Greetings, welcome to the Columbia Sportswear first quarter 2013 financial results conference call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ron Parham, who is the Senior Director of Investor Relations and Corporate Communications for Columbia Sportswear. Thank you, Mr. Parham. You may begin.
All right. Thanks, Bob. Good afternoon, thanks for joining us today. Earlier this afternoon, we announced first quarter financial results and our revised outlook for 2013. In keeping with our standard practice, we also furnished an 8-K containing a detailed CFO commentary on the results and posted that commentary on our investor relations website for listeners to review prior to this conference call. With me today are President and CEO, Tim Boyle, Senior Vice President and Chief Financial Officer, Tom Cusick, Executive Vice President and Chief Operating Officer, Bryan Timm, and Senior Vice President and General Counsel, Peter Bragdon. I'll ask our Chairman, Gert Boyle, to cover the safe harbor language.
Good afternoon. This conference call will contain forward-looking statements regarding Columbia's business opportunities and anticipated results of operations. Please bear in mind that forward-looking information is subject to many risks and uncertainties, actual results may differ materially from what is projected. Many of these risks and uncertainties are described in Columbia's annual report on Form 10-K for the year ending December 31, 2012, and substitute filing with SEC. Forward-looking statements in this conference call are based on our current expectations and beliefs, we do not undertake any duty to update any of the forward-looking statements after the date of this conference call to conform the forward-looking statement to actual results or to changes in our expectations.
Thank you, Gert. I'll turn the call over to Tim.
Thanks, Ron. Welcome, everyone, and thanks for joining us this afternoon. Our better-than-expected first quarter results, including a 5% increase in net sales, operating margin expansion of 210 basis points, and 159% increase in net income to $10.1 million from $3.9 million in last year's first quarter, may appear on the surface contradictory to the slight downward revision to our full-year outlook we announced today. In fact, these results are consistent in illustrating the weather-driven volatility of our current businesses. While the recent cold weather clearly benefited our first quarter results, our full-year outlook reflects the caution exhibited by our North American wholesale partners as they placed fall 2013 advance orders following two consecutively warm fourth quarters.
We expect the wholesale portion of our North American and European direct business to contract in 2013, partially offset by continued growth in our North American direct-to-consumer business and our EMEA distributor business led by Russia. We expect declines in the Latin America/Asia Pacific region following two years of rapid growth, driven by a decline in Japan, resulting primarily from a significantly weaker JPY, the effects of transitioning to a joint venture in China, and the transition to a new distributor in Australia. From a brand perspective, we expect full year 2013 Columbia and Mountain Hardwear sales to be comparable to 2012, while SOREL, our most weather-sensitive brand, is expected to decline modestly. We're proud of the brand positions we've established and have every intention of utilizing those brands to remain a global leader in cold weather apparel, footwear, and accessories.
At the same time, our vision is to become better recognized as a provider of market-leading products that help consumers manage all of the climatic elements they encounter whenever and wherever they go outside, any time of the year. We made an important step towards that vision earlier this month with the April 5th global launch of Omni-Freeze Zero and Cool.Q ZERO, our innovative sweat-activated cooling technology deployed in the Columbia and Mountain Hardwear brands and supported by the largest spring marketing campaign in our history. We're encouraged by the responses we're seeing from consumers who have experienced Omni-Freeze Zero, particularly in the Southern U.S., where our Omni-Freeze tour trucks have provided live demonstrations of its cooling properties.
Thousands of our retail partners around the world have been supplied with a total of nearly 2 million Omni-Freeze Zero demonstration sleeves, allowing dealers to perform the same demonstration at the point of sale. We've seen the best early sell-throughs in specialty outdoor channels that cater to our loyal PFG, which is Performance Fishing Gear, consumers, especially in gulf markets where the weather has been warm. Although it's still very early, we expect demand for Omni-Freeze and Cool.Q ZERO to increase as summer spreads to more parts of the northern hemisphere. Over the next several years, our goal is to establish Zero as a new franchise to add to our existing portfolio of franchise collections by Omni-Heat, PFG, and OutDry. We'll continue to focus our seasonal marketing efforts around these differentiating innovative technologies.
