Inter Parfums, Inc. (IPAR) Q1 2016 Earnings Report, Transcript and Summary

Greetings, and welcome to the Inter Parfums, Inc. First Quarter 2016 Conference Call and Webcast. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Russell Greenberg, Executive Vice President and CFO. Please go ahead, sir.

Thank you, operator. Good morning and welcome to our 2016 first quarter conference call. Once again, I will start with a financial overview and then we'll turn the call over to Jean Madar, our Chairman and CEO, to discuss our business and upcoming plans. After that, we will take your questions. Before proceeding further, I want to remind listeners that this conference call may contain forward-looking statements, which involve known and unknown risks, uncertainties and other factors that may cause actual results to be materially different from projected results. These factors include, but are not limited to the risks and uncertainties discussed under the headings, Forward-Looking Statements and Risk Factors in our Annual Report on Form 10-K and the reports we file from time-to-time with the Securities and Exchange Commission. We do not intend to, and undertake no duty to update the information discussed. In addition, Regulation G, quantifications for the use of non-GAAP financial measures, prescribes the conditions for use of non-GAAP financial information and public disclosures. We believe that the presentation of the non-GAAP financial information included in this discussion is important supplemental measures of operating performance to investors. The information required to be disclosed for the presentation of non-GAAP financial measures is disclosed in our March 31, 2016 quarterly report on Form 10-Q, which has been filed with the Securities and Exchange Commission. This information is available on our website at www.interparfumsinc.com. When we refer to our European-based operations, we are primarily talking about sales of prestige fragrances conducted through our 73% owned French subsidiary, Interparfums SA. When we discuss our United States-based operations, we are primarily referring to sales of prestige fragrance products conducted through our wholly-owned domestic subsidiaries. So here we go, our first quarter of 2016 compared to the first quarter of last year. Net sales were $111.5 million, up 2% from $109.2 million. At comparable foreign currency exchange rates, net sales increased 3%. Sales by European-based operations rose 5% to $92.1 million compared to $86.7 million, and sales by U.S.-based operations declined 14% to $19.4 million compared to $22.5 million. Gross margin was 63.9% of net sales compared to 61.9%. SG&A expense as a percentage of net sales was 48.3% compared to $42.6%. And operating income was $17.5 million compared to $21.1 million. Net income attributable to Inter Parfums, Inc. was $7.3 million or $0.24 per diluted share compared to $10 million or $0.32 per diluted share. However, first quarter 2016 results include the effect of a pending settlement of a tax assessment with the French Tax Authorities in the amount of $1.9 million. Excluding the effect of the pending settlement, net income attributable to Inter Parfums, Inc. would have been $8.7 million or $0.28 per diluted share. We've covered our key sales drivers in our first quarter sales release, so my focus will be on profitability factors. As I just mentioned, our consolidated gross margin was 63.9% of net sales compared to 61.9%. European operations, which generated 83% of net sales, produced the gross profit margin of 67.3%, up from 64.7% in the first quarter of 2015. Approximately 40% of this increase related to currency fluctuation, as the average U.S. dollar exchange rate was $1.1 during the current first quarter compared to $1.13 in the first quarter of 2015. Gross margin by our European operations benefit from a strong dollar since over 40% of its sales are denominated in dollars, but its costs are primarily incurred in euro. The larger contributor to gross margin gain was product mix. Notably, we generated approximately $6.4 million of Rochas brand sales with gross profit margins in excess of 75%. The decline in gross profit margin for U.S. operations to 48.2% of nets sales from 51.1% in the first quarter of 2015 are also related to product mix. As in last year's first quarter, we had major launches of Extraordinary by Oscar de la Renta and Icon by Dunhill, and those two brands generate some of the highest gross profit margins for our U.S.-based operations. Selling, general and administrative expenses rose 15% as compared to the first quarter of 2015. And as a percentage of sales, SG&A expenses were 48% versus 43% in the same period one year earlier. For European operations, SG&A expenses increased 22% in 2016 and represented 49% of sales compared to 43% for the corresponding period in 2015. For U.S. operations, SG&A expenses decreased 10% from last year's first quarter and represented 45% of sales in 2016 as compared to 43% in 2015. Promotion and advertising expenses included an SG&A expense aggregated approximately $16.1 million or 14.5% of net sales for the 2016 period. This compares to only $12.6 million or 11.5% of net sales for the 2015 period. Much of this increase supported the very successful launch of Montblanc Legend Spirit and the continued geographic rollout of Jimmy Choo Illicit. Below the operating income line, in the aggregate, foreign currency losses, interest income and interest expense essentially offset each other in the year-over-year same quarter comparisons. The tax issue, however, warrants some discussion. You may recall that in our 2015 10-K, we disclosed that the French Tax Authorities examined the 2012 tax return of Interparfums SA, and in August of 2015 issued a $6.9 million tax adjustment. The main issues challenged by the French Tax Authority related to the Lanvin commission rate and royalty rate paid to Interparfums SA subsidiaries in Singapore and Switzerland, respectively. While we disagree with the French Tax Authorities and believe that we have strong argument to support our positions, due to the subjective nature of the issues involved, in April of 2016, Interparfums SA reached an agreement in principle to settle the entire matter with the French Tax Authorities. The settlement requires Interparfums SA to pay a tax assessment of $1.9 million, covering the issues for not only the 2012 tax year, but also covering the issues for tax years ended 2013 through 2015. The settlement also includes an agreement as to future acceptable commission and royalty rates, which is not expected to have a significant impact on cash flow. The settlement is subject to formal documentation with the French Tax Authorities. At the end of the day, we believe that agreeing to the settlement was the prudent course of action. This could have turned into a costly and lengthy litigation with an uncertain outcome. Thus income tax expense for the three months ended March 31, 2016 includes the pending $1.9 million settlement. In our news release and in our March 31, 2016 quarterly report on Form 10-Q, we included a table to show a reconciliation to adjusted net income attributable to Inter Parfums, Inc. Moving on to our 2016 guidance, assuming the dollar remains at current levels, 2016 net sales should come in as previously reported within the range of $500 million to $510 million. Including the non-recurring tax settlement, net income attributable to Inter Parfums, Inc. should be in the range of $1.01 to $1.06 per diluted share. As a reminder, our new product rollouts are heavily weighted to the second half of the year, with the exception of our new Abercrombie & Fitch and Hollister fragrances, which launched in Q2 of this year. And finally, moving on to our balance sheet, we closed the quarter with working capital of $352 million, including approximately $247 million in cash, cash equivalents, and short-term investments, and $97.8 million of long-term debt associated with the Rochas acquisition last year. Jean, please continue.

