UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K
(Mark One)
x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended February 2, 2013
OR
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 1-12107
ABERCROMBIE & FITCH CO.
(Exact name of registrant as specified in its charter)
Delaware | 31-1469076 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
6301 Fitch Path, New Albany, Ohio | 43054 | |
(Address of principal executive offices) | (Zip Code) | |
Registrant’s telephone number, including area code (614) 283-6500
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Name of each exchange on which registered | |
Class A Common Stock, $.01 Par Value | New York Stock Exchange | |
Series A Participating Cumulative Preferred Stock Purchase Rights | New York Stock Exchange | |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. x Yes ¨ No
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. ¨ Yes x No
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x Yes ¨ No
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).) x Yes ¨ No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer x | Accelerated filer ¨ | Non-accelerated filer ¨ | Smaller reporting company ¨ | |||
(Do not check if a smaller reporting company) | ||||||
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). ¨ Yes x No
Aggregate market value of the Registrant’s Class A Common Stock (the only outstanding common equity of the Registrant) held by non-affiliates of the Registrant (for this purpose, executive officers and directors of the Registrant are considered affiliates) as of July 27, 2012: $2,991,111,716.
Number of shares outstanding of the Registrant’s common stock as of March 22, 2013: 78,166,993 shares of Class A Common Stock.
DOCUMENT INCORPORATED BY REFERENCE:
Portions of the Registrant’s definitive proxy statement for the Annual Meeting of Stockholders, to be held on June 20, 2013, are incorporated by reference into Part III of this Annual Report on Form 10-K.
ABERCROMBIE & FITCH CO.
TABLE OF CONTENTS
ITEM 1. | ||
ITEM 1A. | ||
ITEM 1B. | ||
ITEM 2. | ||
ITEM 3. | ||
ITEM 4. | ||
SUPPLEMENTAL ITEM. | ||
ITEM 5. | ||
ITEM 6. | ||
ITEM 7. | ||
ITEM 7A. | ||
ITEM 8. | ||
ITEM 9. | ||
ITEM 9A. | ||
ITEM 9B. | ||
ITEM 10. | ||
ITEM 11. | ||
ITEM 12. | ||
ITEM 13. | ||
ITEM 14. | ||
ITEM 15. | ||
PART I
ITEM 1. | BUSINESS. |
GENERAL.
Abercrombie & Fitch Co. (“A&F”), a company incorporated in Delaware in 1996, through its subsidiaries (collectively, A&F and its subsidiaries, are referred to as “Abercrombie & Fitch” or the “Company”), is a specialty retailer that operates stores and direct-to-consumer operations. Through these channels, the Company sells a broad array of products, including: casual sportswear apparel, including knit and woven shirts, graphic t-shirts, fleece, jeans and woven pants, shorts, sweaters, and outerwear; personal care products; and accessories for men, women and kids under the Abercrombie & Fitch, abercrombie kids, and Hollister brands. The Company also operates stores and direct-to-consumer operations offering bras, underwear, personal care products, sleepwear and at-home products for girls under the Gilly Hicks brand. As of February 2, 2013, the Company operated 912 stores in the United States (“U.S.”) and 139 stores outside of the U.S.
The Company’s fiscal year ends on the Saturday closest to January 31, typically resulting in a fifty-two week year, but occasionally giving rise to an additional week, resulting in a fifty-three week year as was the case for Fiscal 2012. Fiscal years are designated in the consolidated financial statements and notes by the calendar year in which the fiscal year commences. All references herein to “Fiscal 2012” represent the 53-week fiscal year ended February 2, 2013; to “Fiscal 2011” represent the 52-week fiscal year ended January 28, 2012; and to “Fiscal 2010” represent the 52-week fiscal year ended January 29, 2011. In addition, all references herein to “Fiscal 2013” represent the 52-week fiscal year that will end on February 1, 2014.
A&F makes available free of charge on its Internet website, www.abercrombie.com, under “Investors, SEC Filings,” its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as well as A&F’s definitive proxy materials filed pursuant to Section 14 of the Exchange Act, as soon as reasonably practicable after A&F electronically files such material with, or furnishes it to, the Securities and Exchange Commission (“SEC”). The SEC maintains a website that contains electronic filings by A&F and other issuers at www.sec.gov. In addition, the public may read and copy any materials A&F files with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.
The Company has included its Internet website addresses throughout this filing as textual references only. The information contained within these Internet websites is not incorporated into this Annual Report on Form 10-K.
DESCRIPTION OF OPERATIONS.
Brands.
Abercrombie & Fitch. Rooted in East Coast traditions and Ivy League heritage, Abercrombie & Fitch is the essence of privilege and casual luxury. The Adirondacks supply a clean inspiration to this preppy, youthful All-American lifestyle. A combination of classic and sexy creates a charged atmosphere that is confident and just a bit provocative. Idolized and respected, Abercrombie & Fitch is timeless and always cool.
abercrombie kids. The essence of privilege and prestigious East Coast prep schools, abercrombie kids directly follows in the footsteps of Abercrombie & Fitch. With an energetic attitude, abercrombie kids are popular, wholesome and athletic. Casual, with classic, preppy style, abercrombie kids aspire to be like their older sibling, Abercrombie & Fitch. The perfect combination of maturity and mischief, abercrombie kids are the signature of All-American cool.
Hollister. Hollister is the fantasy of Southern California. It’s all about hot lifeguards and beautiful beaches. Young and fun, with a sense of humor, Hollister never takes itself too seriously. Hollister’s laidback lifestyle and All-American image is timeless and effortlessly cool. Hollister brings Southern California to the world.
Gilly Hicks. Gilly Hicks is the cheeky cousin of Abercrombie & Fitch. Inspired by the free spirit of Sydney, Australia, Gilly Hicks makes the hottest Push ‘Em Up bras and the cutest Down Undies for young, naturally beautiful, confident girls. Carefree and undeniably pretty, Gilly Hicks is the All-American brand with a Sydney sensibility.
Though each of the Company’s brands embodies its own heritage and handwriting, the brands share common elements and characteristics. The brands are classic, casual, confident, intelligent, privileged and possess a sense of humor.
Refer to the “FINANCIAL SUMMARY” in “ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS” of this Annual Report on Form 10-K for information regarding net sales and other financial and operational data by segment and by brand.
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FINANCIAL INFORMATION ABOUT SEGMENTS.
The Company determines its segments on the same basis that it uses to evaluate performance. All of the Company’s segments sell a similar group of products — casual sportswear apparel, personal care products and accessories for men, women and kids and bras, underwear and sleepwear for girls. The Company has three reportable segments: U.S. Stores, International Stores and Direct-to-Consumer. Refer to Note 2, “SEGMENT REPORTING,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K for further discussion of the Company’s reportable segments.
IN-STORE EXPERIENCE AND STORE OPERATIONS.
The Company views the customer’s in-store experience as the primary means of communicating the spirit of each brand. The Company emphasizes the senses of sight, sound, smell, touch and energy by utilizing the visual presentation of merchandise, in-store marketing, music, fragrances, rich fabrics and its sales associates to reinforce the aspirational lifestyles represented by the brands.
The Company’s in-store marketing is designed to convey the principal elements and personality of each brand. The store design, furniture, fixtures and music are all carefully planned and coordinated to create a shopping experience that reflects the Abercrombie & Fitch, abercrombie kids, Hollister or Gilly Hicks lifestyle.
The Company’s sales associates and managers are a central element in creating the atmosphere of the stores. In addition to serving customers, sales associates and managers reflect the casual, energetic and aspirational attitude of the brands.
Merchandise is similarly displayed, regardless of location, to ensure a consistent in-store experience. Store managers receive detailed plans designating fixture and merchandise placement to ensure coordinated execution of the Company-wide merchandising strategy. In addition, standardization of each brand’s store design and merchandise presentation enables the Company to open new stores efficiently.
At the end of Fiscal 2012, the Company operated 1,051 stores. The following table details the number of retail stores operated by the Company at February 2, 2013:
Fiscal 2012 | Abercrombie & Fitch | abercrombie kids | Hollister | Gilly Hicks | Total | |||||
U.S. | 266 | 144 | 482 | 20 | 912 | |||||
International | 19 | 6 | 107 | 7 | 139 | |||||
Total | 285 | 150 | 589 | 27 | 1,051 | |||||
DIRECT-TO-CONSUMER BUSINESS.
The Company operates websites for each brand, both domestically and internationally. The websites reinforce each particular brand’s lifestyle, and are designed to complement the in-store experience. Total net sales through direct-to-consumer operations, including shipping and handling revenue, were $700.7 million for Fiscal 2012, representing 16% of total net sales. The Company believes its direct-to-consumer operations have broadened its market and brand recognition worldwide.
MARKETING AND ADVERTISING.
The Company considers the in-store experience to be its primary marketing vehicle. The Company’s marketing strategy emphasizes the senses to reinforce the aspirational lifestyle represented by each brand. The Company’s flagship stores represent the pinnacle of the Company’s in-store branding efforts. The Company also engages its customers through the internet, social media and mobile commerce in ways that reinforce the aspirational lifestyle of the brands. Flagship stores, e-commerce and digital marketing, inclusive of social media, attract a substantial number of international consumers and have significantly contributed to the worldwide status of the Company’s iconic brands. In addition, the Company launched A&F and Hollister club programs during the third quarter of Fiscal 2012 to further engage customers. Including email addresses and mobile phone numbers, the Company's total customer relationship management database has over ten million contacts.
MERCHANDISE SUPPLIERS.
During Fiscal 2012, the Company sourced merchandise through approximately 155 vendors located throughout the world; primarily in Asia and Central and South America. The Company did not source more than 10% of its merchandise from any single factory or supplier during Fiscal 2012. The Company pursues a global sourcing strategy that includes relationships with vendors in 20 countries, as well as the United States. The Company’s foreign sourcing of merchandise is negotiated and settled in U.S. Dollars.
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All product sources, including independent manufacturers and suppliers, must achieve and maintain the Company’s high quality standards, which are an integral part of the Company’s identity. The Company has established supplier product quality standards to ensure the high quality of fabrics and other materials used in the Company’s products. The Company utilizes both home office and field employees to help monitor compliance with the Company’s product quality standards.
Before the Company begins production with any factory, the factory must first go through a quality assurance inspection to ensure it meets Company standards. This includes factories that are subcontractors to the factories and vendors with whom the Company works. All business partners are contractually required to adhere to our vendor Code of Conduct, and all new factories go through an initial social audit, which includes a factory walk-through to appraise the physical working conditions and health and safety practices, as well as payroll and age document review. Social audits on the factories are also performed once a year after the initial audit. The Company strives to partner with suppliers who respect local laws and share our dedication to utilize best practices in human rights, labor rights, environmental practices and workplace safety.
DISTRIBUTION AND MERCHANDISE INVENTORY.
The Company’s merchandise is shipped to the Company’s distribution centers (“DCs”) where it is received and inspected before being shipped to stores or direct-to-consumer customers. The Company uses its two DCs in New Albany, Ohio to support its North American stores, and direct-to-consumer customers outside of Europe. The Company uses a third-party DC in the Netherlands for the distribution of merchandise to stores and direct-to-consumer customers located in Europe, and a third-party DC in Hong Kong for the distribution of merchandise to stores located in Asia. The Company utilizes primarily one contract carrier to ship merchandise and related materials to its North American stores and direct-to-consumer customers, and a separate contract carrier for its European and Asian stores and direct-to-consumer customers.
The Company strives to maintain sufficient quantities of inventory in its retail stores and DCs to offer customers a full selection of current merchandise. The Company attempts to balance in-stock levels and inventory turnover, and to take markdowns when required to keep merchandise fresh and current with fashion trends.
INFORMATION SYSTEMS.
The Company’s management information systems consist of a full range of retail, merchandising and financial systems. The systems include applications related to point-of-sale, direct-to-consumer, inventory management, supply chain, planning, sourcing, merchandising and financial reporting. The Company continues to invest in technology to upgrade core systems to make the Company scalable, efficient, and more accurate, including support of its international expansion.
SEASONAL BUSINESS.
The retail apparel market has two principal selling seasons: the Spring season which includes the first and second fiscal quarters (“Spring”); and the Fall season which includes the third and fourth fiscal quarters (“Fall”). As is typical in the apparel industry, the Company experiences its greatest sales activity during the Fall season due to the Back-to-School (August) and Holiday (November and December) selling periods, particularly in the U.S.
TRADEMARKS.
The Abercrombie & Fitch®, abercrombie®, Hollister®, Gilly Hicks®, “Moose” and “Seagull” trademarks are registered with the U.S. Patent and Trademark Office and the registries of countries where stores are located or likely to be located in the future. In addition, these trademarks are either registered, or the Company has applications for registration pending, with the registries of many of the foreign countries in which the manufacturers of the Company’s products are located. The Company has also registered, or has applied to register, certain other trademarks in the U.S. and around the world. The Company believes its products are identified by its trademarks and, therefore, its trademarks are of significant value. Each registered trademark has a duration of ten to 20 years, depending on the date it was registered, and the country in which it is registered, and is subject to an indefinite number of renewals for a like period upon continued use and appropriate application. The Company intends to continue using its core trademarks and to renew each of its registered trademarks that remain in use.
OTHER INFORMATION.
Additional information about the Company’s business, including its revenues and profits for the last three fiscal years and gross square footage of stores, is set forth under “ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS” of this Annual Report on Form 10-K.
COMPETITION.
The sale of apparel, accessories and personal care products through stores and direct-to-consumer channels is a highly competitive business with numerous participants, including individual and chain fashion specialty stores, as well as regional and national department stores. As the Company continues expanding internationally, it also faces competition in local markets from established chains, as well as local specialty stores. Brand recognition, fashion, price, service, store location, selection and quality are the principal competitive factors in retail store and direct-to-consumer sales.
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The competitive challenges facing the Company include: anticipating and quickly responding to changing fashion trends and maintaining the aspirational positioning of its brands. Furthermore, the Company faces additional competitive challenges as many retailers continue promotional activities, particularly in the U.S. In response to these conditions, the Company has engaged in promotional activity while continuing to focus on preserving the value of its brands.
ASSOCIATE RELATIONS.
As of March 22, 2013, the Company employed approximately 98,000 associates. Approximately 88,000 of the Company’s associates were part-time associates.
On average, the Company employed approximately 26,000 full-time equivalents during Fiscal 2012 which included approximately 15,000 full-time equivalents comprised of part-time associates, including temporary associates hired during peak periods, such as the Back-to-School and Holiday seasons.
The Company believes it maintains a good relationship with its associates. However, in the normal course of business, the Company is party to lawsuits involving former and current associates.
ENVIRONMENTAL MATTERS.
Compliance with domestic and international regulations related to environmental matters has not had, nor is it expected to have, any material effect on capital expenditures, earnings, or the Company’s competitive position based on information and circumstances known to us at this time.
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ITEM 1A. | RISK FACTORS |
FORWARD-LOOKING STATEMENTS AND RISK FACTORS.
We caution that any forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) contained in this Annual Report on Form 10-K or made by us, our management or our spokespeople involve risks and uncertainties and are subject to change based on various factors, many of which may be beyond our control. Words such as “estimate,” “project,” “plan,” “believe,” “expect,” “anticipate,” “intend” and similar expressions may identify forward-looking statements. Except as may be required by applicable law, we assume no obligation to publicly update or revise our forward-looking statements.
