Abercrombie & Fitch Co. Form 10-K Summary
Reporting period: Fiscal 2014, the 52-week year ended January 31, 2015, compared with Fiscal 2013, the 52-week year ended February 1, 2014. The provided filing is not a 2013 fourth-quarter filing; it is the annual report for Fiscal 2014.
Business context
Abercrombie & Fitch is a specialty apparel retailer operating Abercrombie & Fitch, abercrombie kids, Hollister and Gilly Hicks products through stores and direct-to-consumer channels. At year-end, the Company operated 969 stores, including 799 in the U.S. and 170 internationally. Direct-to-consumer sales were conducted through 46 websites serving more than 120 countries.
Key financial metrics
| Metric | Fiscal 2014 | Fiscal 2013 | Change |
|---|---|---|---|
| Net sales | $3.744 billion | $4.117 billion | Down 9% |
| Gross profit | $2.314 billion | $2.575 billion | Down 10% |
| Gross margin | 61.8% | 62.6% | Down 80 bps |
| Operating income | $113.5 million | $80.8 million | Up 40% |
| Operating margin | 3.0% | 2.0% | Up 100 bps |
| Net income | $51.8 million | $54.6 million | Down 5% |
| Diluted EPS | $0.71 | $0.69 | Up $0.02 |
| Net cash from operations | $312.5 million | $175.5 million | Up $137.0 million |
| Capital expenditures | $174.6 million | $163.9 million | Up $10.7 million |
| Free cash flow | $137.9 million | $11.6 million | Up $126.3 million |
Comparable sales declined 8% overall, including a 9% decline in U.S. stores, an 18% decline in international stores and an 8% increase in direct-to-consumer comparable sales. Direct-to-consumer revenue increased 7% to $832.5 million and represented 22% of total sales, compared with 19% in Fiscal 2013.
Cash and equivalents were $520.7 million at year-end, down from $600.1 million. Working capital was $679.0 million and the current ratio was 2.40. Gross borrowings were $299.3 million, consisting primarily of the new term loan; net borrowings were $293.4 million. No borrowings were outstanding under the $400 million asset-based revolving credit facility.
Material changes versus the prior comparable period
- Sales declined across both store channels, although direct-to-consumer sales continued to grow.
- Gross margin declined because of increased promotional activity, including direct-to-consumer shipping promotions, partly offset by lower average unit costs.
- Operating income improved on lower restructuring, impairment and other special charges, as well as expense reductions, despite lower sales.
- Adjusted non-GAAP operating income declined to $191.7 million from $222.9 million, and adjusted diluted EPS declined to $1.54 from $1.91, reflecting negative comparable-store sales and increased direct-to-consumer investment.
- The Company repurchased approximately 7.3 million shares for $285.0 million and paid $57.4 million in dividends. Approximately 9.0 million shares remained available under the repurchase authorization.
- Store count declined by 37 to 969. The Company closed 52 U.S. stores and eight international stores, including the remaining stand-alone Gilly Hicks locations.
- The Company recorded $45.0 million of store-related asset impairment charges, including impairments associated with flagship locations in Tokyo and Seoul, and approximately $11.3 million related to the planned sale of its corporate aircraft.
Guidance, outlook, risks and unusual items
Management characterized Fiscal 2014 as a year of significant transition, including a board reconstitution, a shift to a brand-based organizational model and the departure of CEO Michael Jeffries. Mr. Jeffries retired on December 8, 2014, and the Company recorded approximately $4.7 million of pre-tax CEO transition costs in the fourth quarter. The Company was still searching for a permanent CEO at filing.
For Fiscal 2015, management expected a challenging first half, significant foreign-exchange headwinds and gross margin that would be flat to slightly higher. Expected savings from the profit improvement initiative and foreign exchange benefits were expected to be offset by restored incentive compensation and increased direct-to-consumer and omnichannel investment.
- Planned Fiscal 2015 capital expenditures: approximately $150 million.
- Planned store openings: 15 full-price international stores, four full-price North American stores and 11 U.S. outlet stores.
- Planned U.S. closures: approximately 60 stores through natural lease expirations.
- Planned initiatives included improving comparable sales, expanding direct-to-consumer and omnichannel capabilities, controlling costs and extending brand reach.
Key risks include changing consumer preferences, inventory and markdown exposure, intense promotional competition, international execution, foreign-currency volatility, dependence on third-party suppliers and distribution facilities, cybersecurity and information-technology disruptions, lease obligations, litigation, tax uncertainty and restrictive debt covenants. The Company had $2.605 billion of contractual obligations, including $2.017 billion of operating lease obligations, and $9.2 million of outstanding standby letters of credit.
The Company incurred aggregate pre-tax Gilly Hicks restructuring charges of approximately $89.9 million through January 31, 2015, with approximately $1.3 million of additional primarily lease-related charges expected over remaining lease terms. The filing also disclosed out-of-period corrections that reduced Fiscal 2014 net income by $2.2 million and operating cash flow by $11.8 million; management considered the corrections immaterial to current and prior interim and annual periods.
The effective tax rate increased to 47.7% from 25.5%, driven by jurisdictional earnings mix, a $6.1 million valuation allowance and the absence of prior-year tax benefits. Approximately $15.9 million of Japanese net deferred tax assets remained dependent on future taxable profits.
Investor verification points
- Reconcile GAAP results with management’s adjusted results and identify the recurring versus nonrecurring nature of impairment, restructuring, CEO transition and governance charges.
- Assess whether comparable-store sales and international profitability recover, particularly given the 18% international comparable-sales decline.
- Monitor direct-to-consumer growth against rising shipping, fulfillment and digital marketing costs.
- Evaluate liquidity after share repurchases, dividends, capital expenditures and required term-loan amortization.
- Review the effect of foreign-exchange movements on reported sales, margins and comprehensive income.
- Track execution of the brand-based organization and the appointment of a permanent CEO.
- Review store impairment assumptions, planned closures, lease commitments and remaining Gilly Hicks obligations.
- Confirm compliance with debt covenants and the availability of the asset-based revolving facility.