Abercrombie & Fitch Company 10-K 2011
Documents found in this filing:
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Commission file number 1-12107
ABERCROMBIE & FITCH CO.
Securities registered pursuant to Section 12(b) of the Act:
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. Yes þ No o
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 o No þ
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. Yes þ No o
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).) Yes þ No o
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 Registrants 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. o
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. (Check one):
(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 o No þ
Aggregate market value of the Registrants 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 30, 2010: $3,259,819,246.
Number of shares outstanding of the Registrants common stock as of March 18, 2011: 87,228,538 shares of Class A Common Stock.
Portions of the Registrants definitive proxy statement for the Annual Meeting of Stockholders, to be held on June 16, 2011, are incorporated by reference into Part III of this Annual Report on Form 10-K.
ABERCROMBIE & FITCH CO.
TABLE OF CONTENTS
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: 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 women under the Gilly Hicks brand. As of January 29, 2011, the Company operated 1,069 stores in North America, Europe and Japan.
The Companys 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. 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 2010 represent the 52-week fiscal year ended January 29, 2011; to Fiscal 2009 represent the 52-week fiscal year ended January 30, 2010; and to Fiscal 2008 represent the 52-week fiscal year ended January 31, 2009. In addition, all references herein to Fiscal 2011 represent the 52-week fiscal year that will end on January 28, 2012.
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&Fs 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 SECs 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.
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 and rugged inspiration to this 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 a flirtatious and energetic attitude,
abercrombie kids is popular, wholesome and athletic. Rugged and casual with a vintage-inspired style, abercrombie kids aspires to be like its older sibling, Abercrombie & Fitch. The perfect combination of maturity and mischief, abercrombie kids is the signature of All-American cool.
Hollister. Hollister is the fantasy of Southern California. It is the feeling of chilling on the beach with your friends. Young, spirited, and with a sense of humor, Hollister never takes itself too seriously. The laidback lifestyle and wholesome image combine to give Hollister an energy thats 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 cute Push Em Up bras and Down Undies for the young, naturally beautiful and always confident girl; flirty and carefree, with a little tomboy sexiness. Gilly Hicks is the All-American brand with a Sydney sensibility.
Though each of the Companys brands embodies its own heritage and handwriting, they 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. MANAGEMENTS 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 brand.
In-Store Experience and Store Operations.
The Company views the customers in-store experience as the primary vehicle for communicating the spirit of each brand. The Company emphasizes the senses of sight, sound, smell, touch and energy by utilizing 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 Companys 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 Companys sales associates and managers are a central element in creating the atmosphere of the stores. In addition to providing a high level of customer service, sales associates and managers reflect the casual, energetic and aspirational attitude of the brands.
Every brand displays merchandise to ensure a consistent in-store experience, regardless of location. 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 brands store design and merchandise presentation enables the Company to open new stores efficiently.
At the end of Fiscal 2010, the Company operated 1,069 stores. The following table details the number of retail stores operated by the Company for the past two fiscal years:
At the end of Fiscal 2010, the Company operated 316 Abercrombie & Fitch stores, 181 abercrombie kids stores, 502 Hollister stores and 18 Gilly Hicks stores domestically. The Company also operated nine Abercrombie & Fitch stores, four abercrombie kids stores, 38 Hollister stores and one Gilly Hicks store internationally. At the end of Fiscal 2009, the Company operated 340 Abercrombie & Fitch stores, 205 abercrombie kids stores, 507 Hollister stores and 16 Gilly Hicks stores domestically. The Company also operated six Abercrombie & Fitch stores, four abercrombie kids stores and 18 Hollister stores internationally.
During Fiscal 2010, the Company operated, and continues to operate, four websites, including: www.abercrombie.com; www.abercrombiekids.com; www.hollisterco.com; and www.gillyhicks.com. Each of the four websites reinforces the particular brands lifestyle and is designed to complement the in-store experience. Aggregate total net sales through direct-to-consumer operations, including shipping and handling revenue, was $405.0 million for Fiscal 2010, representing 11.7% of total net sales. The Company believes its direct-to-consumer operations have broadened its market and brand recognition worldwide.
The Company considers the in-store experience to be its primary marketing vehicle. The Companys marketing strategy emphasizes the senses to reinforce the aspirational lifestyles represented by the brands. The Companys flagship stores represent the pinnacle of the Companys in-store branding efforts. The Company also engages its customers through social media and mobile commerce in ways that reinforce the aspirational lifestyle of the brands. Flagship stores and social media both attract a substantial number of international consumers and have significantly contributed to the worldwide status of the Companys iconic brands.
During Fiscal 2010, the Company purchased merchandise from approximately 191 vendors located throughout the world; primarily in Asia and Central and South America. The Company did not source more than 5% of its merchandise from any single factory or supplier during Fiscal 2010. The Company pursues a global sourcing strategy that includes relationships with vendors in 27 countries as well as the United States (the U.S.). The Companys foreign purchases of merchandise are negotiated and settled in U.S. dollars.
All product sources, including independent manufacturers and suppliers, must achieve and maintain the Companys high quality standards, which are an integral part of the Companys identity. The Company has established supplier product quality standards to ensure the high quality of fabrics and other materials used in the Companys products. The Company utilizes both home office and field employees to help monitor compliance with the Companys product quality standards.
In Fiscal 2010, a majority of the Companys merchandise and related materials were shipped to the Companys two distribution centers (DCs) in New Albany, Ohio where they were received and inspected. The Company is in the process of consolidating the operations of its two DCs in New Albany into one, with an expected completion in mid-2012. The Company also uses a third-party DC in the Netherlands for the distribution of merchandise to stores located in Europe and Asia. The Company utilizes one contract carrier to ship merchandise and related materials to its North American stores and all direct-to-consumer customers, and a separate contract carrier for its European and Asian stores. The Company also plans to open an additional third-party DC to support Asian operations in Fiscal 2011.
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.
The Companys management information systems consist of a full range of retail, financial and merchandising 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 in support of its international expansion.
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.
The Abercrombie & Fitch®, abercrombie®, Hollister Co.®, Gilly Hicks®, Gilly Hicks Sydney® and the Moose, Seagull, and Koala trademarks have been 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. 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 Companys 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 that 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.
The Company determines its operating segments on the same basis that it uses to evaluate performance internally. The Company believes its operating segments may be aggregated and reported as one reportable segment for financial reporting purposes because they are similar in each of the following areas: class of consumer, economic characteristics, nature of products, nature of production processes, and distribution methods. Refer to Note 1, Basis of Presentation 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, including the break-out of geographic information for net sales and long-lived assets.
Additional information about the Companys business, including its revenues and profits for the last three fiscal years and gross square footage of stores, is set forth under ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS of this Annual Report on Form 10-K.
The sale of apparel and personal care products through brick-and-mortar 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.
The competitive challenges facing the Company include anticipating and quickly responding to changing fashion trends; and maintaining the aspirational positioning of its brands so it can sustain its premium pricing position. Furthermore, the Company faces additional competitive challenges as many retailers continue promotional activities regardless of economic conditions. In response to these conditions, the Company has increased its promotional activity while continuing to focus on preserving the value of its brands.
As of March 18, 2011, the Company employed approximately 85,000 associates, only 855 of whom were party to a collective bargaining agreement in Italy. Approximately 76,000 of these associates were part-time associates.
On average, the Company employed approximately 25,000 full-time equivalents during Fiscal 2010 which included approximately 16,000 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. Please see the discussion in ITEM 3. LEGAL PROCEEDINGS in this Annual Report on Form 10-K.
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 Companys competitive position based on information and circumstances known to us at this time.
