Movado Group Inc.

Good day. Welcome to the Movado Group Inc. Fiscal Second Quarter 2020 Earnings Conference Call. As a reminder, today's call is being recorded and may not be reproduced in whole or in part without permission from the company. At this time, I would like to turn the call over to Rachel Schachter of ICR. Please go ahead.

Thank you. Good morning, everyone. With me on the call is Efraim Grinberg, Chairman and Chief Executive Officer, and Sallie DeMarsilis, Chief Financial Officer. Before we get started, I would like to remind you of the company's safe harbor language, which I'm sure you're all familiar with. The statements contained in this conference call, which are not historical fact, may be deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual future results may differ materially from those suggested in such statements due to a number of risks and uncertainties, all of which are described in the company's filings with the FCC, which includes today's press release. If any non-GAAP financial measure is used on this call, our presentation of the most directly comparable GAAP financial measure to this non-GAAP financial measure will be provided as supplemental financial information in our press release. Now I'd like to turn the call over to Efraim Grinberg, Chairman and Chief Executive Officer of Movado Group.

Thank you, Rachel, and good morning and welcome to Movado Group's second quarter conference call. I'll begin with a review of our second quarter performance and then share with you some of the brand highlights for the quarter and discuss our ongoing strategic initiatives and investments for the year. Sallie will then review our financial results and updated outlook, and then we would be glad to answer any questions that you may have. For the quarter, sales grew by 9.5% to $157.8 million. or 11% on a constant currency basis. Excluding the addition of movement, which we acquired during the third quarter of last year, sales grew by 2.5% on a constant currency basis. Our gross margin for the quarter remained strong at 54.1% despite significant currency headwinds. Adjusted operating income for the quarter was $10.3 million versus $14.6 million in the same period last year. The decline in operating income reflected our previously discussed brand building investments, currency impact, and the ongoing integration of MVMT into Movado Group. As we have previously discussed, MVMT currently makes the majority of its profits during the fourth quarter of the year. During the quarter, we revalued the estimated contingency payment for MVMT to reflect our current growth projections for the brand. The revaluation contributed $0.44 per share in GAAP earnings for the quarter. and is excluded from our adjusted results. We continue to expect movement to contribute ongoing sales and profit growth and we remain excited about its long-term prospects. We also continue to maintain a very strong balance sheet with almost $135 million in cash. We recognize that we are operating in an increasingly challenging environment for our category and our wholesale partners and a global market made even more volatile by ongoing tensions and changes in trade policy. There is a reduced level of visibility in the retail distribution channels that we operate in on a global basis. In addition, we are facing currency headwinds and the expected impact of tariffs affecting watches imported from China beginning September 1st. Given these challenges, we are updating our outlook today for the balance of the year. We are confident that the investments that we have made over the last few years in building our international markets, the acquisitions of Olivia Burton and Movement, Important product innovation and the establishment of our digital center of excellence are the right strategic decisions that position us to deliver results on both the top and bottom line. At a time when consumer shopping habits and preferences are evolving, we feel it is important to continue to use our resources to invest in making our brands and products top of mind with the consumer. Our categories face significant changes and challenges over the last few years, including the impact of smartwatches and the significant shift in how and where retail sales are being conducted. We have proactively responded and are pleased to note that in this environment, Movado.com sales grew by over 100% in the second quarter and is on track to double for the fiscal year. We are accomplishing this by introducing innovative new products like our Movado Bold Ceramics, Gold Evolution, and Modern 47 in our museum collection. The results online were driven by strong new video content and a spring television campaign that resonated with consumers. These efforts also helped drive sell-through in our biggest department and specialty store channels during the second quarter. While we saw strong results in these channels, we were not able to offset declines in mall-based jewelry store channels, an important part of our Movado distribution. Yet the strong momentum that we saw behind our spring marketing program convinced us that we are headed in the right direction with our Movado product and marketing strategy. For the fall season, we're excited about the strong new product introductions that we have on the horizon, including our new Movado Bold Evolution for Her and a new Men's Bold Fusion featuring a ceramic bezel, as well as our new Movado Connect 2, powered by Google's OS Wear, our first smartwatch available