Filing summary
Entity and period: This is L Brands, Inc.’s Form 10-K, filed March 21, 2014, for the fiscal year ended February 1, 2014. Bath & Body Works is one of L Brands’ reportable businesses, not the filing registrant. The filing’s fourth-quarter comparison is fiscal Q4 2013 versus fiscal Q4 2012; it does not report a standalone 2012 Q4 filing. Amounts below are in U.S. dollars.
Business context and reporting period
L Brands operates Victoria’s Secret, Bath & Body Works, La Senza and Henri Bendel, selling through company-owned stores, direct channels and international partners. Fiscal 2013 was 52 weeks; fiscal 2012 was 53 weeks. The 2013 fourth quarter was 13 weeks versus 14 weeks in 2012, with the extra prior-year week contributing about $125 million in sales. Holiday trading is typically the company’s most profitable period.
Financial performance
| Metric | Fiscal 2013 | Fiscal 2012 |
|---|---|---|
| Net sales | $10.773 billion | $10.459 billion |
| Gross profit / margin | $4.429 billion / 41.1% | $4.386 billion / 41.9% |
| Operating income / margin | $1.743 billion / 16.2% | $1.573 billion / 15.0% |
| Net income | $903 million | $753 million |
| Diluted EPS | $3.05 | $2.54 |
| Operating cash flow | $1.248 billion | $1.351 billion |
| Capital expenditures | $691 million | $588 million |
| Cash and cash equivalents at year-end | $1.519 billion | $773 million |
| Total debt carrying value | $4.976 billion | $4.477 billion |
Fiscal 2013 operating cash flow less capital expenditures was approximately $557 million, compared with $763 million in 2012. Year-end working capital was $1.324 billion and the current ratio was 1.7. Shareholders’ equity was a deficit of $370 million. Interest expense was $314 million; the effective tax rate was 37.5%.
Fourth-quarter results and material changes
- Q4 net sales were $3.818 billion, down 1% from $3.856 billion; comparable-store sales increased 1%. The differing quarter lengths and roughly $125 million attributable to the extra week in prior-year Q4 are important context for the reported decline.
- Q4 operating income rose to $863 million from $788 million, and operating margin was 22.6% versus 20.4%. Q4 net income was $490 million versus $411 million.
- Victoria’s Secret Q4 sales fell 1% to $2.228 billion; comparable sales rose 3%. Victoria’s Secret Direct sales declined 5%, with management citing weaker apparel assortment and a shift toward core categories.
- Bath & Body Works Q4 sales declined 4% to $1.205 billion; comparable sales fell 1%. Store sales declined 5%, partly offset by 9% growth in direct sales. Management cited weakness across several store categories.
- For the full year, Victoria’s Secret sales increased 2% to $6.681 billion and Bath & Body Works sales increased 1% to $2.932 billion. Company-wide comparable sales increased 2%, down from 6% in fiscal 2012.
- Full-year gross margin declined 0.8 percentage point, with management citing promotional activity and higher buying and occupancy costs. Reported operating income growth includes the absence of $134 million of special charges in 2012; excluding those items, adjusted operating income increased $36 million and its rate was approximately flat.
Liquidity, debt and capital allocation
The company issued $500 million of 5.625% notes due 2023 in October 2013. At year-end, debt carrying value was $4.976 billion, including $215 million classified as current; cash was $1.519 billion. The $1 billion revolving facility had no borrowings outstanding, with $992 million available after letters of credit. The company reported compliance with its financial covenants; debt-to-consolidated-EBITDA was below 3.00x. Credit ratings were below investment grade, with stable outlooks from Moody’s, S&P and Fitch.
Fiscal 2013 capital spending was $691 million, including $551 million for stores. The company paid $349 million in regular dividends and repurchased $63 million of shares. After year-end, it declared a $0.34-per-share quarterly dividend and a $1-per-share special dividend; the combined $390 million was paid March 7, 2014.
Outlook, risks and unusual items
- Management described the retail environment as uncertain and said it was taking a conservative approach to financial management. It did not provide a specific earnings forecast in the supplied filing text.
- For 2014, management planned approximately $750 million in capital expenditures and about 85 new company-owned stores, primarily in the U.S. and Canada. Plans also included international store expansion, including partner-operated locations.
- Key risks include consumer spending and weather, seasonal inventory and holiday execution, fashion and promotional sensitivity, mall traffic and lease economics, international expansion and currency exposure, sourcing and shipping disruption, competition, cybersecurity and information-system reliability, labor costs, and debt service or refinancing.
- La Senza’s goodwill and trade name had been fully impaired by fiscal 2012 after continued underperformance; the company reported no new impairment charge in fiscal 2013. Fiscal 2012 also included a $27 million Henri Bendel store-asset impairment and $14 million of La Senza restructuring expense.
- A patent-infringement case had produced a $9 million jury award and future royalty ruling. The appeal remained ongoing; management expected to prevail following a separate ruling that the asserted patents were invalid. Management said ordinary-course litigation was not expected to materially affect financial position or results.
- The company disclosed approximately $43 million of remaining lease guarantees related to previously disposed businesses, with no liability recorded for guarantees it concluded were not probable. It also disclosed a related-party land transaction: approximately $21 million for land from an entity beneficially owned by the Wexners and about $7 million to assume contracts for adjacent parcels; the Audit Committee and unaffiliated directors approved the transaction.
- Ernst & Young issued unqualified opinions on the financial statements and internal controls; management reported effective controls. The company stated it had no off-balance-sheet arrangements as defined by SEC rules.
Important facts for investors to verify
- Confirm the fiscal-period basis: fiscal 2013 ended February 1, 2014, and the Q4 comparison is 13 weeks versus 14 weeks in the prior year.
- Assess whether Bath & Body Works’ negative Q4 comparable-store sales and lower store revenue persisted, and whether direct-channel growth offset store weakness.
- Reconcile reported operating-income improvement with the prior-year $134 million of special charges and track promotional pressure, gross margin and inventory growth.
- Monitor debt, refinancing needs, covenant headroom, cash generation after capital spending, and the sustainability of ordinary and special dividends.
- Follow the patent appeal, tax examinations and lease guarantees, and review the related-party land purchase and its disclosed approval process.