During our fourth quarter conference call in February, I spoke about the renewed efforts to drive demand for our innovations by designing our products at more accessible price points where the Columbia brand excels while maintaining distribution discipline and channel segmentation. While we don't expect to see significant benefits until spring 2014 and further in fall 2014, we are encouraged by the steady progress we're making on this initiative. We also remain focused on improving our inventory planning and purchasing processes in order to reduce the level of promotional activity necessary to liquidate end-of-season goods. We're forecasting inventory levels to remain below last year's level throughout 2013, as evidenced by the 11% decline at the end of the first quarter. In Europe, we have taken several steps during the first quarter to address our persistent underperformance in Europe direct markets.
First, we moved Doug Morris, longtime Columbia employee and most recently general manager of our Canadian region, to serve as interim general manager of our Europe direct operations. We also took the difficult but necessary step of downsizing the European staff, and we recently closed our branded retail store in Munich, Germany. These actions were the primary components of the $2.4 million restructuring charge we recorded in the first quarter and an additional $1.7 million that we will recognize in the second quarter. While some of our underperformance in Europe is a function of the difficult macroeconomic environment, there are many areas within our control that we are determined to improve.
I'm confident in Doug's ability to work closely with me and the rest of the European leadership team to continue making those improvements and to continue evaluating the cost structure of the business while we strive to improve our results. I'll conclude my prepared remarks with a few comments about our plans to transition to a 60/40 joint venture in China with Swire Resources beginning January 1, 2014. When we announced these plans in August 2012, we noted that Swire has done a spectacular job establishing Columbia as a leading outdoor brand during the 10 years that they've been our exclusive distributor in China. Since then, they've concluded another successful year, growing sales at a rate of more than 20% to more than $150 million in 2012 and generating double-digit EBITDA.
We're looking forward to partnering with the Swire team and adding this new growth engine to our business beginning in 2014. As we've begun transitioning to the joint venture, we have started to defer income and incur certain costs. The CFO commentary that we published before today's call contains an explanation of how we expect pre-operating costs and the deferral of income to affect our 2013 financial results. If you have not already done so, I strongly encourage you to read the entire commentary, paying special attention to China joint venture section beginning on page four. You'll find the commentary on our investor relations website at columbia.com/investor. That concludes my prepared remarks. Operator, could you please help us with Q&A?
Thank you. We'll now be conducting a question and answer session. If you would like to ask a question, please press *1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press *2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment while we poll for questions. Our first question comes from the line of Robert Drbul with Barclays. Please proceed with your question.
Hi, good afternoon. Good evening.
Hey, Bob.
Hi, Bob.
I guess the first question is, I'm not sure if I saw it, but can you give us an idea how much there was the shift from Q2 into Q1 and on the revenue side?
Tom?
In terms of the distributor shift, Bob?
Yes.
It was in the mid to high single digit millions of dollars from Q4 to Q1.
Got it. Okay. Overall, Tim, when you look at sort of the outlook from where it was three months ago to where we are today, did you receive more cancellations from the time that you gave us the last update? Can you just talk a little bit about the overall outerwear market and sort of where you see the market numbers shaking out this year in terms of the declines, market share positioning for Columbia right now?
Sure. Well, we have not received cancellations in any subsequent amount in the last, call it, four months. Really, we're talking about for fall 2013 now, right?
Yes.
The outlook that we gave you today really predicated on the conservative future view our customers have as it relates to weather. I think there's no question that our customers, for the most part, are suggesting that they are going to be declining their outerwear open-to-buys and weather sensitive product open-to-buys by 10%-15% for fall 2013 with the expectation that they'll be able to chase the business if the weather arrives. That's what we're looking at from a North America standpoint. In terms of market share, I think even though our bookings would show that we have a high percentage of more moderate temperature apparel, meaning outerwear that's designed for more moderate temperatures rather than extreme temperatures, the percentage there has declined in the extreme weather sensitive apparel, but it's never been more than about 20% historically. It's declined from that percentage.