in two sizes for men and women. We're producing great new content to support the launch of these terrific new products and are excited about driving our e-commerce business as well as our retailers' performance. In China, we have begun to make progress in driving demand for the Movado brand, both online and at the point of sale, as we increase our marketing investments in this region. In our licensed brand portfolio, we drove double-digit growth with strong market share gains both internationally and domestically, especially in Europe, the Middle East, Asia, and the Americas. We have accomplished this with strong product innovation across our brand portfolio and continued investment in our digital marketing efforts, and we are excited about our initiatives for this fall. The UK is an important market for our fashion watch brands, and the retail environment is now facing significant headwinds with the continued uncertainty surrounding Brexit. As we look at specific brands in our portfolio, Coach continues to perform well for us, driven by product innovations supported by compelling digital marketing. With category-leading products like Perry and Charles, new introductions, and new products for the fall season like Audrey, a slim crystal set watch for women, our retail partners are excited about the upcoming holiday season. We're also beginning to see our investments gain traction in China, both in our retail points of sale and online. We have seen strong growth in Tommy Hilfiger around the world. Over the last few years, we have partnered with the Tommy Hilfiger brand to create compelling brand associations with their marketing ambassadors along with a powerful product assortment that has been able to drive double-digit growth. This fall, we're excited to launch a new Tommy Hilfiger interactive shop-and-shop at Macy's Herald Square, and we will also introduce on a limited basis a Tommy Jeans watch collection. In Hugo Boss, we have seen a strong response to the products that we introduced this past spring, especially our Ocean Edition Chronograph. We saw a strong sell-through in France and Germany while facing headwinds in the Brexit-challenged UK. Yet we remain the number one fashion watch brand in that market. For the past several quarters, We have seen strong momentum in Lacoste, driven by products closely associated with the brand and the iconic crocodile, like our new Parisian collection. We have also driven these results with innovative marketing, including the use of localized influencers and billboard campaigns. We continue to make progress with the integration of movement in the Movado Group's infrastructure. We have migrated the movement business into our SAP platform and successfully integrated The distribution operations as of August 1st. We're excited about the prospects of continuing to develop movement into a true global accessories brand powered by the watch category. This fall, we will launch the U.S. Wholesale Channel, providing movement with brick-and-mortar distribution to support its e-commerce presence. We'll invest in support of a new groundbreaking campaign, which will be launched on national cable TV as well as digitally. This campaign is being developed by the team in Los Angeles to support our wholesale rollout, strong new product introductions, and the e-commerce business. We saw success in the spring when we launched our new field watch collection, which quickly sold out in several styles. We also launched men's jewelry to a strong response. We continue to perform very well with both Movement sunglasses and our iconic Everscroll collection to protect users from light generated by computer screens. During the third quarter, the Movement team will launch the new Movement Elements watch collection that we are all very excited about. Olivia Burton has now been part of our company for two years and has been a strong contributor from the start. This spring, we introduced our Under the Sea collection, which quickly became a bestseller. Our store in Covent Garden continues to perform very well and we see our Olivia Burton jewelry collection becoming an even more important part of the brand. This coming holiday season, we are collaborating with Cadbury in the UK for their iconic Christmas pin and believe this will be great exposure for Olivia Burton. In addition, we will also launch a new video campaign in the US to support our holiday sales. Turning to our outlet stores, the second quarter saw continued soft traffic with sales flat on an overall basis. While our gross margins remained strong, increased expenses driven by new stores and increasing rents in several locations held back profitability. Our teams are working on several initiatives to help drive traffic improvements. The investments we are making in our brands, marketing, and infrastructure are leading to Movado Group gaining market share in a difficult environment. We are fortunate to have strong brands, a talented team that has developed powerful innovation, and a strategy in place to navigate a difficult global environment while continuing to invest for the future. We believe we are taking the right steps to make sure that Movado Group has a solid foundation with which to drive sustainable sales and profit growth for the long term. With the initiatives that we are putting in place for the second half of the year, we're looking forward to delivering exciting and compelling products to our consumers. Now I would like to turn the call over to Sallie.

