Quiksilver: Another Solid Session

Last Thursday, Quiksilver (NYSE: ZQK  ) reported strong fourth-quarter earnings. The next day, the company's stock took notice and caught its own wave, lifting it 8% higher. While selling the surf lifestyle over the years has been good to the apparel company and its stock, this Fool wonders how long the honeymoon will last with the newly acquired Rossignol brand.

But first, let us look at Quiksilver's results. Revenues for the fourth quarter were $778.4 million, up 22% from $637.4 million in fourth quarter 2005. Net income was $65.3 million, or $0.51 per diluted share, up 94% from $33.6 million, or $0.22 per diluted share, in fourth-quarter 2005. Stock option costs, which weren't expensed in 2005, were $3.3 million in the quarter, or $0.03 per diluted share.

For the full year, revenues were up 33% to $2.36 billion from $1.78 billion. Net income was down due to a combination of stock option expenses, which totaled $14.6 million, and a full year of Rossignol operations. Rossignol's seasonally weak summer months weren't included in fiscal 2005's results.

And those recurring summer losses at Rossignol are just one of the added challenges to Quiksilver's business. To management's credit, Rossignol is benefiting from its new stewards; revenues grew 30% for the quarter. It wouldn't surprise me if Rossignol's profits grew even faster with the efforts to streamline operations. But in the end, a weak business will always win over a superior management team.

The hard part of hard goods
Hard goods like snowboards carry lower gross margins than soft goods like T-shirts, which will drag the overall profitability down. Investors should make sure that the operating margins don't follow suit, which would mean the company would have a tougher time earning its cost of capital.

Investors should also watch the cash conversion cycle. Dating or extending credit to retailers to purchase hard-goods inventory can extend up to 120 days or longer, especially for large pre-season orders such as snowboards. K2 (NYSE: KTO  ) , a proxy for a company selling hard goods, has averaged 185 days to convert its products into cash over the past 10 years. Pacific Sunwear (Nasdaq: PSUN  ) , a proxy for Quiksilver's retail shops, has averaged 51 days for its cash conversion cycle over the past nine years. Quiksilver's cash conversion cycle, which has averaged 137 days over the past 10 years, could creep higher with the increased product mix toward hard goods, making the company less efficient and less flexible with its capital.

The bottom line is that after several years of retailing both soft goods and hard goods, which included Quiksilver's DC shoes and Lib Tech snowboards, I can attest that selling shoes is more profitable than snowboards. It's too early to tell how Rossignol will add or detract from Quiksilver, but if I were an investor, I would keep a close eye on its productivity and profitability levels for any signs of deterioration.

For related Foolishness:

Pacific Sunwear is aMotley Fool Stock Advisorselection. To see what other retailers are part of the privileged few recommendations, you can take a free 30-day trial.

Fool contributor Matthew Crews welcomes your feedback -- really! He has no financial position in any of the companies mentioned. The Motley Fool has an ironclad disclosure policy.


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