Abercrombie & Fitch Co. 2023 Second-Quarter Form 10-Q
Reporting period: Thirteen and twenty-six weeks ended July 29, 2023, compared with July 30, 2022. The provided filing is for Fiscal 2023 second quarter, although the request metadata references 2022 Q2. Fiscal 2023 contains 53 weeks and ends February 3, 2024.
Business Context
Abercrombie & Fitch is a global, digitally led omnichannel apparel retailer selling apparel, personal care products and accessories through digital channels, company-operated stores and third-party arrangements. During the quarter, the Company reorganized its reportable segments geographically into the Americas, EMEA and APAC; prior periods were recast, with no impact on consolidated results.
- Brands: Abercrombie, including Abercrombie & Fitch and abercrombie kids; and Hollister, including Hollister, Gilly Hicks and Social Tourist.
- Second-quarter sales were seasonally within the Spring selling season; the Fall season historically produces the strongest sales because of back-to-school and holiday demand.
Financial Performance
| Metric | 13 Weeks Ended July 29, 2023 | 13 Weeks Ended July 30, 2022 | 26 Weeks Ended July 29, 2023 | 26 Weeks Ended July 30, 2022 |
|---|---|---|---|---|
| Net sales | $935.3 million | $805.1 million | $1.771 billion | $1.618 billion |
| Net sales change | 16.2% | (6.9%) | 9.5% | (1.7%) |
| Comparable sales | 13% | Not disclosed | 8% | Not disclosed |
| Gross profit | $584.4 million | $465.9 million | $1.094 billion | $915.4 million |
| Gross margin | 62.5% | 57.9% | 61.8% | 56.6% |
| Operating income (loss) | $89.8 million | $(2.2) million | $123.9 million | $(11.9) million |
| Operating margin | 9.6% | (0.3%) | 7.0% | (0.7%) |
| Net income (loss) attributable to A&F | $56.9 million | $(16.8) million | $73.5 million | $(33.3) million |
| Diluted EPS | $1.10 | $(0.33) | $1.43 | $(0.65) |
- Second-quarter sales growth was driven primarily by higher average unit retail and positive comparable sales.
- Second-quarter gross margin increased 460 basis points, benefiting from higher average unit retail and lower freight costs, partly offset by higher cotton costs and unfavorable foreign exchange.
- Interest expense, net declined to $1.1 million from $6.9 million because higher cash balances and deposit rates increased interest income.
- The second-quarter effective tax rate was 33.8%; year-to-date tax expense was $42.7 million, representing a 35.8% effective rate.
Segment and Brand Performance
| Segment | Q2 2023 Sales | Year-over-Year Change | Q2 2023 Operating Income (Loss) |
|---|---|---|---|
| Americas | $731.4 million | 19% | $177.1 million |
| EMEA | $172.0 million | 4% | $29.9 million |
| APAC | $32.0 million | 18% | $(0.5) million |
- Abercrombie brand sales increased 26% to $462.7 million, with 23% comparable sales growth.
- Hollister brand sales increased 8% to $472.6 million, with 5% comparable sales growth.
- Year-to-date EMEA sales declined 5%, although comparable sales increased 2%; APAC remained loss-making but improved versus the prior year.
Cash Flow, Liquidity and Debt
- Operating cash flow was $216.3 million for the first 26 weeks, compared with cash used of $259.7 million in the prior-year period.
- Capital expenditures were $89.8 million, compared with $59.6 million in the prior-year period. Fiscal 2023 capital expenditures are expected to be approximately $160 million.
- Cash and equivalents were $617.3 million at July 29, 2023, up from $517.6 million at January 28, 2023. Cash, including restricted cash, totaled $627.1 million.
- Total liquidity was approximately $974.3 million, consisting of cash and available borrowing capacity.
- Gross borrowings were $299.7 million under 8.75% Senior Secured Notes maturing July 15, 2025. No borrowings were outstanding under the $400 million ABL Facility.
- ABL borrowing capacity available after letters of credit and minimum availability requirements was $356.9 million. The Company was in compliance with its debt covenants.
- Inventory declined to $493.5 million from $505.6 million at fiscal year-end.
- The dividend program remains suspended. No shares were repurchased under the authorization during the year-to-date period; $232.2 million remained available for repurchases.
Material Changes Versus the Prior Comparable Period
- Revenue shifted from a prior-year decline to strong growth, with second-quarter sales up 16.2% and comparable sales up 13%.
- Gross margin expanded from 57.9% to 62.5%, and the Company returned to operating profitability from a prior-year operating loss.
- Net income attributable to A&F improved from a $16.8 million loss to $56.9 million of income in the quarter.
- Operating cash flow improved by $476.1 million year over year, primarily reflecting stronger earnings, improved inventory cash flow and working-capital movements.
- Year-to-date capital expenditures increased by approximately $30.2 million, reflecting greater investment in stores, digital and omnichannel initiatives.
- Asset impairment charges were zero in the quarter versus $2.2 million in the prior-year quarter; year-to-date charges were $4.4 million versus $5.6 million.
- The Company opened 15 stores and closed 18 stores year to date, and expects approximately 35 openings and 30 closures during Fiscal 2023, subject to landlord negotiations.
Guidance, Outlook, Commentary and Risks
- Management expects adequate liquidity to fund operations for the next 12 months and plans to prioritize inventory, compensation, marketing, leases, taxes, capital expenditures and digital, store and omnichannel investments.
- Fiscal 2023 priorities include focused brand growth, increased investment behind Abercrombie, optimization of Hollister, Gilly Hicks assortment development, digital modernization, ERP and cloud migration, and maintaining lean inventory levels.
- Freight costs and supply-chain constraints have improved, but cotton, raw-material, labor and other operating-cost inflation remain risks to margins. The Company may not be able to pass higher costs to customers.
- Additional risks include weaker consumer discretionary spending, changing fashion trends, seasonal volatility, foreign-exchange movements, geopolitical conflict, the Ukraine conflict, international operations, cybersecurity and system disruptions, climate-related matters, tax-rate variability and legal contingencies.
- The Company states that no material changes occurred in its reported risk factors from the Fiscal 2022 Form 10-K. Legal proceedings arise in the ordinary course, but the filing does not provide a clear estimate of reasonably possible losses in excess of recorded accruals.
- Management cautions that interim results are not necessarily indicative of full-year performance, particularly given the expected stronger Fall selling season.
Important Facts for Investors to Verify
- Whether the strong comparable-sales and gross-margin momentum persists through the back-to-school and holiday periods.
- The sustainability of higher average unit retail and the effect of cotton, labor, occupancy and other inflationary costs.
- Hollister’s second-half growth execution and APAC’s progress toward profitability.
- Actual Fiscal 2023 capital expenditures, store openings and closures versus the stated expectations.
- Liquidity location and accessibility, including the $205.9 million of cash held by foreign affiliates and the availability restrictions under the ABL Facility.
- Refinancing or repayment plans for the $299.7 million of Senior Secured Notes maturing in July 2025.
- Potential valuation allowances on foreign deferred tax assets and the effect of jurisdictions where tax benefits on pretax losses are not recognized.
- Future share repurchases and any decision by the Board to reinstate dividends.