Delta Apparel, Inc.
Q3 2017 Earnings Call Transcript

Published: 2 Aug 2017

[Operator:]

Thank you, and good afternoon to everyone participating in Delta Apparel's Fiscal 2017 Third Quarter Conference Call. Joining us from management are Bob Humphreys, Chairman and Chief Executive Officer; and Deb Merrill, Chief Financial Officer and President, Delta Basics. Before we begin, I'd like to remind everyone that during the course of this conference call, projections or other forward-looking statements may be made by Delta Apparel's executives. Such statements suggest predictions and involve risks and uncertainty and actual results may differ materially. Please refer to the periodic reports filed with the Securities and Exchange Commission, including the company's most recent Form 10-K. This document contains and identifies important factors that could cause actual results to differ materially from those contained in the projections or forward-looking statements. Please note that any forward-looking statements are made only as of today, and the company does not commit to update or revise these statements, even if it becomes apparent that any projected results will not be realized. Today's conference is being recorded. I will now turn the call over to Delta's Chief Financial Officer and President, Delta Basics, Deb Merrill. Please go ahead.

[Deb Merrill:]

Good afternoon, and thank you all for joining us for Delta Apparels third quarter earnings conference call. Our third quarter was one of progress and profit. With our sale of Junkfood business on March 31, we did not revenue from that business in our 2017 third quarter. Excluding Junkfood sales, our consolidated net sales this quarter increased 4% over the prior year quarter. Our net income improved significantly for the quarter coming in at $4.5 million or $0.57 per diluted share compared with net income in the prior year period of $2.5 million or $0.32 per diluted share. The 2016 third quarter earnings included manufacturing realignment expenses of $0.18 per share. So without that the prior year earnings were $0.50 per diluted share showing a 14% improvement this year over the adjusted prior year. Third quarter 2017 net sales for the basic segment were $79 million, a 9.6% increase over the $72.1 million in the prior year third quarter. Operating profit in the basic segment increased to $7.5 million or 9.5% of sales compared to $5.2 million or 7.2% of sales in the prior year period, which did include a $1.8 million pretax expense related to the manufacturing realignment. Net sales in our Activewear business grew 11% over the prior year quarter, driven by single-digit sales growth in the catalog business and a 25% sales increase in FunTees private label goods. Catalog sales benefited from improving conditions in the retail license channel and continued success with its fashion basics line. The growth in Activewear was partially offset by a decline in Art Gun, driven by the loss of a customer and delayed new partner launches. These new partners remain in the pipeline and we anticipate having them online as we move towards the holiday season. Branded segment net sales for the quarter were $25.3 million compared with $39.5 million in the prior year period which included $11.3 million sales in the Junkfood business. The decline is due primarily to the impact of retailer bankruptcies partially offset by sales growth in other channels. Operating profit for the branded segment was $2.1 million compared to $2.7 million in the prior year third quarter. Salt Life sales increased over 2% from the prior year with softness in the big-box retail sporting goods channel hampering stronger growth seen in independent retailers and on our Salt Life ecommerce site. Soffe sales for the quarter were down $2.9 million year-over-year with the decline primarily due to the loss of sales from the Sports Authority bankruptcy. Soffe is growing with its military channel and having success with e-retailers and on its own Web site. On the manufacturing side of the business, the benefits from our manufacturing realignment are now seen in our results. The manufacturing efficiencies and cost savings have exceeded our expectations to date. These benefits however are being tempered by higher cost raw materials that due to the softness in the marketplace are not getting recouped fully with higher selling prices. In order to limit our overall exposure to the higher cost, we shuttered our manufacturing operations for a week during our June quarter to avoid building inventory with higher cost raw materials. The cost of this shutdown lowered our gross margins by 60 basis points and decreased earnings by $0.07 per diluted share. We plan to continue this with another week out of production in our fourth quarter which we expect to be our last production curtailment in the short-term. Outside of the impact of the manufacturing shutdown, our Activewear gross margins improved 150 basis points over the prior year quarter. Our Salt Life gross margins also expanded during the quarter, up 160 basis points over the prior year quarter. Overall, operating profit in the June quarter was $5.9 million or 5.6% of sales compared to $4.2 million or 3.8% of sales in the prior year quarter, which adjusted for the manufacturing realignment expenses was $6.1 million or 5.4% of sales. For the first nine months of fiscal 2017, net sales were $293.8 million compared with $310.9 million in the prior year period. After excluding Junkfood sales from both years for comparison purposes, net sales for the first nine months of fiscal 2007 are slightly ahead of the prior year. Net income in the 2017 nine month period was $8.4 million or $1.07 per diluted share including an $0.11 gain on the sale of the Junkfood business. This compares to $6.7 million or $0.84 per diluted share in the prior year period or $1.02 per diluted share adjusted for the manufacturing realignment expenses. During the quarter we repurchased 122,000 of our stock at an average price of $19.30 for a total of $2.4 million of share repurchases. This brings our year-to-date repurchases to nearly $4 million buying back a total of 218,000 shares. At the end of the third quarter, we had $5.1 million remaining on our board authorization for share repurchases. We plan to continue our approach to share repurchases consistent with our view of the intrinsic value of the company relative to its share price range while also evaluating other alternatives for returning value to our shareholders. Capital spending for the third quarter was $1.5 million, bringing our total to $5.5 million year-to-date. We continue to make investments in our ecommerce platforms, our retail store build out and manufacturing equipment upgrade. We expect total capital spending for the fiscal year to be around $10 million, somewhat less than fiscal 2016. Depreciation and amortization including non-cash compensation was $2.8 million in the quarter and $8.4 million year-to-date. I will now turn the call over to Bob Humphreys to provide additional color on our third quarter performance and outlook for the year.

