• It's Here!

    Etf Pro

    Get the big financial market moves right, bullish or bearish with Hedgeye’s ETF Pro.

  • It's Here

    MARKET EDGES

    Identify global risks and opportunities with essential macro intel using Hedgeye’s Market Edges.

As a follow-up to our initial thoughts this morning, there are several noteworthy read-throughs embedded in FINL’s Q1 results from this morning’s call:

  • The strength in footwear – particularly running was impressive. Despite basketball and athletic casual footwear comps down double-digits, footwear comps overall were up 12%.   This implies running was ‘running’ at a high-teen to 20%+ rate through Q1.  
  • Apparel underperformed the rest of the portfolio down LSD with a particular weakness in basics.  Given the inherent challenge in trying to differentiate basketball short and t-shirts and to compete with volume based value players, management made it clear that a shift is underway towards more performance product.   Branded business with NKE and The North Face stands to benefit.   Overall this confirms our belief that there are still opportunities for mall-based footwear retailers to sell performance apparel alongside technical footwear.  The good news here is that price points on branded, performance goods are measurably higher than the basics they replace.
  • Inventory management remains a key element to the company’s ability to maintain its impressive sales/inventory spread well above peers.  It was noted that improving turns remains a key focus, but there were probably some areas where orders could have been bigger to meet demand.  Importantly, there’s a divergence within consolidated inventory whereby the company is continuing to aggressively reduce aged/underperforming inventory while at the same time building inventory in key categories i.e. running and toning.  It was suggested that investments in inventory would accelerate heading into BTS relative to recent quarters.  Overall, based on inventory levels from the two largest mall-based players, there is little concern that promotional activity is about to increase.
  • The outlook for net store growth this year improved since last quarter due to landlords increasing willingness to negotiate. While maintaining 8-10 store openings, the company cut the number of closings in half to 10-15 from 20-30. With 200bps of occupancy cost benefits realized in Q1 and approximately 30% of the store base up for some kind of lease action this year, there’s upside to management’s expectation for a 30-40bps annual positive contribution to gross margins.
  • Lastly, traffic continues to be inconsistent– in fact management alluded to this volatility at least a handful of times on the call. While truly a small sample, the latest read on traffic in June is positive. In looking back over monthly trends, traffic was positive in March and then down a bit in both April and May - so far in June traffic is up 2%.  Perhaps just a sign of comping last year’s rebate checks, we struggle to view a positive early read on traffic as anything other than just that – positive.

With an even more favorable quarter ahead for FINL in Q2, coupled with further gains in sales productivity, product margin, occupancy cost and e-commerce, our view is that the company is on track to exceed recent peak margins of 8.3%.  As a leading athletic footwear retailer, FINL is one of the most direct ways to play the multi-year trend underway in the athletic footwear space.  We continue to believe that this is not a zero sum game and that there is more than one investible opportunity to capture the athletic cycle tailwind.  Importantly, Finish Line’s success has little bearing on our bullish outlook for Foot Locker.  We remain comfortable with our positive bias on both names following these results.

Below is additional color from the Q&A of today’s call:

Q&A:

Pricing - Vendor pass-throughs:

  • Vendors not pushing through price increases above and beyond expectations
  • Product in the $115 zone from SKX well received

SG&A Control - Labor Management/Commission Program:

  • Store labor costs for Q1 were flat in $$
  • Evaluating commissions program in a couple of markets and will be expanding to add'l mkts throughout the year
  • Store labor tool schedules labor according to traffic
  • Mgmt comfortable with LSD decline in SG&A over the balance of the year, 5%+ sounds aggressive

Inventory Mgmt vs. Comp Outlook:

  • Mgmt still sees upside on inventory turns
  • Aging inventories continue to improve
  • Seasonal carryover (i.e. boots) work to flush ahead of next season
  • Reducing less relevant inventory - growing inventory in categories driving growth e.g. Running and Toning
  • Planning to ramp inventories only in key growth categories

Comps - Traffic:

  • Traffic positive in March and then down a bit in April and May - so far in June traffic is up 2%

Comps - Trends:

  • Compares volume August is ~40% of the qtr, June/July the balance
  • June was 9% of total business in 2008, 7.7% of total sales in 2009 - mgmt planning on 8% this year

Balance Sheet - Uses of Cash:

  • Investing in the core business to drive growth
  • Strategic initiatives/Acquisitions
  • Looking to invest outside of the core brand
    • Potential buyback when shares at attractive levels

Gross Margins - Product Margin:

  • Compares get tougher going forward
  • Had mentioned 30-40bps contribution from product margins in FY11, obvious upside given +180bps in Q1

Running and Toning Inventory Levels:

  • Looking to invest in inventory here - key drivers for BTS
  • Levels are very lean after two quarters of -20% and -18% respectively

Exceeding Prior Peak Margins:

  • Optimistic they can exceed peak margins by:
  • Driving sales and increasing sales productivity in stores (~$300/sq ft last year, up 11% this qtr)
  • Product margin improvements
  • Occupancy savings a source of upside
  • Dot.com continues to grow well and at a more profitable rate

Toning Innovation:

  • FINL has tested new product from Skechers at higher price points and different aesthetics with 'good' reception
  • New entrants still aggressively hitting the category

Dot.com:

  • Average ticket runs +30% premium to average transaction in-store
  • Driven by footwear
  • Expanding assortment on the internet that they couldn't typically carry in stores - particularly apparel

Product Initiatives in June/July:

  • NKE AirMax10 in malls since May - adding some new colors
  • Lunar new models
  • Reebok ZigTech - took decent inventory for March Launch, ramping that based on success and rate of sell-through
  • Q3 and beyond, Reebok

Apparel:

  • Down LSD driven largely by seasonal product (e.g. basketball shorts, t-shirts, etc)
  • Branded business (NKE, TNF) was positive and look to grow as a % of sales going forward

2H Outlook:

  • They had built a plan that assumed flat to slightly down comp at the end of last year so environment still very favorable
  • Now willing to make some more investments and take more risks within reason based on strong demand

FINL: Clarity on Positive Trends - FINL S 6 10

 

FINL: Clarity on Positive Trends - SG Aggregate 6 10

Casey Flavin

Director