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L Brands, Inc. 10-K 2010 Documents found in this filing:Table of Contents
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549
FORM 10-K
(Mark One)
For the fiscal year ended January 30, 2010 OR
For the transition period from to Commission file number 1-8344
LIMITED BRANDS, INC. (Exact name of registrant as specified in its charter)
Registrant’s telephone number, including area code (614) 415-7000
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 x No ¨ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No x 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 x No ¨ Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, 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 x No ¨ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. Large accelerated filer x Accelerated filer ¨ Non-accelerated filer ¨ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x The aggregate market value of the registrant’s Common Stock held by non-affiliates of the registrant as of the last business day of the registrant’s most recently completed second fiscal quarter was: $3,450,695,967. Number of shares outstanding of the registrant’s Common Stock as of March 19, 2010: 323,296,784. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant’s Proxy Statement for the Registrant’s 2010 Annual Meeting of Stockholders to be held on May 27, 2010, are incorporated by reference into Part II and Part III.
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PART I ITEM 1. BUSINESS. GENERAL. We operate in the highly competitive specialty retail business. We are a retailer of women’s intimate and other apparel, beauty and personal care products and accessories under various trade names. We sell our merchandise primarily through our retail stores in the United States and Canada and through our websites and catalogues. FISCAL YEAR. Our fiscal year ends on the Saturday nearest to January 31. As used herein, “2010”, “2009”, “2008”, “2007” and “2005” refer to the 52 week periods ending January 29, 2011, January 30, 2010, January 31, 2009, February 2, 2008 and January 28, 2006, respectively. “2006” refers to the 53 week period ended February 3, 2007. DESCRIPTION OF OPERATIONS. Our Company We are committed to building a family of the world’s best fashion retail brands, offering captivating customer experiences that drive long-term loyalty and deliver sustained value for our stakeholders. Founded in 1963 in Columbus, Ohio, we have evolved from an apparel-based specialty retailer to an approximately $9 billion segment leader focused on lingerie, beauty and personal care product categories that make customers feel sexy, sophisticated and forever young. We lead these product categories through our Victoria’s Secret and Bath & Body Works brands. We sell our products at more than 1,000 Victoria’s Secret stores and more than 1,600 Bath & Body Works stores nationwide, via the Victoria’s Secret Catalogue and online at www.VictoriasSecret.com and www.BathandBodyWorks.com. We also sell upscale accessory products through our Henri Bendel flagship and 10 accessory stores, as well as online at www.HenriBendel.com. Through our La Senza, Bath & Body Works and Pink brands, products are also available in retail venues in Canada. Additionally, La Senza has franchising relationships in 49 countries around the globe. Victoria’s Secret products are also made available on a wholesale basis to duty-free stores and other international retail locations. Victoria’s Secret is the leading U.S. specialty retailer of lingerie with modern, fashion-inspired collections, prestige fragrances and cosmetics, celebrated supermodels and world-famous runway shows. Victoria’s Secret lingerie and beauty stores, the catalogue and www.VictoriasSecret.com allow customers to shop the brand anywhere, any time, from any place for glamorous and sexy products from lines such as Very Sexy®, Body by Victoria®, Angels by Victoria’s Secret®, VS Cotton™, BioFit® and Victoria’s Secret Pink® , and luxurious beauty products from lines such as Dream Angels™, Victoria’s Secret Pink®, Beauty Rush® and Very Sexy ®. Bath & Body Works has reinvented the personal care industry with the introduction of fragrant flavorful indulgences, including shower gels, lotions, antibacterial soaps, candles and accessories. Combining the introduction of spa products that are easily used at home with the incorporation of simple rituals into daily life, Bath & Body Works is committed to helping consumers improve their emotional and physical well-being. With a focus on creating and offering the best products and an emphasis on innovation, Bath & Body Works is the ultimate personal care destination.
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Table of ContentsReal Estate The following chart provides the retail businesses and the number of our company-owned retail stores in operation for each business as of January 30, 2010 and January 31, 2009.
The following table provides the changes in the number of our company-owned retail stores operated for the past five fiscal years:
Our Strengths We believe the following competitive strengths contribute to our leading market position, differentiate us from our competitors, and will drive future growth: Industry Leading Brands We believe that our two flagship brands, Victoria’s Secret and Bath & Body Works, are almost universally recognized and others including Pink and La Senza, exhibit brand recognition which provides us with a competitive advantage. These brands are aspirational at accessible price points, and have a loyal customer base. These brands allow us to target markets across the economic spectrum, across demographics and across the world.
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In-Store Experience and Store Operations We view the customer’s in-store experience as an important vehicle for communicating the image of each brand. We utilize visual presentation of merchandise, in-store marketing, music and our sales associates to reinforce the image represented by the brands. Our 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. Every brand displays merchandise uniformly to ensure a consistent 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. Our sales associates and managers are a central element in creating the atmosphere of the stores by providing a high level of customer service. Product Development, Sourcing and Logistics We believe a large part of our success comes from frequent and innovative product launches, which include bra launches at Victoria’s Secret and the recent restage of the Signature Collection and antibacterial lines at Bath & Body Works. Our merchant, design and sourcing teams at Victoria’s Secret and our apparel sourcing function have a long history of bringing new products to our customers. Our personal care sourcing function works with our merchant teams to bring new ideas to the Bath & Body Works and Victoria’s Secret Beauty customer. We have an integrated supply chain leading from our key manufacturing partners around the world, through our distribution centers in Columbus, Ohio, to our stores. We believe that our apparel sourcing function has a long and deep presence in the key sourcing markets of Asia, which helps us partner with the best manufacturers and get high quality products to our customers quickly. Experienced and Committed Management Team We were founded in 1963 and have been led since inception by Leslie H. Wexner. Our senior management team has a wealth of retail and business experience at Limited Brands and other companies such as Nieman Marcus, Target, The Gap, Inc., The Home Depot, Carlson Companies and Yum Brands. We believe that we have one of the most experienced management teams in retail. Additional Information Merchandise Suppliers During 2009, we purchased merchandise from over 1,000 suppliers located throughout the world. No supplier provided 10% or more of our merchandise purchases. Distribution and Merchandise Inventory Most of the merchandise and related materials for our stores are shipped to our distribution centers in the Columbus, Ohio area. We use a variety of shipping terms that result in the transfer of title to the merchandise at either the point of origin or point of destination. Our policy is to maintain sufficient quantities of inventories on hand in our retail stores and distribution centers to enable us to offer customers an appropriate selection of current merchandise. We emphasize rapid turnover and take markdowns as required to keep merchandise fresh and current.
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Table of ContentsInformation Systems Our management information systems consist of a full range of retail, financial and merchandising systems. The systems include applications related to point-of-sale, e-commerce, merchandising, planning, sourcing, logistics, inventory management and support systems including human resources and finance. We continue to invest in technology to upgrade core systems to continue to improve our efficiency and accuracy in the production and delivery of merchandise to our stores. Seasonal Business Our operations are seasonal in nature and consist of two principal selling seasons: Spring (the first and second quarters) and Fall (the third and fourth quarters). The fourth quarter, including the holiday season, accounted for approximately one-third of our net sales for 2009, 2008 and 2007 and is typically our most profitable quarter. Accordingly, cash requirements are highest in the third quarter as our inventories build in advance of the holiday season. Regulation We and our products are subject to regulation by various federal, state, local and international regulatory authorities. We are subject to a variety of customs regulations and international trade arrangements. Trademarks and Patents Our trademarks and patents, which constitute our primary intellectual property, have been registered or are the subject of pending applications in the United States Patent and Trademark Office and with the registries of many foreign countries and/or are protected by common law. We believe our products and services are identified by our intellectual property and, thus, our intellectual property is of significant value. Accordingly, we intend to maintain our intellectual property and related registrations and vigorously protect our intellectual property assets against infringement. Segment Information We have two reportable segments: Victoria’s Secret and Bath & Body Works. The Victoria’s Secret reportable segment consists of the Victoria’s Secret and La Senza operating segments which are aggregated in accordance with the authoritative guidance included in Accounting Standards Codification Subtopic 280, Segment Reporting. Other Information For additional information about our business, including our net sales and profits for the last three years and selling square footage, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation. For the financial results of our reportable segments, see Note 21 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data. COMPETITION. The sale of women’s intimate and other apparel, personal care and beauty products and accessories through retail stores is a highly competitive business with numerous competitors, including individual and chain specialty stores, department stores and discount retailers. Brand image, marketing, design, price, service, assortment and quality are the principal competitive factors in retail store sales. Our direct response businesses compete with numerous national and regional direct response merchandisers. Image presentation, fulfillment and the factors affecting retail store sales discussed above are the principal competitive factors in direct response sales.
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ASSOCIATE RELATIONS. On January 30, 2010, we employed approximately 92,100 associates, 75,000 of whom were part-time. In addition, temporary associates are hired during peak periods, such as the holiday season. EXECUTIVE OFFICERS OF THE REGISTRANT. Set forth below is certain information regarding our executive officers. Leslie H. Wexner, 72, has been our Chairman of the Board of Directors for more than thirty years and our Chief Executive Officer since our founding in 1963. Martyn R. Redgrave, 57, has been our Executive Vice President and Chief Administrative Officer since March 2005. In addition, Mr. Redgrave was our Chief Financial Officer from September 2006 to April 2007. Stuart B. Burgdoerfer, 47, has been our Executive Vice President and Chief Financial Officer since April 2007. Sharen J. Turney, 53, has been our Chief Executive Officer and President of Victoria’s Secret since July 2006. Diane L. Neal, 53, has been our Chief Executive Officer and President of Bath & Body Works since June 2007. Jane L. Ramsey, 52, has been our Executive Vice President, Human Resources, since April 2006. All of the above officers serve at the discretion of our Board of Directors and are members of our Executive Committee. AVAILABLE INFORMATION. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to those reports and code of conduct are available, free of charge, on our website, www.LimitedBrands.com. These reports are available as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (“SEC”). ITEM 1A. RISK FACTORS. The following discussion of risk factors contains “forward-looking statements,” as discussed in Item 1. These risk factors may be important to understanding any statement in this Form 10-K, other filings or in any other discussions of our business. The following information should be read in conjunction with Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation and Item 8. Financial Statements and Supplementary Data. In addition to the other information set forth in this report, the reader should carefully consider the following factors which could materially affect our business, financial condition or future results. The risks described below are not our only risks. Additional risks and uncertainties not currently known or that are currently deemed to be immaterial may also adversely affect our business, operating results and/or financial condition in a material way. Our revenue, profit results and cash flow are sensitive to, and may be adversely affected by, general economic conditions, consumer confidence and spending patterns. Our growth, sales and profitability may be adversely affected by negative local, regional, national or international political or economic trends or developments that reduce the consumers’ ability or willingness to spend, including the effects of national and international security concerns such as war, terrorism or the threat thereof.
