Earnings Call: Q2 2010

Jul 22, 2010

I would like to remind everyone that this conference call is being recorded. Before we begin, I would also like to remind everyone of the company's Safe Harbor language. Please note that some of the information provided in this call will be forward looking statements within the meaning of the securities laws. These statements concern Decker's plans, expectations and objectives for future operations. The company cautions you that a number of risks and uncertainties, some of which are beyond its control, could cause Deckers' actual results to differ materially from those described on this call. Deckers has explained some of these risks and uncertainties in its earnings press release and in its SEC filings, including the Risk Factors section of its Annual Report on Form 10 ks and its other documents filed with the SEC. Among these risks is the fact that the company's sales are highly sensitive to consumer preference, general economic conditions, the weather and the choice of its retailers to carry and promote its products. Deckers intends that all of its forward looking statements and this call will be protected by the Safe Harbor provisions of the Securities Exchange Act of 19 34 as amended and the Securities Act of 1933 as amended. Deckers is not obligated to update its forward looking statements to reflect the impact of future events. I would now like to turn the conference over to the President, Chairman and Chief Executive Officer, Mr. Angel Martinez. Please go ahead, sir. Well, thank you, operator, and welcome to everyone joining us on the call today and listening via webcast. With me are Zohar Ziv, our Chief Operating Officer and Tom George, our Chief Financial Officer. We reported another great quarter with financial results that once again exceeded our projections. Tom will go through the numbers in a moment, but before that, let me highlight a few key themes. As you know, several years ago, we detailed our long term sales goals for the company. And since that time, we've been executing growth strategies that have us moving towards successfully achieving those objectives. If you look at the evolution of our business, I think it's clear that our sustained efforts to build a balanced business in terms of seasonality, distribution channels, geographies and brands are working. First, seasonality. With the growth of the UGG Spring line since its launch in 2005, combined with the emergence of the Teva brand, we now have a much more meaningful business in the first half of the year. Sales of our products have achieved a compound annual growth rate of approximately 20% over the last 5 years and represent roughly 30% of our total revenues, which is close to our goal of having our spring season make up roughly 35% of the business in the next few years. 2nd, looking at sales by channel. We have become much more diverse in terms of wholesale, retail and e commerce. Wholesale, our largest channel, has continued to grow steadily and was up in the first half of the year, driven by strong sell in and sell through for both our UGG and Teva Spring lines. For the UGG brand, this was true across our account base of better department stores, specialty chains and key independents, all of which carried a much broader assortment of spring product this year. Similarly, Teva brand sales were consistently higher at key retailers such as REI, DICK'S, EMS and Sports Chalet. While at the same time, the brand has generated renewed interest from some non traditional accounts such as Nordstrom, Dillard's, Von Maur and Zappos, as we have broadened the product line. Entering the back half of the year, we're well positioned to capitalize on this momentum with 140 additional UGG brand shop in shops for a total of approximately 290 worldwide and much more complete offering of fall product from the Teva brand. Our retail business has been performing exceptionally well. Same store sales were up 19.2% in the 2nd quarter and have increased 25.6% year to date over last year. This combined with the 5 new stores we opened last year fueled strong double digit growth for our retail segment during the first half of twenty ten. We're very excited about these results, particularly as we prepare for our most aggressive period of expansion by opening 9 stores this year. After opening our store in Shenyang, China in late June, we will open 8 additional stores over the next 5 months. 6 of the 8 new stores will be in the U. S. With locations in Miami, Washington, D. C, Los Angeles, Las Vegas and Orlando. We'll be opening our 3rd New York City store, which will be located on Madison Avenue at 58th Street. And finally, the remaining two stores will be in Shanghai, China. All stores except for Orlando will be full price retail stores. Finally, with our e commerce business, UGG brand sales were up double digits in the 2nd quarter, driven by heightened demand for the spring line. However, this was offset by lower sales from our other brands, which were up against difficult comparisons because of high closeout levels in the prior year, which we didn't have this year. 3rd, let's talk about geographies. The spread between our domestic and international sales has also become more balanced in recent years and we're tracking to achieve our goal for 2012 of having approximately 30% of our annual sales come from outside the United States. In the Q2, international sales were up 55% and rose 41% for the first half of the year due to a number of growth drivers. First, we're seeing more distributors achieving success with a greater selection of product on the spring and fall lines as retailers in our foreign markets are seeing the benefit of supporting broader width of collections rather than relying on a small number of core items. And this has allowed us to gain valuable shelf space and increase our retail presence in several key countries such as the UK, the Benelux region, Italy, Germany, Korea and Canada. We're continuing to evaluate new markets and we're working with our partners to secure the right distribution, establish the brand's lifestyle position and attract our target consumers. For example, in Russia, our partners are kicking off the by opening an UGG Australia store in one of the most notable locations in Moscow, Red Square. We believe the Russian market with its long winters and quality and fashion conscious consumers present a great opportunity for the UGG brand. And we're also benefiting from our decision to convert from a distributor to a wholesale business model, the UGG brand in Japan at the start of 2,009 and the Teva brand in the Benelux region earlier this year. Japan is a large market for luxury goods and presents another great growth opportunity that wasn't fully realized by our previous distribution partner. Under our stewardship, the UGG brand has added key points of distribution within the country's extensive retail network, increased shelf space in the country's finest department stores and begun delivering a consistent