Thank you, Russ, and good morning, everyone. The year is starting on a strong note. I'm very pleased to report that our two largest markets performed quite well in the first quarter due in part to the launch of Montblanc Legend Spirit and the continuing rollout of Jimmy Choo Illicit. Far and away, Western Europe was our best performing market with sales of $31 million, up nearly 27% from last year's first quarter. North American sales came in a close second at $29 million, and Asia with sales of $21 million, our third largest market, showed modest improvements versus last year first quarter. However, we continue to feel the effect of negative market condition in Eastern Europe, the Middle East and China. I will answer to questions after if you have any on the territories. For 2016 as a whole, we believe most of our growth within our European operation will come from the inclusion of Rochas for the full year and the launch of our first women's scent for Coach. We also have new scents for Van Cleef & Arpels, a line extension for Jimmy Choo Illicit, plus other flankers and extension, including this spring Extatic Gold Musk by Balmain and Ocean View, a limited edition seasonal scent for Karl Lagerfeld. Our previously announced plans for the U.S. operations are on track and moving ahead. We also have some good news to report as we got the go-ahead to supply the new fragrances that were created for Abercrombie to their respective U.S. retail and online stores. So we'll be selling this product in their stores very soon. While we are very happy with our brand partner decision to sell these new products in their own stores, where we have about 278 Abercrombie store and 500 Hollister stores, let me tell you about our international distribution activities. Our new Abercrombie & Fitch men's scent called First Instinct targets 18 to 25 year old men. The rollout starts this month and continue through the fall. The product will be sold in close to 7,000 doors throughout the UK, France, Germany, Brazil, Argentina, Taiwan, the Philippines and Indonesia. And for each market, we have created a customized advertising and promotional plan, encompassing digital, print and outdoor media. The Hollister Wave fragrance duo, which is targeted to teens and young adults aged 16 to 25 years unveils in June and rolls out through September. We expect this new fragrance called Wave to be sold over 10,000 doors in the UK, France, Germany, Argentina, Korea, Philippines and Israel, with an equally potent marketing campaign. We are also far along in our 2017 new product launches. The schedule, unlike 2016, is heavily weighted for the first half. Our first new product for Rochas, the women's fragrance, will be introduced in winter as will our new Lanvin and Abercrombie & Fitch women's scents. We also have a new collection in the works for Boucheron debuting in the winter of 2017. In the spring, we will have new Jimmy Choo scent for women unveiling. And in the fall, the new Montblanc Legend family will welcome a new member, still another men's scent to build upon the great success of Montblanc Legend. These trends are subject to change and there will be more say about these launches as the year progress. There is a great deal happening with the Oscar de la Renta brand. As we noted on our March call, our extraordinary petrol flanker debuted in the first quarter. And Oscar Gentleman, the new men's fragrance, will debut internationally this summer and we are reimaging and reintroducing the 1977 signature women's scent, Oscar, with two brand extensions. One targeted for the Middle East, the UK and Australia, and another for the U.S. domestic market. For Dunhill, we will launch Icon Elite to certain markets in the second half of this year and our two new Agent Provocateur scents, Aphrodisiac and Pure Aphrodisiac that will happen also later on this year. Throughout the year, we have new scents and flankers for Ana Sui in select geographic distribution. So with our diverse portfolio of brands and our global distribution reach, our recurring success in establishing and building fragrance franchises for our own company and brand owners and our very strong financial position, we have every reason and I have every reason to be very confident about the future of our company. So with that, operator, we're going to open the floor for questions.