On June 16, 2009, A&Fs Board of Directors approved the closure of the Companys 29 RUEHL branded stores and related direct-to-consumer operations. The Company completed the closure of the RUEHL branded stores and related direct-to-consumer operations during the fourth quarter of Fiscal 2009. Accordingly, the results of operations of RUEHL are reflected in Loss from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive Income included in ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA of this Annual Report on Form 10-K, for all periods presented. Results from discontinued operations were immaterial for the fifty-two weeks ended January 29, 2011.
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:
The following sets forth a description of certain 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 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 to deteriorate significantly. While consumer spending began to improve in Fiscal 2010, these factors may cause levels of spending to remain depressed relative to historical levels for the foreseeable future. In addition, these factors may cause consumers to purchase products from lower-priced competitors or to defer purchases of apparel and personal care products altogether. One of the factors that we consider important to our ability to achieve the operating income goals we have set for ourselves is a return of the productivity of our domestic stores toward historical levels. The economic conditions and factors described above could adversely affect the anticipated increase in productivity of our domestic 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 and our 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 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, store growth, 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.
If We are Unable to Anticipate, Identify and Respond to Changing Fashion Trends and Consumer Preferences in a Timely Manner, and Manage Our Inventory Commensurate with Customer Demand, Our Sales Levels and Profitability May Decline.
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 must appeal to each brands corresponding target market of consumers whose preferences cannot be predicted with certainty and are subject to rapid change. We must translate market trends into appropriate, saleable merchandise far in advance of its sale in our stores or on our Internet 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 preference and demand, pricing shifts, and the sub-optimal selection and timing of merchandise purchases. We attempt to reduce the risks of changing fashion trends and product acceptance in part by devoting a portion of our merchandise for each brand to basic styles that are not significantly modified from year-to-year. However, there can be no assurance that we will continue to anticipate consumer demands successfully in the future. To the extent that we fail to anticipate, identify and respond effectively to changing consumer preferences and fashion trends, our sales will be
adversely affected. Inventory levels for certain merchandise styles no longer considered to be on trend may increase, leading to higher markdowns to reduce excess inventory or increases in inventory valuation reserves. A distressed economic and retail environment, in which many of our competitors continue to engage in aggressive promotional activities, 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. During the past 12 months alone, the price of cotton has nearly tripled based on Index A. 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 that such cost pressure will abate. The cost of transportation has been increasing as well, and, if the price of oil continues to increase, and as there continues to be significant unrest in the Middle East, it is unlikely that such cost pressure will abate.
In the future, 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. These increasing costs of production could also adversely affect our ability to achieve the gross margin objectives we have established for ourselves as one component of our roadmap.
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, between Abercrombie & Fitch Co. 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 also 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 aggregate, of 3,463,972 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.
In the event that there are not sufficient shares of Common Stock available to be issued under our 2007 Long-Term Incentive Plan (the 2007 LTIP), or under a successor or replacement plan at the time these equity-based awards are ultimately settled, we will be required to settle some portion of the awards in cash, which could have an adverse impact on our cash flow from operations, financial position or results of operations. Furthermore, the awards may not be deductible pursuant to Internal Revenue Code Section 162(m). In addition, under applicable accounting rules, if our stock price increases to a point where, as of any measurement date, we would be unable to settle outstanding equity-based awards in shares of Common Stock from our existing plans, we will be required to classify and account for all or a portion of the equity-based awards as liabilities. This could further adversely impact our results of operations.
Given the number of shares of Common Stock which could be issued under the Retention Grants and the Semi-Annual Grants, we intend to seek stockholder approval of additional long-term incentive compensation plans in order to be able to continue to settle the awards in Common Stock. In the event that we are unable to obtain such approval, the risk of cash settlement and/or liability accounting would be increased.
Our Growth Strategy Relies Significantly on International Expansion, Which 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 roadmap 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 employees comply with these laws. If any of our overseas operations, or our employees 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, as well as hiring experienced management. 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:
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, would adversely affect our ability to achieve the roadmap objectives that we have established for ourselves.
Our Direct-to-Consumer Sales are Subject to Numerous Risks that Could Adversely Impact Sales.
We sell merchandise over the Internet through our websites: www.abercrombie.com; www.abercrombiekids.com; www.hollisterco.com; and www.gillyhicks.com. Our Internet operations are subject to numerous risks, including:
Our failure to successfully respond to these risks might adversely affect sales in our Internet business, as well as damage our reputation and brands.
We Have Incurred, and May Continue to Incur, Significant Costs Related to Store Closures.
We may incur costs associated with store closures resulting from, among other things, lease termination agreements associated with closing stores prior to the stores lease expiration date. These costs could be significant and could have a material adverse effect on our financial condition and results of operations. We previously announced our intention to close underperforming domestic stores as part of our efforts to increase domestic store productivity toward our roadmap goals. In Fiscal 2010, we incurred $4.4 million of expenses in connection with the closings of 64 domestic stores.
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 internally developed and launched new brands that have contributed to our sales growth. Our most recently added brand is Gilly Hicks, which offers bras, underwear, personal care products, sleepwear and at-home products for girls. The development of new brand concepts such as Gilly Hicks requires managements focus and attention, as well as significant capital investments. Furthermore, a new brand concept is susceptible to risks that include 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 successfully launched 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 Fiscal 2009, we incurred pre-tax exit costs of $56.1 million and pre-tax impairment charges of $51.5 million associated with the closure of RUEHL. 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.
The functional currency of our international subsidiaries is generally the local currency in which each operates, which includes Euros, Canadian Dollars, Japanese Yen, Danish Kroner, Hong Kong Dollars and British Pounds. 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 all of our 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 of 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. 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. 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 to our stores and customers, which could reduce demand for our merchandise and cause our sales to decline.
Comparable Store Sales Will Continue to Fluctuate on a Regular Basis and Impact the Volatility of the Price of Our Common Stock.
Our comparable store 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%, have fluctuated significantly in the past on an annual and quarterly basis and are expected to continue to fluctuate in the future. During the past three fiscal years, comparable sales results have fluctuated as follows: (a) from 7% to (23)% for annual results and (b) from 13% to (30)% for quarterly results. We believe that a variety of factors affect comparable store 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 near 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 store 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 store 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 store 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 brick-and-mortar 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:
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 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. 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 United States and, increasingly, in many international locations as shopping destinations. We cannot control the development of new shopping malls in the United States or around the world; the availability or cost of appropriate locations within existing or new shopping malls; 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 Hollister Co. stores, which are primarily mall-based, and could have a material adverse effect on our financial condition or results of operations. Unfavorable economic conditions, particularly in certain regions, have affected mall traffic and resulted in the closing of certain anchor stores. The viability of certain commercial and real estate firms which operate major shopping malls has also been threatened. 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, or we may fail to achieve our roadmap goals for domestic productivity, which would impact our gross profits, net income or ability to achieve our roadmap goal for operating margin by Fiscal 2012.
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 United States. 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 Inability to Accurately Plan for Product Demand and Allocate Merchandise Effectively Could Have a Material Adverse Effect on Our Results.
We must order and keep appropriate merchandise in stock to meet demand. As a result, the inability to accurately plan for product demand and allocate merchandise effectively could have a material adverse effect on our financial condition and results of operations. High inventory levels due to unanticipated decreases in demand for our products, misidentification of fashion trends, or excess inventory purchases could require us to sell merchandise at a substantial markdown, which could reduce our net sales and gross margins and negatively impact our profitability. Low levels of inventory due to conservative planning could also affect product offerings in our stores and on our websites and negatively impact net sales and profitability.
