Jason Brooks - President, CEO Thomas Robertson - VP, CFO & Treasurer.

Jonathan Komp - Baird.

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to Rocky Brands Third Quarter Fiscal 2018 Earnings Conference Call. At this time all participants at in a listen-only mode. Following the presentation, we will conduct a question-and-answer session, instructions will be provided at that time for you to queue up for question.

[Operator Instructions] Please note that today's session, including the Q&A period, may contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995.

Such statements are based on information and assumptions available at this time and are subject to changes, risks and uncertainties, which may cause actual results to differ materially. The company assumes no obligation to update such statements.

For a complete discussion of the risks and uncertainties, please refer to today's press release and Rocky's reports filed with the Securities and Exchange Commission, including its 10-K for the year ended December 31, 2017.

I would like to remind everyone that this conference is being recorded and will now turn the conference over to Jason Brooks, Chief Executive Officer of Rocky Brands. Please go ahead, sir..

Thank you. With me on today's call is Tom Robertson, our Chief Financial Officer. As you saw from our earnings release issued earlier today, we delivered another solid quarter highlighted by strong gains in gross margin and profitability.

The product, marketing and distribution strategies we implemented a little over a year ago, coupled with our commitment to operational excellence across the organizations, have been fueling quality sales growth in our highest margin channels, wholesale and retail.

Our teams have done a good job developing compelling products with accessible price points that serve the needs of our consumers in work, western, hunting, commercial military segments of the market. At the same time, we strengthened our consumer connections through targeted digital marketing programs and personalized communications.

We've also stepped up our service levels. This includes supporting our retail partners with exciting programs, in-store promotions and new POP materials, as well as providing our B2C and B2B customers with broader product offerings and increased shipping options.

Many of these initiatives started to bear fruit late last year and have continued to gain traction. While we start to lap more difficult comparisons starting in the fourth quarter, we are confident that the work we have done has put Rocky on a path towards delivering profitable growth on an annual basis over the long-term.

I will now walk through the key drivers of our Q3 sales performances by segment and provide some color on how the fourth quarter is shaping up. Tom will then review the numbers in more details, after which, we’ll be happy to take any questions. Starting with wholesale, sales increased 2.1% or 5.2% excluding Creative Rec brand.

By brand, Georgia Boot had another very solid quarter, as sell-in benefited from select door expansion with Tractor Supply, as well as incremental shelf space we secured with other key accounts such as Boot Barn, Coastal Farm & Ranch and Zappos.

Selling through was equally as strong led by our Carbo-Tec work western and Athens collection, both of which feature our new easy-on, easy-off technology.

As I mentioned on our last call, we've been supporting the introduction of this new innovation with enhanced in-store point of purchase materials, as well as social media programs aimed at driving traffic to our participating retail partners and georgiaboot.com.

We continue to see positive results as we shift our marketing spend from broad-spectrum national campaigns to more digital grassroot initiatives that bring us closer to our customers. Moving to Durango. Q3 sales were down modestly versus a year ago.

While this is a change from recent trends, I think it's important to point out that Durango sales year-to-date are up 9%, and we are confident that the sales growth will reaccelerate starting in the fourth quarter.

The softness we experienced was largely timing related with orders to some accounts that shipped in Q3 last year moving into either the second or the fourth quarter of this year. Looking ahead, we are excited about a number of new product developments.

First, we'll be delivering the new REBEL PRO collection, which is debuting at the National Finals rodeo in early December and will ship into our independent and key account basis. This will be incremental shelf space for the upcoming holiday season. Furthermore, we are introducing the new Maverick XP boot, which is booked extremely well.

Based on the initial response, we have invested in additional inventory that will allow us to chase excess demand and expand Durango share of the western work market. Now to Rocky brand, which delivered its strongest quarter in some time.

Growth was broad-based with strong gains in Hunting and commercial military sales followed by solid improvement in work.

