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Edited Transcript of LAKE earnings conference call or presentation 16-Apr-19 8:30pm GMT

Q4 2018 Lakeland Industries Inc Earnings Call

RONKONKOMA Apr 23, 2019 (Thomson StreetEvents) -- Edited Transcript of Lakeland Industries Inc earnings conference call or presentation Tuesday, April 16, 2019 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Christopher J. Ryan

Lakeland Industries, Inc. - CEO, President, Secretary & Director

* Teri W. Hunt

Lakeland Industries, Inc. - CFO

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Conference Call Participants

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* Mark Alan Rosenkranz

Craig-Hallum Capital Group LLC, Research Division - Associate Analyst

* Eric Song

Brightwood Capital Advisors - Analyst

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Presentation

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Operator [1]

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Before we begin, parties are reminded that statements made during this call contain forward-looking information within the meaning of the Securities Act of 1933 and the Securities Exchange Act of 1934. Forward-looking statements are all statements other than statements of historical facts, which reflect management's expectations regarding future events and operating performance and speak only as of today, April 16, 2019.

Forward-looking statements are based on current assumptions and analysis made by the company in light of its experience and its perception of historical trends, current conditions, expected future developments and other factors it believes are appropriate under the circumstances. These statements are subject to a number of assumptions, risks and uncertainties and factors in the company's filings with the Securities and Exchange Commission, general economic and business conditions, the business opportunities that may be presented to you and pursued by the company, changes in law or regulation and other factors, many of which are beyond the control of the company.

Listeners are cautioned that these statements are not guarantees of future performance and the actual results or developments may differ materially from those projected in any forward-looking statements. All subsequent forward-looking statements attributable to the company or persons acting on its behalf are expressly qualified in their entirety by these cautionary statements.

At this time, I'd like to introduce your host for this call, Lakeland Industries' Chief Executive Officer, Christopher J. Ryan. Mr. Ryan, you may begin.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [2]

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Okay. Due to our accelerated filing status as a public company and our new internal information and reporting systems, we came down to the wire in terms of filing our financial results. With the potential for the filing for an extension, which we did not have to do thanks to the hard work by our finance team and other parties, we did not provide advanced notice of the conference call simply because it came down to today.

So with that said, I'd like to say good afternoon to you all and thank you for joining our 2019 fourth quarter and year-end financial results conference call. We're going to provide opening statements on the status of operations and on our financial results. The call will then be opened up so that we may respond to your questions.

Now on to my formal remarks. Fiscal 2019 was a year of total restructuring and significant development on a global scale with our progress on a consolidated basis marred most notably by the challenging costs and operational issues in connection with the implementation of an enterprise resource planning or ERP system. I'll speak more about our ERP challenges throughout my remarks.

From a top line perspective, total revenues increased for a second year in a row driven by strength in all of our international operations, while the ERP system in the U.S. led to lower domestic sales due to order processing and delivery delays. In the third and fourth quarters, we had elevated expenses and reduced revenue in the U.S. as we were unable to process orders to the extent that reflects the true global demand that we are otherwise experiencing.

We ended the year with the highest level of revenue since 2011 excluding sales relating to emergency situations. This heightened level of revenue was achieved due to the growth of our international operations, which increased 8% over the last year. As a result of our ERP challenges, domestic revenues for the year were down slightly from the prior year due to delayed shipments and even the loss of orders that were to our competitors due to delivery requirements.

This clearly demonstrates that our industry remains competitive, where turnaround time and inventory availability, pricing and product's quality are determining factors. Despite these challenges, our other investments in product development, quality control and positioning in the market are paying off, as evidenced by fiscal 2020 beginning with a global order backlog of $10.5 million. We began Q4 with a U.S. backlog of about $5.5 million and ended the year at approximately $4 million.

The ERP installation, which is being deployed in the U.S. where we have about half of our total revenues, led to an estimated $1.3 million in additional nonrecurring expenses in fiscal 2019 as well as the degradation of margins due to associated delays and operational inefficiencies. These expenses include excess freight costs, temporary labor and consulting service fees. We expect the domestic installation to be completed by mid-summer 2019 with full optimization to realize all of the system's intended benefits contributing favorably to our financial performance by January 2020.