cohesive brand message to consumers. Situation with the Teva brand is different in the Benelux region as this market for many years has been one of Teva's strongest markets. That said, in addition to the incremental sales and margins that going direct brings with it, we're finding opportunities to expand that business within the region and next door in France, especially as we develop more year round product lines. Now the next 6 months will be a very busy period in our international division as we continue to assemble the personnel and build out an infrastructure to support wholesale distribution for UGG, Teva and Simple Brands in the UK and get ready to add the UGG and Simple Brands to our current wholesale platform in the Benelux region. These regions represent our 2 largest markets behind the United States. Domestically, sales were up 15% year to date, driven by demand for the UGG and the Teva brands in the wholesale channel, as well as the rapid growth experience in our U. S. Retail stores. While we expect the international markets will grow at a faster pace in the coming years, we still see a lot of opportunity here in the U. S. Based on recent studies that indicate that the UGG brand is still under penetrated from a demographic standpoint, as well as from a geographic standpoint, most notably in the Southeast region. At the same time, we continue to evolve the Teva product line to include more multi functional footwear, we're confident we can capture an important share of this much larger segment of the outdoor market. The Teva brand has one of its best spring seasons ever. As our effort to develop a more comprehensive line of open and closed toe footwear is resonating with consumers. The 2010 product line included some of our most innovative and commercially appealing styles, including the Syncosi 2, the Itanda, the Tiara, the Tanza and the lighted flip floppy ILLUM. We have taken our technical expertise and leadership position in sports handles and are successfully establishing the Teva brand within the broader outdoor performance oriented category. As a result, we're much less dependent on weather than we were just a few years ago and we're now closer to having more meaningful year round presence at retail. The HEVA brand also had a very strong first half, highlighted by sales surpassing the 100,000,000 dollars mark for the first time in both Q1 and Q2. This was achieved by a very positive reaction to our spring line, which featured expanded assortments of sandals, casuals, spring boots, a new sneaker collection and all of which performed very well. The growth of our spring business is evidenced that the retailers are comfortable with the UGG brand as a year round brand and we're confident that consumers demand for the spring line is fueling greater interest in our expanded fall assortments as well. We're seeing a much greater diversity in the ordering patterns for our wholesale accounts and international distributors with the majority taking a much wider selection of boots across our multiple collections, classic knit, casual, fashion and cold weather, in addition to more slippers and sneakers for fall 2010. So as you can see, our UGG business is about so much more than 1 category, 1 season or 1 market. With the turnaround of the Teva business, we're about more than just one brand. As we get into the fall season and move into 2011, we expect these growth trends to continue and our business to become even more diversified. This diversity, along with the expansion of our consumer direct division, plus the upcoming conversion to a wholesale model in the UK and Benelux region, should put us in a better position to address rising manufacturing and materials costs, which for 2011 appear to be in the 5% to 10% range consistent with others in the footwear industry. Tom will now go through the financials in more detail. Tom? Thanks, Angel. For the quarter of 2010, net sales increased 33.7 percent to $137,100,000 versus $102,500,000 for the Q2 of last year. Net sales of UGG products from the worldwide wholesale division as well as the distributor retail and e commerce businesses increased 34.6% to 100,000,000 dollars versus $74,400,000 for the Q2 last year. Net sales of Teva products increased 38.4 percent to $31,200,000 in the 2nd quarter compared to $22,600,000 in the same period of 2,009. Combined net sales of the company's other brands were $5,600,000 for the Q2 of 2010, flat with the year ago period. Included in these numbers are global retail store sales of $10,000,000 up 63.1 percent from $6,100,000 in the Q2 of 2000 2,009, driven by 5 new stores and the same store sales increase of 19.2%. Sales of our e commerce business, which are included in the brand sales numbers as well were 5,200,000 for the Q2 flat with the same period a year ago. The e commerce business faced difficult comparisons to $2,000,000 as prior year sales included larger closeouts for the other brands. The UGG brand e commerce sales increased 19% for the quarter. Also included in the brand sales numbers, domestic sales straw brands increased 16.2% to $65,200,000 compared to $56,100,000 in the Q2 of last year. And international sales increased 54.8 percent to $71,800,000 compared to $46,400,000 in Q2, 2009. International sales were 52.4 percent of total sales, up from 45.3% last year. Gross margin for the current quarter improved 450 basis points to 44.3% compared to 39.8% in the Q2 of last year. This increase was driven by improved margins for Teva and the other brands and lower closeouts and write downs for the other brands. We also experienced gross margin improvements from Teva being a direct subsidiary in the Benelux. In addition, we received $3,100,000 in duty refunds during the Q2 of 2010, which we don't expect to recur at these levels in the future. Total SG and A expense for the quarter was $47,500,000 or 34.7 percent of net sales compared to $36,600,000 or 35 point 7% in net sales a year ago. We had planned SG and A to increase in absolute dollars due to several factors including costs associated with 5 new retail stores that were not open the full Q2 of last year, operating expenses for our direct Teva operation in the Benelux, international distribution startup expenses, increased payroll and variable expenses for the increased sales. Operating income for the quarter was $13,200,000 or 9.6 percent of sales compared to operating income of $3,300,000 or 3.1 percent of sales last year. The improved operating income was attributable to the aforementioned increases in sales and gross margins. Net income for the Q2 2010 increased 156.2 percent to $9,000,000 from non GAAP net income of $3,500,000 and 2nd quarter diluted EPS increased 155.6 percent to $0.23 from non GAAP diluted earnings per share of $0.09 in the Q2 last year. Please note that all share and diluted earnings per share amounts discussed in this call, including the amounts for the Q2 of 20,102,009 take into account the 3 for 1 stock split in the form of a stock dividend which