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Table of ContentsIn particular, our operating results are generally impacted by changes in the United States and Canadian economies. Negative economic conditions may impact the level of consumer spending and inhibit customers’ use of credit. Purchases of women’s intimate and other apparel, beauty and personal care products and accessories often decline during periods when economic or market conditions are unsettled or weak. In such circumstances, we may increase the number of promotional sales, which could have a material adverse effect on our results of operations and financial condition. The global economic crisis could also impair the solvency of our suppliers, customers and other counterparties. There could be a number of additional effects from the ongoing economic downturn. The inability of key suppliers to access liquidity, or the insolvency of key suppliers, could lead to delivery delays or failures. We provide merchandise sourcing services to other retailers and licensees and grant credit to these parties in the normal course of business which subjects us to potential credit risk. Additionally, we have guaranteed certain lease payments of certain of our former subsidiaries. Financial difficulties of our customers or those former subsidiaries for whom we guarantee lease payments could have a material adverse effect on our results of operations and financial condition. Finally, other counterparty failures, including banks and counterparties to contractual arrangements, could negatively impact our business. The global economic crisis could have a material adverse effect on our liquidity and capital resources. The general economic and capital market conditions in the United States and other parts of the world have deteriorated significantly. These conditions have affected access to capital and increased the cost of capital. Although we believe that our capital structure and credit facilities will provide sufficient liquidity, there can be no assurance that our liquidity will not be affected by changes in the financial markets or that our capital resources will at all times be sufficient to satisfy our liquidity needs. If these conditions continue or become worse, our future cost of debt and equity capital and access to the capital markets could be adversely affected. Our net sales depend on a volume of traffic to our stores and the availability of suitable lease space. Most of our stores are located in retail shopping areas including malls and other types of retail centers. Sales at these stores are derived, in part, from the high volume of traffic in those retail areas. Our stores benefit from the ability of the retail center and other attractions in an area, including “destination” retail stores, to generate consumer traffic in the vicinity of our stores. Sales volume and retail traffic may be adversely affected by economic downturns in a particular area, competition from other retail and non-retail attractions and other retail areas where we do not have stores. Recently, sales volume has been adversely affected by the recessionary economic conditions. Part of our future growth is significantly 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, operating income and inventory levels fluctuate on a seasonal basis. We experience major seasonal fluctuations in our net sales and operating income, with a significant portion of our operating income typically realized during the fourth quarter holiday season. Any decrease in sales or margins during this period could have a material adverse effect on our results of operations and financial condition. Seasonal fluctuations also affect our inventory levels, since we usually order merchandise in advance of peak selling periods and sometimes before new fashion trends are confirmed by customer purchases. We must carry a significant amount of inventory, especially before the holiday season selling period. If we are not successful in selling inventory, we may have to sell the inventory at significantly reduced prices or may not be able to sell the inventory at all, which could have a material adverse effect on our results of operations and financial condition.
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Our ability to grow depends in part on new store openings and existing store remodels and expansions. Our continued growth and success will depend in part on our ability to open and operate new stores and expand and remodel existing stores on a timely and profitable basis. Accomplishing our new and existing store expansion goals will depend upon a number of factors, including the ability to partner with developers and landlords to obtain suitable sites for new and expanded stores at acceptable costs, the hiring and training of qualified personnel, particularly at the store management level, and the integration of new stores into existing operations. There can be no assurance we will be able to achieve our store expansion goals, manage our growth effectively, successfully integrate the planned new stores into our operations or operate our new, remodeled and expanded stores profitably. Our plans for international expansion include risks that could adversely impact our financial results and reputation. We intend to further expand into international markets through franchise/distribution agreements and/or company-owned stores. The risks associated with our expansion into international markets include difficulties in attracting customers due to a lack of customer familiarity with our brands, our lack of familiarity with local customer preferences and seasonal differences in the market. Further, entry into this market may bring us into competition with new competitors or with existing competitors with an established market presence. Other risks include general economic conditions in specific countries or markets, disruptions or delays in shipments, changes in diplomatic and trade relationships, political instability and foreign governmental regulation. We also have risks related to identifying suitable partners as franchisees, distributors or in a similar capacity. In addition, certain aspects of these arrangements are not directly within our control, such as the ability of these third parties to meet their projections regarding store openings and sales. We cannot ensure the profitability or success of our expansion into international markets. These risks could have a material adverse effect on our brand image and reputation as well as our results of operations, financial condition and cash flows. Our licensees could take actions that could harm our business or brand images. We have global representation through independently owned La Senza stores operated by licensees. Although we have criteria to evaluate and select prospective licensees, the amount of control we can exercise over our licensees is limited and the quality of licensed operations may be diminished by any number of factors beyond our control. Licensees may not have the business acumen or financial resources necessary to successfully operate stores in a manner consistent with our standards and may not hire and train qualified store managers and other personnel. Our brand image and reputation may suffer materially and our sales could decline if our licensees do not operate successfully. Our direct channel business includes risks that could have an adverse effect on our results from operations or financial condition. Our direct operations are subject to numerous risks that could have a material adverse effect on our operational results. Risks include, but are not limited to, the (a) diversion of sales from our stores, which may impact comparable store sales figures, (b) difficulty in recreating the in-store experience through our direct channels, (c) domestic or international resellers purchasing merchandise and re-selling it overseas outside our control, (d) risks related to the failure of the systems that operate the web sites and their related support systems, including computer viruses, theft of customer information, privacy concerns, telecommunication failures and electronic break-ins and similar disruptions, and (e) risks related to our direct-to-consumer distribution center. Any of these events could have a material adverse effect on our results of operations and financial condition. Our failure to protect our reputation could have a material adverse effect on our brand images. Our ability to maintain our reputation is critical to our brand images. Our reputation could be jeopardized if we fail to maintain high standards for merchandise quality and integrity. Any negative publicity about these types of
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Table of Contentsconcerns may reduce demand for our merchandise. Failure to comply with ethical, social, product, labor and environmental standards, or related political considerations, could also jeopardize our reputation and potentially lead to various adverse consumer actions, including boycotts. 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. Our failure to adequately protect our trade names, trademarks and patents could have a negative impact on our brand images and limit our ability to penetrate new markets. We believe that our trade names, trademarks and patents are an essential element of our strategy. We have obtained or applied for federal registration of these trade names, trademarks and patents and have applied for or obtained registrations in many foreign countries. There can be no assurance that we will obtain such registrations 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 images could be adversely affected. Our results can be adversely affected by market disruptions. Market disruptions due to severe weather conditions, natural disasters, health hazards, terrorist activities, financial crises, political crises or other major events or the prospect of these events can affect consumer spending and confidence levels and adversely affect our results or prospects in affected markets. The receipt of proceeds under any insurance we maintain for these purposes may be delayed or the proceeds may be insufficient to fully offset our losses. Our stock price may be volatile. Our stock price may fluctuate substantially as a result of quarter to quarter variations in our actual or projected performance or the financial performance of other companies in the retail industry. In addition, the stock market has experienced price and volume fluctuations that have affected the market price of many retail and other stocks and that have often been unrelated or disproportionate to the operating performance of these companies. Our failure to maintain our credit rating could negatively affect our ability to access capital and would increase our interest expense. The credit ratings agencies periodically review our capital structure and the quality and stability of our earnings. Any negative ratings actions could constrain the capital available to our company or our industry and could limit our access to funding for our operations. We are dependent upon our ability to access capital at rates and on terms we determine to be attractive. If our ability to access capital becomes constrained, our interest costs will likely increase, which could have a material adverse effect on our results of operations and financial condition. Additionally, our failure to maintain our credit rating would result in higher interest costs. We may be unable to service our debt. We may be unable to service our outstanding debt or any other debt we incur. Additionally, some of our debt agreements contain covenants which require maintenance of certain financial ratios and also, under certain conditions, restrict our ability to pay dividends, repurchase common shares and make other restricted payments as defined in those agreements. Our cash flow from operations provides the primary source of funds for our debt service payments. If our cash flow from operations is adversely impacted, we may be unable to service or refinance our current debt.
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Our inability to compete favorably in our highly competitive segment of the retail industry could negatively impact our results. The sale of intimate and other apparel, personal care products and accessories is highly competitive. We compete for sales with a broad range of other retailers, including individual and chain specialty stores, department stores and discount retailers. In addition to the traditional store-based retailers, we also compete with direct marketers or retailers that sell similar lines of merchandise and who target customers through direct response channels. Brand image, marketing, design, price, service, quality, image presentation and fulfillment are all competitive factors in both the store-based and direct response channels. Some of our competitors may have greater financial, marketing and other resources available. In many cases, our competitors sell their products in department stores that are located in the same shopping malls as our stores. In addition to competing for sales, we compete for favorable site locations and lease terms in shopping malls. Increased competition could result in price reductions, increased marketing expenditures and loss of market share, any of which could have a material adverse effect on our results of operations and financial condition. The recent recessionary conditions have resulted in more significant competition and our competitors have lowered prices and engaged in more promotional activity. Our inability to remain current with fashion trends and launch new product lines successfully could negatively impact the image and relevance of our brands. Our success depends in part on management’s ability to effectively anticipate and respond to changing fashion preferences and consumer demands and to translate market trends into appropriate, saleable product offerings far in advance of the actual time of sale to the customer. Customer demands and fashion trends change rapidly. If we are unable to successfully anticipate, identify or react to changing styles or trends or we misjudge the market for our products or any new product lines, our sales will be lower, potentially resulting in significant amounts of unsold finished goods inventory. In response, we may be forced to increase our marketing promotions or price markdowns, which could have a material adverse effect on our results of operations and financial condition. Our brand image may also suffer if customers believe merchandise misjudgments indicate we are no longer able to identify and offer the latest fashions. We may be unable to retain key personnel. It is our belief we have benefited substantially from the leadership and experience of our senior executives, including Leslie H. Wexner (Chairman of the Board of Directors and Chief Executive Officer). The loss of the services of any of these individuals could have a material adverse effect on our business and prospects. Competition for key personnel in the retail industry is intense and our future success will also depend on our ability to recruit, train and retain other qualified key personnel. We may be unable to attract, develop and retain qualified employees and manage labor costs. We believe our competitive advantage is providing a positive, engaging and satisfying experience for each individual customer, which requires us to have highly trained and engaged employees. Our success depends in part upon our ability to attract, develop and retain a sufficient number of qualified employees, including store personnel and talented merchants. The turnover rate in the retail industry is generally high and qualified individuals of the requisite caliber and number needed to fill these positions may be in short supply in some areas. Competition for such qualified individuals or changes in labor and healthcare laws could require us to incur higher labor costs. Our inability to recruit a sufficient number of qualified individuals in the future may delay planned openings of new stores or affect the speed with which we expand. Delayed store openings, significant increases in employee turnover rates or significant increases in labor costs could have a material adverse effect on our results of operations and financial condition.
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Table of ContentsWe rely significantly on foreign sources of production and maintenance of operations in foreign countries. We purchase merchandise directly in foreign markets and in the domestic market. We do not have any material long-term merchandise supply contracts. Many of our imports are subject to a variety of customs regulations and international trade arrangements, including existing or potential duties, tariffs or safeguard quotas. We compete with other companies for production facilities. We also face a variety of other risks generally associated with doing business in foreign markets and importing merchandise from abroad, such as:
New initiatives may be proposed impacting the trading status of certain countries and may include retaliatory duties or other trade sanctions which, if enacted, would limit or reduce the products purchased from suppliers in such countries. In addition, significant health hazards, environmental hazards or natural disasters may occur which could have a negative effect on the economies, financial markets and business activity. Our purchase of merchandise from these manufacturing operations may be affected by this risk. Our future performance will depend upon these and the other factors listed above which are beyond our control and could have a material adverse effect on our results of operations and financial condition. Our manufacturers may not be able to manufacture and deliver products in a timely manner and meet quality standards. We purchase products through contract manufacturers and importers and directly from third-party manufacturers. Similar to most other specialty retailers, we have narrow sales window periods for much of our inventory. Factors outside our control, such as manufacturing or shipping delays or quality problems, could disrupt merchandise deliveries and result in lost sales, cancellation charges or excessive markdowns which could have a material adverse effect on our results of operations and financial condition. Our results may be adversely affected by fluctuations in energy costs. Energy costs have fluctuated dramatically in the past. These fluctuations may result in an increase in our transportation costs for distribution, utility costs for our retail stores and costs to purchase product from our manufacturers. A continual rise in energy costs could adversely affect consumer spending and demand for our products and increase our operating costs, both of which could have a material adverse effect on our results of operations and financial condition.
