Billabong’s Half Yearly Report: Starting Over

Billabong reported their financial results for the six months ended December 31, 2013 last Thursday. I’ve been diving into a hoard of details they posted. After all of that, I think I’m going to end up spending a lot less time than usual on some of those details. 

That’s because I largely agree with a couple of comments from Billabong management in their conference call. I’d like to start by sharing those with you. 
Early in his comments, CEO Neil Fiske said, “…18 months of leadership distraction and organizational turmoil, which impacted all our brands. It is important to recognize that the company’s protracted transactions process hit the Americas region particularly hard. First, by creating a long gap in leadership and subsequently, a significant loss of talent.” 
He goes on to describe the people they have hired, are hiring and have still to hire. Later on he notes, “During the next six months we expect to complete our portfolio review, looking at each brand’s growth plan and fit with our longer term strategy. We will also initiate work on the brand books as guiding documents that are the cornerstone of a new brand management system.” 
Then CFO Pete Meyers, talking about the six months results, says, “Overall a mixed result as Neil has outlined, but somewhat ancient history in the context of the opportunity to reform this business in the years ahead. By the way, you’ll notice that my slides are in the old format and that’s symbolic as they deal almost exclusively with the old Billabong and that the results today predate any impact of the turnaround plans that we’ve shared with you and next time they’ll be in the same style as Neil’s.”
Meanwhile, there will be a major (that is not a strong enough word) and really intriguing reorganization of the company. The Billabong, Element and RVCA brands will each get a global head responsible for global merchandising and marketing. They will each report to the CEO and be responsible for the brand’s income statement. 
However, says CEO Fiske, “…we are not centralizing design or merchandising into any one region. Rather, we are leaving design, merchandise and marketing teams in each region to be close to the market, fast and highly responsive to local customer needs.” 
There will also be regional presidents for each of the Americas, Asia Pacific, and Europe to“…drive sales distribution and channel development in their respective geographies, while providing critical input on customer needs back to the brand teams. They will drive the go to market model for each country based on a newly defined tiering system. Regional leaders will also take responsibility for growing the smaller emerging brands, for example Tigerlily in Asia Pacific or VonZipper in the Americas.”
The third piece of the organization contains the global functions. These will include the CFO, a chief operating office, somebody in charge of human resources and, most interestingly to me, “…a turnaround office leader focused on cost takeout and accelerating the impact of key initiatives.” 
The gentleman they’ve hired in that role (Bennett Nussbaum) has an impressive background in turnaround management and clearly doesn’t need a job. It will be interesting to see how he interfaces with the organization to keep it turnaround focused and how long this job lasts. I’d be curious to know if he reports to Neil Fiske or directly to the Board of Directors. I can imagine him ranging all over the company with quite a degree of discretion. I don’t recall ever hearing about a company hiring a turnaround manager who wasn’t the person in charge, but I think it’s a great idea in these circumstances. 
“The objective of the global support functions is to build global scale capability and efficiency, driving our cost down so we can reinvest in the brands. We can no longer afford to have three regional supply chains, three regional IT structures with different systems, five different direct consumer technology platforms, high cost logistics in fulfilment and underdeveloped human resource management.”
They are going to rely on these cost reductions to fund expanded brand marketing. Finding those cost reductions is part of the responsibility of the Turnaround Office. Their balance sheet doesn’t really give them another choice.
When I was in business school (which is beginning to feel like it was shortly after the second Crusade), they described this kind of organization as a matrix. Which I think is a great way to describe it, because there are definitely going to be some people who wake up and find out they’ve been living in a dream world. 
The positive thing about a matrix organization is that it can facilitate good communications and group the right people to work on an issue. The potential problem is that roles and relationship are sometimes not completely clear. What happens when what the head of the brand wants to do conflicts with the ideas of the regional president? Every organizational structure has its strengths and weaknesses. A matrix structure can be less efficient at decision making. You manage that through constant communication and developing mutual respect and trust. As was noted somewhere in the conference call, I’d love to have the frequent flyer miles these people are going to rack up. 
There are additional changes and reevaluations going on across the company at various levels. You can see why I’m not as focused on the historical financial statements as I might usually be. The company that is going to emerge over the next year or three isn’t going to look like the one that produced these six months results. Lots of different people. A new organization and reporting relationships. A focus on “…fewer, bigger, better stories that cut through the clutter and better align to our key merchandising programs.” Probably fewer brands in total. A reorganization of the marketing function. Fewer SKUs, fewer factories. There’s a lot more. With every month that passes, it’s going to resemble less and less the company who’s financials I’m discussing here. 
But it’s not in my nature to ignore those results, so let’s move on to them now. Remember the numbers are in Australian dollars. 
First, let’s look at the numbers as reported on the financial statements. These include brands that were sold during the year (Nixon, Dakine) as well as a bunch of expenses Billabong characterizes as “significant,” meaning they had to do with the refinancing and restructuring and the big general mess they had to manage. As I’ve said before, I don’t believe that just because you screw up you get to exclude certain expenses from your operating results on, I guess, the promise that you’ll never screw up again. 
Sales from continuing operations rose 3.2% from $563 million in the prior calendar period (pcp) to $580 million. Gross profit margin fell from 54.9% to 53.6%. The pretax loss from continuing operations was $40 million compared to $439 million in the pcp. Operating expenses were up a bit, but what stands out is that last year’s income statement had Other Expenses of $513 million largely from the write down of the brands and goodwill. The number this year was $61 million in charges. Last year’s finance costs, however, were just $10.3 million compared to $57.3 million in the current period. After discontinued operations, we have a bottom line, after tax loss of $126 million compared to a loss of $537 million in the pcp.
