Earnings Call Transcript - SGC Q2 2022

Operator, Operator

Good afternoon, everyone. Welcome to Superior Group of Companies Second Quarter 2022 Conference Call. With us today are Michael Benstock, the Company's Chief Executive Officer; and Mike Koempel, the Chief Financial Officer. As a reminder, this call is being recorded. This conference call may contain forward-looking statements regarding the Company's plans, initiatives and strategies and the anticipated financial performance of the Company, including, but not limited to, sales and revenue. Such statements are based upon management's current expectations, projections, estimates and assumptions. Words such as will, expect, believe, anticipate, think, outlook, hope and variations of such words and similar expressions identify such forward-looking statements. Forward-looking statements involve known and unknown risks and uncertainties that may cause future results to differ materially from those suggested by forward-looking statements. Such risks and uncertainties include, but are not limited to, the following: the effect of COVID-19 crisis on the U.S. and global markets, our business, operations, customers, suppliers and employees; general economic conditions in the areas of the United States in which the Company's customers are located; changes in the markets, where uniforms are worn, where promotional products are sold and where call center services are used; the impact of competition; the Company's ability to successfully integrate operations following consummation of acquisitions and the availability of manufacturing materials, as well as the risks and uncertainties disclosed in the Company's periodic filings with the Securities and Exchange Commission, including, but not limited to, the Company's annual report on Form 10-K for the year ended December 31, 2021, and the quarterly reports on Form 10-Q. Shareholders, potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements made herein and are cautioned not to place undue reliance on such forward-looking statements. The Company does not undertake to update the forward-looking statements contained herein except as required by law. With that, I'd like to turn the call over to Mr. Benstock.

