Earnings Transcript for FOSL - Q4 Fiscal Year 2023

Operator: Good afternoon, ladies and gentlemen, and welcome to the Fossil Group Fourth Quarter and Full Year 2023 Earnings Call. At this time, all parties are in a listen-only mode. This conference call is being recorded and may not be reproduced in whole or in part without written permission from the Company. Now, I'll turn the call over to Christine Greany of The Blueshirt Group to begin.

Christine Greany: Hello, everyone, and thank you for joining us. With us today on the call are Jeff Boyer, Interim CEO; and Sunil Doshi, Chief Financial Officer. I would like to remind you that information made available during this conference call contains forward-looking information, and actual results could differ materially from those that will be discussed during this call. Fossil Group's policy on forward-looking statements and additional information concerning a number of factors that could cause actual results to differ materially from such statements is readily available in the Company's Form 8-K, 10-Q and 10-K reports filed with the SEC. In addition, Fossil assumes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. During today's call, we will refer to constant currency results. Please note that you can find a reconciliation of actual results to constant currency results. And other information regarding non-GAAP financial measures discussed on this call in Fossil's earnings release, which was filed today on Form 8-K and is available in the Investors section of fossilgroup.com. With that, I will now turn the call over to Jeff Boyer to begin.

Jeff Boyer: Thanks, Christine. I'm pleased to be taking on the role of interim CEO, having spent nearly 17 years with Fossil on both the Board of Directors and the executive leadership team, I have a deep working knowledge of the operating model, the organization and our underlying profitability potential. As Chief Operating Officer, I was one of the key architects of our Transform and Grow Plan and have played a critical role in driving execution of those initiatives, which remain on track. Importantly, I've worked side-by-side with Kosta for nearly two decades, which will make for a seamless transition in the coming months. Together with our experienced leadership team, we're going to ensure continuity as we continue to advance our tag plan in order to lay the foundation for a profitable business model. In connection with the earnings release today, we also announced that the Company is conducting a strategic review of its business model, considering additional debt and equity financing options and pursuing actions to strengthen the balance sheet. What we want to make clear today is that we're taking steps to maximize shareholder value, and we have sufficient liquidity to operate the business for the foreseeable future. This past year has been more challenging than we anticipated, reflecting three key factors

