to be increased, to a maximum of $100,00 if what they are really worth justified such an increase. To the extent that those adjustments don’t account for the difference between Ride’s equity and K2’s purchase price, goodwill is adjusted. It looks in this case like the purchase price will end up being somewhere close to Ride’s equity, so adjustments should be minor.
 
That’s enough of that. This article is in serious danger of turning into a lecture on acquisition accounting.
 
So what’s the deal worth anyway? The easy answer is that it’s worth the approximately $14.3 million in K2 stock Ride shareholders are receiving. That’s not a bad answer, but let’s go a little further, keeping in mind that there’s rarely a right answer when you value companies.
 
Ride’s March 31 balance sheet showed thirty two million dollars in assets and sixteen million dollars in liabilities. K2 gets all those as part of the purchase. The assets include $8.5 million in goodwill and $5.4 million in net plant and equipment. If I were K2 trying to figure out the value of Ride, I’d call the goodwill zero. I’d write down the plant and equipment. How much would depend on what use I was going to make of the factory. Let’s say they cut it in half, making the realizable value of the Ride assets around $20 million. The liabilities, as usual, are all real.
 
Let’s say that K2 could liquidate the assets for $20 and pay off the liabilities for $16 million. It doesn’t work that way of course, but if it did K2 would have $4 million in the bank. So they would have paid stock worth $14.3 million less $4 million in net assets, or $10.3 million basically for Ride’s trade name and order book.
 
But you can’t realize the value of that trade name and order book unless you operate the business. To do that, you have to invest a certain amount of permanent working capital. Ride didn’t have the working capital it needed. In a nutshell, that’s why it had to sell. My guesstimate, depending on the expense reductions K2 can find to reduce overall operating costs, is that K2 is going to have to invest maybe more than$10 million in Ride in additional to the $4 million in net assets that’s already in there. My guess is that Ride’s bank (owed $8.5 million at March 31) is going to want to be paid off and certain unsecured creditors who have been waiting a long time for their money will also have to be paid. 
 
K2, therefore, may look at it’s cost to buy Ride as not only the value of the equity it gave up, but as the additional capital they have to invest to normalize the balance sheet- $24 million in total or maybe higher. If Ride had been capitalized normally, that whole amount, and probably more, would have accrued to Ride’s shareholders. But K2’s offer was based on what it would cost them not only to buy but to operate Ride regardless of whether it went to the shareholders or not.
 
Good deal or bad deal? K2 got a good deal. Did Ride shareholders get screwed? Not given the alternative. My sense is that Ride’s management found the buyer to whom Ride has the most value. Furthermore, Ride’s balance sheet and recent public information suggest that cash flow issues were severe enough that scenarios where shareholders got less than one dollar per share were possible. Like a whole lot less. Like the big goose egg.
 
All of the web whiners who are bitching and moaning about this deal ought to give Ride employees credit for performing some operational miracles under impossibly difficult circumstances not of their making.
 
If you want to blame somebody, check out the nearest mirror. The person you’re looking at bought an over priced stock in an industry facing an inevitable and predictable consolidation. 
 
Industry Impact
 
Ride and Morrow are gone as independent snowboard companies. Atlantis, Division 23 and Type A are, in my judgment, unlikely to resurface as strong specialty brands. To Forum, Sims, Palmer, Never Summer, Option and maybe a couple of other brands this could be an opportunity depending on retailers’ perception of the deal. One brand I’ve talked with is already getting calls from retailers who were prepared to buy Ride but are reluctant to buy “another K2 brand.”
 
The strategic line between the niche players and the big companies are as clearly drawn as you could ever expect to see. If any single action can be said to mark the end of snowboarding’s consolidation phase, this deal is it.
 
Specialty brands can exist in their niches and maybe grow a little. But it’s financially unlikely that anybody will start another one. Those niche brands that exist don’t have the economies of scale, distribution leverage, and marketing dollars they need to chase the big players. And as independent companies, they probably never will.
 
Then there’s Burton with something like forty five percent of the U.S. market. They are left standing alone with the cache of a niche brand, but on an international scale, and the leverage of a large company. Ain’t nothing to analyze there. My guess is that they are thrilled with this deal.
 
As I indicated, some retailers may have some resistance to putting more eggs in the K2 basket. But if the consumer wants Ride boards, and K2 offers good terms, prices, service, quality and promotion, the retailers will pretty much get over it. They have before.
 
I would expect the complete programs from Morrow and Ride to improve as a result of being part of a larger, financially stable organization. And the production of boards in China is going to produce some price points that retailers aren’t going to be able to live without.
 
Sean- I don’t really want to add here what you added. I think I ask and answer the question you raise in the next section.
 
K2’s Decisions
 
What I think was the opportunistic purchase of Morrow (it was too good a deal to turn down) seems to have transformed itself into a strategy with the purchase of Ride. Of course, we don’t know exactly what that strategy is yet. K2 now has five snowboard brands, with K2, Morrow, Ride, Liquid and 5150. How do they get positioned against each other? How many of those brands can you imagine one retailer buying? If I were doing it, I’d make K2 the ski shop brand. I’d retain Brad Steward (between movies, of course) to consult on repositioning Morrow as the quirky brand it use to be. Liquid would be for the mass-market channel, and Ride for specialty shops, but with a more mainstream profile and higher volume than Morrow. I’m fresh out of market positions and have no idea what I’d do with 5150. Whatever the positioning decisions are, I’ll be interested to see if all five are retained. I wonder what Cass would pay for Liquid? I’d really like to leave this in. Let’s talk.
 
Even excluding the distribution issues, managing five brands against each other in the same organization is tough. I’m reminded that one of Bob Hall’s first pronouncements on becoming CEO of Ride was that the company had too many brands.
 
Of course, some of the brands he eliminated didn’t have enough volume to justify the required advertising and promotional expenditures, and I don’t think K2 faces that. Still, there are some obvious conflicts as K2 works to restructure its organization to manage the five brands.
 
For instance, you just know that the financial guys at K2 are sharpening their knives to slice expenses and walking around muttering stuff about synergies. And certainly K2doesn’t need two warehouses, credit departments, computer systems, purchasing departments, etc.
 
Maybe they don’t need two factories. Yet maintaining brand integrity means keeping sales and marketing separate. Will they have separate customer service departments with people dedicated to brands or will the temptation to have one group that answers the phone “snowboard customer service!” win out? Will all the invoices the retailers receive look the same except for the brand name?   How many brands will be made in the same factory? Will the T-shirts and beanies all be the same but with different logos? In a thousand ways, none of which, by itself, probably matters, the identity of the brands can be subverted in the perfectly reasonable pursuit of operational efficiencies.
 
I’m not saying it will happen, but making sure it doesn’t is a hell of a challenge. It’s not easy to be passionate about five brands at once.
 
SIDEBAR
 
Things to Watch
 
1)             Who’s going to run what brands?
2)             What will happen to Ride’s factory?
3)             What will be the fate of the Device step-in system and the lawsuit with Vans (Switch)?
4)             How will be product development be managed among the different brands?
5)             I’m sure we’ll figure out some more to add.

 

 

I Feel a Whole Lot More Like I Do Now Than I Did a Little While Ago; My Take on ASR

I’m not entirely sure what the title of this article means, but I’m pretty certain it applies to the skateboard industry. Conditioned as I am by the snowboard industry consolidation, I went to ASR expecting to observe a similar process. Subjectively, it seemed like the show wasn’t quite so crowded, and things were more business like, but there weren’t dozens of companies missing and multiple unused booths. And there were some small companies saying and doing the kind of things that made me think they might be around a while.

 
Don’t get too excited. Not for a moment am I going to suggest that skateboarding is in any way immune to typical business cycles. But there may be some forces at work that will allow the process of industry maturation be a little less painful, or at least draw out the agony over a longer period of time. I’m not sure if that’s good or bad.
 
So here’s the plan. Let’s decide what we mean by “the skateboarding industry,” review how consolidating industries change, look at a couple of industry trends that may make it easier to deal with, and then, to conclude with a happy feeling, look at some of the positive things I think I spotted at ASR.
 
Who Are We?
 
This use to be easy to answer. A company in the skateboard industry was any brand or retailer that sold skateboards and/or any other hard goods. Probably they also sold some soft goods but, at least in the case of the brands, those tended to be promotional and if they happened to make money on them, great. Now you’ve got skate shoe companies and skate clothing companies and shoes and clothing are an important component of any retailer’s sales. Are they still skate companies?
 
