The Gap, Inc. — Form 10-Q Summary
Period clarification: The filing is for the 13 and 39 weeks ended October 29, 2016 (fiscal 2016 Q3), not 2015 Q3 as specified in the request metadata. Comparative periods ended October 31, 2015. Amounts below are in U.S. dollars.
Business context and reporting period
Gap is a global apparel retailer operating Gap, Old Navy, Banana Republic, Athleta, and Intermix through stores, online channels, and franchises. It reports one aggregated segment. Management described apparel retail trends as challenging and said the improvement in business performance was not progressing at the desired pace.
Key financial metrics
| Metric | 13 weeks ended Oct. 29, 2016 | 13 weeks ended Oct. 31, 2015 | 39 weeks ended Oct. 29, 2016 | 39 weeks ended Oct. 31, 2015 |
|---|---|---|---|---|
| Net sales | $3.798bn | $3.857bn | $11.087bn | $11.412bn |
| Gross profit / margin | $1.493bn / 39.3% | $1.440bn / 37.3% | $4.139bn / 37.3% | $4.280bn / 37.5% |
| Operating income / margin | $389m / 10.2% | $414m / 10.7% | $890m / 8.0% | $1.169bn / 10.2% |
| Net income | $204m | $248m | $456m | $706m |
| Diluted EPS | $0.51 | $0.61 | $1.14 | $1.69 |
- Third-quarter comparable sales declined 3%, including an estimated 2-percentage-point negative impact from the Fishkill distribution-center fire; they declined 2% in the prior-year quarter. For the 39 weeks, comparable sales fell 3% in both years.
- Third-quarter comparable sales by brand: Gap Global down 8%, Old Navy Global up 3%, and Banana Republic Global down 8%. For the 39 weeks, they were down 5%, down 1%, and down 9%, respectively.
- Operating cash flow was $800m versus $734m; capital expenditures were $383m versus $505m; free cash flow, a non-GAAP measure, was $417m versus $229m. Cash dividends paid were $275m.
- At October 29, cash and equivalents were $1.522bn; current assets were $4.671bn and current liabilities $2.915bn. Debt was $424m current and $1.320bn long-term. The $500m revolving facility had no borrowings.
Material changes versus the prior comparable period
- Quarterly sales fell 2%, while gross margin improved 2.0 percentage points, primarily from better product acceptance and margins at Old Navy. Operating margin nevertheless fell 0.5 percentage points, with higher restructuring and impairment charges.
- For the 39 weeks, sales fell 3%, operating income fell $279m, and net income fell $250m. The effective tax rate rose to 45.6% from 37.6%, mainly due to restructuring costs at foreign subsidiaries and valuation allowances on certain foreign deferred tax assets.
- Operating cash flow improved by $66m; lower capital spending contributed to a $125m reduction in investing cash outflows. Financing cash outflows declined by $425m, chiefly because the company made no share repurchases, compared with $822m of repurchases in the prior-year period.
Outlook, commentary, risks, and unusual items
- Management expected about $275m in annualized pretax savings from store closures and operating-model streamlining, alongside an estimated $250m annualized sales loss. Fiscal 2016 restructuring costs were estimated at $210m–$240m pretax; $179m had been incurred through the 39-week period. About 75 store closures were expected in fiscal 2016, including all 53 Old Navy stores in Japan and select Banana Republic stores, primarily internationally.
- The August 29 Fishkill distribution-center fire caused $117m of inventory, property, and other costs in the quarter. Expected insurance recoveries fully offset those costs in the reported period; $44m remained receivable at quarter-end after $73m in advances. Management expected further costs and recoveries, and warned of lower sales and higher logistics costs for the rest of fiscal 2016.
- Management expected foreign-exchange movements to continue to weigh meaningfully on full-year results, primarily gross margin. It believed cash and operating cash flows would fund operations, growth initiatives, and planned capital expenditures for at least 12 months, with the revolving facility or other instruments available to supplement liquidity if needed.
- The company intended to pay a fiscal 2016 annual dividend of $0.92 per share, consistent with fiscal 2015. No shares were repurchased in the reported quarter; $1bn remained under the February 2016 authorization.
- Key risks include consumer demand and apparel trends, competition, inventory and margin execution, foreign exchange, global sourcing and supply-chain disruptions, store and lease decisions, IT or data-security incidents, and natural or other disasters. Litigation and other proceedings were described as ordinary-course matters; recorded loss liabilities were not material. The filing reported no material change in internal controls.
Important facts for investors to verify
- Whether the planned savings and store rationalization offset the expected sales loss, restructuring charges, and elevated tax expense.
- How the Fishkill fire affects holiday-period product availability, sales, logistics costs, and final insurance recoveries.
- Whether Gap and Banana Republic sales and comparable-sales trends improve, and whether Old Navy sustains its relative strength.
- Whether foreign-exchange headwinds, inventory management, and occupancy-cost deleverage affect future margins and cash generation.
- The debt maturity profile and use of the remaining share-repurchase authorization alongside the stated dividend policy.