VICTORIA'S SECRET & CO. The following discussion and analysis of financial condition and results of operations are based upon our Consolidated and Combined Financial Statements, which have been prepared in accordance with GAAP. The following information should be read in conjunction with our financial statements and the related notes included in Item 1. Financial Statements.
Executive Overview
Victoria's Secret is an iconic global brand of women's intimate and other apparel, personal care and beauty products. We sell our products primarily through two brands,Victoria's Secret and PINK.Victoria's Secret is a category-defining global lingerie brand with a leading market position and a rich, 40-year history of serving women across the globe. PINK is a lifestyle brand for the college-oriented customer, built around a strong intimates core. We also sell beauty products under both theVictoria's Secret and PINK brands. Together,Victoria's Secret , PINK and Victoria's Secret Beauty support, inspire and celebrate women through every phase of their life.
In the second quarter of 2022, our operating income was$98 million as compared to$203 million in the second quarter of 2021, and our operating income rate (expressed as a percentage of net sales) was 6.4% as compared to 12.6% last year. The operating income decrease in the second quarter of 2022 as compared to the second quarter of 2021 was primarily driven by a decrease in net sales and merchandise margin. We experienced slowing customer traffic sequentially throughout the quarter as our customers and the broader retail environment were impacted by increasing inflationary pressures. Net sales decreased$93 million , or 6%, to$1.521 billion compared to$1.614 billion in the second quarter of 2021. Our North American store sales decreased$69 million , to$968 million compared to$1.037 billion in the second quarter of 2021. In our North American stores, although traffic slowed sequentially throughout the quarter and compared to the first quarter of 2022, traffic in the quarter increased as compared to the second quarter of 2021. The increase in traffic in the quarter as compared to last year was more than offset by a decrease in conversion (which we define as the percentage of customers who visit our stores and make a purchase) and a decrease in average unit retail (which we define as the average price per unit purchased). Our direct channel sales decreased by 12%, or$55 million , to$414 million compared to$469 million in the second quarter of 2021, primarily due to a decline in average unit retail and traffic. 23
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In the second quarter of 2022, we announced a new, simplified corporate leadership structure designed to unite our brands, better align our teams with a shifting consumer landscape and enable better execution of our strategy. The restructuring eliminated approximately 160 management roles, or approximately 5% of our home office headcount. As a result of the restructuring, pre-tax severance and related costs of$29 million were recognized in the second quarter. We are committed to optimizing our performance by focusing on our brand transformation, being best at bras and enhancing the customer experience. We will continue to search for growth vehicles to help us attract new customers and better meet the needs of existing ones, including developing new brands as well as pursuing partnerships with existing brands. Despite the inflationary pressures we continue to face, we are confident in our ability to navigate this shifting consumer landscape and remain committed to delivering long-term sustainable value for our shareholders.
For additional information related to our second quarter of 2022 financial performance, see "Results of Operations."
Impacts of Victoria's Secret Spin-Off
The spin-off ofVictoria's Secret & Co. into an independent, publicly traded company was completed onAugust 2, 2021 . We believe the spin-off will enable us to maximize management focus and financial flexibility to thrive in an evolving retail environment and deliver long-term profitable growth. In connection with the Separation, we have incurred, and expect to continue to incur, incremental capital and expense related to the implementation of new information technology platforms. We currently estimate that our total incremental expenditures could be$100 million to$150 million over the transition period, with the majority of costs being incurred by the end of 2023. These estimated costs consist of internal and external labor, software licensing, networking, security and infrastructure required to separate the current information technology capabilities (systems and infrastructure) in support of two independent companies. Such estimates are subject to change as our work continues. We provide technology services to the Former Parent under the transition services agreements while independent systems environments are created, which we believe help to minimize dis-synergies. The above estimates are preliminary in nature, are based solely on information available to us as of the date of this quarterly report and are inherently uncertain and subject to change. Ongoing Impacts of COVID-19 Even as the COVID-19 pandemic subsides, macroeconomic impacts related to the pandemic, including inflation, supply chain disruptions and labor shortages, are expected to continue. We remain focused on the safe operation of our business, including our stores, distribution, fulfillment and call centers. There remains the potential for COVID-19-related risks of closure or operating restrictions, as well as risks related to delays or disruptions in our supply chain and related pricing impacts, which could materially impact our operations and financial performance in future periods.