When you sold a skateboard, you could reliably assume it was to somebody who was going to actually go skateboarding. That’s not so clear when you sell a pair of skate shoes or some skate clothing. I’m going to guess that an increasing percentage of non-hard goods sales are going to people who don’t skateboard. Are companies who don’t sell hard goods and who sell a bunch of product to non-skaters industry companies?
 
Have a great time arguing over that. Since I seem to have a 5,000-word story I have to write in 1,500 words, I’d better move on. The point I’d like to make is that the industry has evolved so that, for better or worse, it’s no longer just defined by people skate, but by people interested in the image, attitude and lifestyle of skating. And by companies with a lot of money who are having a hard time understanding the sport. I’ll get back to this when I talk about industry trends.
 
Trends in Consolidating Industries
 
I’ve said this all before. Just check out the sidebar to refresh your memories, think about it for a minute or two, and we can move on.
 
SIDEBAR
 
Changes in Consolidating Industries
 
·         More competition for market share. Competitors become more aggressive because they realize their survival is at stake.
·         New products and applications become harder to develop.
·         Dealer margins fall, but dealer power increases.
·         Industry profits fall during the transition period. Cash flow declines when it is needed most. Raising capital becomes very difficult.
·         There is the danger of over capacity and turning the product into a commodity (Repeat after me- “Blanks are sure swell!”).
·         A new basis of competition is required for successful companies, but past industry euphoria makes changing difficult.
·         There’s a bunch of irrational competitive behavior. “It won’t happen to me” is an idea frequently expressed by companies waiting for their competitors to falter.
 
Industry Trends and Circumstances
 
Not all the changes in consolidating industries happen at the same time to all companies. Nor do they all occur with equal strength. In skateboarding, there are a number of reasons consolidation doesn’t seem to be occurring in a textbook way.
 
The industry is not extremely seasonal.   Retailers aren’t being offered 120-day terms by manufacturers. There are no long lead times on making and delivering product.   Inventory turns, let’s say, four to six times a year (my guess). Manufacturing technology is simple enough, or well enough established at least, that no huge investments are required and yield is high.
 
All those things mean that the working capital investment required in skateboarding is comparatively easier to manage than in some other industries. So the financial pressures on marginal players is less. It also means that it’s easier to get in, and to get out, of this industry. Due to extreme seasonality and the timing of the product cycle, there was never a good time for a company to exit snowboarding.
 
I’m not suggesting that things are easy financially. Low hard goods margins, blank decks, and difficulty differentiating one company’s product from another’s means you have to spend more on advertising ad promotion exactly when margins are declining. That creates a bias in favor of larger companies that move more volume because it gives them more gross margin dollars to work with.
 
But maybe financial pressures will be increasing. I talked to one large company that sells skate shoes (among other things) at the show that mentioned how they were starting to offer 60 day terms to select retail accounts. And so it begins.
 
There is no leading, clearly dominant company in the industry. My guess is that the single largest hard goods company sells no more than $15 million annually in decks, wheels, and trucks. In snowboarding, Burton, with a market share in excess of 50% a few years ago, had the market leverage to set the bar for successful competitors. An awful lot couldn’t get over it. Nobody can set that bar in skateboarding at this time. It’s interesting to note that some of the larger shoe and soft goods companies appear to be at least double the size of the hard goods leaders based on revenue.
 
Skateboarding is operating in a roaring economy, with income and spending growing, interest rates low, lots of wealth created in the stock market and jobs for anybody who wants one. Now add to that 60 million young people between five and twenty born between 1979 and 1994. Levi’s, Converse and Nike aren’t cool any more. But their long-term success requires that they make an impression on this group, whose spending habits aren’t formed yet and the largest chunk of who are still ten years or so away from adolescence. So they are interested in skateboarding and other activities that are part of this group’s culture. Not because they want t sell skateboards- they could take the whole skateboard hard goods business and it wouldn’t have a material impact on their bottom lines- but because they want their involvement with the sport/lifestyle/attitude to give them credibility with this group.
 
The (Probably) Good News
 
So we’ve got a strong economy, favorable demographics for the next ten years or so, and big money interested in the sport.   For the reasons I mentioned above, the financial environment could be a lot more difficult than it is right now. That’s especially true if you define the skateboarding industry to include clothing and shoes- which, to answer the question I raised earlier, I think you have to do.
 
Some smaller companies seem to be making some good decisions. At ASR I heard people talk about cutting teams to get costs in line with measurable financial benefits. There were comments like, “I’m not going to run an advertising campaign that drives me into the hole financially.” People were acknowledging the similarity of products from company to company and being thoughtful about how to differentiate themselves from their competitors.
 
I suppose you’re only surprised by such common sense ideas and comments if you were around at the peak of the snowboard feeding frenzy, when it was grow at any cost, take market share, find money for just one more ad. The perception was that if you didn’t “establish your position” you were dead meat. That was true. But the cost of establishing your position was as likely to kill you as not establishing it. Turned out it didn’t matter how you died- only that you were dead.
 
Pay attention to the trends in consolidating industries, but recognize that the rapid growth, maturity, and consolidation cycle is more typical of emerging industries. Skateboarding has been around a while. Hard goods, clothing and shoes are all part of skateboarding, but each seems to be at a different point in the cycle. I’d look at them separately. The lack of a dominant company in the industry and the fact that the business isn’t extremely seasonal suggests that more players can survive.
 
In the past, the attention of large companies caused a severe decline in skateboarding. Given the demographics we’ve got, and assuming that skateboarding doesn’t become “uncool” who’s to say that the industry can’t continue to grow at a rate that lets it at least keep its existing percentage share of adolescent males? That doesn’t mean a hundred new hard goods companies. That could only happen if some product innovation lifted margins on hard goods to the point where new, smaller players could compete. I don’t see that happening and expect the lion’s share of any growth in skateboarding to accrue, at least in hard goods, to the existing, larger, companies.
 
Interesting stuff. Let’s talk about it at the Industry Conference in April.

 

 

Hung Over, Jet Lagged, and Sleep Deprived; A View of the Industry from 37,000 Feet

The specialty shop in Vienna was all snowboards and snowboard products. It was mostly last year’s stuff and was all on sale. Word was that financial problems were preventing them from getting new stuff.

Over at a big Intersport store, there was just as much space devoted to snowboard products and the deals were just as good. I’d estimate that roughly the same amount of space was devoted to snowboarding. Thought under construction for the upcoming season, it appeared well laid out, and the people I spoke with seemed knowledgeable.  New product was arriving, and it seemed that only Burton had any hope of holding high price points. New product board pricing for many brands was either at the high or the low end. Last year’s product is apparently taking over as the mid-price product, and there were a couple of boards of almost any brand you could imagine (Heavy Tools lives!)
 
I’m crammed in this tourist class sardine can with circulation to my butt cut off, and for reasons explained by the article title, only half my neurons are firing, but I don’t think the retail situation in the US is much different from what I observed in Vienna. And it’s consistent with what the textbooks and my own experience tell me happens in a maturing industry. Brands either become specialty players with clear market niches or they are larger volume, lower cost producers. If you get stuck in the middle, you’re, well, last year’s board in perpetuity.
 
The Good, the Bad, and the Ugly
 
Apologies to Clint Eastwood, but sometimes when an analogy fits, you just have to steal it. In no particular order we’ve got four classes of snowboard companies right now. Morrow, Ride and Sims are one class- the three companies that are arguably large enough and have enough brand recognition to survive all as specialty brands.  Burton is a class by itself. Third are the brands owned by large companies; K2, Salomon, Rossignol, Nitro and Mervin. Apologies to anybody I missed. Finally, there are the smaller brands that I won’t list. In my judgment, most of them are looking at the same fate at Lamar or Silence. They have enough brand equity to be milked, but the time when they could hope to grow and prosper independently is past. A couple have always focused on being small niche brands, and may be succeeding at that.
 
Morrow, Ride and Sims (place politically correctly in alphabetical order) have all had well publicized financial, management and brand positioning issues. During the feeding frenzy of a few years ago, they all sought to increase their market shares by rapid expansion of distribution. In the process, either by use of multiple brand names or sales through the wrong channels, they got some volume but reduced their brand strength. The impact on their brand’s market positions didn’t become apparent until growth slowed and the torture of consolidation set in. They tried to get big and they tried to be specialty brands. It turned out to be hard to do both.
 
Burton is both large enough and well enough established as a brand that it’s fairly secure as the industry leader. The word “fairly” is thrown in there in recognition of that the fact that although Burton is by far the biggest snowboard brand with the most brand equity, it’s still tiny compared to some other companies involved, or trying to be involved, in snowboarding.
 
