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FL > SEC Filings for FL > Form 10-Q on 7-Dec-2016All Recent SEC Filings

Show all filings for FOOT LOCKER, INC.

Form 10-Q for FOOT LOCKER, INC.


7-Dec-2016

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, with formats that include Foot Locker, Lady Foot Locker, Kids Foot Locker, SIX:02, Champs Sports, Footaction, Runners Point, and Sidestep. The Direct-to-Customers segment includes Footlocker.com, Inc. and other affiliates, including Eastbay, Inc., and our international ecommerce businesses, which sell to customers through their Internet and mobile sites, and catalogs.

The Foot Locker brand is one of the most widely recognized names in the markets in which the Company operates, epitomizing premium quality for the active lifestyle customer. This brand equity has aided the Company's ability to successfully develop and increase its portfolio of complementary retail store formats, such as Lady Foot Locker, and Kids Foot Locker, as well as Footlocker.com, its direct-to-customer business. Through various marketing channels, including broadcast, digital, social, print, and various sports sponsorships and events, the Company reinforces its image with a consistent message - namely, that it is the destination for athletically inspired shoes and apparel with a wide selection of merchandise in a full-service environment.

Store Count

At October 29, 2016, the Company operated 3,394 stores as compared with 3,383 and 3,432 stores at January 30, 2016 and October 31, 2015, respectively. A total of 71 franchised stores were operating at October 29, 2016, as compared with 64 stores at both January 30, 2016 and October 31, 2015. Revenue 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.

Reconciliation of Non-GAAP Measures

The Company presents certain non-GAAP measures, such as sales changes excluding foreign currency fluctuations, adjusted net income before income taxes, adjusted net income, and adjusted diluted earnings per share. The Company presents these non-GAAP measures because we believe they assist investors in comparing our performance across reporting periods on a consistent basis by excluding items that are not indicative of our core business. In addition, these non-GAAP measures are useful in assessing the Company's progress in achieving its long-term financial objectives. The non-GAAP financial information is provided in addition to, and not as an alternative to, the Company's reported results prepared in accordance with GAAP. The Company estimates the tax effect of the non-GAAP adjustments by applying its marginal rate to each of the respective items.

Presented below is a reconciliation of GAAP and non-GAAP results for the thirteen and thirty-nine weeks ended October 29, 2016 and October 31, 2015, respectively.

                                             Thirteen weeks ended           Thirty-nine weeks ended
                                         October 29,     October 31,     October 29,       October 31,
                                             2016            2015           2016              2015
                                                                ($ in millions)
Pre-tax income:
Income before income taxes               $       227     $       117    $        723      $        592
Pre-tax amounts excluded from GAAP:
Impairment charge                                  6                -              6                  -
Pension litigation charge                           -            100                -              100
Adjusted income before income taxes
(non-GAAP)                               $       233     $       217    $        729      $        692


Reconciliation of Non-GAAP Measures - (continued)



                                            Thirteen weeks ended           Thirty-nine weeks ended
                                        October 29,      October 31,     October 29,     October 31,
                                            2016            2015            2016             2015
                                                               ($ in millions)
After-tax income:
Net income                              $       157     $         80    $        475     $       383
After-tax adjustments excluded from
GAAP:
Tax benefit related to intellectual
property reassessment                           (10)                -            (10)               -
Impairment charge, net of income tax
benefit of $1, $-, $1, $- million,
respectively                                      5                 -              5                -
Pension litigation charge, net of
income tax benefit of $-, $39, $-,
and $39 million, respectively                      -              61                -             61
Adjusted net income (non-GAAP)          $       152     $        141    $        470     $       444

Earnings per share:
Diluted EPS                             $      1.17     $       0.57    $       3.50     $      2.71
Diluted EPS amounts excluded from
GAAP:
Tax benefit related to intellectual
property reassessment                         (0.07)                -          (0.07)               -
Impairment charge                              0.03                 -           0.03                -
Pension litigation charge                          -            0.43                -           0.43
Adjusted diluted EPS (non-GAAP)         $      1.13     $       1.00    $       3.46     $      3.14

During the thirteen weeks ended October 29, 2016, the Company recorded a non-cash impairment charge of $6 million ($5 million after-tax or $0.03 per share), to write down store fixtures and leasehold improvements related to our Runners Point and Sidestep stores. Additionally during the third quarter of 2016, the Company performed a scheduled reassessment of the value of intellectual property previously provided to its European business by Foot Locker in the U.S. during the fourth quarter of 2012. Driven by the success of the European business since the implementation of our tax planning strategy, the higher valuation resulted in catch-up tax deductions that reduced tax expense by $10 million, or $0.07 per share.

