Delta Apparel, Inc.
Q3 2013 Earnings Call Transcript

Published: 24 Oct 2013

[Operator:]

Thank you, and good afternoon to everyone participating in the Delta Apparel Earnings Conference Call for the transition period ended September 28, 2013. Joining us from management are Bob Humphreys, Chairman and Chief Executive Officer and Deb Merrill, Vice President and Chief Financial Officer. 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 prediction and involve risks and uncertainties 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 than 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. I will now turn the call over to Delta's CFO, Deb Merrill, who will provide the details of the company's transition period results.

[Deborah H. Merrill:]

Thank you and good afternoon. As you are aware we announced last quarter that Delta has changed its fiscal year end from June to September in order to begin to better align planning and financial reporting functions with the seasonality of our business. This transition period spans a month of July through September and brought us to our fiscal 2014 fiscal year which began on September 29. The comparisons for the transition period are against our 2013 first quarter which covered comparable month. While demand at the beginning of the transition period was strong weakness in retail apparel sales slowed our sales as the period progressed, most significantly in our basic and decorative Tees. Thus with the continued softness in Soffe's was the primary reason for the decline in revenue and lower profitability. In addition our profitability was unfavorably impacted in the transition period by a number of unusual items including cost associated with closing the Wendell printing facility, expenses associated with the acquisition of Salt Life, higher than normal bad debt expense and the recording of a contingent liability associated with legal matters in California. Net sales for the transition period were down 6% to $122.6 million versus $130.1 million in the comparable prior year period. Net earnings were $567,000 or $0.07 per diluted share compared with $3.6 million or $0.41 per diluted share in the prior year quarter. Net sales in the basic segment were down about 6% to $62.3 million compared with $66.6 million in the prior year period. Previously we separated the basic segment in two businesses, franchise or private label business and catalogue or undecorated Tee business. With both businesses on the same ERP platform and with us now offering all packaged services with off the shelf lines, the lines between the two businesses are not distinct so we will no longer be breaking out the results separately. As mentioned sales of the undecorated Tees started out strong in July but weakened in August and September as retail traffic and an earlier than expected build-up of inventories in the retail sector resulted in price discounting to drive volume and ultimately lower than expected sales of undecorated Tees as the quarter progressed. Our private label sales also slowed as our customer shifted call out to balance inventory from the lower sales at retail. We do anticipate the weakness will dissipate somewhat as customers work through their inventory during the upcoming quarter. With the exception of Soffe all branded segment businesses met or exceeded our revenue and profitability expectation. Branded segment sales for the period were $60.2 million compared with $63.5 million, a 5% decrease from the comparable prior year period. The primary reason for the decrease was a 28% decline in Soffe sales which was somewhat offset by strong revenue growth in our other brands. Junk Food, Art Gun and Salt Life all had double-digit sales growth with Art Gun sales more than doubling. Salt Life revenue growth exceeded our expectation with sales up 44% over the prior September quarter. SG&A expenses as a percentage of sales were 21.7% during the transition period compared with 19.9% for the comparable prior year period. As mentioned earlier we had some unusual expenses which impacted SG&A as a percentage of sales by approximately 150 basis points during the transition period. Recognizing the tough environment in which we are operating we’ve taken additional steps in the past month to further lower our ongoing general expenses. These cost saving initiatives that have been implemented should reduced SG&A expenses by over $1 million annually. We’ve also identified additional cost savings opportunities primarily associated with leveraging our back office functions that as implemented in the coming quarters should reduce expenses by another $1 million annually. Capital spending for the three month period was $3 million which is about on par with the average quarterly CapEx last fiscal year. Depreciation and amortization including non-cash comp was $2.5 million in the period. During the transition period we repurchase 129,000 shares of Delta stock at an average price of $15.86 per share for a little more than $2 million. We evaluate current leverage, working capital requirement, free cash flow outlook, stock valuation and future business opportunities for capital to determine when we believe it is in the best interest of shareholders to be buying back our stock. Total debt at September 28 was $134.7 million, an increase of about $32 million from last September. The increase primarily stems from the acquisition of Salt Life which we completed on August 27th for which we drew $50 million on our U.S. asset based revolving credit facility and issued promissory notes to the sellers for $22 million. In conjunction with the acquisition we amended our U.S. revolving credit facility to increase our borrowing capacity through a higher borrowing based on certain assets. We also extended the terms of the facility for an initial and additional year to May 2017. While the acquisition of Salt Life increased our overall debt level we believe that we will be able to reduce the leverage on the overall company through strong positive cash flow as we continue to grow the business in the future. I’ll now turn the call over to our Chairman and CEO, Bob Humphreys for his thoughts on the transition period and the 2014 fiscal year.