The following factors could affect our financial performance and could cause actual results to differ materially from those expressed or implied in any of the forward-looking statements:
• | changes in economic and financial conditions, and the resulting impact on consumer confidence and consumer spending, could have a material adverse effect on our business, results of operations and liquidity; |
• | changing fashion trends and consumer preferences, and the ability to manage our inventory commensurate with customer demand, could adversely impact our sales levels and profitability; |
• | fluctuations in the cost, availability and quality of raw materials, labor and transportation, could cause manufacturing delays and increase our costs; |
• | our growth strategy relies significantly on international expansion, which requires significant capital investment, adds complexity to our operations and may strain our resources and adversely impact current store performance; |
• | our international expansion plan is dependent on a number of factors, any of which could delay or prevent successful penetration into new markets or could adversely affect the profitability of our international operations; |
• | our direct-to-consumer operations are subject to numerous risks that could adversely impact sales; |
• | equity-based compensation awarded under the employment agreement with our Chief Executive Officer could adversely impact our cash flows, financial position or results of operations and could have a dilutive effect on our outstanding Common Stock; |
• | our development of a new brand concept such as Gilly Hicks could have a material adverse effect on our financial condition or results of operations; |
• | fluctuations in foreign currency exchange rates could adversely impact our financial condition and results of operations; |
• | our business could suffer if our information technology systems are disrupted or cease to operate effectively; |
• | comparable sales, including direct-to-consumer, may continue to fluctuate on a regular basis and impact the volatility of the price of our Common Stock; |
• | our market share may be negatively impacted by increasing competition and pricing pressures from companies with brands or merchandise competitive with ours; |
• | our ability to attract customers to our stores depends, in part, on the success of the shopping malls or area attractions in which most of our stores are located; |
• | our net sales fluctuate on a seasonal basis, causing our results of operations to be susceptible to changes in Back-to-School and Holiday shopping patterns; |
• | our failure to protect our reputation could have a material adverse effect on our brands; |
• | we rely on the experience and skills of our senior executive officers, the loss of whom could have a material adverse effect on our business; |
• | interruption in the flow of merchandise from our key vendors and international manufacturers could disrupt our supply chain, which could result in lost sales and could increase our costs; |
• | In a number of our European stores, associates are represented by workers’ councils and unions, whose demands could adversely affect our profitability or operating standards for our brands; |
• | we depend upon independent third parties for the manufacture and delivery of all our merchandise; |
• | our reliance on two distribution centers domestically and two third-party distribution centers internationally makes us susceptible to disruptions or adverse conditions affecting our distribution centers; |
• | we may be exposed to risks and costs associated with credit card fraud and identity theft that would cause us to incur unexpected expenses and loss of revenues; |
• | our facilities, systems and stores, as well as the facilities and systems of our vendors and manufacturers, are vulnerable to natural disasters, pandemic disease and other unexpected events, any of which could result in an interruption to our business and adversely affect our operating results; |
• | our litigation exposure could have a material adverse effect on our financial condition and results of operations; |
• | our inability or failure to adequately protect our trademarks could have a negative impact on our brand image and limit our ability to penetrate new markets; |
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• | fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results; |
• | the effects of war or acts of terrorism could have a material adverse effect on our operating results and financial condition; |
• | our inability to obtain commercial insurance at acceptable prices or our failure to adequately reserve for self-insured exposures might increase our expenses and adversely impact our financial results; |
• | operating results and cash flows at the store level may cause us to incur impairment charges; |
• | we are subject to customs, advertising, consumer protection, privacy, zoning and occupancy and labor and employment laws that could require us to modify our current business practices, incur increased costs or harm our reputation if we do not comply; |
• | changes in the regulatory or compliance landscape could adversely affect our business and results of operations; |
• | our unsecured Amended and Restated Credit Agreement (the “Amended and Restated Credit Agreement”) and our Term Loan Agreement include financial and other covenants that impose restrictions on our financial and business operations; and |
• | compliance with changing regulations and standards for accounting, corporate governance and public disclosure could adversely affect our business, results of operations and reported financial results. |
The following sets forth a description of the preceding risk factors that we believe may be relevant to an understanding of our business. These risk factors could cause actual results to differ materially from those expressed or implied in any of our forward-looking statements.
Changes in economic and financial conditions, and the resulting impact on consumer confidence and consumer spending, could have a material adverse effect on our business, results of operations and liquidity.
Our business depends on consumer demand for our merchandise. Consumer purchases of discretionary items, including our merchandise, generally decline during recessionary periods and other periods where disposable income is adversely affected. Our performance is subject to factors that affect worldwide economic conditions including unemployment, consumer credit availability, consumer debt levels, reductions in net worth based on declines in the financial, residential real estate and mortgage markets, sales tax rates and tax rate increases, fuel and energy prices, interest rates, consumer confidence in future economic and political conditions, consumer perceptions of personal well-being and security, the value of the U.S. Dollar versus foreign currencies and other macroeconomic factors.
During Fiscal 2008 and Fiscal 2009, the combination of these factors caused consumer spending in the U.S. to deteriorate significantly. While consumer spending began to improve in Fiscal 2010 and continued to improve in Fiscal 2011 and Fiscal 2012, these factors may cause levels of spending to remain depressed relative to historical levels for the foreseeable future. These factors also may cause consumers to purchase products from lower-priced competitors or to defer purchases of apparel and personal care products.
In addition, we have significantly expanded our presence in the European market with stores in the United Kingdom, France, Germany, Netherlands, Austria, Belgium, Spain, Italy, Ireland, Sweden, Poland and Denmark. The ongoing European debt crisis may impact consumer demand for our merchandise. The economic conditions and factors described above could adversely affect the productivity of our stores, as well as adversely affect the pace of opening new international stores, or their productivity once opened.
Economic uncertainty could have a material adverse effect on our results of operations, liquidity, and capital resources if reduced consumer demand for our merchandise should occur. It could also impact our ability to fund growth and/or result in our becoming reliant on external financing, the availability of which may be uncertain.
In addition, the economic environment may exacerbate some of the risks noted below, including consumer demand, strain on available resources, international growth strategy and the availability of real estate, interruption of the flow of merchandise from key vendors and manufacturers, and foreign currency exchange rate fluctuations. The risks could be exacerbated individually, or collectively.
Changing fashion trends and consumer preferences, and the ability to manage our inventory commensurate with customer demand, could adversely impact our sales levels and profitability.
Our success largely depends on our ability to anticipate and gauge the fashion preferences of our customers and provide merchandise that satisfies constantly shifting demands in a timely manner. Our merchandise and our brands must appeal to our consumers, whose preferences cannot be predicted with certainty and are also subject to rapid change. We must translate market trends into appropriate, saleable merchandise far in advance of its sale in our stores or through our websites. Because we enter into agreements for the manufacture and purchase of merchandise well in advance of the applicable selling season, we are vulnerable to changes in consumer preferences and demand, pricing shifts, and the sub-optimal selection and timing of merchandise purchases. Moreover, there can be no assurance that we will continue to anticipate consumer demands and accurately plan inventory successfully in the future. Changing consumer preferences and fashion trends, whether we are able to
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anticipate, identify and respond to them or not, could adversely impact our sales. Inventory levels for certain merchandise styles no longer considered to be “on trend” may increase, leading to higher markdowns to sell through excess inventory. A distressed economic and retail environment, in which many of our competitors continue to engage in aggressive promotional activities, particularly in the U.S., increases the importance of reacting appropriately to changing consumer preferences and fashion trends. Conversely, if we underestimate consumer demand for our merchandise, or if our manufacturers fail to supply quality products in a timely manner, we may experience inventory shortages, which may negatively impact customer relationships, diminish brand loyalty and result in lost sales. Any of these events could significantly harm our operating results and financial condition.
Fluctuations in the cost, availability and quality of raw materials, labor and transportation, could cause manufacturing delays and increase our costs.
Fluctuations in the cost, availability and quality of the fabrics or other raw materials used to manufacture our merchandise could have a material adverse effect on our cost of goods, or our ability to meet customer demand. The prices for such fabrics depend largely on the market prices for the raw materials used to produce them, particularly cotton. The price and availability of such raw materials may fluctuate significantly, depending on many factors, including crop yields and weather patterns. Such factors may be exacerbated by legislation and regulations associated with global climate change.
In addition, the cost of labor at many of our third-party manufacturers has been increasing significantly, and as the middle class in developing countries continues to grow, it is unlikely such cost pressure will abate. The cost of transportation has been increasing as well and, if the price of oil continues to increase, and there continues to be significant unrest in the Middle East, it is unlikely that such cost pressure will abate.
We may not be able to pass all or a portion of higher raw materials prices or labor or transportation costs on to our customers, which could adversely affect our gross margin and results of our operations.
Our growth strategy relies significantly on international expansion, which requires significant capital investment, adds complexity to our operations and may strain our resources and adversely impact current store performance.
Our growth strategy largely depends on the opening of new international stores. This international expansion has placed, and will continue to place, increased demands on our operational, managerial and administrative resources at all levels of the Company. These increased demands may cause us to operate our business less efficiently, which in turn could cause deterioration in the performance of our existing stores or could adversely affect our inventory levels. Furthermore, our ability to conduct business in international markets may be adversely affected by legal, regulatory, political and economic risks. Our international expansion strategy and success could also be adversely impacted by the global economy. Failure to properly implement our growth strategy could have a material adverse effect on our financial condition and results of operations or could otherwise adversely affect our ability to achieve our objectives.
In addition, as we continue to expand our overseas operations, we are subject to certain U.S. laws, including the Foreign Corrupt Practices Act, in addition to the laws of the foreign countries in which we operate. We must use all commercially reasonable efforts to ensure our associates comply with these laws. If any of our overseas operations, or our associates or agents, violate such laws, we could become subject to sanctions or other penalties that could negatively affect our reputation, business and operating results.
Our international expansion plan is dependent on a number of factors, any of which could delay or prevent successful penetration into new markets or could adversely affect the profitability of our international operations.
As we expand internationally, we may incur significant costs related to starting up and maintaining foreign operations. Costs may include, but are not limited to, obtaining prime locations for stores, setting up foreign offices and distribution centers, hiring experienced management and maintaining good relations with individual associates and groups of associates. We may be unable to open and operate new stores successfully, or we may face operational issues that delay our intended pace of international store openings, and, in any such case, our growth may be limited, unless we can:
• | identify suitable markets and sites for store locations; |
• | address the different operational characteristics present in each country to which we expand, including employment and labor, transportation, logistics, real estate, lease provisions and local reporting or legal requirements; |
• | negotiate acceptable lease terms, in some cases in locations in which the relative rights and obligations of landlords and tenants differ significantly from the customs and practices in the U.S.; |
• | hire, train and retain competent store personnel; |
• | gain and retain acceptance from foreign customers; |
• | manage inventory effectively to meet the needs of new and existing stores on a timely basis; |
• | expand infrastructure to accommodate growth; |
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• | foster current relationships and develop new relationships with vendors that are capable of supplying a greater volume of merchandise; |
• | generate sufficient operating cash flows or secure adequate capital on commercially reasonable terms to fund our expansion plan; |
• | manage foreign currency exchange risks effectively; and |
• | achieve acceptable operating margins from new stores. |
Failure to implement our international expansion plan consistent with our internal expectations, whether as a result of one or more of the factors listed above or other factors, could adversely affect our ability to achieve the objectives that we have established.
Our direct-to-consumer operations are subject to numerous risks that could adversely impact sales.
We sell merchandise for each brand over the Internet, both domestically and internationally. Our direct-to-consumer operations are subject to numerous risks, including:
• | reliance on third-party computer hardware/software providers; |
• | rapid technological change and the implementation of new systems and platforms; |
• | diversions of sales from our stores; |
• | liability for online content; |
• | violations of state, federal or international laws, including those relating to online privacy; |
• | credit card fraud; |
• | the failure of the computer systems that operate our websites and their related support systems, including computer viruses; |
• | telecommunication failures and electronic break-ins and similar disruptions; and |
• | disruption of Internet service, whether for technical reasons or as a result of state-sponsored censorship. |
Our failure to successfully respond to these risks might adversely affect sales in our direct-to-consumer business, as well as damage our reputation and brands.
Equity-based compensation awarded under the employment agreement with our Chief Executive Officer could adversely impact our cash flows, financial position or results of operations and could have a dilutive effect on our outstanding Common Stock.
Under the Employment Agreement entered into as of December 19, 2008, which expires February 1, 2014, between A&F and Michael S. Jeffries, our Chairman and Chief Executive Officer (the “Employment Agreement”), Mr. Jeffries received grants (the “Retention Grants”) of stock appreciation rights. In addition to the Retention Grants, Mr. Jeffries is eligible to receive two equity-based grants during each fiscal year of the term of the Employment Agreement starting with Fiscal 2009 (each, a “Semi-Annual Grant”). The value of a Semi-Annual Grant is uncertain and dependent on the future market price of our Common Stock and our financial performance. To date, Mr. Jeffries has received Semi-Annual Grants, in the aggregate, of 3,752,259 stock appreciation rights.
In connection with the Semi-Annual Grants contemplated by the Employment Agreement, the related compensation expense could significantly impact our results of operations. In addition, the significant number of shares of Common Stock which could be issued to settle the Retention Grants and the Semi-Annual Grants is uncertain and dependent on the future market price of our Common Stock and our financial performance and would, if issued, have a dilutive effect with respect to our outstanding shares of Common Stock, which may adversely affect the market price of our Common Stock.
Our development of a new brand concept such as Gilly Hicks could have a material adverse effect on our financial condition or results of operations.
Historically, we have developed and launched new brands internally that have contributed to our sales growth. Our most recent brand, Gilly Hicks, offers bras, underwear, personal care products, sleepwear and at-home products for girls. The development and growth of new brand concepts, such as Gilly Hicks, requires management’s focus and attention, as well as significant capital investments. Furthermore, a new brand concept is susceptible to risks, including lack of customer acceptance, competition from existing or new retailers, product differentiation, production and distribution inefficiencies and unanticipated operating issues. There is no assurance that a new brand concept, including Gilly Hicks, will achieve successful results. The failure of Gilly Hicks to be launched and expanded successfully, and to achieve profitability, could have a material adverse effect on our financial condition and results of operations. The costs of exiting a brand are significant. In addition, the ongoing development of new concepts may place a strain on available resources.
Fluctuations in foreign currency exchange rates could adversely impact our financial condition and results of operations.
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The functional currency of our international subsidiaries is generally the local currency in which each operates, which includes British Pounds, Canadian Dollars, Chinese Yuan, Danish Kroner, Euros, Hong Kong Dollars, Japanese Yen, Polish Zloty, Singapore Dollars, South Korean Won, Swedish Kronor and Swiss Francs. Our consolidated financial statements are presented in U.S. Dollars. Therefore, we must translate revenues, expenses, assets and liabilities from functional currencies into U.S. Dollars at exchange rates in effect during, or at the end of the reporting period. In addition, our international subsidiaries transact in currencies other than their functional currency, including intercompany transactions, which could result in foreign currency transaction gains or losses. The fluctuation in the value of the U.S. Dollar against other currencies could impact our financial results.
Furthermore, we purchase substantially our entire inventory in U.S. Dollars. As a result, our gross margin rate from international operations is subject to volatility from movements in exchange rates over time, which could have an adverse effect on our financial condition and results of operations and profitability from the growth desired from international operations.
Our business could suffer if our information technology systems are disrupted or cease to operate effectively.
We rely heavily on our information technology systems: to operate our websites; record and process transactions; respond to customer inquiries; manage inventory; purchase, sell and ship merchandise on a timely basis; and maintain cost-efficient operations. Given the significant number of transactions that are completed annually, it is vital to maintain constant operation of our computer hardware and software systems and maintain cyber security. Despite efforts to prevent such an occurrence, our information technology systems are vulnerable from time-to-time to damage or interruption from computer viruses, power outages, third-party intrusions and other technical malfunctions. If our systems are damaged, or fail to function properly, we may have to make monetary investments to repair or replace the systems, and we could endure delays in our operations.
In addition, we regularly evaluate our information technology systems and requirements and are currently implementing modifications and/or upgrades to the information technology systems that support our business. Modifications include replacing existing systems with successor systems, making changes to existing systems, or acquiring new systems with new functionality. We are aware of the inherent risks associated with replacing and modifying these systems, including inaccurate system information, system disruptions and user acceptance and understanding. We believe we are taking appropriate action to mitigate the risks through disciplined adherence to methodology, program management, testing and user involvement, as well as securing appropriate commercial contracts with third-party vendors supplying the replacement technologies.
Any material disruption or slowdown of our systems, including a disruption or slowdown caused by our failure to successfully upgrade our systems, could cause information, including data related to customer orders, to be lost or delayed. Such a loss or delay could - especially if the disruption or slowdown occurred during our peak selling seasons - result in delays of merchandise delivery to our stores and customers, which could reduce demand for our merchandise and cause our sales and profitability to decline.
Comparable sales, including direct-to-consumer, may continue to fluctuate on a regular basis and impact the volatility of the price of our Common Stock.
Our comparable sales, defined as year-over-year sales for a store that has been open as the same brand at least one year and the square footage of which has not been expanded or reduced by more than 20% and our direct to consumer sales, have fluctuated significantly in the past on an annual and quarterly basis and are expected to continue to fluctuate in the future. We believe that a variety of factors affect comparable sales results including, but not limited to, fashion trends, actions by competitors or mall anchor tenants, changes in economic conditions and consumer spending patterns, weather conditions, opening and/or closing of our stores in proximity to each other, the timing of the release of new merchandise and promotional events, changes in our merchandise mix and the calendar shifts of tax free and holiday periods.