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We may be adversely impacted by increases in costs of mailing, paper and printing. Postal rate increases and paper and printing costs will affect the cost of our order fulfillment and catalogue and promotional mailings. We rely on discounts from the basic postal rate structure, such as discounts for bulk mailings and sorting. Future paper and postal rate increases could adversely impact our earnings if we are unable to pass such increases directly onto our customers or if we are unable to implement more efficient printing, mailing, delivery and order fulfillment systems. We self-insure certain risks and may be adversely impacted by unfavorable claims experience. We are self-insured for various types of insurable risks including associate medical benefits, workers’ compensation, property, general liability and automobile up to certain stop-loss limits. Claims are difficult to predict and may be volatile. Any adverse claims experience could have a material adverse effect on our results of operations and financial condition. We significantly rely on our ability to implement and sustain information technology systems. Our success depends, in part, on the secure and uninterrupted performance of our information technology systems. Our computer systems, as well as those of our service providers, are vulnerable to damage from a variety of sources, including telecommunication failures, malicious human acts and natural disasters. Moreover, despite network security measures, some of our servers and those of our service providers are potentially vulnerable to physical or electronic break-ins, computer viruses and similar disruptive problems. Additionally, these types of problems could result in a breach of confidential customer information which could result in damage to our reputation and/or litigation. Despite the precautions we have taken, unanticipated problems may nevertheless cause failures in our information technology systems. Sustained or repeated system failures that interrupt our ability to process orders and deliver products to the stores in a timely manner or expose confidential customer information could have a material adverse effect on our results of operations and financial condition. In addition, we will make modifications and upgrades to the information technology systems for point-of-sale, e-commerce, merchandising, planning, sourcing, logistics, inventory management and support systems including human resources and finance. Modifications involve replacing legacy systems with successor systems, making changes to legacy systems or acquiring new systems with new functionality. We are aware of inherent risks associated with replacing these systems, including accurately capturing data and system disruptions. Information technology system disruptions, if not anticipated and appropriately mitigated, could have a material adverse effect on our operations. We may fail to comply with regulatory requirements. As a public company, we are subject to numerous regulatory requirements. Our policies, procedures and internal controls are designed to comply with all applicable laws and regulations, including those imposed by the Sarbanes-Oxley Act of 2002, the SEC and the New York Stock Exchange (the “NYSE”). Failure to comply with such laws and regulations could have an adverse effect on our reputation, market price of our common stock, results of operations and financial condition. We may be adversely impacted by changes in taxation requirements. We are subject to income tax in local, national and international jurisdictions. In addition, our products are subject to import and excise duties and/or sales or value-added taxes in many jurisdictions. Fluctuations in tax rates and duties and changes in tax legislation or regulation could have a material adverse effect on our results of operations and financial condition.
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Table of ContentsWe may be adversely impacted by certain compliance or legal matters. We are subject to complex compliance and litigation risks. Difficulty can exist in complying with sometimes conflicting regulations in local, national or international jurisdictions as well as new or changing regulations that affect how we operate. In addition, we may be impacted by litigation trends, including class action lawsuits involving consumers and shareholders that could have a material adverse effect on our reputation, market price of our common stock, results of operations and financial condition. ITEM 1B. UNRESOLVED STAFF COMMENTS. None. ITEM 2. PROPERTIES. The following table provides the location, use and size of our distribution, corporate and product development facilities as of January 30, 2010:
United States Our business for both the Victoria’s Secret and Bath & Body Works segments is principally conducted from office, distribution and shipping facilities located in the Columbus, Ohio area. Additional facilities are located in New York, New York; Kettering, Ohio; Rio Rancho, New Mexico and Paramus, New Jersey. Our distribution and shipping facilities consist of seven buildings located in the Columbus, Ohio area. These buildings, including attached office space, comprise approximately 6.4 million square feet. As of January 30, 2010, we operate 2,678 retail stores located in leased facilities, primarily in malls and shopping centers, throughout the United States. A substantial portion of these lease commitments consists of store leases generally with an initial term of ten years. The leases expire at various dates between 2010 and 2024. Typically, when space is leased for a retail store in a mall or shopping center, we supply all improvements, including interior walls, floors, ceilings, fixtures and decorations. The cost of improvements varies widely, depending on the design, size and location of the store. In certain cases, the landlord of the property may provide an allowance to fund all or a portion of the cost of improvements serving as a lease incentive. Rental terms for new locations usually include a fixed minimum rent plus a percentage of sales in excess of a specified amount. We usually pay certain operating costs such as common area maintenance, utilities, insurance and taxes. For additional information, see Note 16 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data.
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International Canada Our international business is principally conducted from owned and leased office, distribution and shipping facilities located in the Montreal, Quebec area. Additional leased office facilities are located in Toronto, Ontario. Our distribution and shipping facilities consist of two buildings located in the Montreal, Quebec area. These buildings, including attached office space, comprise approximately 386,000 square feet. Additionally, we lease additional office facilities in the Montreal area comprised of approximately 100,000 square feet. As of January 30, 2010, we operate 293 retail stores located in leased facilities, primarily in malls and shopping centers, throughout the Canadian provinces. A substantial portion of these lease commitments consists of store leases generally with an initial term of ten years. The leases expire at various dates between 2010 and 2024. Other International As of January 30, 2010, we also have global representation through 520 independently owned “La Senza” stores operated by licensees in 49 countries. In addition, Victoria’s Secret products and accessories are made available on a wholesale basis to duty-free stores and other international retail locations including travel and tourism stores. We also operate sourcing-related office facilities in various international locations. ITEM 3. LEGAL PROCEEDINGS. We are a defendant in a variety of lawsuits arising in the ordinary course of business. Plaintiffs may seek to recover large and sometimes unspecified amounts or other types of relief and some matters may remain unresolved for several years. Although we are unable to predict with certainty the eventual outcome of any litigation, in the opinion of management, our legal proceedings are not expected to have a material adverse effect on our financial position or results of operations. On November 6, 2009, a class action (International Brotherhood of Electrical Workers Local 697 Pension Fund v. Limited Brands, Inc. et al.) was filed against our company and certain of our officers in the United States District Court for the Southern District of Ohio on behalf of a purported class of all persons who purchased or acquired shares of Limited Brands common stock between August 22, 2007 and February 28, 2008. We believe the complaint is without merit and that we have substantial factual and legal defenses to the claims at issue. We intend to vigorously defend against this action. We cannot reasonably estimate the possible loss or range of loss that may result from this lawsuit.
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Table of ContentsPART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES. Our common stock (“LTD”) is traded on the New York Stock Exchange. On January 30, 2010, there were approximately 55,000 shareholders of record. However, including active associates who participate in our stock purchase plan, associates who own shares through our sponsored retirement plans and others holding shares in broker accounts under street names, we estimate the shareholder base to be approximately 145,000. The following table provides our quarterly market prices and cash dividends per share for 2009 and 2008:
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The following graph shows the changes, over the past five-year period, in the value of $100 invested in our common stock, the Standard & Poor’s 500 Composite Stock Price Index and the Standard & Poor’s 500 Retail Composite Index. The plotted points represent the closing price on the last day of the fiscal year indicated. COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN* AMONG LIMITED BRANDS, INC., THE S&P 500 INDEX AND THE S&P RETAIL COMPOSITE INDEX *$100 INVESTED IN STOCK OR IN INDEX AT THE CLOSING PRICE ON 1/29/05 – INCLUDING REINVESTMENT OF DIVIDENDS.
The following table provides our repurchases of our common stock during the fourth quarter of 2009:
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Table of ContentsITEM 6. SELECTED FINANCIAL DATA.
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The cumulative effect of adopting the authoritative guidance included in ASC Subtopic 718, was $0.7 million, net of tax of $0.4 million, and was recognized as an increase to net income in the Consolidated Statement of Income as of the beginning of the first quarter of 2006.
The cumulative effect of this change was $17 million, net of tax of $11 million. This change was recognized as an increase to net income in the Consolidated Statement of Income as of the beginning of the first quarter of 2005. In addition to the $17 million cumulative impact recognized as of the beginning of the first quarter, the effect of the change during 2005 was to decrease net income by $4 million, or $0.01 per diluted share.
For additional information on 2009, 2008 and 2007 items, see the Notes to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data.
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For additional information on 2009, 2008 and 2007 items, see the Notes to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data. The effect of the items, described in (d) and (e) above, to earnings per share were $0.14 in 2009, $(0.40) in 2008, $0.68 in 2007, $(0.05) in 2006 and $0.33 in 2005.
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION. The following discussion and analysis of financial condition and results of operations are based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The following information should be read in conjunction with our financial statements and the related notes included in Item 8. Financial Statements and Supplementary Data. Our operating results are generally impacted by changes in the U.S. and Canadian economies and, therefore, we monitor the retail environment using, among other things, certain key industry performance indicators such as the University of Michigan Consumer Sentiment Index (which measures consumers’ views on the future course of the U.S. economy), the National Retail Traffic Index (which measures traffic levels in malls nationwide) and National Retail Sales (which reflects sales volumes of 5,000 businesses as measured by the U.S. Census Bureau). These indices provide insight into consumer spending patterns and shopping behavior in the current retail environment and assist us in assessing our performance as well as the potential impact of industry trends on our future operating results. Additionally, we evaluate a number of key performance indicators including comparable store sales, gross profit, operating income and other performance metrics such as sales per average selling square foot and inventory per selling square foot in assessing our performance. Executive Overview Strategy Our strategy supports and drives our mission to build a family of the world’s best fashion retail brands offering captivating customer experiences that drive long-term loyalty and deliver sustained value for our stakeholders. To execute our strategy, we are focused on these key strategic imperatives:
Grow and maximize profitability of our core brands in current channels and geographies The core of Victoria’s Secret is bras and panties. We see clear opportunities for substantial growth in these categories by focusing on product newness and innovation and expanding into under-penetrated market and price segments. In our direct channel, we have the infrastructure in place to support growth well into the future. We believe our direct channel is an important form of brand advertising given the ubiquitous nature of the internet and our large mailing list. The core of Bath & Body Works is its Signature Collection, antibacterial and home fragrance product lines, which together make up the majority of sales and profits for the business. During the past year we restaged both the Signature Collection and our antibacterial lines with more compelling fragrances, improved formulas and updated packaging. Additionally, www.BathandBodyWorks.com, which launched in 2006, continues to exhibit year-over-year growth. We have a multi-year initiative to substantially increase operating margins for our brands through merchandise margin expansion and expense rationalization. With regard to merchandise margin expansion, we actively manage our inventory to minimize the level of promotional activity and we have and will continue to work with our merchandise vendors on innovation, quality, speed and cost. Additionally, we have made a concerted effort to manage home office headcount and overhead expenses. Finally, we have and will continue to optimize our marketing expense by concentrating our expenditures on efficient and return-generating programs.
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Table of ContentsExtend our core brands into new channels and geographies We began our international expansion with the acquisition of La Senza at the beginning of 2007. Since 2008, we opened 31 Bath & Body Works stores and four Victoria’s Secret Pink stores in Canada. Based on the success we have experienced in Canada, we plan to open an additional 30 to 35 Bath & Body Works stores and five more Victoria’s Secret Pink stores in 2010. We also plan to open our first four Victoria’s Secret stores in Canada in 2010. We are also reviewing international opportunities outside of North America. In 2009, our partners opened seven Victoria’s Secret travel and tourism stores with six of those stores outside of the United States. These stores are principally located in airports and tourist destinations. These stores are focused on Victoria’s Secret branded beauty and accessory products and are operated by partners under a wholesale model. Our partners plan to open 10 to 15 more Victoria’s Secret travel and tourism stores in 2010. We continue to analyze and explore how to further expand our brands outside of North America. Incubate and grow new brands in current channels Our most successful brands have either been conceived or incubated within Limited Brands, including Victoria’s Secret and Bath & Body Works. We are constantly experimenting with new ideas and our current efforts include standalone Pink stores and Henri Bendel stores focused on accessories. Build enabling infrastructure and capabilities Over the past four years, we have opened a new Direct to Consumer distribution center, launched new merchandise planning systems, new supply chain management systems and new financial systems. We are using these capabilities to be able to more productively react to current market conditions, improve inventory accuracy, turnover and in-stock levels and deliver more targeted assortments at the store level. Going forward, we plan to implement new point-of-sale systems in our stores and new finance and other support systems in our direct channel. 2009 Overview We anticipated that the retail environment would continue to be challenging in 2009. Our net sales decreased $411 million to $8.632 billion driven by a comparable store sales decrease of 4%. Our operating income increased $279 million to $868 million and our operating income rate improved significantly from 6.5% to 10.1%. In 2009, our operating income benefited from a $9 million gain associated with the reversal of an accrued contractual liability as a result of the divestiture of a joint venture. In 2008, our operating income was negatively impacted by $129 million which included a $215 million impairment charge related to goodwill and other intangible assets for our La Senza business, a $128 million gain related to the divestiture of a personal care joint venture, $23 million of expense related to restructuring activities and a $19 million impairment charge related to a joint venture. The remainder of our operating income increase was driven by the strength of our holiday assortments, which coupled with disciplined inventory management, enabled us to reduce our promotional activity during the 2009 holiday season. Additionally, disciplined expense management also contributed to the increase in operating income. For additional information related to our 2009 financial performance, see “Results of Operations—2009 Compared to 2008.” During 2009, we focused on the conservative management of fundamentals including:
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Despite the challenging environment during 2009, we accomplished the following in terms of the execution of our business strategy:
2010 Outlook The global retail sector and our business continue to face a very uncertain environment and, as a result, we have taken a conservative stance in terms of the financial management of our business. We will continue to manage our business carefully and we will focus on the execution of the retail fundamentals. At the same time, we are aggressively focusing on bringing compelling merchandise assortments, marketing and store experiences to our customers. We will look for, and capitalize on, those opportunities available to us in this challenging environment. We believe that our brands, which lead their categories and offer high emotional content at accessible prices, are well positioned heading into 2010.