Basis of Presentation
Our financial statements for periods through the Separation date ofAugust 2, 2021 are combined financial statements prepared on a "carve-out" basis, which reflects the business as historically managed within the Former Parent. The balance sheets and cash flows for the periods prior to the Separation include only those assets and liabilities directly related to theVictoria's Secret business, and the statements of income include the historically reported results of theVictoria's Secret business along with allocations of a portion of the Former Parent's total corporate expenses. Our financial statements for the period fromAugust 3, 2021 throughJuly 30, 2022 are consolidated financial statements based on our reported results as a standalone company. For additional information on the "carve-out" basis of accounting, see Note 1, "Description of Business, Basis of Presentation and Summary of Significant Accounting Policies." 24 -------------------------------------------------------------------------------- Table of Contents Adjusted Financial Information In addition to our results provided in accordance with GAAP above and throughout this Form 10-Q, provided below are non-GAAP financial measures that present operating income, net income attributable toVictoria's Secret & Co., and net income per diluted share attributable toVictoria's Secret & Co. on an adjusted basis, which remove certain special items. We believe that these special items are not indicative of our ongoing operations due to their size and nature. We use adjusted financial information as key performance measures of results of operations for the purpose of evaluating performance internally. These non-GAAP measurements are not intended to replace the presentation of our financial results in accordance with GAAP. Instead, we believe that the presentation of adjusted financial information provides additional information to investors to facilitate the comparison of past and present operations. Further, our definition of adjusted financial information may differ from similarly titled measures used by other companies. The table below reconciles the GAAP financial measures to the non-GAAP financial measures. Second Quarter Year-to-Date (in millions, except per share amounts) 2022 2021 2022 2021
Reconciliation of Reported to Adjusted Operating Income Reported Operating Income - GAAP
$ 98 $ 203 $ 192 $ 428 Occupancy-related Legal Matter (a) - - 22 - Restructuring Charge (b) 29 - 29 - Adjusted Operating Income$ 127
Reconciliation of Reported to Adjusted Net Income Attributable to
$ 70 $ 151 $ 151 $ 325 Occupancy-related Legal Matter (a) - - 22 - Restructuring Charge (b) 29 - 29 - Tax Effect of Adjusted Items (7) - (13) -
Adjusted Net Income Attributable to
Reconciliation of Reported to Adjusted Net Income Per Diluted Share Attributable to
$ 0.83 $ 1.71 $ 1.76 $ 3.68 Occupancy-related Legal Matter (a) - - 0.19 - Restructuring Charge (b) 0.26 - 0.26 - Adjusted Net Income Per Diluted Share Attributable to Victoria's Secret & Co.$ 1.09 $ 1.71 $ 2.21 $ 3.68 ________________ (a)In the first quarter of 2022, we recognized a pre-tax charge of$22 million ($16 million after-tax), included in buying and occupancy expense, related to a legal matter with a landlord regarding a high-profile store that we surrendered to the landlord prior to the Separation. For additional information see Note 14, "Commitments and Contingencies" included in Item 1. Financial Statements. (b)In the second quarter of 2022, we recognized a pre-tax charge of$29 million ($22 million after-tax),$16 million included in general, administrative and store operating expense and$13 million included in buying and occupancy expense, related to restructuring activities to reorganize our leadership structure. For additional information see Note 4, "Restructuring Activities" included in Item 1. Financial Statements. 25
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Store Data
The following table compares the second quarter of 2022 U.S. company-operated
store data to the second quarter of 2021 and year-to-date 2022 to year-to-date
2021:
Second Quarter Year-to-Date
2022 2021 % Change 2022 2021 % Change
Sales per Average Selling Square
Foot (a) $ 163 $ 172 (5 %) $ 321 $ 325 (1 %)
Sales per Average Store (in
thousands) (a) $ 1,133 $ 1,183 (4 %) $ 2,228 $ 2,245 (1 %)
Average Store Size (selling square
feet) 6,949 6,888 1 %
Total Selling Square Feet (in
thousands) 5,580 5,772 (3 %)
________________
(a)Sales per average selling square foot and sales per average store, which are
indicators of store productivity, are calculated based on store sales for the
period divided by the average, including the beginning and end of period, of
total square footage and store count, respectively.