Certainly. At this time, we'll be conducting a question-and-answer session. [Operator Instructions] Our first question today is coming from Joe Altobello from Raymond James. Please proceed with your question.

Thank you. Good morning, guys.

Morning, Joe.

Just want to go back – hey. On the Abercrombie & Fitch news this morning that you'll be selling fragrances in stores and online, what's the impact to your expectations for this year? It sounds like you guys didn't change sales guidance and that was sort of incremental to that. So I'm curious if that's going to be material for this year.

I think it's a very good sign because we have learned to know each other and they were so happy with the product that they really wanted to put them also in their stores. Actually it could become an interesting business to have this product in their stores. We have decided not to change our guidance yet because – but as the time develops, we will take this into account. Russ, do you want to add something?

Yeah. It's difficult to ascertain exactly how much business in store actually generates because people don't typically walk into a Hollister or an Abercrombie & Fitch store with the intent of buying a fragrance. So usually it's more of an impulse type of a product. So our initial expectations for in-store is not all that significant, although that could change because Abercrombie and Hollister are very much behind fragrance products within their store. So it's really a kind of a wait-and-see kind of situation.

Okay. Thanks, Russ. And then on the gross margin, obviously that was a big surprise in the first quarter. I think on the last call, you mentioned you expected it to be flattish to potentially down this year. So I'm curious what surprised you. I mean, obviously, Rochas' margins were always pretty high, and the dollar, if anything, has gotten little bit weaker here. So I'm just curious what surprised you in the first quarter.

