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Skechers USA Inc. (SKX - Analyst Report), which has lately been grappling with the clearance of its excess toning inventory, is now showing signs of stability as evident by its better-than-expected second-quarter 2012 results.

The company delivered a quarterly loss of 4 cents a share that fared far better than the Zacks Consensus Estimate of loss of 12 cents, and showed a substantial improvement from a loss of 62 cents in the year-ago quarter.

With more emphasis on a new line of products, cost containment efforts, inventory management and margin improvement, the company anticipates returning to profitability in the second half of fiscal 2012, and sustaining the momentum in 2013 and thereafter. 

Sales

Skechers, which competes with Deckers Outdoor Corporation (DECK - Analyst Report) and Nike Inc. (NKE - Analyst Report), stated that total net sales for the quarter dropped 11.6% to $384 million from the prior-year quarter, reflecting lower sales across domestic and international wholesale channel. These were partially offset by increased sales from new stores and Performance lines. Moreover, total revenue came ahead of the Zacks Consensus Estimate of $373 million.

The domestic wholesale business tumbled 18%, reflecting a sales decline in toning and non-Skechers branded product.

International wholesale business experienced a decline of 16%, reflecting a difficult comparison due to strong sales witnessed in the prior-year quarter on account of offloading toning inventory and transition to lower-priced products from the toning category.  

A challenging economic climate in Europe, the transition of business in Japan from distributor-operated business to a company-owned subsidiary, and restructuring of Brazilian business also adversely impacted the business. Management expects to witness year-over-year growth in Japan in the second half of 2012, and hinted that Japan will be accretive to the company’s international business in 2013.

On a combined basis, retail business sales grew 5%. Domestic retail sales increased 6% due to the addition of 33 new stores, while comparable-store sales fell 3.4%. International retail sales increased 3%, whereas comparable-store sales dropped 6.7%.

The company’s licensing division has been another source of revenue, whereby the company licenses its name and images. The company generated $1.6 million in revenue during the quarter from its licensing affiliates, which include apparel, eye wear, watches, backpacks, and stocks.

Management hinted that Li & Fung, one of the leading attire and accessories manufacturers, will launch fitness apparel for both men and women under the Skechers’ brand in 2012. This will open up another important source for revenue.

Margins

The quarter marked a significant improvement in gross profit, which increased 19.5% to $171.3 million, reflecting cost containment efforts. Moreover, gross margin expanded by a whooping 1160 basis points to 44.6% attributable to an increase in full-price products in the market coupled with enhanced inventory and strong product sales at retail stores. The company stated that average price per pair increased 8.4% during the quarter in the domestic wholesale segment.

The company reported a loss from operations of $1.5 million, a sharp improvement from a loss of $48.2 million witnessed in the year-ago quarter. The improvement reflects a 26.4% and 3.1% decline in selling expenses and general and administrative expenses, respectively. 

Stores Update

During the quarter, Skechers opened 6 domestic stores and 1 international store in Chile, and closed 2 stores bringing the total company-owned Skechers retail stores count to 344. So far in the third quarter, the company has opened 1 concept stores in Chile and plans to open 5 to 7 additional locations over the remaining year. Notably, Skechers concept stores registered a 4% increase in comparable-store sales during the quarter.

The company at the end of the quarter operated 98 outlets under joint venture countries in Asia, including stores operated by licensees, and 219 additional distributor-owned or licensed Skechers retail stores worldwide. During the quarter, Skechers opened 18 Skechers stores, including one each in Philippines, Thailand, Serbia, Jordan, Venezuela and Guam. In Mexico, Malaysia and Australia, the company opened two stores each coupled with six in South Korea. Moreover, the company closed two stores in South Korea and one in China.

Strategic Initiatives

Management remains committed to focus on new lines of products, such as ‘Skechers GOrun’ and ‘Skechers GOwalk,’ opening of additional Skechers stores and increasing distribution channels with the development of international distribution agreements to improve its sales and profitability.

Moreover, international business remains a significant growth driver for the company’s sales. Management projects international sales to pick up in the back half of the year. Skechers expects to double its company-owned subsidiary business in Japan over the next 3 to 5 years.

Skechers, through its distribution networks, subsidiaries and joint ventures, is poised to enhance its global reach in the footwear market. Skechers’ joint ventures in Asia are portraying improvement with growing operations in China, Taiwan, Hong Kong, Singapore and Malaysia.

The company is trying every means to reposition itself for 2012 and beyond. These include lowering of selling and marketing expenses, streamlining inventory and new product offerings.

Other Financial Aspects

Skechers has been right-sizing its inventory. Consequently, total inventories at the end of the quarter were $258.1 million, reflecting a decrease of $67.7 million from the year-ago quarter.

Skechers portrays a healthy balance sheet with cash and cash equivalents of $374.2 million, long-term debt of $71.3 million and shareholders’ equity of $853.3 million, excluding non-controlling interest of $40.7 million at the end of the quarter. Capital expenditures for the quarter were approximately $11 million.

Currently, we maintain a long-term ‘Outperform’ recommendation on the stock. Moreover, Skechers holds a Zacks #1 Rank that translates into a short-term ‘Strong Buy’ rating.

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