Our estimates for the rugged outdoor shoe market confirm a previous statement by Blake Krueger, chairman, chief executive and president of Wolverine Worldwide, that the market has entered a phase of slow or inexistent growth, which he called “the new normal.”

His statement, which has resonated widely in the industry and the investment community, was confirmed by the company's results for the 12 weeks of its third quarter, ended Sept. 10. They showed a big drop in sales, but they were accompanied by improved margins.

Wolverine Worldwide Income Statement

(Million US$, Third Quarter Ended Sept. 12)

 

2016

2015

%
Change

Lifestyle Group

219.1

248.2

-11.7

Boston Group

202.4

222.2

-8.9

Heritage Group

86.0

87.3

-1.5

Muti-Brand Group

80.5

86.5

-6.9

Other

15.7

20.7

-24.2

REVENUES

603.7

664.9

-9.2

Cost of Goods Sold

366.1

407.2

-10.1

SG&A*

167.4

191.0

-12.4

Restructuring Costs**

0.9

4.8

-81.3

Net Interest and Other Income

9.1

11.1

-18.0

Pre-Tax

59.9

64.8

-7.6

Tax

11.7

18.8

-37.8

NET

48.2

46.0

4.8

Cent/Share (Diluted)

0.49

0.44

11.4

*Selling, General and Administrative

**Acquisition Related Transaction and Integration Costs

Wolverine's total revenues declined by 11.1 percent to $603.7 million in the quarter as compared to a year ago, with a drop of 8.6 percent on an underlying basis, i.e. excluding currency changes, the closure of single-brand stores – mostly under the Stride Rite children's footwear brand - and the disposal of Cushe.

The group's Outdoor & Lifestyle division, which includes Merrell, Chaco, Hush Puppies, Cat Footwear and Sebago, reported a drop of 13.3 percent to $219.1 million in its reported revenues, or a decline of 10.4 percent on an underlying basis. The decrease was primarily due to a decline in the mid-teens, i.e. around 15 percent, for Merrell. Hush Puppies went down by a mid-single digit and Cat by a high single digit. On the other hand, Chaco raised its sales by more than 30 percent in the quarter, including an increase of over 40 percent in its online sales. It is poised to reach soon an annual turnover of $100 million.

In discussing the poor performance of Merrell, which remains the world's biggest brand of outdoor footwear, the management blamed in part retail bankruptcies in the U.S. and the group's decision to stop distributing Merrell apparel and accessories to third parties. The international business, which represents nearly half of Merrell's revenues, remained strong, but it was hit by the decline in the value of the pound, following the Brexit vote, and other currencies.

However, Krueger pointed out that Merrell's sales of its Moab and Capra shoe collections grew by more than 30 percent in the quarter. An increase of more than 30 percent was recorded by merrell.com, thanks in part to the buzz created by Merrell's involvement in Tough Mudder and some 60 other events in the last few months, which attracted almost one million people. Merrell's sales are expected to recover somewhat in the fourth quarter, thanks to the introduction of its new, exclusive Arctic Grip line, provided the weather cooperates.

Krueger acknowledged that Merrell could do more in the women's sector and in the casual lifestyle segment, which it is planning to do following the recent employment of new talent. In addition to new active lifestyle models, Merrell plans to introduce many new styles that should give it a boost in the course of next year. In the first quarter, the brand will launch the second generation of the Moab lightweight hiking shoe and a new “Nature Gym” line of athletic-inspired footwear. New lines of soft-toe work boots and tactical boots will also come out in the first part of the year. They will be followed in the second half by a freshened-up version of Merrell's iconic Camaleon line.

Meanwhile, Wolverine is taking new initiatives to improve time to market and to further boost e-commerce sales for Merrell, which bring in higher margin than its retail stores. It has redesigned the brand's website. It is also trying to reduce the product development cycle, from concept to deliveries to the trade, down to 75 days – a process that will subsequently be applied to other brands belonging to the group. One way to do that is to put new uppers on previously manufactured soles depending on the demand, the management indicated.

On top of Merrell, sales were down in the quarter also for other major brands like Saucony, Sperry and Keds, which we are going to discuss in more detail in Shoe Intelligence.

Saucony's sales recorded a decline in the mid-teens. The brand was affected by the retail bankruptcies in the U.S. as well as new challenging market conditions in the country's specialty runnin market, which represents more than a third of its revenues. Saucony's sales in EMEA rose at a double-digit rate, however. With its premium positioning, the Freedom shoe should help the brand to return to growth in 2017.

On an underlying basis, the quarterly revenues were down by 8.6 percent for the so-called Boston Group of brands, which includes Saucony, Sperry and Keds as well as Stride Rite They were off by 1.4 percent for the Heritage Group, which comprises Harley-Davidson footwear and the Wolverine, Bates and HyTest brands.

In the face of the “new normal,” Wolverine is deliberately trying to prop up margins instead of pursuing an aggressive sales expansion. For example, it is refusing to give in to retailers' demands for certain discounts. Combined with fewer order cancellations, a rationalization of sourcing factories and better management of raw materials, this contributed to improve the reported gross margin by 0.7 percentage points to 40.0 percent in the quarter, but the adjusted gross margin was flat on a constant-currency basis.  

The group continued to shut down unprofitable stores and to push e-commerce in the quarter, resulting in an increase of almost 21 percent in total online sales that more than offset an overall drop in the low teens for the group's less profitable brick-and-mortar operations. With marketing expenses being pushed forward, operating costs (SG&A) were reduced by 12.5 percent and the operating margin rose by 0.2 percentage points to 11.4 percent - or by 0.3 percentage points to 12.2 percent on an adjusted basis. Inventories were reduced by 7.6 percent and the quarterly net income rose to $48.2 million from $45.8 million in the year-earlier period, coming up at the higher end of the management's projections.

Further improvement is expected in the fourth quarter, but the management sees its total annual revenues shrinking by between 4.3 percent and 8.0 percent from last year's level of $2,691 million, with an underlying negative change of 1.8 to 5.6 percent. It is aiming for an implied net profit of between $101 million and $111 million against last year's level of $123.2 million, in spite of the fact that the group's net debt has fallen by about $100 million so far this year. Inventories will likely be trimmed by more than 10 percent for the year, leading to a comfortable cash flow of around $250 million.

Wolverine is still aiming to reach an operating margin of 12 percent by the end of 2018, compared with 9.4 percent in the financial year to Jan. 2. The management told analysts earlier this week that it will be disappointed if it won't be able to improve the operating margin by at least 1.5 percentage points in 2017.

Some of the improvement will stem from an accelerated program of store closures. The company has also engaged an external partner to find strategic alternatives for some brands that are not meeting its profit goals. More details should become available in the next few months.