[Bob Humphreys:]

Thanks, Deb. Overall, we had a good quarter, particularly in light of the difficult retail conditions we continue to see. We are pleased with the strong growth in net sales and operating profit in our Delta Activewear business. Sales of fashion basics product continued their growth trend being up 60% over the prior year quarter. We are excited about the broader color palette and silhouette expansions planned for the Delta Platinum line in 2018 and expect to see these double-digit growth trends continue. We are also excited about the newly redesigned business to business Web site that just launched in our Activewear business and believe it will greatly enhance the online experience for catalog customers. Efforts to diversify the FunTees private label customer base and product offerings have paid off and we were seeing this with the continued sales growth in this business. Based on current momentum, we expect this year to be an all time record revenue year for FunTees. Art Gun has enjoyed consistent double-digit growth over the past several years but experienced some headwinds this quarter as these customers deal internally with increased competition for the consumer dollar. We expect that the late new partner launches that they have mentioned to be completed in the coming months and Art Gun to regain momentum. Art Gun is making further investments in the infrastructure and technology as well as to expand its geographic footprint to improve customer service levels and further shorten the time for its products to reach the end consumer. We are optimistic about a quick return to the historic growth patterns at Art Gun and have increased capacities by more than 50% to services the expected upcoming holiday 2017 season. Art Gun's virtual inventory and fulfillment model continues to begin innovation point for forward-looking retailers and apparel businesses and we are seasoned upon this trend in cross-selling Art Gun's services across the Delta Apparel customer base. As Deb mentioned, softness in the big-box retail sporting goods channel and the loss of retail doors to bankruptcies tempered overall growth for Salt Life. But it was still able to increase sales year-over-year as well achieve margin expansion. This led to record third quarter sales and operating profits in this business. Salt Life continues to thrive in the independent channel and several new customer launches in the specialty retail channel are anticipated and should drive future growth. Salt life's direct to consumer strategy also continues to expand with a new retail store in Columbus, Georgia, and the first Salt Life outlet store scheduled to open soon in Daytona Beach, Florida. Salt Life achieved an almost 50% year-over-year increase in ecommerce sales during the quarter and year-to-date. As you look at the ecommerce sales, we are pleased with what it shows us about the Salt Life consumer and the potential for further geographic growth, with five of the top ten selling states on the site from both a revenue and transactional basis located outside of Salt Life's traditional stronghold in the Southeast. We continue to receive positive feedback across the retailer and consumer spectrums on Salt Life's product duration and brand identity. Consumers continue to seek Salt Life's new performance products incorporating leading edge fabrics. We expect Salt Life to resume it's double digit growth patterns as it continues to expand its product line, geographic reach and market penetration. We see sales in our Soffe business stabilizing and Soffe continues to gain traction with the military e-retailers and on its own branded ecommerce sites. While many traditional retail channels remain challenging, we are excited about the made in America opportunities for Soffe. We continue to focus on cost and inventory reduction efforts at Soffe and look forward to expanding Soffe's brand awareness and omnichannel reach through the opening of two additional retail stores in the upcoming quarters, bringing Soffe's brick and mortar store footprint to five. Soffe's consumer ecommerce sites continue to grow, increasing sales by 15% during the quarter, bringing it up 24% year-to-date. As you heard, we have had a lot of success in our ecommerce site with year-over-year sales growth of 41% on our consumer ecommerce sites after excluding Junkfood ecommerce sales from the prior year period and 15% growth on our business to business ecommerce sites during the quarter. We are continuing to make investments in our ecommerce platforms and other digital media to broaden our consumer reach and enhance the consumer experience. It seems that every quarter brings new challenges, particularly within the retail landscape. Our diverse customer base and broad distribution, coupled with our vertical manufacturing platform, allow us to focus on the strongest channels and to operate profitably despite these challenges. This is evident in our recent financial performance and we believe it will become more evident as we move forward. We achieved both top and bottom line growth during the quarter. Our margins are solid. We have reduced cost and we have made our entire operation more efficient through our recent strategic initiatives and manufacturing re-alignment. Delta is now a more agile than ever and well-positioned to respond to changing market conditions. In addition, our balance sheet continues to strengthen and we expect debt to decrease over the next several quarters. Capital expenditures should be lower in fiscal 2018 than this year and we plan for inventories to be reduced as the year unfolds. Fiscal 2018 should be another year of strong cash flows to redeploying business opportunities and to reduce debt and to return to shareholders. We remain sharply focused on our most profitable opportunities and look forward to a strong finish to fiscal 2017 and continued future growth. Now Deb and I will be glad to answer any questions that you might have.