Comparable sales fluctuations may impact our ability to leverage fixed direct expenses, including store rent and store asset depreciation, which may adversely affect our financial condition or results of operations.
In addition, comparable sales fluctuations may have been an important factor in the volatility of the price of our Common Stock in the past, and it is likely that future comparable sales fluctuations will contribute to stock price volatility in the future.
Our market share may be negatively impacted by increasing competition and pricing pressures from companies with brands or merchandise competitive with ours.
The sale of apparel and personal care products through stores and direct-to-consumer channels is a highly competitive business with numerous participants, including individual and chain fashion specialty stores, as well as regional, national and international department stores. The substantial sales growth in the direct-to-consumer channel within the last few years has encouraged the entry of many new competitors and an increase in competition from established companies. We face a variety of competitive challenges, including:
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• | anticipating and quickly responding to changing consumer demands or preferences better than our competitors; |
• | maintaining favorable brand recognition and effectively marketing our products to consumers in several diverse demographic markets; |
• | sourcing merchandise efficiently; |
• | developing innovative, high-quality merchandise in styles that appeal to our consumers and in ways that favorably distinguish us from our competitors; and |
• | countering the aggressive promotional activities of many of our competitors without diminishing the aspirational nature of our brands and brand equity. |
In light of the competitive challenges we face, we may not be able to compete successfully in the future. Further, increases in competition could reduce our sales and harm our operating results and business.
Our ability to attract customers to our stores depends, in part, on the success of the shopping malls or area attractions in which most of our stores are located.
In order to generate customer traffic, we locate many of our stores in prominent locations within successful shopping malls or street locations. Our stores benefit from the ability of the malls’ “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls in the U.S. and, increasingly, in many international locations as shopping destinations. We cannot control the development of new shopping malls in the U.S. or around the world; the availability or cost of appropriate locations; competition with other retailers for prominent locations; or the success of individual shopping malls. All of these factors may impact our ability to meet our productivity targets for our domestic stores and our growth objectives for our international stores and could have a material adverse effect on our financial condition or results of operations. In addition, some malls that were in prominent locations when we opened stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our gross profits and net income.
Part of our future growth is dependent on our ability to operate stores in desirable locations with capital investment and lease costs providing the opportunity to earn a reasonable return. We cannot be sure as to when or whether such desirable locations will become available at reasonable costs.
Our net sales fluctuate on a seasonal basis, causing our results of operations to be susceptible to changes in Back-to-School and Holiday shopping patterns.
Historically, our operations have been seasonal, with a significant amount of net sales and net income occurring in the fourth fiscal quarter, due to the increased sales during the Holiday selling season and, to a lesser extent, the third fiscal quarter, reflecting increased sales during the Back-to-School selling season in the U.S. Our net sales and net income during the first and second fiscal quarters are typically lower due, in part, to the traditional slowdown in retail sales immediately following the Holiday selling season. As a result of this seasonality, net sales and net income during any fiscal quarter cannot be used as an accurate indicator of our annual results. Any factors negatively affecting us during the third and fourth fiscal quarters of any year, including inclement weather or unfavorable economic conditions, could have a material adverse effect on our financial condition and results of operations for the entire year.
Our failure to protect our reputation could have a material adverse effect on our brands.
Our ability to maintain our reputation is critical to our brands. Our reputation could be jeopardized if we fail to maintain high standards for merchandise quality and integrity. In addition, our reputation could be jeopardized if our third-party vendors fail to comply with our vendor code of conduct. Any negative publicity about these types of concerns may reduce demand for our merchandise. Failure to comply with ethical, social, product, labor, health and safety or environmental standards, or related political considerations, could also jeopardize our reputation and potentially lead to various adverse consumer actions, including boycotts. Public perception about our products or our stores, whether justified or not, could impair our reputation, involve us in litigation, damage our brands and have a material adverse effect on our business. Failure to comply with local laws and regulations, to maintain an effective system of internal controls or to provide accurate and timely financial statement information could also hurt our reputation. Damage to our reputation or loss of consumer confidence for any of these or other reasons could have a material adverse effect on our results of operations and financial condition, as well as require additional resources to rebuild our reputation.
We rely on the experience and skills of our senior executive officers, the loss of whom could have a material adverse effect on our business.
Our senior executive officers closely supervise all aspects of our business — in particular, the design of our merchandise and the operation of our stores. Our senior executive officers have substantial experience and expertise in the retail business and have made significant contributions to the growth and success of our brands. If we were to lose the benefit of their involvement — in particular the services of any one or more of Michael S. Jeffries, Chairman and Chief Executive Officer;
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Diane Chang, Executive Vice President — Sourcing; Leslee K. Herro, Executive Vice President — Planning and Allocation; Jonathan E. Ramsden, Executive Vice President and Chief Financial Officer; Ronald A. Robins, Jr., Senior Vice President, General Counsel and Secretary; and Amy Zehrer, Executive Vice President — Stores — without adequate succession plans, our business could be adversely affected. Competition for such senior executive officers is intense, and we cannot be sure we will be able to attract, retain and develop a sufficient number of qualified senior executive officers in future periods.
Interruption in the flow of merchandise from our key vendors and international manufacturers could disrupt our supply chain, which could result in lost sales and could increase our costs.
We source the majority of our merchandise outside of the U.S. through arrangements with approximately 155 vendors which includes foreign manufacturers located throughout the world, primarily in Asia and Central and South America. In addition, many of our domestic manufacturers maintain production facilities overseas. Political, social or economic instability in Asia, Central or South America, or in other regions in which our manufacturers are located, could cause disruptions in trade, including exports to the U.S. Other events that could also cause disruptions to exports to the U.S. include:
• | the imposition of additional trade law provisions or regulations; |
• | reliance on a limited number of shipping and air carriers who may experience capacity issues that adversely affect our ability to ship inventory in a timely manner or for an acceptable cost; |
• | the imposition of additional duties, tariffs and other charges on imports and exports; |
• | quotas imposed by bilateral textile agreements; |
• | economic uncertainties and adverse economic conditions (including inflation and recession); |
• | fluctuations in the value of the U.S. Dollar against foreign currencies; |
• | restrictions on the transfer of funds; |
• | the potential of manufacturer financial instability, inability to access needed liquidity or bankruptcy; |
• | significant labor disputes, such as dock strikes; |
• | significant delays in the delivery of cargo due to port security considerations; |
• | financial or political instability in any of the countries in which our merchandise is manufactured; |
• | natural disasters; and |
• | regulations to address climate change. |
In addition, we cannot predict whether the countries in which our merchandise is manufactured, or may be manufactured in the future, will be subject to new or additional trade restrictions imposed by the U.S. or foreign governments, including the likelihood, type or effect of any such restrictions. Trade restrictions, including new or increased tariffs or quotas, embargoes, safeguards and customs restrictions against apparel items, as well as U.S. or foreign labor strikes and work stoppages or boycotts, could increase the cost or reduce the supply of apparel available to us and adversely affect our business, financial condition or results of operations.
In a number of our European stores, associates are represented by workers’ councils and unions, whose demands could adversely affect our profitability or operating standards for our brands.
As of March 22, 2013, we employed approximately 98,000 associates, of whom approximately 88,000 were part-time associates and 12,000 were located in our European stores. In a number of our European stores, particularly in France and Germany, associates are represented by workers' councils and unions. These workers’ councils and unions, as well as government officials who support their positions, have, in a number of instances, made demands that could adversely affect our profitability or have a negative effect on the operating standards we believe are critical to our brands. We are committed to working with all of our associates, whether they are represented by a workers’ council or union or not, and we believe we maintain good relations with our associates; however, there can be no assurance that we will not experience work stoppages or other labor-related issues that could have an adverse effect on our profitability or on our operating standards.
We depend upon independent third parties for the manufacture and delivery of all our merchandise.
We do not own or operate any manufacturing facilities. As a result, the continued success of our operations is tied to our timely receipt of quality merchandise from third-party manufacturers. Our products are manufactured to our specifications primarily by foreign manufacturers. We cannot control all of the various factors, which include inclement weather, natural disasters, political and financial instability, strikes, health concerns regarding infectious diseases in countries in which our merchandise is produced, and acts of terrorism, that might affect a manufacturer’s ability to ship orders of our merchandise in a timely manner or to meet our quality standards. A manufacturer’s inability to ship orders in a timely manner or meet our quality standards could cause delays in responding to consumer demands and negatively affect consumer confidence in the quality and value of our brands or negatively impact our competitive position, any of which could have a material adverse effect on our financial condition and results of operations. We are also susceptible to increases in sourcing costs from our manufacturers which we may not be able to pass on to our customers and could adversely affect our financial condition or results of operations.
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Additionally, while we utilize third-party compliance auditors to visit and monitor the operations of our manufacturers, we do not have control of the independent manufacturers or their labor practices. As a result, the risk remains that one or more of our manufacturers will not adhere to our global compliance standards and violate labor laws or other laws, including consumer and product safety laws. Non-governmental organizations might attempt to create an unfavorable impression of our sourcing practices or the practices of some of our vendors or manufacturers that could harm our image. If either of these events occur, we could lose customer goodwill and favorable brand recognition.
The efficient operation of our stores and direct-to-consumer business depends on the timely receipt of merchandise from our distribution centers. We deliver our merchandise to our stores and direct-to-consumer customers using independent third parties. We utilize primarily one contract carrier to ship merchandise and related materials to our North American stores and direct-to-consumer customers, and a separate contract carrier for our European and Asian stores and direct-to-consumer customers. The independent third parties employ personnel that may be represented by labor unions. Disruptions in the delivery of merchandise or work stoppages by associates or contractors of any of these third parties could delay the timely receipt of merchandise. There can be no assurance that such stoppages or disruptions will not occur in the future. Any failure by a third party to respond adequately to our distribution needs would disrupt our operations and could have a material adverse effect on our financial condition or results of operations. Furthermore, we are susceptible to increases in fuel costs which may increase the cost of distribution. If we are not able to pass this cost on to our customers, our financial condition and results of operations could be adversely affected.
Our reliance on two distribution centers domestically and two third-party distribution centers internationally makes us susceptible to disruptions or adverse conditions affecting our distribution centers.
Our two distribution centers located in New Albany, Ohio, manage the receipt, storage, sorting, packing and distribution of merchandise to our North American stores and to our North American and Asian direct-to-consumer customers. We also use a third-party distribution center in the Netherlands to manage the receipt, storage, sorting, packing and distribution of merchandise delivered to our stores and direct-to-consumer customers in Europe and a third-party distribution center in Hong Kong to manage receipt, storage, sorting, packing and distribution of merchandise delivered to our stores in Asia. As a result, our operations are susceptible to local and regional factors, such as system failures, accidents, economic and weather conditions, natural disasters, demographic and population changes, as well as other unforeseen events and circumstances. If our distribution operations were disrupted, our ability to replace inventory in our stores and process direct-to-consumer orders could be interrupted and sales could be negatively impacted.
We may be exposed to risks and costs associated with credit card fraud and identity theft that would cause us to incur unexpected expenses and loss of revenues.
A significant portion of our customer orders are placed through our websites. In addition, a significant portion of sales made through our retail stores requires the collection of certain customer data, such as credit card information. In order for our sales channels to function and develop successfully, we and other parties involved in processing customer transactions must be able to transmit confidential information, including credit card information, securely over public networks. Third parties may have the technology or knowledge to breach the security of customer transaction data. Although we have security measures related to our systems and the privacy of our customers, we cannot guarantee these measures will effectively prevent others from obtaining unauthorized access to our information and our customers’ information. Any person who circumvents our security measures could destroy or steal valuable information or disrupt our operations. While one has not occurred, a security breach could cause customers to lose confidence in the security of our websites or stores and choose not to purchase from us. Any security breach could also expose us to risks of data loss, litigation and liability, and could seriously disrupt operations and harm our reputation, any of which could adversely affect our financial condition and results of operations.
In addition, state, federal and foreign governments are increasingly enacting laws and regulations to protect consumers against identity theft. These laws and regulations will likely increase the costs of doing business and if we fail to implement appropriate security measures, or to detect and provide prompt notice of unauthorized access as required by some of these laws and regulations, we could be subject to potential claims for damages and other remedies, which could adversely affect our business and results of operations.
Our facilities, systems and stores, as well as the facilities and systems of our vendors and manufacturers, are vulnerable to natural disasters, pandemic disease and other unexpected events, any of which could result in an interruption to our business and adversely affect our operating results.
Our retail stores, corporate offices, distribution centers, infrastructure projects and direct-to-consumer operations, as well as the operations of our vendors and manufacturers, are vulnerable to damage from natural disasters, pandemic disease and other unexpected events. If any of these events result in damage to our facilities, systems or stores, or the facilities or systems of our vendors or manufacturers, we may experience interruptions in our business until the damage is repaired, resulting in the potential loss of customers and revenues. In addition, we may incur costs in repairing any damage which exceeds our applicable insurance coverage.
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Our business is also vulnerable to any interruption related to an outbreak of a pandemic disease in countries where we have retail locations or source our merchandise.
Our litigation exposure could have a material adverse effect on our financial condition and results of operations.
We are involved, from time-to-time, in litigation incidental to our business, such as litigation regarding overtime compensation and other employment or wage and hour related matters. Our current exposure could change in the event of the discovery of damaging facts with respect to legal matters pending against us or determinations by judges, juries or other finders of fact that are not in accordance with management’s evaluation of the claims. Should management’s evaluation prove incorrect, our exposure could greatly exceed expectations and have a material adverse effect on our financial condition, results of operations or cash flows.
Our inability or failure to adequately protect our trademarks could have a negative impact on our brand image and limit our ability to penetrate new markets.
We believe our core trademarks, Abercrombie & Fitch®, abercrombie®, Hollister®, Gilly Hicks® and the “Moose” and “Seagull” logos, are an essential element of our strategy. We have obtained or applied for federal registration of these trademarks with the U.S. Patent and Trademark Office and the registries of countries where stores are located or likely to be located in the future. In addition, we own registrations and have pending applications for other trademarks in the U.S. and have applied for or obtained registrations from the registries in many foreign countries in which our stores or our manufacturers are located. There can be no assurance that we will obtain registrations that have been applied for or that the registrations we obtain will prevent the imitation of our products or infringement of our intellectual property rights by others. If a third party copies our products in a manner that projects lesser quality or carries a negative connotation, our brand image could be materially adversely affected.
Because we have not yet registered all of our trademarks in all categories, or in all foreign countries in which we source or offer our merchandise now, or may in the future, our international expansion and our merchandising of products using these marks could be limited. For example, we cannot ensure that others will not try to block the manufacture, export or sale of our products as a violation of their trademarks or other proprietary rights. The pending applications for international registration of various trademarks could be challenged or rejected in those countries because third parties of whom we are not currently aware have already registered similar marks in those countries. Accordingly, it may be possible, in those foreign countries where the status of various applications is pending or unclear, for a third-party owner of the national trademark registration for a similar mark to prohibit the manufacture, sale or exportation of branded goods in or from that country. If we are unable to reach an arrangement with any such party, our manufacturers may be unable to manufacture our products, and we may be unable to sell certain products in those countries. Our inability to register our trademarks or purchase or license the right to use our trademarks or logos in these jurisdictions could limit our ability to obtain supplies from, or manufacture in, less costly markets or penetrate new markets should our business plan include selling our merchandise in those non-U.S. jurisdictions.
We have an anti-counterfeiting program, under the auspices of the Abercrombie & Fitch Brand Protection Team, whose goal is to eliminate the supply of illegal pieces of our products. The Brand Protection Team interacts with investigators, customs officials and law enforcement entities throughout the world to combat the illegal use of our trademarks. Although brand security initiatives are in place, we cannot guarantee that our efforts against the counterfeiting of our brands will be successful.
Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results.
We are subject to income taxes in many U.S. and certain foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes (or “VAT”) in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of foreign and domestic tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may affect the ultimate settlement of these issues. As a result, we expect that throughout the year there could be ongoing variability in our quarterly tax rates as taxable events occur and exposures are evaluated. In addition, our effective tax rate in any given financial statement period may be materially impacted by changes in the mix and level of earnings or by changes to existing accounting rules or regulations. Fluctuations in duties could also have a material impact on our financial condition, results of operations or cash flows. In some international markets, we are required to hold and submit VAT to the appropriate local tax authorities. Failure to correctly calculate or submit the appropriate amounts could subject us to substantial fines and penalties that could have an adverse effect on our financial condition, results of operations or cash flows. In addition, tax legislation may be enacted in the future, domestically or abroad, that impacts our current or future tax structure and effective tax rate.
