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Levi’s Looks to Build on Strong Q3

Sales advance 3.7 percent in the three months ended Aug. 25 as gross and operating margins leap.

Levi Strauss & Co. expects to use product innovation and marketing muscle to help it maintain strong bottom- and top-line momentum that continued through its third quarter.

Levi’s doubled its profits on a 3.7 percent increase in sales in the three months ended Aug. 25. Chip Bergh, president and chief executive officer of the company, told WWD Friday that he’s confident the San Francisco-based jeanswear and sportswear giant can continue “driving sustainable, profitable growth, something we haven’t done consistently over the last 20 years.” Doing so, however, will require overcoming both inflationary trends in the supply chain and continuing weak trends in retail traffic.

“We’re heading into what I think will be an inflationary period for the industry in many of the places our products are sourced,” he said. “It’s going to get tougher to expand gross margin as we did in the third quarter.

“And we’re seeing the same thing others are — traffic is down broadly — so we have to focus on what we can do to drive traffic into the stores, improve conversion and drive more products into the basket.”

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Increases in marketing spend in the fourth quarter will be part of that effort and will include digital as well as traditional media. Partially because of its new Modern Frontier campaign and the launch of its new Revel shape-fitting jeans for women, advertising and promotional spending was up 17 percent in the quarter, elevating selling, general and administrative expenses, and is expected to be above 5 percent of revenues in the fourth quarter versus a figure below 5 percent during the first nine months of the year.

Bergh was encouraged as Levi’s during the quarter managed a 5 percent sales increase in its own stores despite lower traffic. Direct-to-consumer now accounts for about 23 percent of revenues, up from 21 percent during the first nine months of 2012.

Topping third-quarter performance won’t be easy. Net income grew to $57.1 million from $28.4 million in the year-ago period as revenues, led by growth at both retail and wholesale in the Americas, expanded 3.7 percent to $1.14 billion from $1.1 billion. Gross margin picked up 290 basis points in the quarter, to 50.2 percent of sales, but much of that improvement was a result of last year’s decision to phase out the Denizen brand in Asia as well as from favorable currency fluctuation.

The bottom line also benefited from a onetime tax benefit, but was hurt by higher costs for performance-based compensation.

North American revenues grew 4.6 percent to $710 million from $679 million. European sales were up 3.4 percent to $275 million, although down 1 percent at constant currency, while Asia-Pacific revenues were flat at $156 million, although up 6 percent at constant currency.

Operating income in the Americas and Europe slipped 8.8 and 4.2 percent, respectively, to $125 million and $46 million. However, the company reversed a year-ago loss of $5 million in Asia-Pacific, due principally to the phase-out of the Denizen brand, with a $23 million profit.

Bergh said that more than half of the improvement in gross margin, about 160 basis points, was attributable to the impact last year of closing Denizen in Asia, “and we won’t have that next year.”

The company is well-positioned, according to the ceo, to register improvements on a number of fronts. He was encouraged, he said, by a 7 percent increase in wholesale volume with the company’s top 10 accounts as well as with a number of product introductions and reintroductions that should yield growth in the future.

Although women’s business was down for the quarter, Bergh said the launch of Revel constituted an “‘oh-wow’ product experience. We’ve got a lot of innovation coming through the pipeline, and we think we have tons of opportunity to expand in women’s, which is an $800 million business today and can be much larger.”

He said he sees similar opportunities in Levi’s relatively underdeveloped tops and outerwear businesses. The Dockers business in the U.S. grew for the third consecutive quarter, with Signature increasing at a double-digit rate and the more youth-inspired Alpha Khaki growing from a relatively small base.

The company’s signature 501 jean was in “steady decline in the last few years but has started to grow again,” Bergh reported, as the firm has adopted the model with chino interpretations. “You look at great brand reinventions, like Burberry and Converse, and what do they do? They go back to their icons.”

He also acknowledged positive results at J.C. Penney stores, where the company has gotten more space for its Dockers assortment and continued to see increases in comparable-store sales for Levi’s products in the aftermath of the one-year anniversary of the Levi’s Denim Bar.

“There’s a lot of concern about liquidity and the financial situation,” he said of Penney’s, “but their payment patterns with us haven’t changed. They pay their bills and they pay them on time. And what they’re doing with Dockers is amazing.”

For the nine months, net income rose to $212.2 million from $90.8 million, and revenues were up 2.2 percent to $3.39 billion from $3.31 billion.