Safilo's search for a partner to pull it out of a financial rut is expected to drag on until the beginning of the summer, but its first-quarter results showed that the dark storm cloud hovering over Safilo has some silver linings as the company improves efficiencies.



At its general meeting on April 27, Safilo announced that several private equity funds had expressed interest in the company but only four are truly committed to pursue their discussions. The firm did not release names but it is widely believed that the funds are Bain Capital, CVC, Apax and PAI Partners. The Tabacchi family, which owns 39.9 percent of Safilo, said that it is only talking with funds willing to invest in the medium to long term and that do not see the deal as only a financial investment but are also interested in the company's industrial future.

Safilo's chief executive, Roberto Vedovotto, noted that due diligence of the company by the funds is under way and will hopefully be over before the beginning of the summer. The examination of Safilo's books will enable the investors to make a takeover offer.

Observers believe that the likely outcome will be the purchase by a fund of a 29.9 percent stake in Safilo from the Tabacchis and the subsequent launch of a capital increase to cut the company's bloated debt. Safilo had net debt of €617.7 million at the end of March compared with €570.0 million at the end of 2008.

There had been speculation in the media that Luxottica and Marcolin could be interested in taking over Safilo, but the rumor was denied by the Tabacchis. Luxottica is believed to have made an offer to take over its rival about three years ago, but was turned down by the controlling family.

The company added that local authorities have asked it to evaluate by the end of June the possibility of selling some of its facilities to Italian entrepreneurs.

Safilo announced in March plans to trim 800 jobs in Italy by closing its Precenicco manufacturing plant and downsizing the Martignacco site to a service center. Following the restructuring, the Italian manufacturing sites will be reduced to Longarone, which specializes in metal frames, and Santa Maria, which produces acetate frames. The group's Slovenian plant in Ormoz will also lose 450 jobs.

The group said it reached an agreement on May 4 with the unions regarding the downsizing, which is expected to generate cumulated savings of €5-8 million in 2009 and 2010. Under the deal, no Italian workers will be made redundant, at least less for the next two years, as the company will use a special government unemployment fund to finance the layoffs.

The company closed the first quarter with an 11.7 percent drop in sales to €287.9 million. At constant currency rates, the decline reached 14.9 percent. Net profits shrank by 87.0 percent compared with a year earlier to €1.7 million, but they marked an improvement compared with the losses booked in the last two quarters of 2008.

The gross margin improved to 60.6 percent of sales from 59.2 percent, reaching the highest level in three years, as gross profits retrenched less than sales, declining by only 9.5 percent to €174.6 million. The improvement in the gross margin was achieved thanks to the development of new products, industrial efficiencies and a lower level of obsolete products in stock.

Vedovotto said the business environment remains very challenging and warned investors not to ?get too excited about an early sign of a very, very small recovery.? Even though he was reluctant to give guidance because of the lack of visibility, the CEO reiterated that he hopes that the company will close 2009 with a net profit.

Europe was the most problematic region in terms of sales in the quarter, with a 21.1 percent drop to €131.7 million. At constant currency rates the decline was 20.0 percent. Trading conditions were difficult in Spain, the U.K. and the Nordic countries, and more resilient in Germany and Greece.

Sales in the Americas fell by 2.8 percent to €110.0 million, but were down by 12.8 percent at constant currency rates. Department stores and large retailers faced challenging conditions in this region, while independent opticians performed better.

Asian revenues also dropped by 2.8 percent to €37.1 million, but slipped by 11.9 percent at stable currency rates, while the turnover in the rest of the world surged by 19.7 percent, up 38.3 percent at constant rates, to €9.1 million.

Safilo said that the Japanese market continues to be depressed and sales in the country fell by a double-digit figure, while revenue growth is slowing down in emerging markets.

By product, sunglass sales dropped by 13.2 percent to €162.4 million, revenues from prescription frames slipped by 7.8 percent to €109.2 million and sales of sport products and other goods fell by 20.5 percent to €16.3 million.

Safilo's wholesale revenues shrunk by 12.6 percent to €262.5 million, but the fall reached 16.5 percent at constant exchange rates, while retail sales increased by 3.3 percent to €25.4 million thanks to a larger number of stores.

At the end of March, the group had 324 stores compared with 268 the same period a year earlier. Comparable store sales were down by 17 percent.

Safilo has been carefully monitoring the solvency levels of its clients, especially in emerging markets, and sometimes refusing business at the expense of potential revenue opportunities.

Sales were also affected by the shift of the fluctuating Easter holiday break to April this year from March in 2008. Vedovotto said this impacted the sunglass business, especially in Mexico.

High-end sunglasses, priced over €200 a pair, continue to represent the weakest business segment of the industry with consumers strongly preferring more affordable» frames, Vedovotto added.

Meanwhile, the group's house brand Carrera continued to enjoy strong growth, boosting sales by more than 20 percent in the quarter. Safilo said it is committed to continue promoting the brand and expand its international presence. To push the international development of Carrera and other house brands, the company hired the advertising agency MRM Worldwide, which is part of the McCann group. The agency is already working on the campaign of the fall/winter collection.

Cutting down on investments, the company has reviewed its store opening plans for the year. It now plans to open 25-30 stores and close 15-20. The personnel headcount in the retail business is scheduled to be cut by 15 percent.

The group continues to renegotiate the occupancy fee of many of its stores and to increase the share of Safilo products present in its stores. In the first quarter, Safilo frames represented about 60 percent of the range in Solstice stores against 53 percent a year earlier, and the percentage in the Loop stores rose to almost 50 percent from 37 percent.

Safilo said that April sales were down by around 10 percent from the same period last year but up compared with March 2009 as the U.S. and European markets show more resilience.

The company denied rumors of alleged cash problems and pledged to pay the coupon on its high-yield bond on May 15.

The cost to finance the group's reorganization and its swelling debt have taken their toll on Safilo's profits. Operating profit before amortization (Ebitda) dropped by 35.4 percent to €30.2 million in the quarter, and operating profits fell by 48.2 percent to €19.1 million.

The Ebitda of the wholesale activity slumped by 29.2 percent to €33.0 million and the retail operations posted an Ebitda loss of €2.8 million compared with a €0.1 million profit the year earlier. The free cash flow was a negative €44.7 million, in line with the first quarter of 2008.