Beyond this critical program, we have been addressing our long-term cost structure with the build-out of our new manufacturing facilities in Vietnam and India. A new pilot facility of nearly 33,000 square feet has been created in India, while Vietnam has been our primary focus for new production capacity, which includes 141,000 square foot facility for manufacturing, warehouse and administration. In Vietnam, we invested $1.5 million in equipment and added approximately 570 manufacturing employees in fiscal 2019.

By the end of fiscal 2021, we expect India to be equal to China in manufacturing headcount. Our facilities and capabilities in China, India, Mexico and Vietnam allow access to a less expensive labor pool that is available in the U.S. and permits us to purchase certain raw materials at a lower cost that are available domestically. Both India and Vietnam provide an even lower cost basis than China.

We have multi-sourcing of materials in our international locations, which also enable us to work around any new tariffs or trade disputes between the U.S. and China. In fact, Vietnam is one of the most unencumbered countries in the world when it comes to international exporting of goods. Of course, with our operations in Vietnam really just getting underway, we have significant start-up costs and need a few quarters to get them trained up to our quality standards before we get them fully efficient and profitable.

As a result of the initiative in fiscal 2019 for adding lower cost manufacturing and improving productivity with the ERP system, we experienced headwinds for our operating income of approximately $4 million, most of which would have fallen to the bottom line as our tax strategies relieve us of paying U.S. taxes for the next several years. The hit to our operating income includes additional inventory costs, temporary staff, lost or delayed revenues and the associated impact to margins and increased salaries and other overhead for new manufacturing facilities that are not yet fully productive. Looking ahead to fiscal 2020, we anticipate our financial results will benefit from these measures, including the regaining of lost ground in the U.S. and the continuation of growth for our international operations.

Now I'd like to address some of the specifics pertaining to fiscal 2019 achievements in product development and marketing and distribution strategies. While we have been moving some of our production out of China, we will maintain manufacturing there mostly dedicated to our growth of sales in the Asia Pacific region. In particular and among our higher margin niche target markets, we see growth opportunities for a number of nuclear markets in China. We can service this need quite well as we have been making this sort of product for years and selling it into more developed countries.

The Chinese are prepared to build 100 new nuclear plants over the next 20 years and have begun doing this. This is an existing growth market for us in terms of disposable garments because every time you service a nuclear plant and they must go through maintenance once a year, they use container loads of our disposable garments.

Among our relatively new product offerings, we have a clean room disposable garment targeting big pharma, which we believe is a $60 million global market. This product is for sale in the U.S. and we're getting other approvals of certifications to begin marketing in other countries.

The utility market is a $200 million global market for us, we believe. We sold nearly 600,000 of this product in fiscal 2019, which is a terrific start since it was only launched this year. Both of these products are specialized in their purpose with unique designs. As such, they carry much higher margins than our more established product lines.

On a synergistic cross-selling basis, leveraging our new products to enter into the utility market, we've also sold a lot of our traditional reflective garments to the same customers.

In the third quarter, we announced the launching of 9 new websites for our global operating regions as part of our digital marketing and e-commerce investments that took hold earlier this year. This movement included our Amazon distribution platform. We deployed and/or are developing Amazon sales and distribution in 6 countries during fiscal 2019, some on a limited basis including the U.S., Canada, Mexico, U.K., France and Germany. Sales on our Amazon platform were $0.5 million for the year, which has been growing rapidly, although off a small base.

The launch of our new website provides an advanced user experience for our customers, distributors, channel partners and others. Our customers and partners represent some of the world's most progressive organizations in their respective fields, and they will now be able to better leverage Lakeland's research, robot educational resources and the new innovative product offerings that act as the first line of defense in critical environments while improving worker safety.