During the third quarter of 2015, the Company recorded a charge of $100 million, $61 million after-tax or $0.43 per share, related to pension litigation.

Please see Item 1. "Financial Statements," Note 3, Impairment and Litigation Charges and Note 13, Legal Proceedings for further information on these items.

The Company estimates the tax effects of each of the non-GAAP adjustments individually by applying the applicable marginal tax rate to each of the respective items.

Foreign Currency Fluctuations

Throughout the following discussions, where amounts are expressed as excluding the effects of foreign currency fluctuations, such changes are determined by translating all amounts using average foreign exchange rates for the same period of the prior year. We believe that presenting amounts on a constant currency basis is useful to investors because it enables them to better understand the changes in our business.


Results of Operations

Sales

All references to comparable-store sales for a given period relate to sales of stores that were open at the period-end and had been open for more than one year. The computation of consolidated 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 increased by $92 million, or 5.1 percent, to $1,886 million for the thirteen weeks ended October 29, 2016, from $1,794 million for the thirteen weeks ended October 31, 2015. For the thirty-nine weeks ended October 29, 2016, sales of $5,653 million increased 4.6 percent from sales of $5,405 million in the corresponding prior-year period. Excluding the effect of foreign currency fluctuations, sales increased by 5.5 percent and 4.9 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively.

Comparable-store sales increased by 4.7 and 4.0 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively.

Gross Margin




                                        Thirteen weeks ended            Thirty-nine weeks ended
                                    October 29,      October 31,     October 29,      October 31,
                                        2016            2015             2016            2015
Gross margin rate                       33.9  %          33.8  %         34.0  %          33.9  %
Basis point change in the gross
margin rate                               10                               10
Components of the change-
Merchandise margin rate
improvement                               10                               20
Higher occupancy and buyers'
compensation expense rate                 -                               (10)

The gross margin rate improved by 10 basis points for both the thirteen and thirty-nine weeks ended October 29, 2016. This reflected a merchandise margin rate improvement of 10 and 20 basis points for the thirteen and thirty-nine weeks ended October 29, 2016, respectively. The change in the gross margin rate also reflected an increase in the occupancy and buyer's compensation expense rate of 10 basis points for the thirty-nine weeks ended October 29, 2016.

The merchandise margin rate improvement for both the quarter and year-to-date periods of 2016 primarily reflected a lower markdown rate within the Athletic Stores segment, as we increased full-price selling. This improvement was partially offset by increased promotional activity within our Direct-to-Customers segment for both the current and year-to-date periods. Also pressuring the gross margin rate was the fact that certain high-profile locations were closed for remodeling for all or part of the year, which increased the occupancy expense rate since these locations were not generating sales while incurring tenancy costs.

Selling, General and Administrative Expenses (SG&A)





                                        Thirteen weeks ended         Thirty-nine weeks ended
                                    October 29,     October 31,    October 29,    October 31,
                                        2016            2015          2016            2015
                                                         ($ in millions)
SG&A                                $       366     $       352    $    1,077     $     1,028
$ Change                            $        14                    $       49     $
% Change                                    4.0  %                        4.8  %
SG&A as a percentage of sales              19.4  %         19.6  %       19.1  %         19.0  %

SG&A increased by $14 million and $49 million for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared with the corresponding prior-year periods. The effect of foreign currency fluctuations for the current quarter and year-to-date periods was not significant.


Comparing the SG&A rate to the prior-year periods, the rate decreased by 20 basis points for the thirteen weeks ended October 29, 2016, while it increased by 10 basis points for the thirty-nine weeks ended October 29, 2016. The change in the SG&A rate was primarily driven by diligent expense management by our Athletic Stores segment, partially offset by an increase in marketing costs incurred by our Direct-to-Customers segment in order to drive traffic to its websites. While the higher expense rate within Direct-to-Customers segment continued during the third quarter, it was more pronounced in the first half of 2016, and therefore negatively affected the year-to-date comparison.

Additionally, corporate expense for the thirty-nine weeks ended October 29, 2016 included an increase of $3 million in costs associated with the relocation of the corporate headquarters within New York City.

Depreciation and Amortization





                                          Thirteen weeks ended                  Thirty-nine weeks ended
                                    October 29,
                                        2016        October 31, 2015    October 29, 2016      October 31, 2015
                                                                  ($ in millions)
Depreciation and amortization       $        40     $             38    $            118      $            109
$ Change                            $         2                         $              9
% Change                                    5.3  %                                   8.3  %

Depreciation and amortization increased by $2 million and $9 million for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared with the corresponding prior-year periods. The increase in depreciation and amortization reflected increased capital spending on store projects, enhancing our digital sites, and various other technologies and infrastructure.