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. 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; 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; and Ronald A. Robins, Jr., Senior Vice President, General Counsel and Secretary 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 purchase the majority of our merchandise outside of the U.S. through arrangements with approximately 190 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:
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 other 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.
We do not Own or Operate any Manufacturing Facilities and, Therefore, Depend Upon Independent Third Parties for the Manufacture 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 manufacturers ability to ship orders of our merchandise in a timely manner or to
meet our quality standards. A manufacturers 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.
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.
Our Reliance on Two Distribution Centers Domestically and One Third-Party Distribution Center 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 stores and direct-to-consumer customers, both regionally and internationally. We also use a third-party distribution center in the Netherlands for the distribution of merchandise delivered to our stores located outside of North America. As a result, our operations are susceptible to local and regional factors, such as system failures, accidents, economic and weather conditions, natural disasters, and 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 are in the process of consolidating our two distribution centers in New Albany into one, with an expected completion date in mid-2012. This consolidation requires managements focus and attention, as well as significant capital investments. We believe that this consolidation will result in operational efficiencies and that one distribution center in New Albany is adequate. However, if we are unable to operate effectively with one distribution center, our distribution operations could be disrupted. Further, consolidation into one distribution center increases our susceptibility to risks associated with system failures, accidents, weather conditions, national disasters, and other unforeseen circumstances. If our operations are disrupted, our ability to replace inventory in our stores and process direct-to-consumer orders could be interrupted and sales could be negatively impacted.
Our Reliance on Third Parties to Deliver Merchandise From Our Distribution Centers to Our Stores and Direct-to-Consumer Customers Could Result in Disruptions to Our Business.
The efficient operations of our stores and direct-to-consumer operations depend 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 use primarily one contract carrier for domestic store deliveries and all direct-to-consumer deliveries and a separate contract carrier for international store deliveries. The independent third parties employ personnel that may be represented by labor unions. Disruptions in the delivery of merchandise or work stoppages by employees 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.
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 require 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. 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, states and the federal government 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.
Modifications and/or Upgrades to Our Information Technology Systems May Disrupt Our Operations.
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 legacy systems with successor systems, making changes to legacy 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. Information technology system disruptions and inaccurate system information, if not anticipated and appropriately mitigated, could have a material adverse effect on our financial condition and results of operations. Additionally, there is no assurance that a successfully implemented system will deliver the anticipated value to us.
Our Facilities, Systems and Stores as Well as the Facilities and Systems of Our Vendors and Manufacturers, are Vulnerable to Natural Disasters and Other Unexpected Events, any of Which Could Result in an Interruption in 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 earthquakes, tornadoes, hurricanes, fires, floods, power losses, telecommunications failures, hardware and software failures, computer viruses and similar 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.
There is great uncertainty related to the earthquakes and the status of nuclear power plants in Japan. A continued interruption in business in Japan could have an adverse impact on our financial position or results of operations.
Our Litigation Exposure Could Exceed Expectations, Having 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. Management is unable to assess the potential exposure of the aforesaid 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 managements evaluation of the claims. Should managements 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 trademarks, Abercrombie & Fitch®, abercrombie®, Hollister Co.®, Gilly Hicks®, Gilly Hicks Sydney® and the Moose, Seagull and Koala 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 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 any 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 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 being taken, 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.
The continued threat of terrorism and the associated heightened security measures and military actions in response to acts of terrorism have disrupted commerce and have intensified uncertainties in the U.S. economy. 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 and 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 employee 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 exist for which no insurance may be available and for which we have not reserved.
Reduced 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. Futhermore, 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. In Fiscal 2008 and Fiscal 2009, we recognized approximately $13.6 million and $31.4 million, respectively, in after-tax charges associated with the impairment of RUEHL-related stores assets; and we subsequently discontinued our RUEHL operations. In Fiscal 2010, we recorded an after-tax charge of $30.9 million associated with Gilly Hicks stores, as well as certain other store-related assets. The Gilly Hicks charge relates to the stores constructed using the original large format store of approximately 10,000 gross square feet, and does not affect our operating plans for Gilly Hicks. In Fiscal 2008 and Fiscal 2009, we recognized $5.4 million and $20.4 million, respectively, in after-tax charges associated with the impairment of store-related assets unrelated to RUEHL. As a result of these charges, our operating results have been, and in the future may be, adversely affected.
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 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, increases significantly and heightens our risks. If these laws and regulations were to change, or were violated by our management, employees, 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 employee 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.
Our Unsecured Credit Agreement Includes Financial and Other Covenants That Impose Restrictions on Our Financial and Business Operations.
Our unsecured credit agreement expires on April 12, 2013 and market conditions could potentially impact the size and terms of a replacement facility.
In addition, our unsecured credit agreement contains 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 unsecured credit agreement.
The inability to obtain credit on commercially reasonable terms, or a default under the current unsecured credit agreement, could adversely impact our liquidity and results of operations.
Our Operations may be Affected by Regulatory Changes Related to Climate Change and Greenhouse Gas Emissions.
Our operations may be affected by regulatory changes related to climate change and greenhouse gas emissions. We are uncertain how the U.S. and international economies will be affected by potential legislation and public reactions. As a result, the effect this could have on our operations is presently unknown.
The Companys 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 and Switzerland.
All of the retail stores operated by the Company, as of March 18, 2011, are located in leased facilities, primarily in shopping centers in North America, Europe and Asia. The leases expire at various dates, between 2011 and 2028.
The Companys home office, distribution and shipping facilities, design support centers and stores are currently suitable and adequate.
As of March 18, 2011, the Companys 1,070 stores were located in North America, Europe and Asia as follows:
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. 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 Companys financial condition, results of operations or cash flows. The Companys identified contingencies include the following matters:
On June 23, 2006, Lisa Hashimoto, et al. v. Abercrombie & Fitch Co. and Abercrombie & Fitch Stores, Inc., was filed in the Superior Court of the State of California for the County of Los Angeles. In that action, plaintiffs alleged, on behalf of a putative class of California store managers employed in Hollister and abercrombie kids stores, that they were entitled to receive overtime pay as non-exempt employees under California wage and hour laws. The complaint sought injunctive relief, equitable relief, unpaid overtime compensation, unpaid benefits, penalties, interest and attorneys fees and costs. The defendants answered the complaint on August 21, 2006, denying liability. On June 23, 2008, the defendants settled all claims of Hollister and abercrombie kids store managers who served in stores from June 23, 2002 through April 30, 2004, but continued to oppose the plaintiffs remaining claims. On January 29, 2009, the Court certified a class consisting of all store managers who served at Hollister and abercrombie kids stores in California from May 1, 2004 through the future date upon which the action concludes. The parties then continued to litigate the claims of that putative class. On May 24, 2010, plaintiffs filed a notice that they did not intend to continue to pursue their claim that members of the class did not exercise independent managerial judgment and discretion. They also asked the Court to vacate the August 9, 2010 trial date previously set by the Court. On July 20, 2010, the trial court vacated the trial date and the defendants then moved to decertify the putative class.