Michael Benstock, CEO

Thank you, operator. Good afternoon, everyone, and welcome to our second quarter 2022 earnings call. This afternoon, I will share SGC's performance highlights and touch on the current operational and macro environment. After that, Mike will provide our financial update. For the Q&A session, we will be joined by Chief Strategy Officer, Phil Koosed; Andy Demott, our COO; Jake Himelstein, President of our Branded Products segment, as well as Catherine Beldotti Donlan, the new President of our Healthcare Apparel segment. Superior Group of Companies continues to perform well despite the slowing economy, inflation, rising interest rates, excessive supply chain and logistical costs and challenges across our core businesses. Just as others are experiencing, we are seeing a more challenging operating environment. SGC has a long operating history, and we have shown resilience through various economic cycles due to our ability to provide innovative products valued by our customers, a broad product and geographical market reach and a strong focus on improving market share and profitability. During the second quarter, as part of our long-term focus on future success, the Company began the transition of key leadership positions as previously communicated with the addition of Catherine Beldotti Donlan, President of Healthcare Apparel; and Mike Koempel, our Chief Financial Officer. The transitions have been seamless with the support of Peter Benstock serving as healthcare apparel advisor and Andy Demott, former Chief Financial Officer, continuing to serve as Chief Operating Officer until both of their retirements. We also added management expertise in supply chain and distribution to support future retirements and our long-term growth objectives. This strategic review of our businesses and the current alignment of our business segments will enable us to better optimize the efficiency of our resources. We've positioned SGC in a more focused manner, thereby creating a more effective framework to serve our customers, increase our revenues and maximize shareholder value. After a thorough review, we have reorganized the business along three segments: Healthcare Apparel, Branded Products and Contact Centers. Notably, we invested in our technology across all of our businesses. Our state-of-the-art robotic system at our Eudora, Arkansas distribution facility is already showing a return on investment in the form of lower operating costs and quicker order fulfillment. Our unified backend for all of our customer-facing websites is now in place for all of our uniform customers, creating better future efficiency and implementing technology enhancements, just a couple of examples that demonstrate the opportunities for further technology-led savings across our organization. Turning to our results, second quarter consolidated revenues grew 13% to $147.9 million versus the second quarter of 2021, while our gross margin declined during the quarter due to higher cost of goods sold. We also reported higher SG&A costs primarily due to higher employee costs related to headcount and sales commissions along with an increase in depreciation and amortization. Due to non-cash impairment charges, we had a net loss in the quarter. These results certainly fell short of our expectations, but are not reflective of SGC's true long-term potential. Let's take a closer look at the quarterly results for each of our segments. Starting with our Healthcare Apparel segment, our sales were $26.3 million, up 30% versus the prior year quarter. Beyond the carryover effect of accelerated purchases resulting in customer stockpiling inventories in PPE during COVID-19 and the deteriorating economy, our customers have taken a more cautious approach towards ordering, seeing a reduced need for inventory replenishment, and we have experienced a slowdown in order flow as a result. We, therefore, opted for the prudent approach of marking to market the value of our inventory and are rightsizing our segments, as well as greatly increasing our sales and marketing initiatives to mitigate the impact of the current conditions. We expect that this change in demand will be temporary, but the timing of the turnaround is difficult to predict. For now, we are aggressively enhancing our omnichannel approach to sales and marketing through the addition of new and experienced leadership, as well as technology for the Healthcare Apparel segment. Additional sales initiatives will better position the segment to broaden its market access. And as the economic headwinds dissipate, we anticipate our revenue growth will return to historic levels. Concurrently, we are focused on creating a leaner, more efficient business by identifying areas to save operating expenses in order to improve margins. Our Branded Products division grew 29% over the prior year, generating record second-quarter revenue of $102 million and a gross profit of $29.1 million. Our SG&A expense was up, as we increased our investment in this business to support future growth, including expansion of our sales force. The segment had an operating loss of $4.7 million, primarily the result of one-time charges related to goodwill and tradename impairments, PPE-related inventory write-downs, as well as higher amortization expenses related to past acquisitions. From an operating perspective, the global supply chain for Branded Products continues to be a challenge. While many in-person events and conferences have returned, higher interest rates and recession concerns have led many companies to pause or reduce their marketing spend until there is more clarity regarding the future. We have seen this manifest itself in reduced bookings by existing customers in recent months, which we expect to impact their revenues for the remainder of the year. Acquisition-wise, we acquired Guardian Products during the quarter. Guardian represents a continuation of our external growth strategy and aligns well with our acquisition of Sutter's Mill last year. Guardian and Sutter's Mill serve similar end markets, and we have already started to see the benefits of leveraging in-house decoration and production capabilities at Sutter's Mill to better serve Guardian's expanding client base. It is important to know that we have recently completed most of the integration of HPI and BAMKO. The integration of sales and marketing, in particular, completed last year has already resulted in a robust pipeline of more RFP opportunities. Given the time it takes to close branded uniform opportunities and deliver products within the segment, we would not expect to see revenues associated with these efforts until the middle of 2023. Our third segment, Contact Centers, known as The Office Gurus, is recognized as the leader in providing nearshore customer contact management to smaller and midsized companies, many of whom have not previously outsourced these services. Our Contact Centers offer customized outsourced services and a technology offering that provides seamless representation of a client's organization at a more favorable cost versus in-house solutions. It is an attractive business with very strong growth rates, a significant total addressable market and very attractive margins. During the second quarter, we added 486 billable agents, 74% of them from existing customers. We had originally anticipated adding 600 billable agents for all of 2022, but have already put in place over 850 during the first half of the year, a reflection that demand for our nearshore value proposition continues to be at all-time highs. We onboarded multiple new clients as well during the quarter that we believe will result in significant revenue growth over the balance of this year and next. Our Contact Center segment recorded revenues of $21.5 million in the second quarter, up almost 40% year-over-year. Our gross margin of 59.5% reflects the attractiveness of this business, and we are laser-focused on adding to our portfolio of customers. We're excited about adding another contact center facility to the successful business model in Q3 in the Dominican Republic. We understand we have a lot of work ahead of us, but believe many of the initiatives we have put in place will enable us to enhance our results as we move ahead and the economic challenges begin to abate. With that, I'll turn the call over to Mike to take us through the financial highlights.