took effect in July 2010. Now turning to the balance sheet. At June 30, 2010 our overall inventories decreased 17.3 percent to $120,500,000 versus $145,600,000 a year ago. By division, UGG inventory decreased 20.3 percent to $103,900,000 Teva inventory increased 42.7 percent to $11,200,000 Our other brands inventory decreased by $2,100,000 In addition at June 30, 2010, we had cash and cash equivalents totaling 3 $33,700,000 up 90.4 percent compared to cash, cash equivalents and short term investments of $175,300,000 at June 30, 2009. Accounts receivable at June 30, 2010 were $81,600,000 compared to $61,200,000 at June 30, 2009. During the quarter, we repurchased a split adjusted 61,000 shares for an average price of $43 per share. We have $27,400,000 remaining in our current share repurchase program. Now moving on to our guidance. Based on our better than expected 2nd quarter results coupled with an improved outlook including increased sales projections for the UGG and Teva brands, we are raising our 20.10 guidance. We now expect 2010 revenues to increase approximately 14% over 2,009 levels, up from our previous guidance of approximately 13% growth. For the full year, we now expect UGG brand sales to increase by approximately 13% up from our previous expectation of 11%. And Teva brand sales to increase in a high 20% level up from our previous expectation for growth in the mid-twenty percent range. Our other brands combined are now expected to increase approximately 15%, down from previous guidance of 20%. We currently expect diluted earnings per share to increase approximately 16% over a split adjusted 'nine diluted earnings per share of $2.98 per share, which excluded a non cash impairment on intangible assets of $1,000,000 as discussed in our associated earnings release. This is up from our previous guidance of approximately 11% growth. Our forecast is based on a full year gross margin of approximately 49% and SG and A as a percentage of sales of approximately 26%. As a reminder, in preparation for assuming distribution control of the UGG, Teva and Simple Brands in the UK and the UGG and Simple Brands in the Benelux region in 2011, as well as the Teva Benelux in France transition this year, we will incur additional expenses in 2010 for the new initiatives to establish infrastructure necessary to support broader wholesale operations beginning in 2011. Also because of these transitions, sales of approximately $10,000,000 will shift to 20.11 under our wholesale model that would have been recognized as international sales in November December of 2010 under the former distribution distributor model. Total these incremental expenses and profit shift of $8,000,000 will have an estimated diluted earnings per share impact of $0.13 of which approximately 65% is a one time impact. Excluding these costs, we are guiding diluted earnings per share growth to 20%. Furthermore, due to the impact on our international pre tax income from the aforementioned expenses in 2010, our effective tax rate is expected to increase slightly to 36.5% from 36.2% in 2009. Our capital expenditures for 2010 are expected to total approximately $25,000,000 to $30,000,000 a $10,000,000 to $15,000,000 increase from our $209,000,000 level of $15,000,000 driven mainly by the build out of new retail stores as well as the new e commerce platform and PLM software. For the Q3 of 2010, we currently expect revenues to increase approximately 15%, diluted earnings per share to increase approximately 4% compared to the Q3 2019. 3rd quarter guidance includes approximately $1,000,000 or $0.02 per diluted share of incremental investments associated with the distribution transitions as well as startup costs and higher levels of fixed overhead for the new retail stores, international infrastructure and other general and administrative costs. For the Q4 of 2010, we currently expect revenues to increase approximately 8% and diluted earnings per share to increase approximately 8% compared to the Q4 of 2009. 4th quarter guidance includes approximately $5,000,000 or $0.08 per diluted share of incremental investments associated with the distribution transitions as well as the aforementioned higher levels of fixed overhead. Operator, we're now ready to take questions. Our first question is from the line of Todd Slater with Lazard Capital. Please go ahead. Thanks very much and congratulations to everyone. Thank you, Todd. Thank you. I was wondering if you guys could comment a little bit on your strategy to offset the 5% to 10% cost increases that you see coming down the road? And if there are, I would think some margin mix benefits from the retail expansion, the distribution conversions internationally, I'm wondering what you're also thinking in terms of ASPs? And then secondly, just curious about what you're thinking if you're thinking at all has changed on your own direct to consumer, the retail stores given the success there, if you might be thinking longer term about what that footprint might look like globally, has that changed? And I guess I'll just stop there with those questions. Okay, Todd. Yes, to the first question in terms of our strategy, you really hit on a lot of the major levers, so to speak, of what we have to work with. I mean, we're addressing global pricing, we're addressing the fact that we're direct now in the UK and the Benelux for UGG that will provide an opportunity as well to improve our margin, as well as the the we're evaluating our strategy in terms of the pace and amount of our retail store expansion. So those are all the things that we're addressing. And at this point in time, it's still in process. It's still early in our 2011 planning process. So that's about all I can talk about now relative to that until we get further along that process and see the impact. In addition to that, we're looking at our where sourcing is coming from. Until now, the majority of our sourcing come from Southern China. Next year, we'll start sourcing some from Vietnam. And we expect that next year, less than 50% of our products are going to come from Southern China. Our factories are moving more to Central China, Saudi already have done so. And by doing that, they're offsetting some of the cost pressure that's it's mainly in Southern China. Let me add to that. We have been sourcing in Vietnam for several years now, obviously, to some pretty spectacular results in terms of product quality and deliveries. So it's an ongoing evolution. I would strategically add that over the next few years, you'll see a diversity of manufacturing across the globe as facilities become available. In addition, from a design and development point of view, we'll be developing products that offer a better opportunity to diversify manufacturing, in many cases more simplified constructions, product innovation and design innovation are going to become very important in assuring that we're still able to hit the price points that are appropriate for the consumers. So, should we be thinking about 2011 