Abercrombie & Fitch Co. Form 10-Q Summary
Reporting period: Thirteen and twenty-six weeks ended July 29, 2017, compared with the corresponding periods ended July 30, 2016. The provided request metadata labels the period “2016 Q2,” but the filing is for Fiscal 2017 second quarter.
Business Context
Abercrombie & Fitch is a specialty apparel and accessories retailer operating the Hollister and Abercrombie brands through stores, direct-to-consumer channels, wholesale, franchise and licensing arrangements. Operations span North America, Europe, Asia and the Middle East. The company reported 703 U.S. and 188 international stores at July 29, 2017.
Fiscal 2017 is a 53-week year ending February 3, 2018. Results are seasonal, with the Fall period generally generating the highest sales and operating cash flow.
Financial Metrics
| Metric | Q2 2017 | Q2 2016 | 26 Weeks 2017 | 26 Weeks 2016 |
|---|---|---|---|---|
| Net sales | $779.3 million | $783.2 million | $1,440.4 million | $1,468.6 million |
| Gross profit | $460.9 million | $477.1 million | $859.8 million | $902.8 million |
| Gross margin | 59.1% | 60.9% | 59.7% | 61.5% |
| Operating loss | $21.1 million | $10.8 million | $91.0 million | $65.7 million |
| Net loss attributable to A&F | $15.5 million | $13.1 million | $77.2 million | $52.7 million |
| Diluted loss per share | $0.23 | $0.19 | $1.13 | $0.78 |
| Net cash used in operating activities | — | — | $48.9 million | $57.2 million |
Q2 comparable sales declined 1% overall, including a 5% increase at Hollister and a 7% decrease at Abercrombie. Year-to-date comparable sales declined 2%, with Hollister up 4% and Abercrombie down 8%.
At July 29, 2017, cash and equivalents were $421.9 million, inventory was $471.0 million and total assets were $2.23 billion. Gross term-loan borrowings were $268.3 million, with $263.7 million reported net of discount and fees. No borrowings were outstanding under the $400 million asset-based revolving credit facility; borrowing-base availability was $327.9 million.
Capital expenditures were $61.8 million year-to-date, dividends paid were $27.2 million, and cash decreased by $125.3 million to $421.9 million. Approximately $289.3 million of cash was held by foreign affiliates.
Material Changes Versus Prior Comparable Period
- Q2 sales decreased slightly, while year-to-date sales declined 2%.
- Hollister sales increased 6% in Q2 and 5% year-to-date; Abercrombie sales decreased 8% in Q2 and 10% year-to-date.
- Gross margin contracted 180 basis points in both Q2 and year-to-date periods, primarily because of lower average unit retail and continued promotional activity.
- Operating loss increased by $10.3 million in Q2 and $25.3 million year-to-date. Year-to-date results included higher operating expenses relative to sales and the absence of the prior-year settlement benefit.
- Q2 2016 included a $12.3 million benefit from settlement of Deepwater Horizon economic-loss claims. Q2 2017 included no comparable benefit.
- Stores and distribution expense declined as a percentage of sales, reflecting expense-reduction efforts, while direct-to-consumer shipping expense increased.
- Cash used in operating activities improved by $8.3 million year-over-year, although inventory-related cash usage increased.
- The company adopted ASU 2016-09, producing non-cash income-tax charges of $0.7 million in Q2 and $9.9 million year-to-date.
Guidance, Outlook, Risks and Unusual Items
- Management expected Fiscal 2017 comparable sales to be approximately flat, with flat to slightly positive comparable sales in the second half.
- Foreign currency was expected to provide a slight benefit to sales and operating income.
- Full-year gross margin was expected to decline from the prior-year 61.0% rate, but remain approximately flat in the second half.
- Operating expense was expected to decline at least 3% from adjusted Fiscal 2016 operating expense of $2.025 billion.
- Full-year capital expenditures were expected to be approximately $100 million. Management planned seven full-price store openings, two outlet openings and approximately 60 U.S. store closures through natural lease expirations.
- The second-half effective tax rate was expected in the mid-30% range. Full-year discrete non-cash tax charges were expected to total approximately $11 million, primarily from stock-compensation accounting changes.
- Key risks include promotional pressure, fashion and inventory execution, consumer spending, competition, international and foreign-currency exposure, supply-chain disruptions, cybersecurity, litigation, seasonal volatility, tax-rate variability and restrictive debt covenants.
- Pending litigation arose in the ordinary course of business. Management stated that actual liabilities could exceed recorded reserves, and certain matters had no established accrual.
- The company expects the new revenue-recognition standard to affect the timing of gift-card and loyalty-program revenue and gift-card breakage income. The new lease standard is expected to materially increase reported assets and liabilities.
Investor Verification Checklist
- Verify the filing period: the document covers July 29, 2017, despite the request metadata referencing 2016 Q2.
- Assess whether Hollister’s comparable-sales momentum offset continuing weakness at Abercrombie.
- Monitor gross-margin recovery, promotional intensity, average unit retail and inventory levels.
- Evaluate liquidity after seasonal working-capital needs, capital expenditures, dividends and debt service.
- Review the company’s ability to meet guidance while operating at a year-to-date loss and using cash in operations.
- Track term-loan amortization, covenant compliance and future access to the ABL facility.
- Consider the effects of foreign-currency movements, derivatives, tax-rate volatility and the upcoming lease and revenue-accounting changes.