The effects of war or acts of terrorism could have a material adverse effect on our operating results and financial condition.
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The continued threat of terrorism and the associated heightened security measures and military actions in response to acts of terrorism have disrupted commerce. Any further acts of terrorism or a future war may disrupt commerce and undermine consumer confidence, which could negatively impact our sales revenue by causing consumer spending and/or mall traffic to decline. Furthermore, an act of terrorism or war, or the threat thereof, or any other unforeseen interruption of commerce, could negatively impact our business by interfering with our ability to obtain merchandise from foreign manufacturers. Our inability to obtain merchandise from our foreign manufacturers or substitute other manufacturers, at similar costs and in a timely manner, could adversely affect our operating results and financial condition.
Our inability to obtain commercial insurance at acceptable prices or our failure to adequately reserve for self-insured exposures might increase our expenses and adversely impact our financial results.
We believe that commercial insurance coverage is prudent for risk management in certain areas of our business. Insurance costs may increase substantially in the future and may be affected by natural catastrophes, fear of terrorism, financial irregularities and other fraud at publicly-held companies, intervention by the government or a decrease in the number of insurance carriers. In addition, the carriers with which we hold our policies may go out of business, or may be otherwise unable to fulfill their contractual obligations. Furthermore, for certain types or levels of risk, such as risks associated with earthquakes, hurricanes or terrorist attacks, we may determine that we cannot obtain commercial insurance at acceptable prices, if at all. Therefore, we may choose to forego or limit our purchase of relevant commercial insurance, choosing instead to self-insure one or more types or levels of risk. We are primarily self-insured for workers’ compensation and associate health benefits. If we suffer a substantial loss that is not covered by commercial insurance or our self-insurance reserves, the loss and attendant expenses could harm our business and operating results. In addition, exposures could exist for which no insurance may be available and for which we have not reserved.
Operating results and cash flows at the store level may cause us to incur impairment charges.
Long-lived assets, primarily property and equipment, are reviewed at the store level at least annually for impairment, or whenever changes in circumstances indicate that a full recovery of net asset values through future cash flows is in question. The review could result in significant charges related to underperforming stores which could impact our results of operations.
Furthermore, our impairment review requires us to make estimates and projections regarding, but not limited to, future cash flows. We make certain estimates and projections in connection with impairment analyses for our store locations and other property and equipment. If these estimates or projections change or prove incorrect, we may be, and have been, required to record impairment charges on certain store locations and other property and equipment. We have recognized significant impairment charges in the past and may do so in the future.
We are subject to customs, advertising, consumer protection, privacy, zoning and occupancy and labor and employment laws that could require us to modify our current business practices, incur increased costs or harm our reputation if we do not comply.
We are subject to numerous laws and regulations, including customs, truth-in-advertising, consumer protection, general privacy, health information privacy, identity theft, online privacy, unsolicited commercial communication and zoning and occupancy laws and ordinances that regulate retailers generally and/or govern the importation, promotion and sale of merchandise and the operation of retail stores, direct-to-consumer operations and distribution centers. As our business becomes more international in scope and we enter more countries internationally, the number of laws and regulations that we are subject to, as well as their scope and reach, increase significantly and heighten our risks. If these laws and regulations were to change, or were violated by our management, associates, suppliers, vendors or other parties with whom we do business, the costs of certain merchandise could increase, or we could experience delays in shipments of our merchandise, be subject to fines or penalties, or suffer reputational harm, which could reduce demand for our merchandise and adversely affect our business and results of operations. Failure to protect personally identifiable information of our customers or associates could subject us to considerable reputational harm, as well as significant fines, penalties and sanctions both domestically and abroad. In addition, changes in federal, state and international minimum wage laws and other laws relating to associate benefits could cause us to incur additional wage and benefits costs, which could hurt our profitability. We are also subject to U.S. securities laws and regulations, as well as stock exchange rules which could subject us to enforcement actions, de-listing and adverse legal sanctions for non-compliance.
Changes in the regulatory or compliance landscape could adversely affect our business and results of operations.
Laws and regulations at the state, federal and international levels frequently change, and the ultimate cost of compliance cannot be precisely estimated. In addition, we cannot predict the impact that may result from changes in the regulatory landscape. Any changes in regulations, the imposition of additional regulations, or the enactment of any new or more stringent legislation including those related to health care, taxes, transportation and logistics, privacy, environmental issues, trade, product safety or employment and labor, could adversely affect our business and results of operations.
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Our unsecured Amended and Restated Credit Agreement (the “Amended and Restated Credit Agreement”) and our Term Loan Agreement include financial and other covenants that impose restrictions on our financial and business operations.
Our Amended and Restated Credit Agreement expires on July 27, 2016 and our Term Loan Agreement has a maturity date of February 23, 2017. Market conditions could potentially impact the size and terms of a replacement facility or facilities.
Both our Amended and Restated Credit Agreement and our Term Loan Agreement contain financial covenants that require us to maintain a minimum coverage ratio and a maximum leverage ratio. If we fail to comply with the covenants and are unable to obtain a waiver or amendment, an event of default would result, and the lenders could declare outstanding borrowings immediately due and payable. If that should occur, we cannot guarantee that we would have sufficient liquidity at that time to repay or refinance borrowings under the Amended and Restated Credit Agreement and/or the Term Loan Agreement.
The inability to obtain credit on commercially reasonable terms, or a default under the current Amended and Restated Credit Agreement and/or the Amended Term Loan Agreement, could adversely impact our liquidity and results of operations.
Compliance with changing regulations and standards for accounting, corporate governance and public disclosure could adversely affect our business, results of operations and reported financial results.
Changing regulatory requirements for corporate governance and public disclosure, including SEC regulations and the Financial Accounting Standards Board’s accounting standards requirements are creating additional complexities for public companies. For example, the Dodd-Frank Act contains provisions governing “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries. As a result, the SEC adopted annual disclosure and reporting requirements for those companies who use conflict minerals mined in the named countries. There will be costs associated with complying with the disclosure requirements, including diligence to determine the sources of minerals used in our products and possible changes to sources of our inputs.
Stockholder activism, the current political environment, financial reform legislation and the current high level of government intervention and regulatory reform may lead to substantial new regulations and disclosure obligations. In addition, the expected future requirement to transition to, or converge with, international financial reporting standards is creating uncertainty and additional complexities. These changing regulatory requirements may lead to additional compliance costs, as well as the diversion of our management’s time and attention from strategic business activities and could have a significant effect on our reported results for the affected periods.
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ITEM 1B. | UNRESOLVED STAFF COMMENTS. |
None.
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ITEM 2. | PROPERTIES. |
The Company’s headquarters and support functions occupy 491 acres, consisting of the home office, distribution and shipping facilities centralized on a campus-like setting in New Albany, Ohio and an additional small distribution and shipping facility located in the Columbus, Ohio area, all of which are owned by the Company. Additionally, the Company leases small facilities to house its design and sourcing support centers in Hong Kong, New York City and Los Angeles, California, as well as offices in the United Kingdom, Japan, Switzerland, Italy, Hong Kong and China.
All of the retail stores operated by the Company, as of March 22, 2013, are located in leased facilities, primarily in shopping centers. The leases expire at various dates, between 2013 and 2031.
The Company’s home office, distribution and shipping facilities, design support centers and stores are currently suitable and adequate.
As of March 22, 2013, the Company’s 1,053 stores were located as follows:
U.S. & U.S. Territories: | |||||||||||||
Alabama | 5 | Kentucky | 9 | North Dakota | 1 | ||||||||
Alaska | 1 | Louisiana | 8 | Ohio | 31 | ||||||||
Arizona | 16 | Maine | 4 | Oklahoma | 7 | ||||||||
Arkansas | 6 | Maryland | 19 | Oregon | 10 | ||||||||
California | 130 | Massachusetts | 33 | Pennsylvania | 44 | ||||||||
Colorado | 8 | Michigan | 25 | Rhode Island | 3 | ||||||||
Connecticut | 20 | Minnesota | 15 | South Carolina | 10 | ||||||||
Delaware | 5 | Mississippi | 2 | South Dakota | 1 | ||||||||
District Of Columbia | 1 | Missouri | 11 | Tennessee | 20 | ||||||||
Florida | 74 | Montana | 2 | Texas | 84 | ||||||||
Georgia | 21 | Nebraska | 3 | Utah | 7 | ||||||||
Hawaii | 5 | Nevada | 11 | Vermont | 2 | ||||||||
Idaho | 3 | New Hampshire | 10 | Virginia | 23 | ||||||||
Illinois | 41 | New Jersey | 39 | Washington | 19 | ||||||||
Indiana | 18 | New Mexico | 3 | West Virginia | 4 | ||||||||
Iowa | 7 | New York | 50 | Wisconsin | 11 | ||||||||
Kansas | 5 | North Carolina | 24 | Puerto Rico | 1 | ||||||||
International Stores: | |||||||||||||
Austria | 6 | Germany | 23 | Poland | 1 | ||||||||
Belgium | 3 | Hong Kong | 3 | Republic of Korea | 2 | ||||||||
Canada | 19 | Ireland | 2 | Singapore | 1 | ||||||||
China | 4 | Italy | 10 | Spain | 13 | ||||||||
Denmark | 1 | Japan | 2 | Sweden | 3 | ||||||||
France | 9 | Netherlands | 2 | United Kingdom | 37 | ||||||||
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ITEM 3. | LEGAL PROCEEDINGS. |
A&F is a defendant in lawsuits and other adversary proceedings arising in the ordinary course of business. Legal costs incurred in connection with the resolution of claims and lawsuits are generally expensed as incurred, and the Company establishes reserves for the outcome of litigation where it deems appropriate to do so under applicable accounting rules. The Company’s assessment of the current exposure could change in the event of the discovery of additional facts with respect to legal matters pending against the Company or determinations by judges, juries, administrative agencies or other finders of fact that are not in accordance with the Company’s evaluation of claims. Actual liabilities may exceed the amounts reserved, and there can be no assurance that final resolution of these matters will not have a material adverse effect on the Company’s financial condition, results of operations or cash flows. The Company has established accruals for certain matters where losses are deemed probable and reasonably estimable. There are other claims and legal proceedings pending against the Company for which accruals have not been established.
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ITEM 4. | MINE SAFETY DISCLOSURES. |
Not applicable.
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SUPPLEMENTAL ITEM. | EXECUTIVE OFFICERS OF THE REGISTRANT. |
Set forth below is certain information regarding the executive officers of A&F as of March 22, 2013:
Michael S. Jeffries, 68, has been Chairman of A&F since May 1998. Mr. Jeffries has been Chief Executive Officer of A&F since February 1992. From February 1992 to May 1998, Mr. Jeffries held the title of President of A&F. Under the terms of the Employment Agreement, entered into as of December 19, 2008, between A&F and Mr. Jeffries, A&F is obligated to cause Mr. Jeffries to be nominated as a director of A&F during his employment term.
Diane Chang, 57, has been Executive Vice President — Sourcing of A&F since May 2004. Prior thereto, Ms. Chang held the position of Senior Vice President — Sourcing of A&F from February 2000 to May 2004 and the position of Vice President — Sourcing of A&F from May 1998 to February 2000.
Leslee K. Herro, 52, has been Executive Vice President — Planning and Allocation of A&F since May 2004. Prior thereto, Ms. Herro held the position of Senior Vice President — Planning and Allocation of A&F from February 2000 to May 2004 and the position of Vice President — Planning & Allocation of A&F from February 1994 to February 2000.
Jonathan E. Ramsden, 48, has been Executive Vice President and Chief Financial Officer of A&F since December 2008. From December 1998 to December 2008, Mr. Ramsden served as Chief Financial Officer and a member of the Executive Committee of TBWA Worldwide, a large advertising agency network and a division of Omnicom Group Inc. Prior to becoming Chief Financial Officer of TWBA Worldwide, he served as Controller and Principal Accounting Officer of Omnicom Group Inc. from June 1996 to December 1998.
Ronald A. Robins, Jr., 49, has been Senior Vice President, General Counsel and Secretary of A&F since August 2010. Mr. Robins joined A&F in November 2009 as Deputy General Counsel after spending 16 years at Vorys, Sater, Seymour and Pease LLP, 13 years as a partner in the firm’s corporate and finance practice group. Mr. Robins clerked for The Honorable Milton Pollack of the United States District Court for the Southern District of New York from 1989 to 1990. Before joining Vorys, Mr. Robins practiced for several years as an associate at Davis Polk & Wardwell in New York City.
Amy Zehrer, 43, has been Executive Vice President — Stores of A&F since February 2013. Prior thereto, Ms. Zehrer held the position of Senior Vice President — Stores of A&F from November 2007 to February 2013 and the position of Vice President — Stores of A&F from August 2006 to November 2007. Ms. Zehrer has been with A&F since 1992 playing an integral part in evolving the brands and the success of the Company's international expansion.
The executive officers serve at the pleasure of the Board of Directors of A&F and, in the case of Mr. Jeffries, pursuant to an employment agreement.
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PART II
ITEM 5. | MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES. |
A&F’s Class A Common Stock (the “Common Stock”) is traded on the New York Stock Exchange under the symbol “ANF.” The table below sets forth the high and low sales prices of A&F’s Common Stock on the New York Stock Exchange for Fiscal 2012 and Fiscal 2011:
Sales Price | ||||||||
High | Low | |||||||
Fiscal 2012 | ||||||||
4th Quarter | $ | 51.07 | $ | 30.58 | ||||
3rd Quarter | $ | 39.36 | $ | 29.06 | ||||
2nd Quarter | $ | 53.29 | $ | 29.78 | ||||
1st Quarter | $ | 53.53 | $ | 40.40 | ||||
Fiscal 2011 | ||||||||
4th Quarter | $ | 76.33 | $ | 43.56 | ||||
3rd Quarter | $ | 77.49 | $ | 55.70 | ||||
2nd Quarter | $ | 78.25 | $ | 62.46 | ||||
1st Quarter | $ | 72.61 | $ | 48.40 | ||||
A quarterly dividend, of $0.175 per share, was paid in each of March, June, September and December in Fiscal 2012 and Fiscal 2011. A&F increased the quarterly dividend to $0.20 per share beginning with the first quarter of Fiscal 2013. A&F expects to continue to pay a quarterly dividend, subject to the Board of Directors’ review of the Company’s cash position and results of operations.
As of March 22, 2013, there were approximately 4,230 stockholders of record. However, when including investors holding shares in broker accounts under street name, active associates of the Company who participate in A&F’s stock purchase plan, and associates of the Company who own shares through A&F-sponsored retirement plans, A&F estimates that there are approximately 38,700 stockholders.
The following table provides information regarding the purchase of shares of the Common Stock of A&F made by or on behalf of A&F or any “affiliated purchaser” as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934, as amended, during each fiscal month of the quarterly period ended February 2, 2013:
Period (Fiscal Month) | Total Number of Shares Purchased(1) | Average Price Paid per Share(2) | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(3) | Maximum Number of Shares that May Yet be Purchased under the Plans or Programs(4) | |||||||||
October 28, 2012 through November 24, 2012 | 3,355 | $ | 36.89 | — | 19,893,742 | ||||||||
November 25, 2012 through December 29, 2012 | 1,181,438 | $ | 45.89 | 1,175,023 | 18,718,719 | ||||||||
December 30, 2012 through February 2, 2013 | 48,710 | $ | 45.01 | 47,671 | 18,671,048 | ||||||||
Total | 1,233,503 | $ | 45.83 | 1,222,694 | 18,671,048 | ||||||||
(1) | An aggregate of 10,809 of the shares of A&F’s Common Stock purchased during the fourteen-week period ended February 2, 2013, represented shares which were withheld for tax payments due upon the vesting of employee restricted stock unit and restricted share awards and upon the exercise of employee stock appreciation rights. |
(2) | The average price paid per share includes broker commissions, as applicable. |
(3) | The reported shares were repurchased pursuant to A&F’s publicly announced stock repurchase authorizations. On May 15, 2012, A&F’s Board of Directors authorized the repurchase of an aggregate of 10.0 million shares of A&F’s Common Stock. On August 14, 2012, A&F's Board of Directors authorized the repurchase of an additional 10.0 million shares of A&F’s Common Stock. |
(4) | The number shown represents, as of the end of each period, the maximum number of shares of Common Stock that may yet be purchased under A&F’s publicly announced stock repurchase authorization described in footnote 3 above. The shares may be purchased, from time-to-time, depending on market conditions. |
During Fiscal 2012, A&F repurchased approximately 7.5 million shares of A&F’s Common Stock in the open market with a cost of approximately $321.7 million. During Fiscal 2011, A&F repurchased approximately 3.5 million shares of A&F’s
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Common Stock in the open market with a cost of approximately $196.6 million. Both the Fiscal 2012 and the Fiscal 2011 repurchases were pursuant to authorizations of A&F’s Board of Directors.