On September 16, 2005, a derivative action, styled The Booth Family Trust v. Michael S. Jeffries, et al., was filed in the United States District Court for the Southern District of Ohio, naming A&F as a nominal defendant and seeking to assert claims for unspecified damages against nine of A&Fs present and former directors, alleging various breaches of the directors fiduciary duty and seeking equitable and monetary relief. In the following three months, four similar derivative actions were filed (three in the United States District Court for the Southern District of Ohio and one in the Court of Common Pleas for Franklin County, Ohio) against present and former directors of A&F alleging various breaches of the directors fiduciary duty allegedly arising out of antecedent employment law and securities class actions brought against the Company. A consolidated amended derivative complaint was filed in the federal proceeding on July 10, 2006. On February 16, 2007, A&F announced that its Board of Directors had received a report of the Special Litigation Committee established by the Board to investigate and act with respect to claims asserted in the derivative cases, which concluded that there was no evidence to support the asserted claims and directed the Company to seek dismissal of the derivative cases. On September 10, 2007, the Company moved to dismiss the federal derivative cases on the authority of the Special Litigation Committee Report. On March 12, 2009, the Companys motion was granted and, on April 10, 2009, plaintiffs filed an appeal from the order of dismissal in the United States Court of Appeals for the Sixth Circuit. Plaintiffs appeal has been fully briefed and argued and is awaiting decision. The state court has stayed further proceedings in the state-court derivative action until resolution of the consolidated federal derivative cases.
On December 21, 2007 Spencer de la Cruz, a former employee, filed an action against Abercrombie & Fitch Co. and Abercrombie & Fitch Stores, Inc. (collectively, the Defendants) in the Superior Court of
Orange County, California. He sought to allege, on behalf of himself and a putative class of past and present employees in the period beginning on December 19, 2003, claims for failure to provide meal breaks, for waiting time penalties, for failure to keep accurate employment records, and for unfair business practices. By successive amendments, plaintiff added 10 additional plaintiffs and additional claims seeking injunctive relief, unpaid wages, penalties, interest, and attorneys fees and costs. Defendants have denied the material allegations of plaintiffs complaints throughout the litigation and have asserted numerous affirmative defenses. On July 23, 2010, plaintiffs moved for class certification in the action. On December 9, 2010, after briefing and argument, the trial court granted in part, and denied in part, plaintiffs motion, certifying sub-classes to pursue meal break claims, meal premium pay claims, work related travel claims, travel expense claims, termination pay claims, reporting time claims, bag check claims, pay record claims, and minimum wage claims. The parties are continuing to litigate questions relating to the Courts certification order and to the merits of plaintiffs claims.
The Company intends to defend the aforesaid pending matters vigorously, as appropriate. The Company is unable to quantify the potential exposure of the aforesaid pending matters. However, the Companys 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 Companys evaluation of the claims.
Set forth below is certain information regarding the executive officers of A&F as of March 18, 2011:
Michael S. Jeffries, 66, 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, 55, 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, 50, 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, 46, 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., 47, 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 firms 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.
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.
A&Fs 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&Fs Common Stock on the New York Stock Exchange for Fiscal 2010 and Fiscal 2009:
A quarterly dividend, of $0.175 per share, was paid in each of March, June, September and December in each of Fiscal 2008, Fiscal 2009 and Fiscal 2010. A&F expects to continue to pay a quarterly dividend, subject to the Board of Directors review of the Companys cash position and results of operations.
As of March 18, 2011, there were approximately 4,350 stockholders of record. However, when including investors holding shares in broker accounts under street name, active associates of the Company who participate in A&Fs stock purchase plan, and associates of the Company who own shares through A&F-sponsored retirement plans, A&F estimates that there are approximately 44,372 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 January 29, 2011:
During Fiscal 2010, A&F repurchased approximately 1.6 million shares of A&Fs Common Stock in the open market with a cost of approximately $76.2 million. A&F did not repurchase any shares of A&Fs Common Stock in the open market during Fiscal 2009. During Fiscal 2008, A&F repurchased approximately 0.7 million shares of A&Fs Common Stock in the open market with a cost of approximately $50.0 million. Both the Fiscal 2010 and the Fiscal 2008 repurchases were pursuant to authorizations of A&Fs Board of Directors.
The following graph shows the changes, over the five-year period ended January 29, 2011 (the last day of A&Fs Fiscal 2010), in the value of $100 invested in (i) shares of A&Fs Common Stock; (ii) the Standard & Poors 500 Stock Index (the S&P 500 Index) and (iii) the Standard & Poors 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.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Abercrombie & Fitch Co., The S&P 500 Index
And The S&P Apparel Retail Index
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.
ABERCROMBIE & FITCH CO.
Summary of Operations
(Information below excludes amounts related to discontinued operations, except where otherwise noted)
The Companys 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. A store is included in comparable store 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.
For purposes of this ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, the fifty-two week period ended January 29, 2011 is compared to the fifty-two week period ended January 30, 2010 and the fifty-two week period ended January 30, 2010 is compared to the fifty-two week period ended January 31, 2009.
The Company had net sales of $3.469 billion for the fifty-two weeks ended January 29, 2011, up 18.4% from $2.929 billion for the fifty-two weeks ended January 30, 2010. Operating income for Fiscal 2010 was $231.9 million, which was up from $117.9 million in Fiscal 2009. Net income from continuing operations was $150.3 million and net income per diluted share from continuing operations was $1.67 in Fiscal 2010, compared to net income from continuing operations of $79.0 million and net income per diluted share from continuing operations of $0.89 in Fiscal 2009.
Net income was $150.3 million and net income per diluted share was $1.67 in Fiscal 2010, compared to net income of $0.3 million and net income per diluted share of $0.00 in Fiscal 2009.
Excluding store-related asset impairment charges and exit charges associated with domestic store closures, the Company reported non-GAAP net income per diluted share of $2.05 for the fifty-two weeks ended January 29, 2011. Excluding the net loss from discontinued operations and store-related asset impairment charges, the Company reported non-GAAP net income per diluted share of $1.12 for the fifty-two weeks ended January 30, 2010.
The Company believes that the non-GAAP financial measures are useful to investors as they provide the ability to measure the Companys 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, exit charges associated with domestic store closures and the loss from discontinued operations, net of tax. 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 Companys GAAP financial measures. The table below reconciles the GAAP financial measures to the non-GAAP financial measures discussed above.
Net cash provided by operating activities, the Companys primary source of liquidity, was $391.8 million for Fiscal 2010. This source of cash was primarily driven by results from operations adjusted for non-cash items including depreciation and amortization and asset impairment charges. The Company used $160.9 million of cash for capital expenditures and had proceeds from the sale of marketable securities of $84.5 million during Fiscal 2010. The Company also repurchased $76.2 million of Common Stock and paid dividends totaling $61.7 million during Fiscal 2010. As of January 29, 2011, the Company had $826.4 million in cash and equivalents, and outstanding Japanese Yen-denominated debt of $43.8 million and stand-by letters of credit of $3.0 million.
The following data represents the amounts shown in the Companys Consolidated Statements of Operations and Comprehensive Income for the last three fiscal years, expressed as a percentage of net sales:
The following summarized financial and statistical data compares Fiscal 2010 to Fiscal 2009 and Fiscal 2009 to Fiscal 2008:
During Fiscal 2010, we exceeded our objectives in terms of sales, operating income and net income per share, and did this while continuing to focus on the long-term drivers of the business.
We have a stated objective of increasing our operating margin back to historical levels of around 15% by Fiscal 2012, and have identified previously a number of factors comprising our roadmap to achieving this goal.
First, as one of these factors, we had an original objective of returning our gross margin to our peak level of around 67% by 2012. Due to significant sourcing cost pressures, we no longer believe this objective is realistic. The Company expects to offset an element of the sourcing cost pressure through increased ticket prices, and the gross margin rate should also benefit from continued international growth; however, there is significant uncertainty about consumer reaction to price increases, and ongoing cost increases are likely to continue to put downward pressure on the Companys gross margin rate. As we manage through this issue, the Company will continue to take a long-term approach, and will not sacrifice quality to achieve cost reductions.