Thank you, Efraim, and good morning, everyone. For today's call, I will begin with a review of our second quarter financial results and balance sheet, and then discuss our outlook. Before I begin, I would like to point out the special items included in our results for the first half of fiscal 2020 and fiscal 2019. Our press release also describes these items and includes a table of GAAP and non-GAAP measures. Movada Group acquired Movement on October 1, 2018. Included in the six months of fiscal 2020 was $2.6 million of pre-tax charges, primarily comprised of the amortization of intangible assets, purchase accounting adjustments, and deferred compensation related to the Movement acquisition. After tax, the charge equates to $2 million, or $0.08 per diluted share. 1.1 million pre-tax dollars, or $900,000 after-tax, of this charge within the second quarter of fiscal 2020. Our GAAP results for the second quarter of last year include a $1 million pre-tax charge, which equates to $800,000 after-tax, or 4 cents per diluted share. This is in connection with the pre-acquisition expenses related to movement. Additionally, non-operating income included a non-cash gain associated with a remeasurement of a contingent consideration liability related to the movement acquisition of $13.6 million in the second quarter of fiscal 2020. After tax, this benefit equates to $10.4 million or 44 cents for diluted share. As you recall, the purchase consideration for movement included two contingent payments that will be determined by the brand's future financial performance through fiscal 2023. These future contingent payments will be remeasured periodically to estimated fair value, and we expect to recognize gains or losses, as the case may be, based upon estimates and assumptions of the achievement of certain brand revenue in EBITDA performance hurdles, as well as changes in discount rates, volatilities, and other key assumptions. Mobata Group acquired Olivia Burton on July 3, 2017. Included in the results for the first half of fiscal 2020 was approximately $1.4 million of non-cash amortization of the acquired intangible assets. After tax, the charge related to the acquisition equates to $1.1 million or 5 cents per diluted share. Similarly, the first half of fiscal 2019 included approximately $1.5 million of a related charge, which after tax equates to $1.2 million or 5 cents per diluted share. Our GAAP results for the first six months of fiscal 2020 include a $300,000 pretax benefit, which equates to $200,000 after tax, or one cent per diluted share, in connection with a change in the estimate of the remaining accrual for our fiscal 2018 cost savings initiative. The balance of my remarks will exclude the special items just discussed. Now turning to our results. For the second quarter of fiscal 2020, sales were $157.8 million, at $13.7 million or 9.5% increase from the second quarter of fiscal 2019. The increase in overall sales was driven by growth in both our owned and licensed brands. To this end, sales were up 12.7% in the U.S. and in constant dollars increased 9.7% internationally. Sales in our watch and accessories brand segment were $136.8 million as compared to sales of $123.1 million For the same period of last year. Thank you for joining us. as compared to 43 locations last year. Gross profit was $85.3 million or 54.1% of sales compared to $77.8 million or 54% in the second quarter of last year. The 10 basis point increase in gross margin was primarily driven by increased leverage on fixed costs due to higher sales and the favorable channel and product mix. These are partially offset by the unfavorable change in foreign currency exchange rates. Contributing to the positive impact of channel and product mix was the inclusion of movement in the current year period. Operating expenses were $75.1 million, an 18.7% increase over the same period of last year. This increase included approximately $11 million of operating costs related to recent business initiatives for future growth, such as our newest brand movement, our joint venture in Spain, and our latest outlet locations. The expected increase in operating expenses more than offset our sales growth and expansion in gross profit, leading to a reduction in operating income for the second quarter. This was combined with the currency headwind, which unfavorably impacted operating income by $900,000. Income tax expense of $1.8 million, or a 17.8% effective tax rate in the second quarter of fiscal 2020, compared to an income tax expense of $3.9 million, or a 27.1% effective tax rate reported in the second quarter of the prior year. The effective tax rate for the second quarter of fiscal 2019 was impacted by changes in jurisdictional earnings