Management's Discussion and Analysis of Financial Condition and Results of
Operations is intended to provide a reader of our financial statements with a
narrative from the perspective of our management on our financial condition,
results of operations, liquidity and certain other factors that may affect our
future results. This section should be read in conjunction with the Consolidated
Financial Statements and related Notes included in this Quarterly Report on Form
10-Q.
Description of Business
Kontoor Brands, Inc. ("Kontoor," the "Company," "we," "us" or "our") is a global
lifestyle apparel company headquartered in the United States ("U.S."). The
Company designs, produces, procures, markets and distributes apparel, footwear
and accessories, primarily under the brand names Wrangler® and Lee®. The
Company's products are sold in the U.S. through mass merchants, specialty
stores, mid-tier and traditional department stores, company-operated stores and
online. The Company's products are also sold internationally, primarily in the
Europe, Middle East and Africa ("EMEA") and Asia-Pacific ("APAC") regions,
through department, specialty, company-operated, concession retail and
independently-operated partnership stores and online.
Fiscal Year and Basis of Presentation
The Company operates and reports using a 52/53-week fiscal year ending on the
Saturday closest to December 31 of each year. Accordingly, this Form 10-Q
presents the second quarter of the Company's fiscal year ending December 31,
2022 ("fiscal 2022"), which is a 52-week fiscal year. For presentation purposes
herein, all references to periods ended June 2022, December 2021 and June 2021
correspond to the fiscal periods ended July 2, 2022, January 1, 2022 and July 3,
2021, respectively.
References to fiscal 2022 foreign currency amounts herein reflect the impact of
changes in foreign exchange rates from the prior year comparable period and the
corresponding impact on translating foreign currencies into U.S. dollars and on
foreign currency-denominated transactions. The Company's most significant
foreign currency translation exposure is typically driven by business conducted
in euro-based countries, the Chinese yuan and the Mexican peso. However, the
Company conducts business in other developed and emerging markets around the
world with exposure to other foreign currencies.
Amounts herein may not recalculate due to the use of unrounded numbers.
Impact of COVID-19 and Other Recent Developments
The novel coronavirus ("COVID-19") pandemic and related supply chain and market
disruptions continue to adversely impact global economic conditions, as well as
the Company's operations. Additionally, although we do not have any significant
operations within Russia or Ukraine, the conflict in these regions has caused
disruption in the surrounding areas and greater uncertainty in the global
economy.
We experienced store closures and disruptions in distribution in certain regions
of China during the latter part of the first quarter of 2022 and throughout the
second quarter of 2022 due to the resurgence of COVID-19 and the related
lockdowns and restrictions, which had a significant impact on sales in APAC
during the second quarter of 2022. We took actions to manage these impacts
including the expansion of our credit lines in the region to ensure sufficient
liquidity. Although many regions in China had generally returned to normal
operations by the end of the second quarter of 2022, lockdowns and restrictions
in certain regions and jurisdictions will continue to impact store closures and
consumer behavior during the second half of 2022.
We continue to experience global supply chain disruptions, which have resulted
in delays in product availability and higher freight and distribution costs,
including air freight to expedite shipments to meet customer demand. We continue
to work with our customers and vendors to minimize any impact. In addition,
inflationary pressures increased key input costs and softened consumer demand
late in the second quarter of 2022, and we expect these will continue to impact
the second half of 2022.
While we anticipate continued disruption and volatility during the remainder of
2022, we believe that we are appropriately positioned to successfully manage
through any known operational challenges.
Business Overview
We have undergone transformational change to improve operational performance,
address internal and external factors and set the stage for long-term profitable
growth. We have launched significant initiatives to refine a global go-to-market
approach that will sustain our long-term commitment to total shareholder return,
some of which were accelerated due to the COVID-19 environment.
We made significant investments to support the design and implementation of our
global enterprise resource planning ("ERP") system and information technology
infrastructure build-out, which was completed in 2021. Certain prior year
comparisons are affected by ERP implementation costs incurred in the first half
of 2021, as well as a shift in the timing of certain shipments from the second
quarter to the first quarter of 2021 related to the Company's ERP implementation
in North America and from the third quarter to the second quarter of 2021
related to the Company's ERP implementation in EMEA. These timing shifts will
primarily have an impact on year-over-year quarterly comparisons but will not
impact the full year.
Kontoor Brands, Inc. Q2 FY22 Form 10-Q 22
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We have now transitioned into our Horizon 2 multi-year strategic vision,
"Catalyzing Growth" which outlines four growth catalysts: (i) expansion of our
core U.S. Wholesale business, (ii) category extensions such as outdoor, tees and
work, (iii) geographic expansion of our Wrangler® and Lee® brands, most notably
in China, and (iv) channel expansion focused on the digital platforms in our
U.S. Wholesale and Direct-to-Consumer channels. We are focused on driving brand
growth and delivering long-term value to our stakeholders including our
consumers, customers, shareholders, suppliers and communities around the world.
To support our growth initiatives, we approved plans in July 2022 to globalize
our operating model and relocate our EMEA headquarters to Switzerland, for which
we will incur an estimated $18.0 million in restructuring charges during the
second half of 2022. In addition to continued organic investments in our brands
and capabilities, the options in our capital allocation strategy are to (i) pay
down debt; (ii) provide for a superior dividend payout; (iii) effectively manage
our share repurchase authorization and (iv) act on strategic investment
opportunities that may arise.
SECOND QUARTER OF FISCAL 2022 SUMMARY
•Net revenues increased 25% to $613.6 million compared to the three months ended
June 2021, driven by growth in the U.S. Wholesale channel, partially offset by a
decline in the Non-U.S. Wholesale and Direct-to-Consumer channels as discussed
below.
•U.S. Wholesale revenues increased 44% compared to the three months ended June
2021, primarily due to a shift in the timing of shipments from the second
quarter to the first quarter of 2021 due to the ERP implementation in North
America, as well as growth in new business and our digital wholesale business.
U.S. Wholesale revenues represented 77% of total revenues in the current period.
•Non-U.S. Wholesale revenues decreased 17% compared to the three months ended
June 2021, due to a decline in our EMEA business driven by a shift in the timing
of certain shipments from the third quarter to the second quarter of 2021 due to
the ERP implementation in EMEA, a decline in our APAC business due to COVID-19
restrictions in China and a 7% unfavorable impact from foreign currency.
Non-U.S. Wholesale revenues represented 13% of total revenues in the current
period.
•Direct-to-Consumer revenues decreased 6% on a global basis compared to the
three months ended June 2021, driven by a decline in retail store sales and a 3%
unfavorable impact from foreign currency, partially offset by growth in our U.S.
owned e-commerce sites. Direct-to-Consumer revenues represented 10% of total
revenues in the current period.
•Gross margin decreased 260 basis points to 43.5% compared to the three months
ended June 2021, primarily driven by increased product costs, higher air freight
for expedited shipments to meet demand and unfavorable geographic mix impacts,
primarily from the COVID-19 restrictions in China and ERP timing shifts in EMEA.
These decreases were partially offset by benefits from strategic pricing.
•Selling, general & administrative expenses as a percentage of net revenues
decreased to 29.0% compared to 38.9% for the three months ended June 2021,
primarily due to lower compensation-related expense, as well as decreased costs
related to the Company's global ERP implementation and information technology
infrastructure build-out. These decreases were partially offset by increases in
demand creation, digital spending and distribution expense in the current
period.
•Net income was $62.0 million compared to $23.6 million for the three months
ended June 2021, due to the results discussed above.
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