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Table of ContentsStore Data The following table compares 2009 store data to the comparable periods for 2008 and 2007:
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The following table compares 2009 store data to the comparable periods for 2008 and 2007:
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Table of ContentsResults of Operations—2009 Compared to 2008 Operating Income The following table provides our segment operating income (loss) and operating income rates (expressed as a percentage of net sales) for 2009 in comparison to 2008:
For 2009, operating income increased $279 million to $868 million and the operating income rate increased to 10.1% from 6.5%. The drivers of the operating income results are discussed in the following sections. Net Sales The following table provides net sales for 2009 in comparison to 2008:
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The following tables provide a reconciliation of net sales for 2008 to 2009:
The following table compares 2009 comparable store sales to 2008:
For 2009, our net sales decreased $411 million to $8.632 billion and comparable store sales decreased 4%. The decrease in our net sales was primarily driven by the following: Victoria’s Secret For 2009, net sales decreased $297 million to $5.307 billion and comparable store sales decreased 6%. The net sales result was primarily driven by:
The decrease in comparable store sales was primarily driven by lower average dollar sales partially offset by an increase in total transactions. Bath & Body Works For 2009, net sales increased $9 million to $2.383 billion and comparable store sales decreased 1%. From a merchandise category perspective, net sales were driven by the Signature Collection, antibacterial and home
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Table of Contentsfragrance categories partially offset by discontinued product lines and our performance brands. The decrease in comparable store sales was primarily driven by a decrease in total transactions partially offset by higher average dollar sales. Other For 2009, net sales decreased $123 million to $942 million related to a decline in third-party sales at Mast partially offset by net sales primarily related to the introduction of Bath & Body Works and Victoria’s Secret Pink into Canada. Gross Profit For 2009, our gross profit increased $22 million to $3.028 billion and our gross profit rate (expressed as a percentage of net sales) increased to 35.1% from 33.2% primarily driven by the following: Victoria’s Secret For 2009, gross profit decreased primarily driven by:
The gross profit rate was relatively flat for 2009.
Bath & Body Works For 2009, gross profit increased primarily driven by higher merchandise margin dollars due to an increase in sales of higher margin products and a reduction in buying and occupancy expenses. The increase in the gross profit rate was driven by increases in the merchandise margin and decreases in buying and occupancy rates due to the factors cited above. Other For 2009, gross profit increased primarily driven by the introduction of Bath & Body Works and Victoria’s Secret Pink into Canada and the gross profit rate increased as a result of a decline in lower margin Mast third-party sales. General, Administrative and Store Operating Expenses For 2009, our general, administrative and store operating expenses decreased $145 million to $2.166 billion primarily driven by:
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Partially offset by:
The general, administrative and store operating expense rate decreased to 25.1% from 25.6% primarily driven by the factors cited above. Impairment of Goodwill and Other Intangible Assets In the fourth quarter of 2009, we recognized charges totaling $3 million related to the impairment of the La Senza Girl trade name and other minor trade names. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2009 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. In the fourth quarter of 2008, we recognized charges totaling $215 million related to the impairment of goodwill and trade name assets associated with our La Senza business. The impairment charges were based on our evaluation of the estimated fair value of the La Senza business and trade name assets as compared to their respective carrying values. Our evaluation concluded that as a result of the global economic downturn and the related negative impact on La Senza’s operating performance, the fair value of the La Senza business and trade name assets were below their carrying values as of the fourth quarter of 2008. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2008 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. Net Gain on Joint Ventures In April 2008, we and our investment partner completed the divestiture of a personal care joint venture to a third party. We recognized a pre-tax gain of $128 million on the divestiture. The pre-tax gain is included in Net Gain on Joint Ventures on the 2008 Consolidated Statement of Income. In addition, we recorded a pre-tax charge of $19 million related to another joint venture. The charge consisted of writing down the investment balance, reserving certain accounts and notes receivable and accruing a contractual liability. The impairment of $19 million is also included in Net Gain on Joint Ventures on the 2008 Consolidated Statement of Income. In July 2009, we recognized a pre-tax gain of $9 million ($14 million net of related tax benefits) associated with the reversal of the accrued contractual liability as a result of the divestiture of the joint venture. The pre-tax gain is included in Net Gain on Joint Ventures on the 2009 Consolidated Statement of Income. Other Income and Expenses Interest Expense The following table provides the average daily borrowings and average borrowing rates for 2009 and 2008:
For 2009, our interest expense increased $56 million to $237 million. The increase was primarily driven by $10 million of expense associated with the February 2009 amendments to our 5-Year Facility and Term Loan, $8
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Table of Contentsmillion of expense associated with terminating certain participating interest rate swap arrangements, increases in the average borrowings and average borrowing rates and an increase in fees related to our 5-Year Facility. Interest Income For 2009, our interest income decreased $16 million to $2 million. The decrease was driven by lower yields given the lower interest rate environment and our more conservative investment portfolio partially offset by the impact of higher average invested cash balances. Other Income (Loss) For 2009, our other income (loss) decreased $6 million to $17 million primarily due to a $71 million cash distribution from Express in 2008 which resulted in a pre-tax gain of $13 million, partially offset by higher income from our equity investment in both Express and Limited Stores in 2009. We divested 75% of our equity interests in Express and Limited Stores in July 2007 and August 2007, respectively, and retained the remaining 25% interests as equity method investments. Provision for Income Taxes For 2009, our effective tax rate decreased to 31.1% from 51.5%. The decrease in the rate resulted primarily from the impact of the impairment of goodwill and other intangible assets at La Senza in 2008, which were not deductible for income tax purposes. In addition, the rate decreased due to the reversal of deferred tax liabilities on unremitted foreign earnings due to international restructuring and resolution of certain tax matters in 2009. Results of Operations—Fourth Quarter of 2009 Compared to Fourth Quarter of 2008 Operating Income The following table provides our segment operating income (loss) and operating income rates (expressed as a percentage of net sales) for the fourth quarter of 2009 in comparison to the fourth quarter of 2008:
For the fourth quarter of 2009, operating income increased $433 million to $586 million and the operating income rate increased to 19.1% from 5.1%. The drivers of the operating income results are discussed in the following sections.
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Net Sales The following table provides net sales for the fourth quarter of 2009 in comparison to the fourth quarter of 2008:
The following table provides a reconciliation of net sales for the fourth quarter of 2008 to the fourth quarter of 2009:
The following table compares fourth quarter of 2009 comparable store sales to fourth quarter of 2008:
For the fourth quarter of 2009, our net sales increased $72 million to $3.063 billion and comparable store sales increased 1%. The increase in our net sales was primarily driven by the following: Victoria’s Secret For the fourth quarter of 2009, net sales increased $31 million to $1.798 billion and comparable store sales were flat. The increase in net sales was primarily driven by:
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Bath & Body Works For the fourth quarter of 2009, net sales increased $10 million to $1.008 billion and comparable store sales increased 2%. From a merchandise category perspective, net sales were driven by the Signature Collection, antibacterial and home fragrance categories offset by discontinued product lines and our performance brands. The increase in comparable store sales was primarily driven by higher average dollar sales partially offset by a decline in total transactions. Other For the fourth quarter of 2009, net sales increased $31 million to $257 million. The increase in net sales was primarily driven by the introduction of Bath & Body Works and Victoria’s Secret Pink into Canada. Gross Profit For the fourth quarter of 2009, our gross profit increased $225 million to $1.249 billion and our gross profit rate (expressed as a percentage of net sales) increased to 40.8% from 34.3% primarily driven by the following: Victoria’s Secret For the fourth quarter of 2009, gross profit increased primarily driven by:
Partially offset by:
The increase in the gross profit rate was driven primarily by an increase in the merchandise margin rate and a decrease in the buying and occupancy expense rate due to the factors cited above. Bath & Body Works For the fourth quarter of 2009, gross profit increased primarily driven by higher merchandise margin dollars as a result of a decrease in promotional activity, our cost reduction efforts and an increase in net sales. In addition, buying and occupancy expenses decreased primarily due to store real estate activity that drove incremental expense in 2008.
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The increase in the gross profit rate was driven by an increase in the merchandise margin rate and a decrease in the buying and occupancy rate due to the factors cited above. Other For the fourth quarter of 2009, gross profit increased primarily driven by the introduction of Bath & Body Works and Victoria’s Secret Pink into Canada and the gross profit rate increased as a result of the impact of our international business relative to the lower margin Mast third-party sales. General, Administrative and Store Operating Expenses For the fourth quarter of 2009, our general, administrative and store operating expenses increased $4 million to $660 million primarily driven by an increase in incentive compensation due to improved performance, partially offset by expense reductions across all our segments in home office in conjunction with our enterprise cost initiatives. In addition, the fourth quarter of 2008 included $23 million of restructuring charges. The general, administrative and store operating expense rate decreased to 21.5% from 21.9% due to leverage associated with the increase in net sales. Impairment of Goodwill and Other Intangible Assets In the fourth quarter of 2009, we recognized charges totaling $3 million related to the impairment of the La Senza Girl trade name and other minor trade names. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2009 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. In the fourth quarter of 2008, we recognized charges totaling $215 million related to the impairment of goodwill and trade name assets associated with our La Senza business. The impairment charges were based on our evaluation of the estimated fair value of the La Senza business and trade name assets as compared to their respective carrying values. Our evaluation concluded that as a result of the global economic downturn and the related negative impact on La Senza’s operating performance, the fair value of the La Senza business and trade name assets were below their carrying values as of the fourth quarter of 2008. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2008 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. Other Income and Expense Interest Expense The following table provides the average daily borrowings and average borrowing rates for the fourth quarter of 2009 and 2008:
For the fourth quarter of 2009, our interest expense increased $16 million to $61 million. The increase was primarily driven by $8 million of expense associated with terminating a portion of our participating interest rate swap arrangements as well as increases in average borrowing rates and fees related to our 5-Year Facility.