[Robert W. Humphreys:]

Thanks, Deb. While we’re satisfied with the financial results for the past three months we are encouraged by the progress we’ve made both reducing costs, expanding our markets and reinvigorating Soffe. As Deb mentioned the soft apparel sales in retail impacted our results in the basic segment most significantly in this past quarter. Due to uncertainty in the market we had anticipated some weakness in demand for undecorated Tees but the weakness began earlier and with more pronounced than we had expected. We expect this weakness will dissipate somewhat as customers work through their inventories during the next quarter. We also anticipate a strengthening in the basic segment, heading into spring as our customers can now take advantage of the convenience of full package offerings using official planks. We were able to provide these offerings using our fully integrated basics ERP platform that we completed in fiscal 2013. The ERP conversion intended to streamline the operation and reduce general and administrative cost is working well for the business and we are seeing the benefits in our cost structure. Our manufacturing expansion is progressing well. Starting in September we began taking delivery of the new equivalent for the expansion of the textile operations and this equivalent should be coming online during the December quarter. To accommodate the addition of textile production we moved one of our Honduras sewing plants to a larger facility within the same industrial park. This move took place in September with no disruption to our ongoing operation. With the increase textile and sewing production levels we should be able to leverage fixed production expenses and lower our product cost. Shifting to our branded businesses, let's first talk about Soffe as this has been a drag on our sales and profitability over the past year. In September we were pleased to announce that Rod McGeachy joined as President of the Soffe division. Most recently having served as Chairman and CEO of Tandy Brands Accessories Rod previously was Vice President of Strategy and Business Development for VF Corporation. And prior to that held executive and management provisions with Russell and Haines. With his broad apparel industry background and strategic turnaround experience we feel Rod is uniquely suited to lead Soffe's marketing strategy and product development as well as restructure its operations to return Soffe to historical performance levels. Rod believes in the strength of the Soffe brand and will continue Soffe's commitment to provide quality fashionable products at value prices. He plans to improve Soffe's communications with consumers through marketing channels such as the Soffe website, social media, product packaging and targeted media outreach. During the quarter we completed the modernization of the Soffe training operations in Fayetteville, North Carolina. We now have all the new equipment in place and we are beginning to see increases in productivity at that operation. We have completed the closing of the Wendell training facility and the equipment is expected to be sold in the near future. During the September quarter we expensed $1.1 million associated with the closing bringing the total shut down cost to $1.5 million as anticipated. In July we began shipping to college book stores through The Game. This should allow us to operate more efficiently and cost effectively as well as better service our customers with one brand. Our new Maiden America apparel line, American Threads by The Game was introduced this season and is receiving good feedback from college students who recognize and appreciate the importance of apparels made in the U.S. We were pleased that American Threads was recently the subject of a very favorable article written by a student at the university of Tennessee. Junk Food also continued its good top line growth with a 14% sales increase. During the period Junk Food products were tested with some new national retailers and the initial feedback has been very positive. Junk Food products continue to have strong buying from top tier retailers and the specialty stores. As I mentioned in August we are in the process of opening a flagship Junk Food retail store on Abbot Kinney Boulevard in Venice, California, currently one of the hottest retail destinations in the U.S. While it’s possible to open the store by the end of this calendar year we have decided to move the grand opening to early in calendar year 2014 so that we can open it highlighting our new spring collection. Art Gun continued its rapid sales growth with sales more than doubling in the September quarter. Art Gun is now nicely profitable and is generating strong positive cash flows. We look forward to its continued growth in fiscal 2014 and believe its profitability will continue to improve as it leverages fixed cost on significantly higher sales. We continue to be pleased with the performance of the Salt Life brand with revenue growth of 44% during the quarter. The acquisition of Salt Life continues our strategy of building lifestyle brands to take advantage of our creative capabilities, vertical manufacturing platform and international sourcing competencies. We are significantly increasing the investment in consumer advertising and point-of-sales branding to further build consumer appeal as we continue our geographic and product expansion. We look forward to building on the many opportunities available to us that shows yield strong continued growth with the Salt Life brand. As you can see many of our initiatives were completed during the transition period while these came with a short term cost which unfavorably impacted profitability during this quarter we anticipate that the next several quarters will be ones in which we’ll able to see the benefits from our efforts. We’re in a challenging environment right now but believe the steps we’ve taken will allow us to still meet our guidance for 2014 that we announced in August, with a revenue of $500 million to $510 million and earnings in the range of $2 to $2.10 per diluted share. As a reminder the December quarter is now our first fiscal quarter. The December quarter is seasonally our weakest revenue quarter in which we typically operated about breakeven. The stronger spring selling season then begins driving our top line revenue and profitability in subsequent quarters. This transition period gives us the opportunity to complete many of the projects that should improve our operations, increased in productivity and providing more efficient service and greater selections for our customers. We believe we move into our 2014 fiscal year a better and stronger company. While we still have challenges we have made the tough decisions that should enable us overcome to challenges and have 2014 to be a year of continued growth for Delta Apparel. Operator now we’re ready to open up the floor to questions.

