Abercrombie & Fitch Co. Form 10-Q Summary
Reporting period: Thirteen and thirty-nine weeks ended October 31, 2015, compared with periods ended November 1, 2014. The provided filing is for Fiscal 2015 third quarter, although the request metadata identifies “2014 Q3.” The interim financial statements are unaudited.
Business Context
Abercrombie & Fitch is a specialty apparel and accessories retailer operating the Abercrombie, abercrombie kids and Hollister brands through stores and direct-to-consumer channels in North America, Europe, Asia and the Middle East. At October 31, 2015, the Company operated 965 stores, compared with 992 stores at November 1, 2014.
Financial Performance
| Metric | Q3 Fiscal 2015 | Q3 Fiscal 2014 | Year-to-date Fiscal 2015 | Year-to-date Fiscal 2014 |
|---|---|---|---|---|
| Net sales | $878.6 million | $911.5 million | $2.406 billion | $2.624 billion |
| Gross profit | $559.8 million | $567.1 million | $1.481 billion | $1.632 billion |
| Gross margin | 63.7% | 62.2% | 61.6% | 62.2% |
| Operating income (loss) | $41.0 million | $33.4 million | $(47.2) million | $21.4 million |
| Net income (loss) attributable to A&F | $41.9 million | $18.2 million | $(22.2) million | $7.4 million |
| Diluted EPS | $0.60 | $0.25 | $(0.32) | $0.10 |
Q3 sales declined 4%, primarily reflecting approximately $33 million of adverse foreign-exchange impact and a 1% comparable-sales decline. Comparable sales improved at Hollister by 3% and internationally by 1%, while Abercrombie comparable sales declined 5%.
Q3 GAAP operating margin increased to 4.7% from 3.7%. Adjusted non-GAAP operating income was $51.1 million, or 5.8% of sales, versus $53.6 million, or 5.9%, in the prior-year quarter. Year-to-date adjusted non-GAAP operating income declined to $15.2 million from $59.6 million.
Q3 earnings benefited from a lower tax rate, including a $5.9 million valuation-allowance release and other discrete tax benefits. The reported Q3 tax benefit was $5.9 million, compared with tax expense of $9.6 million in the prior-year quarter.
Cash Flow, Liquidity and Debt
- Cash and equivalents were $405.6 million at October 31, 2015, versus $520.7 million at January 31, 2015.
- Year-to-date operating cash flow was $66.5 million, compared with $29.5 million in the prior-year period.
- Capital expenditures were $105.2 million year-to-date; investing cash outflow was $84.6 million.
- Financing cash outflow was $93.8 million, including $50.0 million of share repurchases and $41.7 million of dividends.
- Gross term-loan borrowings were $297.0 million, or $289.6 million net of discount and fees. The term loan carried a 4.75% interest rate and matures in August 2021.
- No borrowings were outstanding under the $400 million asset-based revolving credit facility; the October 31 borrowing base was $391.1 million.
- Inventory increased to $601.5 million from $460.8 million at January 31, 2015, including a $29.3 million lower-of-cost-or-market reserve.
Material Changes and Unusual Items
- Year-to-date sales fell 8%, with approximately $124 million of adverse foreign-exchange impact and a 4% comparable-sales decline.
- Year-to-date results included a $21.7 million net inventory write-down, $18.2 million of asset impairments and $15.8 million of legal settlement charges.
- Q3 included $12.1 million of non-cash asset impairment charges, primarily related to the Abercrombie & Fitch flagship store in Hong Kong.
- The Company recorded a $1.6 million year-to-date restructuring benefit related to better-than-expected lease exit terms for the Gilly Hicks store closure program. Approximately $2.6 million remained in the related liability at October 31, 2015.
- The Company repurchased approximately 2.5 million shares for $50 million during Q3 and had approximately 6.5 million shares remaining under its repurchase authorization.
- Management reported approximately $18 million of accrued legal contingencies, in addition to claims and proceedings for which no accrual had been established.
Guidance, Outlook and Risks
- For Q4 Fiscal 2015, management expected comparable sales to be approximately flat, continued adverse foreign-currency effects and gross margin approximately flat with the prior year on a constant-currency basis.
- Q4 operating expense dollars were expected to be approximately flat with the prior year after absorbing a provision for restoration of incentive compensation.
- Fiscal 2015 capital expenditures were expected to be approximately $150 million. Management expected seven additional store openings and approximately 40 U.S. store closures in Q4.
- Management expected a full-year adjusted non-GAAP effective tax rate in the mid-to-upper 30s and a go-forward annual effective tax rate in the upper 30s.
- Potential future impairment, store-closing, restructuring and related tax charges were excluded from the outlook.
- Key risks include foreign-currency volatility, inventory and fashion-demand risk, consumer spending weakness, competition and pricing pressure, international expansion, direct-to-consumer execution, store and lease obligations, litigation, leadership transition, information-technology and cybersecurity events, supply-chain disruption and restrictive credit-facility covenants.
Facts Investors Should Verify
- Confirm the applicable period: the filing covers Q3 Fiscal 2015 ended October 31, 2015, not Q3 Fiscal 2014.
- Reconcile GAAP earnings with adjusted non-GAAP results and identify the effect of inventory write-downs, impairments, legal settlements and tax benefits.
- Assess whether inventory growth and the increased lower-of-cost-or-market reserve indicate elevated markdown or clearance risk.
- Review cash generation after capital expenditures, dividends and share repurchases, particularly given the year-to-date net loss and seasonal cash-flow pattern.
- Evaluate the sustainability of the improved Q3 gross margin and comparable-sales trends after removing foreign-exchange and discrete tax effects.
- Monitor legal contingencies, pending store closures, international store performance and future impairment charges.