Second, improving average domestic store productivity levels, both through same store sales growth and as a result of the closure of underperforming stores. During 2010, we achieved same store sales growth of 7%, and the Company is targeting same store sales increases at this level or greater in each of 2011 and 2012. In addition, during 2010, we closed 64 domestic stores, predominantly at the end of the year, and expect approximately a further 50 closings during 2011, predominantly at the end of the year.
Third, achieving significantly profitable international growth. In Fiscal 2011, we are seeking to accelerate international growth. We expect to open up to 40 international mall-based Hollister stores, including our first stores in mainland China and Hong Kong. We also plan to open five Abercrombie & Fitch flagship stores in Paris, Madrid, Dusseldorf, Brussels and Singapore. The Companys flagship store in Dublin is now expected to open in 2012.
Fourth, sustaining strong growth rates in our direct-to-consumer business, which should benefit from multiple investments we are making in the business and from our growing international presence.
Fifth, improving the productivity of the Gilly Hicks brand, which the Company believes is a necessary precursor to expanding the store count for the brand and having a path to profitability.
Finally, maintaining tight control over expenses and seeking greater efficiencies, an example of which is our plan to consolidate our two domestic distribution centers. The consolidation is expected to be completed by mid-2012 and is expected to facilitate the sale of the second distribution center and result in reduced operational costs.
All of these factors interplay, so that over-achievement with respect to one or more factors may offset or counterbalance a shortfall or under-achievement on other objectives. However, in the event of a significant shortfall against one objective, such as gross margin, it is unlikely that the overall roadmap objective will be achieved.
During Fiscal 2011, based on new store opening plans and other capital expenditures, the Company expects total capital expenditures to be approximately $300 million to $350 million, with the upper end of the range being subject to the Company achieving the higher end of its range of potential new store openings, including commitments for 2012 openings.
The following measurements are among the key business indicators reviewed by various members of management to gauge the Companys results:
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 Managements Discussion and Analysis of Financial Condition and Results of Operations.
FISCAL 2010 COMPARED TO FISCAL 2009
Net sales for Fiscal 2010 were $3.469 billion, an increase of 18% from Fiscal 2009 net sales of $2.929 billion. The net sales increase was attributable to a 7% increase in comparable store sales, a 40% increase in the direct-to-consumer business, including shipping and handling revenue, and new stores, primarily international. The impact of foreign currency on sales for Fiscal 2010 and Fiscal 2009 was less than 1% of net sales.
Comparable store sales by brand for Fiscal 2010 were as follows: Abercrombie & Fitch increased 9%, with womens increasing by a high single digit percent and mens increasing by a low double digit.
abercrombie kids increased 5%, with each of girls and guys increasing by a mid single digit. Hollister increased 6%, with bettys increasing by a mid single digit and dudes increasing by a high single digit.
On a comparable store sales basis, Europe was the strongest performing region, while Canada and Japan were the weakest. Within the U.S., flagship and tourist stores outperformed non-tourist stores, though all store categories experienced positive comparable store sales.
For Fiscal 2010, total Company international net sales, including direct-to-consumer net sales, increased 79% to $646.8 million.
Direct-to-consumer net merchandise sales in Fiscal 2010 were $352.5 million, an increase of 41% from Fiscal 2009 direct-to-consumer net merchandise sales of $249.4 million. Shipping and handling revenue for the corresponding periods was $52.5 million in Fiscal 2010 and $40.7 million in Fiscal 2009. The direct-to-consumer business, including shipping and handling revenue, accounted for 11.7% of total net sales in Fiscal 2010 compared to 9.9% in Fiscal 2009.
For Fiscal 2010, from a comparable store sales perspective across all brands, the masculine categories out-paced the feminine categories. From a merchandise classification standpoint, woven shirts, fleece, and outerwear were stronger performing categories for the male business while jeans and graphics were the weaker performing categories. In the female business, woven shirts, dresses, and fleece were stronger performing categories, while knit tops and jeans were weaker performing categories.
Gross profit during Fiscal 2010 was $2.212 billion compared to $1.884 billion during Fiscal 2009. The gross profit rate (gross profit divided by net sales) for Fiscal 2010 was 63.8%, down 50 basis points from the Fiscal 2009 rate of 64.3%.
The decrease in the gross profit rate for Fiscal 2010 was primarily driven by a 9% decrease in average unit retail, which was partially offset by a reduction in average unit cost.
Stores and Distribution Expense
Stores and distribution expense for Fiscal 2010 was $1.590 billion compared to $1.426 billion in Fiscal 2009. The stores and distribution expense rate (stores and distribution expense divided by net sales) for Fiscal 2010 was 45.8% compared to 48.7% in Fiscal 2009.
Stores and distribution expense for the fifty-two week period ended January 29, 2011 included store-related asset impairment charges associated with 26 stores of $50.6 million, or 1.5% of net sales, and store exit charges of $4.4 million, or 0.1% of net sales, associated with the closure of 64 domestic stores during the year. For the fifty-two weeks ended January 30, 2010, stores and distribution expense included store-related asset impairment charges associated with 99 stores of $33.2 million, or 1.1% of net sales.
The decrease in stores and distribution expense rate for Fiscal 2010 was primarily driven by lower store occupancy and payroll costs as a percentage of net sales.
Total direct-to-consumer expense included in stores and distribution expense were $64.8 million for Fiscal 2010, compared to $50.1 million in Fiscal 2009.
Marketing, General and Administrative Expense
Marketing, general and administrative expense during Fiscal 2010 was $400.8 million compared to $353.3 million in Fiscal 2009. For Fiscal 2010, the marketing, general and administrative expense rate (marketing, general and administrative expense divided by net sales) was 11.6%, compared to 12.1% for Fiscal 2009.
The increase in marketing, general and administrative expense for Fiscal 2010 was primarily due to increases in compensation and benefits, including incentive and equity compensation, and net legal expense.
Other Operating Income, Net
Other operating income, net for Fiscal 2010 was $10.0 million compared to $13.5 million for Fiscal 2009.
The decrease for Fiscal 2010 was driven primarily by lower net gains from foreign currency denominated transactions compared to Fiscal 2009. In Fiscal 2009, other operating income also benefited from a reduction of an other-than-temporary impairment of $9.2 million related to the Companys trading auction rate securities, partially offset by a reduction of a related put option of $7.7 million.
Interest Expense (Income), Net and Tax Expense from Continuing Operations
Fiscal 2010 interest expense was $7.8 million, offset by interest income of $4.4 million, compared to interest income of $8.2 million, offset by interest expense of $6.6 million for Fiscal 2009. The decrease in interest income was primarily the result of a lower average rate of return on investments. The increase in interest expense was due primarily to imputed interest expense related to certain store lease transactions and higher fees associated with the unsecured amended credit agreement.
The effective tax rate from continuing operations for Fiscal 2010 was 34.3% compared to 33.9% for Fiscal 2009, in each year benefiting from foreign operations.
Loss 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 Loss from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive Income for all years presented. Results from discontinued operations, net of tax, were immaterial for Fiscal 2010. Loss from discontinued operations, net of tax, was $78.7 million for Fiscal 2009.
Refer to Note 16, 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 2010 was $150.3 million compared to $0.3 million for Fiscal 2009. Net income per diluted share for Fiscal 2010 was $1.67 compared to $0.00 for Fiscal 2009. Net income per diluted share for Fiscal 2010 included store-related asset impairment charges of approximately $0.34 per diluted share associated with 26 stores and store exit charges of approximately $0.03 per diluted share associated with the closure of 64 domestic stores. Net income per diluted share for Fiscal 2009 included store-related asset
impairment charges of approximately $0.23 per diluted share associated with 99 stores and a loss per diluted share from discontinued operations, net of tax of approximately $0.89. Refer to GAAP reconciliation table in ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS of this Annual Report on Form 10-K 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 store-related asset impairment charges, store closure charges and loss from discontinued operations, net of tax.