Well, as I said in the remarks, about 40% – for European operations, about 40% of their increase was relating to the currency factor. It's true the average for the full year of 2015 came in at $1.1, which is exactly the rate during the first quarter. It really just happens to be that the first quarter of 2015 where the rate was $1.13, that comparison gave us a little bit of a benefit here in the first quarter, but we're not expecting that to continue because as we move further into the year, the exchange rate today are around $1.14. So with the dollar becoming a little bit weaker, I stand kind of by the original assessment that I had that I'm kind of expecting gross margins to be flattish or down on a full year basis.

Okay, great. Just one last housekeeping item, the tax rate for the rest of the year. This is not impacted by the assessment from the first quarter, right?

No. The tax rate came in right around 34%, if you exclude the tax assessment, which is completely comparable to last year's 34%. Throughout the last several years, we've been somewhere between 34% and 35%. I don't see any reason why that would change.

Okay. Thank you.

Thank you, Joe.

Thank you. Our next question today is coming from Frank Camma from Sidoti & Company. Please proceed with your question.

Good morning, guys.

Hi, Frank.

Hi. My main question is just on A&P spend. Obviously, you benefited well on Montblanc from increasing spend there and you mentioned also on the Jimmy Choo. Just kind of wondering, going forward, I mean, is this kind of what we should expect, as far as, I mean, you're rolling obviously a number of new brands here as far as ramping up the A&P spend here?

I can try to answer. As you noticed in the first quarter, our – the advertising part of the SG&A was really up. We spent something like $16 million, which corresponds to 15% of sales, which is quite up, but we wanted to do that in order to assure the space and the sell-through of the two new and – of Montblanc and the new fragrance on Montblanc, and the new fragrance from Jimmy Choo. So, for sure, we overspent in the first quarter in advertising. I think we made the right decision because we're going to see the benefit of this overspending in sales in second, third, and fourth quarter. Russ, you want to add anything?

Yeah. The only thing that I'm going to add is it's a little unusual for the first quarter, but it so happens we have launches during this quarter. And that's the reason why the spending needs to follow the launches. From a full year, 15% although overall is not really all that high compared to what we normally spend in Q4, it really is dependent on the launch schedule that helps determine what the advertising expense going to be.

Okay. And just kind of follow up on that. Do brands like Coach and Abercrombie, did they require sort of the same level of spend per dollar as sort of a Montblanc? I was just kind of curious like if those brands have more awareness, maybe don't require more on a percentage basis, or is that really not a factor because they're new products?

We will spend a good amount of money for Coach in the second and third – fourth quarter more than second quarter. We have very high expectations for Coach in three markets, the U.S. and Japan and China. I will remind you that Coach brand is the second largest imported brand in Japan after Louis Vuitton. So with such name recognition, we're going to have really – and also because mainly Chinese tourists are now shopping in Japan, we will have a big exposure of Coach Fragrance in Japan. But as I said, because of already the fact that the brand is well-known, our spending will be more into promotional in the U.S. than pure advertising.

Okay.

We will continue to spend, of course, for Abercrombie and Hollister because these are the big launches. I repeat that this year, the big launches are Montblanc, Coach, as well as Abercrombie and Hollister. So we will continue to spend. But as I said before, it will level off to a lower than 15% [indiscernible].

Okay, great. And last question just on China specifically, I mean, are you seeing any changes there over time? Obviously, it's been a soft spot. So I'm wondering if you could kind of comment on that.

We see the sales are still too soft, even though I think we have [indiscernible] the bottom, but our sales of Ana Sui down this quarter comparing to last quarter. As I said before, a lot of Chinese customers are now shopping in Korea and Japan. So we see the sales increase in Japan and Korea. It doesn't offset 100% what we are missing in China, but we see this as a trend. For your information, we are continuing to invest heavily in promotion and advertising in China, in Mainland China, and Hong Kong.

Okay. Thank you.

Okay. Thank you.

Thank you. Our next question today is coming from Linda Bolton Weiser from B. Riley. Please proceed with your question.

Hi, Linda. Hello.

