DESTINATION XL GROUP, INC. annual report, FY2016

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Destination XL Group, Inc. — FY2016 Form 10-K

Period note: The filing covers the fiscal year ended January 28, 2017 (Fiscal 2016), a 52-week year—not 2015 Q4. Fiscal 2015 ended January 30, 2016. The company operates as a specialty men’s big-and-tall apparel retailer, combining stores and e-commerce in one reportable segment.

Business context

Destination XL (DXL) is the company’s principal growth format. At year-end it operated 343 stores: 192 DXL retail, 13 DXL outlet, 97 Casual Male XL retail, 36 Casual Male XL outlet and 5 Rochester Clothing stores. Management said the major store transition was substantially complete and shifted emphasis toward marketing, traffic, customer retention and e-commerce growth.

Financial results and liquidity

  • Sales: $450.3 million, up 1.8% from $442.2 million. Comparable sales rose 0.6%; the 166 comparable DXL stores rose 2.4%. Total transactions increased 1.9%, dollars per transaction 0.5% and units per transaction 2.0%.
  • Margins and operating results: Gross profit was $204.9 million; gross margin, including occupancy costs, was 45.5%, down 60 basis points. Operating income was $1.0 million versus an operating loss of $5.1 million. SG&A was $173.3 million, or 38.5% of sales, versus $180.6 million, or 40.8%.
  • Profit: Net loss was $2.3 million, or $0.05 per diluted share, versus a net loss of $8.4 million, or $0.17 per share. EBITDA, a non-GAAP measure, increased to $31.6 million from $23.3 million.
  • Cash flow and investment: Operating cash flow was $35.0 million, compared with $18.4 million. Capital expenditures were $29.2 million. Non-GAAP free cash flow was $5.8 million, versus negative $15.0 million; free cash flow before DXL store capital expenditures was $25.4 million.
  • Debt and liquidity: Total debt, net of issuance costs, was $63.1 million, down from $68.1 million. Cash was $5.6 million; unused availability under the asset-based credit facility was $57.1 million. Working capital was $23.3 million and the current ratio was 1.2:1. Inventory declined $7.6 million to $117.4 million.
  • Other obligations: Operating lease commitments were $362.3 million. Total contractual commitments were $417.4 million, excluding $44.4 million outstanding under the revolving credit facility. The company also reported an unfunded pension obligation of $4.7 million and a $0.7 million supplemental retirement obligation.

Changes versus Fiscal 2015

  • Sales growth slowed to 1.8% from 6.8%, and comparable sales growth eased to 0.6% from 4.8%.
  • Gross margin declined from 46.1% to 45.5%, mainly because of increased promotional markdowns and occupancy costs rising faster than sales.
  • Operating results improved by $6.1 million, from a $5.1 million loss to $1.0 million of income; net loss narrowed by $6.2 million.
  • Operating cash flow rose $16.6 million, primarily reflecting lower inventory. Free cash flow improved by $20.8 million, while debt declined $5.0 million.
  • Management reported lower brand awareness—34% versus 38%—and a 2.5% decrease in active customers. It attributed some traffic and sales weakness to the decision not to run a Fall/Holiday media campaign.

Outlook, commentary and risks

  • Fiscal 2017 outlook: For a 53-week year, management projected sales of $470–$480 million and comparable sales growth of approximately 1%–4%; gross margin of about 46.0%; GAAP net loss of $5.7–$11.7 million, or $0.11–$0.23 per diluted share; and EBITDA of $24–$30 million. Adjusted net loss was projected at $0.06–$0.14 per diluted share, a non-GAAP measure.
  • Management planned approximately $25 million of marketing spend, 19 DXL retail and 1 DXL outlet opening, and 16 Casual Male XL retail and 3 outlet closures. Capital expenditures were projected at $22 million, with about $5 million of tenant allowances. Operating cash flow was forecast at $37–$42 million and free cash flow at $15–$20 million.
  • The board approved a stock repurchase authorization of up to $12 million for Fiscal 2017, to be funded from operating cash and/or credit-facility borrowings. The company said repurchases may be suspended or modified; credit-facility covenants can restrict repurchases if availability falls below specified thresholds.
  • The company maintained a full valuation allowance against deferred tax assets; it did not expect to recognize an income tax benefit in Fiscal 2017. Federal net operating loss carryforwards were $141.2 million, subject to potential ownership-change limitations.
  • Key risks include weak retail traffic and consumer demand, execution of the DXL transition and customer conversion, marketing effectiveness, competition, inventory and fashion risk, dependence on third-party suppliers and a centralized distribution center, cybersecurity, and access to adequate liquidity. Variable-rate borrowing creates interest-rate exposure; management estimated a 50-basis-point rate increase would add about $0.3 million in annualized interest expense.
  • Other notable matters: Fiscal 2016 included $0.4 million of store asset impairment charges. The company accrued approximately $1.9 million for incentive awards; awards totaling $2.3 million were subsequently approved. Management said ordinary-course legal matters were not expected to have a material adverse effect. KPMG issued unqualified opinions on the financial statements and internal control over financial reporting.

Important facts for investors to verify

  • Whether Fiscal 2017 sales and comparable-sales guidance can be achieved despite weaker traffic and declining brand awareness.
  • Whether the planned marketing increase improves customer acquisition, retention and store/e-commerce traffic.
  • Whether inventory reductions and operating cash flow remain sustainable without harming in-stock availability or sales.
  • Debt, borrowing-base availability and covenant headroom after planned store investment and any stock repurchases.
  • Progress in reaching profitability and evidence supporting future use of deferred tax assets, including the full valuation allowance and NOL limitations.
  • The effect of substantial lease commitments and the expected material balance-sheet impact of adopting the new lease accounting standard.