The following table represents store data for year-to-date 2022:
Stores at Reclassed to Stores at
January 29, 2022 Opened Closed Joint Venture (a) July 30, 2022
Company-Operated:
U.S. 808 1 (6) - 803
Canada 26 - - - 26
Subtotal Company-Operated 834 1 (6) - 829
China Joint Venture:
Beauty & Accessories (a) 35 1 (3) 8 41
Full Assortment 30 1 - - 31
Subtotal China Joint Venture 65 2 (3) 8 72
Partner-Operated:
Beauty & Accessories 335 2 (19) (8) 310
Full Assortment 128 8 (7) - 129
Subtotal Partner-Operated 463 10 (26) (8) 439
Total 1,362 13 (35) - 1,340
________________(a)Includes eight partner-operated stores.
The following table represents store data for year-to-date 2021:
Stores at Stores at
January 30, 2021 Opened Closed July 31, 2021
Company-Operated:
U.S. 846 - (8) 838
Canada 25 1 - 26
China - Beauty & Accessories 36 1 (1) 36
China - Full Assortment 26 - - 26
Subtotal Company-Operated 933 2 (9) 926
Partner-Operated:
Beauty & Accessories 338 7 (6) 339
Full Assortment 120 3 - 123
Subtotal Partner-Operated 458 10 (6) 462
Total 1,391 12 (15) 1,388
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Results of Operations
Second Quarter of 2022 Compared to Second Quarter of 2021
Operating Income
For the second quarter of 2022, operating income decreased$105 million , to$98 million , compared to operating income of$203 million in the second quarter of 2021, and the operating income rate (expressed as a percentage of net sales) decreased to 6.4% from 12.6%. The drivers of the operating income results are discussed in the following sections.
The following table provides net sales for the second quarter of 2022 in comparison to the second quarter of 2021:
2022 2021 % Change
Second Quarter (in millions)
Stores - North America $ 968 $ 1,037 (7 %)
Direct 414 469 (12 %)
International (a) 139 108 28 %
Total Net Sales $ 1,521 $ 1,614 (6 %)
_______________
(a)Results include consolidated joint venture sales in
The following table provides a reconciliation of net sales from the second quarter of 2021 to the second quarter of 2022:
(in millions)
2021 Net Sales $ 1,614
Comparable Store Sales (75)Sales Associated with New, Closed and Non-comparable Remodeled Stores, Net
4
Direct Channel (48)
Credit Card Programs (1)
International Wholesale, Royalty and Other 30
Foreign Currency Translation (3)
2022 Net Sales $ 1,521 The following table compares the second quarter of 2022 comparable sales to the second quarter of 2021:
2022 2021
Comparable Sales (Stores and Direct) (a) (8 %) (9 %) Comparable Store Sales (a)
(7 %) 16 %
________
(a)The percentage change in comparable sales represents direct and comparable store sales. The percentage change in comparable store sales represents the change in sales at comparable stores only and excludes the change in sales from our direct channels. The change in comparable sales provides an indication of period over period growth (decline). A store is typically included in the calculation of comparable sales when it has been open 12 months or more and it has not had a change in selling square footage of 20% or more. Closed stores are excluded from the comparable sales calculation if they have been closed for four consecutive days or more. Upon re-opening, the stores are included in the calculation. Therefore, comparable sales results exclude the closure period of stores that were closed for four consecutive days or more as a result of the COVID-19 pandemic. Additionally, stores are excluded if total selling square footage in the mall changes by 20% or more through the opening or closing of a second store. The percentage change in comparable sales is calculated on a comparable calendar period as opposed to a fiscal basis. Comparable sales attributable to our international stores are calculated on a constant currency basis. Net sales in the second quarter of 2022 decreased$93 million , or 6%, to$1.521 billion compared to$1.614 billion in the second quarter of 2021. We experienced slowing customer traffic sequentially throughout the second quarter as our customers and the broader retail environment were impacted by increasing inflationary pressures. 27