FISCAL 2009 COMPARED TO FISCAL 2008
Net sales for Fiscal 2009 were $2.929 billion, a decrease of 15.9% from Fiscal 2008 net sales of $3.484 billion. The net sales decrease was attributed primarily to a 23% decrease in comparable store sales and a 5.6% decrease in net direct-to-consumer sales, including shipping and handling revenue.
Comparable store sales by brand for Fiscal 2009 were as follows: Abercrombie & Fitch decreased 19% with mens decreasing by a low double-digit percent and womens decreasing by a mid twenty; abercrombie kids decreased 23% with boys decreasing by a mid teen and girls decreasing by a mid twenty; and Hollister decreased 27% with dudes decreasing by a high teen and bettys decreasing by a low thirty.
For Fiscal 2009, total Company international net sales, including direct-to-consumer net sales, increased 37% to $362.5 million.
Direct-to-consumer net merchandise sales in Fiscal 2009 were $249.4 million, a decrease of 5.6% from Fiscal 2008 net merchandise sales of $264.3 million. Shipping and handling revenue was $40.7 million in Fiscal 2009 and $42.9 million in Fiscal 2008. The direct-to-consumer business, including shipping and handling revenue, accounted for 9.9% of total net sales in Fiscal 2009 compared to 8.8% of total net sales in Fiscal 2008.
On a regional basis for Fiscal 2009, comparable store sales were down in all U.S. regions and Canada. Comparable store sales were positive in the United Kingdom.
For Fiscal 2009, from a comparable store sales perspective across all brands, the masculine categories out-paced the feminine categories. From a merchandise classification standpoint, across all brands, for the male business, fragrance and sweaters were stronger performing categories, while knit tops and graphic tees were the weaker performing categories. For the female business, woven shirts and dresses were stronger performing categories, while sweaters and knit tops were weaker categories.
Gross profit during Fiscal 2009 decreased to $1.884 billion from $2.331 billion in Fiscal 2008. The gross profit rate for Fiscal 2009 was 64.3% versus 66.9% the previous year, a decrease of 260 basis points.
The decrease in the gross profit rate was primarily driven by a lower average unit retail, partially offset by a reduction in average unit cost.
Stores and Distribution Expense
Stores and distribution expense for Fiscal 2009 was $1.426 billion compared to $1.436 billion in Fiscal 2008. For Fiscal 2009, the stores and distribution expense rate was 48.7% compared to 41.2% for Fiscal 2008.
Stores and distribution expense included store-related asset impairment charges associated with 99 stores of $33.2 million, or 1.1% of net sales, for the fifty-two weeks ended January 30, 2010 and store-related asset impairment charges associated with 20 stores of $8.3 million, or 0.2% of net sales for the fifty-two weeks ended January 31, 2009. Excluding the effect of impairment charges, the increase in the stores and distribution expense rate was primarily attributable to higher store occupancy costs, including rent, depreciation and other occupancy costs.
Variable direct-to-consumer expenses included in stores and distribution expense were $50.1 million for Fiscal 2009, compared to $60.0 million in Fiscal 2008.
Marketing, General and Administrative Expense
Marketing, general and administrative expense for Fiscal 2009 decreased 12.8% to $353.3 million compared to $405.2 million in Fiscal 2008.
The decrease in expense was related to reductions in employee compensation and benefits, travel, and outside services. The marketing, general and administrative expense rate was 12.1% for Fiscal 2009, an increase of 50 basis points compared to 11.6% for Fiscal 2008.
Other Operating Income, Net
Other operating income for Fiscal 2009 was $13.5 million compared to $8.8 million for Fiscal 2008.
The increase was primarily driven by gains on foreign currency transactions for Fiscal 2009 compared to losses on foreign currency transactions for Fiscal 2008, as well as an increase in income related to gift cards for which the Company has determined the likelihood of redemption to be remote. In Fiscal 2009, other operating income also benefited from a reduction of other-than-temporary impairments of $9.2 million related to the Companys trading auction rate securities, partially offset by a reduction of a related put option of $7.7 million as compared to an other-than-temporary impairment charge of $14.0 million related to the Companys trading auction rate securities, partially offset by a gain on a related put option of $12.3 million in Fiscal 2008.
Interest Income, Net and Income Tax Expense
Fiscal 2009 interest income was $8.2 million and interest expense was $6.6 million compared to interest income of $14.8 million and interest expense was $3.4 million for Fiscal 2008. The decrease in interest income was due primarily to a lower average rate of return on investments. The increase in interest expense was due primarily to imputed interest expense related to certain store lease transactions.
The income tax expense rate for continuing operations for Fiscal 2009 was 33.9% compared to 39.5% for Fiscal 2008. The Fiscal 2009 rate benefited from foreign operations. Additionally, Fiscal 2008 included a $9.9 million charge related to the execution of the Chairman and Chief Executive Officers new employment agreement, which resulted in certain non-deductible amounts pursuant to Section 162(m) of the Internal Revenue Code.
Loss 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 Loss from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive
Income for all fiscal years presented. Loss from discontinued operations, net of tax, was $78.7 million and $35.9 million for Fiscal 2009 and Fiscal 2008, respectively. Loss from discontinued operations, net of tax included after-tax charges of $34.2 million associated with the closure of the RUEHL business for Fiscal 2009, and after-tax charges of $31.4 million and $13.6 million associated with the impairment of RUEHL-related store assets for Fiscal 2009 and Fiscal 2008, respectively.
Refer to Note 16, 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 2009 was $0.3 million compared to $272.3 million for Fiscal 2008. Net income per diluted share was $0.00 in Fiscal 2009 versus $3.05 in Fiscal 2008. Net income per diluted share included $0.89 of net loss per diluted share from discontinued operations and an after-tax charge of approximately $0.23 per diluted share associated with the impairment of store-related assets for Fiscal 2009 and $0.40 of net loss per diluted share from discontinued operations and an after-tax charge of approximately $0.06 per diluted share associated with the impairment of store-related assets for Fiscal 2008. Refer to GAAP reconciliation table in ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS of this Annual Report on Form 10-K 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 store-related asset impairment charges, store closure charges and loss from discontinued operations, net of tax.
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 United States. The Company relies on excess operating cash flows, which are largely generated in the Fall season, to fund operating expenses and to reinvest in the business to support future growth throughout the year. The Company also has available a credit facility as a source for additional funding.
As of March 18, 2011, the Company had $305.6 million available (less outstanding letters of credit of $2.9 million) under its unsecured Amended Credit Agreement (as amended in June 2009). The Company had $43.8 million and $50.9 million outstanding under its unsecured Amended Credit Agreement on January 29, 2011 and January 30, 2010, respectively, denominated in Japanese Yen. The average interest rate for Fiscal 2010 was 2.7%. The average interest rate for Fiscal 2009 was 2.0%.