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Table of ContentsInterest Income For the fourth quarter of 2009, our interest income decreased $2 million to less than $1 million. The decrease was primarily driven by a decrease in average effective interest rates partially offset by an increase in the average invested cash balances. Other Income (Loss) For the fourth quarter of 2009, our other income increased $11 million to $11 million. The increase was primarily driven by higher income from our equity investment in both Express and Limited Stores in 2009. We divested 75% of our equity interests in Express and Limited Stores in July 2007 and August 2007, respectively, and retained the remaining 25% interests as equity method investments. Provision for Income Taxes For the fourth quarter of 2009, our effective tax rate decreased to 33.6% from 85.4%. The decrease in the rate resulted primarily from the 2008 impairment of goodwill and other intangible assets at La Senza in 2008, which was not deductible for income tax purposes. In addition, the rate decreased due to the reversal of deferred tax liabilities on unremitted foreign earnings due to international restructuring in 2009. Results of Operations—2008 Compared to 2007 Operating Income The following table provides our segment operating income (loss) and operating income rates (expressed as a percentage of net sales) for 2008 in comparison to 2007:
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For 2008, operating income decreased $521 million to $589 million and the operating income rate decreased to 6.5% from 11.0%. The drivers of the operating income results are discussed in the following sections. Net Sales The following table provides net sales for 2008 in comparison to 2007:
The following tables provide a reconciliation of net sales for 2007 to 2008:
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Table of ContentsThe following table compares 2008 comparable store sales to 2007:
For 2008, our net sales decreased 11% to $9.043 billion and comparable store sales decreased 9%. The decrease in our net sales was primarily driven by the following: Victoria’s Secret For 2008, net sales remained relatively flat at $5.604 billion and comparable store sales decreased 8%. The net sales result was primarily driven by:
Partially offset by:
The decrease in comparable store sales was primarily driven by declines in store traffic and transactions in addition to decreased units per sales transaction. Bath & Body Works For 2008, net sales decreased 5% to $2.374 billion and comparable store sales decreased 9%. Net sales decreased driven by weak store traffic and the challenging economic environment. From a category perspective, declines in Signature Collection were offset partially by increases in the Aromatherapy, True Blue Spa and home fragrance categories. The decrease in comparable store sales was primarily driven by declines in store traffic and lower average unit retail prices offset partially by an increase in merchandise units per transaction.
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Apparel and Other For 2008, Apparel net sales decreased $870 million as a result of the 2007 divestitures of 75% of our equity interests in Express and Limited Stores. In addition, Other net sales decreased $98 million to $1.065 billion primarily driven by a decrease in Mast sales as well as the personal care joint venture that was sold in the first quarter of 2008. Gross Profit For 2008, our gross profit decreased 14% to $3.006 billion and our gross profit rate (expressed as a percentage of net sales) decreased to 33.2% from 34.6% primarily driven by the following: Victoria’s Secret For 2008, gross profit decreased primarily driven by the decrease at Victoria’s Secret Stores in net sales and the related decrease in merchandise margin dollars combined with increased buying and occupancy expenses related to our new and remodeled stores. Victoria’s Secret Direct’s gross profit remained relatively flat as the impact of the 9% increase in net sales was offset by the impact of increased promotional activity to clear inventory and an increase in catalogue circulation. The gross profit rate decreased driven primarily by an increase in the buying and occupancy expense rate as cited above. Bath & Body Works For 2008, gross profit decreased primarily driven by lower net sales and a related decrease in merchandise margin dollars combined with an increase in buying and occupancy expenses associated with store real estate activity. The gross profit rate decreased driven primarily by an increase in the buying and occupancy expense rate due to the factors cited above. Apparel and Other For 2008, gross profit decreased $250 million as a result of the divestitures of 75% equity interest in Express and Limited Stores in 2007. General, Administrative and Store Operating Expenses For 2008, our general, administrative and store operating expenses decreased 12% to $2.311 billion primarily driven by:
Partially offset by:
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Table of ContentsThe general, administrative and store operating expense rate decreased to 25.6% from 25.8% primarily driven by the factors cited above. Impairment of Goodwill and Other Intangible Assets In the fourth quarter of 2008, we recognized charges totaling $215 million related to the impairment of goodwill and trade name assets associated with our La Senza business. The impairment charges were based on our evaluation of the estimated fair value of the La Senza business and trade name assets as compared to their respective carrying values. Our evaluation concluded that as a result of the global economic downturn and the related negative impact on La Senza’s operating performance, the fair value of the La Senza business and trade name assets were below their carrying values as of the fourth quarter of 2008. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2008 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. Net Gain on Joint Ventures In April 2008, we and our investment partner completed the divestiture of a personal care joint venture to a third party. We recognized a pre-tax gain of $128 million on the divestiture. The pre-tax gain is included in Net Gain on Joint Ventures on the 2008 Consolidated Statement of Income. In addition, we recorded a $19 million impairment charge related to another joint venture. The charge consisted of writing down the investment balance, reserving certain accounts and notes receivable and accruing a contractual liability. The impairment of $19 million is also included in Net Gain on Joint Ventures on the 2008 Consolidated Statement of Income. Apparel Divestitures On July 6, 2007, we finalized the divestiture of a 75% ownership interest in our Express brand to affiliates of Golden Gate Capital for pre-tax net cash proceeds of $547 million. The transaction resulted in a pre-tax gain on divestiture of $302 million. On August 3, 2007, we divested a 75% ownership interest of our Limited Stores business to affiliates of Sun Capital Partners. As part of the transaction, Sun Capital contributed $50 million of equity capital into the business and arranged for a $75 million credit facility. We received no cash proceeds from the transaction and recorded a pre-tax loss of $72 million on the transaction. Other Income and Expenses Interest Expense The following table provides the average daily borrowings and average borrowing rates for 2008 and 2007:
For 2008, interest expense increased $32 million to $181 million. The increase was primarily driven by an increase in average borrowings and an increase in fees related to our credit facilities partially offset by a decrease in the average borrowing rate. Interest Income For 2008, our interest income remained flat at $18 million as the impact of higher average invested cash balances was offset by a decrease in average effective interest rates.
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Other Income (Loss) For 2008, other income (loss) decreased $105 million to $23 million due to a 2007 gain of $100 million related to a distribution from Easton Town Center, LLC and net gains of $17 million from the settlement of interest rate lock agreements in 2007. The other income decrease was partially offset by a $71 million cash distribution from Express which resulted in a pre-tax gain of $13 million in 2008. Provision for Income Taxes For 2008, our effective tax rate increased to 51.5% from 36.4%. The increase in the rate resulted primarily from the 2008 impairment of goodwill and other intangible assets at La Senza, which was not deductible for income tax purposes. Noncontrolling Interest For 2008, noncontrolling interest decreased $18 million to $4 million. Noncontrolling interest represents the proportional share of net income or losses of consolidated, less than wholly owned subsidiaries attributable to the noncontrolling interest investor. The decrease is a result of the divestiture of a personal care joint venture in first quarter of 2008 and the closure of a technology joint venture in December 2007. Results of Operations—Fourth Quarter of 2008 Compared to Fourth Quarter of 2007 Operating Income The following table provides our segment operating income (loss) and operating income rates (expressed as a percentage of net sales) for the fourth quarter of 2008 in comparison to the fourth quarter of 2007:
For the fourth quarter of 2008, operating income decreased $468 million to $153 million and the operating income rate decreased to 5.1% from 19.0%. The drivers of the operating income results are discussed in the following sections.
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Table of ContentsNet Sales The following table provides net sales for the fourth quarter of 2008 in comparison to the fourth quarter of 2007:
The following table provides a reconciliation of net sales for the fourth quarter of 2007 to the fourth quarter of 2008:
The following table compares fourth quarter of 2008 comparable store sales to fourth quarter of 2007:
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For the fourth quarter of 2008, our net sales decreased 9% to $2.991 billion and comparable store sales decreased 10%. The decrease in our net sales was primarily driven by the following: Victoria’s Secret For the fourth quarter of 2008, net sales decreased 7% to $1.767 billion and comparable store sales decreased 10%. The decrease in net sales was primarily driven by:
Partially offset by:
The decrease in comparable store sales was primarily driven by declines in store traffic and lower average unit retail prices offset partially by an increase in merchandise units per transaction. Bath & Body Works For the fourth quarter of 2008, net sales decreased 8% to $998 million and comparable store sales decreased 11%. Net sales decreased across most merchandise categories as a result of the challenging economic environment. The decrease in comparable store sales was primarily driven by lower average unit retail prices and declines in store traffic. Other For the fourth quarter of 2008, net sales decreased 25% to $226 million. The decrease in net sales was primarily driven by a decrease in Mast sales as well as the personal care joint venture that was sold in the first quarter of 2008. Gross Profit For the fourth quarter of 2008, our gross profit decreased 21% to $1.024 billion and our gross profit rate (expressed as a percentage of net sales) decreased to 34.3% from 39.6% primarily driven by the following: Victoria’s Secret For the fourth quarter of 2008, gross profit decreased primarily driven by:
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The decrease in the gross profit rate was driven primarily by a decrease in the merchandise margin rate and an increase in the buying and occupancy expense rate due to the factors cited above. Bath & Body Works For the fourth quarter of 2008, gross profit decreased primarily driven by lower merchandise margin dollars as a result of a decline in net sales and an increase in promotional activity to drive sales and clear inventory. In addition, buying and occupancy expenses increased as a result of our store real estate activity. The decrease in the gross profit rate was driven by a decrease in the merchandise margin rate and an increase in the buying and occupancy rate due to the factors cited above. General, Administrative and Store Operating Expenses For the fourth quarter of 2008, our general, administrative and store operating expenses decreased 3% to $656 million primarily driven by:
Partially offset by:
The general, administrative and store operating expense rate increased to 21.9% from 20.6% primarily driven by the overall decline in sales during the fourth quarter of 2008. Impairment of Goodwill and Other Intangible Assets In the fourth quarter of 2008, we recognized charges totaling $215 million related to the impairment of goodwill and trade name assets associated with our La Senza business. The impairment charges were based on our evaluation of the estimated fair value of the La Senza business and trade name assets as compared to their respective carrying values. Our evaluation concluded that as a result of the global economic downturn and the related negative impact on La Senza’s operating performance, the fair value of the La Senza business and trade name assets were below their carrying values as of the fourth quarter of 2008. This impairment charge is included in Impairment of Goodwill and Other Intangible Assets on the 2008 Consolidated Statement of Income. For additional information, see Critical Accounting Policies and Estimates and Note 8 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplemental Data. Other Income and Expense Interest Expense The following table provides the average daily borrowings and average borrowing rates for the fourth quarter of 2008 and 2007:
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For the fourth quarter of 2008, our interest expense decreased $1 million to $45 million. The decrease was primarily driven by a decrease in average borrowings and average borrowing rates offset partially by an increase in fees related to our credit facilities. Interest Income For the fourth quarter of 2008, our interest income decreased $4 million to $2 million. The decrease was primarily driven by a decrease in average effective interest rates which was the result of a general decline in interest rates and a change in our investment portfolio which shifted to U.S. government-backed securities. Other Income (Loss) For the fourth quarter of 2008, our other income decreased $10 million to $0. The decrease was primarily driven by lower income from our equity investment in Express. We divested 75% of our equity interest in Express in July 2007 and retained the remaining 25% as an equity method investment. Provision for Income Taxes For the fourth quarter of 2008, our effective tax rate increased to 85.4% from 34.2%. The increase in the rate resulted primarily from the impairment of goodwill and other intangible assets at La Senza, which was not deductible for income tax purposes. FINANCIAL CONDITION Liquidity and Capital Resources Liquidity, or access to cash, is an important factor in determining our financial stability. We are committed to maintaining adequate liquidity. Cash generated from our operating activities provides the primary resources to support current operations, growth initiatives, seasonal funding requirements and capital expenditures. Our cash provided from operations is impacted by our net income and working capital changes. Our net income is impacted by, among other things, sales volume, seasonal sales patterns, success of new product introductions and profit margins. Historically, sales are higher during the fourth quarter of the fiscal year due to seasonal and holiday-related sales patterns. Generally, our need for working capital peaks during the fall months as inventory builds in anticipation of the holiday period.
