Abercrombie & Fitch Co. Form 10-Q Summary
Reporting period: Fiscal third quarter and year-to-date periods ended November 2, 2019, compared with November 3, 2018. The request metadata identifies “2018 Q3,” but the supplied filing is the Fiscal 2019 third-quarter Form 10-Q, filed December 11, 2019.
Business Context
Abercrombie & Fitch is a global omnichannel specialty retailer operating the Hollister, Abercrombie & Fitch and abercrombie kids brands. Products are sold through company-operated stores and digital channels, with additional wholesale, franchise and licensing activity. The company reported 881 stores at November 2, 2019, including 677 U.S. and 204 international stores.
Key Financial Metrics
| Metric | 13 Weeks Ended | 39 Weeks Ended |
|---|---|---|
| Net sales | $863.5 million, up 0.3% | $2.439 billion, up 0.2% |
| Gross profit / margin | $518.9 million / 60.1% | $1.462 billion / 59.9% |
| Operating income (loss) / margin | $14.5 million / 1.7% | $(52.3) million / (2.1)% |
| Net income (loss) attributable to A&F | $6.5 million | $(43.8) million |
| Diluted EPS | $0.10 | $(0.67) |
| Net cash provided by operating activities | Not provided for the quarter | $(33.8) million |
Adjusted non-GAAP operating income was $24.9 million, or 2.9% of sales, in the quarter, versus $36.7 million, or 4.3%, in the prior-year quarter. Year-to-date adjusted non-GAAP operating loss was $41.8 million, or 1.7% of sales, versus adjusted operating income of $9.0 million, or 0.4%, in the prior-year period.
Cash and equivalents were $410.8 million at November 2, 2019, compared with $723.1 million at February 2, 2019. Including restricted cash, ending cash was $432.0 million. Inventory increased to $590.9 million from $437.9 million at fiscal year-end. Gross borrowings were $243.3 million, all under the term loan facility; no borrowings were outstanding under the $400 million asset-based revolving credit facility, which had $399.6 million of availability. The company reported compliance with debt covenants.
Material Changes Versus Prior Comparable Period
- Third-quarter sales were approximately flat, while comparable sales were flat versus a 3% increase in the prior-year quarter. U.S. sales increased 4%, but international sales declined 6%.
- On a constant-currency basis, third-quarter sales increased 1% and year-to-date sales increased 2%, indicating that foreign exchange was a material headwind.
- Gross margin declined 120 basis points in the quarter and 80 basis points year to date. Drivers included higher shrink, foreign-exchange effects, lower average unit retail and anticipated tariff pressure.
- Year-to-date operating results included $47.0 million of flagship store exit charges, compared with $3.8 million in the prior-year period. Third-quarter asset impairment charges increased to $12.6 million from $0.7 million, primarily related to flagship store assets.
- Operating cash flow deteriorated to an outflow of $33.8 million from inflow of $77.2 million, while capital expenditures increased to $154.4 million from $98.8 million.
- The company repurchased approximately $63.5 million of common stock and paid $39.0 million of dividends year to date, and repaid $10.0 million of term-loan borrowings.
Guidance, Outlook, Risks and Unusual Items
- Fiscal 2019 guidance called for net sales and comparable sales ranging from flat to up 1%, approximately $200 million of capital investments, a gross-profit-rate decline of approximately 100 basis points, and an effective tax rate in the mid-20% range.
- Management expected operating expenses, excluding other operating income, to increase 2% to 3% from Fiscal 2018 adjusted expense, including flagship exit and asset impairment charges.
- The company expected approximately 85 new or remodeled/right-sized store experiences and up to 40 store closures during Fiscal 2019. It was pivoting from large-format flagship stores toward smaller omnichannel-focused locations.
- Chinese tariffs were expected to adversely affect Fiscal 2019 cost of merchandise and gross profit by approximately $5 million. The company was shifting sourcing away from China.
- Brexit uncertainty, foreign-currency volatility, Hong Kong protests, consumer discretionary spending, fashion trends, inventory management, competition, supply-chain disruption, cybersecurity and litigation were identified as material risks.
- Adoption of the new lease standard increased reported assets and liabilities by approximately $1.2 billion and reduced opening retained earnings by $75.2 million, without a significant impact on liquidity, cash-flow classification or debt covenant compliance.
- Swiss tax reform increased deferred tax assets and liabilities by $38.0 million in the third quarter without affecting reported earnings or cash flow.
- Future flagship closures may produce additional charges and cash expenditures that the company could not quantify. Fixed lease payments for closed flagship stores are expected to continue through Fiscal 2028.
Investor Verification Checklist
- Reconcile GAAP results with management’s non-GAAP measures, particularly the treatment of flagship impairments, store exit charges, legal items and tax effects.
- Assess whether inventory growth, negative operating cash flow and lower gross margin improve or worsen during the holiday selling season.
- Monitor international sales, foreign-exchange effects, Brexit-related disruption and Hong Kong operations.
- Verify the pace and economics of store closures, remodels, right-sizes and new omnichannel store openings.
- Review the company’s substantial operating lease obligations, including $1.519 billion of present-value lease liabilities and future flagship closure commitments.
- Compare actual Fiscal 2019 results with the stated sales, margin, expense, tax-rate and capital-investment guidance.