Rocky Brands, Inc. (RCKY) Q2 2017 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands Second Quarter Fiscal 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. [Operator Instructions] I would like to remind everyone that this conference call is being recorded. And I would now like to turn the conference over to Brendon Frey of ICR.

Thanks everyone for joining us. Before we begin, please note that today’s session including the Q&A period may contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Such statements are based on information and assumptions available at this time and are subject to changes, risks and uncertainties, which may cause actual results to differ materially. We assume no obligation to update such statements. For a complete discussion of the risks and uncertainties, please refer to today’s press release, and our reports filed with the Securities and Exchange Commission, including our 10-K for the year-ended December 31, 2016. I’ll now turn the conference over to Jason Brooks, Chairman and Chief Executive Officer of Rocky Brands.

Thank you, Brendon. I’m excited to be addressing this audience for the first time. With me today is Tom Robertson our Chief Financial Officer. I’ve been with Rocky Brands for 20 years. This company and its people are incredibly important to me, so I was extremely honored to have recently been appointed Chief Executive Officer. I know, I am new to the analysts and investors listening today, so I look forward to getting to know you in the coming months. Before we get into a review of our second quarter results, I would like to take this moment to talk about my experience at Rocky Brands, review my first sixty plus day as a CEO, and outline why I am bullish about the outlook for the company. I started with Rocky as an independent sales rep in 1997, and over the past two decades, I’ve held various VP as sales roles, before transitioning into a more senior position including Senior VP U.S. Wholesale, President U.S. Wholesale sales, and most recently President core-brands. I had the good fortune to work in several different areas of the businesses during my career, which I believe will benefit the organization as we continue to execute the growth and profit improvement strategies currently in place. Since assuming the role of CEO in mid-May, I spent the majority of my time meeting with senior management team to review the primary growth objectives for each of the three major segments; wholesale, retail, and military. Based on these conversations, combined with my experience and knowledge for the market places we operate in, here are the biggest opportunities I see for our business. Starting with our largest segment, wholesale, we have the good fortune to own some of the most authentic brands in work, western, and outdoor categories. Through long histories of introducing quality, comfortable and accessibly priced products, Rocky, Georgia, and Durango have built loyal consumer bases and established leadership positions in their respected markets. Collectively, these brands provide the company with a solid foundation for growth. That said, we need to make sure we are investing the appropriate amount of resources to drive increased demand consistently over the long term. This includes more marketing, primarily digital programs that strengthen our consumer connections and increase awareness and interest in our branded product offerings. We must also introduce new innovations that appeal to our consumers and further differentiate our footwear from the competition, and of course provide great service to our retail partners is critical to increase shelf space at brick-and-mortar accounts and further growing our online presence. I’m confident we can accomplish these goals without adjusting our expense structure by reallocating existing resources and reducing costs elsewhere in the business through increased efficiencies. In addition to our core work, western, and hunting businesses, Creative Rec has the potential to develop into a more significant topline contributor; however, we must find a way for the brand to penetrate large, yet competitive casual shoe market in a profitable manner. Moving to retail, our Lehigh business is uniquely positioned to serve what has become somewhat of an overlooked market segment as a result of changes in the U.S. economy. For the past seven years, we have been developing a strong digital presence with our custom fit model that allows manufacturing and labor based businesses to affordably manage their safety footwear programs, increase productivity, and gain greater compliance through our online programs. These programs drive the reduction in slips, trips, and falls as well as the associated workers compensation claims and lost time. We will continue to invest in Lehigh to broaden our distribution, increase participation. This business demonstrates that wholesale brands can compete with the direct online sales by adding value through managing costs, reducing incidence, and allowing safety managers to focus more on their core business. At the same time, we continue to serve our direct B2C customers by offering a broad selection of styles with strong focus on functional footwear through our individual branded websites. The continued development of our B2C strategy will allow us to further strengthen our consumer connection while complementing the growth of our B2C custom fit models. Last but not least, military will continue to be a very important focus for us. We will continue to aggressively bid on our military contracts that makes sense for our current capacity in our Puerto Rican manufacturing facility, while also striving for better efficiencies to increase segment margins. Now to our second quarter performance, which was highlighted by a significant improvement in profitability. The work we’ve done over the past 12 months creating a more efficient organization including enhancing the production capabilities in our Puerto Rico facility along with a number of organizational changes that reduced our expense structure allowed us to improve our operating income by nearly $5 million year-over-year. From a topline standpoint, we are pleased with the recent trends. Similar to the first quarter, our branded wholesale business showed signs of stabilizing. If you exclude the contribution from a recently discontinued private label program from a year ago quarter, sales of our work category were up slightly led by the Georgia Boot brand. Importantly, we were able to drive growth with far less promotional activity, which is resulting in a meaningful improvement in product margins. Product margins were also up meaningfully in our Western category as higher full price selling of Durango and Rocky Brands helped to partially offset less discounted sales. For Hunting, sales were flat year-over-year while margins were down. In addition to selling through some excess inventory, we repriced Rocky’s entire outdoor line to be more competitive in the market place and gain back some of the shelf space we’ve lost over the years. We are confident that by giving up a few margin points, we can reallocate, we can re-accelerate [ph] sale to this category. As we expect a commercial military sales, we are down in the quarter, as we didn’t anniversary the large initial sell in of new boots that took place in 2016 when the color pattern changed from tanned to chayote. Lastly, we use the second quarter to clear out some obsolete inventory at Creative Rec ahead of shipping a new fall ‘17 which has booked well with retailers including some new national accounts, mostly notably Journeys. Shifting to retail, sales increased approximately 6% in the second quarter driven by the implementation of an improved operation model that yielded better account retention and higher account participation rates. Additional growth came from a new national account roll out that should continue to add topline sales volume. Now over military segments, sales were essentially flat year-over-year we completed two, one year contracts ahead of schedule which pulled about 1 million of sales out of Q2 into Q1. We remain on schedule to shift approximately 40 million of contract military orders in 2017 and continue to pursue additional opportunities for this year and beyond. Before I turn over to Tom to review the financials in more details, I want to reiterate how honored I am to be leading Rocky Brands. This is a great company with a strong balance sheet and a bright future ahead and I’m fully committed to ensuring this organization successfully capitalize on all the many opportunities that lie ahead. Tom?