and the timing of discreet and other items. The positive impact on earnings per share in the second quarter of fiscal 2020 due to the lower effective tax rate was 4 cents. Net income in the second quarter was $8.3 million or 36 cents for diluted share. versus net income of $10.6 million, or 45 cents, for diluted share in the year-ago period. The currency headwinds in the second quarter of fiscal 2020 negatively impacted ETFs by 3 cents per diluted share. Now looking at our year-to-date results. Sales for the six-month period ended July 31, 2019, for $304.4 million, an increase of 12.2% from fiscal 2019. On a constant dollar basis, sales increased 14.7%. Gross profit was $164.4 million, or 54% of sales, as compared to $145.4 million, or 53.6% of sales last year. The increase in the current year gross margin percent for the first six months was a result of reasons similar to the second quarter just discussed. For the six months ended July 31, 2019, Operating income was $17.4 million compared to $23.5 million in fiscal 2019. Net income was $13.9 million or $0.60 for diluted share as compared to net income of $19.3 million or $0.82 for diluted share in the year-ago period. Now turning to our balance sheet. Cash at quarter end was $134.9 million versus $175.6 million at the end of the second quarter of last year. The year-over-year decrease was primarily driven by the acquisition of movement in the third quarter of last year, partially offset by $50 million borrowed on our revolver. Accounts receivable was up $9.9 million as compared to the same period of last year, primarily due to the increase in sales. Inventory at the end of the quarter was $201 million, a $29.5 million increase from the prior year period. This was due to inventory related to our newest brand movement, our new Spain joint venture, as well as to support the growth and overall sales. Year to date, we repurchased approximately $4.2 million of stock under our share repurchase program, primarily to offset the potential dilution from stock awards. Capital expenditures for the six months were $6.9 million, and depreciation and amortization expense was $7.9 million. This included $2.8 million related to the amortization of acquired intangible assets of both Movement and Olivia Burton. I will now discuss our updated outlook for fiscal 2020. As Efraim mentioned, our category and our wholesale partners are operating in an increasingly challenged environment, and the global market continues to be volatile. In addition, we are facing currency headwinds, most specifically with the Euro and the British and the impact of tariffs affecting watches imported from China beginning September 1st. Given these challenges, we felt it was prudent to update our outlook today for the balance of the year. For fiscal 2020, sales are now anticipated to be in a range of approximately $725 to $740 million, with margin percent to be slightly down from last year due to the impact of unfavorable currency and sales mix for the remainder of the year. As for operating expenses, As we have discussed, we will continue to invest in our business initiatives and important opportunities to provide a strong foundation for future growth. We continue to expect to make these investments more heavily weighted as a percentage of sales than the prior year since we have not anniversary the movement acquisition date or the timing of the execution of our Spain joint venture. Operating income is now projected to be in a range of approximately $67 to $70 million. and net income is now expected to be in a range of approximately $52.5 to $55 million. This reflects a 21% effective tax rate. Our updated diluted earnings per share expectation in fiscal 2020 is in a range of approximately $2.25 to $2.35. Capital expenditures for fiscal 2020 continue to be estimated at $15 million and include amounts to support improvements in our e-commerce sites. The outlook we have provided excludes approximately $8 million of amortization of the acquired intangible assets and other expenses for fiscal 2020 related to the acquisitions of Movement and Olivia Burton, the $13.6 million of remeasurement related to the contingent consideration liability for the Movement acquisition, and the $300,000 change in the estimate for the remaining accrual for the fiscal 2018 cost savings initiatives. Our outlook assumes no significant fluctuations from prevailing foreign currency exchange rates and therefore does not contemplate further deterioration of foreign currencies, such as the Euro or British Pound, which can have a considerable impact on our results. The company's outlook also assumes no further changes in prevailing tariff rates. I would now like to open the call up for questions.

