Fossil Group, Inc. — Form 10-Q Summary
Period clarification: The supplied filing is for the 13 and 26 weeks ended June 29, 2013 (Q2 and first half of fiscal 2013), with comparisons to 2012. This differs from the request metadata identifying 2012 Q2. The company changed its name from Fossil, Inc. to Fossil Group, Inc. in May 2013.
Business context and reporting period
Fossil designs, markets and distributes fashion accessories, led by watches, through wholesale, company-operated retail and e-commerce channels worldwide. Its reportable segments are North America wholesale, Europe wholesale, Asia Pacific wholesale and direct to consumer. Figures below are in millions of dollars unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2013 | Q2 2012 | First half 2013 | First half 2012 |
|---|---|---|---|---|
| Net sales | $706.2 | $636.1 | $1,387.1 | $1,225.6 |
| Gross profit / margin | $408.9 / 57.9% | $356.4 / 56.0% | $787.4 / 56.8% | $685.3 / 55.9% |
| Operating income / margin | $106.9 / 15.1% | $88.1 / 13.8% | $201.3 / 14.5% | $171.0 / 13.9% |
| Net income attributable to Fossil Group | $67.7 | $57.3 | $139.9 | $115.5 |
| Diluted EPS | $1.15 | $0.92 | $2.36 | $1.86 |
| Operating cash flow | Not presented separately | Not presented separately | $158.7 | $136.4 |
- Q2 sales increased 11.0%; management reported 11.4% growth excluding currency effects. First-half sales increased 13.2% (10.8% excluding currency and 2.7% from acquisitions).
- Q2 gross margin expanded 190 basis points. Management attributed improvement principally to fewer and more profitable liquidation sales, favorable watch mix, direct-to-consumer growth and direct distribution in certain acquired markets; currency reduced margin by about 20 basis points.
- At June 29, cash and cash equivalents were $313.3, versus $177.2 at December 29, 2012. First-half investing cash use was $60.6, including $43.0 of capital expenditures and $14.9 for acquisitions. Financing provided $38.9, including $264.8 of net debt borrowings, offset in part by $231.9 of share repurchases.
- Current assets were $1,274.3 and current liabilities $349.9; management reported working capital of $924.4. Debt was approximately $341.0: $1.6 short-term and $339.4 long-term. The company had $669.0 available under its $750 million revolver and was compliant with its debt covenants.
- Inventory was $582.1 at June 29, up from $506.3 at year-end; finished goods accounted for $516.4. The filing attributes inventory growth to store expansion, production-flow investment and acquisitions.
Material changes versus the comparable period
- Sales grew across all segments in Q2: North America wholesale 4.4%, Europe wholesale 15.6%, Asia Pacific wholesale 14.0% and direct to consumer 15.8%, including currency effects. Watches and jewelry led growth; leather and eyewear sales declined.
- Direct-to-consumer growth reflected a 17.4% increase in average stores open, while comparable-store sales declined 0.1% in Q2. First-half comparable-store sales rose 2.0%.
- Operating expenses rose 12.6% in Q2 to $302.0, faster than sales, and were 42.8% of sales versus 42.2%. The company cited retail and concession expansion, Asia-Pacific and global initiatives, acquired businesses and Swiss production-capability costs.
- First-half results included a $6.5 non-cash gain from remeasuring the existing investment in Fossil Spain after the company obtained control and began consolidating it. The gain contributed approximately $0.11 to first-half diluted EPS.
- The company acquired Bentrani at the end of 2012, obtained control of Fossil Spain in January 2013, and sold 80% of its interest in Swiss Technology Components in April, deconsolidating that business. The prior-year comparison included Skagen only from its April 2012 acquisition date.
- Repurchases totaled $231.9 in the first half, and the company effectively retired 2.2 million shares. The lower share count contributed approximately $0.06 per diluted share to Q2 results, according to management.
Outlook, commentary, risks and unusual items
- The filing gives no specific full-year revenue or EPS guidance. Management expected approximately 70–75 net new stores globally in fiscal 2013 and $67–77 of capital expenditures for the remainder of the year, principally for store expansion and renovation and technology infrastructure.
- Management believed operating cash flow, cash on hand and revolver availability would fund working capital, planned capital expenditures and repurchases for the next 12 months. The business typically uses more cash in the third quarter as it builds inventory for the holiday season.
- Risks highlighted include discretionary-spending and retail-cycle exposure, changing fashion preferences and product acceptance, dependence on limited sources for some components, foreign-currency movements, competition, and acquisition integration. A 10% adverse currency move was estimated to reduce annual pre-tax income by $6.1 and translated equity by approximately $69.0.
- Variable-rate debt exposed the company to interest-rate risk: a 100-basis-point increase was estimated to raise annual interest expense by approximately $2.8. A subsequent July 26, 2013 swap fixed the rate on a $250 million notional amount of term debt at 1.288% (plus applicable loan margins).
- The Fossil Spain contingent consideration liability was $7.7 and measured using Level 3 assumptions; changes in estimated fair value may affect earnings. Management said pending litigation was not expected to have a material effect, and reported no material change in previously disclosed risk factors.
Important facts for investors to verify
- Confirm the reporting period: this filing covers Q2 2013, not Q2 2012.
- Assess how much sales and earnings growth is recurring versus acquisition-related, currency-driven or attributable to the non-cash Fossil Spain remeasurement gain.
- Monitor inventory growth, finished-goods levels and the seasonal working-capital build ahead of the holiday period.
- Review the $250 million term loan, revolver usage, covenant headroom and subsequent interest-rate swap terms.
- Track store expansion and comparable-store performance, particularly the Q2 comparable-store decline and the planned 70–75 net new stores.