Callaway Lays Out Savings and Positioning Initiatives to Return to Profitability…

Callaway Golf Company announced results for the third quarter that were in line with the warning issued two weeks ago as a result of the lack of new product introductions in the Callaway business and continued issues with the Top-Flite and Hogan businesses. Still, the majority of the top-line hit appeared to come from the lack of new products, which management said was planned, and apparently affected the quarter by approximately $30 million as compared to the third quarter of 2005. Callaway had no “major introductions” in the third quarter, compared to the launch of the FT-3 driver, Fusion fairway woods, X-18 driver in Japan, and HX-56 golf ball in Q2 2005. Management also pointed to the “June 2006 free-product-offer” that was “more successful than originally anticipated.” The offer resulted in higher market share along with an “increased level of retailer product compensation,” which then “impacted wholesale re-orders during the third quarter.”

Callaway also pointed to “lower in-store traffic at key golf retailers during the June through September season,” which resulted in “lower retail sales and a related decrease in wholesale re-orders.”

Management said that the core Callaway/Odyssey business was up 7% for the year.

As reported in the earlier warning (SEW_0643), the earnings loss included a three cents per share after-tax charge from expensing equity-based compensation, after-tax charges of a penny per diluted share associated with the Top-Flite integration, and a penny per diluted share for the restructuring initiatives previously announced in September 2005. Excluding these charges, ELY's pro forma loss per share for Q3 would have been 13 cents, versus pro forma earnings per share of one penny for the third quarter of 2005.

A look ahead to 2007 sees the company re-staging the Top-Flite ball business back into the position in the marketplace the company feels they should occupy, a position they lost when Top-Flite had “lost focus” on their position and at the “price-points at which they should really compete,” according to Callaway President and CEO George Fellows. The re-launch of the brand next year includes the new D2 product which will retail for $15.99 for a 15-ball pack. The changes at Top-Flite will include liquidating the remaining inventory of the product that did not perform at the higher price-points.

The Ben Hogan brand will also return to their previous positioning, as well, as a niche brand. Mr. Fellows intimated that the troubles at Hogan were due to attempts to “make it a more broad-based business,” an initiative that he admitted had failed. “We paid the consequence of that very substantially toward the end of ’05” and continue to pay for it in 2006 as they liquidated the inventory associated with the initiative. The business here is not really large enough to move the needle, but it appears the company is committed to fix the positioning issues.

Callaway has two very different issues in the International market, with Europe suffering from a “perfect storm” of issues that impacted the overall golf business this year. Mr. Fellows pointed to issues with weather, combined with a focus on the FIFA World Cup that kept Europeans off the greens much of the summer. He said the business was down “as much as 20% year-to-year,” but also said they gained share in the region. The issue in Japan is a bit different, according to Fellows. He said most of the problem there is based on the move to conforming drivers in 2008 and the consumer’s decision to wait and see how everything will shake out before investing in new product. He said Callaway picked up share in Japan as well.

The company will embark on a number of new initiatives that are expected to generate $50 million to $60 million in savings over the next year, with approximately $20 million to $25 million in 2007. The initiatives are expected to result in one-time expenses and CapEx investments in the $15 million to $25 million range.

These future savings come on top of about $44 million dropped to the bottom line since the company promised to generate $25 million to $30 million in savings when they announced their last set of initiatives last September.

In other Callaway-related news last week, Golf Entertainment International Limited, the licensee for TopGolf Game Centers in the United States, said it has entered into a “preferred partner agreement” with Callaway Golf Company, a deal that grants Callaway Golf preferred marketing and promotion rights at GEI's TopGolf Game Centers.

>>> Sure, it’s all about the positioning, but then again part of the promise of the Top-Flite deal was the ability to expand the Hogan business and pull the T-F brand up from the basement…