[Operator:]

[Operator Instructions] And we will go to Dave King, Roth Capital.

[Dave King:]

I guess first off, in terms of thinking about these door closing and the impact. Are you able to share with us how much or are you able to see how much the overall branded revenue was lost due to that. I mean either, these are maybe just how much of Soffe or how much of Salt Life was impacted? And would Soffe have been sort of flat without those door closings, is that the right way to think about it?

[Bob Humphreys:]

Yes. Soffe would have been flat and Salt Life would have had further growth.

[Dave King:]

Okay. So still a meaningful impact and on the Soffe side it sounds like a fair amount of that is TSA. Are some of these others starting to weight then as well between Gander and are you seeing any downturn in like [Hibbits] [ph].

[Bob Humphreys:]

Yes. So I would -- sporting goods in general, big-box sporting goods in general are challenging even if you are doing well they are as a brand, you know you do get weighted down with their overall challenges and limited open to buy dollars. Sometimes we see some good at once opportunities and some opportunities to turn quick on print program which we are well positioned to do. And actually at Soffe in this quarter we were more impacted than you would be expecting on TSA because then it was post-bankruptcy. And they were actually trying to get more merchandize in so we had a big of an upswing last year in the third quarter with TSA at Soffe.

[Dave King:]

Okay. Okay. That helps. Then switching gears a bit. For Salt Life, in terms of the newly opened retail stores. How are those performing now that we are in summer and then as we think about the -- anyway it's 47% growth in ecom through the first nine months. Do you know how that -- it sounds from your prepared remarks about that a fair amount of the revenue is coming from markets, newer markets. I guess do you know what the -- are you able to share what the growth rate might be like in the California or some of that, especially after you have opened the stores.

[Bob Humphreys:]