It is very encouraging to see the pickup in momentum for Hunting, which was driven by a combination of great new product offerings, like the Broadhead EX, which is rugged like a hunting boot and comfortable as a tennis shoe, and the Grizzly, featuring a shock-absorbing, tri-density outsole for maximum comfort and additional shelf space for the brand's traditional styles like the BearClaw 3D and the Outbacks.

Meanwhile, Rocky Work is also seeing success with new product introductions like the XO-Toe, the world's most comfortable safety shoes. With regard to Rocky Western, sales were down in the third quarter. However, we have seen a strong response to the Spring '19 line and bookings are up nicely across our network, afield and key accounts.

With the recent completion of our field sales realignment, we'll enter 2019 with one Rocky brand rep per account, putting the teams in a much stronger position to cross-sell our categories and provide better service to our retail partners. Shifting to Rocky's commercial military division.

It was another strong quarter, particularly for the domestic business. Each of our U.S. retail partners enjoyed robust growth over last year, as popularity and awareness of our S2V boot continues to grow among enlisted soldiers. As we've said in the past, international commercial military sales are more lumpy than here at home.

This is due to the fact that foreign governments tend to take large shipments all at once versus spreading their deliveries out over several quarters. While we didn't ship a significant amount of product overseas in the third quarter, we remain extremely excited about the global potential for this business and expect a solid finish to the year.

Now to our retail segment, beginning with our Lehigh business, which continues to demonstrate the viability of our CustomFit model through new account growth and improved participation in retention rate at existing accounts. Our relationship with PepsiCo is a great example of our recent progress.

During the third quarter, we leveraged the power of our differentiated software, base soft - base safety footwear program to increase participation rates within their organization, while also signing a new 2 year agreement to include the company's Frito-Lay division.

On top of this, new account growth is exceeding last year, as our sales people continue to pound the pavement and invest in marketing programs to ensure we are communicating the multiple benefits of our model to as many potential targets as possible.

And the benefits are improving as we just finished a complete redesign of the CustomFit website interface, which has improved ease of use, functionality and page speed loading for a greatly improved customer experience. Turning to our direct-to-consumer business. Our branded e-commerce websites collectively posted a 6% increase in Q3.

As this channel continues to capitalize on recent investments aimed at increasing traffic and conversion, while enhancing the consumer experience, the rich content produced by each brand, including videos, images and banners, are being utilized to improve the look and feel of our websites as well as part of our social media efforts aimed at directly reaching new and existing customers and transforming our website from what we've had historically been information marketing tools to an e-commerce growth engine.

Finally, military segment sales were down 7%, in line with our expectations. As we've previously outlined on recent earnings calls, this segment faces some topline headwinds in 2018 in addition to expiring contracts.

However, we have successfully taken advantage of the excess capacity in our Puerto Rican facility afforded us by the declining contract military orders to expand our commercial military production. This has led to improved manufacturing efficiencies, which have pushed military segment margins to new heights. I'll now turn the call over to Tom..

wholesale, 32.9%; retail, 44.9%; and military, 23%. Operating expenses were $16.8 million or 25.5% of sales for the third quarter of 2018 compared to $16 million or 24.8% in the period a year ago. Income from operations was $5.6 million or 8.5% of sales compared to net income from operations of $3.5 million in the prior period - prior year period.

Net income increased to $5 million or $0.67 per diluted share compared to net income of $2.2 million or $0.30 per diluted share.

In the third quarter of this year, our tax expense benefited by approximately $560,000 as we adjusted the amount of the onetime transition tax we needed to pay on earnings from our Dominican Republic subsidiary that were brought back to the U.S. following last year's tax reform.

Our original estimate, which was based on early guidelines, proved to be high once more specific rules were published midway through 2018. Excluding the impact of this tax benefit and the hurricane-related expenses from a year ago period, adjusted EPS increased 53.8% to $0.60 per share from $0.39 per share last year. Turning to the balance sheet.

As of September 30, 2018, the company had cash and cash equivalents of $4.2 million and no funded debt. This compares to cash and cash equivalents of $2.2 million and funded debt of $11.6 million at September 30, 2017. Inventory at the end of the third quarter was $78.4 million, up 2% from $76.9 million a year ago.