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The following graph shows the changes, over the five-year period ended February 2, 2013 (the last day of A&F’s Fiscal 2012) in the value of $100 invested in (i) shares of A&F’s Common Stock; (ii) the Standard & Poor’s 500 Stock Index (the “S&P 500 Index”) and (iii) the Standard & Poor’s Apparel Retail Composite Index (the “S&P Apparel Retail Index”), including reinvestment of dividends. The plotted points represent the closing price on the last trading day of the fiscal year indicated.
PERFORMANCE GRAPH(1)
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Abercrombie & Fitch Co., the S&P 500 Index
and the S&P Apparel Retail Index
* $100 invested on 2/2/08 in stock or 1/31/08 in index, including reinvestment of dividends.
Indexes calculated on month-end basis.
Copyright© 2013 S&P, a division of The McGraw-Hill Companies Inc. All rights reserved.
(1) This graph shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to SEC Regulation 14A or to the liabilities of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), except to the extent that A&F specifically requests that the graph be treated as soliciting material or specifically incorporates it by reference into a filing under the Securities Act of 1933, as amended, or the Exchange Act.
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ITEM 6. | SELECTED FINANCIAL DATA. |
ABERCROMBIE & FITCH CO.
FINANCIAL SUMMARY
(Thousands, except per share and per square foot amounts, ratios and store and associate data)
(Information below excludes amounts related to discontinued operations, except where otherwise noted)
2012 (1) | Restated 2011 (2) | Restated 2010 (2) | 2009 | 2008 | ||||||||||||||||
Net Sales | $ | 4,510,805 | $ | 4,158,058 | $ | 3,468,777 | $ | 2,928,626 | $ | 3,484,058 | ||||||||||
Gross Profit | $ | 2,816,709 | $ | 2,550,224 | $ | 2,217,429 | $ | 1,883,598 | $ | 2,331,095 | ||||||||||
Operating Income | $ | 374,233 | $ | 221,384 | $ | 237,180 | $ | 117,912 | $ | 498,262 | ||||||||||
Net Income from Continuing Operations | $ | 237,011 | $ | 143,138 | $ | 155,709 | $ | 78,953 | $ | 308,169 | ||||||||||
Income (Loss) from Discontinued Operations, Net of Tax(3) | — | $ | 796 | $ | — | $ | (78,699 | ) | $ | (35,914 | ) | |||||||||
Net Income(3) | $ | 237,011 | $ | 143,934 | $ | 155,709 | $ | 254 | $ | 272,255 | ||||||||||
Dividends Declared Per Share | $ | 0.70 | $ | 0.70 | $ | 0.70 | $ | 0.70 | $ | 0.70 | ||||||||||
Net Income Per Share from Continuing Operations | ||||||||||||||||||||
Basic | $ | 2.89 | $ | 1.65 | $ | 1.77 | $ | 0.90 | $ | 3.55 | ||||||||||
Diluted | $ | 2.85 | $ | 1.60 | $ | 1.73 | $ | 0.89 | $ | 3.45 | ||||||||||
Net Income (Loss) Per Share from Discontinued Operations(3) | ||||||||||||||||||||
Basic | $ | — | $ | 0.01 | $ | — | $ | (0.90 | ) | $ | (0.41 | ) | ||||||||
Diluted | $ | — | $ | 0.01 | $ | — | $ | (0.89 | ) | $ | (0.40 | ) | ||||||||
Net Income Per Share(3) | ||||||||||||||||||||
Basic | $ | 2.89 | $ | 1.66 | $ | 1.77 | $ | 0.00 | $ | 3.14 | ||||||||||
Diluted | $ | 2.85 | $ | 1.61 | $ | 1.73 | $ | 0.00 | $ | 3.05 | ||||||||||
Basic Weighted-Average Shares Outstanding | 81,940 | 86,848 | 88,061 | 87,874 | 86,816 | |||||||||||||||
Diluted Weighted-Average Shares Outstanding | 83,175 | 89,537 | 89,851 | 88,609 | 89,291 | |||||||||||||||
Other Financial Information | ||||||||||||||||||||
Total Assets (including discontinued operations) | $ | 2,987,401 | $ | 3,117,032 | $ | 2,994,022 | $ | 2,821,866 | $ | 2,848,181 | ||||||||||
Working Capital(4) | $ | 617,023 | $ | 858,248 | $ | 927,024 | $ | 776,311 | $ | 622,213 | ||||||||||
Current Ratio(5) | 1.89 | 2.23 | 2.68 | 2.73 | 2.38 | |||||||||||||||
Net Cash Provided by Operating Activities(3) | $ | 684,171 | $ | 365,219 | $ | 391,789 | $ | 395,487 | $ | 491,031 | ||||||||||
Capital Expenditures | $ | 339,862 | $ | 318,598 | $ | 160,935 | $ | 175,472 | $ | 367,602 | ||||||||||
Free Cash Flow(6) | $ | 344,309 | $ | 46,621 | $ | 230,854 | $ | 220,015 | $ | 123,429 | ||||||||||
Borrowings | — | — | $ | 43,805 | $ | 50,927 | $ | 100,000 | ||||||||||||
Leasehold Financing Obligations | $ | 63,942 | $ | 57,851 | $ | 24,761 | $ | 20,286 | $ | 5,881 | ||||||||||
Stockholders’ Equity (including discontinued operations) | $ | 1,818,268 | $ | 1,931,335 | $ | 1,943,391 | $ | 1,827,917 | $ | 1,845,578 | ||||||||||
Return on Average Stockholders’ Equity(7) | 13 | % | 7 | % | 8 | % | 0 | % | 16 | % | ||||||||||
Comparable Sales(8) | (1 | )% | 5 | % | 7 | % | (23 | )% | (13 | )% | ||||||||||
Net Store Sales Per Average Gross Square Foot | $ | 485 | $ | 463 | $ | 390 | $ | 339 | $ | 432 | ||||||||||
Stores at End of Year and Average Associates | ||||||||||||||||||||
Total Number of Stores Open | 1,051 | 1,045 | 1,069 | 1,096 | 1,097 | |||||||||||||||
Gross Square Feet | 7,958 | 7,778 | 7,756 | 7,848 | 7,760 | |||||||||||||||
Average Number of Associates(9) | 95,800 | 91,000 | 83,000 | 83,000 | 96,200 | |||||||||||||||
(1) | Fiscal 2012 was a fifty-three week year. |
(2) | Reported results for Fiscal 2011 and Fiscal 2010 have been restated to reflect the change in method of accounting for inventory effective in the fourth quarter of Fiscal 2012. Refer to Note 4, “CHANGE IN ACCOUNTING PRINCIPLE,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K for further discussion. Reported results for periods prior to Fiscal 2010 have not been restated to reflect the change in accounting principle as the information is not available. |
(3) | Includes results of operations from RUEHL branded stores and related direct-to-consumer operations. Results from discontinued operations were immaterial in Fiscal 2010. |
(4) | Working Capital is computed by subtracting current liabilities (including discontinued operations) from current assets (including discontinued operations). |
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(5) | Current Ratio is computed by dividing current assets (including discontinued operations) by current liabilities (including discontinued operations). |
(6) | Free Cash Flow is computed by subtracting capital expenditures from net cash provided by operating activities. |
(7) | Return on Average Stockholders’ Equity is computed by dividing net income (including discontinued operations) by the average stockholders’ equity balance (including discontinued operations). |
(8) | A store is included in comparable sales when it has been open as the same brand at least one year and its square footage has not been expanded or reduced by more than 20% within the past year. Beginning with Fiscal 2012, comparable sales include comparable direct-to-consumer sales. Prior year figures have not been restated and only include comparable store sales. |
(9) | Includes employees from RUEHL operations. |
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ITEM 7. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. |
OVERVIEW
The Company’s fiscal year ends on the Saturday closest to January 31, typically resulting in a fifty-two week year, but occasionally giving rise to an additional week, resulting in a fifty-three week year as was the case for Fiscal 2012. A store is included in comparable sales when it has been open as the same brand at least one year and its square footage has not been expanded or reduced by more than 20% within the past year. Additionally, beginning with Fiscal 2012, comparable direct-to-consumer sales were included in comparable sales.
For purposes of this “ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS,” the fifty-three week period ended February 2, 2013 is compared to the fifty-two week period ended January 28, 2012 and the fifty-two week period ended January 28, 2012 is compared to the fifty-two week period ended January 29, 2011.
The Company has changed its method of accounting for inventory from the lower of cost or market utilizing the retail method to the weighted average cost method ("cost method") effective in the fourth quarter of Fiscal 2012. Results discussed in this "ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS," reflect the cost method of accounting for inventory. Refer to Note 4, "CHANGE IN ACCOUNTING PRINCIPLE," of the Notes to Consolidated Financial Statements included in "ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA." All references to historical amounts reflect the effects of the change to the cost method.
The Company had net sales of $4.511 billion for Fiscal 2012, an increase of 8% from $4.158 billion for Fiscal 2011. Operating income for Fiscal 2012 was $374.2 million, which increased 69% from the Fiscal 2011 operating income of $221.4 million.
Net income from continuing operations was $237.0 million and net income from continuing operations per diluted share was $2.85 in Fiscal 2012, compared to net income from continuing operations of $143.1 million and net income from continuing operations per diluted share of $1.60 in Fiscal 2011.
Excluding charges for impairments, the Company reported adjusted, non-GAAP net income per diluted share of $2.90 for the Fiscal 2012. Excluding charges for impairments and write-downs of store-related long-lived assets, charges related to store closures and lease exits, and other charges associated with legal settlements and a change in intent regarding the Company’s auction rate securities ("ARS"), the Company reported non-GAAP net income per diluted share of $2.49 for Fiscal 2011.
The Company believes that the non-GAAP financial measures are useful to investors as they provide the ability to measure the Company’s operating performance and compare it against that of prior periods without reference to the Consolidated Statements of Operations and Comprehensive Income impact of non-cash, store-related asset impairment charges, charges related to store closures and lease exits, and other charges associated with legal settlements and a change in intent regarding the Company's ARS. These non-GAAP financial measures should not be used as alternatives to net income per diluted share or as indicators of the ongoing operating performance of the Company and are also not intended to supersede or replace the Company’s GAAP financial measures. The table below reconciles the GAAP financial measures to the non-GAAP financial measures discussed above.
Fiscal 2012 | Fiscal 2011 | |||||||
February 2, 2013 | January 28, 2012 | |||||||
Net income per diluted share on a GAAP basis | $ | 2.85 | $ | 1.61 | ||||
Add back: Asset impairment charges(1) | 0.06 | 0.49 | ||||||
Add back: Asset write-downs(2) | — | 0.10 | ||||||
Add back: Store closure and lease exit charges(3) | — | 0.13 | ||||||
Add back: Legal charges(4) | — | 0.07 | ||||||
Add back: ARS charges(5) | — | 0.09 | ||||||
Net income per diluted share on a non-GAAP basis | $ | 2.90 | $ | 2.49 | ||||
(1) | The store-related asset impairment charges relate to stores whose asset carrying value exceeded their fair value. For Fiscal 2012, the charge was primarily associated with one Abercrombie & Fitch, three abercrombie kids, 12 Hollister and one Gilly Hicks store. For Fiscal 2011, the charge was associated with 14 Abercrombie & Fitch, 21 abercrombie kids, 42 Hollister and two Gilly Hicks stores. |
(2) | For Fiscal 2011, the charge associated with the asset write-downs was related to the reconfiguration of three flagship stores and a small write-off related to a cancelled flagship project. |
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(3) | For Fiscal 2011, the charges for store closures and lease exits were associated with lease buyouts and other lease obligations related to stores closing prior to natural lease expirations, other lease terminations, and other incidental costs associated with store closures. |
(4) | For Fiscal 2011, the charge was related to legal settlements during the fourth quarter. |
(5) | For Fiscal 2011, the charge associated with the ARS was related to a change in intent with regard to the Company’s auction rate securities portfolio, which resulted in recognition of an other-than-temporary impairment. |
Net cash provided by operating activities, the Company’s primary source of liquidity, was $684.2 million for Fiscal 2012. This source of cash was primarily driven by a change in inventories partially offset by a change in accounts payable. The Company used $339.9 million of cash for capital expenditures partially offset by cash proceeds of $102.0 million from the sale of marketable securities. The Company also repurchased $321.7 million of Common Stock and paid dividends totaling $57.6 million. As of February 2, 2013, the Company had $643.5 million in cash and equivalents, no outstanding debt aside from that related to landlord financing obligations, and immaterial stand-by letters of credit.
The following data represents the amounts shown in the Company’s Consolidated Statements of Operations and Comprehensive Income for the last three fiscal years, expressed as a percentage of net sales:
2012 | 2011 | 2010 | ||||
NET SALES | 100.0% | 100.0% | 100.0% | |||
Cost of Goods Sold | 37.6 | 38.7 | 36.1 | |||
GROSS PROFIT | 62.4 | 61.3 | 63.9 | |||
Stores and Distribution Expense | 44.1 | 45.4 | 45.8 | |||
Marketing, General and Administrative Expense | 10.5 | 10.5 | 11.6 | |||
Other Operating Expense (Income), Net | (0.4) | 0.1 | (0.3) | |||
OPERATING INCOME | 8.3 | 5.3 | 6.8 | |||
Interest Expense, Net | 0.2 | 0.1 | 0.1 | |||
INCOME FROM CONTINUING OPERATIONS BEFORE TAXES | 8.1 | 5.2 | 6.7 | |||
Tax Expense from Continuing Operations | 2.9 | 1.8 | 2.3 | |||
NET INCOME FROM CONTINUING OPERATIONS | 5.3 | 3.4 | 4.5 | |||
INCOME FROM DISCONTINUED OPERATIONS, Net of Taxes | — | 0.0 | — | |||
NET INCOME | 5.3% | 3.5% | 4.5% | |||
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FINANCIAL SUMMARY
The following summarized financial and statistical data compares Fiscal 2012, Fiscal 2011 and Fiscal 2010:
2012 | 2011 | 2010 | ||||||||||
Net sales by segment (in thousands) | $ | 4,510,805 | $ | 4,158,058 | $ | 3,468,777 | ||||||
U.S. Stores | $ | 2,615,138 | $ | 2,710,842 | $ | 2,546,798 | ||||||
International Stores | $ | 1,195,016 | $ | 894,616 | $ | 517,005 | ||||||
Direct-to-consumer | $ | 700,651 | $ | 552,600 | $ | 404,974 | ||||||
Net sales as a % of total sales | ||||||||||||
U.S. Stores | 58 | % | 65 | % | 73 | % | ||||||
International Stores | 26 | % | 22 | % | 15 | % | ||||||
Direct-to-consumer | 16 | % | 13 | % | 12 | % | ||||||
Net sales by brand (in thousands) | $ | 4,510,805 | $ | 4,158,058 | $ | 3,468,777 | ||||||
Abercrombie & Fitch | $ | 1,704,190 | $ | 1,665,135 | $ | 1,493,101 | ||||||
abercrombie | $ | 382,509 | $ | 397,904 | $ | 382,579 | ||||||
Hollister | $ | 2,314,462 | $ | 2,022,002 | $ | 1,552,814 | ||||||
Gilly Hicks** | $ | 109,644 | $ | 73,017 | $ | 40,283 | ||||||
Increase (decrease) in comparable sales* | (1 | )% | 5 | % | 7 | % | ||||||
Abercrombie & Fitch | (3 | )% | 3 | % | 9 | % | ||||||
abercrombie | 0 | % | 4 | % | 5 | % | ||||||
Hollister | (1 | )% | 8 | % | 6 | % | ||||||
U.S. | 1 | % | ||||||||||
International | (8 | )% | ||||||||||
Stores | (5 | )% | 5 | % | 7 | % | ||||||
Direct-to-Consumer | 24 | % | 36 | % | 40 | % | ||||||
* | Beginning with 2012, comparable sales were reported including comparable direct-to-consumer sales. Prior year figures were not restated. A store is included in comparable sales when it has been open as the same brand 12 months or more and its square footage has not been expanded or reduced by more than 20% within the past year. The Fiscal 2012 retail year included a fifty-third week and, therefore, Fiscal 2012 comparable sales are compared to the fifty-three week period ended February 4, 2012. |
** | Net sales for the year-to-date periods ended February 2, 2013, January 28, 2012 and January 29, 2011 reflect the activity of 27, 21 and 19 stores, respectively. |
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CURRENT TRENDS AND OUTLOOK
Our results for Fiscal 2012 included an 8% increase in net sales and a 78% increase in diluted earnings per share compared to last year.
