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FL > SEC Filings for FL > Form 10-Q on 11-Sep-2013All Recent SEC Filings

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Form 10-Q for FOOT LOCKER INC


11-Sep-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

BUSINESS OVERVIEW

Foot Locker, Inc., through its subsidiaries, operates in two reportable segments
- Athletic Stores and Direct-to-Customers. The Athletic Stores segment is one of the largest athletic footwear and apparel retailers in the world, whose formats include Foot Locker, Lady Foot Locker, Kids Foot Locker, Champs Sports, Footaction, as well as the retail stores of Runners Point Group, including Runners Point, Sidestep, and Run2, which was acquired during the second quarter of 2013. The Direct-to-Customers segment is multi-branded and multi-channeled. This segment sells, through its affiliates, directly to customers through its Internet websites, mobile devices, and catalogs. Eastbay, one of the affiliates, is among the largest direct marketers in the United States. The Direct-to-Customers segment operates the websites for eastbay.com, final-score.com, eastbayteamservices.com, ccs.com, as well as websites aligned with the brand names of its store banners (footlocker.com, ladyfootlocker.com, kidsfootlocker.com, footaction.com, and champssports.com). Additionally, this segment includes Tredex, the direct-to-customer subsidiary of Runners Point Group, which operates the websites for runnerspoint.com, sidestep.com, and sp24.com.

STORE COUNT

At August 3, 2013, the Company operated 3,495 stores as compared with 3,335 and 3,354 stores at February 2, 2013 and July 28, 2012, respectively. Store count as of August 3, 2013 includes 194 Runners Point Group stores under the Runners Point, Sidestep, and Run2 banners. Excluding the acquired locations, the Company opened 49 stores, remodeled or relocated 153 stores and closed 83 stores during the twenty-six weeks ended August 3, 2013. As previously announced, the Company closed all of its 22 CCS stores, included in the total store closures above, during the second quarter of 2013.

A total of 69 franchised stores were operating at August 3, 2013, as compared with 42 and 37 stores at February 2, 2013 and July 28, 2012, respectively. Included in the most recent number of franchised stores are 24 franchised Runners Point Group stores operating in Germany and Switzerland. Royalty income from the franchised stores was not significant for any of the periods presented. These stores are not included in the Company's operating store count above.

SALES AND OPERATING RESULTS

All references to comparable-store sales for a given period relate to sales of stores that are open at the period-end and have been open for more than one year. The computation of comparable-store sales also includes the sales of the Direct-to-Customers segment. Stores opened or closed during the period are not included in the comparable-store base; however, stores closed temporarily for relocation or remodeling are included. Computations exclude the effect of foreign currency fluctuations.

Sales from acquired businesses that include inventory are included in the computation of comparable-store sales after 15 months of operations. Accordingly, sales of Runners Point Group have been excluded from the computation of comparable-store sales.

The following table summarizes results by segment:

                          Thirteen weeks ended            Twenty-six weeks ended
Sales                  August 3,         July 28,       August 3,         July 28,
(in millions)            2013              2012           2013              2012
Athletic Stores       $     1,313       $    1,248     $     2,784       $     2,685
Direct-to-Customers           141              119             308               260
Total sales           $     1,454       $    1,367     $     3,092       $     2,945




                                  Thirteen weeks ended           Twenty-six weeks ended
Operating Results              August 3,        July 28,       August 3,          July 28,
(in millions)                     2013            2012           2013               2012
Athletic Stores (1)            $      116       $     107     $       327         $     314
Direct-to-Customers                    10              11              33                29
Division profit                       126             118             360               343
Less: Corporate expense, net           20              25              39                48
Operating profit                      106              93             321               295
Other income (2)                        1               1               3                 1
Interest expense, net                   1               1               2                 2
Income before income taxes     $      106       $      93     $       322         $     294

(1) Included in the Athletic Stores segment for both the thirteen and twenty-six weeks ended August 3, 2013 is a $2 million charge recorded in connection with the closure of all CCS stores.

(2) Other income includes non-operating items, such as lease termination gains, royalty income, and the changes in fair value, premiums paid and realized gains associated with foreign currency option contracts.

Sales increased by $87 million, or 6.4 percent, to $1,454 million for the thirteen weeks ended August 3, 2013 from $1,367 million for the thirteen weeks ended July 28, 2012. For the twenty-six weeks ended August 3, 2013, sales of $3,092 million increased 5.0 percent from sales of $2,945 million for the twenty-six week period ended July 28, 2012. The total increase reflects the shift caused by the 53rd week in 2012 as well as the addition of the Runners Point Group since the date of acquisition.