As it relates to market share, I think we've been close to holding market share, but it is possible that we've lost some to other makers of lighter weight apparel. Does that answer your question, Bob?
Yes.
Bob, this is Tom. Just one correction. I think I said mid-single digit. I meant mid-teen millions of dollars shift from Q4 to Q1.
Okay. Tim, could you talk a little bit about a lot of the changes going on at JCPenney and any discussions that you've had with JCPenney and the Columbia brand, any different outlook from that perspective from the Columbia business?
Well, we try to avoid any specific conversations that we have about particular customers. I can tell you in general, our expectations are that our business with that customer will be more challenging for the foreseeable future.
Great. Thank you very much. Good luck.
Thanks.
Thank you. Our next question comes from the line of Christian Buss with Credit Suisse. Please proceed with your question.
Hi, thank you. This is Dara Lache on for Christian. Thank you for taking my call. You've talked about a strong early reception to the Omni-Freeze ZERO. We're just wondering how many doors is it in now, and how should we think about the product rollout going forward?
Well, Dara, I don't have for you the number of doors globally, but it should be approaching 10,000, in that range or maybe even slightly larger. The rollout has been as planned. We have activations planned in many of the doors, all the important ones really, where we actually have consumers experiencing through these Omni-Freeze ZERO sleeves, the cooling effects of the product, and it's demonstrated by a human being. We've got the most intelligence about the USA market, where we have started earlier than in the rest of the world on the demonstration and the rollout. We've seen successes in the Gulf States, primarily where our PFG, our Performance Fishing Gear penetration is the highest. The expectations are quite high, and we have plans for a broader, more democratically priced version of this innovation for spring 2014. We're excited about the potential.
All right. Great. Thank you. That's helpful. I understand sort of the revenue side of your guidance coming down slightly, the new guidance assumes a flat growth margin from your preliminary outlook for slightly up. Could you just walk us through the changes in that assumption, and maybe through, is it product costs or potentially markdowns?
No, it's really a function of the full price wholesale business coming down slightly relative to the prior guidance, predominantly related to the North American and European wholesale business. To some degree, further weakening in the Japanese yen. I would say that in and of itself is really the biggest driver of the year-over-year change in the guidance, is the further weakening of the yen.
All right. Thank you. That's very helpful. Best of luck.
Thanks.
Thank you. Our next question comes from the line of Elizabeth Dunn with Macquarie. Please proceed with your question.
Hi. Thank you for taking my question. I guess the first question is just a follow-up to an earlier question. There's no shift per se, impacting the second quarter, then as we look out to the third and fourth quarter, it seems like fourth quarter might be a little bit lower because of the loss of how the China revenues are flowing. Is that the right way to think about it? Could you just help us with quarterly flow of revenue?
Yeah. As it relates to Q4, you're correct with regard to the China deferral negatively impacting the top line there. There is a shift between Q2 and Q3 with more of our EMEA distributor business shifting from the second to the third quarter. I would say that's the biggest driver in the decline in year-over-year Q2 revenue.
Okay. How much is that?
I would say that's in the low $20 million range.
Okay. Great. In terms of the health of the footwear business, can you just sort of provide an update on how you're feeling? Obviously, weather has been a major impact, how are you feeling about where the business is positioned, putting weather aside?
Well, based on my high expectations for this category of merchandise, which are quite high, we think we're moving along the right path as it relates to merchandise which is less weather sensitive. However, the combination of the SOREL business, which is almost exclusively weather dependent, and the heavy dependence and success in the Columbia brand on winter footwear, it's depressing those otherwise improving results. I think we're on the right track. I think we've got the right team there. The expectations for me are high, but we're not able to circumvent this weather issue.
All right. Just one more, if I may. In terms of expense control, you sort of touched on it in your prepared comments, but can you just give us a more robust explanation of where things stand? How much more expense reduction is there to be had, if any, and what are some areas for future opportunity, if any?