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Table of ContentsThe following table provides our outstanding debt as of January 30, 2010 and January 31, 2009:
Issuance of 2019 Notes In June 2009, we issued $500 million of 8.50% notes due in June 2019 (“2019 Notes”) through an institutional private placement offering. The 2019 Notes are jointly and severally guaranteed on a full and unconditional basis by certain of our wholly-owned subsidiaries (the “guarantors”). The net proceeds from the issuance were $473 million, which included an issuance discount of $16 million and transaction costs of $11 million. We used the proceeds from the 2019 Notes to repurchase $108 million of our 2012 notes and to prepay $392 million of the Term Loan. On November 10, 2009, we and the guarantors filed a registration statement with the SEC to register new notes with materially identical terms to the 2019 Notes. On December 15, 2009, we and the guarantors filed an amended registration statement to offer a public exchange of these notes. On January 29, 2010, the exchange offer expired with 100% of bondholders exchanging the 2019 Notes. Repurchase of 2012 Notes In June 2009, we repurchased $5 million of our $300 million notes due in December 2012 through open market transactions. In July 2009, we launched a tender offer for the remaining portion of the 2012 notes. In August 2009, we repurchased an additional $103 million of the 2012 notes through the tender offer for $101 million.
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Credit Facility and Term Loan 2009 Activity The following table details the prepayment activity in 2009 related to our Term Loan:
On February 19, 2009, we amended our 5-Year Facility and Term Loan and we canceled a 364-Day Facility after determining it was no longer required. The amendment to the 5-Year Facility and the Term Loan included changes to both the fixed charge coverage and leverage covenants which provided additional flexibility. Under the amended covenants, we are required to maintain the fixed charge coverage ratio at 1.60 or above through fiscal year 2010 and 1.75 or above thereafter. The leverage ratio, which is debt compared to EBITDA, as those terms are defined in the agreement, must not exceed 5.0 through the third quarter of fiscal year 2010, 4.5 from the fourth quarter of fiscal year 2010 through the third quarter of fiscal year 2011 and 4.0 thereafter. The amendment also increased the interest costs and fees associated with the 5-Year Facility and the Term Loan, provided for certain security interests as defined in the agreement and limited dividends, share repurchases and other restricted payments as defined in the agreement to $220 million per year with certain potential increases as defined in the agreement. The amendment did not impact the maturity dates of either the 5-Year Facility or the Term Loan. We incurred fees related to the amendment of the 5-Year Facility and the Term Loan of $19 million. The fees associated with the 5-Year Facility amendment of $11 million were capitalized and are being amortized over the remaining term of the 5-Year Facility. The fees associated with the Term Loan amendment of $8 million were expensed in addition to unamortized fees related to the original agreement of $2 million. These charges are included within Interest Expense on the 2009 Consolidated Statement of Income. The 5-Year Facility and Term Loan have several interest rate options, which are based in part on our long-term credit ratings. For the fourth quarter of 2009, the effective interest rate of the Term Loan, including the impact of the participating interest rate swap arrangements, was 6.88%. Fees payable under the 5-Year Facility are based on our long-term credit ratings and are currently 0.75% of the committed and unutilized amounts per year and 4.00% on any outstanding borrowings or letters of credit. As of January 30, 2010, there were no borrowings outstanding under the 5-Year Facility. As discussed above, we prepaid $392 million of the Term Loan. In December 2009, we prepaid an additional $158 million of the Term Loan with cash on-hand. As of January 30, 2010, the remaining outstanding principal balance on the Term Loan was $200 million. 2010 Activity In March 2010, we prepaid the remaining $200 million of the Term Loan with cash on hand and also entered into an amendment and restatement (the “Amendment”) of our 5-Year Facility. The Amendment reduces the aggregate amount of the commitments of the lenders under the 5-Year Facility from $1 billion to $927 million. The Amendment also extends the term on $800 million of the 5-Year Facility through August 1, 2014. The Amendment also modifies the covenants limiting investments and restricted payments, as defined in the agreement, to provide that investments and restricted payments may be made, without limitation on amount, if
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Table of Contents(a) at the time of and after giving effect to such investment or restricted payment the ratio of consolidated debt to consolidated EBITDA for the most recent four quarter period is less than 3.0 to 1.0 and (b) no default or event of default exists as defined in the agreement. We incurred fees related to the amendment of the 5-Year Facility of $13 million, which were capitalized and will be amortized over the remaining term of the 5-Year Facility. Letters of Credit and Commercial Paper Programs The 5-Year Facility supports our commercial paper and letter of credit programs. We have $65 million of outstanding letters of credit as of January 30, 2010 that reduce our remaining availability under our amended credit agreements. No commercial paper was outstanding as of January 30, 2010 and January 31, 2009. Working Capital and Capitalization We believe that our available short-term and long-term capital resources are sufficient to fund foreseeable requirements. The following table provides a summary of our working capital position and capitalization as of January 30, 2010, January 31, 2009 and February 2, 2008:
The following table provides certain measures of liquidity and capital resources as of January 30, 2010, January 31, 2009 and February 2, 2008:
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Credit Ratings The following table provides our credit ratings as of January 30, 2010:
Our borrowing costs and certain other provisions under our Term Loan and 5-Year Facility are linked to our credit ratings. If we receive an additional downgrade to our corporate credit ratings by S&P or Moody’s, the availability of additional credit could be negatively affected and our borrowing costs would increase. Credit rating downgrades by any of the agencies do not accelerate the repayment of any of our debt. Common Stock Share Repurchases In October 2008, our Board of Directors authorized management to repurchase $250 million of our outstanding common stock. In 2008, we repurchased 19.0 million shares of our common stock for $219 million at an average price per share of approximately $11.48. In 2009, no additional shares were purchased. In March 2010, our Board of Directors approved a new repurchase program of $200 million and cancelled our previous $250 million share repurchase program, which had $31 million remaining. Dividend Policy and Procedures We currently pay a common stock dividend of $0.15 per share in cash each quarter. Our Board of Directors will determine future dividends after giving consideration to our levels of profit and cash flow, capital requirements, current and forecasted liquidity, the restrictions placed upon us by our borrowing arrangements as well as financial and other conditions existing at the time. In March 2010, the Company’s Board of Directors declared a special dividend of $1 per share. The special dividend will be distributed on April 19, 2010 to shareholders of record at the close of business on April 5, 2010. Treasury Share Retirement In January 2010, we retired 201 million shares of our Treasury Stock to reduce the related administrative expense. The retirement resulted in a reduction of $4.641 billion in Treasury Stock, $101 million in the par value of Common Stock, $1.545 billion in Paid-in Capital and $2.995 billion in Retained Earnings.
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Table of ContentsCash Flow The following table provides a summary of our cash flow activity for the fiscal years ended January 30, 2010, January 31, 2009 and February 2, 2008:
Operating Activities Net cash provided by operating activities in 2009 was $1.174 billion. Net income of $448 million included $393 million of depreciation and amortization. Other changes in assets and liabilities represent items that had a current period cash flow impact, such as changes in working capital. The most significant working capital change was a $156 million increase in operating cash flow associated with a reduction in inventories. Inventory levels decreased compared to 2008 due to a concerted effort to control and reduce inventory levels across the enterprise. Net cash provided by operating activities in 2008 was $954 million. Net income of $216 million included (a) $377 million of depreciation and amortization, (b) a $215 million impairment of goodwill and other intangible assets and (c) a $109 million net gain on joint ventures. Other changes in assets and liabilities represent items that had a current period cash flow impact, such as changes in working capital. The most significant working capital change was a $103 million increase in operating cash flow associated with a reduction in accounts receivable due primarily to reduced sourcing and other transition services billings to Express and Limited Stores. Net cash provided by operating activities in 2007 was $765 million consisting primarily of net income of $696 million. Net income included (a) $385 million of depreciation and amortization, (b) the $302 million gain on divestiture of Express, and (c) the $100 million gain on distribution from Easton Town Center, LLC. Other changes in assets and liabilities represent items that had a current period cash flow impact, such as changes in working capital. The most significant working capital change was a $337 million increase in operating cash flow associated with a reduction in inventories. Inventory levels decreased compared to 2006 due to a concerted effort to control and reduce inventory levels across the enterprise and due to reductions in safety stocks at Bath & Body Works that increased during 2006 in connection with the 2006 supply chain system conversion. Accounts receivable increased due to the Apparel divestitures, which caused Mast’s accounts receivable from Express and Limited Stores to be recognized as third-party receivables on our balance sheet. Investing Activities Net cash used for investing activities in 2009 was $162 million consisting primarily of $202 million of capital expenditures partially offset by $32 million of proceeds related to the sale of an asset. The capital expenditures included $163 million for opening new stores and remodeling and improving existing stores. Remaining capital expenditures were primarily related to spending on technology and infrastructure to support growth. Net cash used for investing activities in 2008 was $240 million consisting primarily of $479 million of capital expenditures offset by $159 million from the divestiture of a joint venture and $95 million from returns of capital
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from Express. The capital expenditures included $345 million for opening new stores and remodeling and improving existing stores. Remaining capital expenditures were primarily related to spending on technology and infrastructure to support growth. Net cash provided by investing activities in 2007 was $30 million consisting primarily of (a) $547 million of proceeds from the divestiture of Express, (b) $102 million of proceeds from a distribution from Easton Town Center, LLC, and (c) $97 million of proceeds related to the sale of assets, offset by $749 million of capital expenditures. The capital expenditures included $476 million for opening new stores and remodeling and improving existing stores. Remaining capital expenditures were primarily related to investments in our new distribution center and increased spending on home office, technology and infrastructure. We anticipate spending approximately $250 million to $300 million for capital expenditures in 2010 with the majority relating to opening new stores and remodeling and improving existing stores. We expect to open approximately 50 new stores primarily in Canada. Financing Activities Net cash used for financing activities in 2009 was $387 million consisting primarily of the prepayment of $550 million of our Term Loan, quarterly dividend payments of $0.15 per share, or $193 million, cash payments of $106 million to repurchase 2012 notes and $19 million of costs related to the amendment of our 5-Year Facility and Term Loan in February 2009. These were partially offset by the net proceeds of $473 million from the issuance of $500 million of notes. Net cash used for financing activities in 2008 was $562 million consisting primarily of (a) cash payments of $379 million related to the repurchase of 28 million shares of common stock during the year at a weighted-average price of $13.36 under our November 2007 and October 2008 share repurchase programs and (b) quarterly dividend payments of $0.15 per share, or $201 million. These uses of cash were partially offset by the exercise of stock options of $31 million. Net cash used for financing activities in 2007 was $279 million consisting primarily of (a) cash payments of $1.4 billion related to the repurchase of 59 million shares of common stock during the year at a weighted-average price of $24.01 under our June 2006, June 2007, August 2007 and November 2007 share repurchase programs and (b) quarterly dividend payments of $0.15 per share, or $227 million. These uses of cash were partially offset by (a) debt offering proceeds of $997 million, (b) proceeds from the term loan refinancing of $250 million and (c) the exercise of stock options of $74 million. Contingent Liabilities and Contractual Obligations The following table provides our contractual obligations, aggregated by type, including the maturity profile as of January 30, 2010:
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In connection with the disposition of certain businesses, we have remaining guarantees of approximately $135 million related to lease payments of Express, Limited Stores, Abercrombie & Fitch, Dick’s Sporting Goods (formerly Galyan’s), Lane Bryant, New York & Company and Anne.x under the current terms of noncancelable leases expiring at various dates through 2017. These guarantees include minimum rent and additional payments covering taxes, common area costs and certain other expenses and relate to leases that commenced prior to the disposition of the businesses. In certain instances, our guarantee may remain in effect if the term of a lease is extended. The following table details the guaranteed lease payments during the next five fiscal years and the remaining years thereafter:
In April 2008, we received an irrevocable standby letter of credit from Express of $34 million issued by a third-party bank to mitigate a portion of our contingent liability for guaranteed future lease payments of Express. We can draw from the irrevocable standby letter of credit if Express were to default on any of the guaranteed leases. The irrevocable standby letter of credit is reduced through November 1, 2010, the expiration date of the letter of credit, consistent with the overall reduction in guaranteed lease payments. The outstanding balance of the irrevocable standby letter of credit from Express was $6 million as of January 30, 2010. Our guarantees related to Express, Limited Stores and New York & Company require fair value accounting in accordance with U.S. generally accepted accounting principles (“GAAP”) in effect at the time of these divestitures. The guaranteed lease payments related to Express (net of the irrevocable standby letter of credit),
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Limited Stores and New York & Company totaled $84 million and $94 million as of January 30, 2010 and January 31, 2009, respectively. The estimated fair value of these guarantee obligations was $9 million and $15 million as of January 30, 2010 and January 31, 2009, respectively, and is included in Other Long-term Liabilities on our Consolidated Balance Sheets. The decrease in the fair value from January 31, 2009 to January 30, 2010 reflects the impact of the current economic environment and our assessment of the risk of default on the guaranteed lease payments. Our guarantees related to Abercrombie & Fitch, Dick’s Sporting Goods (formerly Galyan’s), Lane Bryant and Anne.x are not subject to the fair value accounting, but require that a loss be accrued when probable and reasonably estimable based on U.S. GAAP in effect at the time of these divestitures. As of January 30, 2010 and January 31, 2009, we had no liability recorded with respect to any of the guarantee obligations as we concluded that payment under these guarantees was not probable. Off Balance Sheet Arrangements We have no off balance sheet arrangements as defined by Regulation 229.303 Item 303 (a) (4). Recently Issued Accounting Pronouncements Accounting Standards Codification (“Codification”) and the Hierarchy of Generally Accepted Accounting Principles (“GAAP”) In June 2009, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Codification (“ASC”) Subtopic 105, Generally Accepted Accounting Principles, which reorganizes the thousands of U.S. GAAP pronouncements into roughly 90 accounting topics and displays all topics using a consistent structure. It also includes relevant SEC guidance that follows the same topical structure in separate sections in the Codification. In the third quarter of 2009, we changed our historical U.S. GAAP references to comply with the Codification. The adoption of this guidance did not impact our results of operations, financial condition or liquidity since the Codification is not intended to change or alter existing U.S. GAAP. Subsequent Events In May 2009, the FASB issued authoritative guidance included in ASC Subtopic 855, Subsequent Events, which incorporates guidance on subsequent events into authoritative accounting literature and clarifies the time following the balance sheet date that must be considered for subsequent events disclosures in the financial statements. In the second quarter of 2009, we adopted this guidance which requires disclosure of the date through which subsequent events have been reviewed. This guidance did not change our procedures for reviewing subsequent events. In February 2010, the FASB issued Accounting Standards Update 2010-09 to amend ASC Subtopic 855, Subsequent Events, to not require disclosure of the date through which management evaluated subsequent events in the financial statements for either originally issued financial statements or reissued financial statements. Derivative Instruments and Hedging Activities In March 2008, the FASB issued authoritative guidance included in ASC Subtopic 815, Derivatives and Hedging, which requires disclosures about the fair value of derivative instruments and their gains or losses in tabular format as well as disclosures regarding credit-risk-related contingent features in derivative agreements, counterparty credit risk and strategies and objectives for using derivative instruments. This guidance amends and expands previously released authoritative guidance and became effective prospectively beginning in 2009. In the first quarter of 2009, we adopted this guidance. For additional information, see Note 4 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data.
