Abercrombie & Fitch Co. — Form 10-K Summary
Reporting period: Fiscal 2013, the 52-week year ended February 1, 2014. The filing compares results primarily with Fiscal 2012, a 53-week year ended February 2, 2013. The request metadata references “2012 Q4,” but the supplied filing is an annual Form 10-K for Fiscal 2013.
Business context
Abercrombie & Fitch is a specialty apparel retailer operating Abercrombie & Fitch, abercrombie kids, Hollister and Gilly Hicks brands through stores and direct-to-consumer channels. At year-end, the Company operated 1,006 stores: 843 in the U.S. and 163 internationally. Direct-to-consumer sales, including shipping and handling revenue, represented 19% of total sales.
Key financial metrics
| Metric | Fiscal 2013 | Fiscal 2012 | Change |
|---|---|---|---|
| Net sales | $4.117 billion | $4.511 billion | Down 9% |
| Gross profit | $2.575 billion | $2.817 billion | Down 9% |
| Gross margin | 62.6% | 62.4% | Up 20 basis points |
| Operating income | $80.8 million | $374.2 million | Down 78% |
| Operating margin | 2.0% | 8.3% | Down 630 basis points |
| Net income | $54.6 million | $237.0 million | Down 77% |
| Diluted EPS | $0.69 | $2.85 | Down $2.16 |
| Cash flow from operations | $175.5 million | $684.2 million | Down 74% |
| Capital expenditures | $163.9 million | $339.9 million | Down 52% |
| Free cash flow | $11.6 million | $344.3 million | Down 97% |
U.S. Stores sales fell to $2.161 billion from $2.615 billion, International Stores sales declined modestly to $1.179 billion, and Direct-to-Consumer sales increased 11% to $776.9 million. Comparable sales declined 11% overall, including a 16% decline in comparable store sales and a 13% increase in comparable direct-to-consumer sales.
Liquidity remained substantial, with $600.1 million of cash and equivalents, $752.3 million of working capital and a 2.32 current ratio at February 1, 2014. The Company had $135.0 million outstanding under its term loan, no borrowings under its $350 million revolving credit facility, and approximately $341 million of total borrowing availability as of March 21, 2014, including the effect of outstanding letters of credit.
Material changes versus the prior comparable period
- Sales and profitability declined sharply, primarily because of negative comparable store sales and deleveraging of fixed store costs.
- Gross margin improved slightly due primarily to lower average unit cost, but stores and distribution expense increased to 46.3% of sales from 43.9%.
- Fiscal 2013 included $81.5 million of Gilly Hicks restructuring charges, $46.7 million of store-related asset impairment charges and $13.8 million of profit improvement initiative charges.
- Excluding those charges, adjusted net income was $150.6 million, or $1.91 diluted EPS, compared with $241.6 million, or $2.90 diluted EPS, in Fiscal 2012. These are non-GAAP measures.
- The Company closed 62 U.S. stores, including 16 Gilly Hicks stores, and reduced total stores from 1,041 to 1,006.
- Inventory increased to $530.2 million from $427.0 million, while cash declined to $600.1 million from $643.5 million.
- Share repurchases declined to approximately 2.4 million shares costing $115.8 million, compared with approximately 7.5 million shares costing $321.7 million in Fiscal 2012. Dividends paid increased to $61.9 million.
Guidance, outlook and management commentary
- Management described Fiscal 2013 as difficult, with sales and earnings materially below its initial objectives.
- The long-term plan focuses on restoring U.S. store productivity, profitable international growth, increasing direct-to-consumer penetration and reducing expenses.
- For Fiscal 2014, management projected diluted EPS of $2.15 to $2.35, based on a high-single-digit comparable store sales decline and approximately 20% comparable direct-to-consumer sales growth.
- Fiscal 2014 guidance assumed a gross margin flat to slightly down from Fiscal 2013, a tax rate of approximately 35% and a base diluted share count of approximately 78 million shares.
- Management expected at least $175 million of annualized gross savings from the profit improvement initiative, including approximately $30 million recognized in Fiscal 2013 and $145 million expected in Fiscal 2014. Fiscal 2014 marketing expense was expected to increase by approximately $30 million or more.
- Fiscal 2014 capital expenditures were expected to be approximately $200 million or slightly higher, focused on direct-to-consumer, information technology and international growth markets.
- The Company expected to open 16 full-price international stores, primarily in Japan, China and the Middle East, and close approximately 60 to 70 U.S. stores, primarily through natural lease expirations.
- Total Gilly Hicks restructuring charges were estimated at approximately $90 million, with the remaining charges expected primarily in the first quarter of Fiscal 2014.
Risks, contingencies and unusual items
- Key operating risks include changing fashion preferences, inventory mismanagement, promotional pressure, consumer weakness, extreme weather, supply-chain disruption, foreign currency movements and dependence on third-party manufacturers.
- International expansion and direct-to-consumer growth require significant investment and expose the Company to operational, regulatory, technology, privacy, cybersecurity and currency risks.
- The Company had approximately $2.821 billion of contractual obligations, including $2.377 billion of operating lease obligations, $135.0 million of long-term debt obligations and $260.2 million of purchase obligations.
- Debt agreements contain leverage and coverage covenants. The Company was in compliance at February 1, 2014, but covenant failure could accelerate repayment obligations and impair liquidity.
- The Company is subject to ordinary-course litigation. Management stated that actual liabilities could exceed recorded reserves, although the filing does not identify a specific matter expected to be material.
- A proxy contest was threatened by Engaged Capital, which intended to nominate five candidates for the 2014 annual meeting.
- On February 27, 2014, the Company entered into a $150 million accelerated share repurchase agreement and received approximately 3.1 million shares on March 4, 2014; additional shares remained subject to final settlement.
- The Company’s independent auditor reported that the financial statements were fairly presented and that internal control over financial reporting was effective as of February 1, 2014.
Investor verification points
- Verify whether Fiscal 2014 comparable store sales and direct-to-consumer growth met the guidance assumptions.
- Track execution of the $175 million profit improvement program and distinguish recurring savings from restructuring or other one-time benefits.
- Assess U.S. store productivity, store closures, impairment charges and inventory levels, particularly for Hollister and Abercrombie & Fitch locations.
- Confirm the final cost and cash impact of the Gilly Hicks store closures.
- Review debt covenant compliance, term-loan amortization and the availability of the revolving credit facility.
- Evaluate the cash impact of the accelerated share repurchase, additional repurchases, dividends and planned capital expenditures.
- Monitor the proxy contest, executive leadership changes and any effects on strategic execution.
- Confirm the treatment and financial impact of the prior-period error corrections disclosed in the quarterly and annual financial statements.