as a year in which we begin to leverage some of the infrastructure investments that are being made in 2010 or should we be thinking of it as another year in which as you take over more of the distribution, there's still the potential for deleveraging? Well, I think that we are continuing to evaluate what other markets we can look at going forward, Todd, from a going direct point of view. It's still I think it's still a little bit early in the process as we walk through some of those levers we talked about earlier relative to the gross margin before we get down that path. So that's sort of a little bit early in our process, it would be sort of akin to giving some guidance for 2011, which we're really not prepared to do that at this point. I will add that if you look at and you asked the other question about retail, as you look at the success of our retail operation, you can see that we have successful formula there. We've developed a pretty solid operating capability. We're in a good position as a brand that's in demand around the world and we're able to secure locations and premium locations inside cities, etcetera. So we've still been, I would probably say cautious on the evolution of our retail business justifiably so in this economy, but it continues to perform for us. And with continued performance, you'll see more aggressiveness from us as we move through 2011 on this front. That's great. Well, good luck and all the best. Thank you. Thank you. Thank you. Our next question is from the line of Mitch Kummetz with Robert W. Baird. Please go ahead. Yes. Thank you. And let me add my congratulations as well. Thank you. Few questions on maybe Tom on your Q2 gross margin, which was up, what, 4.50 basis points, it looks like about half of that was due to the $3,100,000 in duty refunds. Could you talk about the other half? Could you maybe quantify the impact of the Teva going direct and the fewer closeouts? And were there any other sort of puts and takes within that number that are worth calling out, maybe quantifying as well? Yes. Those are the bigger items really. They're not that many other puts and takes. Teva being direct, the Teva, the 2nd quarter is a lower quarter for Teva. So that was but still roughly 70 basis points, 70 basis points to 100 basis points. You hit on the duties, that's about the right number there. The closeouts and the markdowns for the other brands that's about 40 basis points to 50 basis points and just improved wholesale margins at full price for the other brands is about 100 and 50 basis points to 200 basis points. Okay. With your retail business being up 64% in the quarter, I know that's a relatively small quarter for retail. Did that have much impact on the gross margin in the quarter? Not as much as you'd think, because we were up a little bit higher relative to expectations, but as a percentage of sales compared to a year ago, it's about constant. Okay. And then on your SG and A guidance for Q3 and Q4, when I look at SG and A in dollar terms, I think it was up around $11,000,000 in Q2 year over year. Based on your sales and SG and A guidance as a percentage of sales, it looks like that's going to ramp up to somewhere in the 21 $1,000,000 range in Q3 before dropping back down to $11,000,000 in Q4. I don't know if I did my math correct or not. But can you talk a little bit why the big bump in Q3? I'm assuming that has something to do with your transition in Europe. Some relative to the transition in Europe, but really more there's not just Europe. We've been direct in Japan for a while. We've got some ramping up in Japan. We've got some some expansion of some international marketing. We the stores, there's 5 more stores or 6 more stores operating this year relative to a year ago, but there's also the startup cost relative to getting 8 more stores to open up in the Q4. And then there's now that we're direct with Teva and the Benelux, there's some additional costs there. There's also some volume driven costs. So those are the main drivers that are driving that. Okay. That's helpful. And then on Hill, on the UGG business, you mentioned in your comments $100,000,000 plus in each of the first two quarters, that's new for the company. Q2 really stands out for me, I mean, up, I think, up 35%. Could you talk a little bit about what really drove that? That's a pretty big sequential improvement from what you saw in the Q1? I think a variety of factors. I've always said it's product, product and then followed my product. The sneaker line has been very successful. We continue to achieve great results with not only sandals, but wedges and it has I think from a product presentation point of view at retail, we've got a much better and more diverse assortment assortment in just about every single point of distribution. And we have a broad cross section of products that are turning and checking very well. So I think what you're seeing is a brand that's diversifying in its appeal. Our kids business remains a real opportunity for us. Our men's business remains a very big opportunity for us as we move in the next couple of years. But the most impressive thing that I've seen is the exciting new product that the UGG team continues to put on the table and the way in which the retailers are responding to it and willing to give us the shelf space and the real estate necessary to display it. So, I mean, it's a real highlight in the retail environment right now. Did you do much in the way of reorders in that business in the quarter? Is that still pretty much a pre booked business? It's pretty much a pre booked business with the exception of some very core styles, but generally speaking, it's a pre book business. Got it. Okay. Thanks. Good luck. Thanks. Thanks. Thank you. Our next question is from the line of Sam Poser with Stern AG. Please go ahead. Good afternoon. Thank you for taking my call. A couple of things. Number 1, what was the wholesale growth for UGGs in the U. S. And internationally? Can you give it to us? Yes, Sam. Hi, this is Tom. Quickly, the total wholesale growth for domestic and international combined is about 32% for the quarter. The domestic the international growth was higher than the domestic growth. So the domestic growth was more in the mid single digit kind of domestic growth, low to mid single digit. And then okay, thank you. And then in the guidance that you gave in regard to the was that a is are you giving us GAAP or non GAAP guidance? I'm going to look them up. Non GAAP guidance, but for this year not so far non GAAP and GAAP are 1 of the same. But I give you percentage increases over the prior year non GAAP. Okay. And then what I mean, but you had some one time did you have some one time charge what were the one time charges in the last quarter? You mentioned that there's going to be $5,000,000 or $5,500,000 in Q4. Right. Those that's not so That's the international transition. Right. Estimates we're making for the Q4, they're approximately $5,000,000 And was there any of that in this