Lakeland ended fiscal 2019 with a strategic advantage through diversified manufacturing operations in Argentina, China, India, Mexico, the U.S. and Vietnam with sales into 65 countries from salespeople in 20 countries for direct sales as well as indirect and online sales activities. Our global workforce and management ranks increased to over 1,600 strong, up from 1,072 in the end of the prior year. I would like to welcome our new members and thank all our global team for their dedication to making Lakeland such a formidable player in the worldwide market for personal protective equipment. As we maintain our focus and leverage our strength in fiscal 2020, we remain committed to increasing our global market share, bolstering our profitability measures and improving our balance sheet.

The last 6 months of fiscal 2019 were very challenging, with the ERP installation as well as hiring and training hundreds of new manufacturing personnel and scores of other sales, distribution, administration and support staff. Challenges remain for about another quarter with the ERP system but we expect this investment to yield improved information, operational agility, and inventory and cash flow management. When compounded by our sales and marketing advancements, we're very excited by our growth potential.

In conclusion, we have built a lot of momentum through fiscal 2019 and remain very encouraged by our strong position in the market. As we look toward fiscal 2020 and beyond, we look forward to capitalizing on progress we have made and will continue to make in our efforts to drive sustainable improvements in longer-term top line results as well as bottom line performance.

That concludes my remarks. I will now pass the call over to our CFO, Teri Hunt, to provide a more thorough review of the company's financial results.

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [3]

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Thank you, Chris. The following address is my review of the fiscal 2019 fourth quarter and full year ended January 31, 2019.

Net sales from continuing operations were $25 million for Q4 '19 as compared to $25.2 million for Q4 '18 and $24 million for Q3 '19. For the full year, sales increased to $99 million in fiscal '19 from $96 million in fiscal '18, an increase of about 3%. On a consolidated basis, for the fourth quarter of fiscal '19, domestic sales were $12.3 million or 49% of total revenue, and international sales were $12.7 million or 51% of total revenue, which is comparable to the prior year.

Gross profit for Q4 '19 was $6.9 million as compared with $9.9 million in Q4 '18 and $8.5 million in Q3 '19. Gross profit as a percentage of sales decreased to 27.7% in Q4 '19, down from 39.4% in Q4 '18 and 35.3% in Q3 '19. Gross profit for all of fiscal '19 was $33.9 million, a decrease of $2.3 million or 6.4% from $36.2 million in 2018 but up from $31.6 million in 2017.

Gross margin as a percent of net sales in fiscal '19 was 34.2%, down from 37.7% in 2018 and 36.7% in 2017. The gross margin decline in the fiscal '19 period as compared with the prior year primarily reflects increased expenses across distribution and supply chain management activities compounded by lower volume within the U.S. operation associated with the ERP implementation. These negative influences were partially offset by growth in higher margin regions, successful marketing of niche products domestically and internationally as well as price increases in select markets around the world during fiscal '19.

Operating expense decreased 3.4% to $8.4 million in Q4 '19 from $8.7 million in Q4 '18. Quarterly OpEx was up from $7.3 million in Q3 '19 due primarily to a noncash impairment charge for the asset held for sale and a legal accrual for future litigation in Brazil as well as elevated expenses around the ERP implementation. For all of fiscal '19, operating expenses were $30.3 million, an increase of 9.4% from $27.7 million in '18 and $24.8 million in '17 for the reasons stated above.

The company continues to invest in its operation, including the hiring of new salespeople, new product development, new technology to support the implementation of its Amazon distribution platform as well as the global ERP. Operating expense as a percent of net sales was 33.6% in Q4 '19 as compared with 34.8% in Q4 '18 and approximately 29% for the fiscal year consistent with FY '18 and FY '17.

The company incurred an operating loss of $1.9 million for Q4 '19 as compared to operating income of $1.2 million for Q4 '18. Operating margins were negative in Q4 '19 compared to 4.8% for the prior year period due primarily to a noncash impairment charge for the asset held for sale and a legal accrual for future litigation in Brazil as well as elevated expenses around the ERP implementation.

Operating income in fiscal '19 of $3.6 million includes certain onetime expenses and was down from $8.5 million in 2018 as a result of the additional expenses discussed. All major sales-generating operating regions contributed operating profit in fiscal '19, whereas all but Mexico were profitable in the prior year. In the fourth quarter, for the second quarter in a row, all major country operations were profitable. This attests to our ability to maintain focus on our profitability metrics while investing in future growth strategies.