Burton did a lot of things right, but two things stand out. First, they were well capitalized when most of their competitors were struggling to find enough dollars to print a decent catalog. Second, the expanded their franchise quickly into soft goods and are shielded, as a result, from some of the hard goods pressures even they aren’t immune to.
 
The smaller brands I didn’t list fit into one of two groups. The ones with a problem are those who use to be more visible in the market, but tried to grow and compete- to be a Morrow-Ride-Sims you could say. Now, they don’t have the money to market their brands and grow. It may be too late to succeed at that strategy anyway. At the same time, price pressures have pushed down their margins, and they have to increase volume to be profitable. They are caught between the proverbial rock and hard place.
 
A couple of smaller brands, like maybe Never Summer and Glissade, have always been focused on being smaller niche players. With a connection to a particular kind of rider or a geographic area, they never tried to be big and so don’t have to be. Consistency in your approach to the market continues to be critical for success.
  
Being a snowboard brand owned by a larger company offers both some opportunities and some challenges. On the one hand, you have the “security” of being part of a larger organization. You share overhead. You don’t need your own warehouse and computer system. You can earn lower margins and still be successful. You have access to some distribution channels that may help make it a little easier to increase sales.
 
On the other hand, you are not one hundred percent a snowboard company and are, to a greater or lesser extent, subject to the ebbs and flows of the overall company’s fortunes. Snowboard brands owned by ski companies have been directly impacted financially by the declining fortunes of the ski business. At least they are still here as snowboard brands. But they aren’t snowboard companies, and it’s likely that there will continue to be some “creative tension” between the snowboard and ski sides of the business. Skiing and snowboarding still seem to be separate changes that don’t entirely understand each other. Some things never change.
 
Which gets us, happily, to the point of the article. As an aside, I’d just like to say that it’s always gratifying to get towards the end and find myself somehow wandering towards the point I started out to make.
 
Snowboard industry evolution is not going to go the way of the ski industry. That is, I don’t expect the industry to work its way down to only half a dozen brands. Snowboarding may have become part of the winter sports business, but it still has some uniqueness to it. Unlike skiing, it’s still driven by lifestyle issues. Music, clothing, attitude are all part of snowboarding. Companies that have ignored that have gotten their asses in a sling. Witness the rise of Forum. Theoretically, it shouldn’t have been able to get started against all the large players in the industry. It is apparently adequately capitalized, is growing at a manageable rate that insures some artificial scarcity, and has a focused market strategy. Confusion, chaos and mistakes by other companies created a market niche for Ride when that brand was created a few years ago. Trying to grow too fast, in my judgment to meet the demands of wall street, cost it momentum and legitimacy in the market it had originally succeeded in.
 
Now other company’s mistakes have created an opportunity for Forum. It will be fun to watch and see if they have learned anything from history- like not to get too greedy. Brand success in snowboarding seems to require meeting the market’s expectations, but not exceeding them. You have to leave the customer just a little hungry.
 
The other reason there is room for more than a handful of companies is demographics. In spite of crossover, in spite of the increasing age of the average snowboarder, this is still a youth driven business, and the demographics suggest it will stay that way for at least the next five to seven years.
 
Retailers probably have to not get too comfortable with the brands they are carrying. What’s hot and what’s not will keep changing. Brands have to keep focused on snowboarding no matter who owns them. People who write columns for trade magazines will have lots to write about.
 
Over the last couple of years, the term “core” is perceived to have lost some of the passion, importance and legitimacy that was once associated with it. But the sport still has its roots there. And it looks like it will for the foreseeable future. Successful companies will have to sell beyond that core, but always have a focus there. That’s our biggest challenge and the reason snowboarding won’t become the ski business.

 

 

Reality Bites; The View from ASR

There was a keg at the IASC hospitality suite at ASR the first evening of the show, and I was drinking a beer with Miki Vuckovich of Transworld Skate and Jim Fitzpatrick of IASC. Into this fairly typical trade show experience walks the comedian Gallagher with his entourage of one. He sits down with his own beer and ten minutes later we’re talking about his new line of educational toys for children based on sub atomic particles and meant to teach them about nuclear physics, or something.

 
I thought the toy line was a good idea, but there was a certain sense of unreality to the encounter and discussion I guess because of the venue and circumstances. And I guess that’s how I’m going to segue into making that chance meeting relevant to ASR and the skate industry; good ideas with a sense of unreality.
 
What They Said
 
Almost every skate company owner/manager I talked with at the show had basically the same things to say. They were concerned with the state of the industry and overall competitive conditions. Specifically,
 
1.     Growth seems to be slowing and profits are harder to come by.
 
2.     Deck margins especially are declining due to blanks and oversupply.
 
3.     There are too many companies with no business reason to exist.
 
4.     There are too many wood shops with too much capacity.
 
5.     The companies that are investing in team and marketing and benefiting the industry are giving a free ride to the companies that don’t.
 
6.     The top five to ten companies in the industry ought to cooperate to stabilize and rationalize the industry, but probably won’t.
 
7.     Differentiating your brand is getting harder. You are faced with the need to spend more marketing dollars exactly when it’s toughest to afford.
 
What’s Been Said Before
 
What they said was pretty much the same thing that’s been said in every industry that has experienced fast growth followed by a period of maturing and slower growth. For example, Harvard Professor Michael Porter in his 1980 book Competitive Strategy said it.
 
Professor Porter who, I am quite sure, hasn’t spend much time skate boarding, took a whole chapter to talk about the transition from fast growth to industry maturity. He noted the following tendencies, and that they are more or less the same in every maturing industry.
 
Slowing growth, he said, means more competition for market share. Because fast growth is no longer supplying opportunities for growth, the focus becomes on attacking the market shares of others. Competitors can become more aggressive, because they realize their survival is at stake. There are lots of misperceptions and irrational retaliations for the perceived and real attacks of others.
 
New products and applications become harder to develop. Don’t look now, but basically a skateboard is a skateboard. My money is on the companies who are continually finding small ways to differentiate their products.
 
International competition increases, according to Dr. Porter. I recently talked with a French snowboard factory that’s started taking shop orders for decks. Easy business he says. He can make money doing as few as fifty decks for a shop.
 
Dealer margins, according to Dr. Porter, will fall. But at the same time their power increases. Kind of makes sense when there are more companies, more products, and less perceived difference among product. Companies looking for a survival strategy will offer retailers lower prices, discounts, maybe some increased dating on orders to try and generate cash flow. Great for the consumer. Not so good for brands and retailers trying to sell a specialty product at higher margins.
 
Industry profits will fall during the transition period, and the fall can be temporary or permanent. Cash flow declines when it is needed most due to lower margins and greater expense incurred in trying to provide better customer service and differentiate “me too” products. Raising capital becomes very difficult. Companies with the smallest market shares are the most affected.
 
There is a danger of over capacity as more and more manufacturers rush in to meet the seemingly endlessly growing demand for this hot product. Over capacity accentuates a tendency towards price warfare. The result I’ve seen with the snowboard is that it became something of a commodity. And there’s a lot more technology and actual product differentiation in a snowboard than in a skateboard.
 
At the end of all this, the whole basis of competition in the industry has changed permanently. The euphoria that can characterize a company’s management style during the fast growth period has to change. Doing more of the same won’t work anymore. When you could grow quickly, raise prices and have high margins you could get away with anything. Hey, cash flow can hide a lot of mistakes.
 
I don’t want to belabor the point, but you might also pick up a copy of the March-April 1997 issue of the Harvard Business Review and read Professor George S. Day’s article called “Strategies for Surviving a Shakeout.”
 
Now I know it sort of stretches the bounds of reality to talk about the Harvard Business Review and the skateboarding industry in the same breath. I talked with professor Day and I think I can assure you he’s never been arrested for skating the railings at city hall. I also know he’s not Richard Novak or George Powell writing under an assumed name.
 
So how come he’s managed to write an article all about the evolution of the skateboarding industry (even though he never uses the word)?
 
What Needs to be Said
 
There’s one, minor, inconvenient, sort of annoying, little fact that has to be faced. Please pay attention. That fact is that skateboarding is no different from any other industry in how it will go through its growth cycle. The companies in the industry will respond to changes in the competitive environment just like companies in any other industry.
 
Every company in the industry will do what it perceives to be in its own best interest. Each will create a projected scenario explaining how it will be a successful survivor while its competitors succumb to changing competitive pressures. Failing companies will resist closing their doors even when every objective analysis of their risk and potential return indicates that they should. Ultimately, only companies with a clear competitive advantage under the new market conditions will survive.
 