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Table of ContentsConsolidation In December 2007, the FASB issued authoritative guidance included in ASC Subtopic 810, Consolidation, which modifies reporting for noncontrolling interest (minority interest) in consolidated financial statements. This guidance requires noncontrolling interest to be reported in equity and establishes a new framework for recognizing net income or loss and comprehensive income or loss by the controlling interest. This guidance further requires specific disclosures regarding changes in equity interest of both the controlling and noncontrolling parties and presentation of the noncontrolling equity balance and income or loss for all periods presented. This guidance became effective for interim and annual periods in fiscal years beginning after December 15, 2008. The statement is applied prospectively upon adoption, however the presentation and disclosure requirements are applied retrospectively. In the first quarter of 2009, we adopted this guidance recharacterizing minority interest as a noncontrolling interest and classifying it as a component of equity in our consolidated financial statements. On June 15, 2009, we filed a Current Report on Form 8-K to reflect the retrospective application to our Annual Report on Form 10-K for the year ended January 31, 2009. Fair Value Measurements In September 2006, the FASB issued authoritative guidance included in ASC Subtopic 820, Fair Value Measurements and Disclosures, which provides guidance for fair value measurement of assets and liabilities and instruments measured at fair value that are classified in shareholders’ equity. This guidance defines fair value, establishes a fair value measurement framework and expands fair value disclosures. It emphasizes that fair value is market-based with the highest measurement hierarchy level being market prices in active markets. This guidance requires fair value measurements be disclosed by hierarchy level, an entity to include its own credit standing in the measurement of its liabilities and modifies the transaction price presumption. In February 2008, the FASB delayed the effective date for this guidance to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). Accordingly, as of February 3, 2008, we adopted the authoritative guidance for financial assets and liabilities only on a prospective basis. As of February 1, 2009, we adopted the remaining provisions. The adoption of this guidance did not have a significant impact on our results of operations, financial condition or liquidity. For additional information, see Note 14 to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data. In January 2010, the FASB issued Accounting Standards Update 2010-06, which amends ASC Subtopic 820, Fair Value Measurement and Disclosures. This guidance requires new disclosures and provides amendments to clarify existing disclosures. The new requirements include disclosing transfers in and out of Levels 1 and 2 fair value measurements and the reasons for the transfers and further disaggregating activity in Level 3 fair value measurements. The clarification of existing disclosure guidance includes further disaggregation of fair value measurement disclosures for each class of assets and liabilities and providing disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2009, except for the new disclosures regarding the activity in Level 3 measurements, which will be effective for fiscal years beginning after December 15, 2010. We will adopt this guidance for the fiscal period beginning January 31, 2010, except for the new disclosure regarding the activity in Level 3 measurements, which we will adopt for the fiscal period beginning January 30, 2011. Impact of Inflation While it is difficult to accurately measure the impact of inflation due to the imprecise nature of the estimates required, we believe the effects of inflation, if any, on the results of operations and financial condition have been minor.
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Critical Accounting Policies and Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to adopt accounting policies related to estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period, as well as the related disclosure of contingent assets and liabilities at the date of the financial statements. On an ongoing basis, management evaluates its accounting policies, estimates and judgments, including those related to inventories, long-lived assets, claims and contingencies, income taxes and revenue recognition. Management bases our estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates. Management has discussed the development and selection of our critical accounting policies and estimates with the Audit Committee of our Board of Directors and believes the following assumptions and estimates are most significant to reporting our results of operations and financial position. Inventories Inventories are principally valued at the lower of cost or market, on a weighted-average cost basis. We record valuation adjustments to our inventories if the cost of specific inventory items on hand exceeds the amount we expect to realize from the ultimate sale or disposal of the inventory. These estimates are based on management’s judgment regarding future demand and market conditions and analysis of historical experience. If actual demand or market conditions are different than those projected by management, future period merchandise margin rates may be unfavorably or favorably affected by adjustments to these estimates. We also record inventory loss adjustments for estimated physical inventory losses that have occurred since the date of the last physical inventory. These estimates are based on management’s analysis of historical results and operating trends. Management believes that the assumptions used in these estimates are reasonable and appropriate. A 10% increase or decrease in the inventory valuation adjustment would have impacted net income by approximately $3 million for 2009. A 10% increase or decrease in the estimated physical inventory loss adjustment would have impacted net income by approximately $2 million for 2009. Valuation of Long-lived Assets Property and equipment and intangible assets with finite lives are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. If the estimated undiscounted future cash flows related to the asset are less than the carrying value, we recognize a loss equal to the difference between the carrying value and the estimated fair value, usually determined by the estimated discounted future cash flows of the asset. When a decision has been made to dispose of property and equipment prior to the end of the previously estimated useful life, depreciation estimates are revised to reflect the use of the asset over the shortened estimated useful life. Goodwill is reviewed for impairment each year in the fourth quarter and may be reviewed more frequently if certain events occur or circumstances change. The impairment review is performed by comparing each reporting unit’s carrying value to its estimated fair value, determined through either estimated discounted future cash flows or market-based methodologies. If the carrying value exceeds the estimated fair value, we determine the fair value of all assets and liabilities of the reporting unit, including the implied fair value of goodwill. If the carrying value of goodwill exceeds the implied fair value, we recognize an impairment charge equal to the difference. Intangible assets with indefinite lives are reviewed for impairment each year in the fourth quarter and may be reviewed more frequently if certain events occur or circumstances change. The impairment review is performed by comparing the carrying value to the estimated fair value, usually determined by the estimated discounted future cash flows of the asset.
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Table of ContentsThe Company estimates the fair value of property and equipment, goodwill and intangible assets in accordance with the provisions of ASC Subtopic 820, Fair Value Measurements and Disclosures. If future economic conditions are different than those projected by management, future impairment charges may be required. Impairment of La Senza Goodwill and Other Intangible Assets In conjunction with the January 2007 acquisition of La Senza, we recorded $313 million in goodwill and $170 million in trade name and other intangible assets. These assets are included in the La Senza reporting unit which is part of the Victoria’s Secret segment. Impairment Recognized 2008 In the latter half of 2008, La Senza was negatively impacted by the global economic downturn and the resulting impact on the Canadian retail environment. As a result, La Senza’s operating results deteriorated significantly, particularly when compared to our expectations at the time of acquisition. In the fourth quarter of 2008, we concluded that the goodwill and certain trade name assets related to the La Senza acquisition were impaired and recorded impairment charges of $189 million and $26 million related to the goodwill and trade name assets, respectively. These impairment charges are included in Impairment of Goodwill and Other Intangible Assets on the 2008 Consolidated Statement of Income. 2009 In the fourth quarter of 2009, we concluded that certain trade names would no longer be utilized within the La Senza business. As a result, we recorded an impairment charge of $3 million. These impairment charges are included in Impairment of Goodwill and Other Intangible Assets on the 2009 Consolidated Statement of Income. Impairment Testing—Goodwill We evaluated La Senza’s goodwill by comparing the carrying value of the La Senza reporting unit to the estimated fair value of the reporting unit derived using a discounted cash flow methodology. We corroborated the estimated fair value of the La Senza reporting unit as determined by our discounted cash flow approach by referencing a market-based methodology. 2008 Based on our 2008 evaluation, the carrying value of the La Senza reporting unit exceeded the estimated fair value. As a result, we measured the goodwill impairment by comparing the carrying value of the reporting unit’s goodwill to the implied value of the goodwill based on the estimated fair value of the reporting unit, considering the fair value of all assets and liabilities. As a result of this analysis, we recognized a goodwill impairment charge of $189 million in 2008. 2009 Our 2009 evaluation indicated that the fair value of the La Senza reporting unit was in excess of the carrying value. As a result, we were not required to calculate the implied value of goodwill and no impairment was recognized. Reasonable changes in the significant estimates and assumptions used to determine the fair value would not have resulted in a goodwill impairment in the La Senza reporting unit. Impairment Testing—Trade names We evaluated the La Senza trade name assets by comparing the carrying value to the estimated fair value determined using a relief from royalty methodology.