Yes. So we are definitely seeing every week growth in our new retail stores in California and Columbus, Georgia. And Columbus has been a really nice, I will say encouraging move. We used to have a little [indiscernible] in Columbus back in our game day, kind of reignited that merchandise. There was a good location available near the river in Columbus so we quickly converted it to a Salt Life store and it has really exceeded our expectations. So that’s our first, I will call it inland store, Salt Life and we have been encouraged on that. So just to give you, might be a little bit of flavor, own ecommerce sales at Salt Life. The number one state was Florida. Number two was Texas, number three was New Jersey, number four was New York, number five was North Carolina, Pennsylvania, Virginia, Maryland, Georgia and California. So I am really disappointed that South Carolina didn’t make the top ten and we will have to get out and check the [piece] [ph] a little bit here. The other thing that I think is really important and encouraging to us, our ecommerce business in totality. So our two B2B sides, our Soffe side and our Salt Life side, are generating mid-teen operating margins. And that’s will all cost including distribution, including our ecommerce teams, including our infrastructure cost to operate these sites included in there. So we have been focused on profitable ecommerce business which is a little bit unusual in the world we are living in today. And then on the last thing on the Salt Life, we are being really true we believe to our identity and we could print T-shirts and make a sales number pretty easy. There is lots of people who will take Salt Life T-shirts but we are trying to make sure we protect our retailers in our sites, in our retail stores and grow the brand out properly.

[Dave King:]

Okay. Good to hear. And I guess lastly for me. I guess it looks like most of proceeds from Junkfood, if I am saying this correctly, there was some inventory build but it looks like most of that was used for debt paydowns. I guess can you talk a little bit about the rationale behind that, say versus being more aggressive with buyback here.

[Bob Humphreys:]

Well, we were pretty dang aggressive during the quarter and spend a lot of money on share buybacks. And that generally gets limited by our safe harbor approach to share repurchases and what that as far as limits in when you can buy and how much you buyback.

[Dave King:]

Okay. Is liquidity a function -- I mean stock liquidity a function in terms of how much you are able to buy back. I mean...

[Bob Humphreys:]

Well, it is because you can only buy certain percent of your trailing three-months average trading volume. So, yes, with less volume trading over time than it does start limiting how much you can buy in one day.

[Operator:]

We will next go to Jamie Wilen, Wilen Management.

[Jamie Wilen:]

Just want to touch back on the bankruptcies. Were there any charges that you had to endure during the quarter?

[Deb Merrill:]

Not any significant impact this quarter.

[Bob Humphreys:]

It [affect the] [ph] Gander Mountain, was that last quarter? Yes. So nothing material.

[Jamie Wilen:]

Okay. And then in total, how much did those bankruptcies -- how much business did you do with them in the previous fiscal year.

[Bob Humphreys:]

I don’t think we have that off the top of our head. We will have to get to that number for you.

[Jamie Wilen:]

Okay. On the Salt Life side, did you give a figure for Salt Life gross margins within there? Did you say Salt Life gross margins had changed in the quarter? I know you are breaking that--

[Bob Humphreys:]

Yes, they were up 160 basis points from the prior year third quarter.

[Jamie Wilen:]

Okay. Is that a function of more business going through ecommerce, more going through Salt Life retail stores.

[Bob Humphreys:]

That and we did implement a price increase on T-shirts since the prior year quarter.

[Jamie Wilen:]

Okay. Are the number of doors that you have out there similar to -- are they expanding, staying about the same?

[Bob Humphreys:]

They are staying about the same. We completed some tests with some specialty retailers that we believe are going to add a good many doors over the next 12 months. That would be a significant increase. We are always tempered by that with what we are seeing on the bankruptcy front from retailers. But right now the landscape looks good for adding Salt Life doors, both with existing Salt Life retailers and two new ones that are coming into the fold. And we think a couple of them would provide some nice geo-graphic boost and get more eyes on the brand both with consumers and other retailers trying to attract consumers to their doors.

[Jamie Wilen:]

I assume the retail stores you are doing with both Salt Life and Soffe are profitable for the company.

[Bob Humphreys:]

Yes.

[Jamie Wilen:]

Okay. And I assume because there is no middle man, you have got much higher gross margins. You have got a lot of leeway to play with on both the retail store side as well as the ecommerce side.

[Bob Humphreys:]

We do. As most brands do, but I will say most of the things that we see out there by the time people get through on their ecommerce sites, they are breakeven or negative at the operating line. So we have been focused on that for a number of years and particularly now that we were building some volume, it's nice to see those being highly profitable for us.

[Jamie Wilen:]

Okay. You were talking about mid-teen operating margins on the ecommerce site. I don’t know what you are looking at on the retail side. But as you move forward, are you going to focus, try to get a greater percentage of your sales in those areas opening up more retail stores and also could you tell us what percentage of your sales are now going through the ecommerce site.

