SLIDING EARNINGS FORCE A TROUBLED TOMMY TO FIX HIS CORE BRAND

Byline: Thomas J. Ryan

NEW YORK — With earnings dropping and major acquisitions off the table, Tommy Hilfiger Corp. is poised to enter a period of introspection and reinvention.
As they digested Friday’s news that Hilfiger expects 2001 earnings to slip between 30 and 40 percent and that the company will not pursue a major acquisition along the lines of its now-abandoned pursuit of Calvin Klein Inc., analysts suggested Hilfiger consider smaller, strategic purchases or even a leveraged buyout. Meanwhile, Hilfiger officials plan to concentrate their energies on reviving the core Tommy Hilfiger brand in men’s and women’s, with a possible turnaround kicking in by the back-to-school season.
Hilfiger said earnings per share for the fourth quarter, which ended March 31, would be at the lower end of its forecast range of 35 to 45 cents a share — before the previously announced pretax charge of up to $65 million for a cost-cutting program.
For its year ended March 2001, the revised outlook reflects recent lower than expected sales of men’s and women’s apparel at retail, a skimpier order backlog and tighter inventory controls. As of March 31, backlogs are as much as 10 percent below last year. Sales are expected to be flat to down five percent.
Also weighing on results are investments in growth initiatives, including stores. The revision comes two months after a profit warning from the company.
Wall Street slashed its 2001 estimates to between $1.30 and $1.50 from about $2.40, and most downgraded the stock to “hold” ratings as shares fell 4 7/16 to 9 3/8 — a 32.1 percent tumble — on the New York Stock Exchange Friday. Its 52-week low had been 11 1/16 while the high had been 41 1/16.
Joel Horowitz, president and chief executive, asserted in a statement that the “Tommy Hilfiger brand remains strong and vibrant. Nevertheless, we recognize that fiscal 2001 will be a transitional year for the company as we re-adjust our product mix to reflect a challenging retail environment and pursue other exciting opportunities for growth.”
Hilfiger also announced a first-ever share buyback program for $150 million of its stock, representing about 10 percent of its shares. This follows the hiring in February of Morgan Stanley Dean Witter to review financial options, including acquisitions. The firm said it was no longer pursuing acquisitions.
As reported last Thursday, Hilfiger decided to pass on the Calvin Klein acquisition because it couldn’t reach an agreement with Klein on price and because buying the company without owning the Warnaco Group-controlled jeans license wouldn’t bring enough value to its shareholders. (For more on the potential sale of Calvin Klein, see page 2.) Reportedly, Hilfiger had bid about $850 million. Hilfiger was also rumored to be looking at North Face, which on Friday agreed to be acquired by VF Corp. (See story on page 2.)
Most analysts said it was smart for management to nix an acquisitions hunt and instead focus its efforts on reviving the brand.
“Business is not that great, and unfortunately these guys aren’t supermen,” said Faye Landes at Thomas Weisel Partners. “So I have the feeling that their priority really is getting the brand working again.”
On a conference call, Horowitz said the retail environment “has become tougher than we initially anticipated,” with promotions at department stores “quite intense and price reductions continuing to be quite aggressive.” Junior sportswear is below plan, and backlogs show that retailers are ordering very conservatively.
“We have found that retailers are planning their businesses more tightly, with leaner inventories and faster inventory turns,” Horowitz said.
For the current year, the company is forecasting sales declines in the high teens for men’s and women’s apparel, while children’s wear should rise in the high teens. Retail is expected to gain 30 percent, with licensing advancing in the single digits. Margins on spring and summer merchandise are expected to erode as heavy markdowns are absorbed to clear merchandise, Horowitz said.
“Our expectations are that beginning with the back-to-school period, the initial attempts we began last December with the management changes as well as more focused product should begin to bear fruit,” he continued. “As we look into holiday and later into spring, we expect that our sales should continue to strengthen.”
