NEW YORK — The past 12 months have marked an unprecedented period in the footwear industry, as last year’s dramatic fourth-quarter crash left companies struggling to cope with a “new normal” in 2009. Strained finances have forced consumers to tighten their wallets, and a return to old spending patterns — at least when it comes to buying shoes — appears to be unlikely in the foreseeable future.
During a recent Footwear News roundtable, industry analysts cited a need for footwear players to achieve faster speed-to-market, greater price-value relationships and more product innovation to get business moving again. And even then, there might still be fallout.
“You’re going to see a huge separation between the good and the bad when things start to improve,” said Sam Poser, senior equity research analyst at Sterne Agee, who participated in the event. “Consumers are smarter now, and they’re not as tolerant as they used to be. You better have the right stuff, at the right place, at the right time.”
Adjusting to the new normal on both the retail and vendor sides of the business was the main topic of conversation for the four analysts taking part in the roundtable, held at FN’s offices earlier this month. Other hot topics included mergers-and-acquisitions, growth strategies and, of course, companies that have — and haven’t — weathered the storm.
Panelists included Christopher Svezia, senior footwear research analyst at Susquehanna Financial Group; Scott Krasik, senior analyst at C.L. King & Associates; Kate McShane, retail analyst at Citi; and Sterne Agee’s Poser.
FN: Let’s start by talking about the biggest measure of industry business: back-to-school. How did footwear companies fare for the b-t-s season, and what does that mean for the remainder of the year?
Christopher Svezia: When you look at footwear this year, everyone saw great spikes [in business] in February and March, but business dried up as we’ve gotten into b-t-s. [Retailers] have stepped on the gas and gotten more promotional, and those that weren’t promotional saw their comps suffer. As it stands now, b-t-s has been OK. Vulcanized canvas is driving this business, and that’s it. Generally speaking, there’s a lack of differentiation out there. Who doesn’t have some derivative of a Chuck Taylor? You really need something to drive the business as you move into the next stages. The question becomes, what happens after [b-t-s]? How do you move product and generate traffic as you get into the lulls of late September or October?
Scott Krasik: People came into b-t-s with inventories relatively lean and expenses in control. Third-quarter earnings are going to be OK. … I don’t think there will be a whole lot of upside or downside. What’s more interesting is [the comparisons] after the anniversary of [the collapse of] Lehman Brothers and AIG.
Kate McShane: Foot Locker Inc. publicly said that August started out fairly slow. Part of that could be contributed to the shifting of the tax holidays — they did see that once school started and the tax holidays started, comps trended more positively. Our store checks show that things have been OK, but you saw a little bit more discounting, which emphasizes that the consumer is willing to buy, but is looking for more value. We’ll see some increase in more moderately priced brands at Foot Locker in the coming months.
FN: How important is price versus value? How do you define value? And how do footwear customers define value?
Sam Poser: I don’t think price point is that big of an issue. It’s more about the price-value relationship. If you go back to June, when the iPhone 3GS was released — that’s a $200 item that [Apple Inc.] sold 1 million of in three days, and everyone already owns a cell phone. People are just redirecting where they put their money, and there are very few key items around [in footwear]. But people are willing to step up and pay if it’s something that really captures their imagination. Look at Skechers USA Inc. with their Shape-Ups … that’s ripping. They’re seeing double-digit sell-throughs, and [Shape-Ups at retail are] double [the company’s] regular adult price, and triple their overall price when you add in the kids’ [market]. So it’s not a price issue.
SK: Too many companies are listening to department stores and saying, “We need to manufacture to a price point that we can make money on, and that [the department stores] can make money on.” There are very few companies that are working hard to try to create value in some other way besides price, like in the form of a new technology.
KM: What people see as value is getting extra bells and whistles. When you look at [the recently launched] Under Armour running shoe, it’s a great brand, but the reason the shoe hasn’t excelled is because there were no bells and whistles. It looked like an Asics, was priced like an Asics, but it wasn’t an Asics. Our contacts told us that visible technology — a pump or a shock — sells three times to one.
FN: The skate category had been pushing a lot of innovation in the marketplace. Is that still the case?