[Bob Humphreys:]

Yes. So in the most recent quarter which was our largest ecommerce revenue. We were about 6% of our overall sales through our ecommerce sites. And so to kind of answer the first part of your question, we will be more aggressive on building ecommerce business. But, again, careful to do it in a way that we think is profitable, not just revenue. And we will be adding doors but I would say more cautiously as we learn to be a better retailer and also to not get that ahead of our ability to manage them and make money doing it.

[Jamie Wilen:]

Excellent. On the FunTees side, you have picked up a number of accounts. Were they for these onetime shots or do you expect that you will have a continuing boost over there.

[Bob Humphreys:]

No, we have picked that new customers and basically FunTees does a highly customized product. We are not after the onetime shot. It just doesn’t fit our business model. And generally, our private label business has been very long term with customers. Now having said that, I would say that environment is as challenged today as we have seen it. So we are fortunate that we are growing in it. We are fortunate that we have diversified our customer base but when you look and see and it's primarily driven by major brands, not retailers, although we do have some retailer business and as these retailers get more focused on private label, that will be an area we expand. But as these brands have challenges in the landscape, it can give us challenges over time there as well. So right now record revenue. We see that going well as far as we can see but we are also cautioned by less going on with the major brands out there in the market place.

[Jamie Wilen:]

Okay. And then last two, Art Gun, you increased your capacity by 50%. Did you do that before the loss of the customer or are you just gearing up because you know what your holiday volume is at this point?

[Bob Humphreys:]

Exactly. And actually we lost that customer and we expect to regain maybe not to the same level but a good build of their business. [indiscernible] have not been able to produce as much as they wanted, as quick as they wanted over holiday. Although we were giving good services. Still wasn’t as much as they wanted. And so these customers give us forecast and makes reservations for how much holiday business they want. So we will have a good holiday season. We will have more capacity and we will have our capacity up and going in California as well. And so that’s exciting to us and is particularly exciting to these customers.

[Jamie Wilen:]

Okay. And then lastly on manufacturing efficiencies. Are they all in now, were they all in in the quarter? And what is your program moving forward? You always seem to have some sort of way to continue to reduce costs [indiscernible]?

[Bob Humphreys:]

That has to be in your DNA if you are a manufacturer. So we met our challenges of where we want to get to. There is further efficiencies that we want to get to in performance and our dye house works in Charleston so on and what have you. But what we really want to do now is really challenge our manufacturing capabilities because we know we have got some capacity let on the table and that is highly accretive to earnings when we can produce more product and get it, sell it to our customer base. The way you really find out what you can do and what your next step is to run what you have really thought. And you see what your bottlenecks are and then you can often just de-bottleneck a process or two and get capacities in progress. So we challenged our marketing people to work hard on that and get more product running through our manufacturing. And we are seeing some growth in some of these specialty products that over time as they grow will also bring up production back in-house. So we have got a really nice model in Activewear where we introduce new products. We get established in the market place. But then as we grow volume, we can bring those products into our own manufacturing processes.

[Operator:]

[Operator Instructions] And we will go to [Joseph First with First Associates] [ph].

[Unidentified Analyst:]

One thought. Salt Life is a very recognizable name, Delta Apparel isn't. I have talked to people who are on Salt Life shares and asked them, do you know who Delta Apparel is? And there answer is always no. And so my thought is this, have you ever given any thought to change the name of the company, Delta Apparel, because it is much more recognizable?

[Bob Humphreys:]

Well, you are not the only person on the phone that’s made that suggestion to us, quite honestly. We are challenging our Salt Life people to grow the business large enough to justify that and to have kind of a watershed event that would give us reason to do that and to promote it properly and to also spend the money to do it. But that is on our radar screen.

[Unidentified Analyst:]

Good. And I also appreciate the fact that you are buying back stock because obviously the value of the company far exceeds the stock price. Thanks a lot.

[Operator:]

[Operator Instructions] And it appears there are no additional questions at this time.

[Bob Humphreys:]

Okay. Well, thank you all for being on the call with us today and we will look forward to speaking in a few months and wrap up fiscal '17 and give you some insight on to our direction and hopes and expectations for fiscal 2018. Thank you very much.

[Operator:]

And that does conclude today's conference call. We thank you all for joining us.