Levi Strauss & Co. — Form 10-Q summary
Period discrepancy: The request identifies 2018 Q2, but the filing is for the quarter and six months ended May 26, 2019 (fiscal 2019 Q2), compared with periods ended May 27, 2018.
Business context
Levi Strauss designs, markets and sells apparel under Levi’s, Dockers, Signature by Levi Strauss & Co. and Denizen brands. It reports in the Americas, Europe and Asia and sells through wholesale and direct-to-consumer (DTC) channels. For the first six months of 2019, wholesale represented 61% of revenue and DTC 39%; Levi’s products represented 87%.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net revenue | $1,312.9m | $1,245.7m | $2,747.4m | $2,589.4m |
| Gross margin | 53.3% | 53.9% | 54.0% | 54.4% |
| Operating income | $62.9m | $77.3m | $263.8m | $252.2m |
| Operating margin | 4.8% | 6.2% | 9.6% | 9.7% |
| Net income | $28.5m | $77.0m | $175.0m | $58.4m |
| Diluted EPS | $0.07 | $0.19 | $0.44 | $0.14 |
Q2 reported revenue rose 5.4% (9.2% constant currency); first-half revenue rose 6.1% (10.0% constant currency). Growth spanned all three regions. Q2 operating income fell 18.6%, as SG&A rose 7.4%, notably advertising and promotion expense, while gross margin also declined. First-half operating income increased 4.6%. First-half net income increased mainly because the comparable 2018 period included a substantial one-time Tax Act charge; the 2019 effective tax rate was 15.8%, versus 74.0%.
Regional Q2 revenue growth was 3.4% in the Americas, 8.6% in Europe and 6.1% in Asia as reported; constant-currency growth was 4.0%, 17.8% and 12.2%, respectively. DTC expansion and store growth supported sales, while currency translation reduced reported results, particularly in Europe and Asia.
Cash flow, debt and liquidity
- Six-month operating cash flow was $161.8m, down from $227.6m. Capital expenditure was $77.0m, compared with $61.2m; investing cash outflow was $143.2m.
- Financing provided $131.0m, mainly reflecting $254.3m of IPO proceeds, partly offset by dividends, offering costs and share-related payments. Cash and cash equivalents ended at $860.9m; short-term investments were $79.7m.
- Total debt was $1,022.6m, primarily fixed-rate senior notes; reported net debt was $82.0m. The company reported $805.6m of unused revolving-credit availability and total liquidity of approximately $1.7bn.
- Management said liquidity should be adequate for the next 12 months. The company was in material compliance with debt covenants at quarter-end.
Material changes, outlook and risks
- The March 2019 IPO raised $234.6m net for the company. It also paid $24.9m of underwriting commissions on behalf of selling stockholders, recorded as a Q2 non-operating expense, and incurred $3.5m of other IPO costs in SG&A. These items weighed on reported Q2 earnings.
- The IPO ended the contractual put right on certain employee awards and prompted reclassification of temporary equity to permanent equity. A ten-for-one stock split was reflected retroactively in share data.
- Management gave no specific revenue or earnings guidance in the supplied filing text. Capital priorities include organic investment, dividends targeted at least equal to the most recent annual $110m dividend, potential repurchases to offset equity-plan dilution, and strategic acquisitions. Dividends remain at board discretion.
- Management cited consumer-spending uncertainty, retail and wholesale competition, promotional pressure, foreign exchange volatility, sourcing and raw-material costs, and possible tariff and trade-policy changes. Gross margin faces currency and product-cost pressures; store expansion and advertising add expense.
- Customs-duty assessments and appeals are ongoing; the company disputes the claims and says their ultimate resolution is uncertain. It does not expect ordinary-course litigation to materially affect results. The company expects adoption of the new lease standard in fiscal 2020 to materially affect its balance sheet.
Important facts for investors to verify
- Confirm the intended reporting period: this filing covers 2019 Q2, not 2018 Q2.
- Assess whether revenue growth can continue to translate into operating-profit and margin growth given Q2 margin compression and higher SG&A.
- Review the quality of first-half earnings growth, separating operating performance from the prior-year Tax Act charge and current-period IPO-related costs.
- Monitor cash conversion, inventory, capital spending and the company’s planned dividends and other capital allocation.
- Track currency, trade-policy and customs-duty exposures, as well as the effect of store expansion and the forthcoming lease-accounting change.