Michael Koempel, CFO

Thank you, Michael, and good afternoon, everyone. Turning to the financial highlights of the second quarter, SGC reported consolidated revenues of $147.9 million versus $130.8 million during the second quarter of 2021, an increase of 13%. Our gross margin was 32.5% for the quarter compared to 36.1% in the second quarter of 2021. The gross margin reduction was primarily driven by $4.5 million in inventory write-downs on excess inventory related to personal protective equipment and discontinued styles. Gross margin also continued to be impacted by higher logistics costs. SG&A expenses as a percentage of sales were 31.1% for the quarter compared to 25.9% for the second quarter of 2021. The increase as a percentage of sales was due to expense deleverage resulting from the 30% decrease in Healthcare Apparel sales. In addition, we had higher expenses associated with additional headcount to support growth in our Branded Products and Contact Center segments, depreciation and amortization, executive hiring and related transition costs and investment losses related to our supplemental retirement plan. The net loss was $26.7 million or $1.70 per diluted share compared to net income of $6.4 million or $0.40 per diluted share for the second quarter of 2021. In the second quarter of 2022, the Company recognized pre-tax non-cash impairment charges related to goodwill of $24.5 million or $23.6 million net of tax or $1.50 per diluted share, and tradenames of $5.6 million or $4.4 million net of tax or $0.28 per diluted share. In the second quarter of 2021, the Company recognized a pre-tax non-cash settlement charge related to the termination of its defined benefit pension plans of $6.9 million or $4.5 million net of tax or $0.28 per diluted share. On an adjusted basis, which excludes the above charges in 2022 and 2021, second quarter net income was $1.3 million or $0.08 per diluted share compared to net income of $10.9 million or $0.68 per diluted share for the second quarter of 2021. As it relates to the tradename impairment, in the second quarter, the Company began an effort to centralize certain branding and go-to-market strategies under the BAMKO brand and determined that it would no longer use certain tradenames associated with promotional products. The Company's rebranding efforts resulted in the aforementioned impairment of tradenames related to its Branded Products. We view centralized branding as a very positive development for our Branded Product segment, as it removes any confusion surrounding the various brand names in the market and centralizes all efforts under BAMKO, which is one of the strongest and most recognizable names in the industry. SGC remains well capitalized and continues to operate effectively across all of its markets. SGC has shown its resilience by managing through challenging times with a continued emphasis on profitable growth opportunities by focusing on improving operational and financial efficiencies. In terms of the balance sheet and cash flow, cash and cash equivalents, as of June 30, 2022, were $10.3 million. Consistent with prior quarters, operating cash flow continues to be negatively impacted by elevated inventories. Over the last two quarters, we have reduced our buying levels, and based on product lead times, we expect inventories to decline later this year with a goal of returning to normalized levels of inventory and improve turns in 2023. Lowering inventory, which is our largest asset, will drive significant improvement in working capital over time. While our leverage ratio of 3.3x trailing 12 months EBITDA is slightly elevated, it remains well below our covenant limit and will also improve based on our working capital efforts. Following a significant investment in warehouse automation last year, we are targeting a lower level of capital expenditures this year, less than 2% of sales, and we will continue to carefully scrutinize our investment for the balance of the year. SGC remains committed to returning capital to our shareholders and announced a dividend of $0.14 per share during the quarter, a 17% increase from last year. In addition to our focus on driving working capital improvements, the management team also evaluated our organizational structure and identified opportunities to improve operating efficiencies, as well as our service to our customers. We expect these opportunities to achieve at least $8 million of annualized cost savings while still maintaining our focus on consistent sales growth. Lastly, in terms of guidance, based on the current economic environment, our expectation is to achieve sales of $575 million to $590 million for 2022. With that, I would like to ask the operator to open the line for questions.

Kevin Steinke, Analyst

Good afternoon, everyone, and Mike, welcome, and welcome to the call. I wanted to start off by asking about you mentioned a robust pipeline for HPI, obviously, given lead times, probably not translating revenue until mid-2023. So that indicates to me that your competitive position and sales pipeline is still strong despite what sounds like a near-term slowdown in ordering patterns and buying patterns. So I just kind of wanted to see if you could talk a little bit more about those two somewhat competing dynamics and how you're continuing to think about your long-term outlook.

Jake Himelstein, President of Branded Products

Yes. Kevin, this is Jake Himelstein. I'll take that one. Yes. I mean, look, the combination of BAMKO and HPI, which we did with sales and marketing last year has really resulted in some really robust pipeline. We've talked about it in the last couple of calls, and we're really excited about where we are right now. And I think the economy, where it is and sort of some of that pullback you referred to, actually helps us in this regard, right? When times are tough, procurement goes out and tries to look for a new vendor, trying to save costs, trying to bring in better partners. And the offerings that we can provide now that HPI and BAMKO together, nobody in the marketplace can touch them. And you're right, it will take some time to see the revenue on these come through given the size of the opportunities and how long they take to pull through the revenue. But this is quite literally the most robust pipeline that we've ever seen, right? We have now a combined group of sales reps that are going after branded merchandise and branded uniforms, largely the same buyers at our clients, and so it just makes sense to go after them together, and that's resulting in a pipeline that we've never seen before. So yes, you're right. The short-term pain of the economy certainly has had an impact. But the result is that our pipeline is great, and we're really excited about what that's going to lead us to in the coming quarters.

