The Gap, Inc. — Form 10-Q Summary
Period and filing: The supplied filing covers the 13 and 39 weeks ended November 2, 2019, compared with the periods ended November 3, 2018. This is a 2019 third-quarter filing, not 2018 Q3 as indicated in the request metadata.
Business context and financial results
Gap is a global apparel retailer operating Old Navy, Gap, Banana Republic, Athleta, Intermix, Janie and Jack, and Hill City through stores, online channels, and franchises. Its brands are reported as one reportable segment.
| Metric | 13 weeks ended Nov. 2, 2019 | 13 weeks ended Nov. 3, 2018 | 39 weeks ended Nov. 2, 2019 | 39 weeks ended Nov. 3, 2018 |
|---|---|---|---|---|
| Net sales | $3.998B | $4.089B | $11.709B | $11.957B |
| Gross profit / margin | $1.559B / 39.0% | $1.623B / 39.7% | $4.459B / 38.1% | $4.677B / 39.1% |
| Operating income / margin | $221M / 5.5% | $363M / 8.9% | $819M / 7.0% | $990M / 8.3% |
| Net income | $140M | $266M | $535M | $727M |
| Diluted EPS | $0.37 | $0.69 | $1.41 | $1.86 |
| Operating cash flow | Not presented by quarter | Not presented by quarter | $528M | $567M |
| Free cash flow (non-GAAP) | Not presented by quarter | Not presented by quarter | $5M | $57M |
Material changes and financial position
- Third-quarter net sales declined 2% and comparable sales fell 4%, versus flat comparable sales a year earlier. Nine-month net sales declined 2%; foreign exchange reduced nine-month sales by $68M.
- Third-quarter gross margin decreased 0.7 percentage points, primarily reflecting increased Old Navy promotions and inventory shortage costs, as well as lower sales against occupancy costs. Operating expenses rose $78M, chiefly from separation costs and Janie and Jack expenses, contributing to lower operating margin and profit.
- At November 2, 2019, cash and cash equivalents were $788M and short-term investments were $294M. Total current assets were $4.572B and current liabilities were $3.192B.
- Long-term debt was $1.249B, principally the 5.95% notes due April 2021. No amounts were drawn on the $500M revolving credit facility. The filing reports $6.584B of operating lease liabilities following adoption of the new lease standard; this materially affects balance-sheet comparisons with prior periods.
- Nine-month cash flow from operations was $528M; capital expenditures were $523M. Cash, cash equivalents, and restricted cash declined to $806M from $1.420B at fiscal year-end. The company paid $274M in dividends and repurchased $150M of stock.
Outlook, management commentary, and notable items
- The company said cash balances and operating cash flows should support operations, separation costs, capital expenditures, Gap restructuring, and growth initiatives for the next 12 months and beyond; it cited the revolver and other market instruments as potential liquidity sources. No specific earnings or sales guidance was provided in the supplied filing.
- The planned separation of Old Navy from the remaining businesses was targeted for completion in 2020, subject to conditions and approvals. Separation-related expenses were $70M in the quarter and $112M year to date.
- Gap planned to close about 230 specialty stores during fiscal 2019 and 2020. Estimated pre-tax costs were $250M–$300M, with approximately $625M in annualized sales loss and about $90M in annualized pre-tax savings. Management noted landlord negotiations and timely execution were challenging.
- A building sale generated a $191M pre-tax gain in the first quarter, partially offset by a $343M building purchase. Janie and Jack was acquired for $69M; its post-acquisition operating results were not material to net income.
- ASC 842 lease adoption reduced opening retained earnings by $86M, net of tax, and added lease assets and liabilities. The nine-month effective tax rate rose to 31.6% from 24.0%, including a $30M tax adjustment related to Treasury guidance on the Tax Cuts and Jobs Act.
- On November 7, 2019, Art Peck stepped down as CEO and director; chairman Robert J. Fisher became interim CEO. Standard & Poor’s downgraded Gap to BB with a negative outlook in November 2019. Management identified credit-market access, consumer demand, competition, inventory and margin management, the separation, and store restructuring among relevant risks.
- Management reported disclosure controls were effective and no material change in internal control during the quarter. The company said pending legal matters were not expected to have a material effect, while noting outcomes remain uncertain.
Important facts for investors to verify
- Confirm the reporting-period mismatch in the request metadata: the source is for Q3 2019, not Q3 2018.
- Track comparable sales, promotional intensity, inventory costs, and brand-level performance, particularly Old Navy and Gap.
- Assess separation timing, costs, approvals, and expected benefits, alongside the execution and cash costs of Gap store closures.
- Monitor liquidity, free cash flow, capital spending, dividend plans, the April 2021 debt maturity, and implications of the credit-rating downgrade.
- Evaluate lease obligations and the effect of the new lease accounting standard when comparing balance sheets and operating costs across periods.