K2’s diversification seems to be paying off by balancing the seasonality of the different businesses and compensating for any unseasonable weather-related issues that have been plaguing many other manufacturers. Still, the balance didn’t help the bottom line as net income plunged on higher SG&A expenses in the some of the acquired brands that more than offset the decent improvement in gross margins.

Excluding about $45.1 million net sales attributed to the acquired Ex Officio, Marmot, Volkl and Marker businesses since last year’s Q1, net sales actually dipped 0.8% to $275.2 million.

In the Action Sports segment, paintball sales are seeing a very difficult retail environment after a glut of inventory flooded the market late last year. K2 is also seeing continued weakness in in-line skates. The company pointed out that organic sales would have been up 2.2% when excluding an $8.4 million sales decline in in-line skates in Q1.

The sales increase in the Action Sports division came entirely from the Volkl/Marker deal and the operating loss for the group expanded 170% to a loss of $12.4 million versus a loss of $4.6 million in Q1 last year.

The company has been seeing a slow-down in its snowboard business, and management seems to think it is more of a macro trend than a weather-related slump. “I think it’s not going to go away. I think it’s got a big core following,” said Heckman. “But I will tell you this, I believe the fast growth in snowboard is over.”

Likewise, the ski pre-season is a bit slower than last year due to high inventories at retail. However, Heckman indicated that, with a few small exceptions, sell-through of the K2 brand at retail has been strong and the company is expecting this to give them more market share in the coming season.

On the positive side K2 is seeing some solid results out of its Marine and Outdoor business, with Shakespeare, Pflueger, and Stearns all showing strong growth. K2’s ATV accessory business is also seeing an up-tic in sales. The division has been operating at a very high level of profitability, with EBIT margins approaching 15%, prompting the company to set an internal goal to bring the other divisions to this level as well. Operating profit for the group rose 4.6% to $16.0 million versus $15.3 million in Q1 last year.

Operating profit for the Apparel/Footwear group, which got most of its revenue growth from the ExO and Marmot acquisitions, increased 80% to about $900k.

Skate shoes were up 40% mainly due to Adio’s success in that market. K2’s other new market – apparel – is showing similar success with both Marmot and ExOfficio posting “record quarters.” Chairman and CEO Dick Heckman told analysts that the success of these three brands is complicating their acquisition strategy a bit.

“When you look at what a great job Adio’s doing, and Marmot and ExOfficio, you kind of feel like, gee, we ought to be able to do this ourselves internally. But that’s the slow way of doing it to be sure,” said Heckman.

In the operations side of K2’s business, management has plans to consolidate their central offices for Volkl, Marker, and K2. Japan Canada, and Europe have already been completed and the U.S. offices are just beginning. The full consolidation for the back office operations will be completed within 12 months. K2 has realized more savings on a faster pace than expected through this consolidation. KTO will also be moving production of all lower priced skis to its Chinese facility.

Dick Heckman also addressed Quiksilver-Rossignol deal, stating that the acquisition did not really impact the competitive environment in the ski industry. “Rossignol and K2 have been battling it out in ski stores for decades, and hopefully we’ll be battling it out for decades to come… Quiksilver’s a good company and they’re smart people. I think I’d rather compete with smart people than dumb people.”

Heckman also stated that he expects to be closing on another acquisition within the next week or so. The opportunity for accretive deals seems to be opening up for K2, after a relatively long period where valuations were artificially inflated.

“Just at the very time you think we’re asleep, we’ll surprise you,” said Heckman.


>>> Surprisingly, the sharp drop in profits didn’t seem to phase the Street as KTO shares stayed positive for the week. Maybe it was the thought of another pending acquisition…