Kevin Steinke, Analyst

And related to that, you mentioned investing in your sales force in the Branded Products segment, kind of a short-term impact on margins, but also an indication, I guess, of your positive long-term outlook in that business. So maybe talk about your efforts to hire more on the sales side and if you expect that to continue in the coming quarters here?

Jake Himelstein, President of Branded Products

Yes. So in the Branded Products segment, there are 100,000 sales reps in the U.S. in this industry. So it is full of sales reps, many of which are commission-only sales reps. As our competitors struggle in the current operating environment, we're really an appealing landing spot for sales reps and for clients. We go through a really painstaking process of evaluating candidates to make sure they're the right fit for us. And we only take ones that are the right fit for BAMKO and can immediately start generating revenue. But what we see in tough times is that our competition will tend to cut back on things like technology, our operational personnel, and we're investing in that, right? We've talked about that in the last couple of quarters, we've even invested in things like technology in our warehouses. That makes us a really appealing landing spot and gives us the pick of the litter in terms of who we want to come onboard and sell for us, which is really advantageous for us.

Michael Benstock, CEO

Yes. And I will add, this is Michael. Hi, Kevin. During COVID, when most of our competition started folding up and going into a defensive position, we were able to add, I think it was 20-some-odd salespeople or almost like a 40% increase in the number of salespeople we had selling our products and you saw the robust growth that happened at BAMKO as a result of doing so. And we're looking at it exactly the same way. We need to be very aggressive in adding people. The first half of the year, we did add people, not as many as we did in 2020 and 2021, but we're back to being in a very, very aggressive mode. And we think this is a time that we want to take more market share, we want to be able to bid on more opportunities. We're a bigger company. We can handle even larger opportunities than perhaps we've ever handled before, and we can do it better than anybody. So I would tell you that BAMKO is highly regarded by our competitors' sales forces, and many of them would give anything to even be considered by BAMKO for employment. And we're going to capitalize on that over the coming quarters.

Kevin Steinke, Analyst

And also within Branded Products, obviously combined now in terms of HPI and BAMKO, are you seeing a similar slowdown in, I guess, what used to be those two separate segments in terms of promotional products or brand and promotional products and branded uniforms? Is the slowdown kind of universal across the product line in terms of ordering patterns?

Jake Himelstein, President of Branded Products

It depends on the sector and the type of company. Retail is still purchasing at the same rate as before. If you look at airline customers, they are struggling to hire quickly due to high turnover, which presents more opportunities for employment every day. High-growth companies that previously spent a lot on at-home gifting may reduce their spending this year. In contrast, larger tech companies that are more stable are actively trying to attract and retain talent and customers by investing money in those efforts. We are continuing to run many programs in this area. This trend began in 2020, where gifts were being sent not only to employees but also to customers at home, and we are currently seeing more of these programs than ever before. This growth is ongoing.

Michael Benstock, CEO

We're also hearing that television advertising and other means of advertising are not quite as successful as they once were. And so everybody is looking for a new way to gain customer and employee loyalty, and we saw that during COVID and we will see that again. I guess it's a data point at this point that we're going into some kind of recession, we're not already in one. But we've managed through every recession to grow market share, and we'll do so this time as well. That's our belief.

Kevin Steinke, Analyst

I guess switching to the Healthcare new Healthcare Apparel segment. Obviously, as you mentioned, there was a COVID-related headwind from the elevated buying last year. You also talked about a slowdown in order inflow and less inventory build by customers. Should we consider that as affecting both the CID and the Fashion Seal Healthcare portions of that segment?

Michael Benstock, CEO

I'll give you a short answer. I'll let Catherine chime in. Seeing as Catherine has been with us just a little bit over 60 days now. But yes, I think that's a correct assessment that the stockpiles and inventory that the laundries had are still not worked out. It takes a little bit longer for them to work out. The stockpiles that nurses have in their closets, as a result of spending so much discretionary money during COVID, as they were working very hard, very long hours, didn't find a lot of other places to spend it except on themselves and uniforms will dwindle over time as well. But it's going to take some time. I still think, and I've said it before on these calls, that one of the greatest opportunities for us is within the healthcare business. And I'll let Catherine speak about our omnichannel strategies. And obviously, she's an expert. She comes from a background of having served all channels in retail and wholesale and so on in detail. Catherine, why don't you jump in and say hello to our shareholders.

