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Rocky Brands Inc (NASDAQ:RCKY)
Q1 2020 Earnings Call
Apr 28, 2020, 4:30 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Rocky Brands First Quarter Fiscal 2020 Earnings Conference Call. [Operator Instructions]

And I will now turn the conference over to Brendon Frey of ICR.

Please go ahead.

Brendon Frey -- Investor Relations

Thank you, and thanks to everyone joining us today. Before we begin, please note that today's session, including the Q&A period, may contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Such statements are based on information and assumptions available at this time, and are subject to changes, risks and uncertainties, which may cause actual results to differ materially. We assume no obligation to update such statements. For a complete discussion of the risks and uncertainties, please refer to today's press release and our reports filed with the Securities and Exchange Commission, including our 10-K for the year ended December 31, 2019. And I'll now turn the conference over to Jason Brooks, Chief Executive Officer of Rocky Brands.

Jason?

Jason S. Brooks -- President, Chief Executive Officer

Thank you, Brendon. With me on today's call is Tom Robertson, our Chief Financial Officer. As our 2019 performance indicated, we came into 2020 with good momentum in our business. And while we were facing a few sales and margin headwinds early in the year, we were on track for another year of solid growth and improved profitability. Like many companies, our near-term plans and projections have been significantly interrupted due to the COVID-19 pandemic. First and foremost, our thoughts are with everyone affected by this virus, and we salute on those on the frontlines battling this global health emergency.

We also want to acknowledge the dedicated employees at essential businesses that continue to show up to work every day, including our great teams in our distribution center facility who haven't missed a shift, since the start at this unprecedented situation. During our quarterly earnings calls I typically review our sales results by brand and segment, in light of the current circumstances I don't think that makes sense. To the extent it provides a framework for our current environment, I'm going to spend a few moments on our Q1 results and then Tom and I will spend the rest of our time providing an update on the state of our business, and really [Phonetic] actions we've taken to protect our employees and strengthen our financial liquidity and flexibility.

For the first quarter, total net sales were approximately $56 million compared with approximately $66 million a year ago. We initially anticipated sales to be down slightly due primarily to planned reductions in our military business, plus some early softness in the wholesale segment from a pull forward on certain deliveries, ahead of price increases that went into effect on January 1.

We were also forecasting pressure in Q1 gross margins, as we work through inventory that was brought in with the 15% additional tariff prior to the roll back to 7.5% that went into effect February 14, following the signing of the Phase 1 deal between US and China. Q1 was tracking close to plan prior to the outbreak of COVID-19, driven by low double-digit increase in retail segment sales through mid-March. As several states announced the closure of all non-essential businesses and implemented stay-at-home directives, we saw an immediate impact on demand, particularly in our wholesale channel as many accounts began cutting back their planned deliveries and replenishment orders.

Today, we estimate approximately a third of our wholesale partners doors are currently closed. Fortunately, roughly two-thirds were designated essential businesses by their respective state governments and they serve consumers who must remain, on jobs to either fight the virus, protect our citizens or execute functions that need to be maintained during this crisis. Importantly, as we announced on March 23, our distribution center in Logan, Ohio was deemed an essential infrastructure business operation. This decision, has allowed us to continue supporting our retail customers that remain open, as well as service customers directly through our branded websites and the Lehigh Safety Shoe program.

For the retail doors that are open, they are obviously dealing with decreased traffic levels and you're seeing that in our Q2 to-date results. However, our wholesale accounts with e-commerce operations where we drop ship customer orders from our D.C., we've experienced a strong spike in demand, particularly for our work in western footwear as consumers' purchasing behavior further shifts toward online during this period of self isolation.

With respect to our retail segment, starting with Lehigh, we believe more than half of our safety shoe customers are currently functioning, as many operate in critical industries, such as food and agriculture, infrastructure, pharmaceutical and waste [Indecipherable]. For those businesses that are temporarily closed, givings [Phonetic] are being rescheduled, and we expect there to be pent-up demand, once these facilities come back on line. Finally, we actually signed up hundreds of new smaller accounts over the past month, as the current circumstances have driven an increased need for safety shoes, in several professions and our online business model provides an easy and safe way for employees to outfit their workforces with the required footwear.

