SPY’s Results for the Quarter; Operating Income Rises, but Interest Expense is a Killer.

As usual, SPY had the courtesy to file its 10Q with the SEC about the same time they did their conference call, making my job easier and my analysis more timely. You can see the 10Q here.

Sales for the quarter ended March 31 rose 2% from $9 to $9.2 million compared to the same quarter last year. In this market, I wouldn’t necessarily call 2% increase in revenue a bad result. Especially since we discover during the conference call that SPY lost some revenue in three ways.
For the first time ever, SPY had no goggles to sell during the first quarter because they were all sold out.

I know, I know, it’s terrible to miss a sales opportunity. On the other hand, we also learn in the call, preseason orders for goggles next year have a “substantial” increase. If I know my SPY management team, the conversation with retailers was something like, “Well, sorry! Better make sure you order more next year.”
I’m sure SPY would have loved to be able to make at least some of those first quarter sales, but I’m also a believer that a little scarcity helps margin, next year’s sales, and brand differentiation.
We also learn that SPY lost last year’s largest customer and that another customer- their largest Moto account- wasn’t shipped because of credit issues. Call me old fashioned, but I’ve always thought it was a good idea not to sell to people who couldn’t pay you.
Two comments. I am not saying it’s okay they lost those customers and sales. It’s not. They needed them, but that they got a 2% revenue increase anyway is good. Second, we don’t know what kinds of numbers we’re talking about and how it will impact the entire year. What are the total annual sales to the two customers they didn’t ship too and which quarters are those sales most important to? We do know they are anticipating $39 to $40 million in revenue this year, compared to $37.8 million last year.
North American sales fell by 2.8% in the quarter compared to the same quarter last year going from $8.2 to $7.98 million. International sales rose from $799,000 to $1.21 million. They expect sales growth in Europe to exceed North America this year.
Their prescription frame product line grew by $500,000 to $1 million, so it accounted for all their sales growth, and then some, in the quarter. We know that sunglasses (including prescription I assume) were 79.4% of sales during the quarter and goggles (not just snow) were 8.9%. We learn in the conference call that revenue growth during the year is expected to come from that product line and snow goggles. That seems to suggest that they aren’t expecting much, if any, growth in most of their product line.
The gross margin rose from 51.1% to 52% during the quarter, and they point to this “modest improvement” in the conference call. But they’ve also told us in the conference call, almost by way of reassuring us, that last year’s largest customer, who they lost, was a low margin customer. So I’m inclined to ask if we’d be seeing that modest improvement in gross margin if they hadn’t lost that customer.
Total operating expenses rose 2.7% from $4.57 to $4.70 million. As a percentage of sales, they rose from 50.75% to 51.1%. Most of the increase was in sales and marketing, which was up from $2.85 to $2.92 million.  I think we’ve probably seen the end of the days when SPY could improve its results by cutting expenses. They did a great job managing that, by the way.
Operating profit rose from $29,000 to $84,000. But then, due to the $23 million of shareholder and other loans on their balance sheet, they had interest expense of $742,000 , up from $721,000 in last year’s quarter.     They had a net loss of $742,000 compared to a loss of $721,000  in last year’s quarter, so you can see that their interest expense is eating them up.
There is some good news on that interest rate front.  “…the interest rates on the Costa Brava Term Note and Costa Brava Line of Credit were reduced from 12% to 7%, and the facility fees were eliminated, effective July 1, 2014.”   Let’s see, those two loans together total about $16 million.  A 5% decline on the interest rate is worth (cue the calculator keys clicking) $400,000 in reduced interest during the second half of the year and $800,000 for a full year.  There’s no explanation of why the lenders decided to reduce the rate, but remember that Costa Brava is effectively the largest shareholder in SPY.  My guess is they just recognized that SPY required the interest rate reduction if it was ever going to be profitable.
The balance sheet suffers from all the debt mentioned above. Receivables were up 12.3% from $5 to $5.6 million from a year ago. However, inventory fell 26.5% from $5.9 to $4.34 million. That’s great to see. Partly as a result of that, I imagine, cash provided by operating activities rose from $1.55 to $2.28 million. They expect to pay all their interest in cash this year instead of accruing some it as additional debt.
SPY has accomplished quite a turnaround, but their operational improvement is overwhelmed, financially, by their interest expense. The prescription business seems like a winner so far, the goggle business is growing, and their issues with non-SPY products cleaned up. I would like to get some more insight into opportunities with their product line other than prescription and snow goggles. That’s what’s responsible for most of their revenues.



4 replies
  1. Dan
    Dan says:

    Hi Jeff, great analysis as usual, many thanks.
    I greatly enjoy reading your case by case breakdowns and just had a thought that maybe, in order to compare and contrast the performances of each company, you could put together a LS style “power rankings” haha. This could include a short summary on performance over last quarter, debt exposure, future plans, gearing and such. We could then take a look at the players side by side for better context 🙂 just a thought. Keep rockin’ DW

    • jeff
      jeff says:

      Hi Dan,
      Good idea. But I’ve got a whole list of things I should do and should write about on my web site. Trouble is, it takes time. My web site already consumes way more time than I anticipated when I started it, and I’ve got consulting clients who want to pay me to do some things for them. So as much as I’d like to do it, I just can’t take the task on right now.

      But keep the ideas coming.


  2. Jerry Jones
    Jerry Jones says:

    Hi Jeff,

    You didn’t mention who their largest customer was as I would guess Spy didn’t mention. Costco has been Spy-less so far, could we make an educated guess that their low margin account was Costco?

    • jeff
      jeff says:

      Hi Jerry,
      I have heard through the grapevine who the large customer they lost was, but I don’t “know” it as a fact, so didn’t report it. As to whether their low margin account is Costco, you can make any educated guess you want. But I have no information about who that account is, or is not, and won’t speculate.

      Thanks for the comment.


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