Horowitz said a movement last December to reduce stockkeeping units should lead to a more focused presentation, with an emphasis on “strengths” in each category. “Each of our lines was way overassorted and therefore it became very confusing on the floor for the consumer to shop, and we need to become much more focused in that presentation,” he said.
Capitalizing on the strength of denim in its women’s line, the company expects denim will represent more than half of its offerings this fall, up from 30 percent in spring. Horowitz reiterated plans to combine its junior sportswear and jeans departments to create a single presentation. He said the sportswear product “wasn’t strong enough to stand on its own,” and said a similar move lifted men’s athletic wear when it was moved from the athletics department to join sportswear.
Men’s sportswear skus will be slashed by 40 percent and returned to the “classic American styling” roots, including bringing the “crest” logo back. “We went a little bit too modern with the fashion trends that are out there today,” Horowitz said. Fashion will account for 35 percent of the men’s mix this fall versus 50 percent currently.
Jeans also became too “fashion-driven,” with 35 percent of the assortment considered core replenishment now versus 50 percent last fall. Raising it back to 50 percent this fall should drive full-price selling, he said.
In marketing, the firm will bring back “tried and true Tommy” commercials rather than the rock-and-roll campaigns last year, but is not axing the budget.
“We will not slash our marketing spending and other costs for a short-term financial benefit,” Horowitz said. “Instead, we are firmly focused on our long-term objective, which is to reposition the company for another sizable run by making the right strategic objectives now: building our global presence, opening new retail stores and in tommy.com.”
Analysts agreed that Hilfiger lost control as the brand expanded, and scaling back to build margins is an appropriate course of action.
“I still thinks it’s a strong brand, but it’s just gotten really big,” said Leslie McCall, at Brown Bros. Harriman. “You run across the law of numbers.”
Merrill Lynch’s Brenda Gall agreed. “The brand has saturated the market, and it’s going to be tougher to grow going forward,” she said.
But Gall and other analysts said that given the maturity of the Hilfiger brand, it will eventually need some fresh brands to grow.
“When Liz and Jones got close to $2 billion, they realized they had to diversify outside their core brands, and Tommy hasn’t done that,” Gall said.
Pressed by analysts, Horowitz admitted that Hilfiger was “a big brand today” with revenues over $2 billion. Including licensed sales, the firm “could be as big as The Limited and Gap division,” he noted.
But he said the firm decided not to focus on acquisitions until it reaches a “healthy level” of supply and demand as well as proper margins for the Hilfiger brand.
“We believe that we still have growth in this company. I want to make that very clear,” said Horowitz. “But we also have to plateau at a healthy level to then look at growth options going forward. Although we have taken our focus off any acquisitions at this time, we’re going to remain in an open position if the right thing came along.”
Several analysts believe Hilfiger’s next move will be to acquire its European licensee, still a small business owned by members of management.
Some seemed miffed that management didn’t look at a leveraged buyout like the one St. John Knits completed last year, which would have provided time for management to fix the business outside Wall Street’s glare.
“We don’t think that taking the company private is in the best interest of all our shareholders at this time,” said Horowitz. “We will always keep our eyes and ears open for strategic things that will create shareholder value, but someone would have to convince us that it fits into that definition.”
Analysts said an LBO is uncharacteristic of management since Hilfiger is debt adverse. Also, while an LBO would pay a nice premium over Hilfiger’s current price, the move typically pays off bigger for management down the road. If a turnaround ensues, a higher price would be fetched in going public or being sold than the LBO buyout price.
Horowitz also said the “the board feels that we have a strong stand” to counter any possible takeover attempts that may be triggered by the company’s depressed stock price. Hilfiger management currently controls 19 percent of the stock. Analysts also noted that Hilfiger’s employee contract would make a hostile takeover difficult.
“We are completely focused on regaining the confidence of the investment community,” said Horowitz in his closing remarks. “As you well know, every company goes through cycles, and after many years of very rapid growth we are now reestablishing ourselves on new footing so we can generate a new stage of meaningful growth.”