Surf Watch: Chasing the Demographics

Pacific Sunwear Focuses on Youth

By Jeff Harbaugh

Pacific Sunwear is company with a strong balance sheet, growing revenue and earnings, no meaningful litigation, and an experienced management team with a clear strategic focus. While the numbers side of this company is straight forward, there’s more going on with the company than just a profit and loss statement.

The drama is in the execution of the strategy. Pacific Sunwear (PacSun, as they seem to want to be known) started out as the store where young, white males could get the trendy, casual brands they wanted. Now, 22 percent of its sales are to females. Its new d.e.m.o. stores are focusing on cross-cultural trends. Pacific Sunwear sells snowboard clothing. It’s selling its own private-label brands.

Can PacSun expand its target market, but keep its focus and niche? Can it keep the loyalty of a notoriously finicky customer group? Inquiring minds want to know.

A Financial Snapshot

As of the fiscal year ended January 31, 1999, Pacific Sunwear had 342-stores in 42 states. Its customers are young men–and increasingly women–between the ages of twelve to 22 who prefer a casual look.

Revenues have grown from 85-million dollars in 1994 to 321 million dollars for the year ended January 31, 1999. Net income has climbed from 3.9- to 23.5-million dollars during the same period.

PacSun had 4,058 employees of whom 3,822 were store employees. Of the store employees, 2,700 were part time. Management is mostly in their 40s. Most of the team has been with the company since 1994 or before.

By The Numbers

At May 2, 1999, the balance sheet was clean. There’s eleven-million dollars of cash and a current ratio of 3.16. There’s basically no long-term debt, and the total debt-to-equity ratio is 0.25. The piece of information I would like, but don’t have, is a way to judge the quality of the 46-million dollars of inventory.

Obviously, when you’re selling trendy goods to young people, you’d better be right on your inventory selection. On the other hand, even if a chunk of that inventory were obsolete, this balance sheet would still be strong.

One caveat on evaluating the balance sheet of any fast-growing retail business: comparisons from one balance sheet date to the next are difficult due to both growth and seasonality. Ratios will tell you the strength of the balance sheet, but getting a handle on operational efficiencies using the balance sheet is tough when, for example, inventory goes up a bunch, but so did the number of stores.

For the thirteen weeks ending May 2, 1999 sales were 81.4-million dollars, up 33 percent from the same period the previous year. Income grew 40 percent to 4.04-million. Gross profit margins were essentially constant in these two periods at 32.1 percent.

Similar trends can be seen in comparing the two years ending January 31, 1999 and February 1, 1998. Sales grew 41.4 percent to 321-million dollars. Net income was up 43.7 percent to 23.5-million dollars. Gross margin fell two tenths of a percent to 33.7. Operating expenses as a percentage of sales fell from 22.5 to 21.9 percent, largely as a result of the rapid growth in sales.

Also important to note is that the average inventory between these two dates was 37.3-million dollars. PacSun did 321-million dollars in sales, so it turned its inventory 8.6 times.

Setting the Stage

PacSun either figured out or fell into the fact that it’s not just surfers who buy surf wear, snowboarders who buy snowboard clothing, and skateboarders who buy skate clothing anymore.

The specialty markets are crossing over each other. Fashion and lifestyle are as important as participation in the sport that originally spawned the apparel.

If it were just surfers who wore surf apparel, the company wouldn’t be planning to increase its retail square footage by 42 percent this fiscal year.

So Pacific Sunwear has positioned itself, it hopes, at the crossroads, where everybody passes through but nobody is confused or put off by seeing surf/skate/snow in one place. The theory is that you aren’t selling out as long as you’ve got the cool stuff to sell.

Trouble is that somebody keeps changing the road signs at the crossroad. Fashions come and go as fast as commemorative postage stamps. Faster, probably. How does Pacific Sunwear hope to keep its road map accurate?

Real Marketing!

It’s my personal observation that most action-sports companies think advertising and promotional tactics are marketing. Pacific Sunwear doesn’t seem to suffer from that delusion.

Chief Financial Officer Carl Womack describes the two-hour focus groups PacSun does each year in half a dozen cities and have been doing for seven or eight years. He explains that the company’s online inventory reporting allows management to see what was selling and what wasn’t–on a daily basis.

“Not only does this allow us to manage our inventory on a day-to-day basis,” he says, “but it helps us anticipate trends so we can respond in a timely manner.”

He emphasizes the close relationships PacSun has with suppliers as a critical source of market-trend data. PacSun share ideas regarding fashion trends and merchandise sell-through with its vendors. “We always pay our suppliers on time–sometimes even early if they need it,” says Womack. That ought to go a long way towards creating good working relationships.

PacSun experiments with new colors, styles, and items by ordering a small number (maybe twelve dozen) and seeing how they sell.

To sum it all up, it seems that marketing (that is, figuring out what the customer wants) is institutionalized at Pacific Sunwear. Everybody thinks about it all the time and is required, as described below, to react to what they learn.

Running The Business

So PacSun’s success depends on its ability to respond to the dynamic fashion whims of young people aged twelve to 22. How does it run its business to accomplish that?

Each store is ranked by size, fixtures, and inventory. Nobody has to do a study to figure out how build out and stock a new store. It’s a good thing, since PacSun plans to open 108 new stores in fiscal 1999. Sixty-seven are planned to be Pacific Sunwear stores, sixteen outlet stores, and 25 d.e.m.o. stores.

Though stores have the same inventory selection, the timing of inventory receipt will vary according to store locations. It gets colder some places earlier in the year than in others.

The company manages inventory through what Womack called “permanent markdowns.” Every two weeks, based on the daily sales data, the store managers arrive at work to find the markdowns already downloaded into their store registers. All they have to do is put up the “On Sale!” signs. No slow-moving inventory is allowed to linger in the hope that it will suddenly become hot. The inventory turns quickly, and the customer doesn’t wait for big sales promotion before coming into the store.

Stores have daily, weekly, and monthly sales goals against which performance is measured. Feedback is immediate, as are bonuses for meeting monthly goals. Yet the store managers have no involvement in the actual selection of merchandise, though of course their input and ideas are solicited.

So what’s going on here? Pacific Sunwear’s systems and operating procedures dovetail nicely with their marketing imperatives. Need to have the right inventory? Better have the systems to know what’s selling so you can move what’s not. Want to grow quickly? The stores better be more or less the same. Want to be on top of trends? Better get along with your suppliers.

Notice how all the pieces work together. There seems to be a company-wide strategic focus that makes it immediately clear to management when something is “right” and when it is “wrong.” Really, I’m usually
not this gah-gah over a company.

What Could Go Wrong?

I’d focus on three things as potential trouble spots. First, management could lose touch with trends. Age does that no matter how good your systems and marketing are. Second, defections from a management team that has been together this long could be a problem. I hope the golden handcuffs are reinforced with titanium, and I hope the district and regional managers have a lot of input. Finally, fast growth can cause problems all by itself, but that’s a risk it looks like PacSun is going to have to live with.


Jeff Harbaugh works with companies in transition,and doesn’t expect to get a call from PacSun. You can reach him at:(206) 232-3138.