Yeah, Liz, this is Tom. I would say, SG&A is an area that all forms of discretionary spend, we manage diligently on an ongoing basis. There's always room for improvement there. We feel like we've done a pretty good job over the last year, particularly last year. We felt it was important this year to reinstate our compensation and benefit programs after not having increases last year. I would say the biggest driver of what's driving the expense growth, excluding the pre-operating costs for China and the restructuring charges, are the increase in the direct-to-consumer business. That's the biggest component of the increase.
The increase is relatively minimal. Are there other things that are down year-over-year, I would imagine?
Well, obviously, we're getting some benefit from translation of currency. I would say that's the biggest offset, in addition to the cost reductions that we put in place last year that we realized, and you could see in the year-over-year comps in Q1.
Okay, great. Thank you. Good luck.
Hey, Liz, just one further comment. I think we've all realized that the business is operating and frankly, not performing as well as it needs to on the top line. The focus, now that we've concluded the SG&A reductions that we felt were appropriate, the focus for the management team here has been on growing the business from the top line. We don't have much to show for it now, but that's where we're focusing our time and effort, and at the end of the day, that's going to reflect much better on the business than further cost cutting.
Thank you. Our next question comes from the line of Lindsay Drucker Mann with Goldman Sachs. Please proceed with your question.
Hi, good afternoon, everyone.
Hey. Hello.
Just to kind of go back to Bob's original question, when we look at the delta in your revenue guidance now versus last quarter, you had always been expecting a cautious order pattern from your wholesale partners, and kind of the text in the CFO comments really didn't change much. If you could rank order what the big drivers of your slightly lower view on revenues versus when you initially gave guidance, between U.S. wholesaler patterns. You mentioned Europe and LAAP as drivers in this text, and you hadn't last time around. I guess maybe currency. What's the biggest delta versus what you had thought last quarter?
I would say number one would be Europe. Number two, we're in the midst of transitioning our Australian distributor business that wasn't fully contemplated 90 days ago. Also as well is the further weakening of the yen. Those are really the main drivers.
As you think about really your wholesale partners being cautious, that really hasn't changed versus where we were a quarter ago?
No.
I mean, are they incrementally more cautious, or they're still as cautious as you thought?
No, I think we expected caution from them, and we got it.
Okay. On the European business, do you have sort of a preliminary plan on the path to recovery in that market? I know you talked about some of the restructuring initiatives, how do we see ultimate improvement off of the depressed revenue and margin levels we're at?
Well, I would say at a very high level, we need to get an improved offering of merchandise there that can be more relevant to that marketplace. That's the primary goal. We continue to monitor the situation as it relates to our investment there, both from fixed assets and variable costs. Our expectation is that we'll be able to put together a compelling product offering, which will get us back to growth again. Again, our focus has been on getting the business to the size we believe it's appropriate from a cost standpoint, and then focus heavily on improving the top line. That'll be a combination of product offering modifications, which are well underway, and people improvements.
As we said, we sent one of our best managers, a longtime employee there, to help us get that business turned around, and our expectation is that we'll be able to do that.
Okay, thanks. Just lastly, can you give us, if we were to pull spot rates forward, or whatever's embedded in your guidance, what the FX drag is on revenue and profit?
In terms of rates or-
Yeah
The overall impact? The year-over-year impact of currency is about $0.12, of which eight would be the back half, four would be the front half.
Okay. Then in terms of on revenue, the rate of the %?
It's about 1.5%. Call it $25 million.
Okay. Thanks very much.
Thank you. Ladies and gentlemen, as a reminder, if you would like to ask a question, you may do so by pressing star one on your telephone keypad. Our next question comes from the line of Kate McShane with Citigroup. Please proceed with your question.
Thanks. Good afternoon.
Okay.
Hi. I just have two questions with regards to the winter business and the cold weather apparel business. I think, Tim, if I heard you correctly, you had highlighted that maybe you had lost some share. Is that because you didn't have as much lighter weight outerwear product? If that's the case, how are you addressing that for this upcoming winter?
