Duluth Holdings Inc. — Q3 FY2018 Form 10-Q
Reporting period: 13 and 39 weeks ended October 28, 2018; comparative periods ended October 29, 2017. Fiscal 2018 is a 53-week year ending February 3, 2019. Duluth sells men’s and women’s apparel, workwear and accessories through direct channels and stores. Amounts below are in millions except per-share data and percentages.
Financial performance
| Metric | Q3 FY2018 | Q3 FY2017 | Nine months FY2018 | Nine months FY2017 |
|---|---|---|---|---|
| Net sales | $106.7 | $83.7 | $317.6 | $253.6 |
| Gross profit / margin | $61.0 / 57.1% | $47.4 / 56.6% | $179.2 / 56.4% | $145.0 / 57.2% |
| Operating income (loss) | $(2.6) | $(0.6) | $7.1 | $7.5 |
| Net income (loss) | $(3.1) | $(0.7) | $2.7 | $4.0 |
| Controlling-interest diluted EPS | $(0.10) | $(0.03) | $0.08 | $0.12 |
| Adjusted EBITDA | $1.0 | $1.9 | $16.7 | $14.0 |
Q3 sales rose 27.4%, led by retail growth of 58.4%; direct sales rose 10.5%. For the nine months, sales increased 25.2%, with retail up 67.4% and direct up 6.4%. Retail contributed 43.9% of Q3 sales, compared with 35.3% a year earlier. Growth reflected both channels and broad product-category gains; management also cited higher website visits and a larger store base.
Q3 gross margin expanded 50 basis points, primarily on improved product margin, partly offset by lower shipping revenue. Nine-month gross margin fell 80 basis points, reflecting declining shipping revenue and higher freight costs associated with retail expansion. Q3 SG&A rose 32.3% and increased to 59.5% of sales from 57.4%, including higher advertising, selling and administrative costs. Nine-month SG&A rose 25.2% but remained 54.2% of sales. Q3 Adjusted EBITDA declined 45.8%; nine-month Adjusted EBITDA rose 19.6%, though its sales margin eased to 5.3% from 5.5%.
Cash flow, liquidity and debt
- For the first nine months, operating cash flow was $(23.5), investing cash flow $(46.3), and financing cash flow $65.9. Cash and restricted cash decreased $3.9 to $3.2, including unrestricted cash of $2.5.
- Operating cash use was primarily seasonal inventory investment: inventory increased $44.8. Capital expenditures were $45.9, mainly for stores, store construction and technology.
- At October 28, current assets were $150.2 and current liabilities $65.2; management reported net working capital of $85.1.
- The company had $65.0 drawn on its $80.0 revolving facility and access to a separate delayed-draw term loan of up to $50.0 through May 17, 2020. The facility matures in 2023, is secured by substantially all company assets, and carries financial covenants. The company reported covenant compliance. The stated effective rate was 3.8% at quarter-end.
- Other debt included $1.4 of mortgage debt. Capitalized lease obligations were $27.7, and build-to-suit finance lease obligations were $17.3.
Outlook, commentary and notable items
- Management expects positive operating cash flow for full-year FY2018 as seasonal working capital unwinds in Q4, and believes operating cash flow and revolving availability will cover working capital, planned capital spending and growth needs.
- FY2018 capital expenditures, net of finance-lease proceeds, were expected to be approximately $50–$55, including $27–$32 for new stores and remodels. The company opened four stores in Q3 and 12 in the first nine months; it operated 40 retail stores and three outlets at quarter-end. Management said stores historically achieve, and are expected to continue to achieve, average payback in under two years.
- Retail apparel seasonality makes Q4 the historically strongest period for sales and operating profit. Growth priorities include brand awareness, retail expansion, selected men’s assortment expansion and women’s business growth. No specific revenue or earnings guidance was provided in the supplied filing text.
- ASC 606 was adopted at the start of FY2018 using the modified retrospective method; prior periods were not restated. The filing’s reconciliation shows adoption affected reported FY2018 sales and earnings, so reported year-over-year comparisons are not fully like-for-like. Management said the adoption did not have a material overall impact. Catalog costs are expensed upon customer receipt, and direct sales are recognized upon shipment.
- The company expects adoption of the new lease standard in FY2019 to materially increase reported assets and liabilities because of store leases. Implementation work, including a new lease-management system, was underway.
- Key risks cited include store expansion and new-market execution, seasonality, inventory planning, competition, customer preferences, operating costs and IT systems. The filing added potential sales-tax collection liabilities following the Supreme Court’s Wayfair decision. Management reported no legal proceedings expected to have a material adverse effect and no material subsequent events.
Investor verification priorities
- Assess whether strong sales growth—particularly from the expanding store base—can translate into improved operating profit and Q3 margins.
- Review inventory levels, holiday-season sell-through and the expected Q4 cash release; first-nine-month operating cash flow remained negative.
- Verify the pace and returns of store expansion alongside the $50–$55 million FY2018 capital-spending plan and substantial lease commitments.
- Examine debt-facility availability, covenant headroom, borrowing costs and the company’s reliance on credit during seasonal working-capital peaks.
- Reconcile ASC 606 effects when comparing FY2018 results with prior-year periods, and monitor the balance-sheet impact of lease-standard adoption.
- Monitor potential state sales-tax obligations and any resulting customer, compliance or financial effects.