BBWI

Business Context and Reporting Period

This Form 10-Q covers the thirteen-week period ended May 1, 1999, for The Limited, Inc. (the "Company"), a diversified retailer operating apparel and intimate brands. The filing notes that the Company's fiscal year consists of Spring and Fall selling seasons. The results for the comparable 1998 period include the operations of Abercrombie & Fitch ("A&F"), which was spun off as an independent company on May 19, 1998, making direct year-over-year comparisons for total sales and store counts partially non-comparable.

Key Financial Metrics

Margins: Gross income rate improved to 31.4% in Q1 1999 from 29.2% in Q1 1998. Operating income rate was 3.3% in Q1 1999 versus 7.2% in Q1 1998 (the 1998 rate included a significant one-time gain).

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 5% to $2.105 billion, driven by a 12% increase in comparable store sales. This growth offset the loss of A&F sales and a net reduction of 83 stores (excluding A&F).
• Profitability Decline: Operating income decreased 52% to $69.4 million. This decline is primarily attributable to the absence of a $93.7 million pretax gain from the sale of the Company's remaining interest in Brylane, Inc., which occurred in Q1 1998.
• Segment Performance:
  • Intimate Brands (IBI): Sales increased 14% to $878 million; operating income increased 18% to $84.2 million. Victoria's Secret Stores sales grew 17%, and Bath & Body Works sales grew 26%.
  • Apparel Businesses: Sales increased 10% to $1.158 billion. Operating loss narrowed to $8.0 million from a $27.5 million loss in 1998, driven by improved comparable store sales (12%) and expense leverage.
• Cash Flow: Net cash used for operating activities increased to $217.1 million from $113.9 million in the prior year, largely due to timing of rent payments and increased income tax payments.

Guidance, Outlook, and Risks

Capital Allocation and Transactions:

• Share Repurchase: The Company completed a "Dutch Auction" tender offer on June 3, 1999, repurchasing 15 million shares at $50 per share ($750 million total), funded by the rescission of a Contingent Stock Redemption Agreement which released $351.6 million in restricted cash.
• Divestitures: The Company plans a tax-free spin-off of Limited Too in late July or August 1999. It also signed an agreement to sell a 60% interest in Galyan's Trading Co., expecting approximately $190 million in cash proceeds.
• Debt Issuance: On May 19, 1999, the Company issued $300 million of floating rate notes due between 2000 and 2001.

Capital Expenditures: The Company anticipates spending $440 to $460 million on capital expenditures in 1999, primarily for new stores and remodeling.

Risks and Contingencies:

• Year 2000 Compliance: The Company has incurred $79 million in Y2K expenditures through May 1, 1999, with an additional $6 to $11 million expected. While the Company believes its systems are compliant, it notes risks related to third-party vendors and suppliers.
• Legal Proceedings: The Company is involved in litigation regarding labor practices in Saipan and shareholder derivative actions concerning the rescission of the Contingent Stock Redemption Agreement. Management does not expect these to have a material adverse effect.
• Tax Dispute: The IRS has assessed additional taxes and interest for years 1992-1994 regarding foreign operations. The Company is vigorously contesting this assessment.

Investor Verification Checklist

• Verify the impact of the $93.7 million Brylane gain in 1998 on the year-over-year operating income comparison.
• Confirm the status and closing date of the Galyan's Trading Co. sale and the Limited Too spin-off.
• Review the details of the $300 million floating rate notes issued in May 1999 and their impact on future interest expense.
• Assess the progress of Year 2000 compliance for key third-party vendors and suppliers.
• Monitor the resolution of the IRS tax assessment regarding foreign operations.