We have made progress in our operating income the past couple of years, including improvement in gross margin in Fiscal 2012 driven by a reduction in average unit cost. However, our operating margins remain well below historical levels, despite our highly profitable international business, which presents opportunities in two specific areas.
First, we will be revisiting our operating model and identifying processes and investments we make in our business that may have had a return in the past but no longer do today. We have established a cross-functional team to simplify processes, eliminate low value added components of our model, increase efficiencies and lower expenses.
Second, we will be seeking to identify ways to increase our average unit retail, particularly in the U.S. stores and U.S. direct-to-consumer operations. Growth in our average unit retail will help our gross margins and contribute to expense leverage.
Beyond the two initiatives above, our focus remains on key strategic initiatives with regard to merchandising, inventory productivity, expense and average unit cost, insight and intelligence, customer engagement and targeted closure of under-performing U.S. stores. We are confident that our focus on these initiatives, allied with our iconic brands and continued judicious use of shareholder capital, will drive significant long-term value.
With regard to real estate plans for Fiscal 2013, we expect to open Abercrombie & Fitch flagship locations in Seoul and Shanghai and approximately 20 international Hollister stores. The Hollister openings will include our first stores in Australia, our first store in the Middle East in Dubai through a joint venture and entry into the Japanese market for Hollister. Additionally, we are contemplating opening international mall-based Abercrombie & Fitch stores within the next 12 months. We expect capital expenditures to be approximately $200 million for the year, with estimated store pre-opening costs of around $30 million.
We are confident that we are on track in regard to our long-term strategy of leveraging the international appeal of our brands to build a highly profitable, sustainable, global business.
We continue to target annual EPS growth of approximately 15%. As in the past, our earnings are sensitive to changes in comparable sales trends.
Our capital allocation philosophy continues to be highly disciplined in allocating capital to where it will derive the greatest return on a risk-adjusted basis. After allocating capital to new stores and other internal projects that provide superior returns, we continue to expect to return excess cash to shareholders.
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The following measurements are among the key business indicators reviewed by various members of management to gauge the Company’s results:
• | Comparable sales, defined as year-over-year sales for a store that has been open as the same brand at least one year and its square footage has not been expanded or reduced by more than 20% within the past year combined with direct to consumer sales; |
• | Direct-to-consumer sales growth; |
• | U.S. and International store performance; |
• | Store productivity; |
• | Selling margin, defined as sales price less original cost, by brand and by product category; |
• | Stores and distribution expense as a percentage of net sales; |
• | Marketing, general and administrative expense as a percentage of net sales; |
• | Operating income and operating income as a percentage of net sales; |
• | Net income; |
• | Inventory per gross square foot; |
• | Cash flow and liquidity determined by the Company’s current ratio and free cash flow; and |
• | Store metrics such as sales per gross square foot, sales per selling square foot, average unit retail, average number of transactions per store, average transaction values, store contribution (defined as store sales less direct costs of operating the store), and average units per transaction. |
While not all of these metrics are disclosed publicly by the Company due to the proprietary nature of the information, the Company publicly discloses and discusses many of these metrics as part of its “Financial Summary” and in several sections within this Management’s Discussion and Analysis of Financial Condition and Results of Operations.
FISCAL 2012 COMPARED TO FISCAL 2011
Net Sales
Net sales for Fiscal 2012 were $4.511 billion, an increase of 8% from Fiscal 2011 net sales of $4.158 billion. The net sales increase was attributable to new stores, primarily international and a 27% increase in the direct-to-consumer business, including shipping and handling revenue offset by a decrease of 5% from comparable store sales. The impact of foreign currency on sales (based on converting prior year sales at current year exchange rates) adversely affected Fiscal 2012 by $26.3 million and benefited Fiscal 2011 by $21.6 million.
The Fiscal 2012 retail year includes a fifty-third week and, therefore, Fiscal 2012 comparable sales are compared to the fifty-three week period ended February 4, 2012. The fifty-third week added approximately $62.8 million of sales to the comparable base, being sales for the week ended February 4, 2012.
Total U.S. sales, including direct-to-consumer, for Fiscal 2012 were $3.087 billion, a decrease of 1% from Fiscal 2011 sales of $3.108 billion. Total international sales, including direct-to-consumer, for Fiscal 2012 were $1.424 billion, an increase of 36% from Fiscal 2011 sales of $1.050 billion.
Direct-to-consumer sales in Fiscal 2012, including shipping and handling revenue, were $700.7 million, an increase of 27% from Fiscal 2011 direct-to-consumer sales of $552.6 million. The direct-to-consumer business, including shipping and handling revenue, accounted for 16% of total net sales in Fiscal 2012 compared to 13% in Fiscal 2011.
Total comparable sales for the year, including direct-to-consumer sales, decreased 1% with comparable store sales decreasing 5% and comparable direct-to-consumer sales increasing by 24%. Comparable sales for Fiscal 2012 increased 1% for the U.S., with comparable store sales decreasing by 1% and comparable direct-to-consumer sales up 15%. Comparable sales for the full year decreased 8% for international, with comparable store sales decreasing by 19% and comparable direct-to-consumer sales up 46%.
For Fiscal 2012, comparable sales by brand, including direct-to-consumer sales, decreased 3% for Abercrombie & Fitch, were flat for abercrombie kids, and decreased 1% for Hollister Co. Across the brands, male performed better than female.
From a merchandise classification standpoint, outerwear and jeans were stronger performing categories for the male business while polos and sport shirts were weaker performing categories. In the female business, woven shirts, sweaters, and knit tops were stronger performing categories, while fleece, sweatpants and graphics were weaker performing categories.
Gross Profit
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Gross profit during Fiscal 2012 was $2.817 billion compared to gross profit of $2.550 billion during Fiscal 2011. The gross profit rate (gross profit divided by net sales) for Fiscal 2012 was 62.4%, up 110 basis points from the Fiscal 2011 rate of 61.3%.
The increase in the gross profit rate for Fiscal 2012 was primarily driven by a decrease in average unit cost.
Stores and Distribution Expense
Stores and distribution expense for Fiscal 2012 was $1.988 billion compared to $1.888 billion in Fiscal 2011. The stores and distribution expense rate (stores and distribution expense divided by net sales) for Fiscal 2012 was 44.1% compared to 45.4% in Fiscal 2011.
Stores and distribution expense for Fiscal 2012 included store-related asset impairment charges of $7.4 million primarily associated with 17 stores. For Fiscal 2011, stores and distribution expense included store-related asset impairment charges of $68.0 million associated with 79 stores, asset write-down charges of $14.6 million related to the reconfiguration of three flagship stores and a small write-off related to a cancelled flagship project, and store exit charges of $19.0 million, associated with lease buyouts and other lease obligations related to stores closing prior to natural lease expirations, other lease terminations, and other incidental costs associated with store closures. Excluding the effect of these charges, the stores and distribution expense rate was 43.9% for Fiscal 2012 compared to 43.0% last year. The increase in stores and distribution expense rate for Fiscal 2012 was primarily the result of deleveraging on negative comparable store sales and higher direct-to-consumer expense.
Shipping and handling costs, including costs incurred to store, move and prepare merchandise for shipment and costs incurred to physically move the product to the customer, associated with direct-to-consumer operations were $78.6 million and $53.6 million for Fiscal 2012 and Fiscal 2011, respectively. The increase in shipping and handling costs in Fiscal 2012 was primarily driven by increased sales volume and a higher international mix component. These amounts are recorded in Stores and Distribution Expense in our Consolidated Statements of Operations and Comprehensive Income.
Handling costs, including costs incurred to store, move and prepare merchandise for shipment to the stores were $59.4 million and $62.8 million for Fiscal 2012 and Fiscal 2011, respectively. These amounts are recorded in Stores and Distribution Expense in our Consolidated Statements of Operations and Comprehensive Income.
Marketing, General and Administrative Expense
Marketing, general and administrative expense during Fiscal 2012 was $473.9 million compared to $437.1 million in Fiscal 2011. The marketing, general and administrative expense rate (marketing, general and administrative expense divided by net sales) was 10.5% in Fiscal 2012 and Fiscal 2011. Marketing, general and administrative expense for Fiscal 2011 included $10.0 million in connection with legal settlements.
The increase in marketing, general, and administrative expenses was due to increases in incentive and other compensation related expenses, IT, marketing and other expenses.
Other Operating Expense (Income), Net
Other operating income, net was $19.3 million for Fiscal 2012 compared to other operating expense, net of $3.5 million for Fiscal 2011. Other operating income, net for Fiscal 2012, included income of $4.8 million related to business interruption insurance recoveries associated with Superstorm Sandy. Other operating expense included a charge of $13.4 million related to the Company’s change of intent regarding the sale of its ARS portfolio, which resulted in recognition of an other-than-temporary impairment in Fiscal 2011.
Operating Income
Operating income for Fiscal 2012 was $374.2 million compared to operating income of $221.4 million for Fiscal 2011. Operating income growth by new international stores, existing U.S. stores and direct-to-consumer operations more than off-set declines in existing international stores driven by negative comparable store sales and higher non-four wall expenses. Non-four wall expenses include: marketing, general and administrative expense; store management and support functions such as regional and district management and other functions not dedicated to an individual store; and distribution center costs.
Interest Expense (Income), Net and Tax Expense
Fiscal 2012 interest expense was $10.5 million, offset by interest income of $3.2 million, compared to interest expense of $7.9 million, offset by interest income of $4.3 million for Fiscal 2011.
The effective tax rate for Fiscal 2012 was 35.4% compared to 34.3% for Fiscal 2011.
As of February 2, 2013, there were approximately $22.2 million of net deferred tax assets in Japan. The realization of the net deferred tax assets is dependent upon the future generation of sufficient taxable profits in Japan. While the Company
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believes it is more likely than not that the net deferred tax assets will be realized, it is not certain. Should circumstances change, the net deferred tax assets not currently subject to a valuation allowance may become subject to one in the future. Additional valuation allowances would result in additional tax expense.
Net Income and Net Income per Diluted Share
Net income for Fiscal 2012 was $237.0 million compared to net income of $143.9 million for Fiscal 2011. Net income per diluted share for Fiscal 2012 was $2.85 compared to net income per diluted share of $1.61 for Fiscal 2011. Net income per diluted share for Fiscal 2012 included store-related asset impairment charges of approximately $0.06 per diluted share. Net income per diluted share for Fiscal 2011 included store-related asset impairment charges of approximately $0.49 per diluted share, asset write-down charges of approximately $0.10 per diluted share, store closure and exit charges of approximately $0.13 per diluted share, legal charges of approximately $0.07 per diluted share, and other-than-temporary impairment charges of approximately $0.09 per diluted share related to a change in intent regarding the Company’s ARS portfolio. Refer to the GAAP reconciliation table in the “OVERVIEW” section of this “ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS” for a reconciliation of net income per diluted share on a GAAP basis to net income per diluted share on a non-GAAP basis, excluding charges for impairment and write-downs of store related long-lived assets, charges related to store closures and lease exits, and other charges associated with legal settlements and with a change in intent regarding the Company’s ARS.
FISCAL 2011 COMPARED TO FISCAL 2010
Net Sales
Net sales for Fiscal 2011 were $4.158 billion, an increase of 20% from Fiscal 2010 net sales of $3.469 billion. The net sales increase was attributable to new stores, primarily international, a 5% increase in comparable store sales, and a 36% increase in the direct-to-consumer business, including shipping and handling revenue. The impact of foreign currency on sales (based on converting prior year sales at current year exchange rates) for Fiscal 2011 and Fiscal 2010 was a benefit of $21.6 million and $4.9 million, respectively.
Total Company U.S. store sales for Fiscal 2011 were $2.711 billion, an increase of 6% from Fiscal 2010 sales of $2.547 billion. Total Company international store sales for Fiscal 2011 were $894.6 million, an increase of 73% from Fiscal 2010 sales of $517.0 million.
Direct-to-consumer sales in Fiscal 2011, including shipping and handling revenue, were $552.6 million, an increase of 36% from Fiscal 2010 direct-to-consumer sales of $405.0 million. The direct-to-consumer business, including shipping and handling revenue, accounted for 13% of total net sales in Fiscal 2011 compared to 12% in Fiscal 2010.
Comparable store sales by brand for Fiscal 2011 were as follows: Abercrombie & Fitch increased 3%, with men’s and women’s increasing by a low single digit percent. abercrombie kids increased 4%, with guys increasing by a high single digit and girls increasing by a low single digit. Hollister increased 8%, with dudes and bettys increasing by a high single digit.
On a comparable store sales basis, the Southern and the Western regions of the U.S. were the strongest performing regions, while Canada and Japan were the weakest.
From a merchandise classification standpoint, fleece, active wear, and knit tops were stronger performing categories for the male business while graphics and woven shirts were weaker performing categories. In the female business, woven shirts, sweaters, and knit tops were stronger performing categories, while graphics and dresses were weaker performing categories.
Gross Profit
Gross profit during Fiscal 2011 was $2.550 billion compared to gross profit of $2.217 billion during Fiscal 2010. The gross profit rate for Fiscal 2011 was 61.3%, down 260 basis points from the Fiscal 2010 rate of 63.9%.
The decrease in the gross profit rate for Fiscal 2011 was primarily driven by an increase in average unit cost.
Stores and Distribution Expense
Stores and distribution expense for Fiscal 2011 was $1.888 billion compared to $1.590 billion in Fiscal 2010. The stores and distribution expense rate for Fiscal 2011 was 45.4% compared to 45.8% in Fiscal 2010.
Stores and distribution expense for Fiscal 2011 included store-related asset impairment charges of $68.0 million associated with 79 stores, asset write-down charges of $14.6 million related to the reconfiguration of three flagship stores and a small write-off related to a cancelled flagship project, and store exit charges of $19.0 million, associated with lease buyouts and other lease obligations related to stores closing prior to natural lease expirations, other lease terminations, and other incidental costs associated with store closures. For Fiscal 2010, stores and distribution expense included store-related asset impairment
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charges associated with 26 stores of $50.6 million and store exit charges of $4.4 million associated with the closure of 64 domestic stores during the year.
The decrease in stores and distribution expense rate for Fiscal 2011 was primarily driven by lower store occupancy costs as a percentage of net sales.
Shipping and handling costs, including costs incurred to store, move and prepare the products for shipment and costs incurred to physically move the product to the customer, associated with direct-to-consumer operations were $53.6 million and $38.9 million for Fiscal 2011 and Fiscal 2010, respectively. Handling costs, including costs incurred to store, move and prepare the products for shipment to the stores were $62.8 million and $42.8 million for Fiscal 2011 and Fiscal 2010, respectively. These amounts are recorded in Stores and Distribution Expense in our Consolidated Statements of Operations and Comprehensive Income.
Marketing, General and Administrative Expense
Marketing, general and administrative expense during Fiscal 2011 was $437.1 million compared to $400.8 million in Fiscal 2010. For Fiscal 2011, the marketing, general and administrative expense rate was 10.5%, compared to 11.6% for Fiscal 2010. Marketing, general and administrative expense for Fiscal 2011 included $10.0 million in connection with legal settlements.
In addition to legal settlement charges, the increase in marketing, general and administrative expense for Fiscal 2011 was primarily due to increases in compensation, including equity compensation, outside services, marketing, travel and IT expenses.
Other Operating Expense (Income), Net
Other operating expense, net was $3.5 million for Fiscal 2011 compared to other operating income, net of $10.1 million for Fiscal 2010. Other operating expense, net for Fiscal 2011, included $13.4 million of expense related to a change in the Company’s intent regarding the sale of its ARS portfolio, which resulted in recognition of an other-than-temporary impairment in Fiscal 2011.
Interest Expense (Income), Net and Tax Expense
Fiscal 2011 interest expense was $7.9 million, offset by interest income of $4.3 million, compared to interest expense of $7.8 million, offset by interest income of $4.4 million for Fiscal 2010.
The effective tax rate for Fiscal 2011 was 34.3% compared to 33.4% for Fiscal 2010.