Meanwhile, our branded e-commerce websites have experienced a strong start to the second quarter. Sales on Rocky Boots, Georgia Boot and durangoboots.com are all up strong double digits, driven by robust gains in new users and conversion. I am pleased to report that the following -- the temporary government mandate shutdowns, our manufacturing facilities in Puerto Rico and Dominican Republic have reopened. Based on current demand, both are operating at less than full capacity to reduce cost. However, they are preparing to ramp back up as needed, highlighting the benefits of our vertically integrated manufacturing structure.

For the period, we source from third-party contract manufacturers. We have delayed or canceled approximately $15 million of purchase orders over the next couple of months, due to the slowdown in overall demand. The good news that is for our inventory, on our balance sheet, at the end of March, over 70% is Core style that has been in our line for more than a year. So, there is very little risk for a write down. These are unprecedented times, and certainly the most difficult operating conditions, many of us have faced in our lifetime.

At Rocky, the health of our employees is our number one priority, and we've taken a number of steps to ensure their safety. This includes allowing individuals to work from home, if their job function allows it. For those in our distribution center, we have split them in two 33-person teams. We are sanitizing our equipment and work areas before beginning operations. On top of this, we are conducting temperature readings at the beginning of each shift, ensuring each workstation is being utilized in a way to keep employees six feet apart.

Instructing all staff to keep appropriate at all times, including during break. I am extremely proud of the way our organization has responded to the many recent new challenges and adopting to what we all hope is temporarily, the new normal. In addition to executing their jobs across our organization, people have stepped up to support our communities, healthcare workers, first responders and the US Military, and those in need by preparing and delivering food, manufacturing and donating masks, and providing discounts on essential products.

I am confident that the combined strength of our people, our brands and our balance sheet will allow us to weather this storm and emerge well positioned to get back on track, to deliver sustained growth, and increased profitability, and generate enhanced value for our shareholders.

I'll now turn the call over to Tom, who will review the financials in more detail.

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Thanks Jason. As Jason mentioned at the start of the call, we are planning our first quarter revenue to be down slightly year-over-year and earnings per share to be down even more due to the pressure on margins, from higher tariffs. The added impact of COVID-19, Q1 revenue ultimately declined 15.5% to $55.7 million compared with $65.9 million a year ago. By segment, wholesale sales decreased 17.5% to $35 million, retail sales increased 9.4% to $16.9 million and military sales decreased 4.3% to $3.8 million. Gross profit in the first quarter was $19.3 million or 34.7% of sales, compared to $23 million or 34.9% of sales, the same period last year.

This year's gross margins include approximately $1 million in expenses related to the temporary closure of our manufacturing facilities, due to COVID-19. Excluding these expenses, gross margin for the first quarter of 2020 was 36.4% the 150 basis point increase in adjusted gross margin over last year was driven primarily by a higher percentage of retail sales, which carry higher gross margins than wholesale and military sales. Adjusted gross margins by segment were as follows.

Wholesale 33.9%, retail 44.1% and military 26.5%. Selling, general and administrative expenses were $17.8 million or 32% percent of net sales, in the first quarter of 2020 compared to $18.5 million or 28% of net sales last year. Since the outbreak of COVID-19, we've taken steps to reduce our expense structure, and to-date have eliminated approximately $1.5 million from our 2020 budget. There are additional potential savings of approximately $2 million reduced or either realized this year, including a reduction in incentive compensation.

Income from operations decreased $1.5 million or 2.7% of net sales compared to $4.5 million or 6.8% of net sales in the year ago period. Adjusted operating income, which excludes the expenses from our manufacturing facility shutdown was $2.5 million or 4.5% of net sales. Net income for the quarter was $1.2 million or 16% per diluted share compared to net income of $3.6 million or $0.48 per diluted share in a year-ago period. Adjusted net income for the year was $2 million or $0.27 per diluted share.

Turning to our balance sheet which at beginning of the first quarter, was in a very strong position cash and cash equivalents at March 31, 2020 totaled $44.2 million compared to cash and cash equivalents of $17.6 million at the end of Q1, 2019. To bolster our cash position and increase our financial flexibility, we drew down $20 million on our credit facility in March. Inventories at March 31 were $77.2 million compared to $76.7 million at December 31 and $69.9 million at the end of the first quarter last year.

As Jason said, we've already started adjusting future receipts from our third-party suppliers and our plan is to work down our inventory position over the next couple of months -- over the next couple of quarters to better align levels with our current demand. To reiterate, approximately 70% of our current inventory is Core product that is -- in the line year-to-year. On our fourth quarter call, in February, we outlined how we thought 2020 would unfold from a revenue perspective. Due to the uncertainty created by COVID-19, we are drawing that view and not providing an update at this time.

