Abercrombie & Fitch Co. Form 10-Q Summary
Reporting period: Quarterly period ended July 28, 2012; comparable periods ended July 30, 2011. The request metadata identifies “2011 Q2,” but the filing is the Fiscal 2012 second-quarter Form 10-Q. Fiscal 2012 is a 53-week year ending February 2, 2013.
Business Context
Abercrombie & Fitch is a specialty apparel retailer operating Abercrombie & Fitch, abercrombie kids, Hollister and Gilly Hicks brands through U.S. and international stores and direct-to-consumer channels. At quarter-end, the Company operated 1,055 stores, including 936 U.S. stores and 119 international stores.
Financial Results and Liquidity
| Metric | Q2 2012 | Q2 2011 | Change |
|---|---|---|---|
| Net sales | $951.4 million | $916.8 million | Up 4% |
| Gross profit | $594.4 million | $583.0 million | Up 2% |
| Gross margin | 62.5% | 63.6% | Down 110 bps |
| Operating income | $27.0 million | $47.2 million | Down 43% |
| Net income | $15.5 million | $32.0 million | Down 52% |
| Diluted EPS | $0.19 | $0.35 | Down $0.16 |
| Metric | 26 Weeks 2012 | 26 Weeks 2011 |
|---|---|---|
| Net sales | $1.873 billion | $1.753 billion |
| Gross profit | $1.171 billion | $1.127 billion |
| Gross margin | 62.5% | 64.3% |
| Operating income | $33.3 million | $85.9 million |
| Net income | $18.5 million | $57.2 million |
| Diluted EPS | $0.22 | $0.63 |
| Net cash used in operating activities | $(24.3) million | $(5.1) million |
| Capital expenditures | $200.0 million | $133.0 million |
| Share repurchases | $161.2 million | $89.9 million |
- Cash and investments: Cash and equivalents were $312.2 million at July 28, 2012, compared with $583.5 million at January 28, 2012. Marketable securities were $20.1 million.
- Debt and liquidity: Borrowings under the unsecured credit agreement were $75.0 million, with $275.0 million of availability before outstanding letters of credit. No term-loan borrowings were outstanding under the $300 million term loan agreement.
- Balance sheet: Inventory was $621.7 million, up from $569.8 million at year-end and 20% above the prior-year quarter. Total assets were $2.869 billion and stockholders’ equity was $1.696 billion.
- Dividends: Dividends declared were $0.175 per share for the quarter and $0.35 per share year to date.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven by new international stores and direct-to-consumer operations, while total comparable store sales declined 10% in the quarter and 8% year to date.
- U.S. comparable store sales declined 5% in the quarter; international comparable store sales declined 26%. Direct-to-consumer sales, including shipping and handling, increased 25% in the quarter and 33% year to date.
- International store sales increased 29% in the quarter and 35% year to date; U.S. store sales declined 9% and 6%, respectively.
- Gross margin contracted because of higher raw-material costs and unfavorable exchange rates, partly offset by favorable international sales mix.
- Stores and distribution expense increased to 48.1% of sales from 46.4%, primarily due to deleveraging from negative comparable store sales.
- Foreign currency changes reduced second-quarter sales by approximately $15.0 million and year-to-date sales by approximately $20.8 million.
- Weighted-average diluted shares declined to 83.4 million from 90.4 million in the quarter, reflecting share repurchases, but the benefit was more than offset by lower earnings.
- Other comprehensive income was a loss of $10.2 million in the quarter, principally reflecting foreign currency translation losses.
Guidance, Outlook, Risks and Unusual Items
- Management projected second-half comparable store sales to decline approximately 10% and full-year diluted EPS of $2.50 to $2.75, assuming no additional share repurchases. The outlook was described as sensitive to sales trends.
- Management expected inventory to be approximately flat at the end of the third quarter and down at the end of the fourth quarter, following expected improvements in inventory productivity.
- Fiscal 2012 capital expenditures were expected to be approximately $360 million, primarily for new stores, refreshes and remodels.
- Management cited macroeconomic conditions, particularly in Europe, brand cannibalization, insufficient product newness and narrow assortments as contributors to weak comparable sales.
- The Company remained exposed to fashion and demand risk, inventory markdowns, raw-material and freight costs, foreign exchange, international expansion, technology and supply-chain disruptions, seasonal sales volatility, competition, tax-rate changes and store-level impairment risk.
- The Company held $20.1 million of auction-rate securities with $5.1 million of cumulative other-than-temporary impairment charges; these securities were classified as Level 3 and remained subject to liquidity and valuation risk.
- A California wage-and-hour class action had received preliminary settlement approval, with a fairness hearing scheduled for September 12, 2012. A separate California seating-related labor action remained in litigation. The filing states that actual liabilities could exceed recorded reserves.
- The Company reported no long-lived-asset impairment charges during the first 26 weeks and no off-balance-sheet arrangements.
- Management concluded that disclosure controls and procedures were effective as of July 28, 2012, and reported no material changes in internal control over financial reporting.
Investor Verification Checklist
- Verify the filing period and comparable dates, particularly because the request metadata refers to 2011 Q2 while the filing covers Q2 Fiscal 2012.
- Assess whether the projected second-half 10% comparable-sales decline and $2.50 to $2.75 EPS outlook were achieved.
- Monitor inventory levels, markdown reserves and gross margin recovery, given inventory growth and weaker comparable sales.
- Review liquidity after capital expenditures, dividends, share repurchases and operating cash outflows, including the use of the credit facility.
- Evaluate European demand, currency effects and the profitability of international store expansion.
- Review the status and ultimate cost of the California wage-and-hour settlement and the separate seating-related litigation.
- Assess the valuation and liquidity of the remaining auction-rate securities and the Company’s exposure to variable interest rates and foreign exchange.