Excluding the effect of foreign currency fluctuations, total sales for the thirteen week and twenty-six week periods increased 5.9 percent and 4.9 percent, respectively, as compared with the corresponding prior-year periods. Comparable-store sales increased by 1.8 percent and 3.5 percent for the thirteen weeks and twenty-six weeks ended August 3, 2013, respectively.

Gross margin, as a percentage of sales, decreased to 31.2 percent for the thirteen weeks ended August 3, 2013, as compared with 31.3 percent in the corresponding prior-year period. As a percentage of sales, the cost of merchandise for the thirteen weeks ended August 3, 2013 increased by 20 basis points as compared with the prior year period, primarily reflecting a decrease in the initial markup rate. This increase was partially offset by an improvement of 10 basis points from leveraging of occupancy and buying costs.

Gross margin, as a percentage of sales, remained unchanged at 32.8 percent for the twenty-six weeks ended August 3, 2013 and July 28, 2012.

Segment Analysis

Athletic Stores

Athletic Stores sales increased by 5.2 percent to $1,313 million and 3.7 percent to $2,784 million for the thirteen and twenty-six weeks ended August 3, 2013, respectively, as compared with the corresponding prior-year periods. Excluding the effect of foreign currency fluctuations, sales from athletic stores increased 4.7 percent and 3.6 percent for the thirteen and twenty-six weeks ended August 3, 2013, respectively, as compared with the corresponding prior-year periods. Comparable-store sales increased by 0.5 percent and 2.2 percent for the thirteen and twenty-six weeks ended August 3, 2013, respectively. Sales in the U.S., Australia, New Zealand, and Europe increased, while sales in Canada were essentially flat. Sales in the U.S. for the thirteen weeks and twenty-six weeks ended August 3, 2013, were primarily driven by Kids Foot Locker, which posted strong comparable-store gains. The children's footwear category was a key driver across multiple banners, as basketball styles performed very well.

Foot Locker Europe also posted a strong comparable-store gain for the thirteen weeks ended August 3, 2013 and a low single-digit comparable-store increase for the twenty-six weeks ended August 3, 2013. These increases were primarily related to sales of men's basketball and running styles. In addition, Foot Locker Europe's results include $20 million in sales for the athletic stores related to Runners Point Group, representing the one month of activity since the acquisition.

Lady Foot Locker continued to experience sales declines, as management continues to close underperforming stores and redefine the product offerings. Test locations, including SIX:02, continue to be evaluated and various initiatives are being implemented in an effort to improve future performance.

Athletic Stores division profit for the thirteen weeks ended August 3, 2013 increased to $116 million, or 8.8 percent, as a percentage of sales, as compared with division profit of $107 million, or 8.6 percent, as a percentage of sales, for the thirteen weeks ended July 28, 2012. For the twenty-six weeks ended August 3, 2013 division profit increased to $327 million, or 11.7 percent, as a percentage of sales, as compared with division profit of $314 million, or 11.7 percent, as a percentage of sales, for the corresponding prior-year period. These increases were mainly attributable to higher sales combined with continued expense control, specifically wages and marketing expenses.

Direct-to-Customers

Direct-to-Customers sales increased by 18.5 percent for both the thirteen and twenty-six weeks ended August 3, 2013 as compared with the corresponding prior-year periods. On a comparable week basis, due to the shift caused by the 53rd week in 2012, sales increased 18.1 percent. These increases were primarily the result of the continued strong sales performance of Company's store-banner websites and Eastbay.

Direct-to-Customers division profit decreased 9.1 percent to $10 million, and increased 13.8 percent to $33 million, for the thirteen and twenty-six weeks ended August 3, 2013, respectively, as compared with the corresponding prior-year periods. Division profit, as a percentage of sales, decreased to 7.1 percent and 10.7 percent for the thirteen and twenty-six weeks ended August 3, 2013, respectively, as compared with 9.2 percent and 11.2 percent, respectively, in the corresponding prior-year periods. The decrease in division profit for the thirteen weeks ended August 3, 2013 is primarily driven by increased advertising and publicity expense, as Eastbay launched a new marketing campaign late in the second quarter of 2013 to increase the exposure of the brand. The continued strong sales performance drove the profit increase for the twenty-six weeks ended August 3, 2013 and more than offset the additional advertising and publicity expense of the second quarter.