quarter or in Q is there any of that in this current quarter or in Q3 that you expect? Yes. So in the current quarter, it was sort of a rounded $1,000,000 roughly and the same for the Q3, this immediate Q3 coming up. And that's pretax, correct? Correct. Okay, perfect. And then lastly, can you give us 2 things. Number 1, I know I'm going to get questions about it because when your inventories are high, everybody wonders why your inventory is so high. Now people are going to start asking, your inventories are very low and in arguably very good shape. But what have you done differently to allow yourself to continue the growth momentum with inventories down 17% going into the busiest time of the year? Well, it's a lot of planning and effort related to our product lifecycle management initiatives there, I. E. Inventory you want to get it in, you don't want to carry too much of it, you want to get it in closer to when you're going to deliver it to your retailers. It's been a lot of efforts by a lot of people within the organization to get time inventory closer when we ship the retailers. And with our growth, if you bring in too much inventory too early, you start running in against warehouse capacity constraints, so which can add cost that, leverage issues. So, we've again been really put a lot of effort into time the inventory better. Okay. And then lastly, can you give us what the operating income is by segment? Yes, I got it right here. So for the quarter by segment UGG, UGG wholesale was obviously the strongest one at 33.6 $1,000,000 Teva was close to $7,000,000 The other brands were just a little bit below low 0, good improvement relative to the prior year. E commerce is relatively flat. Keep in mind e commerce and then I'm going to give you a retail number as well, assumes that most of the cost is a wholesale cost. So it does include the vertical margin. The vertical margin was with that UGG wholesale number. So the e commerce was relatively breakeven. The retail store, 2nd quarter is the worst quarter for retail stores. So on a wholesale basis, it's slightly below breakeven. And then we got the other corporate overhead costs or whatnot that you plug in there that take away from the rest of the income of the operating segments. Thank you very much and continued success. Thanks. Our next question is from the line of Chris Svezia with Susquehanna. Just going off of Sam's question here, just as we think about inventory, how should we think about that as we go through the balance of the year? Does that start to move up slightly as you start to fill in orders? Or just kind of how we should think about that as we move through the second half of the year? Yes. Relative to the year over year comparisons, there shouldn't be as much of a down relative to the prior year as we move into the Q3. In the Q4, it should be but at the same time, we expect to continue to manage inventory as well. And for the Q3, it should be down some, probably not down as much as it was in the Q2. And then the Q4, that's all a function of how reorders go, how our retail stores go as well. So, that's a tougher one to call. And, Anil, for you, I guess, what's your sort of view of the sort of consumer environment? What retailers might be telling you as they kind of think about the second half and their commitment to inventory and buys? And any, I guess, sort of initial blush of thought as you think about spring, particularly for the UGG business as you continue to evolve the spring line just in terms of the maybe some color in terms of the commentary you're getting from retailers? Well, I mean, I think there are it's a very interesting environment. I think we're very segmented in many ways. You have some pockets of the retail environment, for example, in footwear, athletic footwear, particularly running is doing well. Outdoor specialty seems to be doing pretty well. I think people are foregoing the expense of vacation, etcetera, and they're maybe running some road races on weekend, maybe taking advantage of some car camping and outdoor activities. On the department store front, we're a major highlight given what's going on. I think the best scenario I could use is cautiously optimistic from some retailers and then just plain cautious and pessimistic from others. So the focus on brands that turn and perform at retail is very important, continues to be. There's still somewhat of a consolidation going on. I think peripheral brands are going to have a very hard time. It is a still a nervous environment with a lot of talk about a double dip recession, etcetera. I think brands like outperforming and Teva performing as they are in this environment bodes well for the future when we see a better economic upturn. So it's fair to say you continue to take open a buy? Yes. And then the last question I just want to ask is just on the cash for one second. I know in the past you talked about looking at acquisitions $100,000,000 to $200,000,000 Just curious about your updates to that thought. And I guess, is there a timing to that thesis if you don't find anything, whether for price or just doesn't come along? Is there a point in which you say, okay, that's enough, let's move forward and think about something else or just your thoughts there? Yes, Chris, this is Tom. Yes, we're still evaluating acquisition opportunities and being very patient there. So there's theoretically there's always a time that something doesn't come along, we switch gears. But we're just going to be patient there. We've done we're doing obviously very well. We get great returns on capital with our current business. So we're going to be cautious on from that point of view. I guess at some point in time, if something doesn't come along, we continue to build a large cash balance repurchases or dividends or some other kind of returns to shareholders. Okay. Thanks very much and good luck. Thanks. Thanks. Our next question is from the line of Jim Duffy with Stifel Nicolaus. Please go ahead. Thanks. Hello, everyone, and nice quarter. Tom, the improvement in inventory management with focus is really impressive. As you look to the supply chain, are there other kind of standout opportunities for cost savings that you hope to realize in the coming periods? Yes. As part of that overall strategy, we're looking at materials, trying to find common materials we can across all brands and therefore you get better quantities and therefore lower unit cost and we're constantly looking at ways to control the cost of our distribution space and monitoring how quickly we add distribution space. There's constantly evaluating given our growth what we're paying for our freight and whatnot trying to make sure we're very competitive from that point of view. And then just one other thing that's going to drive profits as we work on trying to reduce our cycle times, we'll be able to order products sort of closer to consumer preferences for models, which that in turn at the end results in lower markdowns, fewer closeouts and higher