Thanks, Jason. Net sales for the second quarter were $58.5 million compared to $62.6 million in the corresponding period a year ago, a decrease of 6.6%. By segment, wholesale sales for the second quarter decreased 10.5% to $37.1 million compared to $41.5 million last year. Retail sales for the second quarter increased 5.8% to a $11 million compared to a $10.4 million a year ago, and military sales were $10.3 million versus $10.7 million for the same period in 2016. Gross profit in the second quarter increased 11.7% to $18.2 million, or 31.1% of sales, compared to $16.2 million, or 26% of sales for the same period last year. The 510 basis point increase was driven primarily by a significant improvement in both the wholesale and military segment margins. Gross margins by segment were as follows: wholesale 31%, up 330 basis points versus last year, retail 42.6%, down 190 basis points versus last year and military 19.2% compared with 1.4% a year ago. The increase in wholesale gross margins were driven by the combination of better full price selling, less discounting and the discontinuation of a lower margin private label program. With respect to our military segment obviously we are up against an easy comparison from a year ago. That said, this quarter’s military segment gross margins were well above historic highs due to a couple of temporary factors. We manufactured a small high margin order for the U.S. military during the second and also gained increased efficiencies in our Puerto Rican facility. Thanks to higher volumes of our commercial military production. For the year, we still expect military segment gross margins to be in a mid-teen range. Selling, general and administrative expenses decrease 15.4% to 15.9 million or 27.2 percent of sales for the first quarter of 2016 compared to $18.8 million or 30.1% in the year ago period. The $2.9 million decreased in SG&A expense was primarily related to lower compensation expense following our reorganization we be made during the third quarter of 2016. I want to share that we recently made the decision to close the Creative Recreation Los Angeles office and move the brands operations to Rocky Brands headquarters in Ohio. We expect the consolidation to generate approximately 500,000 to 600,000 in annualized savings, the majority of which will be a reduction in rent expense. Back to our more recent performance, income from operations for the second quarter was $2.3 million or 3.9% of sales compared to a loss from operations of $2.5 million than the period a year ago. For the second quarter interest expense decrease to $80,000 compared to $142,000 last year as a result of the significant reduction in our debt year-over-year. Net income for the quarter was $1.5 million or $0.20 per diluted share compared to a net loss of $1.8 million or $0.23 per diluted share last year. Turning to the balance sheet, our funded debt at June 30, 2017 was $8.6 million, a decrease of $14.9 million or 63% from $23.5 million at June 30, 2016. Inventory at June 30, 2017 decrease 12.8% to $76.3 million compared with $87.6 million on the same day year ago. That concludes our prepared remarks. Operator, we are not ready for questions.

[Operator Instructions] Our first question comes from Jonathan Komp with Robert W. Baird. Please go ahead with your question.

Hi Jason, and thanks for the high-level comments about the broader strategies. I’m wondering if you could just spend a few more minutes maybe talking about, as you’d see the lay of the land today, maybe drill down a little bit more into some of the strategic directions you see going forward and if you have any initial milestones or timelines on any changes if any that you plan on implementing?

Hi, Jon, it’s nice to talk to you. Let’s see, so I don’t have any strategic milestones as of today. Tom mentioned one in particular and that was the Creative Rec L.A. office. We felt like we needed to do something there, so that one was pretty critical. We are in the process of looking at this strategic direction for the company over the next year or two and five, and we’ll be putting that together over the next couple of months. In regards to the marketplace, retail is still an interesting position right now. I think most retailers we’re finding are in a pretty good inventory position, but they’re very conservative in what they’re buying and they’re buying a lot closer to what their needs are at once. So, for instance, the Georgia Boot brand, we saw a pretty decent -- I don’t know if it’s decent. We saw an increase in Georgia, and the Work market seems to be going well. Western is kind of up and down, it really depends on if it’s men’s or women’s or if it’s more work western. So, we’re seeing some interesting things there, and then obviously Amazon is really affecting that market in a big way also.

