CALERES INC quarterly report, Q1 FY2019

Business context and reporting period

Caleres, Inc. filed this Form 10-Q for the 13 weeks ended May 4, 2019, its first quarter of fiscal 2019. The filing metadata says “2018 Q1,” but the report itself covers Q1 2019 and compares results with the 13 weeks ended May 5, 2018. Caleres operates Famous Footwear and Brand Portfolio; its business is seasonal, with a substantial portion of annual earnings traditionally generated in the third quarter.

Financial performance and position

Net sales rose 7.2%, principally due to the Vionic and Blowfish Malibu acquisitions. Gross margin fell 2.2 percentage points; management cited promotional activity, higher e-commerce mix and shipping costs, the new Famous Footwear rewards program, and Vionic purchase-accounting inventory charges. Operating earnings declined 26.5%, while net earnings fell 47.2%. Net interest expense approximately doubled to $7.4 million, primarily reflecting acquisition-related revolver borrowing. Effective tax rate was 25.2%, versus 23.1%.

Famous Footwear sales declined 3.1% to $352.2 million; same-store sales fell 1.0%, and operating earnings fell to $10.8 million from $21.9 million. Brand Portfolio sales increased 20.3% to $341.1 million, including acquired brands, while operating earnings rose to $12.9 million from $11.6 million. Its margin decreased to 3.8% from 4.1%. Consolidated sales growth therefore did not translate into higher operating or net earnings.

At May 4, 2019, cash was $35.8 million, total debt was $516.0 million ($318.0 million revolver borrowings and $198.0 million senior notes), and additional revolver availability was $171.5 million. The company reported covenant compliance. Total assets were $2.49 billion. Working capital was negative $24.0 million and the current ratio was 0.97; both measures include $136.0 million of current operating lease obligations recognized upon adoption of ASC 842. Lease liabilities totaled $798.8 million at present value, alongside $735.3 million of right-of-use assets. Debt-to-capital was 45.1%.

Operating cash flow was $49.9 million; investing activities used $21.4 million, including $18.4 million of property and equipment purchases and $2.9 million of capitalized software. Financing activities used $22.9 million, including $17.0 million of net revolver repayments and $2.9 million of dividends. Cash increased $5.6 million during the quarter.

Material changes, outlook and risks

• Vionic, acquired in October 2018 for $360.7 million, contributed $53.1 million of consolidated sales, net of eliminations, and reported a $1.3 million net loss. Q1 included $5.8 million of purchase-accounting inventory cost and $0.3 million of integration costs. Blowfish Malibu contributed $16.2 million of consolidated sales and $0.6 million of net earnings.
• Caleres adopted lease accounting standard ASC 842 in Q1 2019. It recorded $729.2 million of operating lease right-of-use assets and $791.7 million of lease liabilities at adoption, plus a $13.4 million reduction to retained earnings. Prior-period balance sheets were not restated, limiting comparability of working-capital measures.
• The company incurred $1.9 million of Carlos brand-exit costs, including $1.3 million of inventory markdowns in cost of goods sold and $0.6 million of severance and related costs. It recorded $1.2 million of long-lived-asset impairment charges in the quarter; no goodwill or indefinite-lived intangible impairment was recorded in Q1.
• Management expected approximately $55 million of fiscal 2019 spending on property and equipment and capitalized software, and anticipated incremental interest expense until Vionic-related borrowings are repaid. Management said it presently expected dividends to continue, subject to board discretion. No full-year earnings or revenue guidance is stated in the provided filing text.
• On May 10, 2019, after quarter-end, tariffs of up to 25% were proposed on certain Chinese imports, including footwear. Approximately 60% of Caleres footwear was sourced from China; management warned tariffs could raise costs and reduce gross margins if price increases cannot be passed through. Other stated risks include consumer demand and fashion changes, competition, sourcing and supply disruption, inventory forecasting, acquisition integration, foreign exchange, cybersecurity, and lease flexibility.
• Caleres reported no share repurchases under its publicly announced programs during the quarter. Subsequent to quarter-end, it repurchased 780,060 shares for $15.1 million. It also reported ordinary-course litigation not expected by management to have a material adverse effect, and a $9.7 million reserve for Redfield environmental remediation; ultimate remediation costs could exceed the recorded amount.

Important facts for investors to verify

1. Whether proposed China tariffs were imposed, and the company’s ability to mitigate or pass through higher sourcing costs.
2. Organic sales, margins and cash generation apart from Vionic and Blowfish, especially Famous Footwear same-store sales and Brand Portfolio performance.
3. Vionic integration progress, purchase-accounting effects, and the pace of repayment of acquisition-related revolver debt.
4. Revolver availability and covenant headroom, considering seasonal working-capital needs and recognized lease obligations.
5. The effects of the post-quarter $15.1 million share repurchase on liquidity, leverage and share count.
6. Future costs and timing of Redfield remediation, and whether the recorded reserve remains adequate.