margins. Is it fair to say that for years you've been focused on managing the growth and maybe there's opportunity to dedicate more management time towards the cost side of the equation, which could benefit the margins on a go forward basis? Let me address that. I think that our growth really has gone part and parcel with managing costs as well. That's why we've maintained operating margins at the level we have. I benefited from having experience in a high growth environment in my previous business career and learned the hard way that you have to pay attention to both at the same time. In this environment, it's very difficult to just drive growth and then expect that you'll be able to go back and fix all of the overlooked problems and overlooked opportunities because your organization at that point and the structure you've built may not even allow you that opportunity by then. So you've got to sort of build it. It's a purpose built kind of structure that we have here where cost is always a consideration and a major factor in how we're driving growth versus just blindly driving growth for growth sake. That makes a lot of sense. And then Anil, in the past, you've always highlighted the geographic opportunity within the U. S. For the UGG brand. How are you progressing towards executing on that opportunity? Do you have some proof points that that's working? And have you found those markets to be receptive to the brand and embracing it? Yes, yes. I think a big part of it had to do with diversity of the product line. We had initially a product that was more heavily perceived as a fall winter product and rightly so was driven by classic for the most part. We now have a much more diversified product offering. We knew when we had that that we could diversify the geographic penetration. But we've had retailers across a variety of regions. Dillard's for example is one significant presence in the south of Southeast. They've stepped up with excellent presentation about product at retail and we've proven that the product sells through year round in those environments. So that's been very, very helpful. And the more success say a Dillard's has, the more that influences the local independent specialty retailer as well as other department store competitors. So it's been I think a well orchestrated expansion geographically combined with very strategic expansion of the product line to facilitate that. Great. Thanks very much for taking my questions and best of luck into the second half. Thank you. Thank you. Our next question is from the line of Chi Lee with Morgan Stanley. Please go ahead. Hi. Good afternoon, guys. Congratulations. Follow-up question on the 5% to 10% sort of cost outlook for the full year. How do you expect the cadence of those cost increases to go? Presumably, right now, you have decent visibility into the first half of the year. But should we be expecting those cost increases to decline as we progress through the back half? Yes. Just relative to that for next year, so just to confirm it for 2010, we're locked in for spring of 2011, we're locked in for the most part. For the back half of the year, we're that's the season. So, that's where you're looking at some cost increases. Okay. And specific for the spring 2011 period, are we looking towards the higher end of that 5% to 10% range? That 5% to 10% number was more different models, some higher volume models. It's still yet to be determined really as we're finishing our 2011 planning process just what the mix would be. So, I'd like to sort of stick with the range. Okay, great. And then just a follow-up question to the tone of customers, Angel. Are you seeing any differences between the tone of your domestic retail partners versus your international distribution partners and domestically what you're seeing from some of the more independent specialty retailers? Yes. Well, from domestic versus international, everything that I've read, our domestic retailer is a little more nervous than the international retailer has been. I think that we are starting to see an expansion of that sort of nervousness in Europe, but a brand like UGG is considered fairly premium, somewhat exclusive, not a lot of competition for price, very desirable brand for retailers outside the United States. We're following the same method we followed here with selected distribution. So we've worked very hard to try to put a plan together and offer a product line that protects the margins for the retailers. We want them to make money obviously. So it's and the other thing is that we're still relatively speaking, very under penetrated in Europe and certainly in Japan. So we are something new, something very different. And there's one thing I hear from every retailer at every level, we need new, we need fresh, we got to excite the consumer, you're giving us that. And if you're giving us that, we'll continue to grow with you. And that's really been the exciting story of this spring. And we think based on the commerce. It seems though e commerce margins have had just e commerce. It seems though e commerce margins have now seen about it seems about 5 quarters of pressure. If it's about flattish profitability, I think it's about 6 quarters. Can you talk about what underlying drivers are of that pressure and when that could actually start to reverse? Let me address part of it and then Tom can jump in. I think one of the things that we philosophically have always wanted to do with our e commerce business is first of all, provide an opportunity for consumers to educate themselves about the brands, all the brands and all the product lines. We've never looked at our e commerce business as a vehicle to promote and compete directly with our retailers. Our philosophy is really almost to do e commerce as a facility for the consumer to access our brands. We don't do any kind of promotional calendar on e commerce. We don't have we're not every day with free freight. And those are the tools that a conventional e commerce ecommerce retailer is getting to utilize every day. I mean free freight is a normal thing now and we don't offer it. So when we don't offer it, the consumer educates themselves about our brand on the say the UGG website and then perhaps goes to zappos.com if they have it in stock and buys it from them. We think that we've been okay with that. We think that the approach we've taken has built our business, established a lot of really positive consumer insight about our product line. And we don't really have any plan to get any more aggressive than we have been on that front. It's not part of our long term strategy. Just sort of to discuss a little bit more of the metrics and the dynamics. I mean, one thing that we have been doing at our website as part of the effort to expand awareness of the brand and drive even some business to our wholesale partners as we have been spending some more marketing money on the e commerce as well as we're working on the backroom infrastructure so to speak and getting prepared to be