The cotton cost conundrum of 2011 is quickly giving way to the global consumer crisis of 2012, putting apparel firms’ sales and profits at risk.
Levi Strauss & Co. checked in as the most recent victim of slumping worldwide sales on Tuesday when it reported that its second-quarter profits dropped by more than a third as combined revenues in Europe and the previously firm Asia-Pacific region dropped at a double-digit pace, and operating profits in overseas markets receded more than 20 percent.
“Our second-quarter results reflect the intensifying macroeconomic headwinds around the world,” Chip Bergh, president and chief executive officer of Levi’s, told analysts on a Tuesday afternoon conference call. “As many multinational apparel and consumer goods companies have indicated, growth markets, particularly those in Asia, have begun to exhibit a broad slowing trend and conditions in southern Europe worsened.”
Although the torpid pace of European business had been expected, the slowdown in Asia was worse than anticipated and its effects magnified by a weak wholesale climate for Levi’s merchandise in the U.S., offset only in part by gains within Levi’s domestic retail network.
Bergh noted that the reduction in sales in Asia was the first the company had experienced in two years. Sales in China were up, but not enough to balance declines in India.
Discussing the situation in Europe, Blake Jorgensen, Levi’s chief financial officer, told WWD, “We do have a very balanced business between north and south Europe, but everyone’s caught the same cold there. The businesses in France and Germany are performing better than in the south, but you’re seeing caution everywhere.”
In the three months ended May 27, the San Francisco-based denim and sportswear giant registered a 36.9 percent decline in net income, to $13.2 million from $20.9 million in the 2011 quarter.
Revenues in the quarter were off 4.2 percent to $1.05 billion from $1.09 billion, with a 1 percent improvement in sales in the Americas, to $605 million, more than erased by respective declines of 9.6 and 11.7 percent in Europe and Asia-Pacific, to $254 million and $188 million. At constant currency, European sales were off 1 percent while those in Asia-Pacific declined 9 percent, Levi’s said.
Operating profits were down in all three regions, with the largest contraction in Asia-Pacific, off 26.3 percent to $18.8 million, followed by Europe, off 21.2 percent to $29.6 million. In the Americas, profit declined 13.7 percent to $71.3 million.
Sales of the Denizen and Signature brands improved along with those of Levi’s own stores in the Americas, while Levi’s and Dockers wholesale revenues declined. Company-owned stores in Europe also saw higher sales, although wholesale volume, both with Levi’s franchisees and traditional retailers, declined.
“Wherever we’ve been selling our premium products, whether in our own stores or high-end department stores, the product has continued to do well,” Jorgensen said. “We rely on the core, major retailers in the U.S., however, and where many have struggled, it’s impacted us.”
He cited the pullback in traffic at J.C. Penney as one example. On the conference call, Bergh noted that Levi’s would be among the brands to launch shops-in-shop at Penney’s for back-to-school, although the status of Dockers hasn’t yet been determined.
“They’re focused on the bigger brands first,” the ceo said.
Levi’s profit decline came despite an 8.6 percent reduction in selling, general and administrative expenses, to $435.1 million, while cost of goods sold rose 2.6 percent to $566.5 million. The revenue-cost disparity lowered gross margin in the quarter to 45.9 percent of sales from 49.5 percent in the year-ago quarter.
The bottom line was also hurt by an $8 million charge for the early extinguishment of debt, reducing net income by about $6 million. Long-term debt dropped to $1.69 billion from $1.82 billion at the conclusion of the 2011 fiscal year in November.
While capital restructuring is one pillar of Levi’s plan to cut costs going forward, it is but one of several means being explored. The company continues to implement a “pan-brand” commercial structure, seeking to eliminate operating redundancies that might exist between two or more brands in the same region. Jorgensen told analysts that associated severance and related reorganization costs will be outlined in upcoming earnings calls. He also noted that, despite the 360-basis-point drop in gross margin during the second quarter, to 45.9 percent, he expects to finish the year with a margin in the high 40s as cotton cost pressures abate and reductions are put in place. Margin for the first half of the year was 46.5 percent.
For the six months, net income was up 1.3 percent, to $62.5 million, as revenues declined less than 0.1 percent to $2.21 billion.
The Levi’s results add to the growing body of evidence that, for different reasons and to different degrees, the pressures on retail demand in larger markets have become virtually ubiquitous and the advantages generally afforded by globalization something of a risk, at least for the short term.
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