Conclusion: TRLG’s beat confirms the strength in domestic premium denim trends as indicated by the 23% growth in the consumer direct channel on the heels of both Seven for all Mankind & Lucky Brand posting strong first quarter results. Although TRLG reduced second quarter guidance to be down year over year, the update was purely a result of intra quarter international trends coming in below original expectations despite strength in US Consumer Direct & US Wholesale. On the margin, this could have a greater implication on other premium denim retailers with greater international exposure- ie GES.
What Drove the Beat?
Total company revenues increased +14% vs. +9E and guidance of +7-10%. US Wholesale posted its first quarter of positive growth since 4Q08 with US consumer direct same store sales up 13.3% contributing ~0.6 & ~13 points to the +14% results respectively. Gross margins missed slightly, but we'll give TRLG a pass given such strong top line and a 10 point sequential improvement in the sales/inventory spread (great SIGMA move).
Deltas in Forward Looking Commentary:
In order to properly measure performance relative to original expectations, we look at 1Q12 results vs. management guidance headed into the quarter as well as any deltas in forward looking commentary beyond this quarter:
Revenues:
- Full year: $450 million to $460 million; +7%-10% UNCHANGED
- Comp: +LSD-MSD UNCHANGED
- Korea: Down -$5mm UNCHANGED (-$1.2mm in 1Q12)
- 1Q: +14% vs. prior guidance of +7%-10% BEAT
- 2Q: Growth projections not given but reduced from prior +7%-10% REDUCED
- While Consumer Direct & US Wholesale are expected to meet expectations, International sales have slowed below original internal expectations
Earnings:
- Full Year: $1.88 to $1.95 per share UNCHANGED
- 1Q: $0.41 vs. prior guidance of $0.36 BEAT
- 2Q: $0.35 vs. prior guidance of $0.39 REDUCED
- Year End Diluted Share count of 25.2mm UNCHANGED
Full Year Store Openings:
- Global: 27 stores UNCHANGED
- International: 14 UNCHANGED
- Domestic: 13 UNCHANGED
Highlights from the Call:
Consumer Direct: +22.6%
- Comp: +13.3%
- Men's drove the results though women's colored denim was well received
- Sportswear also performing well representing 33% of total consumer direct sales
- Opened one store and closed one (total 109 vs. 96 LY)
- Gross Margin (-180bps) reflecting increased markdowns in outlets to clear women's merchandise and competitively price women's sportswear
- SG&A (-110bps) as percent of sales resulting from leverage in fixed costs
- Branded store 4 wall operating margin +100bps to 40.2%
- Total consumer direct operating margin (-80bps) due to gross margin reduction and additional field management/merchandise buying resources
US Wholesale: +2.8%
- First Q of positive growth since 4Q08
- Growth Driven by the men's business (specifically cords) and specialty store channel which was positive for the 8th consecutive quarter
- Men's non denim collection was well received
- Net sales to majors (-6%)
- Net sales to off price channel flat
- Gross Margin: (-30bps) due to competitive pricing in women's
- OM +160bps due to reduced SG&A
International: +3.6%
- Driven by higher retail sales in the UK and Canada
- Achieving good traffic flow in branded retail stores and are now focused on improving conversion
- Retail sales +121% due to store count growing from 8 to 18 YoY
- Partially offset by lower contribution from Germany and Korea
- Opened 2 stores outside of the US in 1Q (1 in Canada, 1 in Japan)
- Gross Margin +180 bps driven by sales mix shift to retail
- SG&A +20.6% due to additional 10 retail stores YoY
Core SG&A: +$900K
- Down (-140bps) as % of sales due to sales growth
- YoY increase due to incremental advertising expenses from national magazine and digital media spend consistent with 2012 plan
Consolidated Gross Margin: -30 bps
- Due to competitive pricing in selected styles
Balance Sheet:
- Ended the Q with $204mm in cash & no debt
- Board initiated a quarterly dividend of $0.20/share & $30mm share repurchase program
- Inventory +24%
- Largest component is expanded retail store count +22% over last year
- Expansion of wholesale in AMEA region also contributed
2Q Outlook:
- Reducing EPS outlook from flat at $0.38 to $0.35
- Resulting from slowdown in International sales relative to prior guidance
- Sales from Consumer direct and US Wholesale will not be enough to overcome anticipated softness in the international segment
- Combined 1H results will be slightly ahead of original guidance
- Remain on track to open 27 stores globally- 13 in the US and 14 internationally with timing of openings to be similar to 2011
- Anticipate $19mm in additional YoY SG&A expenses associated with new stores for the full year
Q&A:
Women's Business:
- New product should kick in during Fall/Holiday season
- Have some more trend setting product coming down the pike vs. product that has been following market
- Women's trends looking less distressed/ripped
- Would continue to categorize women's as "stable"
- Men's women's split currently 60% 40% men's to women's
Pricing:
- Difficult to control pricing with gas and oil/cotton cots increasing
- Trying to be more cost effective with treatments on women's side resulting in cleaner looks vs. vintage/washes
- Need to be more price competitive in Canada vs. US pricing, need to be more consistent across the border, have made adjustments over the last 60 days which has had positive impact on the business
- Looking to tighten the price range where volume is done for Women's from the current $178-$200
- Unit sales similar in men's and women's with men's pricing driving gender outperformance
Denim Trends:
- Colored denim Looks to be strong through Spring/Summer next year
- Seeing a lot more distress (ripped) denim on the men's side
- Developing a vintage/non vintage trousers trend and are running corduroy more year round
- Men's trends are driving the success in the business while women's is stabilized
- Colored denim higher as a % of denim sales in wholesale vs. retail
- Color contributing 40%-50% in wholesale
- Slightly lower in retail where there is a fuller denim offering
- International- Germany started with color late in Q4, 60-65% of denim color
- Asia- 10% of denim offering is colored
- Having more success in more branded style denim (iconic stitches) vs. cleaner lower priced denim
US Consumer Direct Go Forward:
- Q2 is an important time to be "wear now" headed into summer
- Feel assortment is right headed into summer
- Have seen incredible traction in shorts particularly men's
FY2012 Top Line Guidance:
- 1H international hasn't shaped up to expectations but 3Q merchandise more in line with original 1H plans
- 1Q consumer direct strength expected to offset weakness in international early on and have some visibility into 2H strength through Fall bookings
- Half of international is wholesale so fall order book provides good visibility into 2H
International Consumer:
- Consumers take more of a lifestyle approach to the brand
- Seeing slimmer fits
- German consumers trends have been a bit more dressy vs. casual
- Male customer in particularly is loyal to the brand
Outlet Store Comp:
- Both formats had nice positive comps in 1Q12
- Outlets were above the average
- Full price stores were "very positive" (when asked if up DD)
- 90 stores + e-commerce in the comp base
- Made for outlet merchandise currently 50 50 in outlets in 1Q, will shift to 65% 45% in Q2
- Healthy balance would be 60% 40% made for outlet vs. full price transfer
Traffic Trends in the Quarter:
- Flat in both retail and outlet
- Conversion flat in full price stores
- Conversion improved in the outlet stores which contributed to comp growth
Korea:
- Down $1.2mm in the quarter, right on track to be down $5mm in the year (unchanged)
International Comp:
- Only 3 stores in the comp base, not at the size to be included in the comp
Gross Margin:
- Have gross margin pressures much better contained
- Adding newness & novelty to the line, price value relationship allows pricing increases
- Sportswear is accretive to margins due to sourcing structure
SG&A:
- Growth in SG&A primarily due to new stores and incremental spend in advertising
Sportswear:
- Includes all non denim bottoms(ie leggings & corduroy)
- Sourcing opportunity helping margins in sportswear category
- Graphic Tee business is "amazing"
- Fabrication and fits have been upgraded
- Have effectively built graphic design team- graphics are new, colorful
Inventories:
- Linked primarily to door count growth and build of inventory in Europe
- Expect 3Q and full year inventory growth to be due primarily to incremental sales growth
- Anniversary international wholesale support in 2H12
International EBIT Margins:
- EBIT Margins down primarily due to Korea (-$1.2mm YoY in 1Q12)
Product Costs in 2H:
- Cotton hasn't really come down that much in terms of pricing coming down the pike
- Fabric is made in America, a lot of which was purchased with higher cost cotton
- Will provide an update on 2H costs next quarter
