Callaway Golf easily beat Wall Street earnings estimates for the second quarter as profits declined 8.0% and sales dipped 4.1% for the period ended June 30, 2003. Analysts challenged the company’s management on how they might provide better guidance after the analysts under-estimated earnings by as much as 27% for the quarter. ELY responded by reminding the group that they had not provided any guidance for the quarter and actually came in right where they had expected.

Shares did climb as high as 10.7% on Friday on the earnings report as well as ELY’s improved outlook for the year, stating that they now see 2003 full year earnings of 95 cents a share on sales of $780 million. Analysts were expecting EPS of 92 cents. Callaway raised its forecast from a previously-reported 88 cents a share on revenue of $792 million.

Shares finished up 5.6% for the week to close at $15.17 on Friday.

The company did cite weather issues, predominately in the Eastern U.S., and the fact that golf rounds were down 3.8% in May and off 2.7% for the year to explain away some of the revenue declines. The reported sales figures were even aided by a weaker dollar and would have been down 7.0% in constant currency terms.

Irons and Putters are still driving growth, thanks to strength in the X-16 line of steelhead irons, Big Bertha irons and the Odyssey 2-Ball putter. The Golf Ball business was down against the anniversary of the launch of the HX category of balls in the year-ago quarter.

The total U.S. business was flat, up just 0.9% for the YTD period. The International segment, down 8.9% for the quarter, actually benefited from the weaker dollar and would have been down 16% in constant currency.

Europe was off 5% to $44 million for the quarter, but up 8% for the year. In constant currency terms, the region would have been down 15% in Q2 and off 3% YTD. Japan continues to struggle, down 16% to $21 million and off 3% YTD. In constant currency, the region fell 21% for the quarter and 12% for the year. CEO Ron Drapeau described Japan as “in the 12th year of a seven year recession” and sees no near-term upside there. The Rest-of-Asia region was down 16% to $15 million for the quarter and down 1% for the year.

Margins narrowed by 230 basis points on a lower mix of woods, lower overall prices and lower golf ball GM. The slide was offset a bit by higher margin putter volume.

Golf ball margins are in the “single-digits” and the operating loss for the category was $5 million for Q2.

The realities of the ball business makes the recently announced acquisition of the Top-Flite business all the more compelling for the company and Drapeau was able to shed a bit more light on the details of the deal we reported in last week’s issue (SEW 0328).

The CEO said the deal is proceeding on schedule, with a timetable in place that was approved by the bankruptcy court on 7/3. Top-Flite filed bankruptcy June 30, 2003 as part of the pre-arranged deal with ELY to purchase the business free and clear of much of the debt accumulated during the KKR buyout deal in 1996. The next hearing is scheduled for 7/23.

Mr. Drapeau said the deal has cleared Hart-Scott-Rodino regulatory review and the two companies are looking for a September close.

Callaway would look to consolidate club and ball operations by 2004 and sees the deal accretive to ELY earnings the same year. The $125 million purchase includes a 10% holdback by ELY to cover any shortfall. Ely will receive at closing all A/R (minus a 10% hold back) and inventory valued at 97% of standard cost, which is not to exceed $43.7 million. Total acquired assets would be about $90 million.

Top-Flite reportedly told the court that the Callaway bid was the “only offer received” after TF approached a number of potential suitors. Drapeau said any competing bids must exceed the ELY bid by “a meaningful amount”, and that the proposal for that amount before the court is $7.6 million. Drapeau also stated that any other bid cannot be seen as “materially more burdensome” or “conditional” than the Callaway offer. ELY could choose to participate in an auction process, but is then entitled to a break-up fee equaling 3.5% of the transaction price and $1.25 million in expenses.

Top-Flite is requesting any competing bids by the “second half of August” according to Drapeau, and sees a 363 asset sale hearing on 8/22.


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