Catherine Donlan, President of Healthcare Apparel

Sure. It sounds good. Thanks, Michael. Hi, Kevin. Nice to meet you. The first thing I wanted to add is how excited I am to be here, and what I believe is just explosive opportunity when we think about the future and the healthcare professional in a growing environment. But today, we are faced with and the consumer is faced with some economic headwinds and that the healthcare professionals' dollars are being pulled elsewhere. And so as the demand stabilizes, both from the consumer and with our retail partners, we're really focused on bringing to market the most innovative consumer-right product that best serves the healthcare professional. And how we bring that out? We're really going to focus on marketplace management and really meeting the consumer where they're at. And that, to Michael's point, is very much an omnichannel shift for us to really focus on how the brand in our product shows up across the digital ecosystem.

Kevin Steinke, Analyst

Okay. Yes. Thank you for that commentary, that was helpful. And yes, I should add my welcome to you as well, Catherine. So as we think about the gross margin, you mentioned the inventory write-downs. Is that largely related to PPE you mentioned, I think, some other products, but I just wanted to see if you could break that down a little bit more.

Michael Koempel, CFO

Sure, Kevin. Hi. This is Mike. It's nice to meet you on the phone for the first time. And so to answer your question, yes, I would say about two-thirds of what we recorded for the quarter was PPE-related as opposed to discontinued styles.

Kevin Steinke, Analyst

When we consider cost and gross margin for the quarter, you mentioned last time about implementing price increases that you believed would mostly offset the inflationary hedging gains you were experiencing. Do you think that was mostly true this quarter, that you managed to offset inflation? Or do you think there's a need for further price increases?

Michael Koempel, CFO

Yes. I mean, maybe I'll start and then I don't know if Jake or Catherine want to talk about the pricing. But I would say, by and large, for the quarter, I think the price changes that we've been able to implement with not a lot of resistance, I don't believe, have been able to largely offset. I mean we're still seeing some increased cost, obviously, as it relates to some of the freight and logistics. But I'd say, by and large, we've been able to mostly offset that pressure with some price changes.

Kevin Steinke, Analyst

Then I wanted to ask you about the selling and administrative expense line, costs up there sequentially, and you again, talked about continuing to invest in the management team, the management infrastructure to build an organization for the longer term. Should we kind of think about those expenses leveling out here, is the hiring leveling out? Just trying to get a sense, as to how you would think about that expense line run rate going forward.

Michael Benstock, CEO

This is Michael. I'll take a stab at that and anybody else can jump in. But the largest of those have been done. And as we've said, in some cases, Catherine's case, Peter is still on the payroll until we determine likely first quarter, Andy as well, sometime between now and then when they're through transitioning, they'll move up as well, as the others that we mentioned in the earlier script. There still will be some additions, but I wouldn't say it's quite leveled off yet, but the offsets will be substantial. We spoke about $8 million of savings on an annualized basis. Some of those have already been implemented. And Mike correct me if I'm wrong, I think the impact of this year will be somewhere in the neighborhood of about 20%. Is that correct, Mike?

Michael Koempel, CFO

Yes. Yes. Yes, that's about right and that could be offset to some degree by some one-time costs, as we execute that. But I think that's the case. And obviously, we'll be in position definitely by the end of the year to have the annualized savings locked in for 2023.

Kevin Steinke, Analyst

So you'll get about 20% of those $8 million of cost savings benefiting 2022 and then annualize that into next year.

Michael Benstock, CEO

Correct. Correct. Yes.

Kevin Steinke, Analyst

Okay. I guess just lastly for me here, you mentioned that you expect your inventory investments to level off or that they won't be as much of a drag going forward. Does that indicate you've seen some easing of supply chain pressures?