Impairment and Litigation Charges

The Company recorded an impairment charge totaling $6 million ($5 million after-tax or $0.03 per diluted share) relating to the write-down of store fixtures and leasehold improvements for 116 of our Runners Point and Sidestep stores.

During the third quarter of 2015, the Company recorded a $100 million pension litigation charge ($61 million after-tax or $0.43 per diluted share). This charge relates to a class action in which the plaintiffs alleged that the Company failed to properly disclose the effects of the 1996 conversion of the retirement plan to a defined benefit plan with a cash balance formula. In September 2015, the court ruled in favor of the plaintiffs and issued a decision ordering that the pension plan be reformed. The Company is appealing the court's decision, and the judgment has been stayed pending the outcome of the appeal.

Please see Item 1. "Financial Statements," Note 3, Impairment and Litigation Charges and Note 13, Legal Proceedings for further information on these items.

Interest Expense, Net





                                               Thirteen weeks ended                       Thirty-nine weeks ended
                                      October 29, 2016       October 31, 2015     October 29, 2016       October 31, 2015
                                                                        ($ in millions)
Interest expense                     $               3      $               3    $               9      $               8
Interest income                                     (2)                    (2)                  (7)                    (5)
Interest expense, net                $               1      $               1    $               2      $               3

Net interest expense was unchanged for the thirteen weeks ended October 29, 2016 as compared with the corresponding prior-year period. For the thirty-nine weeks ended October 29, 2016 net interest expense decreased by $1 million compared with the corresponding prior-year period, which primarily represented increased income due to higher average interest rates on our cash investments.


Income Taxes

The Company recorded income tax provisions of $70 million and $248 million, which represented effective tax rates of 30.9 percent and 34.4 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively. For the thirteen and thirty-nine weeks ended October 31, 2015, the Company recorded income tax provisions of $37 million and $209 million, which represented effective tax rates of 31.7 percent and 35.3 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. For the thirteen and thirty-nine weeks ended October 29, 2016, the changes in the tax reserves were not significant. Included in the thirteen weeks and thirty-nine weeks ended October 31, 2015 were tax benefits of $1 million and $2 million, respectively, from reserve releases due to expiration of statutes of limitation and settlements of tax examinations.

During the third quarter of 2016, the Company performed a scheduled reassessment of the value of the intellectual property provided to its European business by Foot Locker in the U.S. during the fourth quarter of 2012. Driven by the recent success of the Foot Locker business in Europe, the new, higher valuation resulted in catch-up deductions that reduced tax expense by $10 million. The higher valuation will also result in a current year benefit, of which approximately $2 million was recognized during the third quarter with an additional $1 million that will be recognized during the fourth quarter.

During the third quarter of 2015, the Company recorded a pension-related litigation charge of $100 million with a related tax benefit of $39 million. The thirty-nine weeks ended October 31, 2015 also included tax benefits totaling $1 million related to an adjustment to deductible compensation costs resulting from executive changes and a Canadian provincial tax rate change.

Excluding the reserve releases and other discrete items mentioned above, the effective tax rate for the thirteen and thirty-nine weeks ended October 29, 2016 decreased as compared with the corresponding prior-year periods, due primarily to the current year effect of the higher valuation of the intellectual property provided from Foot Locker U.S. to its European business.

The Company currently expects its fourth quarter and full-year tax rate to approximate 36 percent and 35 percent, respectively, excluding the effect of any additional nonrecurring items that may occur. The actual tax rates will depend primarily on the level and mix of income earned in the United States as compared with its international operations.

Net Income

For the thirteen weeks ended October 29, 2016, net income increased by $77 million, or 96.3 percent, and diluted earnings per share increased by 105.3 percent to $1.17 per share, as compared with the corresponding prior-year period. For the thirty-nine weeks ended October 29, 2016, net income increased by $92 million, or 24.0 percent, above the corresponding prior-year period. Diluted earnings per share increased by 29.2 percent to $3.50 per share. In addition to the growth in net income for both the quarter and year-to-date periods, the increase in diluted earnings per share was also positively affected by the Company's continued share repurchase program.


