Time to Put Skechers Back in the Box

Is it time for investors to sell shares of or open short positions in athletic shoe maker Skechers (NYS: SKX) ? It looks like the answer's a resounding "yes." The company agreed to fork over $50 million to settle with the Federal Trade Commission. The FTC had taken issue with the firm's claims that its "toning" shoes get people fit by the simple act of wearing them. Such claims were always exceedingly dubious, and now the firm has to sacrifice eight figures because of its carelessness in marketing them.

Lose weight while strolling!
The disputed type of footwear was in vogue a few years ago, boosted by assertions from manufacturers that people could get in shape without ever stepping foot in a gym if they would only wear this sneaker. Skechers really pushed this attractive, get-fit-quick idea, to the point where it hired reality TV star Kim Kardashian to shill for its toning shoe line in an expensive Super Bowl ad.

The thing is, the claims weren't backed by any significant research. Some Skechers marketing featured a recommendation from a chiropractor. It turns out, though, that the good doctor was actually paid to conduct a study into the matter, and by the way, he just happened to be married to one of the company's marketing executives. Whoops.

The company really should have known better. Not only were the claims flimsy at best, others had gotten into trouble making similar ones. This past September, Reebok, a unit of Adidas (OTC:ADDYY), had agreed to pay around $25 million for asserting more or less the same about its EasyTone and RunTone shoe lines.

Falling down
Reebok/Adidas will recover and get on with life, since it's got a wide selection, plenty of loyal customers, and a cash position in excess of $1.6 billion. So that company's settlement is not going to put a huge dent in its operations.

It's hard to say the same for Skechers. At the end of its most recent quarter, the company's cash pile was $392 million, against $139 million in debt. So parting with $50 million is certainly going to hurt.

Meanwhile, the toning shoe fad has largely died, which badly affects Skechers since it put so much effort into capitalizing on it. 2010 was the peak of the market for such products and Skechers' results bear this out. For that fiscal year, the company drew in more than $2 billion in revenue and netted $136 million in profit. The two figures were 40% and 149% higher year-on-year, respectively.

On a comparative basis, its 2011 results crumpled like a runner tripping on clumsy shoes. Revenue lurched downward by nearly $400 million while net income plunged into the red with a $67.5 million loss. Much of this was due to toning shoes; the company was forced to "aggressively reduce" its stock of the products in Q2 of that year, taking around $21 million in losses from the resulting fire sales.

The trend isn't their friend
The sharper footwear companies avoided the toning shoe trend altogether, and not coincidentally managed to maintain their reputations and profitability. Nike (NYS: NKE) , for example, did just fine with its extensive line of proper athletic footwear and accessories, growing its fiscal 2011 top and bottom lines while Skechers' were stumbling.

And Nike increased or maintained its dividend while doing so. Skechers' shareholder payout currently stands at zero, and given its non-profitability and the hit to its cash flow with the FTC settlement, it's highly doubtful that number will be anything but a goose egg in the foreseeable future.

Comfy-shoes maker Crocs (NAS: CROX) is another firm that refused to drink the toning shoe Kool-Aid. It probably could have modified a line of its not-quite sandals into "shape-up" wear, but it stood firm on the signature function and design of its products. Those gimmick-free offerings continue to make the company prosperous -- it crossed the $1 billion revenue line in fiscal 2011 while netting $113 million, for a healthy 11% margin. Who needs trendy shoes, unsubstantiated health claims, and any of the Kardashians to turn a profit?

Nothing special
Take the toning shoe line out of Skechers' inventory, and you've got a middling company selling midlevel products in a tough, competitive market. Skechers competes somewhat effectively on price, but athletic shoe buyers tend to pay for performance. So Nike's cutting-edge, design-conscious approach resonates much more strongly for this clientele than does Skechers' grab at the middle market. The relatively expensive settlement hanging over Skechers' head compounds that inherent weakness. It's hard to imagine the firm recovering strongly from its current position, and thus it's hard to justify a buy on its shares at the moment.

Skechers doesn't offer a dividend and it probably won't anytime soon, but we've got a line on a bunch of companies that do -- and reliably at that. Find out which companies they are in our FREE report "Secure Your Future With 9 Rock-Solid Dividend Stocks." It can be downloaded right here.

At the time thisarticle was published Fool contributor Eric Volkman owns no stocks mentioned in the story above. Motley Fool newsletter services have recommended buying shares of Nike, adidas, and Skechers USA. Motley Fool newsletter services have recommended creating a diagonal call position in Nike. The Motley Fool has a disclosure policy.We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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