Carter’s, Inc. — Form 10-Q Summary
Period clarification: The supplied filing is for the unaudited fiscal second quarter and first half ended July 3, 2010, compared with periods ended July 4, 2009. This does not match the request metadata of “2009 Q2.” Carter’s designs, sources, and markets children’s apparel through wholesale, retail, mass-channel, and licensing businesses.
Financial performance
| Metric | Q2 2010 | Q2 2009 | First half 2010 | First half 2009 |
|---|---|---|---|---|
| Net sales | $327.0 million | $326.3 million | $736.1 million | $683.5 million |
| Gross profit / margin | $130.3 million / 39.8% | $124.7 million / 38.2% | $297.1 million / 40.4% | $252.4 million / 36.9% |
| Operating income / margin | $33.4 million / 10.2% | $29.4 million / 9.0% | $104.6 million / 14.2% | $58.3 million / 8.5% |
| Net income | $19.1 million | $16.6 million | $61.9 million | $33.2 million |
| Diluted EPS | $0.32 | $0.28 | $1.03 | $0.57 |
- Q2 sales were nearly unchanged year over year, while net income rose 14.8%. First-half sales grew 7.7%, operating income rose 79.4%, and net income rose 86.3%.
- First-half growth and margin improvement reflected stronger Carter’s wholesale and retail performance, improved retail gross margins, higher Carter’s wholesale and mass-channel margins, and the absence of prior-year workforce and facility charges. Q2 SG&A rose 4.6% to $104.5 million, including higher legal and eCommerce costs; retail expenses as a percentage of retail sales also increased.
- First-half operating cash flow was $15.3 million, down from $29.2 million, primarily because of working-capital movements despite higher earnings. Capital expenditures were $20.7 million versus $18.0 million.
Financial position and liquidity
- At July 3, 2010, cash and cash equivalents were $245.0 million; current assets were $642.5 million and current liabilities $156.4 million. Inventories were $260.7 million, up from $214.0 million at fiscal year-end; management cautions that seasonal balances are not directly comparable.
- Term Loan debt was $232.8 million, after a $100 million voluntary prepayment in Q2 plus scheduled amortization. There were no Revolver borrowings and approximately $8.6 million of letters of credit outstanding. The $125 million Revolver expires July 14, 2011; the Term Loan matures July 14, 2012, with $227.9 million due at maturity.
- Management reported compliance with debt covenants and substantial headroom: actual leverage was 0.84x against a maximum of 3.00x. The company stated cash, operating cash flow, and Revolver availability should fund foreseeable working-capital and capital needs, but gave no assurance.
Business changes, outlook, and risks
- Q2 Carter’s retail and wholesale sales increased, but Carter’s mass-channel sales fell 12.3%, largely from lower Child of Mine sales at Walmart following assortment and floor-space reductions. OshKosh wholesale sales declined; OshKosh retail comparable-store sales fell 4.9%, and the segment recorded a Q2 operating loss of $2.8 million.
- Comparable-store sales in Q2 declined 4.3% at Carter’s and 4.9% at OshKosh; management cited reduced store traffic and, for Carter’s, the Easter holiday shift. The company had 289 Carter’s and 175 OshKosh stores at quarter-end and planned 30 Carter’s and 13 OshKosh openings, alongside five and three planned closures, respectively, in fiscal 2010.
- Management planned approximately $45 million of fiscal 2010 capital expenditures, mainly for store openings, remodels, and wholesale fixtures. No full-year earnings or revenue guidance is provided in the supplied filing text. Management noted that roughly 57% of sales historically occur in the second half, so first-half results may not indicate full-year performance.
- Risks include anticipated increases in cotton, labor, and transportation costs and Asian currency appreciation; pressure on apparel selling prices; dependence on foreign vendors and major customers; consumer-spending and store-traffic weakness; variable-rate debt; and possible financing-market disruption. A 1% rate change on unhedged variable debt was estimated to change annual interest cost by about $1.0 million.
- Material weaknesses in internal control over financial reporting remained unresolved, and management concluded disclosure controls were not effective as of July 3, 2010. Remediation was underway, including procedures addressing customer accommodations and related accounting.
- The company disclosed shareholder class and derivative litigation concerning prior disclosures and customer discounts/accommodations, as well as SEC and U.S. Attorney inquiries into customer margin support. It said the duration, cost, scope, and outcome could not be predicted; related legal expenses increased SG&A. Gross unrecognized tax benefits were approximately $8.5 million.
- Unusual items: the Q2 debt prepayment resulted in a $0.5 million write-off of debt issuance costs. No workforce-reduction or facility-closure charges were recorded in the first half of 2010, compared with $11.4 million in the first half of 2009.
Important facts for investors to verify
- Confirm the intended reporting period: this filing covers Q2 and the first half of fiscal 2010, not Q2 2009.
- Track remediation and independent assessment of the disclosed material weaknesses, particularly controls over customer accommodations and revenue accounting.
- Monitor developments and potential costs from the SEC and U.S. Attorney inquiries, shareholder lawsuits, and related legal matters.
- Assess whether Carter’s can sustain margin gains while addressing softer store traffic, Walmart assortment reductions, and anticipated sourcing-cost increases.
- Review cash generation, seasonal inventory and receivables, planned capital spending and store expansion, and the 2011 Revolver and 2012 Term Loan maturities.