VF Corporation — Q2 2011 Form 10-Q
Reporting period: Fiscal quarter ended July 2, 2011; comparisons are with the three and six months ended July 3, 2010. Amounts are U.S. dollars; financial statement amounts below are in millions unless noted. Statements are unaudited.
Business context
VF sells branded apparel, footwear and accessories through product coalitions including Outdoor & Action Sports, Jeanswear, Imagewear, Sportswear and Contemporary Brands. Management reported record second-quarter revenue, with growth across all coalitions, and continued expansion internationally and in direct-to-consumer channels.
Key financial metrics
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Total revenue | $1,840.1 | $1,594.1 | $3,798.9 | $3,344.0 |
| Operating income | $188.7 | $169.5 | $463.3 | $392.8 |
| Net income attributable to VF | $129.4 | $110.8 | $330.1 | $274.4 |
| Diluted EPS | $1.17 | $1.00 | $2.99 | $2.47 |
| Gross margin | 45.9% | 47.1% | 46.6% | 46.9% |
| Operating margin | 10.3% | 10.6% | 12.2% | 11.7% |
- Growth and profitability: Q2 revenue rose 15%; management attributed $43.5 million of the increase to currency translation and $202.5 million to organic growth. Six-month revenue rose 14%. Q2 diluted EPS increased 17%.
- Cash flow: Operating activities used $42.3 million in the first half, versus $308.5 million provided in the prior-year period, primarily reflecting working-capital investment. Investing activities used $129.9 million, including $64.0 million of capital expenditures and $56.6 million for Rock & Republic trademarks. Cash and equivalents were $611.5 million at quarter-end, down from $792.2 million at year-end 2010.
- Liquidity and debt: Working capital was $2.032 billion; the current ratio was 3.0. VF reported a 18.7% debt-to-total-capital ratio and a 7.9% net-debt-to-total-capital ratio. It had more than $1.3 billion available under revolving credit facilities. Long-term debt was $934.6 million; management reported no significant debt-service payments due until 2017.
- Shareholder distributions: First-half dividends paid were $137.2 million. The board declared a quarterly dividend of $0.63 per share, payable September 19, 2011.
Material changes and management commentary
- All coalitions posted double-digit Q2 revenue growth. Outdoor & Action Sports increased 22.8%; Imagewear 15.6%; Jeanswear and Sportswear each 10.3%; Contemporary Brands 11.3%. Imagewear profit rose 55% in Q2, while Jeanswear profit was approximately flat.
- Q2 gross margin declined 1.2 percentage points, mainly because higher product costs were not fully offset by pricing. A European jeanswear facility-closure gain and favorable business mix partly offset the pressure. Operating expenses grew more slowly than revenue, improving expense leverage.
- International revenue increased 30% and represented 29% of Q2 revenue; Asia revenue also rose 30%. Direct-to-consumer revenue grew 17%, supported by new stores, comparable-store growth and e-commerce growth.
- Management estimated a full-year 2011 effective tax rate of approximately 25%. First-half rates benefited from audit settlements and other discrete tax benefits; the filing does not provide full-year revenue or EPS guidance.
- Management said full-year capital expenditures could reach $225 million, funded by operating cash flows. It expected continued strong cash generation, while noting that cash flow is typically lower in the first half due to seasonal working-capital needs.
Outlook, transactions and risks
- VF signed an agreement to acquire The Timberland Company for approximately $2.3 billion net of cash acquired, with closing expected in Q3 2011 subject to customary conditions. VF planned to issue $900 million of term debt, together with cash and short-term borrowings, to fund the acquisition. Transaction expenses reduced first-half EPS by $0.02.
- Standard & Poor’s had assigned a negative outlook following the Timberland announcement; Moody’s outlook was stable. Management cautioned that acquisition integration may cost more or take longer than expected, and anticipated benefits may not be realized.
- Other stated risks include consumer spending and confidence, raw-material costs and availability, margin pressure, dependence on large customers, fashion and demand changes, international and currency exposure, supplier continuity, and the ability to execute growth and integrate acquisitions.
- Unusual items included a first-half $8.0 million pretax benefit from changing inventory accounting from LIFO to FIFO, adding $0.04 to diluted EPS; a facility-closure gain; and favorable discrete tax items. Management said the inventory-method change’s effect on prior periods was not material.
Important facts for investors to verify
- Whether Timberland closed on schedule and whether acquisition financing, leverage and integration costs matched expectations.
- Whether higher product costs continue to pressure gross margin and whether pricing and mix can offset that pressure.
- Whether first-half working-capital investment converts to cash as seasonal receivables are collected and inventories are sold.
- How much reported growth reflects underlying demand versus foreign currency translation, and whether international and direct-to-consumer growth is sustained.
- Whether capital spending approaches the $225 million estimate and how actual full-year results compare with management’s limited outlook disclosures.