Net loss for Q4 '19 of $1.4 million or $0.24 per share compared with net loss of $4.9 million or $0.64 per basic share in Q4 '18 and net income of $0.5 million or $0.06 per basic share in Q3 '18.

The net losses for the fourth quarter of both years include the operating expenses discussed as well as the noncash tax expense associated with the Tax Act in the 2019 period of $0.6 million and in the 2018 period of $5.1 million. Net income for fiscal '19 of $1.5 million or $0.18 per basic share compared with fiscal '18 net income of $0.4 million or $0.06 per share.

Income tax expense for Q4 '19 was $0.4 million after a noncash charge of $0.6 million associated with GILTI, a component of the Tax Act, compared with $6.1 million in the same quarter last year when the company was subject to a noncash charge of $5.1 million in connection with changes in the U.S. tax law. The company continues to be required to pay taxes local on certain country operations when those operations are profitable and are paid in local currency. Cash paid for foreign subsidiary taxes in the fourth quarter of fiscal '19 was $0.4 million compared with $0.3 million for the fourth quarter of fiscal '18. The increase in the foreign taxes was primarily attributable to profitability in Latin America and China.

We have been strategically deploying our cash to position the company for continued growth. Cash used in fiscal '19 includes planned investment in manufacturing operations in Vietnam and, to a lesser extent, India and the company's upgraded information technology system deployment as well as our digital marketing evolution.

Cash and cash equivalent at January 30, '19 (sic) [January 31, '19], was approximately $12.8 million. This is a decrease of nearly $3 million from $15.8 million at the beginning of the fiscal year but was up from $11.7 million at the end of Q3 '19.

The heavier CapEx spending for our new manufacturing capacity and IT and other technologies was incurred during the first 3 quarters of the year, and we also worked down some of our excess inventory. CapEx for fiscal '19 was $3.1 million as compared with $0.9 million in fiscal '18, and 2020 CapEx is expected to be approximately $2 million.

To accommodate continued global growth, inventories net of reserve increased to a peak of $46.6 million at the end of the third quarter, up from $42.9 million at the beginning of the fiscal year. By the end of the year, we reduced inventory to $42.2 million, which is netted below at level with the (technical difficulty). Our goal for 2020 is to further reduce inventory by more than 5% or approximately $2 million. The cash flow created by this inventory reduction alone could cover a significant proportion of our CapEx for the coming fiscal year.

At the end of the fiscal year, we had working capital of $65.1 million, down modestly by $1 million. The company's $20 million revolving credit facility had a $0 balance as of January 31, '19, unchanged from the end of the prior fiscal year. Total debt outstanding at January 31, '19, was $1.3 million, down from $1.7 million at January 31, '18; $5.8 million at January 31, '17; and from $13.4 million at January 31, '16.

Finally, $1.2 million was spent to acquire 105,648 shares as part of the company's $2.5 million stock buyback program, which was approved on July 19, 2016. All of these purchases were made in the fourth quarter of fiscal '19.

That concludes my remarks. I will turn back -- the call back to the operator to begin the Q&A session.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We will take our first question from Dave King with Roth Capital.

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Unidentified Analyst [2]

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This is Andrew stepping on for Dave. Just on the ERP system, I just wanted to see if you had the dollar amount in the cost of goods sold in the quarter and then also the dollar amount in operating expenses. What was the impact there from the ERP system.

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [3]

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We don't have it specifically quantified. We say in the neighborhood of the $4 million was the overall impact to expense and revenue. We expect that number to decrease significantly in Q1. Though there still will be some elevated expenses there, but we think we have taken the brunt of the hit for the consulting fees and some of the other supply chain disruptions that we experienced in trying to expedite shipping and things of that nature.

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Unidentified Analyst [4]

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Great. That's helpful. And then is there any potential impact that you could have in Q2? Or should it all be kind of worked through throughout Q1?

