Abercrombie & Fitch Co. — Form 10-Q Summary
Reporting period: The supplied filing is for the thirteen and twenty-six weeks ended July 30, 2011, compared with July 31, 2010. The request metadata identifies “2010 Q2,” but the filing itself is a Fiscal 2011 second-quarter report, filed September 7, 2011.
Business Context and Reporting Period
Abercrombie & Fitch is a specialty retailer of casual apparel and accessories under the Abercrombie & Fitch, abercrombie kids, Hollister and Gilly Hicks brands. The Company operates stores and direct-to-consumer channels and reports one aggregated operating segment. At July 30, 2011, it operated 1,073 stores, compared with 1,098 at July 31, 2010, while gross square footage was approximately 7.8 million.
Financial Performance and Position
| Metric | Q2 2011 | Q2 2010 | YTD 2011 | YTD 2010 |
|---|---|---|---|---|
| Net sales | $916.8 million | $745.8 million | $1.753 billion | $1.434 billion |
| Gross profit | $583.0 million | $485.3 million | $1.127 billion | $916.8 million |
| Gross margin | 63.6% | 65.1% | 64.3% | 63.9% |
| Operating income | $47.2 million | $27.6 million | $85.9 million | $8.8 million |
| Operating margin | 5.1% | 3.7% | 4.9% | 0.6% |
| Net income | $32.0 million | $19.5 million | $57.2 million | $7.7 million |
| Diluted EPS | $0.35 | $0.22 | $0.63 | $0.09 |
Q2 comparable-store sales increased 9%; brand increases were 5% for Abercrombie & Fitch, 7% for abercrombie kids and 12% for Hollister. Direct-to-consumer sales, including shipping and handling, increased 28% and represented 11.1% of Q2 sales. International sales increased 74%, compared with 12% growth in the United States.
At July 30, 2011, cash and equivalents were $539.6 million, inventories were $516.1 million, total assets were $2.926 billion and stockholders’ equity was $1.887 billion. Long-term debt was $26.3 million, consisting primarily of landlord financing obligations; the Company had no borrowings under its revolving credit facility.
For the twenty-six weeks ended July 30, 2011, operating activities used $0.6 million of cash, investing activities used $151.4 million and financing activities used $138.8 million. Capital expenditures were $133.0 million, dividends paid were $30.6 million and share repurchases were $89.9 million. Cash decreased $286.7 million from year-end 2010.
Material Changes Versus the Prior Comparable Period
- Q2 sales increased 23%, while year-to-date sales increased 22%.
- Q2 operating income increased approximately 71%; year-to-date operating income increased sharply from $8.8 million to $85.9 million.
- Q2 gross margin declined 150 basis points because of higher average unit costs, partly offset by higher average retail prices and favorable international mix. Year-to-date gross margin increased 40 basis points.
- Stores and distribution expense improved to 46.4% of sales from 48.9% in Q2 and to 47.0% from 50.1% year to date, primarily because occupancy costs declined as a percentage of sales.
- Inventory increased 8% year over year, below the rate of sales growth, reflecting higher sales and improved inventory turnover relative to year-end.
- The Company repurchased approximately 1.4 million shares year to date, compared with no open-market repurchases in the prior-year period.
- The Company repaid the $43.8 million outstanding balance under its prior credit agreement and entered into a new $350 million unsecured facility.
- The effective tax rate was 30.7% in Q2 2011 versus 27.2% in Q2 2010, and 33.0% year to date versus a 6.0% benefit in the prior-year period. The prior-year rate benefited from tax adjustments and resolution of tax controversies.
Guidance, Outlook, Risks and Unusual Items
- Management expects Fiscal 2011 capital expenditures of approximately $350 million, primarily for new stores, refreshes and remodels.
- The Company expected to open four additional international Abercrombie & Fitch flagship stores and up to 40 international mall-based Hollister stores during Fiscal 2011; six Hollister stores had opened by July 30, 2011.
- Management expected to close approximately 60 to 65 U.S. stores during Fiscal 2011, primarily upon natural lease expirations.
- Management maintained a diluted EPS target of $4.75 for Fiscal 2012 and expected the full-year effective tax rate to be in the low-to-mid 30% range.
- Key operating uncertainties include higher cotton and other input costs, the ability to pass price increases to consumers, macroeconomic conditions, foreign-exchange volatility, fashion and demand risk, international expansion execution, inventory markdowns and seasonal sales fluctuations.
- The Company held $101.9 million of auction-rate securities with $12.3 million of cumulative temporary impairment; these securities were valued using significant unobservable inputs and remain subject to liquidity and valuation risk.
- RUEHL closure obligations were substantially reduced: $15.3 million was paid during the first half of Fiscal 2011, leaving a $0.6 million liability at July 30, 2011.
- Pending employment and derivative litigation remained unresolved. The Company stated that potential exposure could not be quantified and that actual liabilities could exceed recorded reserves.
- Management concluded that disclosure controls were effective and reported no material changes in internal control over financial reporting.
Important Facts for Investors to Verify
- Confirm that the applicable filing is the July 30, 2011 Fiscal 2011 Form 10-Q, not a 2010 second-quarter filing.
- Assess whether sales growth and international expansion can offset gross-margin pressure from cotton, labor, transportation and other costs.
- Review cash conversion, inventory levels, planned capital expenditures and seasonal reliance on fourth-quarter operating cash flow.
- Evaluate the liquidity and valuation assumptions for the $101.9 million auction-rate securities portfolio.
- Review the terms, covenants and availability of the new $350 million credit facility.
- Monitor pending employment and derivative litigation, for which the Company did not quantify potential exposure.
- Verify management’s Fiscal 2011 store-opening, store-closure and approximately $350 million capital-expenditure plans, as well as the Fiscal 2012 diluted EPS target.