Segment Information

The Company has determined that its reportable segments are those that are based on its method of internal reporting. The Company has two reportable segments, Athletic Stores and Direct-to-Customers. The Company evaluates performance based on several factors, of which the primary financial measure is division results. Division profit reflects income before income taxes, pension litigation charge, corporate expense, non-operating income, and net interest expense. The following table summarizes results by segment:

                                           Thirteen weeks ended           Thirty-nine weeks ended
                                     October 29,                         October 29,    October 31,
                                         2016        October 31, 2015       2016           2015
                                                            ($ in millions)
Sales
Athletic Stores                      $     1,644        $       1,571    $    4,955       $  4,755
Direct-to-Customers                          242                  223           698            650
                                     $     1,886        $       1,794    $    5,653       $  5,405
Operating Results
Athletic Stores (1)                  $       213        $         206    $      683       $    649
Direct-to-Customers                           32                   31            92             98
Division profit                              245                  237           775            747
Less: Pension litigation charge
(2)                                             -                 100              -           100
Less: Corporate expense                       17                   20            53             54
Operating profit                             228                  117           722            593
Other income (3)                                -                   1             3              2
Earnings before interest expense
and income taxes                             228                  118           725            595
Interest expense, net                          1                    1             2              3
Income before income taxes           $       227        $         117    $      723       $    592

(1) Included in the thirteen and thirty-nine weeks ended October 29, 2016 is a $6 million pre-tax non-cash impairment charge to write-down long-lived store assets of Runners Point and Sidestep. See Item 1. "Financial Statements," Note 3, Impairment and Litigation Charges for further information.
(2) Included in the thirteen and thirty-nine weeks ended October 31, 2015 is a pre-tax litigation charge of $100 million relating to the pension litigation matter. Please see Item 1. "Financial Statements," Note 13, Legal Proceedings for further information.
(3) Other income includes non-operating items, such as lease termination gains, royalty income, insurance recoveries and the changes in fair value, premiums paid, and realized gains associated with foreign currency option contracts.

Athletic Stores





                                          Thirteen weeks ended           Thirty-nine weeks ended
                                    October 29,                         October 29,    October 31,
                                        2016        October 31, 2015       2016           2015
                                                           ($ in millions)
Sales                                  $  1,644        $       1,571      $  4,955       $  4,755
$ Change                               $     73                           $    200       $
% Change                                    4.6  %                             4.2  %
Division profit                        $    213        $         206      $    683       $    649
Division profit margin                     13.0  %              13.1  %       13.8  %        13.6  %

Excluding the effect of foreign currency fluctuations, Athletic Stores segment sales increased by 5.0 percent and 4.5 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared with the corresponding prior-year period. The sales increase for both the quarter and year-to-date periods of 2016 was driven by our domestic banners, led by Champs Sports. Our international sales growth for both the quarter and the full year was led by our Canadian businesses. Foot Locker Europe's sales increased for both the quarter and year-to-date periods, with the majority of the increase coming from the first half of the year, as the third quarter was negatively affected by reduced traffic. The Runners Point and Sidestep banners continued to experience sales declines. Both of


these banners continue to face assortment and traffic challenges. We are focused on improving these banners by better diversifying our product offerings, along with providing a more elevated in-store experience.

Comparable-store sales increased by 4.0 percent and 3.5 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively. These increases were primarily driven by our continued success in footwear. Children's and women's footwear sales increased across multiple banners for the current quarter and year-to-date periods, led by court classic and casual styles. The increase in men's footwear sales was largely driven by casual styles, especially in our Champs Sports banner. Our basketball footwear business was down slightly for the quarter, but represented a positive comparable gain for the year-to-date period led, by Foot Locker Canada.

Apparel sales also experienced gains for both the quarter and year-to-date period. The strongest contributors were sales of men's branded and private label apparel at Champs Sports. Additionally, Foot Locker Europe's apparel sales benefited during the year-to-date period with gains in men's branded apparel.

Athletic Stores division profit increased 3.4 percent and 5.2 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared with the corresponding prior-year period. Division profit, as a percentage of sales decreased to 13.0 percent and increased to 13.8 percent for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared to the corresponding prior-year period. During the third quarter of 2016, a $6 million impairment charge was recorded to write down the value of store fixtures and leasehold improvements for 116 Runners Point and Sidestep stores. Excluding the effect of the impairment charge, division profit increased as a percentage of sales by 20 and 30 basis points for the thirteen and thirty-nine weeks ended October 29, 2016, respectively, as compared to the corresponding prior-year periods. The division profit rate improvement, excluding the effect of the impairment charge, was primarily due to an improved merchandise margin rate, reflecting a lower markdown rate for both the quarter and year-to-date periods.

Direct-to-Customers





                                        Thirteen weeks ended        Thirty-nine weeks ended
                                    October 29,     October 31,    October 29,    October 31,
                                        2016            2015          2016           2015
                                                         ($ in millions)
Sales                                  $    242        $    223      $    698       $    650
$ Change                               $     19                      $     48
% Change                                    8.5  %                        7.4  %
Division profit                        $     32        $     31      $     92       $     98
Division profit margin                     13.2  %         13.9  %       13.2  %        15.1  %

Comparable-sales for the Direct-to-Customers segment increased by 8.9 percent . . .

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