The Amended Credit Agreement requires that the Leverage Ratio not be greater than 3.75 to 1.00 at the end of each testing period. The Companys Leverage Ratio was 2.43 as of January 29, 2011. The Amended Credit Agreement also requires that the Coverage Ratio for A&F and its subsidiaries on a consolidated basis
of (i) Consolidated EBITDAR for the trailing four-consecutive-fiscal-quarter period to (ii) the sum of, without duplication, (x) net interest expense for such period, (y) scheduled payments of long-term debt due within twelve months of the date of determination and (z) the sum of minimum rent and contingent store rent, not be less than 1.75 to 1.00 at January 29, 2011. The minimum Coverage Ratio varies over time based on the terms set forth in the Amended Credit Agreement. The Amended Credit Agreement provides an add back to Consolidated EBITDAR for the following items, among others, (a) recognized losses arising from investments in certain auction rate securities to the extent such losses do not exceed a defined level of impairments for those investments, (b) non-cash charges in an amount not to exceed $50 million related to the closure of RUEHL branded stores and related direct-to-consumer operations, (c) non-recurring cash charges in an aggregate amount not to exceed $61 million related to the closure of RUEHL branded stores and related direct-to-consumer operations, (d) additional non-recurring non-cash charges in an amount not to exceed $20 million in the aggregate over the trailing four-consecutive-fiscal-quarter period and (e) other non-recurring cash charges in an amount not to exceed $10 million in the aggregate over the trailing four-consecutive-fiscal-quarter periods. The Companys Coverage Ratio was 2.51 as of January 29, 2011. The Amended Credit Agreement also limited the Companys consolidated capital expenditures to $325 million in Fiscal 2010 plus $99.5 million representing the unused portion of the allowable capital expenditures from Fiscal 2009. There is no limit for capital expenditures in Fiscal 2011. The Company was in compliance with the applicable ratio requirements and other covenants at January 29, 2011.
The unsecured Amended Credit Agreement is described in Note 14, Long-Term Debt of the Notes to Consolidated Financial Statements included in ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA of this Annual Report on Form 10-K.
As a result of adjustments to vendor payment terms, there were no trade letters of credit outstanding at January 29, 2011. Trade letters of credit totaling approximately $35.9 million were outstanding on January 30, 2010. Stand-by letters of credit totaling approximately $3.0 million and $14.1 million were outstanding on January 29, 2011 and January 30, 2010, respectively. The stand-by letters of credit are set to expire primarily during the third quarter of Fiscal 2011. To date, no beneficiary has drawn upon the stand-by letters of credit.
If circumstances occur that would lead to the Company failing to meet the covenants under the Amended Credit Agreement and the Company is unable to obtain a waiver or amendment, an event of default would result and the lenders could declare outstanding borrowings immediately due and payable. The Company believes it is likely that it would either obtain a waiver or amendment in advance of a default, or would have sufficient cash available to repay borrowings in the event a waiver was not obtained.
Net cash provided by operating activities, the Companys primary source of liquidity, was $391.8 million for Fiscal 2010 compared to $395.5 million for Fiscal 2009. In Fiscal 2010, an increase in net income was off-set by an increase in inventory to support increased sales in Fiscal 2010 as compared to a reduction in inventory in Fiscal 2009 in response to declining sales. The timing of income tax payments and Ruehl exit payments in 2010 also contributed to the decrease in cash provided by operating activities.
Net cash provided by operating activities was $395.5 million for Fiscal 2009 compared to $491.0 million for Fiscal 2008. The decrease in cash provided by operating activities was primarily driven by a reduction in net income for Fiscal 2009 compared to Fiscal 2008, adjusted for non-cash impairment charges. Operating cash flows for Fiscal 2009 included payments of approximately $22.6 million related primarily to lease termination agreements associated with the closure of RUEHL branded stores and related direct-to-consumer
operations. Additionally, Fiscal 2009 operating cash flows benefited from a reduction in inventory in reaction to the declining sales trend, partially offset by an increase in lease related assets, including lease deposits and prepaid rent associated with new flagship stores.
Cash outflows from investing activities in Fiscal 2010, Fiscal 2009 and Fiscal 2008 were used primarily for capital expenditures related to new store construction and information technology investments. Fiscal 2010 cash outflows for capital expenditures were comparable to Fiscal 2009. The decrease in Fiscal 2009 capital expenditures compared to Fiscal 2008 related primarily to a reduction in new domestic mall-based store openings in Fiscal 2009. The Company also had cash outflows for the purchase of trust-owned life insurance policies and cash inflows from the sale of marketable securities.
In Fiscal 2010, financing activities consisted primarily of the repurchase of A&Fs Common Stock, the payments of dividends, proceeds associated with the exercise of share-based compensation awards and repayment of borrowings denominated in Japanese Yen under the Companys unsecured credit agreement. In Fiscal 2009, financing activities consisted of repayment of $100.0 million borrowed under the Companys unsecured credit agreement, denominated in U.S. Dollars, and separate borrowings of $48.0 million denominated in Japanese Yen under the Companys unsecured Amended Credit Agreement, and payment of dividends. In Fiscal 2008, financing activities consisted primarily of the repurchase of the A&Fs Common Stock, the payment of dividends, proceeds from share-based compensation, and proceeds from borrowing under the Companys unsecured credit agreement. A&Fs Board of Directors will review the Companys cash position and results of operations and address the appropriateness of future dividend amounts.
During Fiscal 2010, A&F repurchased approximately 1.6 million shares of A&Fs Common Stock in the open market with a market value of approximately $76.2 million. A&F did not repurchase any shares of A&Fs Common Stock in the open market during Fiscal 2009. During Fiscal 2008, A&F repurchased approximately 0.7 million shares of A&Fs Common Stock in the open market with a value of approximately $50.0 million. Both the Fiscal 2010 and Fiscal 2008 repurchases were pursuant to A&F Board of Directors authorizations.
As of January 29, 2011, A&F had approximately 9.8 million remaining shares available for repurchase as part of the November 20, 2007 A&F Board of Directors authorization to repurchase 10.0 million shares of A&Fs Common Stock.
FUTURE CASH REQUIREMENTS AND SOURCES OF CASH
Over the next twelve months, the Companys primary cash requirements will be funding operating activities, including inventory, compensation, rent, taxes and other operating expenses, as well as capital expenditures and quarterly dividend payments to stockholders subject to A&F Board of Directors approval. Subject to the availability of cash and suitable market conditions, A&F expects to continue to repurchase shares of its Common Stock. The Company anticipates funding these cash requirements with cash generated from operations. The Company also has availability under the Amended Credit Facility as a source of additional funding.
As of January 29, 2011, the Company did not have any off-balance sheet arrangements.
Obligations for Operating Activities
Operating lease obligations consist primarily of future minimum lease commitments related to store operating leases. See Note 10, 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. 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 $166.2 million in Fiscal 2010.
The purchase obligations category represents purchase orders for merchandise to be delivered during Fiscal 2011 and commitments for fabric expected to be used during upcoming seasons.
Other obligations are primarily stand-by letters of credit outstanding as of January 29, 2011, lease termination costs related to the closure of stores, construction debt, capital leases, asset retirement obligations, and information technology contracts for Fiscal 2010. See Note 14, Long-Term Debt of Notes to the Consolidated Financial Statements included in ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA of this Annual Report on Form 10-K, for further discussion on the letters of credit.
Interest related to total debt is based on interest rates in effect as of January 29, 2011 and is calculated on debt with maturities that extend to April 12, 2013. As the contractual interest rates on the debt are variable, actual cash payments may differ from the estimates provided in the preceding table.
Due to uncertainty as to amounts and timing of future payments, the obligations table above does not include tax (including accrued interest and penalties) of $21.0 million related to unrecognized tax benefits at January 29, 2011. Deferred taxes are also not included in the preceding table. For further discussion, see Note 13, 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 Companys Chief Executive Officer with a present value of $13.3 million at January 29, 2011. See Note 17, 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&Fs definitive Proxy Statement for the Annual Meeting of Stockholders to be held on June 16, 2011, incorporated by reference in ITEM 11. EXECUTIVE COMPENSATION of this Annual Report on Form 10-K.
