LEVI STRAUSS & CO annual report, FY2016

Business context and reporting period

This is Levi Strauss & Co.’s Form 10-K for the 52-week fiscal year ended November 27, 2016, filed February 9, 2017—not a 2015 Q4 filing. The company is privately held, with no publicly traded common stock. It sells apparel under Levi’s, Dockers, Signature and Denizen brands in three regions: Americas, Europe and Asia.

Key financial metrics

FY2016 reported revenue rose 1.3% (3.1% constant currency). The Americas declined 1.6% reported and was nearly flat constant currency; Europe rose 7.4% reported (10.0% constant currency), and Asia rose 3.6% reported (6.1% constant currency). The company-operated retail and ecommerce channel generated 28% of revenue, up from 26%; ecommerce accounted for approximately 14% of revenue, up from 13%.

Material changes versus the prior comparable period

• Net income attributable to the company increased 39.0%, and operating income increased 7.2%; operating margin improved 0.6 percentage points.
• Gross margin increased 0.7 percentage points, reflecting lower negotiated product costs, supply-chain efficiencies and international retail growth, partly offset by currency transaction effects.
• Operating cash flow rose by $88.2 million, supported by stronger receivables collections and lower restructuring-related and interest payments. Higher inventory partly offset the increase; inventory reached $716.2 million, up from $606.9 million, amid lower-than-expected U.S. demand.
• Debt declined by about $107 million. Interest expense fell to $73.2 million from $81.2 million, following debt reduction and refinancing in 2015.
• The FY2015 comparison included $14.0 million of debt-extinguishment loss and $25.4 million of other expense, compared with no debt-extinguishment loss and $18.2 million of other income in FY2016. These items contributed to the increase in pretax income.

For the fourth quarter alone, revenue was $1.300 billion versus $1.285 billion in FY2015 Q4; net income attributable to the company was $96.2 million versus $101.2 million.

Outlook, management commentary, risks and unusual items

Management’s FY2017 financial objective was to grow full-year revenue on a constant-currency basis and maintain gross margin at approximately 51%. Management described the retail environment as challenging, with mixed discretionary spending, weak traffic, promotional pressure, competition from fast fashion and ecommerce, and continued U.S. wholesale weakness. Currency appreciation, especially against the euro, pound, yen and Mexican peso, was expected to weigh on reported results.

• Liquidity and obligations: Cash plus unused revolving-credit availability was approximately $1.2 billion at year-end. The company reported $784.3 million of unused availability and no revolver borrowings. Total debt was approximately $1.045 billion; substantially all long-term debt matures after 2021. The company said it was in compliance with debt covenants.
• Cash commitments: Projected FY2017 capital expenditures were $120 million. The company estimated $53 million of pension contributions and disclosed $669 million of operating-lease commitments and $891 million of purchase obligations at year-end.
• Benefits and taxes: The balance sheet included a $354.5 million pension liability and $101.0 million postretirement medical liability. Management indefinitely reinvested $100 million of foreign earnings; estimated tax on repatriation was approximately $26.6 million. Unrecognized tax benefits were $29.1 million.
• Unusual items: FY2016 included a $6.1 million gain from a U.K. distribution-center sale-leaseback, a $7.0 million benefit from resolution of a vendor dispute, and net other income of $18.2 million, primarily involving foreign-exchange derivatives and related currency balances. Restructuring charges were $0.3 million, down from $14.1 million in FY2015; management said the productivity initiative was largely implemented and significant further costs were not anticipated.
• Key risks: Consumer demand and fashion trends, promotional and competitive pricing, cotton and other input costs, foreign exchange and trade-policy changes, wholesale-customer concentration, reliance on overseas contract manufacturers, outsourcing and distribution execution, cybersecurity, and pension funding. The top ten wholesale customers represented 30% of revenue; no single customer represented 10% or more. Management said pending ordinary-course legal matters were not expected to have a material impact.

Most important facts for investors to verify

• Confirm the period: the supplied filing reports FY2016, not 2015 Q4; use the quarterly table for the Q4 comparison.
• Assess whether retail and ecommerce growth can offset U.S. wholesale weakness, and whether elevated inventory can be sold without discounting that pressures margins.
• Monitor constant-currency performance against management’s FY2017 objectives and the effects of currency movements on reported revenue and profitability.
• Review debt maturities, covenant restrictions, pension funding needs and the capacity to meet lease and purchase commitments while investing in stores and technology.
• Consider the company’s private ownership and lack of a public trading market when assessing equity liquidity and valuation.