Corporate Expense

Corporate expense consists of unallocated selling, general and administrative expenses ("SG&A"), as well as depreciation and amortization related to the Company's corporate headquarters, centrally managed departments, unallocated insurance and benefit programs, certain foreign exchange transaction gains and losses, and other items. Corporate expense for the thirteen weeks ended August 3, 2013 decreased by $5 million to $20 million from the corresponding prior-year period. Corporate expense for the twenty-six weeks ended August 3, 2013 decreased by $9 million to $39 million from the corresponding prior-year period. The decline is primarily a result of a reallocation of expense between corporate and the operating divisions. Based upon an internal study of corporate expense, the allocation of such expenses to the operating divisions was increased thereby reducing corporate expense. This decrease was partially offset by $3 million and $4 million for the thirteen and twenty-six weeks ended August 3, 2013, respectively, of costs incurred related to the Company's acquisition and integration of Runners Point Group.

Selling, General and Administrative

SG&A of $314 million increased by $8 million, or 2.6 percent, for the thirteen weeks ended August 3, 2013 as compared with the corresponding prior-year period. SG&A, as a percentage of sales, decreased to 21.6 percent for the thirteen weeks ended August 3, 2013, as compared with 22.4 percent in the corresponding prior-year period. For the twenty-six weeks ended August 3, 2013, SG&A increased by $17 million, or 2.8 percent, as compared with the corresponding prior-year period. SG&A, as a percentage of sales, decreased to 20.3 percent for the twenty-six weeks ended August 3, 2013, as compared with 20.8 percent in the corresponding prior-year period. The improvement as a percentage of sales was driven by effective expense management, specifically store wages and marketing. Excluding the effect of foreign currency fluctuations, SG&A increased by $6 million and $16 million for the thirteen and twenty-six weeks ended August 3, 2013, respectively, as compared with the corresponding prior-year periods. Included in SG&A for the thirteen and twenty-six weeks ended August 3, 2013, is $3 million and $4 million, respectively, of costs related to the Company's acquisition and integration of Runners Point Group as noted above in the discussion of corporate expense. Additionally, SG&A increased partially due to the inclusion of Runners Point Group.

Depreciation and Amortization

Depreciation and amortization increased by $2 million for the thirteen weeks ended August 3, 2013 to $31 million, as compared with the corresponding prior-year period of $29 million. For the twenty-six weeks ended August 3, 2013, depreciation and amortization increased by $4 million to $62 million as compared with $58 million for the twenty-six weeks ended July 28, 2012. This increase reflects increased capital spending on store improvements and technology. The effects of foreign currency fluctuations and the acquisition of Runners Point Group were not significant.

Other Charges

Other charges consist of $2 million of lease exit costs relating to the closure of all 22 CCS stores during the second quarter of 2013. Of these stores, 8 have been converted to other store formats as of August 3, 2013 and 6 will be converted to other store formats by the end of the year. The CCS store closures are not presented as part of discontinued operations as the operations and cash flows related to the majority of the closed stores are expected to continue through other store formats and the Company's websites.

Interest Expense



                            Thirteen weeks ended            Twenty-six weeks ended
                        August 3,          July 28,      August 3,           July 28,
(in millions)              2013              2012           2013               2012
Interest expense        $        2         $       2     $        5         $        5
Interest income                 (1 )              (1 )           (3 )               (3 )
Interest expense, net   $        1         $       1     $        2         $        2

Income Taxes

The Company recorded income tax provisions of $40 million and $118 million, which represent effective tax rates of 37.7 percent and 36.6 percent for the thirteen weeks and twenty-six weeks ended August 3, 2013, respectively. For the thirteen weeks and twenty-six weeks ended July 28, 2012, the Company recorded income tax provisions of $34 million and $107 million, which represented effective tax rates of 36.7 percent and 36.5 percent, respectively. The Company's interim provision for income taxes is measured using an annual effective tax rate, adjusted for discrete items that occur within the periods presented.

The Company regularly assesses the adequacy of its provisions for income tax contingencies in accordance with the applicable authoritative guidance on accounting for income taxes. As a result, the Company may adjust the reserves for unrecognized tax benefits considering new facts and developments, such as changes to interpretations of relevant tax law, assessments from taxing authorities, settlements with taxing authorities, and lapses of statutes of limitation. Included in the thirteen weeks ended August 3, 2013 is an additional state tax provision of $1 million. The changes in the tax reserves for the thirteen weeks ended July 28, 2012 were not significant. Included in the twenty-six weeks ended August 3, 2013 and July 28, 2012 are tax benefits of $2 million and $3 million, respectively, from reserve releases due to settlements of federal, state, and foreign tax examinations.