[Operator:]

Thank you. (Operator Instructions). And our first question comes from James Fronda with Sidoti & Company.

[James Fronda:]

Hi, guys how are you?

[Deborah H. Merrill:]

Good.

[James Fronda:]

Can you just give us a better sense of your SG&A expenses for the rest of the year and fiscal ’14 I mean my thought is that it may be high with the opening of the new store in the West Coast, but is there a possibility with savings that it may be relatively flat for fiscal ’14?

[Deborah H. Merrill:]

Relatively, I mean it should comes down from as a percentage of sales from where it was during the transition period and overall I would say you’ve got differences as the seasonality goes by quarter but for the fiscal year we should come in lower than the fiscal year ’13 as a percentage of sales.

[James Fronda:]

Okay, all right, thanks. And I guess any more specific timeframe in your mind to when retail may return, I mean do you think this will come stronger for the spring season or just lay back for the upcoming quarters?

[Robert W. Humphreys:]

I think for us it will be stronger in the spring. I mean we’re spring oriented type business and have long [inaudible] business that ships in spring. So I do think that we had positive conversations with a number of national retailers and they are encouraging to us to get product placements but they are not all put to bed yet, so we'll have to see how that goes out. As far as across the board how retail will operate in spring when things will get out of this kind of choppy mode that we’re in, I’m not sure.

[James Fronda:]

Okay, all right. That’s fair enough. Thanks guys.

[Operator:]

(Operator Instructions). And our next question comes from Jamie Wilen with Wilen Management.

[James Wilen:]

Hey, fellas. First of all on the SG&A reductions, you said $1 million how much of that will we actually get this year and you said back office $1 million, again how much of that will actually be savings this fiscal year?

[Deborah H. Merrill:]

Jamie the first million that we’ve already taken care of, that will get that million in fiscal ’14. The next million that we have indentified that will be taken out during the upcoming quarters. You’ll get a part of that, but it just depend on in which quarter the actions really take place. So I mean you can think of probably getting 0.5 million or so of that in the fiscal year.

[James Wilen:]

Okay. Were there any charges that had to be recorded to get these things started?

[Robert W. Humphreys:]

There wasn't anything material, some of it was stuff we have been working on and off, just got completed really over the last 30 to 60 days.

[James Wilen:]

Got you. Could you talk a little bit about Soffe and how you are transitioning there, what's happening and what are your expectations as you look forward?

[Robert W. Humphreys:]

Yes, we're obviously happy to have brought on Rod and a full time leader at Soffe. He spent time obviously with our employee base and telling them what we expect to get done. He has been out on the road talking to our key customers and communicating with them. We have done a lot of work leading us to recruiting Rod and we think he's valuable in building the base. We have our spring ' 14 line that has been put to bed and reviewed with our customer we've gotten good feedback on that. We've also taken a conservation position on it on the source products to make sure we are aligning it with what the demand will be. We have seen positive feedback from customers on that line. We have had positive feedback from customers that may be got out of categories that are interested in getting back in categories and we'll just have to see how that pans out, but we think we'll start seeing some positive results out of Soffe in the back half of what's now fiscal 2014.

[James Wilen:]

Okay. And last few things current shares outstanding as of the end of the quarter?

