Business context and reporting period
The supplied filing is L Brands, Inc.’s unaudited Form 10-Q for the 13 and 26 weeks ended August 2, 2014—not a standalone Bath & Body Works filing and not a 2013 Q2 filing. Bath & Body Works is one of L Brands’ reporting segments. L Brands operates Victoria’s Secret, PINK, Bath & Body Works, La Senza and Henri Bendel brands.
Key financial metrics
Amounts are in millions of dollars except per-share data. Comparisons are with the corresponding 2013 period.
| Metric | Q2 2014 | Q2 2013 | Year to date 2014 | Year to date 2013 |
|---|---|---|---|---|
| Net sales | $2,675 | $2,516 | $5,066 | $4,784 |
| Gross profit | $1,044 | $989 | $2,026 | $1,930 |
| Gross margin | 39.0% | 39.3% | 40.0% | 40.3% |
| Operating income | $376 | $358 | $712 | $669 |
| Operating margin | 14.1% | 14.2% | 14.1% | 14.0% |
| Net income | $188 | $178 | $345 | $321 |
| Diluted EPS | $0.63 | $0.61 | $1.16 | $1.09 |
- Q2 comparable-store sales rose 3% (versus 2%); consolidated sales increased 6%. Bath & Body Works sales were $704 million, up 6%, with segment operating income of $115 million, up 8%. Its comparable-store sales increased 3%.
- Year-to-date operating cash flow was $446 million versus $354 million. Capital expenditures were $349 million versus $383 million; operating cash flow less capital expenditures was $97 million versus negative $29 million.
- At August 2, cash was $1.147 billion, total debt was $4.972 billion (including $214 million current), and shareholders’ deficit was $504 million. Working capital was $1.119 billion. The $1 billion revolving facility had no borrowings outstanding; $8 million of letters of credit reduced availability to $992 million.
- Q2 interest expense was $82 million; average borrowing rate was 6.65%. Year-to-date dividends paid were $491 million, including a $1.00-per-share special dividend; share repurchases were $48 million.
Material changes versus prior comparable periods
- Q2 sales increased $159 million and operating income increased $18 million, but gross margin declined 0.3 percentage points and operating margin declined 0.1 points. Year-to-date sales increased $282 million and operating income increased $43 million.
- Bath & Body Works Q2 sales growth included an 18% increase in direct-channel sales; store sales rose 4%. Management cited strength across home fragrance, Signature Collection, soaps and sanitizers.
- Victoria’s Secret Q2 sales rose 5%; its direct sales were roughly flat as apparel declines offset gains in core categories. International segment sales rose 70%, primarily reflecting new stores and partner growth.
- “Other” segment operating loss widened to $49 million in Q2 from $31 million, with increased La Senza promotional activity cited as a factor. Year-to-date loss widened to $86 million from $62 million.
- Cash declined by $372 million from the fiscal-year start, principally as financing outflows—including higher dividends—exceeded operating cash flow. Debt was broadly unchanged from February 1, 2014.
Outlook, commentary, risks and unusual items
- No specific earnings or sales guidance is provided in the supplied filing text. Management described the retail environment as uncertain, emphasized conservative financial management and retail execution, and highlighted investment in merchandise, marketing, stores and online experiences.
- The revolving credit facility was extended to July 18, 2019. Its financial covenants require fixed-charge coverage of at least 1.75:1 and debt to EBITDA no greater than 4.00:1; the company reported compliance and a debt-to-EBITDA ratio below 3.00:1.
- Risks identified include consumer spending and mall traffic, competition and fashion trends, international expansion and foreign exchange, sourcing and shipping disruption, product safety, data security, labor costs, debt service and refinancing, and legal and tax matters.
- Contingencies include approximately $33 million of guarantees on former businesses’ lease payments; management said payments were not probable and no liability was recorded for those guarantees. A separate Easton Gateway investment and construction-loan guarantees had an estimated maximum potential loss of $45 million, including a $35 million investment and $10 million of guarantee exposure.
- A patent case had a prior $9 million jury award plus future royalties; the company was appealing and believed the appeal should succeed after the patents at issue were found invalid in a separate proceeding. The interim financial statements received an accountant’s review, not an audit.
Important facts for investors to verify
- Confirm the intended entity and reporting period: this is L Brands’ Q2 2014 filing, with Bath & Body Works reported as a segment.
- Assess whether continued sales growth can offset gross-margin pressure, promotional activity and the widening losses in “Other.”
- Review debt maturities, interest-rate swap exposure, covenant headroom and the refinancing of the $214 million notes due November 2014.
- Evaluate the cash-flow and liquidity implications of the special dividend, ongoing capital spending and any future shareholder returns.
- Monitor the Easton Gateway guarantees, former-business lease guarantees and patent litigation outcome.