Business context and reporting period
Ralph Lauren Corporation designs, markets, and distributes premium lifestyle products through Wholesale, Retail, and Licensing segments. This unaudited Form 10-Q covers the 13-week second quarter and six months of Fiscal 2016 ended September 26, 2015; comparisons are with the periods ended September 27, 2014.
Financial performance
| Metric | Q2 FY2016 | Six months FY2016 |
|---|---|---|
| Net revenues | $1.970 billion, down 1.2% reported; up 3.9% constant currency | $3.588 billion, down 3.1% reported; up 1.9% constant currency |
| Gross margin | 56.5%, down 30 basis points | 57.9%, down 90 basis points |
| Operating income / margin | $230 million / 11.7%; down 19.8% and 270 basis points | $326 million / 9.1%; down 38.5% and 520 basis points |
| Net income | $160 million, down 20.3% | $224 million, down 38.3% |
| Diluted EPS | $1.86, versus $2.25 | $2.58, versus $4.05 |
| Operating cash flow | Not separately presented | $366 million, versus $275 million |
Q2 net revenue by segment: Wholesale $927 million (down 1.8% reported; up 2.6% constant currency), Retail $996 million (down 0.9%; up 5.1%), and Licensing $47 million (up 5.1%; up 6.7%). For the first six months, segment operating income was Wholesale $384 million, Retail $233 million, and Licensing $78 million.
Cash, debt, and liquidity at September 26, 2015
Cash and cash equivalents were $380 million and short-term investments $746 million. Total debt was $727 million ($130 million short-term and $597 million long-term); net cash and investments were $407 million, down from $620 million at Fiscal 2015 year-end. The company reported $1.126 billion in cash, cash equivalents, and short-term investments; $1.101 billion was held by foreign subsidiaries. The $500 million revolving credit facility had no borrowings outstanding, with $9 million of letters of credit; commercial paper borrowings were $130 million. The company reported no credit-facility default.
Six-month investing cash outflow was $311 million, including $202 million of capital expenditures. Financing cash outflow was $176 million, including $299 million for repurchases and tax-withholding shares and $86 million of dividends. Inventory rose to $1.380 billion from $1.042 billion at March 28, 2015.
Material changes versus the prior comparable period
- Reported revenues and earnings declined, while constant-currency revenue increased. Management attributed the gap largely to unfavorable foreign exchange; six-month Wholesale revenue also reflected shipment timing.
- Margins weakened: management cited foreign-exchange effects, operating deleverage, higher investments in stores and infrastructure, and competitive conditions. E-commerce and new-store growth partly offset weaker comparable-store results.
- Q2 comparable-store sales fell 1% on a constant-currency basis; excluding e-commerce they declined approximately 2%–3%. E-commerce comparable sales rose 10% constant currency in Q2.
- Operating cash flow improved year over year, mainly from favorable working-capital movements, despite lower net income. Repurchases, capital spending, and dividends reduced net cash and investments.
- The company issued $300 million of 2.625% senior notes due 2020 in August 2015. It also entered into interest-rate and cross-currency swaps that effectively convert its $300 million 2.125% notes exposure into a euro-denominated floating-rate liability.
Outlook, management commentary, risks, and unusual items
Management described global economic uncertainty, weak and inconsistent retail traffic, North American promotional selling, foreign-exchange volatility, and constrained discretionary spending. It warned that continued or worsening conditions could pressure sales, inventory, and operating margins. No specific full-year revenue or earnings guidance is provided in the supplied filing text. Management expects near-term margin pressure from investments and foreign exchange, while continuing longer-term growth initiatives.
The Global Reorganization Plan, approved in May 2015, shifts the company to a global brand-based structure, includes workforce reductions and a review that may close stores and shop-within-shops, and includes consolidation of certain luxury lines. Management expects approximately $110 million of annual operating-expense savings once substantially implemented by the beginning of Fiscal 2017. Estimated total charges are $120–$150 million, including $85–$100 million cash charges. Six-month charges included $53 million of restructuring costs and $18 million of non-cash charges. Separately, Q2 included $12 million of charges primarily related to litigation settlements. Together, Q2 charges reduced net income by $24 million, or about $0.27 per diluted share; the six-month after-tax impact was $55 million, or about $0.62 per diluted share.
A customs audit dispute could result in up to approximately $46 million of incremental duties and non-creditable VAT, including interest and penalties. The company is contesting the claim and warns that an adverse outcome could materially affect financial condition, results, and cash flows. The filing also identifies risks from management transitions: Ralph Lauren became Executive Chairman and Chief Creative Officer, and Stefan Larsson became President and CEO, effective November 2, 2015. Other risks include foreign exchange, consumer demand and inventory, brand protection, international operations, cybersecurity, and execution of restructuring and systems initiatives.
Other notable items: an $8 million tax-estimate change favorably affected Q2 and six-month EPS by $0.09; the six-month effective tax rate was 27.6%, versus 29.3%. The annual goodwill assessment found no reporting units at risk of impairment. Management stated that disclosure controls were effective; implementation of the SAP system continues, with European migration expected to be completed during the fiscal year ending April 1, 2017.
Important facts for investors to verify
- Whether constant-currency growth, particularly in Retail and e-commerce, continues and translates into stronger comparable-store sales.
- Whether margin pressure eases as foreign-exchange effects, investments, and promotional conditions evolve.
- Actual restructuring charges, store and workforce actions, timing, and realization of the expected $110 million annual savings.
- Progress and potential exposure in the customs audit dispute, and any material developments in other legal matters.
- Cash and investment deployment, inventory levels, debt and credit-facility covenant compliance, and the pace of repurchases and dividends.
- Execution of leadership changes and the global operating-structure and SAP transitions.