Sunil Doshi: Thanks, Jeff. Fourth quarter net sales totaled $421 million, down 16% versus last year or down 17% in constant currency. Adjusted operating margin was negative 2% for the quarter and negative 6.5% for the fiscal year. Fourth quarter cash flow from operations was $49 million, and we ended the year with $117 million in cash and $181 million in liquidity. For the full year, cash flow used in operations was $59 million and improved versus the prior year as we manage working capital levels down during the year. Diving deeper into our Q4 sales trends. In the fourth quarter, approximately 7 points of the overall 17-point constant currency sales decline came from store closures and lower smartwatch sales. As Jeff noted, in the fourth quarter, we exited the smartwatch category and began to more aggressively move through our inventory. We also completed the rationalization of our smartwatch infrastructure costs in Q4. With the decision to exit the category, we have pivoted our future inventory purchases to drive better ROI and faster turn categories like traditional watch and jewelry. Heading into 2024, we will lap approximately $60 million in smartwatch sales from 2023 with minimal expected liquidation sales in 2024. While this will be a top line headwind to our fiscal year 2024 sales, we believe the reduced infrastructure costs and placing more inventory and higher-margin sales in traditional watch and jewelry will drive better longer-term financial outcomes for the Company. Excluding the 7-point impact that primarily came from store closures and smartwatches, fourth quarter net sales declined about 10 points versus last year. The majority of that 10-point sales headwind came from our largest license brands, where sales in traditional watch and jewelry were down versus the year ago period in both our wholesale and direct channels. In the wholesale channel, particularly in the Americas and Europe, Q4 sales declines did moderate from the very steep sales declines we saw earlier in the year, consistent with our retail customers reporting more balanced stock levels. Underlying sell-out trends, however, remained negative in the quarter. As inventory levels appear to be more balanced, we anticipate that retailers will maintain conservative inventory purchasing behavior to limit overstocking risk. In Asia, licensed brand revenue in the wholesale channel was down modestly with declines in Mainland China and other distributor markets, offsetting double-digit growth in India, Japan and Korea. In the Fossil brand, fourth quarter sales in traditional watches and jewelry were flat year-over-year and comparable retail sales in these categories were positive low single digits. Brand sales in leathers and smartwatches were down year-over-year. Underlying performance was supported by strong execution of our Made For You campaign, digital enablement tools, and a sharper product assortment, which drove better results in our direct-to-consumer channels. In Michele, our owned premium brand for women's watches sales were up double digits as wholesale customers took advantage of better spending dynamics in this consumer segment. Turning to gross margins. Q4 gross margins were up 40 basis points versus last year. Most of the gross margin gains came from product margin improvement in our core categories, where initiatives from SKU rationalization, assortment architecture and reduced promotions in our direct-to-consumer channels drove better results. Lower freight costs also contributed to the year-over-year gross margin improvement. Partially offsetting these gains were declines in gross margin in our smartwatch category and anniversarying gains from the settlements of forward currency contracts in the prior year period. SG&A expenses in the fourth quarter were down $25 million year-over-year or 11%. Reductions were primarily attributable to lower store operating costs on fewer stores as well as lower compensation and administrative costs resulting from our TAG initiative. Stepping back and looking more broadly at our TAG plan, with the organizational head count reduction in late 2023, we realized approximately $125 million in annualized benefits. Approximately $50 million was realized in year, which helps us drive an overall SG&A decline of 6%. Restructuring costs incurred in fiscal year 2023 were $49 million. Now turning to our outlook for fiscal year 2024. In 2024, our outlook includes worldwide net sales of approximately $1.2 billion, with an adjusted operating margin of negative 3% to negative 5%. As Jeff shared, we are focused on executing our TAG plan and strengthening our balance sheet. Benefits from TAG are a critical component to driving improved financial performance in fiscal year 2024 and offset the underlying decline in revenue that we have forecast. Having captured approximately $125 million in annualized benefits in 2023, we are focused on capturing at least another $100 million in annualized benefits in fiscal year 2024, which would significantly accelerate our progress towards achieving our $300 million target. Importantly, our guidance for fiscal year 2024 reflects our expectation that our TAG initiatives will help drive gross margin expansion and SG&A reduction versus the prior year. Gross margin improvement is primarily expected to be driven by sourcing benefits from our TAG initiatives, coupled with a continued focus on assortment architecture and SKU rationalization as well as product mix benefits resulting from minimal smartwatch sales in 2024. Lower SG&A in 2024 is expected to be driven by benefits from our TAG plan and lower store operating costs. Our net sales guidance of approximately $1.2 billion assumes approximately $100 million of negative impact from our store and concession closure plans and the lapping of last year's smartwatch sales. We anticipate that performance in our core traditional watch category will be down with comp growth in the Fossil brand, offset by declines in our largest license brands, in part due to brand repositioning, and also reflecting our expectation for softer consumer spending in our categories in Europe and in China. Additionally, we anticipate growth in traditional watches in India and other smaller but emerging markets. Looking at the cadence of the year, we expect Q1 sales to be the softest, partly due to timing of wholesale shipments between quarter one and quarter two with sequential improvement for the remainder of the year. We are also focused on strengthening our balance sheet to provide additional cushion to our liquidity. We are in the late stages of the process of receiving an approximate $56 million tax refund from the U.S. government associated with provisions in the CARES Act. We are also actively pursuing financing options and monetization of our remaining two owned building assets in Europe. Free cash flow, which we defined as cash from operations less CapEx, is estimated to be positive in 2024, reflecting a modest reduction in working capital from lower inventory and the expected receipt of the tax refund I just described. 2024 will be a year of transition for Fossil Group as we are in the middle of our TAG program and continue to aggressively restructure our business model, lap the exit of less productive categories, rationalize our store portfolio and focus on stabilizing our core revenue trends in a challenging macroeconomic environment. With that, I'd like to turn the call back to Jeff for some closing remarks.

Jeff Boyer: Thanks, Sunil. As Sunil and I shared with you, we're working diligently and taking prudent actions to stabilize the business and maximize shareholder value, all of which is underpinned by our commitment to returning Fossil Group to profitable growth as quickly as possible. Thank you to everyone for listening in today.

Operator: