PSS: Enjoy The Selloff, Prepare to Act
Nice beat, though comp was weak for all the right reasons. This story is on track…period.
As we expected, PSS beat the quarter. We highlighted in our note yesterday the assumptions behind our ($0.10) estimate, and how a loss starting with a 2-handle (the Street was at a loss of $0.26) was not in the cards even if we flexed on some key assumptions. With a print of ($0.18), there was little that came from the event that we found surprising.
In fact, the company’s gross margins and SG&A were in line with our model. The entire deviation was on the comp line, which came in well below our estimate. The bottom line there is that the 3Q Oprah promotion pulled forward more inventory than we modeled. So margins were huge in 4Q, but the company simply did not have enough ‘stuff’ to sell.
So let’s step back for a minute. The crux of why we like PSS is that a) the company increasingly owns both content and distribution, b) some big competition (WMT) is de-emplasizing the footwear business, c) PSS has made structural changes in its model that increases speed to market, d) it finally has the systems in place to be in touch with the right consumers – and market the right product to them in the right channels, e) can, and will, both drive higher AURs on top of increased traffic. Ultimately, the consensus estimates are too low – as proved this quarter.
When I look at this quarter, I poke and prod to see what parts of this thesis were proved wrong. Really, there’s nothing. The company nailed the product, but did not have enough. That’s their biggest miss. I’m ok with that, as it has no bearing in next years’ earnings. I’d be concerned if comps were high but gross margins took a nosedive because PSS missed trends and had too much inventory. That absolutely did not happen.
Will there be more bumps and scrapes along the way here? Of course there will be. But I still think that the Street’s estimates are likely to come out 20% too low for next year. At the same time, having just passed an important yy hurdle, momentum on both the top line and operating margin is strong for the next few quarters. Any meaningful sell-off here is a great opportunity to step back in on one of the few solid stories in retail.
-Brian McGough
REVIEW OF THE QUARTER
Reported EPS: -$0.18
Clean EPS: -$0.19
Street: -$0.26
Hedgeye: -$0.10
Summary
- Revenue: +3.3%
- Comps: +0.7%
- PLG: -13.6% (-18.3% wholesale, +1.8% retail)
- Expiration of the Tommy Hilfiger adultwear license
- Gross Margin: +467 bps
- Improvement due to double-digit percentage reduction in product costs from commodity prices and leveraging size and scale of global supply chain. Lower markdowns due to clean and light inventory position, higher sales which leveraged fixed costs such as occupancy, and lower freight and distribution costs related to the new distribution centers being fully operational along with the closure of the Topeka distribution center in Q2 09.
- SG&A: +3.7%, +13 bps
- Higher incentive compensation and PLG investments was nearly offset by payroll and other spending.
- EBIT: +454 bps
- CF/BS:
- Inventories: -10%
- Cap Ex: $84 (down $45 due to completed spending in previous year)
- Cash: increase in cash was driven by lower working capital and higher earnings from stronger operating performance.
- Debt: Net debt at the end of 2009 was $456 mm lower by 208 mm. Repaid an incremental $40 mm of long-term debt during 4Q. Paid down $22 mm on 8.25 senior sub board
Guidance
- Tax: 20%, higher than 2009
- D&A: $140
- Cap Ex: $100 (increase of $16 mm, over half spending from stores and incremental IT projects)
- Inventory: will be higher driven by sales growth
- 2010 Stores: -15 net [-60 stores domestic, +25 stores international (Columbia additions), +20 stores in PLG (Stride Rite additions and Sperry retail concept)]
- Working Cap: 2010 networking capital is expected to be a use of cash due primarily to increases in inventory and accounts receivable as a result of sales growth
- SG&A: goal is to lower operating costs, but
- GM/Occupancy: 1/5 of stores come up for renewal in 2010
Q&A
- Product Costs: Costs will be down mid single digits in 1H, which is less than Q4. There maybe costs that could turnaround from a positive to a negative in 2H but don’t have much insight on this yet.
- PLG Retail: some prices were too low, PLG retail expansion and turnaround is taking longer than expected due to not changing the management fast enough, but now that it’s in place strategy in motion.
- Boots: underplayed boots in 4Q and by the time it came to replenish, it was too late in the game to safely replenish. Ran out of boots in Q4 which hurt total sales. Boots will not be a play in Q1 or Q2 at PSS.
- CRM: Effects of CRM worth the investment and continue to invest.
- Economy: unemployment is still 1/10 in the US so this economic situation is not over, people aren’t as afraid so there are some changes, but some sectors are still materially impacted.
- Toning/Fitness Category: consumer response is great, but there won’t be a material impact until they fully catch up with the trend. Every style developed is winning, demand is high and price sits well with consumer. Its in all doors.
- The Oprah Impact: hurt the inventories by 60 days so that impacted for quite a while. Oprah impact was about $19.9 - $20 mm on revenue.
- ASPs: planned on fairly tight, relatively small increase. Based on just how the consumer traffic is out there, it might be something where PSS might want to take it up a tick more, than where it is now. Still working on engineering the prices. Really increased value scores and pricing scores in the second half of the year.
- Relationship with brands in wholesale and other retailers: announcing later a new relationship with one of PSS’s brands and another retailer. Planned to be a great American brand. Very happy when PSS brands find the perfect home with a winning retailer.
- Easter Impact: there will be an impact from an earlier Easter for Payless especially.
- Stride Rite: placed the good better best strategy in December and started seeing benefits in Q1.