Obligations for Financing Activities
Total debt reflects the payment of principal with respect to the outstanding long-term debt under the Companys unsecured Amended Credit Agreement on April 12, 2013, the expiration date of the unsecured Amended Credit Agreement. The Company may make payments on the principal at any time and, therefore, actual cash payments may differ from the estimates provided in the preceding table.
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&Fs Board of Directors.
STORE COUNT AND GROSS SQUARE FEET
Store count and gross square footage by brand for the fifty-two weeks ended January 29, 2011 and January 30, 2010, respectively, were as follows:
Capital expenditures totaled $160.9 million, $175.5 million and $367.6 million for Fiscal 2010, Fiscal 2009 and Fiscal 2008, respectively. A summary of capital expenditures is as follows:
During Fiscal 2011, based on new store opening plans and other capital expenditures, the Company anticipates total capital expenditures to be approximately $300 million to $350 million, with the upper end of the range being subject to the Company achieving the higher end of its range of potential new store openings, including commitments for 2012 openings.
CLOSURE OF RUEHL BRANDED STORES AND RELATED DIRECT-TO-CONSUMER OPERATIONS
On June 16, 2009, A&Fs Board of Directors approved the closure of the Companys 29 RUEHL branded stores and related direct-to-consumer operations. The Company completed the closure of the RUEHL branded stores and related direct-to-consumer operations during the fourth quarter of Fiscal 2009. Accordingly, the results of operations of RUEHL are reflected in Loss from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive Income for all periods presented. Results from discontinued operations were immaterial for the fifty-two weeks ended January 29, 2011.
Costs associated with exit or disposal activities are recorded when the liability is incurred. As of January 29, 2011, the Company expected to make gross cash payments of approximately $11.8 million in Fiscal 2011, and an aggregate of $7.4 million in fiscal years thereafter, related primarily to lease termination agreements associated with the closure of RUEHL branded stores.
Below is a roll forward of the present value of liabilities recognized on the Consolidated Balance Sheet as of January 29, 2011 related to the closure of the RUEHL branded stores and related direct-to-consumer operations (in millions):
Below is a summary of charges related to the closure of the RUEHL branded stores and related direct-to-consumer operations in Fiscal 2009. There were no material RUEHL related charges in Fiscal 2010.
The table below presents the significant components of RUEHLs results included in Loss from Discontinued Operations, Net of Tax on the Consolidated Statements of Operations and Comprehensive Income for fiscal years ended January 30, 2010 and January 31, 2009.
CRITICAL ACCOUNTING ESTIMATES
The Companys discussion and analysis of its financial condition and results of operations are based upon the Companys 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 Companys financial condition and results of operations.
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 Company also holds investments in investment grade auction rate securities (ARS) that have maturities ranging from 17 to 32 years. The par and carrying values, and related cumulative temporary impairment charges for the Companys available-for-sale marketable securities as of January 29, 2011 were as follows:
As of January 29, 2011, approximately 73% of the Companys ARS were AAA rated, approximately 12% of the Companys ARS were AA rated, and approximately 15% were A− rated, in each case as rated by one or more of the major credit rating agencies. The ratings take into account insurance policies guaranteeing both the principal and accrued interest. Each investment in student loans is insured by (1) the U.S. government under the Federal Family Education Loan Program, (2) a private insurer or (3) a combination of both. The percentage coverage of the outstanding principal and interest of the ARS varies by security. The credit ratings may change over time and would be an indicator of the default risk associated with the ARS and could have a material effect on the value of the ARS. If the Company expects that it will not recover the entire cost basis of the available-for-sale ARS, intends to sell the available-for-sale ARS, or it becomes more than likely that the Company will be required to sell the available-for-sale ARS before recovery of their cost basis, which may be at maturity, the Company may be required to record an other-than-temporary impairment or additional temporary impairment to write down the assets fair value. The Company has not incurred any credit losses on available-for-sale ARS, and furthermore, the issuers continued to perform under the obligations, including making scheduled interest payments, and the Company expects that this will continue in the future.
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 January 29, 2011, total assets held in the Rabbi Trust were $82.5 million, which included $11.9 million of municipal notes and bonds with maturities that ranged from 11 months to three years, trust-owned life insurance policies with a cash surrender value of $70.3 million and $0.3 million held in money market funds. The Rabbi Trust assets are consolidated and recorded at fair value, with the exception of the trust-owned life insurance policies which are recorded at cash surrender value in Other Assets on the Consolidated Balance Sheet and are restricted as to their use as noted above. Net unrealized gains or losses related to the municipal notes and bonds held in the Rabbi Trust were not material for the fifty-two weeks ended January 29, 2011 and January 30, 2010. The change in cash surrender value of the trust-owned life insurance policies held in the Rabbi Trust resulted in realized gains of $2.3 million and $5.3 million for the fifty-two weeks ended January 29, 2011 and January 30, 2010, respectively.
Interest Rate Risks
As of January 29, 2011, the Company had $43.8 million in long-term debt outstanding under the unsecured Amended Credit Agreement. This borrowing and any future borrowings will bear interest at negotiated rates and would be subject to interest rate risk. The unsecured Amended Credit Agreement has several borrowing options, including interest rates that are based on: (i) a defined Base Rate, plus a margin based on a defined Leverage Ratio, payable quarterly; (ii) an Adjusted Eurodollar Rate (as defined in the unsecured Amended Credit Agreement) plus a margin based on the Leverage Ratio, payable at the end of the applicable interest period for the borrowing and, for interest periods in excess of three months, on the date that is three months after the commencement of the interest period; or (iii) an Adjusted Foreign Currency Rate (as defined in the Amended Credit Agreement) plus a margin based on the Leverage Ratio, payable at the end of the applicable interest period for the borrowing and, for interest periods in excess of three months, on the date that is three months after the commencement of the interest period. The Base Rate represents a rate per annum equal to the higher of (a) PNC Banks then publicly announced prime rate or (b) the Federal Funds Effective Rate (as defined in the unsecured Amended Credit Agreement) as then in effect plus 1/2 of 1.0%. The average interest rate was 2.7% for the fifty-two weeks ended January 29, 2011. Additionally, as of January 29, 2011,
the Company had $306.2 million available, less outstanding letters of credit, under its unsecured Amended Credit Agreement. Assuming no changes in the Companys financial structure as it stood at January 29, 2011, if market interest rates average an increase of 100 basis points over the fifty-two week period for Fiscal 2011 compared to the interest rates incurred during the fifty-two week period ended January 29, 2011, there would be an immaterial change in interest expense. This amount was determined by calculating the effect of the average hypothetical interest rate increase on the Companys variable rate unsecured Amended Credit Agreement. This hypothetical increase in interest rate from the fifty-two week period ended January 29, 2011 may be different from the actual change in interest expense due to varying interest rate reset dates under the Companys unsecured Amended Credit Agreement.
Foreign Exchange Rate Risk
A&Fs international subsidiaries generally operate with functional currencies other than the U.S. dollar. The Companys 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.
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, Euros, Canadian Dollars, Japanese Yen, Danish Kroner and British Pounds. 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.
ABERCROMBIE & FITCH CO.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
The accompanying Notes are an integral part of these Consolidated Financial Statements.
ABERCROMBIE & FITCH CO.
CONSOLIDATED BALANCE SHEETS
The accompanying Notes are an integral part of these Consolidated Financial Statements.
ABERCROMBIE & FITCH CO.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
The accompanying Notes are an integral part of these Consolidated Financial Statements.
ABERCROMBIE & FITCH CO.
CONSOLIDATED STATEMENTS OF CASH FLOWS