RH Form 10-Q Summary
Period covered: Three and nine months ended November 1, 2014, compared with November 2, 2013. The request metadata identifies “2013 Q3,” but the supplied filing is for fiscal 2014 Q3. Restoration Hardware Holdings, Inc. operated 68 retail stores and 18 outlet stores across the United States and Canada, selling luxury home furnishings through stores, catalogs, and websites.
Financial performance and position
| Metric | Q3 2014 | Q3 2013 | 9M 2014 | 9M 2013 |
|---|---|---|---|---|
| Net revenue | $484.7 million | $395.8 million | $1.285 billion | $1.079 billion |
| Revenue growth | 22.4% | — | 19.0% | — |
| Gross profit | $180.4 million | $140.8 million | $472.6 million | $381.9 million |
| Gross margin | 37.2% | 35.6% | 36.8% | 35.4% |
| Operating income (loss) | $36.7 million | $23.9 million | $90.4 million | $(3.4) million |
| Net income (loss) | $19.4 million | $9.5 million | $48.5 million | $(8.4) million |
| Diluted EPS | $0.47 | $0.23 | $1.18 | $(0.22) |
| Adjusted net income | $20.3 million | $13.0 million | $55.1 million | $35.1 million |
Q3 net margin was approximately 4.0%, versus 2.4% in the prior-year quarter; nine-month net margin was approximately 3.8%, versus negative 0.8%. Operating margin improved to 7.6% in Q3 and 7.0% for the nine-month period, compared with 6.1% and negative 0.3%, respectively.
- Direct revenue increased 31.2% in Q3 and 25.0% for nine months; store revenue increased 14.9% and 13.9%, respectively.
- Comparable brand revenue growth was 22% in Q3 and 18% for nine months, down from 38% and 35% in the respective prior-year periods.
- Furniture revenue increased to $274.6 million in Q3 and $730.2 million for nine months; non-furniture revenue increased to $210.1 million and $554.5 million.
- SG&A increased 22.9% in Q3, primarily from expanded Source Book marketing and employment costs. Nine-month SG&A decreased 0.8% because the prior-year period included substantial non-cash compensation and offering costs.
Cash flow, liquidity, and debt
- Cash and cash equivalents were $157.1 million at November 1, 2014, compared with $13.4 million at February 1, 2014.
- Nine-month operating cash flow was negative $22.8 million, versus positive $30.5 million in the prior-year period. Inventory increased $156.7 million to support growth.
- Capital expenditures were $69.7 million for nine months, versus $57.6 million previously. Management planned fiscal 2014 capital expenditures of approximately $115 million to $125 million.
- Financing activities provided $236.6 million, primarily from the convertible notes issuance. The company issued $350 million of 0.00% convertible senior notes due 2019 and received net cash proceeds of approximately $311.7 million after related hedge, warrant, and issuance costs.
- The convertible notes had a $284.3 million carrying value at quarter-end, with a $350 million principal amount. The notes are unsecured and have an initial conversion price of approximately $116.09 per share.
- The revolving credit facility had no borrowings outstanding and $381.9 million of undrawn availability at November 1, 2014, subject to borrowing-base limitations. Outstanding letters of credit were $18.1 million.
- On November 24, 2014, after the reporting date, the credit facility was amended and restated, increasing the revolving commitment by $182.5 million, eliminating a $15 million term loan facility, and extending maturity to November 24, 2019.
- Total liabilities were $814.0 million and stockholders’ equity was $638.4 million at quarter-end. Contractual obligations totaled $1.541 billion, including $601.1 million of operating leases and $534.6 million of other non-current obligations.
Material changes, outlook, and unusual items
- Management attributed revenue growth to favorable merchandise response, expanded and new product categories, the multichannel model, and continued market-share gains.
- Gross-margin expansion reflected improved shipping costs, fixed occupancy leverage, and higher core merchandise margins, partly offset by higher outlet sales and inventory-related charges.
- The nine-month results included a $9.5 million legal charge related to a California class action concerning collection of customer ZIP codes. The court awarded plaintiffs’ attorneys $9.5 million; an appeal was filed on November 21, 2014.
- Prior-year nine-month results included $63.2 million of non-cash compensation and $2.9 million of follow-on offering costs, making year-over-year SG&A comparisons less representative.
- Interest expense increased to $11.6 million for nine months, including $4.8 million of non-cash convertible-note discount amortization and $3.8 million related to build-to-suit lease accounting.
- Management expected cash from operations, convertible-note proceeds, and revolving-credit availability to fund working capital and anticipated capital expenditures for at least the next 12 to 24 months.
- Management cautioned that revenue, adjusted net income, and other performance measures may remain volatile because of rapid growth and multiple concurrent initiatives, including larger Full Line Design Galleries, store replacements, new categories, sourcing, distribution, systems, and Source Book investments.
- The filing states that there were no material changes to previously disclosed risk factors, no material off-balance-sheet arrangements, and effective disclosure controls as of November 1, 2014.
Investor verification points
- Reconcile the negative operating cash flow with the company’s reported earnings and assess inventory growth, turnover, and potential markdown exposure.
- Review the terms, conversion mechanics, potential dilution, hedge transactions, and warrant strike price of the $350 million convertible notes.
- Monitor the amended credit facility’s borrowing-base availability, secured collateral, covenants, and fixed-charge coverage triggers.
- Evaluate the sustainability of gross-margin gains and the deceleration in comparable brand revenue growth.
- Track the California ZIP-code litigation appeal and any additional losses beyond the recorded charge.
- Assess the scale and returns of planned capital expenditures, new Full Line Design Galleries, store closures, and lease commitments.
- Distinguish GAAP net income from adjusted net income, particularly the effects of legal charges and non-cash debt-discount amortization.