I'll now turn it back to Jason for his closing comments..

Thanks, Tom. We're very pleased with our results year-to-date, which reflect the hard work of the entire organization. Everyone at Rocky is focused on continuing to execute our key initiatives in order to close out a year on a high note and get 2019 off to a great start. Operator, we are now ready to take questions..

Thank you very much. [Operator Instructions] We'll take our first question from Jonathan Komp with Baird..

Yeah, hi. Thanks, guys. A couple of questions and maybe starting with the wholesale segment. I know 2% growth reported a little higher than that underlying, but it was against a pretty low comparison last year.

So I wanted to maybe just follow-up and ask kind of how you're viewing the growth in the wholesale segment? And any more color if I look sequentially kind of a step down on growth from Q2? What the different drivers were?.

So I think as we talked a little bit in the press release, we had some business move that went into Q2 that probably shipped - it was shipped earlier, so went into Q2. So it propped up Q2 a little bit and it brought Q3 down a little bit.

But we are in still - feel pretty positive about where we're at there and what's happening with wholesale you get shipments that come and go. So....

Yes, just to add on to that a little bit, I think, from a category standpoint, Work, which is our biggest category, we had a strong increase, mid-single digits there. We are pretty pleased with the Work category this quarter.

And then also from a commercial military standpoint, the lumpiness of the commercial military sales that we had in Q1 and Q2, we didn't see that come through in Q3. So we feel pretty good about the underlying wholesale business, given that, that kind of the international commercial military angle..

Got it. And maybe a couple of follow-ups there. On the Georgia business, I know you mentioned some door expansion with a couple of key vendors. Can you maybe just talk about where you're at? I know you mentioned Tractor Supply and Boot Barn and maybe a few others.

Just kind of what the opportunity for any further door expansion might be?.

So we rolled out a new program with Tractor this year, and it got rolled out basically in 2 parts. So the first part happened right at the end of Q1, and that was about half of their doors. And then at the -- about the middle of Q3, we rolled out to the balance of those stores.

So that's actually going to be a challenge, I think, for us next year to anniversary that. Now we should see additional sales, but that initial set is always a difficult anniversary. And getting a new style and tractor supply is really difficult. So I don't foresee that happening on a new style next year for us.

And as far as, like, Boot Barn goes, Boot Barn, we're expanding in all of their stores. Really, it just depends on the product, styling and where they want to do things. And then obviously with their acquisitions, when they are buying people, we’re finding some nice new placement because they say, well, we want these boots in all of our stores.

So we're picking up some stuff there as they're buying people..

Okay. Great. And then on the Durango business, I know you called out some timing factors there, too.

I guess, is there any way to tell kind of what the sell-through trends look for that brand? Or I guess, what gives you confidence that what you saw on the quarter was more timing related?.

Yeah, I think for Durango, in particular, it really was -- it's difficult for us to get actual sell-through. Most of the large retailers will have a system that you can go and pull that. We -- most of our customers don't offer something like that.

So we base our sell-through off of just reorders, right? If they are continuing to reorder those styles and we're seeing them grow, then they wouldn't do that if they weren't going to buy more. So that's where we kind of measure it. And although it's only a 5% increase, that's -- I'll take a 5% increase over the increase we had last year.

And if we can keep that kind of pace, we can swing through a lot of dollars to the bottom line..

Yes, Jon, just to add on to that, too. I don't know if you recall, but on the Q2 call, we talked about kind of a onetime really large [indiscernible] with one of our key accounts. I think that certainly slowed Durango down a little bit in the third quarter. But again, for the year, as Jason pointed out, Durango was up 9%.

We feel really good from Durango's standpoint..

Okay, great.

And maybe when you wrap that all up for the wholesale business, any thoughts on how to think about, especially into the fourth quarter, just given some of the timing, moving parts, if you are still expecting wholesale growth in the fourth quarter? And maybe what specifically some of the drivers might be?.

See, I think we are still very positive about Q4. We think that we can maintain this. This whole lumpiness on the commercial military thing internationally is still a big question mark if we'll pull any of that off in Q4. But from our normal U.S. business, I think we feel pretty good about Q4. Hunting has really made a nice comeback.