For the thirteen weeks ended August 3, 2013, in connection with the purchase of Runners Point Group, the Company recorded a discrete item of $1 million representing non-deductible acquisition costs. The effective tax rate for the thirteen weeks ended July 28, 2012 included a tax benefit related to a Canadian provincial tax rate change that resulted in a $1 million increase in the value of the Company's net deferred tax assets.

Excluding the reserve activity and other discrete items, the effective tax rate for the thirteen and twenty-six weeks ended August 3, 2013 decreased as compared with the corresponding prior-year period, due primarily to the effect of certain recently implemented tax planning initiatives.

Subsequent to the second quarter, in August 2013, the Company released reserves of approximately $3 million due to the settlement of a foreign audit. The Company currently expects its third quarter and full year tax rate to approximate 37 percent, excluding the effect of the foreign audit settlement and any additional nonrecurring items that may occur. The actual tax rates will primarily depend on the level and mix of income earned in the United States as compared with its international operations.

Net Income

For the thirteen weeks and twenty-six weeks ended August 3, 2013, net income increased by $7 million, or 11.9 percent, and $17 million, or 9.1 percent, respectively, as compared with the corresponding prior-year periods.

Reconciliation of Non-GAAP Measures



The Company provides non-GAAP information to assist investors with the
comparison of the Company's results period over period. The following represents
the reconciliation of the non-GAAP measures:



                                             Thirteen weeks ended              Twenty-six weeks ended
                                         August 3,          July 28,        August 3,          July 28,
(in millions)                              2013               2012            2013               2012
Net income, as reported                 $        66       $         59     $       204       $        187
After-tax adjustments to arrive at
non-GAAP:
Runners Point Group acquisition and
integration costs                                 2                  -               3                  -
CCS store closure costs                           1                  -               1                  -
Canadian tax rate change                          -                 (1 )             -                 (1 )
Net income, non-GAAP                    $        69       $         58     $       208       $        186

Diluted EPS, as reported                $      0.44       $       0.39     $      1.34       $       1.21
Adjustments to arrive at non-GAAP:
Runners Point Group acquisition and
integration costs                              0.01                  -            0.02                  -
CCS store closure costs                        0.01                  -            0.01                  -
Canadian tax rate change                          -              (0.01 )             -              (0.01 )
Diluted EPS, non-GAAP                   $      0.46       $       0.38     $      1.37       $       1.20

In 2009, the Company excluded from its non-GAAP results the effect of a Canadian provincial tax rate change. During the thirteen weeks ended July 28, 2012, the Company recorded a benefit of $1 million, or $0.01 per diluted per share, to reflect the repeal of the last two stages of certain Canadian provincial tax rate changes. This benefit was excluded from the non-GAAP results, consistent with the prior year's presentation.

The non-GAAP financial measure is provided in addition to, and not as an alternative to, the Company's reported results prepared in accordance with GAAP.

LIQUIDITY AND CAPITAL RESOURCES

The Company's primary source of liquidity has been cash flow from operations, while the principal uses of cash have been to: fund inventory and other working capital requirements; finance capital expenditures related to store openings, store remodelings, Internet and mobile sites, information systems, and other support facilities; make retirement plan contributions, quarterly dividend payments, and interest payments; and fund other cash requirements to support the development of its short-term and long-term operating strategies. The Company generally finances real estate with operating leases. Management believes its cash, cash equivalents, future cash flow from operations, and the Company's current revolving credit facility will be adequate to fund these requirements.

The Company may also from time to time repurchase its common stock or seek to retire or purchase outstanding debt through open market purchases, privately negotiated transactions, or otherwise. Such repurchases, if any, will depend on prevailing market conditions, liquidity requirements, contractual restrictions, and other factors. The amounts involved may be material.

Any material adverse change in customer demand, fashion trends, competitive market forces, or customer acceptance of the Company's merchandise mix and retail locations, uncertainties related to the effect of competitive products and pricing, the Company's reliance on a few key vendors for a significant portion of its merchandise purchases and risks associated with global product sourcing, economic conditions worldwide, the effects of currency fluctuations, as well as other factors listed under the heading "Disclosure Regarding Forward-Looking Statements," could affect the ability of the Company to continue to fund its needs from business operations.

Operating Activities

Net cash provided by operating activities was $240 million and $161 million for the twenty-six weeks ended August 3, 2013 and July 28, 2012, respectively. These amounts reflect net income adjusted for non-cash items and seasonal working capital changes. The increase in operating cash flow is primarily the result of strong sales during the first two quarters, and improved working capital management. Additionally, cash paid for income taxes declined $38 million to $99 million for the twenty-six weeks ended August 3, 2013.