No, I think we had the appropriate amount of lightweight product. The fleece business, which for all intents and purposes is lightweight outerwear, is probably the company's largest category from a unit standpoint by far and away. I think what we saw was just a reduction in purchases of heavyweight apparel, where the company's had, call it, 20% of its business historically. I think, the market shares in this business is so hard to calculate, just based on the data that's available. It could be that we had some market share loss, at the end of the day, we think we had the appropriate merchandise offering.
Our customers picked the appropriate kinds of inventory from our collections, they just picked a lot less of it because their open-to-buys for these weather sensitive categories, including cold weather apparel and especially cold weather boots, really depressed the results for us for this year in 2013. Are we going to improve for 2014? I think absolutely. The weather impact is still significant.
Okay. Thanks. One question on Europe. I know the focus of the turnaround is on your direct business, but can you update us at all about what you're thinking with your distributors in Europe? It sounds like they might be outperforming the direct business. What do you think is the main differences between the two businesses?
Well, our biggest business in Europe on a distributor basis is in Russia, and our Russian distributor has a significant component of their own retail business as well as a Columbia franchise business where they can direct the offering much more focused way. The Russian weather was frankly spectacular for our kinds of business last year. Those two things really in combination made the business better in Russia than we otherwise would have had.
Will there be any change to the product offering that the distributors are selling currently, like you will do in the direct business?
No. The process is we prepare a global line. We have an offering that's filtered by numerous merchants that work the lines here. Our Russian distributor is able to pick from that selection of product, and they've been much more focused on sort of the moderate price points as opposed to where we've been operating globally when we've been directing our salespeople at a higher level.
Okay. Thank you.
Thank you. Our next question comes from the line of Corbin Weyer with Robert W. Baird. Please proceed with your question.
Thanks for taking my question.
Sure.
Just a quick one here. Just wanted to dig a little bit more into the second quarter revenue guidance, seeing that you guys are talking about U.S. wholesale down. With that in mind, what's kind of incorporated into that guidance in terms of an at-once order perspective? Is there opportunity there? I guess, given the late start spring that we've seen here, I'd imagine that there's probably some pent-up demand out there for some of that product.
Yeah. As we talked about the weather sort of greatly this quarter, it's been colder, and it's been helping our winter product business, not necessarily from an expanded margin standpoint for our retailers, but they've certainly been able to liquidate more inventory there. We think that we're in the right positions as it relates to our spring product for the balance of the year. Our customers typically, for us, spring is like a net zero reorder business. The expectation for us, regardless of this particular spring's temperatures, is for the U.S. business to provide just about a zero reorder basis.
Yeah. The biggest creator of volatility in Q2 is the timing of our distributor shipments that really straddle Q2 and Q3, so they can shift into either quarters in a given year, and that's what's really driving the downward comp in year-over-year Q2 sales this year. Again, that's that EMEA distributor shift in the low $20 million range that I alluded to earlier.
Sure. That's helpful. Thank you. That's all I had.
Thanks.
Thank you. Ladies and gentlemen, as a reminder, if you would like to ask a question, you may do so by pressing star one on your telephone keypad. One moment while we pull for questions. Our next question comes from the line of Andrew Burns with D.A. Davidson. Please proceed with your question.
Thanks. Good afternoon. I wanted to follow up on a comment, which I think I heard earlier about retailers wanting to take pre-book down, I think there was a 10%-15% number. I think that was maybe an industry or something like that. Wanting to chase business if the cold weather arrives. I'm sure your average outdoor retailer would love outerwear to be more of an at-once business. Obviously, that's tough to do from your standpoint. Given the two consecutive winters, is the business changing at all more towards at once? Is there any potential competitive advantage to take a little bit of inventory risk to try to capture sales upside in these cold weather years? Thanks.
