Fossil Group, Inc. — Form 10-K Summary
Period clarification: The supplied filing is the annual report for the fiscal year ended December 28, 2013, not a 2012 Q4 filing. It includes unaudited quarterly comparisons, including Q4 2013 versus Q4 2012. Unless stated otherwise, figures below are in U.S. dollars.
Business context and reporting period
Fossil designs, markets and distributes fashion accessories, led by watches, under owned and licensed brands. It sells through wholesale channels and its own stores and e-commerce operations. Fiscal 2013 had four quarters and ended December 28, 2013. International markets generated 53.2% of consolidated sales. Watches represented 77.1% of sales; the Direct to consumer segment represented 25.1%.
Key financial metrics
| Metric | FY 2013 | FY 2012 | Change |
|---|---|---|---|
| Net sales | $3,260.0 million | $2,857.5 million | +14.1% |
| Gross profit | $1,861.7 million | $1,606.5 million | +15.9% |
| Gross margin | 57.1% | 56.2% | +0.9 percentage point |
| Operating income | $561.6 million | $488.8 million | +14.9% |
| Operating margin | 17.2% | 17.1% | +0.1 percentage point |
| Net income attributable to Fossil Group | $378.2 million | $343.4 million | +10.1% |
| Diluted EPS | $6.56 | $5.59 | +17.4% |
| Operating cash flow | $411.7 million | $451.6 million | Down $39.9 million |
Sales growth was led by watches (+17.4%) and jewelry (+26.0%); leather sales declined 0.9%. By segment, sales increased 12.3% in North America wholesale, 18.8% in Europe wholesale, 9.7% in Asia Pacific wholesale and 14.4% in Direct to consumer. Global comparable-store sales rose 0.2%.
Cash and cash equivalents were $320.5 million at year-end, including $298.2 million held by foreign subsidiaries. Working capital was $987.6 million, versus $737.3 million a year earlier. Total debt was approximately $500.7 million, compared with $70.6 million; $498.9 million remained available on the $750 million revolving facility. The company reported compliance with material debt covenants.
Investing cash outflow was $123.2 million, including $95.2 million of capital expenditures and $15.5 million for acquisitions. Financing cash outflow was $148.2 million, including $582.3 million of share repurchases, offset in part by net debt borrowings. The company repurchased 5.3 million shares for $574.8 million. It paid no cash dividends.
Material changes versus comparable periods
- Compared with FY 2012, sales, gross profit and operating income increased, with modest expansion in gross and operating margins. Operating expenses rose to 39.9% of sales from 39.1%, reflecting store and concession growth, infrastructure, marketing and acquired businesses.
- Net income growth lagged operating income growth in part as the effective tax rate rose to 30.9% from 28.0%. FY 2012 had benefited from tax audit settlements and a decision to indefinitely reinvest certain foreign earnings.
- Operating cash flow declined despite higher net income, principally amid increased working-capital needs, including receivables and inventory. Year-end receivables rose 25.1% and inventory rose 12.7%, both faster than sales.
- Debt increased substantially as borrowing supported buybacks and operations. The company entered a new five-year credit agreement in May 2013, including a $250 million term loan and a $750 million revolver.
- Q4 2013 sales were $1,062.4 million versus $947.7 million in Q4 2012; operating income was $219.3 million versus $204.8 million. Q4 net income attributable to Fossil was $148.5 million versus $151.1 million, while diluted EPS increased to $2.68 from $2.51. Q4 operating margin declined to 20.6% from 21.6%.
Outlook, commentary, risks and unusual items
- Management expected FY 2014 capital expenditures of $110–$120 million, primarily for store expansion and renovation and technology infrastructure. It planned approximately 75–80 store openings and about 17 closures. The filing does not provide a clear full-year revenue or earnings guidance range.
- Management attributed FY 2013 margin improvement to a richer mix of watches and jewelry, international growth and direct distribution in certain acquired markets. Promotional activity, especially in U.S. outlets, and leather-product liquidation were offsets. Management described U.S. retail conditions as challenging and leather as an opportunity for improvement.
- Licensed products accounted for 50.5% of FY 2013 sales, including Michael Kors products at 22.4%. Armani Exchange and Emporio Armani watch licenses were due to expire March 31, 2014; the company said it was negotiating renewals. Minimum royalty commitments totaled $836.1 million, including $196.1 million due in FY 2014.
- Other significant risks include fashion and consumer-demand shifts; dependence on licensing partners and key component suppliers; sourcing concentration in Asia, especially China; foreign-currency, trade and tariff exposure; customer credit and retail-sector conditions; store expansion and inventory execution; and data security. A 10% strengthening of the U.S. dollar against exposed currencies was estimated to reduce pre-tax income by $12.0 million.
- Unusual items included a $6.5 million non-cash gain from remeasuring the Fossil Spain investment when the company took control, and a $5.8 million non-cash impairment charge on retail-store assets. The company also reported a pending Romag Fasteners patent, trademark and related infringement suit; it said the outcome was uncertain but did not expect a material financial impact.
- Auditors issued an unqualified opinion on the financial statements and internal controls; management also concluded internal controls were effective.
Important facts for investors to verify
- Confirm the reporting-period mismatch: the filing covers FY 2013, although the request metadata specifies 2012 Q4.
- Track renewal outcomes and economics for the Armani Exchange and Emporio Armani licenses, and the concentration of sales in licensed brands.
- Assess whether operating cash flow, receivables and inventory trends support the pace of buybacks and planned investment.
- Review the increased debt, covenant headroom, borrowing costs and the large minimum royalty and lease commitments.
- Monitor store productivity and margins, particularly U.S. full-price retail, outlets and the leather category, alongside planned store additions.
- Follow the Romag litigation and exposure to sourcing, currency, trade and component-supplier disruptions.