Each will truly want to support the industry, but won’t be able to agree with other companies exactly what that means. As a result the “you first” principal will tend to prevail and each will wait for somebody else to step up to the plate as the leader. That is probably inevitable in an industry where there is no clearly dominant company.
 
What Should You Do?
 
My suggestion is that you start by accepting two facts:
 
1.     The basis for competition has changed and is changing in predictable ways. The “good old days,” if they ever existed, aren’t coming back.
 
2.     Fact one is really important.
 
If you accept this, then it’s time to start recreating your business to succeed in the new competitive reality.
 
Begin by not chasing market share. Not that market share is a bad thing, but blindly chasing it in a competitive frenzy often leads to a financial disaster. Remember that any company can get one hundred percent market share- all they need to do is give away the product. Unless, of course, somebody else does the same thing, in which case I suppose you’d have to pay the customer to take your product. But hey, you’d have a big market share!
 
Which is a somewhat sarcastic way of saying that your competitive strategy has to be tied to your financial capabilities. Try this. Realistically, what can you expect your gross profit margin to be? What are your general and administrative expenses for the year? What do you need to spend on sales and marketing to have a chance at a viable marketing position? What other money do you have to spend on interest, taxes, commissions, etc? Now add twenty percent to your total estimated expenses for stuff you couldn’t have imagined would happen in your wildest dreams.
 
Given your gross profit margin and these expenses, how much do you have to sell to earn a reasonable profit? Figure it out right now, on the nearest available piece of paper. It shouldn’t take more than twenty minutes. Given the risk you are taking and how hard you’re going to have to work is your business a good deal? Can you sell that much? To give you some perspective, recognize that if you’re earning five percent before taxes, you could be doing just as well in thirty year U. S. Treasury bonds with basically no risk. And no effort on your part.
 
So make some hard decisions. Some business decisions. Don’t let the hype of a trade show substitute for sound business judgment.

 

 

Life in the Real World; Hoisted by My Own Petard

I’ve had the luxury, over the last couple of years, to be able to dispense advice and commentary from the relative safety of an observer’s perch. Suddenly and, amazingly, of my own choosing, I’ve given up a perfectly comfortable life style to reenter the snowboard management fray. I must be out of my mind.

I’ve done this at a time when the snowboard industry consolidation, if measured by the number of companies, is probably entering its final year. But we’ve become part of the winter sports industry. That industry is going through some hard times, and the continued scurry to embrace snowboarding as its savior is perpetuating some tough and irrational competitive conditions that aren’t going away quickly.
 
When I last sat in the management chair, in the early 90s, industry conditions were, well, just a bit different. Remember when we could sell everything we could get made, there weren’t enough factories to go around, and raising prices ten percent each season was a no brainer? Ah, those were the days.
 
Since that move from management to consulting, I’ve dispensed a bunch of advice in this space. I trust it was at least worth what you paid for it. Four ideas have stuck with me.
 
·       Protect Your Brand Name
·       Know Your Numbers
·       Find a Niche
·       Don’t Kid Yourself
 
How has the relevance of these ideas changed as the industry has involved? Maybe more interestingly, am I taking my own advice? Let’s see.
 
Protect Your Brand Name; It’s All You’ve Got
 
I’m there. I get an “A.” Maximizing sales isn’t the goal. Increasing sales at a respectable rate, selling out every year and earning a profit is. Growing too quickly can mean lower margins and higher short term working capital requirements. Who needs that? The best advertising and promotion that can be done is the kind where the retailers says, “Say, I sold it all at full margin, and when I called to order more, they were all out!” Next ordering season the poor sales rep, with any luck at all, will find himself faced with having to control the increases requested by the shops to make sure they sell out again. And you didn’t spend a single marketing dollar to get that.
 
Then there’s the issue of gray market sales. Avoid them, I’ve said. It’s not that simple. Your distribution can get better year by year, but it will never be pristine. The impact on sales if you arbitrarily cut off all the sales that might be gray market could be too severe. Every snowboard brand has some gray market sales. Everybody. And I think most of us know where they are. When the boards are going to somewhere Hitler and Stalin fought a tank battle, it’s pretty clear they aren’t staying there.
 
Four or five years ago, brand name hardly seemed to be an issue. If it was a snowboard, it sold. With hindsight, it looks obvious that those who succeeded managed to grow while controlling their distribution and bringing some brand equity to their name. It was a fine line to walk. One the one hand, you had to get out of the awkward “tweens,” that level of sales between, say, five and fifteen million dollars where you needed to act like a larger company, but couldn’t afford to. On the other hand, if you tried to push sales too hard, your credibility as a brand suffered. To put it succinctly, you had to perform and grow according to the market’s expectations, but no faster. Too slow or too fast and you were toast.
 
So building your brand was just as important, and difficult, as it is now. It just didn’t seem quite so urgent.   
 
Know Your Numbers; Cash Flow is Everything
 
Opps- so far, I’m only a Cplus to B minus on this one. I’ve got the numbers thanks to some good systems and people. In fact, even as I write this they’re sitting on the desk next to me waiting to be studied, analyzed and dissected (“Crunch me, crunch me!” I hear them whispering). But I’m finding that management issues during the first month or so have left me with precious little time to spend the consecutive hours required to really get into them. I can wing it pretty well because I already know the financial model of a snowboard company, but that’s no excuse.
 
They are also not “my” numbers yet. They’re somebody else’s. Cash flow, I’ve said, is a living, breathing thing. By creating your own model, working with it and thereby internalizing it, you develop certain instincts for how the money moves through a business. In a highly seasonal business like snowboarding, there’s probably nothing more important than the dance of the cash flow. I’m prepared to give myself something of a break on this issue, because I haven’t really been at it long enough to have the necessary gut instinct for this particular company’s cash flow.
 
At a time when everybody is struggling to make a profit, and so few are succeeding, knowing and managing by your numbers should be at the top of everybody’s management priorities. It always should have been there. Five years ago, however, flush with high margins, soaring sales, Japanese prepayments and COD terms to retailers, knowing and working with your numbers didn’t seem quite so compelling. In truth, it wasn’t. You didn’t have to invest as much money, and you got it back sooner. Boy I miss the good old days, where various management miscues could be hidden behind ravenous product demand.
 
 Find a Niche; Know Your Customers and How You Compete
 
I can console myself on this one by remembering that when I gave the advice, I acknowledged that it was not a trivial thing to do. In fact, I said it was time consuming, detail oriented, hard work to really figure out who your customer is. I know the market niche and the basis of the company’s competitive advantage. But as far as what kind of consumers are actually buying the stuff, I haven’t even gotten around to asking the question. Let’s give me an incomplete.
 
And let’s acknowledge that it will always be an incomplete. The process will always be never ending, unless the market stops changing.
 
A niche, it turns out, is a necessary survival mechanism. The hundreds of companies who didn’t have one, or the basis for creating it, aren’t with us any more. Creating a niche is a long term process, and it was five or more years ago, when it didn’t seem to matter, that you had to have begun the process if you wanted a niche you could defend in current business conditions. Some companies found theirs, then lost it in the struggle between growth and credibility I described above. Some stumbled on it, and kept it in spite of themselves.
 
Don’t Kid Yourself; Make the Hard Decisions
 
The rumors are always worse than the truth. Ignoring it won’t make it go away. Change is easier when you make it before you have no choice. Bullshit is inevitably dysfunctional to an organization. Etcetera.
 
We kidded ourselves as an industry for a long time. Sure there was going to be a consolidation, but it would be somebody else who would be the consolidatee. We were brainwashed by the wonder years. No hard decisions required. We couldn’t bring ourselves to believe that snowboarding was just another industry, as susceptible to competitive trends as any other.
 
Guilty. Along with most of you. In my first snowboard management incarnation I was a believer. Even though I knew better from my experience in other industries. The excitement was contagious, the opportunity apparently endless. The bullshit smelled great.
 
Never again. I’ll have fun, but I won’t lose my perspective and objectivity. May I suggest that you shouldn’t either?
 
Well, I guess these four ideas have held up pretty well. They weren’t any more or less valid five or seven years ago then they are now. The irony is that in the past they were easier to ignore, but paying attention to them then might have made consolidation a little more manageable for some companies. Like compounding interest, little changes can have a big impact given the advantage of time.

 

 

News from the North; Lessons for the Snowboard Industry from Canadian Resorts

Last April, I headed to Tremblant for the Canadian Ski Council’s annual symposium on the state of the Canadian resort industry. Naturally, my naïve anticipation of great snowboarding had nothing to do with my decision to go.