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2008 Based on our 2008 evaluation, the carrying value of certain La Senza trade name assets exceeded their estimated fair value and, as a result, we recognized trade name impairment charges of $26 million in 2008. 2009 In the fourth quarter of 2009, we made the decision to exit the La Senza Girl business and recorded an impairment charge of $3 million related to the La Senza Girl trade name and other minor sub-brands. Our 2009 evaluation of the overall La Senza trade name indicated that the fair value was in excess of the carrying value. As a result, no impairment was recognized with regards to this asset. Significant Estimates and Assumptions Our determination of the estimated fair value of the La Senza reporting unit and trade name assets requires significant judgments about economic factors, industry factors, our views regarding the future prospects of the La Senza reporting unit as well as numerous estimates and assumptions that are highly subjective. The estimates and assumptions critical to the overall fair value estimates include: (i) estimated future cash flow generated by La Senza; (ii) discount rates used to derive the present value factors used in determining the fair values; and (iii) the terminal value assumption used in the discounted cash flow methodologies; and (iv) the royalty rate assumption used in the relief from royalty valuation methodology. These and other estimates and assumptions are impacted by economic conditions and expectations of management and may change in the future based on period-specific facts and circumstances. If future economic conditions are different than those projected by management, additional future impairment charges may be required. Sensitivity Analysis The following provides sensitivities to our 2009 significant estimates and assumptions as noted above:
Claims and Contingencies We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. Our determination of the treatment of claims and contingencies in the Consolidated Financial Statements is based on management’s view of the expected outcome of the applicable claim or contingency. We consult with legal counsel on matters related to litigation and seek input from both internal and external experts within and outside our organization with respect to matters in the ordinary course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, disclosure of a material claim or contingency is disclosed in the Notes to the Consolidated Financial Statements included in Item 8. Financial Statements and Supplementary Data. Income Taxes We account for income taxes under the asset and liability method. Under this method, the amount of taxes currently payable or refundable are accrued and deferred tax assets and liabilities are recognized for the estimated
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Table of Contentsfuture tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets are also recognized for realizable operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted income tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in income tax rates is recognized in our Consolidated Statement of Income in the period that includes the enactment date. A valuation allowance is recorded to reduce the carrying amounts of deferred tax assets if it is more likely than not that such assets will not be realized. Significant judgment is required in determining the provision for income taxes and related accruals, deferred tax assets and liabilities. In determining our provision for income taxes, we use an annual effective income tax rate based on annual income, permanent differences between book and tax income and statutory income tax rates. We adjust the annual effective income tax rate as additional information on outcomes or events becomes available. Our effective income tax rate is affected by items including changes in tax law, the tax jurisdiction of new stores or business ventures and the level of earnings. We follow the authoritative guidance included in ASC Subtopic 740, Income Taxes, which contains a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the available evidence indicates it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. We consider many factors when evaluating and estimating our tax positions and tax benefits, which may require periodic adjustments and which may not accurately forecast actual outcomes. Our policy is to include interest and penalties related to uncertain tax positions in income tax expense. Our income tax returns, like those of most companies, are periodically audited by domestic and foreign tax authorities. These audits include questions regarding our tax filing positions, including the timing and amount of deductions and the allocation of income among various tax jurisdictions. At any one time, multiple tax years are subject to audit by the various tax authorities. We record an accrual for more likely than not exposures after evaluating the positions associated with our various income tax filings. A number of years may elapse before a particular matter for which we have established an accrual is audited and fully resolved or clarified. We adjust our tax contingencies accrual and income tax provision in the period in which matters are effectively settled with tax authorities at amounts different from our established accrual when the statute of limitations expires for the relevant taxing authority to examine the tax position or when more information becomes available. Although we believe that our estimates are reasonable, actual results could differ from these estimates resulting in a final tax outcome that may be materially different from that which is reflected in our Consolidated Financial Statements. Revenue Recognition While our recognition of revenue does not involve significant judgment, revenue recognition represents an important accounting policy for our organization. We recognize revenue upon customer receipt of the merchandise. For direct response revenues, we estimate shipments that have not been received by the customer based on shipping terms and historical delivery times. We also provide a reserve for projected merchandise returns based on prior experience. All of our brands sell gift cards with no expiration dates to customers in retail stores, through our direct channels and through third parties. We do not charge administrative fees on unused gift cards. We recognize income from gift cards when they are redeemed by the customer. In addition, we recognize income on unredeemed gift cards when we can determine that the likelihood of the gift card being redeemed is remote and there is no legal obligation to remit the unredeemed gift cards to relevant jurisdictions (gift card breakage). We determine the gift card breakage rate based on historical redemption patterns. Gift card breakage is included in Net Sales in our Consolidated Statements of Income.
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Additionally, we recognize revenue associated with merchandise sourcing services provided to third parties, consisting primarily of former subsidiaries as well as other third parties. Revenue is recognized at the time the title passes to the customer.
Market Risk The market risk inherent in our financial instruments represents the potential loss in fair value, earnings or cash flows arising from adverse changes in foreign currency exchange rates or interest rates. We use derivative financial instruments like the cross-currency swaps and the participating interest rate swap arrangement to manage exposure to market risks. We do not use derivative financial instruments for trading purposes. Foreign Exchange Rate Risk Our foreign exchange rate translation exposure is primarily the result of the January 2007 acquisition of La Senza Corporation, whose operations are conducted primarily in Canada. To mitigate the translation risk to our earnings and the fair value of our investment in La Senza associated with fluctuations in the U.S. dollar-Canadian dollar exchange rate, we entered into a series of cross-currency swaps related to Canadian dollar denominated intercompany loans. These cross-currency swaps require the periodic exchange of fixed rate Canadian dollar interest payments for fixed rate U.S. dollar interest payments as well as exchange of Canadian dollar and U.S. dollar principal payments upon maturity. The swap arrangements mature between 2015 and 2018 at the same time as the related loans. As a result of the Canadian dollar denominated intercompany loans and the related cross-currency swaps, we do not believe there is any material translation risk to La Senza’s net earnings associated with fluctuations in the U.S. dollar-Canadian dollar exchange rate. In addition, our Canadian dollar denominated earnings are subject to U.S. dollar-Canadian dollar exchange rate risk as substantially all of our merchandise sold in Canada is sourced through U.S. dollar transactions. Interest Rate Risk Our investment portfolio primarily consists of interest-bearing instruments that are classified as cash and cash equivalents based on their original maturities. Our investment portfolio is maintained in accordance with our investment policy, which specifies permitted types of investments, specifies credit quality standards and maturity profiles and limits credit exposure to any single issuer. The primary objective of our investment activities are the preservation of principal, the maintenance of liquidity and the maximization of interest income while minimizing risk. Currently, our investment portfolio is comprised of U.S. and Canadian government obligations, U.S. Treasury and AAA-rated money market funds, bank time deposits, and highly-rated commercial paper. Given the short-term nature and quality of investments in our portfolio, we do not believe there is any material risk to principal associated with increases or decreases in interest rates. All of our long-term debt as of January 30, 2010 has fixed interest rates with the exception of our Term Loan. Thus, our exposure to interest rate changes is limited to the fair value of the debt issued, which would not have a material impact on our earnings or cash flows. The Term Loan contains a variable interest rate that fluctuates based on changes in an underlying benchmark interest rate and changes in our credit rating. In January 2008, we executed a participating interest rate swap arrangement which limited our exposure to increases in the benchmark interest rate while allowing us to partially participate in any decreases in the benchmark interest rate. In March 2010, we prepaid the remaining $200 million of the Term Loan and terminated the remaining portion of the participating interest rate swap arrangement. Fair Value of Financial Instruments As of January 30, 2010, management believes that the carrying values of cash and cash equivalents, receivables and payables approximate fair value because of the short maturity of these financial instruments.
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Table of ContentsThe following table provides a summary of the carrying value and fair value of long-term debt and swap arrangements as of January 30, 2010 and January 31, 2009:
The increase in estimated fair value of our long-term debt from January 31, 2009 to January 30, 2010 reflects the decrease in volatility in the credit markets in comparison to 2008. The change in fair value of the cross-currency swap arrangements from January 31, 2009 to January 30, 2010 is primarily due to the fluctuations in the U.S. dollar-Canadian dollar exchange rate. The change in fair value of the participating interest rate swap arrangement from January 31, 2009 to January 30, 2010 is primarily due to the termination and settlement of portions of the participating interest rate swap arrangements in conjunction with prepayments of our Term Loan throughout 2009. Concentration of Credit Risk We maintain cash and cash equivalents with various major financial institutions, as well as corporate commercial paper. Currently, our investment portfolio is comprised of U.S. and Canadian government obligations, U.S. Treasury and AAA-rated money market funds, bank time deposits, and highly-rated commercial paper. We monitor the relative credit standing of financial institutions and other entities with whom we transact and limit the amount of credit exposure with any one entity. We also monitor the creditworthiness of entities to which we grant credit terms in the normal course of business and counterparties to derivative instruments.
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Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995 Limited Brands, Inc. cautions that any forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) contained in this report or made by our company or our management involve risks and uncertainties and are subject to change based on various factors, many of which are beyond our control. Accordingly, our future performance and financial results may differ materially from those expressed or implied in any such forward-looking statements. Words such as “estimate,” “project,” “plan,” “believe,” “expect,” “anticipate,” “intend,” “planned,” “potential” and similar expressions may identify forward-looking statements. Risks associated with the following factors, among others, in some cases have affected and in the future could affect our financial performance and actual results and could cause actual results to differ materially from those expressed or implied in any forward-looking statements included in this report or otherwise made by our company or our management:
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We are not under any obligation and do not intend to make publicly available any update or other revisions to any of the forward-looking statements contained in this report to reflect circumstances existing after the date of this report or to reflect the occurrence of future events even if experience or future events make it clear that any expected results expressed or implied by those forward-looking statements will not be realized.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. LIMITED BRANDS, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Our fiscal year ends on the Saturday closest to January 31. Fiscal years are designated in the Consolidated Financial Statements and Notes by the calendar year in which the fiscal year commences. The results for fiscal years 2009, 2008 and 2007 represent the 52 week period ending January 30, 2010, January 31, 2009 and February 2, 2008, respectively.
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Table of ContentsManagement’s Report on Internal Control Over Financial Reporting Management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Company’s internal control system is designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the preparation and fair presentation of published financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Management assessed the effectiveness of the Company’s internal control over financial reporting as of January 30, 2010. In making this assessment, management used the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Based on our assessment and the COSO criteria, management believes that the Company maintained effective internal control over financial reporting as of January 30, 2010. The Company’s independent registered public accounting firm, Ernst & Young LLP, has issued an attestation report on the Company’s internal control over financial reporting. Ernst & Young LLP’s report appears on the following page and expresses an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting as of January 30, 2010.
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Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting To the Board of Directors and Shareholders of Limited Brands, Inc.: We have audited Limited Brands, Inc. and subsidiaries’ internal control over financial reporting as of January 30, 2010, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Limited Brands, Inc.’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, Limited Brands, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of January 30, 2010, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Consolidated Balance Sheets of Limited Brands, Inc. and subsidiaries as of January 30, 2010 and January 31, 2009, and the related Consolidated Statements of Income, Total Equity, and Cash Flows for each of the three years in the period ended January 30, 2010 of Limited Brands, Inc. and subsidiaries, and our report dated March 26, 2010 expressed an unqualified opinion thereon. /s/ Ernst & Young LLP Columbus, Ohio March 26, 2010
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Table of ContentsReport of Independent Registered Public Accounting Firm on Consolidated Financial Statements To the Board of Directors and Shareholders of Limited Brands, Inc.: We have audited the accompanying Consolidated Balance Sheets of Limited Brands, Inc. and subsidiaries as of January 30, 2010 and January 31, 2009, and the related Consolidated Statements of Income, Total Equity, and Cash Flows for each of the three years in the period ended January 30, 2010. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Limited Brands, Inc. and subsidiaries at January 30, 2010 and January 31, 2009, and the consolidated results of their operations and their cash flows for each of the three years in the period ended January 30, 2010, in conformity with U.S. generally accepted accounting principles. As discussed in Note 2 to the consolidated financial statements, in 2007 the Company adopted Financial Accounting Standards Board Accounting Standards Codification Topic 740, Income Taxes. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Limited Brands, Inc. and subsidiaries’ internal control over financial reporting as of January 30, 2010, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 26, 2010 expressed an unqualified opinion thereon. /s/ Ernst & Young LLP Columbus, Ohio March 26, 2010
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LIMITED BRANDS, INC. CONSOLIDATED STATEMENTS OF INCOME (in millions except per share amounts)
The accompanying Notes are an integral part of these Consolidated Financial Statements.
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Table of ContentsLIMITED BRANDS, INC. CONSOLIDATED BALANCE SHEETS (in millions except per share amounts)
The accompanying Notes are an integral part of these Consolidated Financial Statements.
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LIMITED BRANDS, INC. CONSOLIDATED STATEMENTS OF TOTAL EQUITY (in millions except per share amounts)
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