As of January 28, 2012, there were approximately $25.6 million of net deferred tax assets in Japan with a valuation allowance of $2.4 million. The valuation allowance in Japan was established as the result of changes to the business configuration of operations in Japan, as well as tax law changes. The realization of the net deferred tax assets not subject to a valuation allowance is dependent upon the future generation of sufficient profits in Japan. While the Company believes it is more likely than not that the net deferred tax assets will be realized, it is not certain. Should circumstances change, some or all of the net deferred tax assets not currently subject to a valuation allowance may become so in the future. Any increase in the valuation allowance would result in additional tax expense.
Income from Discontinued Operations, Net of Tax
The Company completed the closure of its RUEHL branded stores and related direct-to-consumer operations in the fourth quarter of Fiscal 2009. Accordingly, the after-tax operating results appear in Income (Loss) from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive Income. Results from discontinued operations, net of tax, were immaterial for Fiscal 2010.
Refer to Note 19, “DISCONTINUED OPERATIONS,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K for further discussion.
Net Income and Net Income per Diluted Share
Net income for Fiscal 2011 was $143.9 million compared to $155.7 million for Fiscal 2010. Net income per diluted share for Fiscal 2011 was $1.61 compared to $1.73 for Fiscal 2010. Net income per diluted share for Fiscal 2011 included store-related asset impairment charges of approximately $0.49 per diluted share, asset write-down charges of approximately $0.10 per diluted share, store closure and exit charges of approximately $0.13 per diluted share, legal charges of approximately $0.07 per diluted share, and other-than-temporary impairment charges of approximately $0.09 per diluted share related to a change in intent regarding the Company’s ARS portfolio. Net income per diluted share for Fiscal 2010 included store-related asset impairment charges of approximately $0.34 per diluted share and store exit charges of approximately $0.03 per diluted share.
FINANCIAL CONDITION
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Liquidity and Capital Resources
Historical Sources and Uses of Cash
Seasonality of Cash Flows
The retail business has two principal selling seasons: the Spring season which includes the first and second fiscal quarters (“Spring”) and the Fall season which includes the third and fourth fiscal quarters (“Fall”). As is typical in the apparel industry, the Company experiences its greatest sales activity during the Fall season due to Back-to-School and Holiday sales periods, particularly in the U.S. The Company relies on excess operating cash flows, which are largely generated in the Fall season, to fund operating expenses throughout the year and to reinvest in the business to support future growth. The Company also has a credit facility and the term loan agreement available as sources of additional funding.
Credit Agreements
On July 28, 2011, the Company entered into an unsecured amended and restated credit agreement (the “Amended and Restated Credit Agreement”) under which up to $350 million is available. The Amended and Restated Credit Agreement served to amend and restate, in its entirety, the credit agreement dated April 15, 2008 as previously amended (the “Prior Credit Agreement”). The primary reasons for entering into the Amended and Restated Credit Agreement were to extend the termination date from April 12, 2013 to July 27, 2016 and to reduce fees and interest rates.
As of March 22, 2013, the Company had approximately $350 million available under the Amended and Restated Credit Agreement. The Company had no borrowings outstanding under the Amended and Restated Credit Agreement on February 2, 2013.
On February 24, 2012, the Company entered into a $300 million Term Loan Agreement to increase its flexibility and liquidity. On January 23, 2013, the Company amended both the Amended and Restated Credit Agreement and Term Loan Agreement to reduce the amount available for borrowing under the Term Loan Agreement to $150 million and lower the applicable Coverage Ratio to 1.75 to 1.00. In addition, the Amended and Restated Credit Agreement and the Term Loan Agreement both have a Leverage Ratio. The Company was in compliance with the applicable ratio requirements and other covenants at February 2, 2013. Subsequent to year end, the Company drew down the full $150 million available under the Term Loan Agreement.
The Amended and Restated Credit Agreement and the Term Loan Agreement, including the material covenants which apply to each, are described in Note 16, “BORROWINGS,” of the Notes to Consolidated Financial Statements included in "ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA," of this Annual Report on Form 10-K.
Stand-by letters of credit outstanding as of February 2, 2013 and January 28, 2012 were immaterial.
Operating Activities
Net cash provided by operating activities was $684.2 million for Fiscal 2012 compared to $365.2 million for Fiscal 2011. The increase in cash provided by operating activities was primarily driven by a change in inventories partially offset by a change in accounts payable.
Investing Activities
Cash outflows for investing activities for Fiscal 2012 and Fiscal 2011 were used primarily for capital expenditures related to new store construction and information technology investments. Cash outflows for capital expenditures were consistent from Fiscal 2012 and Fiscal 2011. In Fiscal 2012, cash flows for investing activities included proceeds received from sales of marketable securities.
Financing Activities
For Fiscal 2012 and Fiscal 2011, cash outflows for financing activities consisted primarily of the repurchase of A&F’s Common Stock and the payment of dividends. For Fiscal 2011, net cash outflows related to the repurchase of A&F's Common Stock, payment of dividends and the repayment of borrowings under the then existing credit agreement were partially offset by the receipt of proceeds associated with the exercise of share-based compensation awards.
During Fiscal 2012, A&F repurchased approximately 7.5 million shares of A&F’s Common Stock in the open market with a market value of approximately $321.7 million. During Fiscal 2011, A&F repurchased approximately 3.5 million shares of A&F’s Common Stock in the open market with a market value of $196.6 million. During Fiscal 2010, A&F repurchased approximately 1.6 million shares of A&F’s Common Stock in the open market with a market value of $76.2 million. Fiscal 2012, Fiscal 2011 and Fiscal 2010 repurchases were pursuant to the authorizations of A&F's Board of Directors.
As of February 2, 2013, A&F had approximately 18.7 million remaining shares available for repurchase as part of the A&F Board of Directors’ previously approved authorizations.
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Future Cash Requirements and Sources of Cash
Over the next twelve months, the Company’s primary cash requirements will be to fund operating activities, including the acquisition of inventory, and obligations related to compensation, rent, taxes and other operating activities, as well as capital expenditures and paying of quarterly dividend payments to stockholders subject to the A&F Board of Directors’ approval. The Company also has availability under the Amended and Restated Credit Agreement as a source of additional funding. In addition, on February 21, 2013, the Company drew down the full $150 million available under the Term Loan Agreement to take advantage of the current lending market and to increase its flexibility and liquidity. The Company expects to generate positive free cash flow defined as operating cash flow less capital expenditures for Fiscal 2013.
Subject to suitable market conditions, A&F expects to continue to repurchase shares of its Common Stock. The Company anticipates funding these cash requirements with available cash from operations and as deemed appropriate, the Amended and Restated Credit Agreement and the Term Loan Agreement proceeds.
The Company is not dependent on dividends from its foreign subsidiaries to fund its U.S. operations or make distributions to A&F's shareholders. Unremitted earnings from foreign subsidiaries, which are considered to be invested indefinitely, would become subject to income tax if they were remitted as dividends or were lent to A&F or a U.S. affiliate.
Off-Balance Sheet Arrangements
As of February 2, 2013, the Company did not have any off-balance sheet arrangements.
Contractual Obligations
Payments due by period (thousands) | ||||||||||||||||||||
Total | Less than 1 year | 1-3 years | 3-5 years | More than 5 years | ||||||||||||||||
Operating Lease Obligations (1) | $ | 2,635,519 | $ | 421,577 | $ | 758,711 | $ | 586,752 | $ | 868,479 | ||||||||||
Purchase Obligations | 161,615 | 161,615 | — | — | — | |||||||||||||||
Other Obligations | 41,584 | 18,634 | 9,493 | 1,110 | 12,347 | |||||||||||||||
Dividends | — | — | — | — | — | |||||||||||||||
Totals | $ | 2,838,718 | $ | 601,826 | $ | 768,204 | $ | 587,862 | $ | 880,826 | ||||||||||
(1) Includes leasehold financing obligations of $71.7 million and related interest. Refer to Note 17, "LEASEHOLD FINANCING OBLIGATIONS," of the Notes to Consolidated Financial Statements for additional reference.
Operating lease obligations consist primarily of non-cancelable future minimum lease commitments related to store operating leases. See Note 12, “LEASED FACILITIES,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K, for further discussion. Excluded from the obligations above are amounts related to portions of lease terms that are currently cancelable at the Company's discretion. While included in the obligations above, in many instances, the Company has options to terminate certain leases if stated sales volume levels are not met or the Company ceases operations in a given country. Operating lease obligations do not include common area maintenance (“CAM”), insurance, marketing or tax payments for which the Company is also obligated. Total expense related to CAM, insurance, marketing and taxes was $168.6 million in Fiscal 2012.
The purchase obligations category represents purchase orders for merchandise to be delivered during Fiscal 2013 and commitments for fabric expected to be used during upcoming seasons.
Other obligations consist primarily of asset retirement obligations and information technology contracts.
Due to uncertainty as to the amounts and timing of future payments, the contractual obligations table above does not include tax (including accrued interest and penalties) of $16.0 million related to uncertain tax positions at February 2, 2013. Deferred taxes are also not included in the preceding table. For further discussion, see Note 15, “INCOME TAXES,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K.
The table above does not include estimated future retirement payments under the Chief Executive Officer Supplemental Executive Retirement Plan (the “SERP”) for the Company’s Chairman and Chief Executive Officer with a present value of $18.5 million at February 2, 2013. See Note 20, “RETIREMENT BENEFITS,” of the Notes to Consolidated Financial Statements included in “ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA” of this Annual Report on Form 10-K and the description of the SERP to be included in the text under the caption “EXECUTIVE OFFICER COMPENSATION” in A&F’s definitive Proxy Statement for the Annual Meeting of Stockholders to be held on June 20, 2013, incorporated by reference in “ITEM 11. EXECUTIVE COMPENSATION” of this Annual Report on Form 10-K.
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A&F has historically paid quarterly dividends on its Common Stock. There are no amounts included in the above table related to dividends due to the fact that dividends are subject to determination and approval by A&F's Board of Directors.
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Year-To-Date Store Count and Gross Square Feet
Store count and gross square footage by brand for Fiscal 2012 and Fiscal 2011, respectively, were as follows:
Store Activity | Abercrombie & Fitch | abercrombie | Hollister | Gilly Hicks | Total | ||||||||||
U.S. Stores | |||||||||||||||
January 28, 2012 | 280 | 154 | 494 | 18 | 946 | ||||||||||
New | 4 | 3 | 3 | 3 | 13 | ||||||||||
Closed | (18 | ) | (13 | ) | (15 | ) | (1 | ) | (47 | ) | |||||
February 2, 2013 | 266 | 144 | 482 | 20 | 912 | ||||||||||
Gross Square Feet at February 2, 2013 | 2,378 | 677 | 3,287 | 170 | 6,512 | ||||||||||
International Stores | |||||||||||||||
January 28, 2012 | 14 | 5 | 77 | 3 | 99 | ||||||||||
New | 5 | 1 | 30 | 4 | 40 | ||||||||||
Closed | — | — | — | — | — | ||||||||||
February 2, 2013 | 19 | 6 | 107 | 7 | 139 | ||||||||||
Gross Square Feet at February 2, 2013 | 401 | 71 | 926 | 48 | 1,446 | ||||||||||
Total Stores | 285 | 150 | 589 | 27 | 1,051 | ||||||||||
Gross Square Feet at February 2, 2013 | 2,779 | 748 | 4,213 | 218 | 7,958 | ||||||||||
Store Activity | Abercrombie & Fitch | abercrombie | Hollister | Gilly Hicks | Total | ||||||||||
U.S. Stores | |||||||||||||||
January 29, 2011 | 316 | 181 | 502 | 18 | 1,017 | ||||||||||
New | 1 | 1 | 1 | — | 3 | ||||||||||
Closed | (37) | (28) | (9) | — | (74) | ||||||||||
January 28, 2012 | 280 | 154 | 494 | 18 | 946 | ||||||||||
Gross Square Feet at January 28, 2012 | 2,514 | 727 | 3,373 | 176 | 6,790 | ||||||||||
International Stores | |||||||||||||||
January 29, 2011 | 9 | 4 | 38 | 1 | 52 | ||||||||||
New | 5 | 1 | 39 | 2 | 47 | ||||||||||
Closed | — | — | — | — | — | ||||||||||
January 28, 2012 | 14 | 5 | 77 | 3 | 99 | ||||||||||
Gross Square Feet at January 28, 2012 | 264 | 59 | 642 | 23 | 988 | ||||||||||
Total Stores | 294 | 159 | 571 | 21 | 1,045 | ||||||||||
Gross Square Feet at January 28, 2012 | 2,778 | 786 | 4,015 | 199 | 7,778 | ||||||||||
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CAPITAL EXPENDITURES
Capital expenditures totaled $339.9 million, $318.6 million and $160.9 million for Fiscal 2012, Fiscal 2011 and Fiscal 2010, respectively. A summary of capital expenditures is as follows:
Capital Expenditures (in millions) | 2012 | 2011 | 2010 | |||||||||
New Store Construction, Store Refreshes and Remodels | $ | 245.3 | $ | 258.0 | $ | 118.0 | ||||||
Home Office, Distribution Centers and Information Technology | 94.6 | 60.6 | 42.9 | |||||||||
Total Capital Expenditures | $ | 339.9 | $ | 318.6 | $ | 160.9 | ||||||
During Fiscal 2013, based on new store opening plans and other capital expenditure plans, the Company expects total capital expenditures to be approximately $200 million.
Recent Accounting Pronouncements
In May 2011, Accounting Standards Codification 820-10, “Fair Value Measurements and Disclosures,” (“ASC 820-10”) was amended to clarify certain disclosure requirements and improve consistency with international reporting standards. This amendment is to be applied prospectively and became effective for the Company beginning January 29, 2012. The adoption did not have a material effect on our consolidated financial statements.
Accounting Standards Codification Topic 220, “Comprehensive Income,” was amended in June 2011 to require entities to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The amendment does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income under current GAAP. This guidance became effective for the Company’s fiscal year and interim periods beginning January 29, 2012. The adoption did not have a material effect on our consolidated financial statements.
In February 2013, the FASB issued ASU 2013-02, which further amends Accounting Standards Codification Topic 220, "Comprehensive Income." The ASU contains new requirements related to the presentation and disclosure of items that are reclassified out of other comprehensive income. The new requirements will give financial statement users a more comprehensive view of items that are reclassified out of other comprehensive income. ASU 2013-02 is effective for the Company's fiscal year and interim periods beginning after December 15, 2012, and is to be applied prospectively. Since the guidance relates only to presentation and disclosure of information, adoption is not expected to have a material effect on our consolidated financial condition or results of operations.
Critical Accounting Estimates
The Company’s discussion and analysis of its financial condition and results of operations are based upon the Company’s consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires the Company to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Since actual results may differ from those estimates, the Company revises its estimates and assumptions as new information becomes available.
The Company believes the following policies are the most critical to the portrayal of the Company’s financial condition and results of operations.
