RH 2021 Second-Quarter Form 10-Q Summary
Period: Three and six months ended July 31, 2021, compared with August 1, 2020. The request metadata identifies “2020 Q2,” but the provided filing is RH’s fiscal 2021 second-quarter Form 10-Q, filed September 9, 2021.
Business context and reporting period
RH is a luxury home furnishings retailer offering furniture, lighting, textiles, bathware, decor, outdoor and garden products, and child and teen furnishings through Galleries, outlets, websites, Source Books and Waterworks showrooms. As of July 31, 2021, RH operated 66 Galleries, 38 outlets and 14 Waterworks showrooms. The fiscal year ends January 29, 2022.
Results remained affected by the COVID-19 pandemic. Demand for home furnishings was strong, but vendor backlogs, manufacturing delays, supply-chain disruption and COVID-19 outbreaks, particularly in Vietnam, constrained the conversion of demand into revenue. As of September 3, 2021, all Galleries, outlets and Restaurants were open.
Financial performance and key metrics
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Net revenues | $988.9 million | $709.3 million | $1,849.7 million | $1,192.2 million |
| Gross profit | $487.7 million | $332.4 million | $894.7 million | $532.1 million |
| Gross margin | 49.3% | 46.9% | 48.4% | 44.6% |
| Income from operations | $249.0 million | $136.6 million | $436.9 million | $172.0 million |
| Operating margin | 25.2% | 19.3% | 23.6% | 14.4% |
| Net income | $226.7 million | $98.4 million | $357.4 million | $95.2 million |
| Diluted EPS | $7.09 | $3.71 | $11.31 | $3.75 |
| Adjusted EBITDA | $290.4 million | $185.8 million | $518.6 million | $263.2 million |
Q2 revenue increased 39.4%, gross profit increased 46.7%, operating income increased 82.3% and net income increased 130.4% versus the prior-year quarter. Six-month revenue increased 55.1%, operating income increased 154.0% and net income increased 275.6%. Furniture revenue rose to $699.7 million in Q2 from $483.2 million, while non-furniture revenue rose to $289.1 million from $226.1 million.
Gross-margin expansion reflected higher product margins, occupancy-cost leverage and improved Outlet and core-business performance. Q2 SG&A increased 21.9% but declined to 24.1% of revenue from 27.6%; six-month SG&A declined to 24.8% from 30.2% of revenue.
Cash flow, liquidity and capital structure
- Six-month net cash provided by operating activities was $316.7 million, compared with $128.3 million in the prior-year period.
- Six-month investing cash outflow was $84.1 million, including $82.1 million of capital expenditures.
- Six-month financing cash outflow was $43.0 million. No borrowings were outstanding under the revolving asset-based credit facility.
- Cash and cash equivalents were $291.5 million at July 31, 2021; cash plus restricted cash was $296.8 million.
- RH reported $26.2 million of equipment promissory notes and $652 million of aggregate principal amount of convertible notes outstanding before expected third-quarter settlements.
- The 2023 Notes had $301.8 million of principal outstanding, including $173.5 million expected to settle in cash during the third quarter; the remaining $128 million was expected to mature in June 2023 absent further conversions.
- The 2024 Notes had $350 million of principal outstanding, including $67 million expected to settle in cash during the third quarter; the remaining $283 million was expected to mature in September 2024 absent further conversions.
- The amended revolving credit facility, effective July 29, 2021, provides initial availability of up to $600 million, with a $300 million accordion feature. Availability was $389.1 million at July 31, 2021, net of $20.1 million of letters of credit.
- RH was in compliance with the applicable fixed-charge coverage covenant. The company stated that operating cash flow and available financing should be sufficient for more than the next 12 months.
- Adjusted capital expenditures were $125.5 million in the first six months. Management expects fiscal 2021 adjusted capital expenditures of approximately $250 million to $300 million.
Material changes versus the prior comparable period
- Results improved substantially as Galleries reopened, consumer demand strengthened and Hospitality and Waterworks activity recovered from pandemic-related disruption in 2020.
- Gross margin expanded 240 basis points in Q2 and 380 basis points for the first six months.
- Interest expense declined to $13.6 million in Q2 from $19.4 million and to $26.9 million for the first six months from $39.0 million.
- The prior-year period included a $20.5 million Waterworks tradename impairment, a $9.4 million sale-leaseback loss, $4.8 million of product-recall costs and a $0.2 million gain on extinguishment of debt. The current quarter included a $3.2 million loss on extinguishment of debt related to early conversion of 2023 Notes.
- Inventory increased to $646.0 million from $544.2 million at January 30, 2021, while deferred revenue and customer deposits increased to $397.2 million from $280.6 million.
- Stockholders’ equity increased to $806.3 million from $447.0 million, primarily reflecting first-half net income and equity-related activity.
Guidance, outlook, risks and unusual items
- Management expects supply-chain constraints and vendor backlogs to continue affecting product availability and revenue conversion during fiscal 2021. The timing of recovery remains uncertain.
- Management plans to introduce RH Contemporary in 2022, pursue additional Design Galleries and launch international locations in Europe beginning in 2022.
- RH expects to use cash and future free cash flow to settle convertible notes in cash to minimize dilution, but stated that additional liquidity or refinancing may be required depending on cash generation and early conversions.
- Convertible note hedges are intended to offset dilution up to approximately $309.84 per share for the 2023 Notes and $338.24 per share for the 2024 Notes; dilution may occur above those levels.
- Material risks include renewed COVID-19 outbreaks, changing consumer spending, international supply-chain disruption, construction and permitting delays, inflation or freight pressures, interest-rate and credit-market risk, lease obligations, litigation and potential inability to refinance or fund debt maturities.
- RH disclosed $1.155 billion of recognized lease liabilities and $656.8 million of legally binding payments for signed but not yet commenced leases as of July 31, 2021.
- Equity-method investments in Aspen real estate projects generated losses of $2.5 million in Q2 and $4.6 million year to date.
- The filing states that there were no material off-balance-sheet arrangements and no material changes to previously disclosed risk factors.
Important facts for investors to verify
- Confirm the reporting-period mismatch: the supplied filing is for Q2 fiscal 2021, not Q2 2020.
- Assess whether unusually strong year-over-year growth is distorted by pandemic-related closures in the 2020 comparison period.
- Monitor vendor capacity, inventory receipts, order backlogs and the effect of COVID-19 outbreaks on supply-chain conversion.
- Verify the timing and cash requirements for the expected third-quarter settlement of approximately $240.5 million of convertible-note principal.
- Evaluate whether projected operating cash flow and the $389.1 million of reported revolver availability are sufficient for debt settlements, lease obligations and planned capital expenditures.
- Reconcile GAAP results with management’s non-GAAP Adjusted EBITDA and adjusted net income, including all exclusions and tax effects.
- Track potential dilution from convertible notes and warrants, as well as the company’s stated intention to settle notes in cash.