Groomed hardpack with mud and rocks sticking through on narrow runs wasn’t what I’d expected. Thanks El Nino. At least it motivated me to go to most of the seminars and presentations. Nor did I miss a single dinner or cocktail party. I’ll be there again next year even if the snow conditions are lousy.
 
One of the presentations I attended was by a gentleman named Richard Basford of Integrated Marketing Strategies. He’d conducted for the Canadian Ski Council their annual Skier/Snowboarder survey and was presenting the preliminary results. Here’s some selected survey results that really jumped out at me.
 
First, Richard said that about 20 percent of the Canadian resorts’ winter visitors were snowboarders. No big surprise there. Then he announced that out of 4,293 responses, only 7 percent considered themselves beginners as skiers (three times skiing or less) and 9 percent considered themselves novices. That’s a total of 16% of the survey that’s just starting to ski. 
 
Now, the numbers for snowboarding were, respectively, 36 percent and 17 percent, for a total of 53 percent who are starting to snowboard.
 
Only fifteen percent of skiers have been skiing for two years or less. The number is 69 percent for snowboarders!
 
Go back and read that again, please. It’s okay- I can wait.
 
By the way, I’m pretty certain that a similar situation exists in the United States. Jim Springs of Leisure Trends presented some numbers at the SIA show in Las Vegas this year that supports that conclusion.
 
I looked around the room at the group of Canadian resort managers and owners who were attending the presentation. They were all sitting there calmly. Nobody asked a question, fainted, said “Oh dear!” or anything. I wondered if they were all hopelessly hung over from the previous evening’s business meetings. Some of them were definitely moving, so they weren’t all dead.
 
If you put a frog in cold water and raise the temperature slowly they say he’ll boil calmly to death rather than jump out. That same type of behavior-denial and perseverance during a period of change- seems to be going on in the winter sports industry right now.
 
For me, that stark, black and white survey was kind of an epiphany.
 
If the number of people starting to ski is relatively low, the drop out rate among beginners is high,and the number of existing skiers is declining due to aging, how many skiers will there be in ten years? In twenty? On the other hand, the percentage of snowboarders new to the sport is high. I’ll bet that the drop out rate is lower than skiing. I’m confident we aren’t starting to retire from snowboarding because of age. Snowboarding is growing, though not as fast as it use to.
 
But snowboarding is only twenty percent of the total. For every twenty snowboarders, there are still eighty skiers. It’s not clear to me that the industry can rely on the growth of snowboarding to make up for the decline in skiing, assuming current trends continue.
 
Somewhere in the bowels of some ski manufacturer or resort group the trends I’ve alluded to have been more thoroughly quantified and analyzed. In a more formal and systematic way, they have reached the same conclusions I’ve reached. That’s why there’s a proposal for the resorts and manufacturers to fund a three-year, $57 million promotional campaign. That’s why summer activities, tubing and mini skis are being embraced and promoted. That’s why individual resorts are upgrading facilities and creating more terrain even as, overall, their financial condition is not improving.
 
What are the implications for the snowboard industry? Two main ones, I think.
 
First, while much of the expected consolidation, measured by number of brands, may be behind us, competitive conditions are still very difficult. The brands may be gone, but most of the production capacity, with its need to keep producing something, still exists. If ski companies can’t make money selling skis (one projection is for pre season ski orders for 1998-99 to be down ten percent or more) they are going to continue to flock to the growing sport of snowboarding.
 
The evolution of the snowboard industry from its entrepreneurial roots as a distinct sport and market to a part of the winter sports industry is already being confirmed by the market segmentation that is occurring. There’s no longer a bias against snowboards made by ski companies and, with the exception of Burton, the success of every independent snow board company seems to be an uphill battle. More and more boards are sold by large companies to which snowboarding is just one of a number of product lines.
 
This industry evolution is consistent with most business theories that suggest you must either compete on price, as a volume producer, or by defining a market niche that will allow you to sustain your competitive position even though you’re more expensive. But the explosion of quality product at lower and lower prices has made it tough to be a traditional niche player. If everybody’s product quality and pricing is basically pretty comparable, that leaves marketing as the primary way to differentiate your brand. 
 
The second implication for the snowboard industry is that what the resorts are doing matters. We’re past the point where just the fact that they let us on the lift is enough.
 
Resort shops are charging manufacturers for space and displays like grocery stores charging for shelf space. Exclusive deals are being made to supply rental fleets- witness Rossignol and Intrawest. Joint promotional efforts are becoming more frequent. It seems like “resort marketing” should start to be a standard category in every snowboard company budget.
 
The Canadian Ski Council survey provided some additional statistics. They may be important as snowboard brands consider their marketing position given the increasing importance of resorts in building a brand. Sixty percent of resort visitors won’t be staying over night. Half expect to board/ski for only one day on a given trip. Seventy six percent live two or less hours from the mountains they visited.
 
Perhaps this says something about the location of the shops snowboard companies should focus on. Maybe there are products that can be developed just for the day boarder. Maybe we should be providing benches and lockers, or at least having banners, in the day lodges.
 
I’m beginning to believe that snowboard brands should be interested in building relationships with some local resorts and sharing information with them for the benefit both of the company and the resort. I’d try and use the resort’s perspective, and information they would hopefully share on the composition of their visitors, to help me differentiate my brand.
 
We’ve all talked about our period of consolidation ending. If that is measured by stabilization in the number of snowboard brands, we can expect to be there in less than a year. But the end of the brand consolidation should not be assumed to imply a return to a more rational competitive environment.
 
The snowboard industry is not the distinct industry it use to be. It’s part of the winter sports industry and subject more than ever to the trials and tribulations of the ski companies and resorts.
 

We can learn a lot by looking at who’s visiting resorts and what they are doing while they are there. Maybe we can even help the resorts deal with some of their own competitive issues

 

Building a Business; Issues for Would be Skate Entrepreneurs

When a market gets hot, people start companies.   Where the capital costs and entry barriers are low, they start more rather than less. When there’s enthusiasm for the industry and the lifestyle, they often start them for all the wrong reasons, and without adequate or any business planning. It looks like easy money, but it usually isn’t. 

 
Well, God bless naïve, enthusiastic entrepreneurs because if everybody understood the risks and stresses of starting new businesses, none would ever be started. I don’t want to discourage anybody from starting their business, but I’d like them to know what they are getting into, what’s going to happen if they have some early success, and why it’s too late to begin when the market is already hot. The genius of the entrepreneur is in starting his or her business before everybody else sees the opportunity.
 
Just for fun, let’s say you want to start an independent street shoe company. Now? Today? Okay, okay, stop laughing. Pretend it’s two years ago.
 
In the Beginning
 
You’re a sponsored skater with a good reputation, and a following among local retailers. You don’t like the shoes available to you. Conversations with retailers you know make it “obvious” they’d be receptive to some new colors and designs. Response to your color sketches and description is positive. “Cool! We’ll buy them for sure,” they say almost without exception.
 
“Kaching!!!” you think. Easy money, here I come. Not that anybody gets into the business for the money of course…….
 
Let’s make this simple. Magically, you’re through the product development cycle and are ready for production. You did all the work yourself.   A friend introduces you to a manufacturer who loves you and your shoes so much he agrees to produce a thousand pairs with no up front money and to give you 60 days after delivery to pay. Orders from some retailers materialize, though not from everybody who said they would buy and not always as large as you’d like. You successfully grovel, taking the “I’m just a poor skate entrepreneur” approach to your new customers, and they reluctantly agree to pay you cash on delivery.
 
Your shoes arrive on time (right). All the people who said they’d buy your shoes buy them (sure they do). They all pay you cash as promised (uh-huh). You put the money in the bank and earn interest until you have to pay the factory that made the shoes for you. The shoes all sell through great (of course). Reorders flow in like water over Niagara Falls during the rainy season. What a terrific business this is. Here’s what your income statement for this little business looks like after the first 1,000 pair.
 
Net Sales                                                          $25,000            
Cost of Goods                                                  $15,000
Gross Profit                                                      $10,000 (40 percent)
 
Operating Expenses                                          $2.000
 
Pretax Income                                                   $8,000
 
Remember that everything went perfectly. Also, you worked for yourself for free and did everything yourself. Your operating expense was almost all for travel and communications. At the end of the day, you’ve got yourself a nice little 32 percent profit margin. Isn’t that wonderful!
 
Having run a distributor that was selling imported product, I am here to tell you that everything working right is a full-on, drug induced, hit your head while skating without a helmet, hallucination.
 