Okay. I wanted to follow-up there. I had a couple of questions on the wholesale growth. In the quarter, I know you’ve called out or Tom might have called out the discontinuation of the private label sales being the headwind. And I’m wondering first if you just quantify how much that was in the prior year, just trying to normalize and get a better sense to the growth rate excluding that when you look at this year?

So, Tom can give the specific numbers there.

Yes. Hey, Jon. When we look at – when we’re looking at 6/30/2016 compared to quarter-to-quarter. If we were to back out the private label business, we would have been really flat. The actual private went up couple of hundred thousand at a wholesale side. So, for the quarter it was 2.4 million for the private label.

Okay. That’s helpful. Okay, great. When you drill down in the wholesale performance and look across Work in Western, I’m just trying to get a better sense, and maybe this is over the last few quarters, but I’m just trying to get a better sense of the sequential trends you’re seeing on that underlying basis. So, if you think the category, they are improving or not, they are kind of what you’re seeing on that basis?

So, I would tell you they are improving, but very, very small. We’re seeing better at-once business, our bookings, we’ve never been a big booking company. We’ve always done a lot of at-once business, our out-door business has pretty good bookings, but we’re seeing small increases there in regards to the work in the Western.

And then, how does that translate to the way you’re thinking about the back half of the year and kind of sticking with wholesale. Just given the declines, you’ve seen in the first two quarters and I know at some point you’ll be cycling the private label when you discontinue that. So how should we think about modeling the wholesale growth the next couple of quarters?

So, I think from the private label standpoint, I think we saw that through September 2016.

Yes. We pretty much wrap that up at the end of our third quarter.

And Q3, so that will still anniversary through Q3 and then that falls off in Q4. I think we’re being very cautious in Q3 and Q4. We have some good things going. We had some good products that have hit the shelves just in the last couple of weeks, some new product for fall of 2017. We’ll see how those start checking, but I think we’re being very cautious about what kind of increases we’ll see there.

Okay. And is the private label drag in Q3 in terms of magnitude, is that similar to what you saw in Q2?

Yes. It’s comparable.

Okay, great. And then maybe shifting gears slightly just wanted to follow-up kind of stunning to see that G&A down 15% year-over-year, and I know you’ve made some structural changes to the cost of the business. I just want to follow-up because I know you also talked about investing in the brands in terms of marketing and some of the initiatives, and I want to hear how you’re thinking going forward about the G&A spend and if there’s going to be some reinvestment at some point given the discussion about some of the marketing and reinvestment?

So, Tom, you want to get to the first part.

Yes. So from an SG&A perspective, big reduction was mostly related to the wages and benefits obviously that we discussed related to the Q3 2016 reorganization. When you look at our SG&A spend, our advertiser or marketing spend is down this quarter, but I don’t think it’s quite as drastic as you might be thinking. So I think it’s very important to note that we are still continuing to invest in our brands and the marketing and the advertising side of it because we don’t want to loose sight of maintaining the strength of our brands.

Yes and just to kind of reiterate that, we haven’t really changed anything in regards to our spend, in regards to the marketing, whether it’s digital marketing or traditional marketing, and we really have no intentions of doing that. Our focus is on those brands and building those brands that we have today, and we’ll spend the marketing dollars where we need to but we are going to do it in a way that we are not just kind of wasting [ph] money away. And so we are going to make sure that our brands are visible in the market place. If I stated I’m very comfortable that Rocky, Georgia and Durango have great brands in those markets, Creative Rec has a, a really strong name as well and it may have fallen off a little bit, but we need to invest there to get it back and we’re going to focus on those and support them in a way we can to make it grow.

Okay, and maybe last one from me then just looking at the G&A going forward, when I look back in recent history the dollars spent in the third and fourth quarter, it looks pretty similar dollar wise if I average spend grow it up to the Q2 spend then this one [indiscernible] the fake way to think about the trajectory this year and now they nearly spent about, to about 16 million of G&A in Q2 which seems well about what I have to, how are you thinking about the third and fourth quarter?

Yes, so I think when we look at third and fourth quarter this year, I think we’ll have looking in from a dollar standpoint we’ll have some increases as it goes third and fourth quarter for us from a sales standpoint is so much stronger. So there’s obviously some variable cost [indiscernible] I’m sure, but as percentage of sales I think we’re at a good, not a good rate there.

Okay. Got it, thank you I will leave it there for now.

Thanks, John.

Thanks John.

Thank you. [Operator Instructions] Okay, thank you. I would now like to turn the floor back over to management for closing comments.

So I just wanted to say, thanks for joining us for our Q2 results and we look forward to being back here in three months for Q3 and hopefully there as strong as the Q2. Thank you very much.

This concludes today’s teleconference. You may disconnect your lines at this time and thank you for your participation.