Michael Benstock, CEO

It's not necessarily tied to the supply chain. While we have noticed some relief in supply chain pressures, the costs associated with it remain high. We did experience some reductions in logistical expenses, but at the peak of the supply chain issues, we were paying $30,000 to ship a container from China. Although that cost has nearly halved, it is still two and a half times what it was before the pandemic. We started adjusting for supply chain disruptions over a year ago. One of the reasons our inventory is somewhat excessive is that we acted proactively, not knowing how long it would take for the supply chain to recover. It hasn't fully returned to normal, but our planning has helped ease some of the challenges, and some items we anticipated would take longer to arrive came in sooner than expected. As a result, we currently have high inventory levels. We believe we are reaching the peak now, and we expect to continue reducing our inventory well into next year, though I may not have the precise timeline for that.

Michael Koempel, CFO

Yes, I would say, Kevin, we should see some reduction in inventory later this year and more significantly next year, as we have reduced buying levels early this year based on our lead times. In response to your question, we want to remain aware of potential supply chain risks. We certainly don't want to overcorrect, so we will be cautious about the inventory reductions. However, we definitely believe there is an opportunity to improve inventory turns while still safeguarding the business to protect sales going forward.

Kevin Steinke, Analyst

And then just lastly on the $575 million to $590 million revenue outlook for 2022, I don't know if you'd be willing to provide any just color around segment outlook and how segment outlooks and how that builds into that consolidated outlook for the year?

Michael Koempel, CFO

Yes. I would say, Kevin, the range suggests that we will likely continue to see some of the trends we've encountered this year. There are definitely opportunities in the Contact Centers segment. As you know, the healthcare sector has faced challenges in the first and second quarters. Therefore, the performance of the Healthcare segment will significantly influence the range, particularly concerning how quickly we might see a recovery. Those are a couple of the factors that will impact the range and our overall outlook.

Operator, Operator

Our next question comes from Tim Moore with EF Hutton.

Timothy Moore, Analyst

It's good to see the three components of this tool and gain more insight into the healthcare business and the omnichannel penetration that Catherine mentioned. I also appreciated your presentation, particularly the slide on social responsibility regarding supplier screening. However, I'll get straight to my questions, as many have already been addressed. I'm curious if you plan to share the growth rates for the new segments later in mid-2023 when care inventories stabilize. I noticed the $1 billion goal mentioned for the coming years.

Michael Benstock, CEO

The $1 billion goal has not changed. We will be recasting our guidance with respect to the segments in a later quarter. We're not prepared to do it right now. It's why we gave guidance for the year instead, which is something, Tim, we don't usually do. But we might continue doing in the future. We won't be as transparent as possible. But the combination of HPI and BAMKO is going to lead to some wonderful opportunities in the future. And I can tell you we've already closed some of those opportunities, and we're a finalist on quite a few as well. So I think we'd be best off recasting when we have more clarity around it. But we feel very confident at least in the total number that we've provided.

Timothy Moore, Analyst

And that's kind of what I expected when I saw the coming years mentioned. In that slide that now mentions 400 basis points of margin improvement, is that basis off of 2021? Or is it kind of based off of maybe what 2022 will be?

Michael Koempel, CFO

Yes. I would say, Tim, you're referring to the improvement in operating results measured in basis points.

Timothy Moore, Analyst

Yes. The 400 basis points mentioned on the slide?

Michael Koempel, CFO

It'd be based largely off of 2022.

Timothy Moore, Analyst

I thought that was the case. I wanted to ask a follow-up question about the gross margin and the factors contributing to the contraction, which all make sense. I was curious if you had any estimate on how long it might take for the higher logistics costs to have a more neutral impact. Will this be more of an early 2022 situation when some $8 million in cost savings start to materialize?

Michael Koempel, CFO

Yes. I believe we will start to see some of the effects of the increases we've experienced. We're approaching our planning with caution. It's challenging to forecast the future of logistics costs. I can share that we have noticed fluctuations in those costs over the past six months. They are higher compared to pre-pandemic levels, but still somewhat unpredictable. Therefore, we expect to continue facing some pressure moving forward and will try to manage these challenges as effectively as possible. At this stage, we still anticipate enduring pressure throughout the supply chain.

Michael Benstock, CEO

Yes. I'll jump in. I recently spent time in Vietnam and visited with the port there and with one of the largest carriers there, who we contract with to move most of our merchandise out of Vietnam and other places, and they felt there was going to be a little bit of a softening of the market towards year-end. That would begin to affect us on inventory we received in second quarter next year and inventory that we would sell in the third quarter and fourth quarter next year and later. So I don't think we're going to see any immediacy to a drastic improvement in gross margin. Except that we don't expect to have the extent of write-offs that we had related to COVID in this quarter, and that certainly will go a long way towards helping the margin.