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In the stores channel, ourNorth America net sales decreased$69 million , or 7%, to$968 million as compared to the second quarter of 2021. Although traffic slowed sequentially throughout the quarter and compared to the first quarter of 2022 in our stores, traffic in the quarter increased as compared to the second quarter of 2021. The increase in traffic in the quarter as compared to last year was more than offset by a decrease in conversion and a decrease in average unit retail. Net sales in stores outside ofNorth America increased in the second quarter of 2022 compared to the second quarter of 2021 driven by fewer COVID-19-related store restrictions this year.
In the direct channel, net sales decreased
Gross Profit
For the second quarter of 2022, our gross profit decreased
The gross profit decrease was due to the decrease in merchandise margin dollars related to the decrease in net sales, increased promotional activity primarily driven by the longer semi-annual sale period this year and incremental supply chain and inflationary cost pressures compared to the second quarter of 2021 of approximately$60 million . The gross profit decrease was also due to pre-tax severance and related costs of$13 million associated with the restructuring activities in the second quarter of 2022. Partially offsetting these decreases was lower buying and occupancy expenses this year compared to last year driven by lower landlord-related expenses this year, an asset write-off last year related to the Separation and lower management compensation expense this year. The gross profit rate decrease was driven by a decrease in the merchandise margin rate reflecting increased promotional activity and increased supply chain and inflationary cost pressures, as well as the severance and related costs associated with the restructuring activities, partially offset by buying and occupancy leverage driven by the lower landlord-related expenses this year, the asset write-off last year related to the Separation and lower management compensation expense this year.
General, Administrative and Store Operating Expenses
For the second quarter of 2022, our general, administrative and store operating expenses decreased$30 million , or 6%, compared to the second quarter of 2021 to$437 million . The decrease in general, administrative and store operating expenses compared to the second quarter of 2021 was due to lower management compensation expense and lower selling expenses driven by our disciplined and proactive expense management, partially offset by the pre-tax severance and related costs of$16 million associated with the restructuring activities in the second quarter of 2022. The general, administrative and store operating expense rate (expressed as a percentage of net sales) decreased slightly to 28.8% from 28.9% due to the lower management compensation and selling expenses, partially offset by the severance and related costs associated with the restructuring activities.
Interest Expense
For the second quarter of 2022, our interest expense increased$10 million to$13 million compared to the second quarter of 2021, driven by the increase in our outstanding debt due to the issuance of the 2029 Notes and the Term Loan Facility that we entered into upon the Separation inAugust 2021 .
Provision for Income Taxes
For the second quarter of 2022, the Company's effective tax rate was 19.2% compared to 24.1% in the second quarter of 2021. The second quarter of 2022 rate was lower than the Company's combined estimated federal and state statutory rate primarily due to foreign earnings taxed at a rate lower than our combined statutory rate. The second quarter of 2021 rate was lower than the Company's combined estimated federal and state statutory rate primarily due to the recognition of excess tax benefits related to share-based compensation awards that vested in the respective quarter.