able to have some higher velocity so to speak with e commerce. So that is more of an operating expense kind of some additional investments that have been causing it to get more like breakeven on a very low quarter. Keep in mind, the 2nd quarter is a very, very low quarter. I will also add that if you take a look strategically at what we've been doing, we've been developing capability and capacity to reach our consumer. Very important via the commerce division, via retail, via our wholesale partners and the brand presentation and even shop in shops that going forward, who knows what the I don't really I can't predict. I don't have a crystal ball to know what the world of regular retail is going to do in the coming years. But I will say this that we are stronger than ever at reaching our consumer in every way that we need to. And I think it positions us very nicely in that diversified approach. No matter what happens in the marketplace, we're going to be able to reach our consumer and we'll be able to reach them in multiple ways and ways in which they want to be doing business with us. That's very helpful. Thank you very much. Thank you. Our next question is from the line of Scott Craseck with BB and T Capital. Please go ahead. Yes. Thanks for taking my question. What's your comp assumption built into your Q3 and Q4 revenue guidance for your own stores? Yes, we thanks, Scott. Good question. We haven't really we don't give that level of granularity in our guidance. But let me tell you, last year our comps, our actual comps in the Q3 and Q4, I think to be exact, the Q3 was like 31% and the Q4 was 29%. So we're up against very difficult comps in a very uncertain retail environment. So, we're being cautious there, but we don't want to give to we're not going to give that level of granularity. Do you have what's the timing in opening the 6 stores in the U. S? Are those be early in the Q3 or? More most of them in Q4, I think there's a couple that sneak into Q3 at the end of Q3. So Q3 is a quarter that you have a good amount of the employees, you're paying some rent, you're getting some store opening costs, you're getting some grand openings, you're incurring some G and A relative to very little sales contribution, if any, in the Q3. So that's why the Q4 is bigger. And from a sales point of view, historically, the Q4 sales are at least to the 3rd roughly of the annual sales, whereas the Q3 is still relatively low. Okay. Just a couple more. Angel, have you run into or Zohar, have you run into issues with the inventory that your distributor has in the U. K. Or the Benelux? And what happens to that inventory over the next 6 or 9 months? Does the retailer want to sort of be paid for it or the distributor? How does that work? No. We haven't ran to any issues. We had the conversion of the Teva distributor and that hasn't been an issue at all. The process that we are going through is we're really not changing any of the ways how the distributor is buying the inventory. By the way, we are reviewing all the inventory buys that are done by the distributor. So there's really not a change in the methodology. So I guess that answers, you're pleased with what he's selling to the retailers anyways? Yes, we've blessed it all. Yes, we've blessed it all. We are reviewing it. And as Angel was mentioning, we are managing the brands on a global basis. So we're making sure that both the distribution globally is similar to the U. S, both from the level of the quality of the retailers and the diversification of the products. Okay. And then just lastly, the first few days of the Nordstrom sale is always important. How did you guys do? Were you up year over year? Did it give you good reason on the fall? Yes. We are very happy with the performance of the brand and the sale this year. I'd say without getting very specific as we tend not to do that for Nordstrom to disclose, but I'd say our performance is consistent with where we were last year. We're very happy with that. And the fashion items, that's a good read for fall? Yes, it is. Okay, good. Thanks guys. Thank you. Our next question is from the line of Maggie Gilliam with Gilliam and Company. Please go ahead. Yes. I was wondering if you could elaborate a little bit more on your plans for extending the international distribution and penetration such as e commerce going into some new places? And also to what extent are you going to have to build inventories in the places where you're switching to a wholesale operation? Well, from an e commerce perspective, our intention long term is to mirror the access consumers have to the brand to what we see in the U. S. Most developed market. So you'll see a combination of retail, you'll see e commerce, you'll see shop in shops and you'll see our wholesale, more broad based wholesale business. So that's and that is facilitated obviously by a subsidiary environment and a way of operating, which allows us to really control how we do that. From an inventory point of view and some of the markets we're evolving and I mentioned Russia, again, that's a distributor model there. The distributor plans that the development of that brand, we review all of the orders that go into every market. And we're satisfied with the rate of growth, both spread and assortment of product and the quality of distribution that we have in any of those markets. So we don't see any deviation from the basic formula that has gotten us here and given us success in the UK, for example. We're rolling that same idea out in Japan as we over the next few quarters, we'll be able to give you more feedback on that. We don't see any reason to change our approach. Okay. But I mean is there anything you can comment on as far as timing is concerned? Well, other than what we've already disclosed, no. Our U. K. Is I'm a big believer in not having too many sitting plates up in the air at the same time, like the Epsilon, you remember that guy. I don't want to have those plates all come crashing on the floor. So I tend to make sure that we've refined an approach in a given market and then moved on to the next one. So you are not going to see us do 5 things all at one time putting at risk the potential for success. We are going to be methodical. We are boringly, if there is such a word methodical in that sense and I think it works well right now. I'd say so. Very good. Okay. Thank you. Is there anything also to report on the licensing activities going into fall? No. Actually, I'd say the one thing we can report, we have been reducing the licenses out there over the last couple of years. The success of our license in cold weather accessories with the founds company has been extraordinary. They've done a wonderful job. As you know, we've been taking on the development and production of our own outerwear and we're very happy with the progress we've made there and continue to develop that idea. And there really aren't any other areas where licensing is going to play a role. Okay. Good. Thank you. Our next question is from