[Deborah H. Merrill:]

7.9 million I think it is, yeah. Slightly under 7.9 million.

[James Wilen:]

Okay. And then last thing, the expansion of the textile operation, Central America, how much of that costs you to do and what do you think the long term impact of that is going to be?

[Robert W. Humphreys:]

What's your first part, how much did it cost us to do?

[James Wilen:]

Right.

[Deborah H. Merrill:]

For the total expansion or what took place during the quarter?

[James Wilen:]

What took place during the quarter, just the most recent one?

[Robert W. Humphreys:]

Probably about 2 million of the 3 million CapEx during the quarter. So really we've been proud of this, , we are putting in piping, preparing for the new equipment coming in, it started arriving in September as we said. We are putting that together. It's going to increase our output there about 15 percentage points or so which will allow us to run [retromix] fabric and/or produce additional pounds. We move our sewing plant to a larger facility to expand that. So we had continued unit growth in this market over the last number of years and we expect that to continue and this will allow us to support that and obviously as we expand within existing facilities it helps to lever our costs.

[Deborah H. Merrill:]

And I will just add that there will be as part of that expansion in the second quarter -- in the December quarter, there will be additional CapEx for the remaining payments on all that equipment?

[James Wilen:]

So long term how much of an impact it might have on gross margin which it's operating at a reasonable level of capacity?

[Deborah H. Merrill:]

I would say I would call it maybe 150 basis points to 200 basis points when you have that full year within any fiscal year.

[James Wilen:]

Okay perfect. Okay Thanks all. I appreciate it.

[Operator:]

(Operator Instructions). Our next question comes from Jared Schramm with ROTH Capital Partners.

[Jared Schramm- ROTH Capital Partners:]

Hi good afternoon.

[Robert W. Humphreys:]

Good afternoon.

[Jared Schramm- ROTH Capital Partners:]

As far as that Soffe is concerned now that we are post acquisitions anything shift wise as far as go-to-market strategy or just general pieces behind the brand has that changed at all or if though or if not where the brands stands today?

[Robert W. Humphreys:]

Our go-to-market strategy will change obviously from one of being a licensee where we are obviously trying to grow the brands and all that but careful with what we invested in branding and fixturing and what have you. So we are in that transition now in our spring line with that I don’t think the product line would have been much different. We are increasing or investment point of sale, fixtures and signage and what have you. We are developing a stronger consumer advertising presence. So you’ll see that evolving significantly over the next several quarters.

[Jared Schramm- ROTH Capital Partners:]

And with The Road and The Junk Food Stores and there is one here in LA could you talk about the reception of that initially?

[Robert W. Humphreys:]

Well there was a great reception to this Salt Life store now the one that we would be opening in LA or Vegas will be the first Junk Food store.

[Jared Schramm- ROTH Capital Partners:]

And then lastly I think so now you touched on as far as the impact the new President at Soffe there. But bigger picture I know that we had some struggle with the brand do you think that there is that turnaround the corner here is coming up in relative to their future.

[Robert W. Humphreys:]

Yeah I think we’ll see certainly a different profile Soffe's in the back half of the fiscal year we just started.

[Jared Schramm- ROTH Capital Partners:]

Hey and then lastly and jumping back to Salt Life any incremental expenses associated with the acquisition or will this to be pretty clean with going forward?

[Deborah H. Merrill:]

We did during the transition quarter we did have the acquisition cost and those were in the transition period. So on an ongoing basis that won’t be related -- there won’t be additional expenses related to doing the acquisitions and as far as kind of the ongoing profile of Salt Life it should incrementally become profitable to us owning it than having licensed it.

[Jared Schramm- ROTH Capital Partners:]

Those costs were as expected as far as the acquisition was concerned now?

[Deborah H. Merrill:]

Yes exactly on what we thought it would be.

[Jared Schramm- ROTH Capital Partners:]

Okay, thank you very much.

[Operator:]

And it appears there are no further questions at this time. Mr. Humphreys I'd like to turn the call back over to you for any additional or closing remarks.

[Robert W. Humphreys:]

Okay, well thanks all of you for joining us this afternoon. We look forward to continue to work on our business and grow these brands and update you on that at our next quarter end. Thanks so much.

[Operator:]

And that does conclude today’s conference we thank you for your participation and you may now disconnect.