Results of Operations
Year-to-Date 2022 Compared to Year-to-Date 2021
Operating Income
For year-to-date 2022, operating income decreased$236 million , to$192 million , from$428 million year-to-date 2021, and the operating income rate (expressed as a percentage of net sales) decreased to 6.4% from 13.5%. The drivers of the operating income results are discussed in the following sections. 28 -------------------------------------------------------------------------------- Table of Contents Net Sales The following table provides net sales for year-to-date 2022 in comparison to year-to-date 2021: 2022 2021 % Change Year-to-Date (in millions) Stores - North America$ 1,900 $ 1,970 (4 %) Direct 834 990 (16 %) International (a) 271 208 30 % Total Net Sales$ 3,005 $ 3,168 (5 %) _______________
(a)Results include consolidated joint venture sales in
The following table provides a reconciliation of net sales from year-to-date 2021 to year-to-date 2022:
(in millions)
2021 Net Sales $ 3,168
Comparable Store Sales (99)Sales Associated with New, Closed and Non-comparable Remodeled Stores, Net
16
Direct Channel (141)
Credit Card Programs (2)
International Wholesale, Royalty and Other 65
Foreign Currency Translation (2)
2022 Net Sales $ 3,005 The following table compares year-to-date 2022 comparable sales to year-to-date 2021:
2022 2021
Comparable Sales (Stores and Direct) (a) (8 %) 6 % Comparable Store Sales (a)
(5 %) 9 %
________
(a)The percentage change in comparable sales represents direct and comparable store sales. The percentage change in comparable store sales represents the change in sales at comparable stores only and excludes the change in sales from our direct channels. The change in comparable sales provides an indication of period over period growth (decline). A store is typically included in the calculation of comparable sales when it has been open 12 months or more and it has not had a change in selling square footage of 20% or more. Closed stores are excluded from the comparable sales calculation if they have been closed for four consecutive days or more. Upon re-opening, the stores are included in the calculation. Therefore, comparable sales results exclude the closure period of stores that were closed for four consecutive days or more as a result of the COVID-19 pandemic. Additionally, stores are excluded if total selling square footage in the mall changes by 20% or more through the opening or closing of a second store. The percentage change in comparable sales is calculated on a comparable calendar period as opposed to a fiscal basis. Comparable sales attributable to our international stores are calculated on a constant currency basis.
Net sales year-to-date 2022 decreased
In the stores channel year-to-date 2022, ourNorth America net sales decreased$70 million , or 4%, to$1.900 billion , as compared to year-to-date 2021 as an increase in traffic was more than offset by a decrease in conversion and a decrease in average unit retail. Net sales in stores outside ofNorth America increased year-to-date 2022 compared to year-to-date 2021 driven by fewer COVID-19-related store restrictions this year.
In the direct channel, net sales decreased
Additionally, net sales year-to-date 2022 as compared to year-to-date 2021 were impacted by incremental net sales recognized in the first quarter last year as a result of federal stimulus benefits.
Gross Profit
For year-to-date 2022, our gross profit decreased
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The gross profit decrease was primarily due to the decrease in merchandise margin dollars related to the decrease in net sales, incremental supply chain and inflationary cost pressures compared to last year of approximately$140 million and increased promotional activity primarily driven by the longer semi-annual sale period this year. Additionally, the decrease in net sales and merchandise margin was due to incremental net sales and merchandise margin recognized in the first quarter last year as a result of federal stimulus benefits. Partially offsetting these decreases was lower buying and occupancy expenses this year compared to last year driven by lower management compensation expense and an asset write-off last year related to the Separation. The gross profit rate decrease was primarily driven by a decrease in the merchandise margin rate reflecting increased supply chain and inflationary cost pressures and increased promotional activity, partially offset by slight buying and occupancy leverage driven by the lower management compensation expense and the asset write-off last year related to the Separation.
General, Administrative and Store Operating Expenses
For year-to-date 2022, our general, administrative and store operating expenses decreased$49 million , or 5%, to$865 million primarily due to lower management compensation expense and lower selling expenses driven by our disciplined and proactive expense management.
The general, administrative and store operating expense rate (expressed as a percentage of net sales) remained unchanged at 28.8% for both years.