But it’s a great hallucination to have, so let’s assume it continues except for a couple of little things. You’re so hot that your next order is for 10,000 pairs.
 
The Next Step Up
 
Your supplier still likes you but, hey, this is business. With an order that size, he wants a letter of credit or a deposit up front, and you’ll have to pay him the balance when he ships the shoes. Remember, though, that this is a hallucination, so he gives you a break and says you just need to pay him when the shoes ship.
 
Your retailers still like you but, hey, this is business (you’re starting to hear that a lot as your company grows). They want 45 -day terms just like they say they get from the other companies. The 10,000 pair cost you $150,000 including freight and duty.  Your supplier says, “I’m ready to ship, send the money.”
 
Details like this can really put a damper on perfectly good hallucination. The bank won’t lend you any money, your credit card limit isn’t quite that big and none of those lottery tickets you’ve bought have been winners. You need $150,000 or you’re out of business. Let’s assume somebody comes along and lends you the money for only an exorbitant interest rate and doesn’t want 50% of the equity in your company to do it. Remember, this is a pleasant hallucination.
 
The shoes are delivered to you and, in turn, to your customers. You’ve sold the shoes, you’ve got the same 40 percent gross profit that you had when you sold 1,000 pair, but this time it’s 40 percent of $250,000 or $100,000.
 
Inconvenient Realities
 
The expense side looks a little different though. You had to get some help warehousing and delivering the product. Retailers want some service so you need some phone lines and somebody to answer them. Some promotional product has to go out the door for free. The guy you borrowed the $150,000 from wants interest. You’re still making money at the bottom line, but that 32 pretax margin has evaporated. Maybe if you’re lucky it’s still as high as 15 percent but heading south fast as you become an established company.
 
Oh, and by the way, you’ve got no cash. You retailers aren’t paying you for 45 days and, strangely enough, not all the cash shows up exactly on the 45th day. But the people you’re hiring to man the phones and deliver the product don’t seem to want to wait 45 days to get paid. It’s the lament of the entrepreneur to their accountant- if I’m making so much money, how come I can’t pay my bills!?!?!?!
 
Now, awaking from our dreamlike state, we find that the supplier wants a letter of credit before he’ll produce any more, and the order isn’t really big enough to get his attention anyway. Retailers are asking about your team and your promotion budget. Some shoes sell and some don’t. Certain retailers you really want to be in want a credit for the ones that haven’t moved. There’s so much to do that you need to hire more people to help you. The government wants you to fill out a bunch of paperwork, and they want their piece too. You’ve got every cent you can find invested in the business and it’s barely enough-for the moment.
 
Congratulations- you’re no longer an entrepreneur, you’ve a manager. Overall, your income has increased. But your net margin on each pair of shoes sold has declined as the cost of running the business gets bigger.
 
You didn’t do anything wrong. This is all normal stuff. Every time volume increases and margins decline, more working capital has to be invested in the business. Working capital is nothing but the money you have to spend to pay bills, get product made and market your brand while you wait for retailers to pay you. Almost every successful, growing business I’ve ever seen has working capital crunches as a normal part of growth.
 
Managing by the Numbers
 
What can you do to avoid this financial hang grenade?   Nothing. It comes with being in business. But you can try and minimize its impact by a little planning. Do it on a computer or with a piece of paper. Here’s a format I’ve used with some success in a variety of businesses. Don’t get fixated by the categories I’ve used. Change them to work for your business.
 
                                                            Jan.      Feb.     March. Etc.
 
Beginning Cash Balance
Sources of Cash
            Cash Sales
            Collection of Receivables
            Borrowings
            Other
Total Sources of Cash
 
Total Cash Available
 
Uses of Cash
            Product Purchases
            Payroll
            Rent
            Utilities
            Advertising
            Phone/Fax
            Etc.
Total Uses of Cash
 
Ending Cash Balance
 
The beginning cash balance is probably whatever is in your checking account. The ending cash balance each month becomes the beginning cash balance for the next period. Depending on how quickly your situation is changing, your estimate of expenses can usually be based on your historical experience. But remember that just because you get your phone bill in July doesn’t mean you pay it that month. Typical many of your operating expenses will be paid in the month following receipts, and your cash flow has to take this into account.
 
Don’t get too caught up in the process of creating a perfect model. Get it done and work with it. Modify it as you learn more. Look at your projections versus what actually happens. Creating the model isn’t really where you get the benefit. Using it and watching the variables change with each other is.  It’s a lot like learning a language. You only get better with practice and as soon as you stop speaking it, you start to lose it.
 
Rules to Live by
 
Rule one, then, is don’t try to grow your business faster than you can finance it.
 
Rule two for the budding skate entrepreneur is to know the difference between starting a company and running one. Get the help you need.
 
Rule three is that it’s easy to sell when you’re new and small, and harder as you grow. Know how you’re going to compete.
 
Follow these three rules and maybe the glamour of having your own company won’t wear off so quickly.

 

 

Just Who Are We Anyway? Perceptions of Market and Industry Evolution

One day, a few years ago, we looked up and had become “the snowboard industry.” Growth, friends, good margins, optimism, an endearing naivete about the future and a quotient of bullshit was all part of what made it fun. The boundaries were clear. We were on the right side of that boundary and knew what was up. If you were on the other side, you didn’t. It was simple. We sold snowboards to snowboarders.