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [5]

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There will -- it should be much less significant. Primarily we're working through efficiency issues and continuous process training with our people on new processes. It's been a seismic shift for us and somewhat unanticipated culturally, the hurdles that we were going to have to jump through. We're learning as a company on how to communicate all over again with a full blend ERP.

Every single position talks to each other within the processes and that's been something that's been a real challenge for us, but we're working through that. And we don't anticipate Q2 to have anywhere near the impact that we're seeing now in Q1 to a lesser extent, obviously, than Q4.

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Unidentified Analyst [6]

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Helpful. And then just, I guess, on -- getting back in terms of -- on the revenue side. If you could just maybe share how much you might think it might have weighted on revenue in terms of the ERP impact. And then in terms of the backlog, I believe you said on the call that it was at $4 million currently right now. And then just how do you feel about that backlog? And then how is your ability to meet demand?

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [7]

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Well, the backlog of $4 million was in the U.S. It was $10.5 million on a consolidated basis. So we look at this and trying to quantify the revenues lost to the ERP versus revenues deferred.

So most of our customers have hung with us. A few -- if they're responding to issues that are time-sensitive and had to find product elsewhere, we try to quantify those cancellations, which we think was less than $1 million. We think the vast majority of our sales are actually deferred and they're present and are open orders now. And as far as capacity, I'll let Chris address capacity.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [8]

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Yes, on capacity, we're building that. I think we probably have enough capacity overall. We have pockets in certain areas where we're short on capacity. I don't know we're a little short on capacity in Mexico. That will be made up in Vietnam over the coming 2 quarters, and it will be made up in other areas in Latin America.

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Unidentified Analyst [9]

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Great. That's great color for us. And then I guess just on a more broad view of things. Can you maybe talk about -- I think oil prices have rebounded a little bit since the last call. Are you seeing any incremental demand from the oil patch? And then in terms of China, how is demand out there? I think we've seen some macro concerns out there. So just how is demand in China?

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [10]

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In China, we're actually doing quite well given the macro concerns. The only thing we've seen is our sales are increasing in China. They would have increased probably even more but this is a call simply because of nationalistic feelings in China over Mr. Trump.

We're an American corporation. So some of our distributors are not buying American, but we're still increasing our sales in the Asia Pacific and in the China region. Probably maybe when this trade war is over, we'll go back to being the good old Americans who they bought from in the past. And I'm trying to remember the other part of that question.

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Unidentified Analyst [11]

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Just if you're seeing any additional demand from the oil patch because I think oil patch (inaudible)

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [12]

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Yes. We are seeing additional demand in the oil patch. And common sense would sort of tell you at $70 a barrel, if it stays here for any period of time, a lot of these wells offshore and onshore are going to go back into operation, which means they'll increase the number of people they have to hire to service them, which means we should see better sales.

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Operator [13]

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(Operator Instructions) We'll go next to Mark Rosenkranz with Craig-Hallum.

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Mark Alan Rosenkranz, Craig-Hallum Capital Group LLC, Research Division - Associate Analyst [14]

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I'm wondering if you can give a little more color on some of the product categories. We saw good growth from the wovens, and you know obviously good growth from the disposables. Just wondering if you can provide any more color on any type of potential new products went online or where you've kind of seen success. I know international is a big part of the year, if you've seen any products that did particularly better or worse in international versus here in the U.S.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [15]

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Well, international is up smartly. They did not have to go through the ERP. The 2 new product launches suffered time-wise because of the ERP hold-ups particularly in shipping and planning. I think they really ought to -- we lost a year basically on those 2 new product introductions, but they are now in gear. We are buying the fabric. We are setting up. We're making it. So I'd say we lost the year but they should take off by the first -- by the end of the first quarter, and we'll be reporting that to you in the second quarter.

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Mark Alan Rosenkranz, Craig-Hallum Capital Group LLC, Research Division - Associate Analyst [16]

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Okay. Good. That's helpful. And then on the supply chain, you mentioned the increased investment in Vietnam and rest of the APAC and the target by 2021 of increasing the employee headcount to equal China then India. Is there any type of catalyst as we work towards 2021 or any timing of when that headcount will move around.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [17]

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Okay. What we're doing is we're moving resources or at least cutting some resources to Vietnam and India simply because China has become quite expensive and will continue to get more and more expensive.