Perhaps your phone is on mute. Please pick up your handset.

Oh, yes. Hi. Sorry, I was on mute. So can you just clarify once again the new launches that are actually shipping in the second quarter? It sounds like Abercrombie, is that shipping just to the international markets or the U.S. stores as well? And then, is Coach shipping in the second quarter or the third quarter?

Okay.

Abercrombie – both Abercrombie and Hollister are both shipping in Q2, and that will be shipping the initial international distribution as well as to the U.S. distribution for their stores. For Coach, that will not be in Q2 at all. That will begin to – we will start shipping in July, August and the actual launch sometime in early September. So that will be a Q3 event.

Okay. And then, can I ask you on the Rochas, the effect on the gross margin? Does that affect – I assume that's because of the fashion royalties that are in there at 100% margin. So, does that become less of an influence on gross margin as the fragrance sales pick up later in the year?

No. And first of all, it really is not necessarily related to the fashion side of the business. Again, it's just a couple of million dollars a year in royalty income. One of the main reasons why the margins are as high as they are is the big markets for Rochas is in Spain and France where we have our own distribution. So we're selling at pure wholesale in those markets as opposed to any product that's going on an ex-factory basis. That's the main reason why that margin is a little bit higher than some of our other products.

Okay, great. And then on the SG&A expense, if you exclude the royalties and the A&P, that kind of overhead type of expense, it's been running at $25 million to $27 million per quarter, and then now it looks like it's jumped up to $30 million to $31 million in the last couple of quarters. Is that higher level something to expect the remainder of the year or do you think it'll come back down a little, or how should we think about that line?

I think it's going to fluctuate a little on a quarter-by-quarter basis, but most of that are the normal fixed type of expenses such as rents and salaries.

Which means the very stable quarter-after-quarter. It's the selling. It's the S of the SG&A that could vary because of sales level international launches.

Okay, got you. And then on the last call, you had said when you were talking about the weakness in the emerging markets, you had said that Russia had actually improved a bit in February and March. Is that improving trend still the case in Russia?

Yes. We are maintaining our projections for Russia. So we didn't revise them down even though the market is quite soft. We do not see improvements in other markets that are weak like Brazil. We have – we continue to lower our expectation, our projections in Brazil. Really, the company thinks that the U.S. domestic market and the Western Europe are definitely the main high points for fragrances this year. The Middle East with the tension in the region is quite flat, and Russia and Brazil, as we spoke about. Asia, even though, I repeat, Korea and Japan are doing quite well and even though duty-free is holding up, we are not able to offset the sales that we are missing in China. So we see the state of the union for our international sales issue, if I may say.

Okay. And Estée Lauder has been experiencing extreme weakness in Hong Kong for quite a while and it actually kind of got worse this past quarter. Are you also seeing declines in Hong Kong?

Definitely. Hong Kong is affected more than Mainland China, but it was already in our projections.

Okay. Thank you very much.

Thank you. Thank you, Linda. Any other questions?

Yes. Our next question today is coming from Hamed Khorsand from BWS Financial. Please proceed with your question. Our next question is coming from Steph Wissink from Piper Jaffray. Please proceed with your question.

Hi. This is Lauren Wolff for Steph. Just, I guess, a quick question for you about the consumer. Would you be able to speak just a little bit more about consumer trends? Are you finding that consumers are increasingly gravitating towards higher margin, the higher-priced products, or becoming more experiential at all? We saw on the Macy's release this morning that fragrance was a standout category for them, particularly in the U.S. Obviously, it's been a tough year-over-year comp for the U.S. consumer, but are you seeing declines there begin to abate or any sort of indication that that spending in the fragrance category for the consumer there will be increasing?

Okay. I can try to give you my opinion [indiscernible] I mean the things that we see, we see a reasonable appetite for our products that are priced at the high level. And that's why, for instance, the fragrance like Coach, which is on the – at the high end of the retail price, we think will be successful. We see less demand on less selective or more affordable products.

