Zumiez Sales Surge But Its Earnings Outlook is Underwhelming

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Teen-focused retailer Zumiez (NASDAQ: ZUMZ) reported better than expected second quarter results but forecasted a lackluster third quarter. Revenue grew 20% year-over-year to $135.1 million, just shy of consensus estimates. Earnings, adjusted for the firm’s acquisition of Blue Tomato, were $0.17 per share, a few cents above the consensus expectation and more than double that of a year ago. However, the firm guided to third quarter earnings per share of $0.42-$0.45, well below the consensus estimate of $0.56.

Zumiez also noted that August same-store sales grew 3.7%, short of the consensus estimate calling for 4.7%. Management noted a shift in back-to-school purchases to the first few weeks of September, though the results we’ve seen from competitors seem to suggest otherwise. Nevertheless, we wouldn’t call the company’s 9.5% same-store sales increase during the second quarter a failure by any means. In fact, gross margins expanded 140 basis points, which is consistent with the less aggressive apparel markdowns we’ve seen at several competitors, with the exception of Abercrombie & Fitch (NYSE: ANF). Abercrombie & Fitch once was the gem of the teen retail space. That was, until its customers changed, and it didn't. In spite of tumbling same-store sales in the US, the firm continues to open stores and hope its American appeal doesn't wear off. We think Zumiez better captures the spirit of the American teen at this point than Abercrombie.

Due to its counter-culture identity, Zumiez is able to meet the tastes of its fickle customer base relatively quickly and is without question a huge beneficiary of the footwear bull market. The retailer carries Nike (NYSE: NKE) products, Vans , Toms and Supra, among other enormously popular footwear brands. We can't speak enough to how popular Nike products are at this point. The footwear market in the US is incredibly competitive, but Nike  is experiencing one of the strongest runs since Converse in the 1960’s. Footlocker CEO Ken Hicks pointed to strong performance from classic styles like Converse All-Stars (Nike), Blazers (Nike) and Adidas Sambas--Zumiez carries several similar styles.

Further, management tends to be quick to jump on brands that require nationwide distribution, which we think contributes positively to the firm’s gross margin. Diamond Supply Company, for instance, was an obscure (but popular) brand just a few years ago that Zumiez has successfully taken main-stream with great results.

Nevertheless, though the firm’s earnings guidance was disappointing, we were encouraged that the sales range was roughly in-line with consensus expectations. Plus, we think margins will continue to be strong, despite management indicating they will remain flat for the rest of the year. The firm’s acquisition of Austria-based Blue Tomato will add to its cost structure, and we think the European retailer could weigh on overall results for the rest of the year. However, we think the firm will be relatively successful holding the line with respect to profitability levels.

All things considered, we didn’t think Zumiez’s guidance was poor enough to warrant a change to our fair value range. As such, we continue to believe shares are fairly valued, though they are becoming slightly more attractive (given the recent stock fall off). However, we’re not big fans of investing in teen retail as we’ve noted many times, so we don’t think the name will warrant inclusion in our Best Ideas Newsletter portfolio anytime soon.

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