That concludes our prepared remarks.

Operator, we are now ready for questions.

Questions and Answers:

Operator

Certainly. [Operator Instructions] I will go first to Jonathan Komp of Baird.

Jonathan Komp -- Baird -- Analyst

Yeah, hi. Thank you. Wanted just first to start the GAAP versus the non-GAAP disclosure. Could you just share the rationale for excluding the -- million dollars or so that you called out?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yeah Jon, so this is the same treatment that we did in 2017 when we had the hurricane hit Puerto Rico. Effectively, this is -- not to bore you with the accounting, but effectively this is just overhead and labor cost that we were not allowed to capitalize into our inventory, and we had to blow through the quarter so, it's not indicative of the operation moving forward. Although I do anticipate because of shutdown leaked into the second quarter, we'll have a similar type of adjustment in the second quarter.

Jonathan Komp -- Baird -- Analyst

Okay. And by chance [Indecipherable] gross margins on adjusted. So, if you're not excluding that?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yeah. Unadjusted. Yeah unadjusted gross margins by segment, wholesale would be 31.9% retail, 44.1% that remains unchanged and military was at 18.1%

Jonathan Komp -- Baird -- Analyst

Okay, thank you for that. And if I can ask maybe a broader question, obviously a lot of uncertainty out there and I think just given the lack of maybe clarity around the relative size of the few of the businesses that you called out [Indecipherable] is there any way you can comment on, if you look at the total business or maybe even parts of it over the last six weeks or so here, kind of March and April, the type of trend line that you're seeing from a revenue perspective?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yes. So, just to make sure I understand the question, just kind of trends in the last six weeks is that we we're looking for?

Jonathan Komp -- Baird -- Analyst

Yeah, either from a total revenue perspective or if you could just share a little bit more? I know you called out some of the areas of relative strength like -- the relative size of all those, so I'm just trying to get a better sense where the business they have over the last couple of months were?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yeah. Without getting too specific Jon, if you think about our wholesale business, Jason alluded to about a third of our wholesale customers are shut down, they are not essential businesses, but when you think about that too, of the two-thirds that are still open I think they're seeing decreased foot traffic and then also, I'm not certain that footwear purchases, soft line goods are the reason people are going into the stores, are looking forward more essential type of products. When we think about the retail business, as Jason said in his prepared remarks as well, just over half -- we believe just over half of our customers are open, and so if you look at that segment in total Lehigh is the biggest proportion of our retail segment.

That being said, our retail business -- our e-commerce retail business and our marketplace business has seen a significant increase in sales over the last six weeks, and particularly, if you look at the last week or so, we've seen even stronger growth there. And then from a military segment, we were kind of guiding to that $20 million number for the year, now it's going to be relatively even. But, given the shutdown for over the last 30 days or so, we haven't been able to ship much military. So, we anticipate getting that business kind of back up to our run rate, but I'm not sure we'll get to the $20 million for the year.

Jonathan Komp -- Baird -- Analyst

Okay, understood. And maybe talking up on inventory, could you just comment -- I know you highlighted the reduction in brand orders, but how do you expect inventory to play out here, and when you think of the wholesale business how are you planning the balance of the year in terms of the receipts that you still plan on receiving?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yeah. So, obviously as we talked about we've either delayed or canceled approximately $50 million in orders right now. We're continuing to monitor the situation. We're having weekly updates. I mean -- I think, as everybody knows everybody right now is having trouble forecasting what does the next 3 quarters look like; we're kind of playing it by year. We think that given our own manufacturing facilities, that gives us some more flexibility. We have shorter lead times off the Dominican and Puerto Rico than out of Asia, and so we're going to play that to our advantage, and as Jason talked about as well, 70% of our products are Core products.

So, if we get a little over inventory, we'll be able to work through that inventory and adjust our purchases as we move forward. But yeah, if we're having to guess on demand and if we are too aggressive, I guess we'll see inventory levels creep up, but it doesn't have us overly concerned.

