Lower gross margins ate into earnings at Levi Strauss & Co. as revenues expanded in the first quarter.

This story first appeared in the April 13, 2011 issue of WWD. Subscribe Today.

The San Francisco-based company attributed the margin declines to higher sales allowances and discounts to retailers in an effort to move excess and obsolete inventory in both its Levi’s and Dockers businesses.

Separately, Levi Strauss & Co. signed a deal with Target to bring its Denizen brand to the U.S. this summer. The brand originally launched in Asia last year as an entry-level price point jean targeted at the region’s emerging, fashion-hungry middle class.

For the three months ended Feb. 27, Levi’s net income was $40.7 million, down 27.8 percent from $56.4 million in the year-ago period. Net sales were $1.1 billion, up 8.3 percent from $1.02 billion a year ago. Gross margin was 49.8 percent in the quarter, compared with 51.5 percent a year ago.

By region, sales in the Americas rose 8.6 percent to $592 million, gained 2 percent to $312 million in Europe and climbed 17.9 percent to $217 million in Asia-Pacific.

“We are off to a solid start for 2011,” said John Anderson, president and chief executive officer of Levi Strauss & Co., on a conference call with analysts. However, he warned that soaring cotton prices have recently forced the company to raise prices on its men’s Levi’s product, which is the largest part of the business, and the impact on consumer shopping behavior has yet to be determined. Price increases will be implemented on other Levi’s and Dockers product lines in the second half of this year.

“The higher cost of cotton could negatively impact margins and working capital as we work our way through 2011,” added Blake Jorgensen, chief financial officer at Levi Strauss & Co.

Denizen will initially launch in a select number of Target stores and on target.com in July, and then presumably expand to a wider base of stores. The retailer will stop selling the Signature by Levi Strauss & Co. brand in it stores. That brand will continue distribution at competing mass retailers such as Wal-Mart, Kmart, Shopko and Meijer.

The Denizen and Signature by Levi Strauss & Co. brands will both retail men’s and women’s jeans in the $20-to-$30 range. However, unlike the Signature by Levi Strauss & Co. business, Denizen is focused on both tops and bottoms and is skewed towards a younger audience of 18- to 28-year-olds.

Outside the U.S., the company has over the past year transitioned its Signature by Levi Strauss & Co. businesses in India, Pakistan, South Korea and Singapore into the Denizen brand. There are over 100 Denizen stores in Asia, with the largest market in China.

The Signature by Levi Strauss & Co. business will be relegated to the U.S. and Canada. Anderson told WWD the company currently has no plans to shutter the brand but “the focus of our efforts will be on Denizen.”

Prior to launching in the U.S., Denizen will make its debut in Mexico in June at various retailers.

For the core Levi’s business, the company will open a flagship in Paris on the Champs-Elysées around the end of this year. The company operates 482 stores in 31 countries. Together, they generated 18 percent of net revenues in the first quarter, compared to 16 percent in the year-ago quarter.

Total debt rose to $1.63 billion the quarter from $1.59 billion a year ago. Over the past year, the company focused on reducing the cost of that debt by spreading maturities out, noted Jorgensen. “We have a bit of running room and the next major maturity is in 2014,” he said. “We will continue to try to chip down the level of total debt. Realistically, we’d like to see it at $1.2 billion over the next three years.”

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