But fast growth and high margins can create an illusionary sense of control and invincibility. When these went away, the boundaries collapsed along with an awful lot of brands. Now it seems like the snowboard industry, for practical purposes, has become a piece of the winter sports industry. The retailers, the resorts, the ski companies, and everybody who is interested in hitching their star to the alternative sports market all have or want a piece of snowboarding- or at least of what snowboarding represents. Take Mountain Dew as an example. It doesn’t want to sell snowboard products, but it wants to be legitimized in the eyes of the consumer the snowboard market represents.
The reason that’s so important to Mountain Dew and others is because the Echo Boom Generation- loosely defined as the thirteen to twenty-five year olds- is projected to grow at a compound rate approaching fifteen percent between 1995 and 2005. There are a lot of them, and they have money to spend.
It’s no longer simple, and it’s not just about selling snowboards to snowboarders. At its 1998 annual shareholders’ meeting,  Ride Sports (note the previously announced new company name) CEO Bob Hall talked about the company’s mission as “creatively marketing high quality, technologically innovative contemporary sports products and extending those brands into apparel.”   Burton has started a shoe business. Morrow owned West Beach has a summer clothing line.
These companies are not just selling a product. They’re building brand equity with the goal of servicing the broader needs and interests of their target market. If the brand is legitimate in the eyes of that target market, they can sell an awful lot besides snowboards. And they can sell it at good margins.
In the past, I’ve called this market evolution “homogenization.”   That continues to be a good term. But it might be construed as implying a high level of “sameness” to a much larger action-sports market. In fact, what you’ve got is an increasing overlap among what use to be smaller, distinct segments: snowboarding, skateboarding, wakeboarding, etc. The boundaries have gotten fuzzy, as lifestyle and attitude become more important to a larger market.
What does this means for companies, resorts and retailers? They share some of the same strategic business issues, and are increasingly dependent on each other. Maybe they were always dependent, but they are recognizing the dependence and, in fact, seeing it as an opportunity.
Companies
Transworld Snowboarding Buyers’ Guide includes around seventy-five board brands.  I counted only around fifty exhibiting at Vegas. Once there were over 300.  The number will decline further. Most of the “How are you guys doing” calls I make seem to end up discussing layoffs and budget cuts. Orders are up for the coming season, but up twenty percent when you were down fifty percent the year before doesn’t cut it. Breakeven points are up. Everybody seems to be talking to everybody else about merging or being acquired. Making it as a snowboard-product-only company is tough.
Ski companies, in a declining market, aren’t making money on skis. Rossignol effectively recognized that when it tripled the company’s snowboard marketing budget last season. Salomon makes most of its money on golf.
Successful business strategies for these companies probably involve a year round business and less seasonality, multiple product lines, higher volume, better expense control and the creation of brand equity.
Resorts and Ski Areas
During the ‘85/86 season, there were 52 million visits to U.S. ski areas. In ‘96-97, the number was 52.5 million. If essentially none of those ‘85-86 visits were by snowboarders, and eighteen percent were by snowboarders in ‘96-97, then the number of skiers has declined by eighteen percent. Over that same period the number of North America ski areas has declined by 22 percent.
The 1996-97 Economic Analysis of United States Ski Areas, prepared by the National Ski Areas Association, noted the following trends during that season:
·         Increases in capacity and infrastructure improvement.
·         No change in total revenue per skier/boarder visit.
·         Declines in the net working capital and current ratio measures.
·         A 2.3 percent decline in operating profits and a 9.8 percent decline in pretax income.
Obviously, some of these numbers are open to interpretation, and results vary by region and resort size. But if participation is even (and may decline when snowboarding growth slows), balance sheets are in some sense weaker and profitability is declining, what is the justification for capacity and infrastructure improvements?
Sounds a little like the frantic competition for market share in the snowboard industry that led to product oversupply and a decline in the number of brands from over 300 to 50 and still falling. What’s a ski area to do?
Successful business strategies for resorts and ski areas probably involve a year round business and less seasonality, multiple product lines (golfing, real estate, tubing, etc), higher volume, better expense control and the creation of brand equity.
In fact, that’s what’s happening. Vail, American Ski Company, Intrawest and Booth Creek are purchasing other resorts. They are trying to remake resorts as year round destinations, create purchasing synergies, sell real estate, reduce seasonality and create brand equity they can cross market among their resort locations. Together, these four companies probably account for 35 percent of North American skier/boarder days.
Retailers
The National Sporting Goods Association recently released its Cost of Doing Business Survey for Retail Sporting Goods Stores. The survey is done every other year. It reported the following changes in financial results for full-line and specialty sport shops between 1995 and 1997.
                                                                        Full-Line Stores             Specialty Sport Shops
                                                                        1997     1995                 1997     1995
Return on Total Assets                                      9.4%     8.6%                 5.3%     9.8%
Return on Net Worth                                          23.3%   15.6%               16.6%   23.9%
Net Operating Profit                                          4.8%     5.0%                 4.1%     4.5%
Gross Margin on Merchandise Sales                  35.9%   34.7%               36.4%   36.5%
The full-line stores’ financial performance seems to have improved, even though their net operating profit declined by four percent. Specialty sports shops saw their performance decline, with operating profit down almost 9 percent.
The United States simply has more retail space than it needs in almost every product category. This is reflected in sporting goods stores in the low net operating profit percentages shown above. Remember that operating profit is before interest expense and taxes, so bottom line returns are even worse. When there is too much of something, the laws of supply and demand kick in and it gets hard to make money. It’s true in snowboard brands and ski resorts as well as sporting goods stores.
My belief is that specialty sport shops are also experiencing the market changes described earlier in this article. They can’t, for example, just sell snowboards to snowboarders any more. They have to cross-market different products to the alternative sports lifestyle market.
Successful business strategies for specialty sport shops probably involve a year round business and less seasonality, multiple product lines, higher volume, better expense control and the creation of brand equity.
A Community of Interest
I’ve used that last sentence three times now to describe what I see as the business imperatives of the ski and snowboard companies, resorts and ski areas and winter sports retailers. They are all operating in oversupplied markets and trying to focus on the same basic consumer group. I expect this emerging common focus to cause them to increasingly coordinate their efforts and evolve new relationships.
For example, we’re already seeing buying groups have more leverage with brands. The large resort groups are beginning to own their own retail space. The resorts are also working directly with the brands to supply their own product needs. Witness Intrawest putting its rental equipment needs out to bid and going with Rossignol. Brands are working with resorts to promote not only their products, but the sports themselves. Salomon made a major effort to work with resorts in promoting mini skis this past season.
What we’ve got going on is a huge change in the market, how it is perceived, and how it’s sold to. Put a dozen small circles of different sizes on a piece of paper, with none of them touching the others. Put one big circle around all of those smaller ones signifying the relative isolation of those related, but distinct markets. Those were the markets we focused on a couple of years ago. Now take those same circles, grow them, and have them intersect with each other in various ways. They don’t all touch each other, but are all connected if only through a common connection with another. And the connections change spontaneously. Finally, make the boundary of the big circle into a dotted line, signifying that it has become porous.
This is our new market. It’s bigger, but tougher to target. There’s greater interdependence. It’s not just composed of enthusiasts. Competitive pressures don’t come only from companies who make the same product you do. Single product/market companies are becoming increasingly rare.
Where do you fit in the new market?

 

 

Future History; What’s the Price of Success

Originally, it was enthusiast driven. People started companies because it was an important part of their lives and they wanted to be part of what was happening. It wasn’t just about a sport- it was an attitude and a lifestyle.

At first bigger companies in related sports weren’t interested because the market wasn’t large enough. When they got interested, they couldn’t figure it out because they just weren’t close enough to it. When the entrepreneurs who created the industry woke up in the morning and looked in the mirror, they saw their customer. No market studies, no focus groups, no statistical analysis. Clearly, obviously and directly they were their customer. If they liked it, the market liked it. They could smirk at the corporate giants in suits trying to figure out what to do, because they knew the giant just didn’t get it.
 
More and more small companies got started. The industry and the participants grew. Hype overtook reality. Product quality improved to the point where there wasn’t much difference among brands, and the consumer started to figure that out. Margins dropped even as companies spent more and more money trying to differentiate a product that wasn’t any different. Making a profit got harder.
 
With growth and acceptance, the sport became more legitimate and more accepted. Big companies decided they had to have a piece of it. Not just because of the sport, but because they wanted access to the customer group it represented and to coop the lifestyle to use in selling other products. They still didn’t really get it, but by buying a couple of successful companies, and throwing a bunch of money around, they changed the market at the same time they legitimized it. The small companies who had created the sport were outraged by what was happening to “their” sport, but outrage didn’t change any basic business principals and pretty soon most of them were out of business.
 
The sport was bigger, and here to stay at a new level. But it had paid a price.
 
I was thinking about snowboarding, not skateboarding. But the industry evolution I described could have been referring to personal computers. Or flush toilets (invented by Thomas J. Crapper- how’s that for your own piece of immortality?). Or automobiles, if we went back to the early decades of the century.   
 
In the past, an explosion of skateboarding popularity has been the prelude to a big decline. Why might that not be the case this time? What, if anything, is unusual about skateboarding that might check the kind of industry evolution I’ve described? What’s the owner of a small skate company to do?
 
What Goes Up……..Could Stay There
 
The thing I really like about the skateboarding business is that you know exactly who your customers are; males age 13-17. Who can blame them for giving up skateboarding for girls and cars when they get a little older? I seem to recall being willing to give up almost anything (my money and self respect for sure) for girls at that age.
 
That age group, according to the census data, is and will be the fastest growing group for the next several years. Check out the information in the chart. It may be that, with the target customer so clearly defined, those numbers are a great predictor of where the skateboarding market is going.
 
With K2 having purchased Planet Earth and other mainstream companies increasingly interested in the sport, it’s clear that Corporate America, for better or worse, has decided skateboarding is worth its attention. They may not understand the sport and its culture; they may not even succeed in becoming part of it. But as they stumble around and throw money at it, they’ll change it as the ski companies have changed snowboarding.  
 
The good news is you may get respect for skaters and acceptance of the sport by a more mainstream group. Hell, you may even be as lucky as snowboarders and get your very own Muppet as a mascot.
 
What’s to Stop It?
 
Typically, a period of rapid growth in an industry is followed by a period of consolidation where the number of companies declines dramatically and the growth rate falls. There’s one reason to hope that the industry might escape that pattern and a couple why, if it doesn’t escape, it might be manageable.
 
The reason you might escape it (though I doubt it) is because the industry is too small to become really interesting to big companies. If they don’t find growth opportunities, they’ll milk the culture and lifestyle in hopes of benefiting their image and other product areas, and then move on. Note that the larger companies becoming interested in skate aren’t like the ski companies; they don’t need skateboarding to survive like ski manufacturers and the resorts need snowboarding.
 
More companies (though not most by a long shot) may hope to survive a consolidation than in snowboarding. This is because of the relatively year around basis of the business, the shorter product cycles, what seem to be selling terms that favor the companies, and the speed with which what’s in and what’s out changes. In short, you don’t have to lose money six to eight months of the year and by being nimble you can compete against bigger companies.
 
But inevitably, the skate industry is already making it harder on itself as companies jockey for position in a growing industry. The proliferation of companies, the declining credibility of the pro model, and blank boards are starting to turn skateboards and their components into a commodity. Which means lower prices and margins. Which means higher breakeven points. Which mean more working capital investments.
 
All of which is fine with any corporate companies looking to stake a claim to the skate market. Because market changes that are financially devastating to a small company are pocket change to them.
 
What’s An Owner to Do?
 