However, we do plan on keeping our Chinese operation to service, certainly domestic Chinese market, because we're making in China, we're selling in China. We can turn our inventories in China theoretically 3 to 4 times. So we'll keep our capacities in China pretty much level. If we do anything, reducing in China would be small.

Vietnam can still grow by another 100 people. We will grow India in concert with our sales growing. As we see our sales growing, and we're predicting about 7% organic sales, we will then tap up India as Vietnam fills. Vietnam is much lower cost than China as is India. So we hope to basically increase our gross margins and some of our operating expenses to go down when these 2 operations really kick in.

But right now, Vietnam is kicking in. I think they have about 540 people and they can go to 700 that's when we run out of space there. By the end of the year, they should be at standard allowed hours and some doing even better so then we will really recapture a lot of the labor costs that we've been paying in China. And as we grow, we will grow in India with -- basically to meet future sales.

Our only sort of pocket of capacity shortage is in Mexico, which we're curing now. It's basically adding people, adding other sources of production. But right now, we're doing a lot of business in the wovens market in the United States and we need to fill, really fill that almost void. I mean we've got sales. We've got to basically make them.

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Operator [18]

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(Operator Instructions) We do have a question coming up here from [Eric Song] with Brightwood Capital.

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Eric Song, Brightwood Capital Advisors - Analyst [19]

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This is [Eric] from Brightwood Capital. I have a -- so I think I missed a number in terms of the amount of revenues that were affected by the ERP system. How much revenues did we lose in the United States as a result of the ramp -- the ERP efficiencies?

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [20]

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We still -- what we could quantify was around $1 million, and that's just based on customers who communicated canceled orders, things of that nature. We believe the vast majority of these orders were deferred into Q1 and that they're sitting in our open orders though that's not a hard number at all. I'm certain there are some sales that bled off that they didn't notify us that, that's what was happening.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [21]

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Some customers call us and say, "Sorry. Goodbye." Some customers call us and say, "When you get your delivery or you're shipping on time, give us a call." And some customers stay with us and just are willing to take a deferred delivery. That's about the situation. So you've got 4 categories.

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [22]

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Right. And a lot of it depends on whether or not our customers hold an inventory position with us. If they don't hold much in the way of inventory, then they have a pretty low pain tolerance for any kind of extended delivery lead time.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [23]

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So the customers who probably did leave us were the customers we least want.

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Eric Song, Brightwood Capital Advisors - Analyst [24]

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There you go. And so how much higher is the backlog at the end of the quarter relative to a normal level?

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Teri W. Hunt, Lakeland Industries, Inc. - CFO [25]

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I think it's probably about $3 million higher than it normally would be, and maybe half of that's in the U.S. and half of that is international. We're also seeing with some of our U.S. customers in that backlog, which we don't really have the ability to quantify, give us a year and our new ERP and we'll be able to. But we can't really quantify of that number on how much of that is new blanket orders.

Our senior dictating North American sales has advised us that he's hearing from a number of customers that they want to place more blanket orders and smooth out their deliveries a little bit, which, obviously, helps us on the manufacturing side, but it's hard to factor that in. It's just kind of a gut feel that it seems that more of our customers at this point are placing blanket orders.

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Operator [26]

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Mr. Ryan, there appears to be no further questions at this time. I would like to turn the call back over to you for any closing comments.

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Christopher J. Ryan, Lakeland Industries, Inc. - CEO, President, Secretary & Director [27]

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Okay. We appreciate your participation on Lakeland's Fiscal 2019 Fourth Quarter and Year-end Financial Results Conference Call. We believe we have the right mix of products, manufacturing presence around the world, financial strength, global staffing and leadership to now capitalize on the opportunities ahead. We're very well positioned for continued growth in sales, market share and profitability in fiscal 2020, which we believe will deliver value for our shareholders over the coming year. Thank you again for joining us on today's conference call and goodbye.

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Operator [28]

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The event playback has concluded. Thank you.