Yeah. I'll just comment. As far as the retail environment, from what we see, I'm not surprised that fragrance might be a highlighted category that has been reported, but most of what we see in retail is that it's actually down. Fragrance is holding up a little bit, which we're very happy to see, but the retail trends from what we've been reading and seeing in the marketplace have been relatively weak.

Do you have a follow-up, Stephanie?

That's all. Thanks so much.

Thank you.

Thanks you. Our next question is coming from the line of Hamed Khorsand from BWS Financial. Please proceed with your question.

Hi. Good morning. Just one question on the advertising metrics. As you move forward in Q2, Q3 and Q4, how is that going to look like, given that you have different products releasing, because last quarter, you were talking about Q4 was going to be a big quarter as far as advertising went?

Yes. That really does not change. I mean, there's a certain amount of advertising that is just automatic due to the holiday season, all right. And we do have quite a few different products that are launching. I mean, Coach is really launching third quarter and fourth quarter of 2016. So, from an overall trend, I don't think that's going to change. The 15% that we saw here in the first quarter, 14.5%, is high for a first quarter, but it's low for a blended rate for the year. Last year, we ended up at 18% for the full year and most of that was concentrated in the fourth quarter. So I don't see those kinds of trends changing, although you will have a little bit of fluctuations like we saw here in the first quarter because we had the two products that launch, the Montblanc Legend Spirit and the continuation of the rollout of Jimmy Choo Illicit, required additional spending for the launches of those products. But over the course of the year, I think the overall trends are going to be very similar to what we've seen in prior years.

Okay. And my other question was related to just with the macro environment, with the softer sales that you're experiencing and your peers are experiencing in certain markets, has that created any kind of drop in valuation where it could make it appealing to make an acquisition of some kind of like did with the Rochas last year?

Well, no, I don't think that the fact that the business is difficult has an impact on – you don't see – has an impact on fragrance companies for – that are available for sale. We, of course, look at the different brands, different license, but there is no relation between what's happened in the market and the price of potential acquisitions.

Yeah. I tend to agree with Jean. The overall state of the business, when you look at it overall, it's still a growing business. I mean, we have some issues due to certain economic environments throughout the world. But keep in mind that the two biggest markets for us, which is Western Europe and the United States, are still doing relatively well. So, I don't think it really has all that much of an impact on availability of acquisition targets. Thank you.

Okay. What I'm trying to get to is how aggressive can you get with deploying your capital to grow the business, right, or are we just going to expect the cash to sit down on the balance sheet?

As we've always said in the past that Inter Parfums is trying to be as opportunistic as it possibly can. We are clearly looking at acquisition targets. I'll repeat what I've said for a long time that we know that the most accretive use for these funds would be if we can deploy it into either acquisitions or licensing on proprietary basis. That's where we would like this money to go. We realize that we have been sitting with a good amount of cash for a number of years now, but these kind of opportunities you don't know when or if they're going to come around.

That's why we took a loan – when we acquired Rochas, we took a loan out for $100 million to keep our treasure chest…

Cash.

Cash intact. We still have around $250 million of cash. So, of course, we'll be – we are and we'll be looking for either acquiring new license or companies in our fragrance business. Thank you.

Okay, great. Thank you.

Thank you. We reached the end of our question-and-answer session. I'd like to turn the floor back over to management for any further or closing comment.

Okay. Thank you. Just one more point. I just want to mention that I will be presenting on May 25 at the B. Riley Annual Investor Conference in Hollywood, California. The following month, I will be speaking at two New York conferences: Citi's 2016 Small and Mid-Cap Conference on June 9 and the Piper Jaffray Consumer Conference on June 15. I hope to see some of you at these events. Thank you for your participation on this call, whether live or listening via webcast. And as always, if there's additional questions, I will be available to take your calls. Thank you and have a great day.

Thank you. That does conclude today's teleconference. You may disconnect your lines at this time and have a wonderful day. We thank you for your participation today.