VF Corporation — Q1 2017 Form 10-Q
Business context and reporting period. The quarter ended April 1, 2017, compared with the quarter ended April 2, 2016. VF sells apparel, footwear and accessories through its brand coalitions, wholesale, direct-to-consumer and international channels. Comparative results were recast to show the Licensed Sports Group (LSG) and JanSport collegiate businesses as discontinued operations. VF completed the LSG sale to Fanatics on April 28, 2017, for $225 million, subject to working-capital adjustments; the JanSport collegiate business was held for sale. VF also approved a fiscal year-end change: after its fiscal 2017 year ends December 30, 2017, it will have a three-month transition period through March 31, 2018, and fiscal 2019 will begin April 1, 2018.
Financial performance and position
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Total revenues | $2.582 billion | $2.634 billion |
| Operating income | $291.5 million | $311.8 million |
| Income from continuing operations | $214.7 million | $241.9 million |
| Diluted EPS from continuing operations | $0.52 | $0.56 |
| Net income, including discontinued operations | $209.2 million | $260.3 million |
| Cash used by operating activities | $210.2 million | $145.6 million |
- Revenue and profitability: Revenue fell 2%, including an approximately 1% foreign-exchange headwind. Gross margin rose 150 basis points to 50.2%; operating margin declined to 11.3% from 11.8%, as SG&A rose to 38.9% of revenue from 36.9%. Operating income decreased about 7%, and continuing-operations diluted EPS fell about 8%. The 2017 effective tax rate was 20.8%, versus 17.4%; lower discrete tax benefits in 2017 adversely affected the EPS comparison.
- Cash flow and capital spending: Operating cash use increased year over year, primarily due to working-capital timing, including collections and payments. VF attributed first-half cash use partly to seasonal inventory builds. Investing cash use was $68.3 million, including $40.9 million in capital expenditures and $20.7 million in software purchases. Financing cash use was $346.5 million, including $438.3 million of share repurchases and $172.7 million of dividends, partly offset by short-term borrowing.
- Liquidity and debt: March 2017 cash and equivalents were $604.4 million. Working capital was $2.043 billion and the current ratio was 2.1:1. Short-term borrowings were $288.7 million; current and long-term debt totaled approximately $2.305 billion. Debt to total capital was 37.2%, compared with 31.9% at December 2016. VF reported $2.0 billion of availability under its $2.25 billion revolving credit facility after commercial paper and letters of credit. $250 million of 5.95% notes mature in October 2017.
Material changes versus the prior comparable period
- Outdoor & Action Sports revenue increased 2% to $1.679 billion and coalition profit rose 1% to $230.9 million. Direct-to-consumer revenue grew 6% overall, e-commerce grew 25%, and international revenue increased 2% despite a 3% currency headwind.
- Jeanswear revenue fell 9% to $647.4 million and profit declined 14% to $118.0 million, reflecting U.S. wholesale softness, customer inventory destocking and channel consolidation.
- Imagewear revenue declined 5% to $135.0 million, mainly due to the timing of contract orders. Sportswear revenue declined 17% to $98.3 million and reported a $1.1 million loss, affected by Nautica’s department-store challenges, promotional activity and lower volume.
- Discontinued operations reported a $5.5 million loss, compared with $18.3 million of income in Q1 2016. The 2017 result included an estimated after-tax disposal loss of $2.4 million on the Licensing Business; Q1 2016 included income from the Contemporary Brands businesses, sold in August 2016.
- VF repurchased 8.2 million shares for $438.3 million during the quarter. In March, the board approved a new $5.0 billion repurchase authorization, replacing the prior authorization. The company also early adopted tax accounting guidance for intra-entity asset transfers, recording a $237.8 million reduction to opening retained earnings and other assets.
Outlook, commentary and risks
- Management cited pricing, lower product costs and a shift toward higher-margin businesses as drivers of gross-margin improvement, while noting increased investment in direct-to-consumer, demand creation, technology and product innovation. No specific revenue or earnings guidance for the full year was provided in the filing text.
- Management said cash balances, operating cash flow, credit facilities and capital-market access were expected to provide adequate liquidity for obligations, planned dividends, capital expenditures and investment opportunities. It did not expect material additional restructuring charges in 2017; most restructuring activity was expected to be completed by year-end.
- Key disclosed risks include currency movements, consumer demand and fashion trends, margin pressure, reliance on large customers, customer financial health, supply-chain and distribution disruptions, raw-material availability and pricing, technology security, and possible goodwill or other asset impairment. U.S. wholesale business faced customer bankruptcies in Outdoor & Action Sports and destocking in Jeanswear.
- Tax matters include an unresolved IRS examination of Timberland’s 2011 return and VF’s appeal of the EU decision concerning Belgium’s excess-profit tax regime. VF paid €31.9 million ($33.9 million) under an assessment and recorded it as a tax receivable based on its expected success in the appeals; an adverse resolution could prevent recovery. Net unrecognized tax benefits and related interest were $155.0 million at quarter-end.
Investor verification points
- Confirm the continuing-operations basis and discontinued-operations recast when comparing revenue, earnings and segment results; distinguish continuing-operations EPS of $0.52 from total diluted EPS of $0.50.
- Track the LSG sale proceeds and working-capital adjustment, transition-service obligations, and disposition of the JanSport collegiate business.
- Monitor Jeanswear wholesale trends, U.S. customer exposure, Sportswear performance, and the effect of currency on reported growth and margins.
- Assess seasonal operating cash use, inventory levels, share repurchases and borrowings, including repayment or refinancing of the $250 million October 2017 maturity.
- Follow the Belgium tax appeal and Timberland IRS dispute, including potential cash and tax-expense consequences.