the line of Howard Toobin with RBC Capital Markets. Please go ahead. Thanks. Hey, guys. Any significant change in your marketing plans for the fall season this year versus what you've done in the past or last fall season? Well, it's kind of a it's a great question. We have a new senior head of marketing in the organization. Her name is Jessica Buttimer. She's an exceptionally talented and experienced brand marketer, came to us from Clorox. And so the answer to the question in short is yes, there are going to be new initiatives begun. We have already begun consumer insight initiative worldwide that began actually early in the year. We've extracted I think it was mentioned on the call, we have extracted a tremendous amount of insight already about the UGG brand in particular and the opportunities we have from a demographic perspective to reach people. You'll see us get more aggressive about the men's business. We think that's a pretty significant opportunity. I think you'll see the beginning of some of that in the fall. I think you'll see us diversifying the marketing mix. We have a lot of opportunity with I think it's close to 350,000 of fans on Facebook that have grown organically. We've really not orchestrated that. We don't drive that very well yet. You'll see us make a move in that direction to solidify that opportunity. So across the board, we're just working at getting closer to our consumer and understand what they want from all of our brands and then make sure that the product that we develop is consistent with those expectations, which that's the basic blocking and tackling of marketing that I think we've got we've done well so far, but now we get to diversify into new markets with new consumer demographic profiles and I think that bodes well. I think that to me that's the exciting part. You build the brand on a foundation and then you get to diversify into new areas. So marketing allows you to do that. That is great. Thanks. Thank you. And our final question comes from the line of Sean Naughton with Piper Jaffray. Please go ahead. Hi. Thanks for taking my call. Clearly, you guys have done a great job of getting the Clearly, you guys have done a great job of getting the brand permission with your core female consumer to expand the UGG brand in new categories. And I think, Angel, you were just talking about some of the marketing initiatives you're doing to bring new people into the brand and to reconnect with the consumer. Can you talk a little bit about where the biggest opportunities are potentially outside of that in terms of cold weather accessories or in the men's business? And are your retailers retail partners now starting to ask for those types of products to extend into? Well, you hit on 2 big ones. Cold weather is something we've done extremely well with the last few seasons. If you ask any of our retailers, the number one response they'll give you is, yes, I loved it, it sold well, could not get anywhere near enough of it. So our idea is, well, let's not just make more of it. Anybody can do that. Let's make better product. Let's make more compelling product. Let's make product that functions better. So you're going to see an evolution of our cold weather product that is pretty exciting. It's still at its core, but it's going to be more technical and it's going to have a different level of appeal to a sophisticated consumer relies on that kind of product to be outdoors. As you can imagine, it's a little stretch of the imagination living in Santa Barbara, but I did spend a lot of years in New England, so I was cold wet feet. The other aspect on the men's side, I think clearly an untapped potential there. Several years ago, we started to put rubber bottoms on some of our men's slippers. We found that young men particularly were wearing those as the sort of winter flip flop if you will and that has led us to a relationship with a consumer that is I find it just tremendous. It's an extraordinary opportunity on the men's front. Men like us for different reasons than women do. But in the end, they love it just as much. And so we've been digging into the whys of that and we're ready to offer some wonderful product to address that as we move forward in the next few seasons. I got to say, I get excited about a lot of things, but that's one of the things I'm probably most excited about. Okay. Great. And then secondly on the shop in shops, I don't know if I heard this number correctly, but correctly, but 140 was that the number that you guys plan on doing this year? And if that's true, where can we expect to start to see some of these shop in shops start to continue to show up? Yes, that was the number and that is both the domestic and an international number, but 290 is where we'll end up for the year. You'll see them at the better specialty retailers that have traditionally carried broad assortment of UGG. You'll see them at major department store, leading department stores. You'll see them obviously dealers in Nordstrom in the United States, for example, Valerie Lafayette in France, you'll see them all over the world. We have several in London going in. Okay. And then just lastly on the sourcing costs and clearly a high button for most investors and seems like management teams as well. How much was the headwind, I guess, if you could remind us that you were facing this year in the Q2 and then what you're up against for the second half of this year, knowing that that product cost is already locked in, but what were the increases you were seeing this year? Well, for this year, you remember, Sean, we are looking price a year in advance. So for this year, we really haven't seen much of price increases. Okay. So that's pretty much flat for the entire year then? Yes, pretty much. Let me I'll remind you too that we've been anticipating changes in this area for quite a while. As you may recall, at the beginning of 2,009, we anticipated price increases that did not materialize and we were able to obviously pocket some of that difference not knowing exactly when. And I think the soft economy forestalled some of those price increases. But now with the economic environment improving somewhat and manufacturers certainly having a chase production, you're going to and the nature of the changing workforce in China, you're going to start to see those increases spread to all brands, everybody producing anything in China. So this is not new on our radar screen. We've been anticipating this and we've been planning for it for quite a while. Got it. Thank you for taking my questions. Good quarter and best of luck in the second half. Thank you. Thank you. Well, thank you all for joining us today. Again, we're really pleased by our recent performance. We're excited to head into our key selling season with the positive momentum that we have across our business. And we really look forward to updating you on our progress when we report our Q3 results in late October. So thank you all. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.