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Policy | Effect if Actual Results Differ from Assumptions | |
Revenue Recognition | ||
The Company recognizes retail sales at the time the customer takes possession of the merchandise. The Company reserves for sales returns through estimates based on historical experience and various other assumptions that management believes to be reasonable. The value of point of sale coupons that result in a reduction of the price paid by the customer is recorded as a reduction of sales. The Company sells gift cards in its stores and through direct-to-consumer operations. The Company accounts for gift cards sold to customers by recognizing a liability at the time of sale. The liability remains on the Company’s books until the earlier of redemption (recognized as revenue) or when the Company determines the likelihood of redemption is remote, known as breakage (recognized as other operating income), based on historical redemption patterns. | The Company has not made any material changes in the accounting methodology used to determine the sales return reserve and revenue recognition for gift cards over the past three fiscal years. The Company does not expect material changes in the near term to the underlying assumptions used to measure the sales return reserve or to measure the timing and amount of future gift card redemptions as of February 2, 2013. However, changes in these assumptions do occur, and, should those changes be significant, the Company may be exposed to gains or losses that could be material. A 10% change in the sales return reserve as of February 2, 2013 would have affected pre-tax income by an immaterial amount for Fiscal 2012. A 10% change in the assumption of the breakage for gift cards as of February 2, 2013 would have affected pre-tax income by an immaterial amount for Fiscal 2012. | |
Inventory Valuation | ||
Inventories are principally valued at the lower of average cost or market utilizing the weighted average cost method (the "cost method"). The Company reduces the inventory valuation only when the cost of specific inventory items on hand exceeds the amount expected to be realized from the ultimate sale or disposal of the goods through a lower of cost or market ("LCM") reserve. Additionally, as part of inventory valuation, an inventory shrink estimate is made each period that reduces the value of inventory for lost or stolen items. | Effective February 2, 2013, the Company changed its method of accounting for inventories from the retail method to the cost method. This accounting change resulted in a fundamental change in the inventory valuation reserve from a markdown reserve under the retail method to an LCM reserve under the cost method. The Company has not made any material changes to the way it accounts for shrink during the past three fiscal years. The Company does not expect material changes in the near term to the underlying assumptions used to determine the shrink reserve or LCM reserve as of February 2, 2013. However, changes in these assumptions do occur, and, should those changes be significant, they could significantly impact the ending inventory valuation at cost, as well as the resulting gross margin(s). An increase or decrease in the LCM reserve of 10% would have affected pre-tax income by approximately $1.0 million for Fiscal 2012. An increase or decrease in the inventory shrink accrual of 10% would have affected pre-tax income by approximately $1.2 million for Fiscal 2012. | |
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Policy | Effect if Actual Results Differ from Assumptions | |
Property and Equipment | ||
Long-lived assets, primarily comprised of property and equipment, are reviewed whenever events or changes in circumstances indicate that full recoverability of net asset group balances through future cash flows is in question. In addition, the Company conducts an annual impairment analysis in the fourth quarter of each year. For the purposes of the annual review, the Company reviews long-lived assets associated with stores that have an operating loss in the current year and have been open for at least two full years. The Company’s impairment calculation requires management to make assumptions and judgments related to factors used in the evaluation for impairment, including, but not limited to, management’s expectations for future operations and projected cash flows. The key assumptions used in our undiscounted future cash flow model include sales, gross margin and, to a lesser extent, operating expenses. | The Company has not made any material changes in the accounting methodology used to determine impairment loss over the past three fiscal years. During Fiscal 2012, 44 stores, which excludes stores with a de minimis book value, were tested for impairment during the fourth quarter as part of our annual review of all stores. Of the 44 stores tested for impairment, 17 failed step one and were impaired. Of the 27 stores not impaired, 18 stores, with an aggregate net asset group value of $17.0 million, had undiscounted cash flows which were 150% or more of this net asset group value. Nine stores, with an aggregate net asset group value of $2.6 million, had undiscounted cash flows which were in the range of 100% to 150% of this net asset group value. The Company does not expect material changes in the near term to the assumptions underlying its impairment calculations as of February 2, 2013. However, if changes in these assumptions do occur, and, should those changes be significant, they could have a material impact on the Company’s determination of whether or not there has been an impairment. A 10% decrease in the sales assumption used to project future cash flows in Fiscal 2012 impairment test would have increased the impairment charge by approximately $17.0 million for Fiscal 2012. | |
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Policy | Effect if Actual Results Differ from Assumptions | |
Income Taxes | ||
The provision for income taxes is determined using the asset and liability approach. Tax laws often require items to be included in tax filings at different times than the items are being reflected in the financial statements. A current liability is recognized for the estimated taxes payable for the current year. Deferred taxes represent the future tax consequences expected to occur when the reported amounts of assets and liabilities are recovered or paid. Deferred taxes are adjusted for enacted changes in tax rates and tax laws. Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit will not be realized. A provision for U.S. income tax has not been recorded on undistributed profits of non-U.S. subsidiaries that the Company has determined to be indefinitely reinvested outside the U.S. Determination of the amount of unrecognized deferred U.S. income tax liability on these unremitted earnings is not practicable because of the complexities associated with this hypothetical calculation. The Company recognizes accrued interest and penalties related to uncertain tax positions as a component of tax expense upon settlement, law changes or expiration of statute of limitations. | The Company does not expect material changes in the judgments, assumptions or interpretations used to calculate the tax provision for Fiscal 2012. However, changes in these assumptions may occur and should those changes be significant, they could have a material impact on the Company’s income tax provision. If the Company’s intention or U.S. and/or international tax law changes in the future, there may be a significant negative impact on the provision for income taxes to record an incremental tax liability in the period the change occurs. Of the total uncertain tax positions, it is reasonably possible that $7 million to $12 million could change in the next twelve months due to audit settlements, expiration of statutes of limitations or other resolution of uncertainties. Due to the uncertain and complex application of tax regulations, it is possible that the ultimate resolution of audits may result in amounts which could be different from this estimate. In such case, the Company will record an adjustment in the period in which such matters are effectively settled. | |
Equity Compensation Expense | ||
The Company’s equity compensation expense related to stock options and stock appreciation rights granted is estimated using the Black-Scholes option-pricing model to determine the fair value of the stock option and stock appreciation right grants, which requires the Company to estimate the expected term of the stock option and stock appreciation right grants and expected future stock price volatility over the expected term. | During Fiscal 2012, the Company granted stock appreciation rights covering an aggregate of 363,800 shares. A 10% increase in the assumed expected term would have yielded a 3% increase in the Black-Scholes valuation for stock appreciation rights granted during the year, while a 10% increase in assumed stock price volatility would have yielded a 6% increase in the Black-Scholes valuation for stock appreciation rights granted during the year. | |
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Policy | Effect if Actual Results Differ from Assumptions | |
Supplemental Executive Retirement Plan | ||
Effective February 2, 2003, the Company established a Chief Executive Officer Supplemental Executive Retirement Plan to provide additional retirement income to its Chairman and Chief Executive Officer. Subject to service requirements, the CEO will receive a monthly benefit equal to 50% of his final average compensation (as defined in the SERP) for life. The final average compensation used for the calculation is based on actual compensation (base salary and actual annual cash incentive compensation) averaged over the last 36 consecutive full calendar months ending before the CEO’s retirement. The Company’s accrual for the SERP requires management to make assumptions and judgments related to the CEO’s final average compensation, life expectancy and discount rate. | The Company does not expect material changes in the near term to the underlying assumptions used to determine the accrual for the SERP as of February 2, 2013. However, changes in these assumptions do occur, and, should those changes be significant, the Company may be exposed to gains or losses that could be material. A 10% increase in final average compensation as of February 2, 2013 would increase the SERP accrual by approximately $1.8 million. A 50 basis point increase in the discount rate as of February 2, 2013 would decrease the SERP accrual by an immaterial amount. | |
Legal Contingencies | ||
The Company is a defendant in lawsuits and other adversarial proceedings arising in the ordinary course of business. Legal costs incurred in connection with the resolution of claims and lawsuits are expensed as incurred, and the Company establishes reserves for the outcome of litigation where it deems appropriate to do so under applicable accounting rules. | Actual liabilities may exceed or be less than the amounts reserved, and there can be no assurance that the final resolution of these matters will not have a material adverse effect on the Company’s financial condition, results of operations or cash flows. | |
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ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. |
Investment Securities
The Company maintains its cash equivalents in financial instruments, primarily money market funds and United States treasury bills, with original maturities of three months or less.
The irrevocable rabbi trust (the “Rabbi Trust”) is intended to be used as a source of funds to match respective funding obligations to participants in the Abercrombie & Fitch Co. Nonqualified Savings and Supplemental Retirement Plan I, the Abercrombie & Fitch Co. Nonqualified Savings and Supplemental Retirement Plan II and the Chief Executive Officer Supplemental Executive Retirement Plan. As of February 2, 2013, total assets held in the Rabbi Trust were $87.6 million and related to trust-owned life insurance policies with a cash surrender value of $87.6 million and an immaterial amount of assets held in money market funds. The trust-owned life insurance policies are recorded at cash surrender value, in Other Assets on the Consolidated Balance Sheets and are restricted as to their use as noted above. The change in cash surrender value of the trust-owned life insurance policies held in the Rabbi Trust resulted in realized gains of $2.4 million and $2.5 million for Fiscal 2012 and Fiscal 2011, respectively.
Interest Rate Risks
As of February 2, 2013, the Company had no borrowings outstanding under the Amended and Restated Credit Agreement or the Term Loan Agreement.
Foreign Exchange Rate Risk
A&F’s international subsidiaries generally operate with functional currencies other than the U.S. Dollar. The Company’s Consolidated Financial Statements are presented in U.S. Dollars. Therefore, the Company must translate revenues, expenses, assets and liabilities from functional currencies into U.S. Dollars at exchange rates in effect during or at the end of the reporting period. The fluctuation in the value of the U.S. Dollar against other currencies affects the reported amounts of revenues, expenses, assets and liabilities. The potential impact of currency fluctuation increases as international expansion increases.
A&F and its subsidiaries have exposure to changes in currency exchange rates associated with foreign currency transactions and forecasted foreign currency transactions, including the sale of inventory between subsidiaries and foreign denominated assets and liabilities. Such transactions are denominated primarily in U.S. Dollars, British Pounds, Canadian Dollars, Chinese Yuan, Danish Kroner, Euros, Hong Kong Dollars, Japanese Yen, Polish Zloty, South Korean Won, Singapore Dollars, Swedish Kroner and Swiss Francs. The Company has established a program that primarily utilizes foreign currency forward contracts to partially offset the risks associated with the effects of certain foreign currency transactions and forecasted transactions. Under this program, increases or decreases in foreign currency exposures are partially offset by gains or losses on forward contracts, to mitigate the impact of foreign currency gains or losses. The Company does not use forward contracts to engage in currency speculation. All outstanding foreign currency forward contracts are recorded at fair value at the end of each fiscal period.
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ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
ABERCROMBIE & FITCH CO.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Thousands, except share and per share amounts)
2012 | 2011 | 2010 | |||||||||
(Restated see Note 4) | |||||||||||
NET SALES | $ | 4,510,805 | $ | 4,158,058 | $ | 3,468,777 | |||||
Cost of Goods Sold | 1,694,096 | 1,607,834 | 1,251,348 | ||||||||
GROSS PROFIT | 2,816,709 | 2,550,224 | 2,217,429 | ||||||||
Stores and Distribution Expense | 1,987,926 | 1,888,248 | 1,589,501 | ||||||||
Marketing, General and Administrative Expense | 473,883 | 437,120 | 400,804 | ||||||||
Other Operating Expense (Income), Net | (19,333 | ) | 3,472 | (10,056 | ) | ||||||
OPERATING INCOME | 374,233 | 221,384 | 237,180 | ||||||||
Interest Expense, Net | 7,288 | 3,577 | 3,362 | ||||||||
INCOME FROM CONTINUING OPERATIONS BEFORE TAXES | 366,945 | 217,807 | 233,818 | ||||||||
Tax Expense from Continuing Operations | 129,934 | 74,669 | 78,109 | ||||||||
NET INCOME FROM CONTINUING OPERATIONS | $ | 237,011 | $ | 143,138 | $ | 155,709 | |||||
INCOME FROM DISCONTINUED OPERATIONS, Net of Tax | $ | — | $ | 796 | $ | — | |||||
NET INCOME | $ | 237,011 | $ | 143,934 | $ | 155,709 | |||||
NET INCOME PER SHARE FROM CONTINUING OPERATIONS: | |||||||||||
BASIC | $ | 2.89 | $ | 1.65 | $ | 1.77 | |||||
DILUTED | $ | 2.85 | $ | 1.60 | $ | 1.73 | |||||
NET INCOME PER SHARE FROM DISCONTINUED OPERATIONS: | |||||||||||
BASIC | $ | — | $ | 0.01 | $ | — | |||||
DILUTED | $ | — | $ | 0.01 | $ | — | |||||
NET INCOME PER SHARE: | |||||||||||
BASIC | $ | 2.89 | $ | 1.66 | $ | 1.77 | |||||
DILUTED | $ | 2.85 | $ | 1.61 | $ | 1.73 | |||||
WEIGHTED-AVERAGE SHARES OUTSTANDING: | |||||||||||
BASIC | 81,940 | 86,848 | 88,061 | ||||||||
DILUTED | 83,175 | 89,537 | 89,851 | ||||||||
DIVIDENDS DECLARED PER SHARE | $ | 0.70 | $ | 0.70 | $ | 0.70 | |||||
OTHER COMPREHENSIVE INCOME (LOSS) | |||||||||||
Foreign Currency Translation Adjustments | $ | (427 | ) | $ | (8,658 | ) | $ | 3,238 | |||
Gains (Losses) on Marketable Securities, net of taxes of $(5,526) and $366 for Fiscal 2011 and Fiscal 2010, respectively. | — | 9,409 | (622 | ) | |||||||
Unrealized Gain (Loss) on Derivative Financial Instruments, net of taxes of $2,361, $(1,216) and $188 for Fiscal 2012, Fiscal 2011 and Fiscal 2010, respectively. | (19,152 | ) | 12,217 | (320 | ) | ||||||
Other Comprehensive (Loss) Income | $ | (19,579 | ) | $ | 12,968 | $ | 2,296 | ||||
COMPREHENSIVE INCOME | $ | 217,432 | $ | 156,902 | $ | 158,005 | |||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
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ABERCROMBIE & FITCH CO.
CONSOLIDATED BALANCE SHEETS
(Thousands, except par value amounts)
February 2, 2013 | January 28, 2012 | ||||||
ASSETS | (Restated see Note 4) | ||||||
CURRENT ASSETS: | |||||||
Cash and Equivalents | $ | 643,505 | $ | 583,495 | |||
Marketable Securities | — | 84,650 | |||||
Receivables | 99,622 | 89,350 | |||||
Inventories | 426,962 | 679,935 | |||||
Deferred Income Taxes | 32,558 | 35,882 | |||||
Other Current Assets | 105,177 | 84,342 | |||||
TOTAL CURRENT ASSETS | 1,307,824 | 1,557,654 | |||||
PROPERTY AND EQUIPMENT, NET | 1,308,232 | 1,197,271 | |||||
NON-CURRENT MARKETABLE SECURITIES | — | 14,858 | |||||
OTHER ASSETS | 371,345 | 347,249 | |||||
TOTAL ASSETS | $ | 2,987,401 | $ | 3,117,032 | |||
LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||
CURRENT LIABILITIES: | |||||||
Accounts Payable | $ | 140,396 | $ | 211,368 | |||
Accrued Expenses | 395,734 | 369,073 | |||||
Deferred Lease Credits | 39,054 | 41,047 | |||||
Income Taxes Payable | 115,617 | 77,918 | |||||
TOTAL CURRENT LIABILITIES | 690,801 | 699,406 | |||||
LONG-TERM LIABILITIES: | |||||||
Deferred Lease Credits | 168,397 | 183,022 | |||||
Leasehold Financing Obligations | 63,942 | 57,851 | |||||
Other Liabilities | 245,993 | 245,418 | |||||
TOTAL LONG-TERM LIABILITIES | 478,332 | 486,291 | |||||
STOCKHOLDERS’ EQUITY: | |||||||
Class A Common Stock — $0.01 par value: 150,000 shares authorized and 103,300 shares issued at each of February 2, 2013 and January 28, 2012 | 1,033 | 1,033 | |||||
Paid-In Capital | 403,271 | 369,171 | |||||
Retained Earnings | 2,567,261 | 2,389,614 | |||||
Accumulated Other Comprehensive (Loss) Income, net of tax | (13,288 | ) | 6,291 | ||||
Treasury Stock, at Average Cost — 24,855 and 17,662 shares at February 2, 2013 and January 28, 2012, respectively | (1,140,009 | ) | (834,774 | ) | |||
TOTAL STOCKHOLDERS’ EQUITY | 1,818,268 | 1,931,335 | |||||
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | $ | 2,987,401 | $ | 3,117,032 | |||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
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ABERCROMBIE & FITCH CO.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Thousands, except per share amounts)
Common Stock | Paid-In Capital | Retained Earnings | Other Comprehensive (Loss) Income | Treasury Stock | Total Stockholders’ Equity | ||||||||||||||||||||||||
Shares Outstanding | Par Value | Shares | At Average Cost | ||||||||||||||||||||||||||
Balance, January 30, 2010 | 87,986 | $ | 1,033 | $ | 339,453 | $ | 2,183,690 | $ | (8,973 | ) | 15,314 | $ | (687,286 | ) | $ | 1,827,917 | |||||||||||||
Cumulative restatement for change in inventory accounting (See Note 4) | 47,341 | 47,341 | |||||||||||||||||||||||||||
Restated Net Income | — | — | — | 155,709 | — | — | — | 155,709 | |||||||||||||||||||||
Purchase of Common Stock | (1,582 | ) | — | — | — | — | 1,582 | (76,158 | ) | (76,158 | ) | ||||||||||||||||||
Dividends ($0.70 per share) | — | — | — | (61,656 | ) | — | — | — | (61,656 | ) | |||||||||||||||||||
Share-based Compensation Issuances and Exercises | |||||||||||||||||||||||||||||