Business context and reporting period
L Brands, Inc. (formerly Limited Brands, Inc.; name changed March 22, 2013) filed this unaudited Form 10-Q for the 13 weeks ended May 4, 2013, compared with the 13 weeks ended April 28, 2012. Bath & Body Works is one of the company’s two reportable segments; this is a consolidated parent-company filing, not a standalone Bath & Body Works filing. The company operates Victoria’s Secret, PINK, Bath & Body Works, La Senza and Henri Bendel. Interim statements received an independent accountant’s review, not an audit.
Financial performance and position
| Metric | Q1 2013 | Q1 2012 |
|---|---|---|
| Net sales | $2.268 billion | $2.154 billion |
| Gross profit / margin | $941 million / 41.5% | $902 million / 41.9% |
| Operating income / margin | $311 million / 13.7% | $293 million / 13.6% |
| Net income | $143 million | $125 million |
| Diluted EPS | $0.48 | $0.41 |
| Operating cash flow | $(120) million | $(183) million |
| Capital expenditures | $149 million | $136 million |
| Dividends per share | $0.30 | $0.25 |
Revenue rose 5%; comparable store sales increased 3%, versus 7% in the prior-year quarter. The gross margin contracted 0.4 percentage points, while operating margin improved 0.1 point. Interest expense was $79 million versus $78 million; the effective tax rate declined to 39.3% from 41.6%.
At May 4, 2013, cash was $382 million, down from $773 million at February 2, 2013 and $1.286 billion a year earlier. Current assets were $1.904 billion and current liabilities $1.270 billion. Inventory was $1.115 billion, up from $1.004 billion at fiscal year-end. Long-term debt was $4.475 billion, approximately unchanged from February 2, 2013; shareholders’ deficit was $994 million. The company had $988 million of remaining credit-facility availability, including the effect of $12 million in letters of credit, and no revolver borrowings.
Material changes and segment results
- Victoria’s Secret: Sales increased 2% to $1.505 billion, but operating income fell 7% to $260 million; operating margin declined to 17.2% from 18.9%. Management cited marketing-campaign timing and investment in real estate and the in-store experience. Direct sales declined 6%, partly reflecting reduced apparel styles and inventory as the brand refocused on core categories.
- Bath & Body Works: Sales increased 5% to $530 million and operating income rose 21% to $72 million; operating margin improved to 13.7% from 11.9%. Management attributed results to strong sales and expense leverage.
- Other: Sales increased 30% to $233 million, primarily from international operations and wholesale/franchise growth. Operating loss narrowed to $21 million from $45 million.
- Cash used in operations improved by $63 million year over year, but remained an outflow, reflecting seasonal working-capital movements. Investing used $158 million; financing used $112 million, including $87 million of dividends and $55 million of share repurchases. In Q1 2012, financing provided $656 million, including $985 million of net proceeds from debt issuance.
Outlook, risks and contingencies
No specific earnings, sales or comparable-store-sales guidance is provided in the filing. Management described the retail environment as uncertain, said it would manage conservatively and focus on retail execution, merchandise, marketing, and store and online experiences. It stated that available capital resources were sufficient for foreseeable requirements. Retail seasonality is significant: sales generally peak in the fourth quarter, while inventory needs build during summer and fall.
Risks identified include consumer demand and economic conditions, mall traffic and store-site availability, competition and fashion trends, international expansion and currency exposure, sourcing and shipping disruptions, labor and input costs, brand and intellectual-property protection, information technology and data protection, regulation, taxes, debt servicing and refinancing, and litigation. All long-term debt carried fixed interest rates; the company reported no outstanding interest-rate swaps and said it complied with revolving-facility covenants. Its estimated debt fair value ($5.071 billion) exceeded carrying value ($4.475 billion).
Potentially significant contingencies include approximately $50 million of guarantees for leases of previously disposed businesses, for which management had recorded no liability where payment was not considered probable; certain other guarantee obligations had a $2 million estimated fair value. A patent-infringement judgment included $9 million in past damages plus future royalties through 2015; the company appealed, and the appeal was stayed pending another case addressing the validity of the patents. Management believed the appeal should succeed and intended to defend the matter. Management said ordinary-course litigation was not expected to have a material adverse effect.
Key facts for investors to verify
- Confirm the consolidated L Brands figures are appropriate for the intended Bath & Body Works analysis; standalone brand financial statements are not provided.
- Assess whether the improvement in Bath & Body Works operating income and sales is sustainable, and how much reflects expense leverage versus merchandise demand.
- Review the causes and seasonality of negative operating cash flow and the increase in inventory, alongside planned capital spending.
- Evaluate the substantial debt burden, fixed interest costs, covenant headroom and refinancing needs; verify current credit ratings and liquidity availability.
- Track the patent appeal and lease guarantees, as well as international growth, currency, sourcing and consumer-demand risks.