Interest Expense
For year-to-date 2022, our interest expense increased
Provision for Income Taxes
For year-to-date 2022, the Company's effective tax rate was 11.1% compared to 23.2% year-to-date 2021. The effective tax rate for both years was lower than the Company's combined estimated federal and state statutory rate primarily due to the recognition of excess tax benefits related to share-based compensation awards that vested in the respective periods.
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, profit margins and income taxes. 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 summer
and fall months as inventory builds in anticipation of the holiday period.
Prior to the Separation, we generated annual cash flow from operating
activities. However, we were operating within the Former Parent's cash
management structure, which used a centralized approach to cash management and
financing of our operations. As a result, a substantial portion of our cash was
transferred to the Former Parent. This arrangement was not reflective of the
manner in which we would have financed our operations had we been an
independent, publicly traded company during the periods prior to the Separation.
The cash and cash equivalents held by the Former Parent at the corporate level
prior to the Separation were not specifically identifiable to us and, therefore,
were not reflected in the Consolidated and Combined Balance Sheets. The Former
Parent's third-party long-term debt and the related interest expense were not
allocated to us for any of the periods presented prior to the Separation as we
were not the legal obligor of such debt.
Following the Separation from the Former Parent, our capital structure and
sources of liquidity changed from the historical capital structure because we no
longer participate in the Former Parent's centralized cash management program.
Our ability to fund our operating needs is primarily dependent upon our ability
to continue to generate positive cash flow from operations, as well as borrowing
capacity under our ABL Facility, which we rely on to supplement cash generated
by our operating activities, particularly when our need for working capital
peaks in the summer and fall months as discussed above. Management believes that
our cash balances and funds provided by operating activities, along with the
borrowing capacity under our ABL Facility, taken as a whole, provide (i)
adequate liquidity to meet all of our current and long-term obligations when
due, including third-party debt that we incurred in connection with the
Separation, (ii) adequate liquidity to fund capital expenditures, and (iii)
flexibility to consider investment opportunities that may arise. However,
certain investment opportunities may require us to seek additional debt or
equity financing, and there can be no assurances that we will be able to obtain
additional debt or equity financing on acceptable terms, if at all, in the
future.
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We expect to utilize our cash flows to continue to invest in our brands, talent and capabilities, and growth strategies as well as to repay our indebtedness over time. We believe that our available short-term and long-term capital resources are sufficient to fund requirements over the next 12 months.
Working Capital and Capitalization
Prior to the Separation, we generated annual cash flow from operating activities to support our working capital needs. However, we were operating within the Former Parent's cash management structure, which used a centralized approach to cash management and financing of our operations. As a result, a substantial portion of our cash was transferred to the Former Parent. This arrangement was not reflective of the manner in which we would have financed our operations had we been an independent, publicly traded company during the periods presented prior to the Separation. Based upon our cash balances and funds provided by operating activities, along with the borrowing capacity under our ABL Facility, we believe we will be able to continue to meet our working capital needs. The following table provides a summary of our working capital position and capitalization for the periods post-Separation as ofJuly 30, 2022 andJanuary 29, 2022 :July 30 ,January 29, 2022 2022 (in millions)
Net Cash Provided by (Used for) Operating Activities (a)
851
Capital Expenditures (a) 58 169
Working Capital 107 (7)
Capitalization:
Long-term Debt 977 978
Victoria's Secret & Co. Shareholders' Equity 247 257
Total Capitalization$ 1,224 $
1,235
Amounts Available Under the ABL Facility (b)$ 545 $
523
_______________
(a)TheJuly 30, 2022 amounts represent a twenty-six-week period and theJanuary 29, 2022 amounts represent a fifty-two-week period. (b)For the reporting periods endedJuly 30, 2022 andJanuary 29, 2022 , our borrowing base was$585 million and$564 million , respectively, and there were no borrowings outstanding under the ABL Facility for either period. We had outstanding letters of credit, which reduce our availability under the ABL Facility, of$40 million as ofJuly 30, 2022 and$41 million as ofJanuary 29, 2022 .
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