We got some great product there. The retailers have really responded well to that. I know we also had some styles that were delayed from our factories and were supposed to be here in Q3 that will be here in Q4. So we're still pretty positive about Q4.

I think the sales trend, the increases that we're seeing, this low single digit, I think, is still very possible..

Yes. And one thing to keep in mind, too, and Jason kind of hit on it in his prepared remarks is, a lot of these initiatives that we put into place, a lot of those started to take shape in Q4 of last year. So Q4 for us was such a strong quarter last year.

That doesn't mean we're not positive about this Q4, but just kind of keep that in mind, I think, as you kind of forecast and then model it..

Yes, if you look at '16 and said like we had a great '17 over '16. So we really think it's - we're positive about it, but it's definitely going to start being a little more difficult..

Okay, great. And maybe a bigger picture on wholesale. I know if I look back prior to 2016, I mean, at one point, it was a larger business in total for wholesale.

Is there any broader opportunity that you see to really recapture a much larger total pie for wholesale? Or is that a unique factor as the last few years that makes that less attainable?.

When I think about the wholesale business, I think Jason and I would be very happy with the low single-digit increases, short of some kind of acquisition or something to that nature. One thing to think about, too, dating back to 2013 when we acquired Creative Recreation.

So obviously when you're looking at '13 through '17, we had lot of that Creative Recreation headwind in there as well. But I think we'll be very happy with our Work, Outdoor, Western and Duty business continuing to grow at this pace that it is growing out right now..

The reality is our business is not sexy. And it's slow and steady. And we just need to keep our heads on straight. We need to do the right things from an operational standpoint. We need to introduce great new products and work to get them placed in the retail markets and let the consumers know about them.

And if we do that, I believe we can grow this year over year over year. If we hit something big, I think it's possible, but I -- our business is just isn't set up like a Skechers or a Nike or Adidas that comes out with some product that every kid in America wants all of a sudden. So steady and focused..

Yes. That makes sense. Maybe two last ones if you don't mind. One just on the wholesale gross margin that has been up quite a bit this year. Just would love to kind of hear your thoughts on the sustainability of where you're at for the wholesale gross margin.

And if you can further - if you further see any opportunity that - to keep growing it?.

Yes, from a gross margin standpoint, we made a lot of improvements over the last 18 months. I think that -- as we look down the road, I think we've done a lot of the -- we've gone through things with a pretty fine-tooth comb. So we're really happy with the results we've gotten.

We're always going to strive to have better margins, but I'm just not real confident that we'll be able to find 230 basis point increases in margin in the months to come or quarters to come..

And really the big factor us having more production in Puerto Rico, that margin increase on the military business was huge. And by us being able to sell more of our S2V boots, either here in the U.S. or internationally, even though the lumpiness is there, is really a positive thing..

Got it. And then one other question about kind of what you're seeing in the marketplace, and I know one of your competitors called out some impact from this year's bankruptcy proceedings, which is fluid.

But just curious to hear your thoughts if there's any direct impact to your business from what you see there? Or if that’s - whether you see any impacts across the marketplace in terms of discounting and that sort of thing?.

I get to speak to Sears specifically for us, not really a customer of ours. So we don't think we'll have any direct impact. Certainly, there were people buying boots and footwear products last year, so they'll have to go to other retail locations for that..

There weren't many..

Yeah. So hopefully they're going to some of our key retailers and key partners or to us directly for those sales..

Understood. I think that pretty much does it from me. Thanks for taking all the questions..

Great. Thank you very much. Appreciate it.

Operator, I think that's it?.

That does conclude our question-and-answer session at this time. I'll turn the call back over to management for any final or additional remarks..

Just wanted to say thanks for everybody's support. Great job, Rocky people. Really had a nice quarter, and we'll finish up the year. Thank you very much..

Thank you, everyone. That does conclude our Rocky Brands third quarter fiscal 2018 earnings conference call. We do thank you all for your participation today. You may now disconnect your lines..