Timothy Moore, Analyst

Yes. I was kind of wondering, you mentioned that you were in Vietnam, maybe earlier this year. It was probably maybe your first time back since COVID started. Did you pick up any other trends or any other takeaways that were interesting? Like anything else going on over there or how they're adapting in the last two years?

Michael Benstock, CEO

I was glad I didn't get COVID, but I do notice a slowdown in the market, particularly in Vietnamese factories, as retailers have been canceling orders frequently. There's a considerable amount of open capacity now, which hasn't been the case for a long time. This increased capacity gives us more leeway to negotiate better terms for garment production and the actual cutting and sewing of our items. We're also hearing similar concerns from Chinese mills due to these cancellations, which of course, impact the textile mills. The textile industry in Vietnam has developed quite a bit since before COVID, with substantial investments made there. We're sending a team in September to explore various textile opportunities because if we can produce products in Vietnam from Vietnamese-made fabrics, we can significantly reduce our lead times, translating to more cash flow since we can receive goods sooner and make deposits later. Overall, things are looking positive. Our supplier relationships are strong, and we have many new suppliers eager to work with us, creating a favorable competitive environment.

Timothy Moore, Analyst

It's great to hear that, and it's perfect that you were recently there to get that perspective. For the $8 million in cost savings, can you clarify if that includes approximately $2.4 million from the robotics warehouse, or is that separate since it was handled manually?

Michael Benstock, CEO

Yes. Now, that's correct. It does include that.

Timothy Moore, Analyst

I understand that this was mentioned earlier by Mike, but I'm trying to grasp the timing of the capital benefits. Will they be primarily recognized in the fourth quarter, or will they extend into the first quarter of next year and 2023, especially with the anticipated improvements from the inventory reduction in the Healthcare Apparel segment?

Michael Koempel, CFO

Yes. I would say, Tim, I mean we're going to push hard to realize as much as we can later this year. But I think I would anticipate that we'd see a bigger impact in 2023.

Timothy Moore, Analyst

What are you observing for signs of replenishment, and how do you track it on the retail, fashion, and Healthcare Apparel side? What actions are you taking to monitor this and ensure it's accurately assessed? I'm just curious.

Michael Benstock, CEO

It's a good question. Catherine can respond on the retail side for sure. Catherine, why don't you jump in there?

Catherine Donlan, President of Healthcare Apparel

Yes. Sure. So we've spent quite a bit of time really focused on not only understanding, but analyzing for future demand our POS data and how we use that to inform our go-forward strategies. So being a very heavy replenishment business, that's critical for us to really make sure that we are able to use that data from really being clear on what the consumer is responding to and making sure that we are rightsizing our own inventory levels as demand stabilizes in the marketplace.

Michael Benstock, CEO

Yes. I'll complement Catherine on that. She has taken that to a whole new level from an analytics standpoint and also from a relationship standpoint with our retailers in gaining their trust to be able to share a lot more data than they ever have with us, so that we can get more clarity around that and respond and service them better.

Timothy Moore, Analyst

That's very helpful to hear, and I appreciate that having studied a lot of marketing. My last question is about the acquisition integration. How is the integration going for Guardian, given that it's only been a couple of months? Also, what is the status of Sutter's Mill, and is there really a lack of integration with Guardian?

Jake Himelstein, President of Branded Products

Yes, it's Jake. Things are going great. We've been really pleased with the progress. Guardian is a fantastic addition to our team, complementing what we are already doing well. The integration of Guardian and Sutter's Mill has been productive, as both target similar markets in the auto industry without overlapping, actually enhancing each other’s growth. Every collaboration with our colleagues makes us more excited about the future potential. Right now, our main focus is on continuing the integration efforts and fostering organic growth. We have many initiatives planned for the next couple of years, and while we would consider a perfect fit if it arises, we are currently very enthusiastic about our recent acquisitions and are dedicated to their integration.

Michael Benstock, CEO

All right. Well, I want to thank everybody for joining us. Look forward to better news as time goes on in future calls. In the meantime, enjoy the rest of your summer, and we'll see you in the fall. Thank you.

Operator, Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.