All the outrage over the changes in the industry, the “prostitution” of pro models, the “selling out” that blanks are suppose to represent, the threat of Nike the industry should “stand against” all sounds ominously and sadly familiar. No matter what it does, the skate industry is not going to repeal the laws of economics and human nature. The snowboarding industry shot itself in the foot because each company pursued what it perceived to be in its own best interest. Betcha the skateboard companies do the same thing. Not because it’s good or bad. Just because they will compete to find their most viable position in a changing market.
 
While Powell has come in for some criticism because of its commitment to blanks and mini logos, I applaud their business acumen. By recognizing an emerging industry trend, and by further recognizing that it wasn’t going to go away, Powell prepared itself to benefit from it. Because they were first to move aggressively into the product category, they have positioned themselves between the blanks and the traditional full graphic boards. If they do it right, they may not have to share that niche with anybody else. I haven’t talked to anybody at Powell, and I obviously haven’t seen their financial statements. But I imagine that the cost, volume and margin numbers are pretty compelling.
 
It’s not that Powell doesn’t want to “support the industry.”   But since blanks aren’t going to go away, Powell figures they can support the industry better if they take advantage of the opportunity the evolving market presents. They sure as hell won’t support the industry if they are financially flat on their back because they stood on principal and ignored industry change. If Powell hadn’t done it, somebody else would have. 
 
Don’t forget your principals. By all means support the industry (you might start by joining IASC if you haven’t). But don’t let emotional resistance to change you don’t like prevent you from making good business decisions. In working with companies in financial distress over a period of 10 plus years, I found that they all (not some, not most- all) got into trouble because of denial and perseverance during a period of change. Skateboarding is going through some changes. You change with it.

 

 

Specialty Snowboard Shops and the Industry Consolidation; Who Are They and What’s Happening to Them?

Over the last month, I’ve stopped by eight or ten snowboard retailers in the Northwest. I talked to the owner, manager, or whoever was around and not too busy to talk with me. The number of stores I went in probably isn’t large enough to be statistically significant, the stores were picked based on my personal biases, and I didn’t ask the same questions every where. I told them I wrote for Transworld Biz, so they probably thought they had to humor me rather than throwing me out when they found out I wanted to waste their time and not buy anything.

I had three goals:
 
·         To try and reach a definition of a specialty snowboard shop.
 
·         To find out what the snowboard business has been like for retailers so far this season (I’m writing this in early December).
 
·         To hear from retailers how the industry consolidation was affecting them.
 
Here’s what I think I learned and some conjecture on what it means for the industry.
 
An Attempted Definition
 
We all know one when we see it, but defining the specialty snowboard shop isn’t easy. The word “shop” is important. REI is a specialty store, but it’s not a shop. The consumer also looks at a retailer differently than we who are in the business do. Zumiez’s may look like a specialty shop to some consumers, but with 143 stores, it’s business issues and competitive strategies are a lot different from the sole proprietor with one storefront.
 
Okay, now we’re getting somewhere. A specialty snowboard shop typically has one location, though I guess it could still qualify with a couple. I’d say it occupies something like 2, 000 square feet, though there’s a wide variation in that number. Fifty to seventy five percent of its total annual sales are snowboard related. It usually also sells skate boards and related products. Shoes and surf products are other common lines that are used to round out its offerings and improve summer cash flow.
 
SIDEBAR
 
Street Shoes
 
Everybody is carrying them and everybody is making them. New brands seem to pop up all the time. Distribution is starting to get screwed up and discounts are becoming more and more prevalent. There are no barriers to entry, and no fundamental differences among many shoes except for cosmetics. Differentiating a brand is getting harder. Does this sound familiar to anybody besides me? 
 
END OF SIDEBAR 
 
It’s highly seasonal (I bet you’re all stunned to learn that) and there’s a greater or lesser dependence on supplier financing to manage inventory and seasonality. It’s not located in high rent retail space at the mall. It depends on customer service and a carefully calculated reputation among its clientele to make it a shop people trust and are willing to go out of their way to get to.
 
The owner is running the place or, at the very least, is around an awful lot. Snowboarding is important to their life style. Their customer base, and what they have to do to succeed, is changing as snowboarding gets mainstreamed. If you’re a traditional “core” shop, you may be missing out on growth opportunities that result from the homogenization of the market, because a declining percentage of the total market is the traditional core.
 
So Far This Season
 
At least one thing hasn’t changed in this business- product still arrives late. Nobody told me about boards being late (maybe nobody cares?) but I heard stories about boots, bindings and outerwear. But there’s a difference from previous years. It use to be that if it came in, the specialty shops got it first. I’m getting the impression that the specialty chains with their large orders and resulting leverage with the suppliers are being given some priority. This is another confirmation of how the market is changing.
 
When asked what boards were selling, Burton was named everywhere it was carried and nobody else got consistent mention. The racks were stocked with the usual brands. Literally nowhere, except occasionally on the closeout racks, did I see any boards from any really small brands. At least in the Northwest, literally none (zero, zip, nada) of the small brands that appeared in the feeding frenzy seem to have survived. 
 
The closeout racks weren’t as stocked as I had expected. The smallest number of closeout boards I saw was six. I’d estimate the largest was around thirty. I didn’t get to peek in the back rooms, but it seems like old product (not just boards) was more or less under control in the shops I visited.
 
Boots and bindings are selling well, and clothing seems to be doing better than anything else is. Retailer enthusiasm is directly proportional to gross profit margins. With boards it’s, well, lousy coming in at around thirty to thirty five percent. Boots and bindings are better, and outerwear is king both in terms of sales and margins. The demise of certain clothing companies coupled with selected late delivery by others seems to have balanced supply and demand pretty well, and clothing is moving at keystone.
 
 Retailers are getting fewer calls than they were at this time last year offering them this year’s product at closeout. I heard a number of comments about certain brands already being sold out of product, especially the high-end stuff.
 
More than ever, the shops have to be inviting to boarders’ parents, and prepared to deal with ignorance of the sport and the whole culture. One owner had to stop talking with me to help somebody’s mother pick out a beanie. She wanted to know if it was a snowboarding or skateboarding beanie. He explained it could be used for either, sold it to her with a smile, and continued our conversation.  
 
SIDEBAR
 
Calculating Gross Margin
 
Let’s say you bought a board for $225 and sold it for $346. You’ve earned a thirty five percent margin. Not great but what do you expect for a board? You’re happier if you remembered to take into account your discount and terms when figuring your per item profitability. Reduce your item cost by your volume discount. That’s easy. Now figure out how much money your supplier is lending you at zero interest and what your bank would charge you if you had to borrow that money. This isn’t strictly part of your margin calculation, but it’s an “avoided cost” you should calculate and consider in figuring out what an acceptable margin is.
 
END OF SIDEBAR
 
Impact of Consolidation
 
There are no surprises here. Retailer leverage with suppliers has grown as witnessed by increased terms, better discounts and lower prices. However, as noted above some of that leverage has migrated from the specialty shops to the specialty retail chains because of the sheer size of their orders.
 
Many fewer brands are being carried. There are fewer to carry, and a retailer doesn’t have to be patient with any brand that doesn’t offer product, prices and programs that he doesn’t like. One retailer told me about dropping a brand because they didn’t feel like they saw the rep often enough. 
 
Especially in boards, margins are tougher to hold. This is the result of over supply, and a more sophisticated consumer who has a lot more information and choices and, because she has been overwhelmed by brand claims and counter claims, is less likely to be swayed by advertising.
 
One retailer who also sells skis and other sporting goods equipment but has a separate snowboard shop also pointed out how the relatively small size of the snowboard industry impacts his margins. “Look,” he said, I sell 700 pair of Rossignol skis a year. I sell 400 snowboards total from five brands. Which supplier do you think gives me the best prices and where do you think I earn the higher margin?”
 
A specialty snowboard retailer, then, if they are facing declining margins, has to sell more product and invest more working capital in the business to make the same profit. The implication is that maybe they need to expand their customer base.
 
Which they can probably do. My perception is that the mainstreaming of the snowboard business also means the mainstreaming of the snowboard specialty store. The hard core part of the market is declining as a percent of total business and the retailer can’t ignore that. The fact is that a grungy store with lousy customer service and stuff lying around isn’t going to appeal to what will be, if it isn’t already, the largest part of the market.
 
Successful snowboard specialty shops seem to be entering the mainstream right along with the rest of the industry. No surprise- they’re going where the customers are. If they’ve lost some margin to a more discriminating, less excitable consumer, they’ve gained terms, service, and predictability from a stabilizing, though far from stable, supplier base. Now if only they could have an accurate weather forecast.