Jonathan Komp -- Baird -- Analyst

Okay that's very helpful. And then maybe last one from me, just more thinking about the cost side of the business. I know you mentioned some additional flexibility, if needed to take out operating costs, but any way to just frame up how you're planning the business or even a type of range or scenarios that you might be considering from a sales perspective and how that informs what you're doing from an operating cost side?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yes. So, that's pretty complicated question Jon, but I'll give you my two cents now, because we're all kind of in the same boat, trying to figure what's going to happen over the next three quarters. But, as you think about -- we think we'll see our biggest sales decline in our wholesale business, right, the current environment the retail's in. We talked about our retail business. We weren't doing any kind of meaningful Amazon business really until the third quarter of last year, so we're continuing to see increases there. As Jason talked about our e-commerce business is growing. We hope that, that momentum continues and then with our Lehigh space, which is our biggest category, again, in our retail segment, we believe that there is going to be more pent-up demand, we can kind of feel that a little bit better and get a little bit more clarity on that because of the fitting schedulings that are happening.

And so, as we -- and then the last one was military with those sales being down, as the way that flows through the income statement, obviously from a gross margin standpoint, the retail sales being up, those are going to be our highest gross margin area, but with the wholesale business, we think we'll see a little bit -- we talked about in the last call, how the incremental 15% percent tariff was going to bleed through Q1 and Q2 as we work through that inventory, that may bleed through a little longer now than we've seen the sales decline, but we're going to work through that inventory through the first three quarters of this year.

From an operating expense standpoint, I don't think we'll see significant changes from a dollar standpoint, that being said, even the savings that we're making up and we talked about earlier on the call, those will be offset by increases in our retail segment. And so, we talked about the significant increase in operating expenses associated with selling on different marketplaces, and the freight costs associated with selling boots and shipping boots one and two pairs at a time.

So, while I don't think we'll see increases in our SG&A expense from a dollar standpoint, we certainly see us deleverage a little bit, as wholesale sales continue to kind of struggle a little bit. Hopefully, we will see those recover quite nicely here toward the second quarter and in the third and fourth quarter.

Jason S. Brooks -- President, Chief Executive Officer

Yeah, and Jon I think also we have gone through this experience, our sales force is really focused on staying communicated with the field accounts and what's kind of going on there, and then from a Lehigh standpoint when can we expect accounts to open back up, as the states are opening up. And we actually have, I believe, this week, we have [Phonetic] two I fittings [/Phonetic] in Texas -- or next week, where they're going to allow us back in, to hopefully get some things rolling there. And so, I think just the fact that the sales forces have been able to communicate with them and make those things happen that'll be kind of interesting to see how it changes.

And then, there are still shows that have not been canceled -- that we are anticipating that will be canceled. So, there could be some additional SG&A savings there. But, we have not made that decision to cancel. We're still waiting for them to roll those out and let us know. So, we still think there might be some savings there as well, and then kind of walk through the rest of the year.

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yeah, I think Jon, just to kind of put a little positives on some of the stuff that's happening here. I think we're trying to figure out how this is going to change our consumers moving forward. And so, the more consumers we get going to our e-commerce websites, right, the better and then also with our Lehigh business, it is particularly set up to have a hands-off or no-contact safety shoe solution. And so, we're excited about what we're seeing from an account growth standpoint at Lehigh, and we hope that we can continue to catch us momentum or keeps this momentum going, as consumers' may change their buying habits, as they move forward.

Jonathan Komp -- Baird -- Analyst

Okay. And just last follow up. I'm just thinking about the modeling, when I think of second quarter, presuming you'll feel more revenue impact from what's going on, and just want to make sure it's not unreasonable to think that you might have a negative operating profit quarter?

Thomas Robertson -- Executive Vice President, Chief Financial Officer

I said, I'm not really ready to talk through that at this point, I mean I think that the second quarter is certainly going to be our toughest quarter, right. And so, there's a lot of variables in that about manufacturing and shut down and we're working through that today. So, I'd rather not comment.

Jonathan Komp -- Baird -- Analyst

Okay, understood. Thanks for taking all the question.

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Yes. Thanks Jon.

Operator

And with that ladies and gentlemen, it does conclude today's question-and-answer session. I would like to turn things back to Mr. Brooks for any additional or closing comments.

Jason S. Brooks -- President, Chief Executive Officer

Great, thank you very much everybody. I want to again thank the Rocky team, they've done an exceptional job through this entire situation, and I want to thank the people in the field that have worked tirelessly to help keep the United States a safe place, and we look forward to moving past this and getting on. Thank you very much.

Operator

[Operator Closing Remarks]

Duration: 27 minutes

Call participants:

Brendon Frey -- Investor Relations

Jason S. Brooks -- President, Chief Executive Officer

Thomas Robertson -- Executive Vice President, Chief Financial Officer

Jonathan Komp -- Baird -- Analyst

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