Business Context and Reporting Period
Company: Genesco Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: August 1, 1998 (Second Quarter of Fiscal 1999)
Business Overview: Genesco manufactures, sources, markets, and distributes footwear (Johnston & Murphy, Dockers, Nautica), tans leather (Volunteer Leather), and operates retail stores (Journeys, Johnston & Murphy, Underground Station). The company is currently transitioning out of its Jarman leased department business due to the Dillards/Mercantile merger and has divested its western boot business.
Key Financial Metrics
| Metric (in thousands) | Q2 1998 | Q2 1997 | 6 Months 1998 | 6 Months 1997 |
|---|---|---|---|---|
| Net Sales | $132,049 | $120,024 | $265,857 | $234,209 |
| Gross Margin | $57,751 | $49,128 | $115,572 | $97,000 |
| Gross Margin % | 43.7% | 40.9% | 43.5% | 41.4% |
| Operating Income | $8,539 | $6,295 | $14,376 | $10,736 |
| Net Earnings | $2,974 | $4,133 | $6,762 | $6,315 |
| Diluted EPS (Net) | $0.14 | $0.15 | $0.28 | $0.23 |
| Cash & Short-term Investments | $53,249 | $17,624 | $53,249 | $17,624 |
| Long-term Debt | $103,500 | $75,000 | $103,500 | $75,000 |
| Working Capital | $140,236 | $117,819 | $140,236 | $117,819 |
Note: Net earnings for Q2 and 6 months 1998 include an extraordinary loss of $3.651 million related to the early retirement of debt.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 10.0% in Q2 and 13.5% for the six months compared to the prior year. On a pro forma basis excluding the divested western boot business, sales growth was 18.1% (Q2) and 20.5% (6 months).
- Profitability: Operating income improved significantly due to higher gross margins (driven by sales mix changes) and a $2.4 million restructuring gain from the sale of the western boot business. However, net earnings declined in Q2 compared to the prior year primarily due to the $3.7 million extraordinary loss on debt retirement.
- Debt Restructuring: The company issued $103.5 million in 5.5% convertible subordinated notes in April 1998. Proceeds were used to redeem $75 million of 10.375% senior notes, reducing interest rates but incurring a one-time loss.
- Divestiture: Completed the sale of the western boot business (including 26 Boot Factory stores) to Texas Boot Inc. in July 1998, eliminating approximately 640 jobs.
- Working Capital: Cash used in operations was $17.3 million for the six months, driven by a $24.4 million increase in inventory to support new store openings and seasonal demand.
Guidance, Outlook, and Risks
- Accelerated Growth Plan: To offset the loss of the Jarman leased department business (due to the Dillards/Mercantile merger), Genesco plans to open 51 additional Journeys stores and 5 Johnston & Murphy stores over the next two years.
- Outlook: Management expects third-quarter earnings to be essentially flat compared to the prior year due to anticipated softness in certain retail divisions. Tanned leather sales are expected to decline further due to reduced military footwear demand.
- Year 2000 Compliance: The company estimates a total cost of $22 million to upgrade systems for Year 2000 compliance, with completion targeted by July 31, 1999. Approximately 34% of legacy code remediation is complete.
- Legal and Environmental Contingencies:
- New York Environmental: Defendant in a civil action regarding hazardous material disposal; total estimated remediation cost is $10.0 million, but liability allocation is uncertain.
- Michigan Environmental: Remediation plan proposed for Volunteer Leather facility; potential future liability for lake sediment cleanup estimated at $2.5 million (shared among responsible parties).
- Antitrust Litigation: Facing a lawsuit from a bankrupt Texas boot retailer trustee; company denies allegations and does not expect a material impact.
Investor Verification Checklist
- Debt Refinancing Impact: Verify the long-term interest savings from replacing 10.375% notes with 5.5% notes against the one-time $3.7 million extraordinary loss.
- Store Economics: Assess the profitability timeline for the 51 new Journeys stores and 5 Johnston & Murphy stores intended to replace lost leased department revenue.
- Inventory Levels: Monitor the $126.4 million inventory balance against sales velocity, particularly given the decline in tanned leather sales and the risk of markdowns.
- Year 2000 Budget: Track the $22 million Y2K project budget and the 97% resource commitment to ensure no cost overruns or operational disruptions.
- Environmental Reserves: Review the adequacy of reserves for the New York and Michigan environmental proceedings, noting the uncertainty of joint and several liability.