SK: Skate had been a category that drove growth, but there’s no creativity right now. Major manufacturers are all making black, brown and gray skate sneakers again.
SP: At [the] Magic, Project and Capsule [trade shows], you didn’t see anyone wearing any big names, such as Adidas or Nike, but you saw a lot of shoes and said, “Those are cool, what are those?” Brands like Creative Recreation, Alife and Clae … they’re in the nosebleed fashion section of retail right now, but it wouldn’t surprise me to see something happen with them [at some of the more mainstream retailers]. Brands come from nowhere. Things change over time, and we’re at some sort of inflection point right now.
SK: The reality is that Journeys will never buy too much — nor is the consumer ready to buy too much — of Creative Recreation or whatever Japanese brand of sneaker is just coming out. In middle America, those brands are such a small piece.
FN: Is the customer stuck on promotions? Has the sale landscape changed indefinitely?
SK: Yes, except for the really key, special items.
CS: The consumer is looking for [sales], and retailers will respond if they see [promotions] going on at their competitors. There are certain products and niche categories that consumers will buy regardless of price, as long as there is perceived value, but that’s becoming a smaller piece of the pie.
SP: The problem with buy-one-get-one strategies is they just sell all the good stuff, then you’re left with the crappy stuff that you have to mark down later.
FN: Let’s talk about the remainder of the year. Are there any bright spots aside from beating last year’s numbers?
SK: I don’t think we know. When you look at last spring, there were good boot sales and some marquee products in the athletic space, so retailers thought they were in great shape with inventory. But then, in the second week of May, people stopped shopping, and from then until June, you saw 70- to 80-percent-off sales again. [The rest of the year] is a bit of a guessing game because we don’t know what the demand is. The fact that we’ve cycled Lehman and AIG gives you a new normal, but it’s not an environment for people to turn around their businesses and all of a sudden do a much better job than they have been.
SP: Some retailers have put up guidance that they expect the fourth quarter to be up, and they’re buying [expecting] to be up. But I don’t know how far ahead of the horse you can put the cart. Selling out is no crime, but being left with inventory right now is a crime.
KM: It’s also a matter of who’s buying what. Part of Foot Locker’s success — and one reason they haven’t had to discount as much as some of the other retailers — is because they have the urban male customer who kept his job, still has discretionary income and doesn’t have a family or a mortgage.
SP: [Foot Locker] is doing well because inventory levels are low. You’re not going to drive traffic unless you get heavily promotional, but if you do — as Saks Fifth Avenue did [during the fourth quarter] last year — you can ruin your base.
FN: Speaking of Saks, what about those luxury consumers? Are they going to pick up their spending again?
KM: There’s so much volatility from week to week, so consistency is still eluding a lot of people. The news says that things are stabilizing, but our whole investment thesis assumes that, at best, we’re bumping along the bottom here. We’re going to be looking at companies that can control what they can control, like inventory and margins. And [lowering] opening price points encourages the consumer to stick with the brand.
SK: If you get a continuing weakening dollar … you should start to see a slowly improving luxury sector. The dollar got so strong so quick, and Europe fell apart over the last few months. That killed the luxury sector.
FN: Many footwear companies have touted cost cutting to improve their bottom lines in 2009. Is it possible to keep reducing expenses? When will we see companies return to growth strategies, and what might those strategies entail?
SP: How much can you cut without hurting what you’re doing? What happens when we hit the first quarter of 2010 and have to anniversary all these cuts? That’s going to separate the men from the boys.
CS: At some level, you need to invest in the business to drive growth, especially in those brands that have lost share, such as K-Swiss, Adidas, Reebok, Timberland, Kenneth Cole and Columbia Sportswear. You need to invest to drive revenue.
KM: I don’t know if it’s as soon as next year, but international growth is definite. There’s an over-stored environment in the U.S. Where do these companies go? You have some examples, such as Dick’s Sporting Goods Inc., which is primarily in one half of the country and has the other half to expand into, but for other companies, where do they go?
SP: Even a company such as Dick’s, if they want to double their size, I don’t think they can do that without someone else going out of business. Or you might see a company like Foot Locker changing their [store presences] — for instance, shuttering some of the Lady Foot Locker stores and, if the CCS [skate chain] works, rolling that out.
