Abercrombie & Fitch Co. Form 10-Q Summary
Reporting period: The provided filing is for the thirteen and twenty-six weeks ended July 30, 2016, compared with August 1, 2015. Although the request metadata identifies “2015 Q2,” the filing itself reports Fiscal 2016 second-quarter results.
Business Context and Reporting Period
Abercrombie & Fitch is a specialty retailer of branded apparel and accessories operating the Abercrombie, abercrombie kids and Hollister brands through stores and direct-to-consumer channels in North America, Europe, Asia and the Middle East. At July 30, 2016, the Company operated 926 stores, including 744 in the United States and 182 internationally.
The interim financial statements are unaudited. Results are seasonal, with the largest sales activity generally occurring in the fall season because of back-to-school and holiday demand.
Key Financial Metrics
| Metric | Q2 FY2016 | Q2 FY2015 | Year-to-date FY2016 | Year-to-date FY2015 |
|---|---|---|---|---|
| Net sales | $783.2 million | $817.8 million | $1.469 billion | $1.527 billion |
| Gross profit | $477.1 million | $509.9 million | $902.8 million | $921.4 million |
| Gross profit rate | 60.9% | 62.3% | 61.5% | 60.3% |
| Operating income (loss) | $(10.8) million | $2.0 million | $(65.7) million | $(88.2) million |
| Net income (loss) attributable to A&F | $(13.1) million | $(0.8) million | $(52.7) million | $(64.1) million |
| Diluted loss per share | $(0.19) | $(0.01) | $(0.78) | $(0.92) |
| Net cash used in operating activities | Not separately provided | Not separately provided | $(57.9) million | $(20.8) million |
Q2 comparable sales declined 4% on a constant-currency basis. Abercrombie comparable sales declined 7% and Hollister comparable sales declined 2%. Year-to-date comparable sales also declined 4%.
At July 30, 2016, cash and equivalents were $455.6 million, inventories were $453.2 million and total current assets were $1.097 billion. Gross borrowings under the term loan facility were $293.3 million, or $287.0 million net of unamortized discount and fees. No borrowings were outstanding under the $400 million senior secured revolving ABL facility; the borrowing base was $312.9 million.
Year-to-date capital expenditures were $58.0 million, dividends paid were $27.0 million and cash decreased by $133.0 million to $455.6 million. The Company held $275.1 million of cash through foreign affiliates.
Material Changes Versus the Prior Comparable Period
- Q2 sales decreased 4%, primarily because of continued weakness in flagship and tourist locations. U.S. sales declined 7%, while international sales were approximately flat in reported dollars.
- Q2 gross margin decreased 140 basis points to 60.9%, driven primarily by adverse foreign-currency effects of approximately 90 basis points and higher average unit costs, partially offset by higher average unit retail prices.
- Q2 operating results shifted from $2.0 million of operating income to a $10.8 million operating loss. Negative comparable sales caused expense deleveraging, while marketing and direct-to-consumer expenses increased relative to sales.
- Q2 net loss attributable to A&F increased to $13.1 million from $0.8 million. The prior-year quarter included $15.8 million of legal settlement charges, while the current quarter included a $12.3 million Deepwater Horizon claims settlement benefit and a $6.4 million non-cash store impairment charge.
- Year-to-date GAAP operating loss and net loss improved versus the prior year, but adjusted non-GAAP results deteriorated: adjusted operating loss was $71.6 million versus $35.9 million, and adjusted net loss was $56.4 million versus $28.6 million.
- Year-to-date operating cash use increased to $57.9 million from $20.8 million, primarily reflecting prior-year extended vendor payment terms and current-year incentive compensation payments, partly offset by a $22.8 million lease-deposit return and lower income-tax payments.
- Store count declined from 925 at January 30, 2016 to 926 at July 30, 2016, reflecting 3 openings and 13 closures on a year-to-date basis. Gross square footage declined from 5.962 million to 5.384 million square feet.
Guidance, Outlook, Risks and Unusual Items
Management expects the operating environment to remain challenging, particularly in flagship and tourist locations. The Company expects comparable sales to remain pressured in the second half of Fiscal 2016, adverse foreign-currency effects on sales and operating income, and third-quarter gross-margin pressure from currency.
- Fiscal 2016 adjusted gross-margin rate expected to be approximately flat to the prior-year adjusted rate of 61.9%, with a third-quarter decline expected from currency.
- Operating expense dollars expected to be slightly below the prior-year adjusted level, with increased marketing investment concentrated in the third quarter offset by expense-reduction savings.
- Expected effective tax rate of approximately the mid-to-upper 30% range.
- Expected net income attributable to noncontrolling interests of approximately $5 million and diluted weighted-average shares of approximately 68 million, excluding potential buybacks.
- Capital expenditures expected at the low end of the $150 million to $175 million range.
- Planned store activity includes approximately 15 new stores, six new outlet stores and up to 60 U.S. store closures through natural lease expirations.
Unusual items included the $12.3 million Deepwater Horizon settlement benefit, $6.4 million of impairment charges related to an abercrombie kids flagship store in London, and foreign-currency impacts on gross margin. The Company had approximately $10 million accrued for certain legal contingencies, while other claims remained unaccrued and could exceed reserves.
Key risks include weak consumer discretionary spending, fashion and inventory execution, international expansion, direct-to-consumer execution, competition, foreign-currency volatility, Brexit-related uncertainty, cyber and information-technology risks, supply-chain disruptions, litigation, seasonal volatility and restrictive debt covenants. The Company had suspended its search for a new Chief Executive Officer and continued under an interim governance structure.
Important Facts for Investors to Verify
- Confirm that the applicable reporting period is July 30, 2016, rather than 2015 Q2 as stated in the request metadata.
- Assess whether flagship and tourist-store weakness, negative comparable sales and currency pressure persist into the second half of Fiscal 2016.
- Separate recurring operating performance from the $12.3 million claims settlement benefit and the $6.4 million impairment charge.
- Reconcile GAAP and non-GAAP results, particularly the deterioration in adjusted year-to-date operating and net losses.
- Monitor liquidity and cash generation given $57.9 million of year-to-date operating cash use, $293.3 million of gross term debt and ongoing dividends and capital expenditures.
- Review inventory levels, future markdown exposure and the planned store openings and closures.
- Evaluate foreign-currency, Brexit, litigation and unrecorded-contingency exposures, including the approximately $10 million of accrued legal contingencies.