Certainly. Well, Andrew, I've been around this business for a long time. I hate to even think about how long. With these kinds of weather abnormalities, I remember back when the dinosaurs were still here. These kinds of weather abnormalities, if they happen a couple of years in a row, tend to become fact in the retailer's mind. It's not unusual for them to take sort of a broad view of categories of merchandise and reduce the open-to-buy for those. That's what we've seen, is that the retailers have basically said, "Okay, we're not going to invest as heavily in cold weather footwear and in outerwear as we have in the past, and we'll chase that." Because the outerwear and cold weather footwear businesses require long lead times from our Asian sourcing, we have to take a position, and that's what we've got.
We've reflected on where we believe the business will go this year and what the open-to-buys will be for the balance of this year. We've taken what we think is the appropriate position on inventories. Yes, retailers would love to have an at-once business as it relates to outerwear, but it's just one of those kinds of categories that's not available. If we have a spectacular weather year for the company, which would be cold weather early, we won't have a significant increase in the top line, but we will have an improvement in our gross margins. That's how we have run the business historically, and that's how we expect this year will play out, depending on the weather.
Great. Thanks. During the call, you mentioned some shifting of management around and a focus on some improvements there. Are there any plans to increase hiring of additional senior executives? Perhaps I've missed it, but since Mick's departure, there was talk of maybe a couple of new positions being created, and I just didn't see that occur. Just looking for an update there. Thanks.
Certainly. Well, yeah, as we said, when Mick departed, we weren't going to replace his positions directly. We're going to be adding people over time to help us improve the business, and we're taking some time to make sure that we have the right candidates identified, and there'll be more news on that happening as we make additions.
Great. Thanks.
Thanks.
Thank you. Ladies and gentlemen, again, as a reminder, if you would like to ask a question, you may do so by pressing star one on your telephone keypad. Our next question comes from the line of Mark Devaul with The London Company. Please proceed with your question.
Hey, guys. Good afternoon.
Hey, Mark.
Hey. I was wondering if you could talk about your longer-term capital allocation decisions. You have a strong balance sheet. You're generating cash. Just curious how open you are to share repurchase or maybe bumping up the dividend yield over time.
Yeah, Mark, this is Tom. The March-April timeframe is typically the peak of our annual operating cash as we collect our wholesale receivables from the winter months. We would expect cash to decline seasonally like it has historically from March forward. With that being said, we intend to generate roughly $85 million in free cash flow this year, and we'll begin to fund our China JV beginning this quarter through the first quarter of next year, with that funding comprising about $50 million, and most of that will come from cash domiciled offshore. With that being said, at any given time, 30%-40% of our cash is held offshore. If we were to repatriate that, it would cost us significantly from a tax perspective. We've got the buyback. We've got $58 million available under that. We've got the dividend program, and we've got M&A opportunity.
Okay. Thank you very much.
Thank you. Our next question comes from the line of Robert Ohmes with Bank of America. Please proceed with your question.
Hey, Tim. How are you?
Good, Robbie.
Hey, could you remind us, once you take over the China JV, just what the multi-year ramp-up could look like in 2014 and beyond? How many full-line stores could you be doing? Are you going to be doing a lot of outlet stores in China? If you could just walk us through what sort of the three-year plan 2014 through 2016 looks like.
Robbie, we really haven't talked at all about 2014. We've walked through what the plan is as it relates to 2013 for China, the expectation is that we will continue to grow on the same cadence. It won't change the nature of the operations there. In other words, we don't have very many outlet stores. It's almost all full-price stores. The expectations are for continued expansion in that market, even though there's been some slowing. Maybe I might just ask Tom to be a little bit more colorful here.
Robbie, that business did just over $150 million last year, grew over 20%, generated double-digit EBITDA margin. We expect healthy growth in 2013. It's about 75% wholesale, 25% retail. Currently, we don't anticipate that changing dramatically. There are roughly 80 company-owned stores and several hundred, 500-plus dealer-operated rooftops in that marketplace today.
Thanks. That is very helpful.
Thanks.
Thank you. There are no further questions at this time. I'd like to turn the floor back over to management for closing comments.
We thank you all for listening in, and we appreciate your attention. We'll be back to you in about three months. Thank you.
This does conclude today's teleconference. You may dispense your lines at this time. Thank you for your participation.