Bath & Body Works, Inc. annual report, FY2010

Filing scope and business context

The supplied filing is Limited Brands, Inc.’s Form 10-K for fiscal 2010, a 52-week year ended January 29, 2011—not a 2009 Q4 filing. Bath & Body Works is one of the company’s two reportable segments; the other is Victoria’s Secret, which includes La Senza. The company sells through stores, websites, catalogs, and franchise and wholesale channels.

Financial performance and liquidity

• Comparable-store sales rose 9% for the year, versus a 4% decline in FY2009. Bath & Body Works sales were $2.515 billion, up 6%; segment operating income was $464 million, up from $358 million.
• At January 29, 2011, cash was $1.130 billion, working capital was $1.088 billion, and the current ratio was 1.7. Long-term debt was $2.507 billion, down from $2.723 billion; debt-to-equity was 170%, versus 125% a year earlier.
• The amended revolving facility had $800 million in commitments and $755 million available after letters of credit; there were no borrowings outstanding. The company reported compliance with its debt covenants.
• Financing cash outflow was $1.857 billion, principally reflecting $1.488 billion of dividends, $207 million of share repurchases, and debt repayments, partly offset by $390 million net proceeds from a 2020 note issuance. Cash declined $674 million over the year.
• FY2010 included $4.60 per share in dividends, including special dividends of $1 and $3 per share. Total assets were $6.451 billion and shareholders’ equity was $1.476 billion.

Changes and notable items

• FY2010 sales increased 11%; operating income rose $416 million. Management attributed improved profitability chiefly to stronger assortments and selling, higher merchandise margins, reduced promotions, and expense leverage and control.
• Victoria’s Secret sales increased 12% to $5.918 billion, with 13% comparable-store growth. Bath & Body Works sales increased 6% to $2.515 billion, with 5% comparable-store growth. La Senza sales declined 6% to $398 million, including a $32 million favorable currency effect.
• Other income was $173 million, including gains associated with Express and the divestiture of Limited Stores. These included a $52 million Express IPO-related gain, $49 million from an Express distribution, $45 million from Express share sales, a $20 million Limited Stores divestiture gain, and a $7 million Express dividend gain. A $25 million loss arose from early retirement of notes.
• FY2010 net income and EPS also reflected these and other identified items; management estimated their combined effect on EPS at $0.36. A $6 million Victoria’s Secret sub-brand impairment was recorded. FY2009 included a $9 million joint-venture-related operating gain and favorable tax benefits.
• Cash returned to shareholders was substantial, while year-end cash fell from $1.804 billion to $1.130 billion. The company issued $400 million of 7% notes due 2020 and repurchased portions of its 2012 and 2014 notes.

Outlook, risks and contingencies

• Management described the retail environment as uncertain, said it would continue conservative financial management, and emphasized merchandise, marketing, store experience, and execution of retail fundamentals. It stated that its brands were well positioned, but provided no specific earnings or sales guidance in the supplied text.
• For 2011, the company anticipated approximately $400 million of capital expenditures and about 35 new stores in the U.S. and Canada. Planned expansion included additional Canadian stores and partner-operated international locations; the filing also described a planned London Victoria’s Secret flagship for 2012.
• Key risks include discretionary consumer spending and mall traffic, seasonal dependence on holiday sales and inventory, competition and fashion execution, foreign sourcing and shipping disruptions, currency movements, input and energy costs, labor costs, international partners, information systems and data security, and the ability to service debt or maintain credit access.
• Contractual obligations totaled $9.740 billion, including $3.073 billion of operating lease obligations and $1.597 billion of purchase obligations. The company also had approximately $97 million of guarantees for leases of previously divested businesses; it recorded no liability for guarantees it judged not probable to be paid.
• A securities class action relating to stock purchases in 2007–2008 remained pending. The company said it believed the claims were without merit but could not reasonably estimate a possible loss range. Management did not expect ordinary-course litigation to materially affect financial position or results.
• Auditors issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded controls were effective.

Important facts for investors to verify

• Confirm the intended filing and period: this is Limited Brands’ FY2010 10-K, with Q4 FY2010 comparisons, rather than a Bath & Body Works standalone filing or 2009 Q4 report.
• Assess how much of FY2010 earnings growth came from ongoing retail operations versus Express and Limited Stores gains, tax effects, debt-retirement costs, and other unusual items.
• Review segment-level trends, particularly La Senza’s sales decline and the drivers and sustainability of Bath & Body Works’ margin improvement.
• Evaluate liquidity after special dividends and repurchases, future capital spending, debt maturities and interest-rate swaps that converted portions of fixed-rate debt to variable rates.
• Monitor lease and purchase commitments, divested-business lease guarantees, tax uncertainties, and the unresolved securities litigation.