BBWI

Business Context and Reporting Period

Company: Limited Brands, Inc. (Parent of Bath & Body Works, Victoria's Secret, Express, and Limited Stores)
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Thirteen and twenty-six weeks ended August 2, 2003
Business Overview: The Company operates specialty retail stores and direct response businesses selling women's and men's apparel, intimate apparel, and personal care products.

Key Financial Metrics

Note: Working Capital calculated as Total Current Assets minus Total Current Liabilities.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 5% in the second quarter and 4% year-to-date compared to 2002. Growth was driven by Victoria's Secret (+8% Q2, +6% YTD) and Bath & Body Works (+5% Q2, +3% YTD). Apparel sales were flat in Q2 and down 2% YTD.
• Profitability: Operating income increased 23% in Q2 and 20% YTD. Net income surged 23% in Q2 and 50% YTD. The YTD increase was significantly boosted by a one-time gain.
• Comparable Store Sales: Total comparable store sales increased 3% in Q2 and 1% YTD. Victoria's Secret saw a 6% increase in Q2, while Apparel comparable sales were flat in Q2 and down 1% YTD.
• Debt Structure: Long-term debt increased significantly from $248 million to $648 million. The Company issued $350 million in new debentures and redeemed $250 million of older notes, incurring a $13.4 million pretax charge for the redemption.
• One-Time Items: The YTD 2003 results include a $79.7 million pretax gain from the sale of a portion of the Company's investment in Alliance Data Systems Corp. (ADS). The 2002 YTD results included a $33.8 million non-cash special charge related to stock option exchanges.

Guidance, Outlook, and Risks

• Capital Expenditures: The Company anticipates 2003 capital spending to be $310 million or less, primarily for store remodeling, new stores, and IT/distribution projects. Funding is expected to come from operating cash flows.
• Dividends: Dividends per share were $0.10 for the quarter and $0.20 year-to-date.
• Share Repurchases: The Company repurchased approximately 6.8 million shares for $98.5 million during the first half of 2003 under a $150 million authorization.
• Risks and Contingencies:
  • Legal Proceedings: Pending derivative actions regarding the rescission of a Contingent Stock Redemption Agreement; management does not expect a material adverse effect.
  • Tax Disputes: Ongoing IRS assessments regarding undistributed earnings of foreign affiliates (1992-1998). A 2002 court ruling favored the Company for 1992-1994, but refunds for 1995-1998 are still being pursued.
  • Guarantees: The Company holds approximately $574 million in guarantees for lease payments of former subsidiaries (e.g., Abercrombie & Fitch, Lerner), though material liability is considered remote.
  • Market Risks: Exposure to consumer spending patterns, security concerns, competition, and supply chain disruptions (including SARS impact in Asia).

Investor Verification Checklist

• Quality of Earnings: Verify the impact of the $79.7 million non-operating gain on ADS stock sales on the reported 50% YTD net income increase. Review "Adjusted Data" in the filing for core operating performance.
• Apparel Segment Performance: Investigate the decline in Apparel comparable store sales (-1% YTD) and the reduction in store count (down 73 stores YTD), specifically at Limited Stores and Express.
• Debt Servicing: Confirm the Company's ability to service the increased debt load ($648M) given the higher interest expense ($38.4M YTD vs $15.4M in 2002).
• Inventory Valuation: Review inventory levels ($1.07B) and markdown policies, as the Company notes significant estimates regarding future demand and market conditions affect valuation.
• Legal Exposure: Monitor the status of the derivative litigation and the final resolution of the IRS tax dispute regarding foreign affiliate earnings.