Here’s how that breaks down by region as reported, including discontinued operations and significant items. 
Let me point out that the segment EBTDAIs excludes the impairment charges. That’s the “I” on the end. The reason I’m telling you that is because the numbers from the presentation that came with the conference call, which I refer to below, talk about EBITDA. There ain’t no “I” on the end. I’m going to assume that’s a typo, because the segment numbers are the same in both places. 
The big problem, you can see, was in the Americas. “The result,” they tell us, “…reflects weakness in the Canadian market, smaller brands & South America.” We’re specifically told that Sector 9’s revenues were down 20% in the Americas. They also point to what they call “operational instability” in the region due to personnel changes and general uncertainty. “…we believe,” says CEO Fiske, “the decline in the Americas result has much more to do with the organizational turmoil and loss of talent associated with the 18 months of protracted deal related distraction than any underlying issues with the strengths of the brand.” 
There was an as reported EBITDAI margin of negative 5.7% compared to a positive 4.2% in the pcp. For their continuing business, EBITDAI margin fell from a positive 8.7% to 4.7%. 
Things look better in the Australasia region, where the reported EBITDAI margin rose from 5.3% to 6%. For the continuing businesses it was up from 11.8% to 12.6%. They closed some stores, but took out some costs to get the improvement. Comparable store sales were up 3.2% including online sales. 
In Europe, the reported EBITDAI margin deteriorated from (0.5%) to (8%). For the continuing business, it fell from (2.5%) to (3.5%). They point, like everybody else, to the lousy macro-economic situation in Europe and the expected startup losses of Surfstitch. Brick and mortar comps in Europe were up over 5%.  They still see some softness in the Billabong brand. 
At December 31, excluding the West 49 stores, Billabong had a North American store count of 66. There were 112 in Europe and 252 in Australia.
Next, from their presentation, is the chart that includes the “as reported” results and then removes significant items and discontinued businesses and gets us to the continuing businesses results they’d like us to focus on. 
As long time readers know, I tend to prefer the as reported numbers (statutory results as they call them in Australia) because they don’t allow for finagling. In this case, because the refinancing has gone on so long, cost so damn much, and had such a destructive impact, I think maybe looking at the continuing business is the right thing to do. 
Except for some of the significant items where it looks to me like finagling happened. Here’s the list of significant items. 
You can look at the list and decide for yourself which it is or is not okay to exclude. My point of view is that things like “inventory clearance below cost,” “redundancy costs,” maybe part of the financing costs and perhaps part of others are hard to justify excluding. You’ll note that by excluding them they managed to show a small profit from continuing businesses of $3.9 million. If I were a suspicious person, I could conceivably think they figured they might as well exclude stuff until a profit appeared. And honestly, I might have done the same thing. 
Over on the balance sheet, equity has fallen to $194 million from $618 million a year ago. Cash is up, and inventory and receivables are both down. How much of the declines are the result of the sale of brands and how much from better management is hard to tell. The current ratio has improved, but that’s because the refinancing transferred current liabilities for borrowings to non-current liabilities. Current borrowings were at $9.5 million, down from $280 million at the end of the prior calendar period. Total liabilities, however, rose from $674 million to $765 million. 
Cash generated from operating activities went from a positive $29 million in the pcp to a negative $27 million in the six months ended December 31, 2013. That’s almost completely due to the costs of the refinancing they tell us.
As you are probably aware, Billabong is in the middle of a rights offering which, if successful, will improve their balance sheet. 
So much for not spending too much time on the financials. Let’s start to wrap up with a comment by CEO Neil Fiske in response to an analyst’s question. 
“So what is important, I think, to all of our brands is that they have authenticity with the core of the market. It is a little bit of a paradox in the sense that when we focus on the core of the market and we grow relevance, share and aspiration with that core the brands become more widely appealing. So really our strategy is to focus narrowly, but create brand positions that are so well-defined and aspirational that inherently they have broad appeal.” 
A week or ten days ago, I wrote about some similarities between Billabong and Quiksilver. I suggested that what we had to watch for were clues to what products they were going to sell to which customers. Neil’s put it more eloquently than I did. And he’s focused exactly on the correct and most difficult management task. 
Long time readers will know I’ve asked the question, “Can you stay credible as you broaden your distribution?” I’ve suggested that the further away you get from the core, the harder it is to stay credible and compete because the more likely it is that the customer may know your brand, but not your story. And the story is the brand’s single most important point of differentiation. 
Goldman Sachs analyst Phillip Kimber asked a related question I really liked. 
“One of the key things in managing a brand is being very tight on the distribution in which it’s released to. I’m just wondering if that’s an issue that will be part of this turnaround –i.e. you may have to drop sales materially because you choose not to service them because you’re looking to strengthen the brand as a result. Is that part of this turnaround? 
Here’s Neil’s answer: 
“One of the things I think that we do have in our positive column is that we’ve really focused on quality of distribution, over the last couple of years in particular. As you recall we got a little sideways a couple of years ago in the US in particular with sales to the Closeout Channel. We’ve cleaned up a lot of that distribution and we are really focused on quality distribution channels. I think within the trade we are seen as having not over extended the brand and have kept our distribution quite clean and brand appropriate.”
He didn’t exactly answer the question, except to say he thinks they’ve done a good job with distribution recently. But it’s a big part of the what do you sell to which customer question. Right now, in the middle of a turnaround where cash flow and brand building are probably more important than sales growth, and where public market expectations may be lower, is a great time to be cautious in distribution and build the brands for the future.



4 replies
    • jeff
      jeff says:

      Hi Mani,
      No idea. Didn’t know it had until you told me. Maybe it has something to do with the rights offering, but that’s just an uneducated guess. I focus on the companies and their strategies, not their stock prices.


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