Signet Jewelers Limited — Q1 Fiscal 2015 Form 10-Q
Business context and period. Signet operates jewelry retailers in the US and UK, including Kay, Jared, H.Samuel and Ernest Jones, and a diamond-sourcing operation. This unaudited report covers the 13 weeks ended May 3, 2014; comparisons are with the 13 weeks ended May 4, 2013. Results are seasonal, with roughly 40% of annual sales and 45%–50% of operating income normally generated in the fourth quarter.
Financial performance and liquidity
- Revenue and sales: Sales were $1,056.1 million, up 6.3%; same-store sales rose 3.3%. At constant exchange rates, sales increased 5.0%. US sales rose 5.4% to $903.5 million; UK sales rose 3.2% at constant exchange rates to $151.7 million. E-commerce sales increased 24.4% to $38.7 million.
- Profit and margins: Gross margin was $407.2 million, up 6.4%, and 38.6% of sales versus 38.5%. Operating income was $150.7 million (14.3% of sales), compared with $142.8 million (14.4%). Net income was $96.6 million versus $91.8 million; diluted EPS was $1.20 versus $1.13. Excluding $8.4 million of Zale-related transaction costs and $0.8 million of related financing costs, management reported adjusted operating income of $159.1 million and diluted EPS of $1.29.
- Segments: US operating income increased to $166.3 million from $152.8 million. UK operating income was zero, compared with a $4.1 million loss. Other segment operating loss widened to $15.6 million from $5.9 million, including $8.4 million of Zale transaction costs.
- Cash flow: Operating cash flow was $73.5 million versus $45.1 million. Capital spending was $28.1 million versus $23.2 million, producing reported free cash flow of $45.4 million versus $21.9 million. Financing used $43.5 million, including $12.0 million of dividends paid and $11.4 million of share repurchases.
- Balance sheet and liquidity: May 3 cash was $249.1 million, current assets $3,232.7 million and current liabilities $796.2 million. Inventory was $1,523.9 million; customer receivables, primarily US in-house financing, were $1,308.2 million net. Loans and overdrafts were $8.8 million, consisting of bank overdrafts; the $400 million revolving facility was undrawn. Reported net cash was $240.3 million.
- Shareholder returns: The declared dividend increased to $0.18 per share from $0.15. Signet repurchased 126,468 shares under its current program; $282.5 million remained authorized at quarter-end.
Material changes and unusual items
- Sales growth slowed from 10.4% in the comparable quarter of the prior year to 6.3%, and same-store sales growth moderated from 6.4% to 3.3%.
- SG&A rose to $310.5 million from $287.0 million. The reported expense included $8.4 million of pre-acquisition costs; excluding those costs, SG&A was $302.1 million, or 28.6% of sales versus 28.9% a year earlier.
- Signet completed its acquisition of Zale on May 29, 2014, after quarter-end, for a transaction cost of approximately $1.46 billion, including about $0.5 billion to extinguish Zale debt. The filing says purchase accounting and pro forma results were not yet available.
- Post-quarter-end acquisition financing included $400 million of 4.700% senior notes due 2024, a $600 million receivables-backed facility and a $400 million five-year term loan. The revolving credit facility was amended and extended to 2019. As of the report date, $400 million was drawn on the term loan and the amended revolver was undrawn. These borrowings were not reflected in the May 3 balance sheet.
Outlook, commentary and risks
- The filing provides no specific numerical earnings or sales guidance. Management cited growth in fashion diamonds, bridal and watches; higher US merchandise transactions; UK store-occupancy savings; and strong performance of the US customer credit portfolio. Lower gold costs helped US gross margin, partly offset by prior-year hedge losses and lower recovery on trade-ins and inventory.
- Management’s stated risks include diamond and gold price or supply volatility, consumer credit regulation and credit losses, seasonality, foreign exchange exposure, competition, and execution and integration risks related to Zale. Additional acquisition debt may constrain cash available for other initiatives and increase pressure on financial covenants.
- Five consolidated Zale-shareholder lawsuits challenging the acquisition were pending; the court denied a preliminary injunction. Separately, a gender-discrimination class-certification motion in arbitration remained pending. The EEOC employment case had been dismissed with prejudice, but the EEOC appealed. Signet said the outcome and potential loss in the employment matters could not be estimated.
- Management reported disclosure controls were effective as of May 3, 2014, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Post-acquisition debt, interest expense, covenant headroom and the effect of the receivables-backed financing on liquidity.
- Zale purchase-price allocation, pro forma results, integration costs, anticipated synergies and performance after consolidation.
- Whether sales and margins sustain growth, particularly given slower comparable-sales growth and the business’s holiday concentration.
- Customer receivable quality, allowance adequacy and credit trends; quarter-end US in-house finance receivables had an $87.8 million allowance, with 3.3% more than 90 days past due.
- Developments in the Zale shareholder litigation, the employment-related proceedings and exposure to commodity supply, pricing and hedging risks.