Investing Activities

Net cash used in investing activities was $189 million and $137 million for the twenty-six weeks ended August 3, 2013 and July 28, 2012. During the twenty-six weeks ended August 3, 2013, the Company completed its purchase of Runners Point Group for $84 million, net of cash acquired. In addition, the Company spent $107 million on capital expenditures as compared with $87 million in the corresponding prior-year period, primarily reflecting the Company's initiative to modernize its existing stores. The Company's current full-year forecast for capital expenditures is $216 million, of which $171 million relates to the modernizations of existing stores and new store openings and $45 million for the development of information systems and infrastructure.

Financing Activities

Net cash used in financing activities was $135 million and $90 million for the twenty-six weeks ended August 3, 2013 and July 28, 2012, respectively. The Company purchased 2,826,073 shares of its common stock at a cost of $100 million. This compares to 2,120,261 shares repurchased for $65 million in the corresponding prior-year period. The Company declared and paid dividends during the first two quarters of 2013 and 2012 of $60 million and $55 million, respectively. This represents a quarterly rate of $0.20 and $0.18 per share for 2013 and 2012, respectively. The Company received proceeds from the issuance of common stock in connection with employee stock programs of $18 million and $25 million for the twenty-six weeks ended August 3, 2013 and July 28, 2012, respectively. In connection with stock option exercises and share-based compensation programs, the Company recorded excess tax benefits of $7 million as a financing activity during both the twenty-six week periods ended August 3, 2013 and July 28, 2012.

Recent Accounting Pronouncements

During the first quarter of 2013, the Company adopted Accounting Standards Update 2013-02, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified out of Accumulated Other Comprehensive Income ("ASU 2013-02"). ASU 2013-02 amended existing guidance by requiring additional disclosure either on the face of the income statement or in the notes to the financial statements of significant amounts reclassified out of accumulated other comprehensive income. The provisions of this new guidance were effective prospectively as of the beginning of 2013. Accordingly, enhanced footnote disclosure is included in Note
5. The adoption of ASU 2013-02 had no effect on our results of operations or financial position.

We performed our annual goodwill impairment assessment during the first quarter of 2013, using a qualitative approach as permitted under Accounting Standards Update No. 2011-08, Testing Goodwill for Impairment. In performing the assessment, we identified and considered the significance of relevant key factors, events, and circumstances that affected the fair value and/or carrying amounts of our reporting units. These factors included external factors such as macroeconomic, industry and market conditions, as well as entity-specific factors, such as our actual and planned financial performance. Based on the results of the impairment assessment performed, we concluded that it is more likely than not that the fair values of our reporting units substantially exceeded their respective carrying values and there are no reporting units at risk of impairment.

Other recently issued accounting pronouncements did not, or are not believed by management to, have a material effect on the Company's present or future consolidated financial statements.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

There have been no significant changes to the Company's critical accounting policies and estimates from the information provided in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations," included in the Annual Report on Form 10-K for the fiscal year ended February 2, 2013 except for the addition of the critical accounting policy set forth below.

Business Combinations

The Company accounts for acquisitions of other businesses by recording the net assets of the acquired businesses at fair value and making estimates and assumptions to determine the fair value of these acquired assets and liabilities. The Company will allocate the purchase price of the acquired business based, in part, upon internal estimates of cash flows and considering the report of a third-party valuation expert retained to assist the Company. Changes to the assumptions used to estimate the fair value could affect the recorded amounts of the assets acquired and the resultant goodwill.

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements within the meaning of the federal securities laws. Other than statements of historical facts, all statements which address activities, events, or developments that the Company anticipates will or may occur in the future, including, but not limited to, such things as future capital expenditures, expansion, strategic plans, financial objectives, dividend payments, stock repurchases, growth of the Company's business and operations, including future cash flows, revenues, and earnings, and other such matters, are forward-looking statements. These forward-looking statements are based on many assumptions and factors which are detailed in the Company's filings with the Securities and Exchange Commission, including the effects of currency fluctuations, customer demand, fashion trends, competitive market forces, uncertainties related to the effect of competitive products and pricing, customer acceptance of the Company's merchandise mix and retail locations, the Company's reliance on a few key vendors for a majority of its merchandise purchases (including a significant portion from one key vendor), pandemics and similar major health concerns, unseasonable weather, further . . .

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