NEW YORK — Levi Strauss & Co. surged back to profitability in the second quarter, with strong improvement in margins amplifying the effects of 2.9 percent sales growth, but the company warned that it is not out of the woods.

This story first appeared in the July 14, 2004 issue of WWD. Subscribe Today.

The mass market Levi Strauss Signature business that has been driving the revenue growth of the San Francisco-based firm is facing difficult comparisons in the third quarter.

“We still face marketplace challenges, but a lot of our businesses are making good progress,” said president and chief executive officer Phil Marineau. “Our core businesses, our first-quality products, are starting to stabilize as we enter the second half of the year.”

For the quarter ended May 30, Levi’s posted net income was $5.6 million, compared with a $41.8 million net loss a year earlier. The quarter’s profit came despite a $25.7 million pretax restructuring charge, while the year-ago loss was buoyed by a $5.3 million reversal of earlier charges.

Levi’s has been struggling to turn around its sales, which have declined for seven consecutive years since peaking at $7.1 billion in 1996. This quarter’s improvement was largely attributable to the new mass-market Levi Strauss Signature brand, which brought in $84.9 million in sales, compared to essentially no revenue last year.

Scott LaPorta, president and general manager of the Signature business, warned on a conference call with bond investors and analysts that the unit’s “revenues will decrease in the third quarter” because third-quarter 2003 results were inflated by initial shipments to Wal-Mart’s 3,000 U.S. stores.

Levi’s selling, general and administrative costs for the quarter represented 33.3 percent of sales, a marked decline from the 37.1 percent SG&A a year ago. Experts attributed the decline to restructuring efforts made since the company hired advisers Alvarez & Marsal in December.

In recent months, Levi’s has reduced its U.S. back-office head count by 175 and disclosed plans to close two factories in Spain. The company employs 9,766 people worldwide.

“Our goal is…to run with much less, much cleaner inventory and much lower closeouts than we’ve had in the year before, and even than we had historically,” Marineau said in a phone interview. “Hopefully, we will not be putting much first-quality inventory into the off-price channel because it deteriorates the pricing structure.”

Privately held Levi’s reports its financial results because of a public bond issue. The company said it had cut its debt significantly through the first six months of the year, with debt minus cash standing at $1.96 billion at the end of the quarter, compared with $2.11 billion at the start of the fiscal year.

Sales for the quarter registered $958.8 million and benefited from fluctuations in exchange rates. Without those fluctuations, sales would have been off 1.1 percent.

At the core Levi’s and Dockers brands, sales in the U.S. for the quarter were off 7 percent and 26.3 percent, respectively. Levi’s officials said they weren’t too upset by the declines, given that last year’s results included large volumes of closeouts being sold into the off-price channel at lower margins.

Company executives said sales of Levi’s brand goods at retail are on the rise. Robert Hanson, president of the Levi’s brand in the Americas, said retail sell-throughs of misses’ and junior merchandise at the company’s core customers were up sharply in the quarter.

“We’re driving these sales with a more profitable product mix, causing less markdowns,” Marineau said.

There’s been a general shift towards higher-priced merchandise in recent months in the jeans market, with brands from low-priced L.E.I. to status Tommy Jeans rolling out slightly higher-priced products. Experts have described these moves as both a reaction to the popularity of premium jeans costing $100 and up, and as part of a drive by retailers to pick up higher price-point, higher-margin merchandise.

“In the U.S., people are beginning to realize the lowest-price game is a zero-sum game because everyone is doing it and you don’t gain share,” Marineau said. “It’s hard to incrementally grow same-store sales when you’re doing it on a low-priced basis.”

Levi’s executives have been shopping the Dockers brand around since putting it on the block in May. While officials at the firm have confirmed that they’ve been in talks with multiple potential buyers, they offered no significant new details on the sale progress Tuesday.

Jim Fogarty, an Alvarez & Marsal executive who is serving as Levi’s chief financial officer, said “our exploration continues.” Financial and industry sources have suggested the short list of companies looking at the $1 billion Dockers business would likely include VF Corp., Jones Apparel Group, Kellwood Co., Li & Fung Ltd. and Liz Claiborne Inc.

For the first six months, Levi’s reported net income of $3.3 million, compared with a $99.9 million net loss a year ago. Sales grew 6.2 percent to $1.92 billion.