FN: Where are we in the M&A cycle?
SP: There are going to be little [companies] you can theoretically pick up cheap, but they all think they’re worth more than they really are.
CS: One thing that has emerged [from this recession] is that everyone has better balance sheets, broadly speaking. But whether they can obtain financing at competitive rates, that’s another question. And when [buyers] look at [acquisitions], they have to ask, “What will drive the business next year?”
Pick: Skechers USA Inc.’s core business has stabilized, and their $40 average retail price plays to them very well. They have a combination of very tight inventory, an improving business in the U.S. and an improving trend on the international side. … Near-term, if they can stabilize their business, there’s an opportunity on the margin in the third quarter. As you go into the fourth quarter and the first half of 2010, the comparisons are ridiculously favorable. And then throw in Shape-Ups. They’ve obviously found something there, and they’re Skecherizing it.
Pan: Columbia Sportswear Co. has made a lot of the wrong steps to grow the business, and it’s coming back to haunt them. In footwear, they’ve gone through three SVPs, and they’ve finally found the right guy and have some people in place. There’s probably some opportunity on the footwear side, but it’s a tough space to exploit, given their positioning. But the apparel is really killing them. A lot of other brands are doing a better job in this environment. They need to show they can drive the business.
Pick: Steven Madden Ltd. has the best speed to market, and they’re the most focused at retail, all the way up the line [of their brands]: LEI, Fabulosity, Candie’s, Madden Girl, Steve Madden, Steven and Elizabeth & James. It’s all really appealing to the same girl, just with different amounts of money in her pocket. The men’s business may finally see some leveling off in the back half of this year, and [the company] couldn’t have as good a wholesale business without their retail business, regardless of how well it does. As long as they can stay focused and stay ahead of the game, we expect them to continue to gain momentum going forward.
Pan: Nike Inc. is the least bad of the major athletic guys, but I don’t think that’s a reason to own the stock. Inventory levels in constant dollars are high. They’re making lots of decisions to gain floor space, but not necessarily to protect the brand. They wouldn’t have gone [into the family footwear channel] a few years ago, but there’s just nowhere to go but down. Through the middle of the third quarter, they have currency headwinds and they’re not going to cut their [expenses] this year. Nike has been a leader of the pack when it all related to sport, but now their biggest initiative is NikeID, which is driven from fashion. I think we’ve passed the peak on Nike.
Pick: Nike is our top pick for the next 12 months. We’re trying to stick to an investment thesis where we’re recommending companies that are in control of their own destiny, that are controlling inventories, have a very strong balance sheet and have brands that are still taking share.
Pan: We have a sell on Under Armour Inc. It’s a bit of a valuation call. Even in the best case, if you believe their long-term growth rate of 20 percent to 25 percent on the top line, it’s going to be very hard to have that on the bottom line, based on the amount they’re going to have to spend to make their footwear business a legitimate business to expand the brand. We expect some deleverage there, which should result in a lower valuation.
Pick: Steven Madden is one of the few companies with a business model that can work when retailers have the upper hand. The exciting aspect of what they’re doing now is expanding their distribution — not the Steve Madden brand, but the LEI initiative at Wal-Mart and Fabulosity at JCPenney. They also leveraged their balance sheet for the acquisition of SML Brands, which is private-label handbags at Wal-Mart. That’s a $10 million contributor in sales this year, and will be $40 million next year. They talked about a couple of other small deals, perhaps on the men’s side, but they’re not going to blow their cash. [The company] has got one of the best balance sheets in the industry, a business model that can work in good times and bad, and every single person in the company is laser-focused on putting out good product.
Pan: Whereas Steve Madden has a business model to perform well in any market, Kenneth Cole Productions Inc. has a business model that doesn’t seem to perform well in any market. They did so much in terms of trying to rebrand Kenneth Cole that they lost their core customer, and private label has taken a big share of that business. They have a retail division that is an albatross around their neck. Their creative genius, who is the founder of the brand, is pulled in a lot of different ways, and you’ve got a major turnaround trying to be achieved in the worst retail environment in many years.