Thank you. At this time, we'll be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question. You may press star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Our first question comes from the line of Oliver Chen with Cowan & Company. Please proceed with your question.

Hi, thank you. Good morning. Regarding your comments, what's driving the reduced level of visibility across retail and wholesale, and what are your thoughts on what you're seeing with the U.S. retail versus globally in terms of trends within geographies as well as channels? Thank you.

Sure. So, obviously, you have a lot of volatility going on, especially with brick-and-mortar channels, but also with e-commerce channels globally around the world. You know, a lot of it having to do with global trade tensions. People, you're getting a lot of commentary about slowing economies in Europe, and then also the challenges of Brexit. So, you know, UK retail sales have been highly challenged over the last number of months. I think you have that combination of many different factors all converging at the same time that kind of reduces the visibility and the predictability of what you see out there for the future.

And what are your thoughts on the U.S. wholesale channel and as well. Sallie, when you zoom out on the inventory growth relative to revenue growth, does your change in guidance have implications for having too much inventory now?

Sallie DeMarsilis So I think we still see the U.S., especially the mall-based jewelry channel, is being challenged. We are seeing We have seen, as we rolled out some significant marketing programs in the spring, some strong results from those marketing programs, and that's what's encouraging to continue to make those investments. For the fall, I'll let Sallie address our inventory.

So, yes, the inventory levels are higher this second quarter than last. obviously the year before. We're very comfortable with our inventory levels. A lot of it has to do with the new businesses that have joined our team and then the timing of purchases. So we expect to be on track with those inventory levels at the close of the year.

Okay. And tariffs are a very relevant topic given the dynamicism and the impact to the consumer as well as earnings. What percentage of your portfolio is most – exposed to tariffs, and how are you strategizing in your scenario planning about how to really execute on this happening?

Sure, sure. So, you know, I think it's very early on in the process, so they will just take effect on September 1st. They do affect our U.S. fashion watch business predominantly. and we will take certain actions in terms of pricing initiatives, in terms of working with our suppliers and some will have an effect to gross profits. So definitely have an impact, I believe, on U.S. business. Obviously, they don't affect our international businesses. So it affects our licensed brands in the U.S. and our movement business in the U.S. as well as smartwatch.

Okay, and Efraim, you called out in your prepared remarks also just generally speaking to the watch category being very competitive, and you also called out smartwatches. Those have been factors for a while, but is there something incrementally different about the trends that you're seeing and the nature of competition or even re-commerce and the circular economy that changes your perspective on the environment?

I think we're seeing the trends that we've seen in the past number of years continue. And, you know, we're seeing ourselves be able to grow in this environment, which I think is really a testament to our team and our initiatives and our investments. So we're obviously in a declining market, gaining market share, and, you know, that is... a sign that our investments are paying off but it's getting more expensive to maintain that excitement and we will continue to do that because we believe it's the right thing to do to support our business and generally in the past it's always helped us come out stronger out of these type of cycles.

Okay and our last question is the revaluation on the on the movement deal was interesting. From a modeling perspective, what underlied why that was done and how does it compare to your thoughts on the movement business relative to the time at which you acquired the business?

I'll start with the first part and then the last part and then let Sallie talk a little bit about the revaluation. We're still seeing... that movement will add both growth in sales and profit for the future and in the short term and the medium term and the long term. It's just that this is a transaction that was staged over a three to four year period of time in terms of an earn out and it will not achieve that level of growth. and we believe and that can change. But it's still going to be growing really nicely for us and we're really excited about the acquisition, the learnings that we've gotten from an e-commerce perspective and a content perspective and really how to talk to consumers today has added a lot of strength to the company. And we're excited about the wholesale rollout in the U.S. and globally.

And then, you know, Efraim actually touched on a lot of the points related to the calculation in his comments just a moment ago. The earn-out payment happens. payouts, one at the end of the average of the first two years and one at the average of the second two years, so over the next four years' time. And, you know, it's an estimate. We're always going to be looking at the forecast of that business from a global perspective, both wholesale, direct-to-consumer, based on top-line sales growth, as well as EBITDA as defined by the agreement. So it's a very complicated process. And, you know, annually, periodically, we will have to be looking at that calculation and adjusting it. So This is just the first adjustment. It happened to be a fairly large one based upon the other things happening globally with our category, but you would expect that we would continue to be fine-tuning this up through the end of the earn-out period, which is at the end of fiscal 2023.

Thank you very much. Best regards.

Okay. Thanks, Oliver. Thank you, and I'd like to thank everybody for listening today. for being on our call, and we look forward to talking to you at the end of our third quarter. Thank you.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.