Gap Inc. Reports Fourth Quarter and Fiscal Year 2018 Results

Company outlines plans to restructure specialty fleet and revitalize
Gap brand health

SAN FRANCISCO–(BUSINESS WIRE)–Gap
Inc.
(NYSE: GPS) today reported fourth quarter and fiscal year 2018
results, announced plans to restructure the Gap brand specialty fleet
and revitalize brand health, and provided guidance for fiscal year 2019.

Today the company also announced plans to separate into two publicly
traded companies: Old Navy, and a yet-to-be-named company (“NewCo”),
which will consist of the iconic Gap brand, Athleta, Banana Republic,
Intermix and Hill City. Details of the separation were disclosed in a
separate press release.

“We’re pleased that progress on our productivity goals and operational
discipline allowed us to deliver our earnings per share guidance even in
the face of macro headwinds and softer trends,” said Art Peck, president
and chief executive officer, Gap Inc. “As we look ahead to 2019 and
beyond, we know what we need to do to win and, combined with the
separation we announced today, we will be well positioned to leverage
the power of our brands and the talented teams that lead them to
accelerate the pace of change, improve execution and deliver profitable
growth.”

Specialty Fleet Restructuring and Gap Brand Revitalization

Fleet Restructuring:

The company announced a plan today to restructure the specialty fleet,
including the closure of about 230 Gap specialty stores over the next
two years.

The company estimates an annualized sales loss of approximately $625
million as a result of these store closures. Additionally, the company
estimates pre-tax costs associated with these actions to be about $250
million to $300 million, with the majority expected to be cash
expenditures. The company estimates that these actions will result in
annualized pretax savings of about $90 million.

The remaining specialty fleet will serve as a more appropriate
foundation for future growth of the brand across the specialty, outlet
and online channels. There will be a healthier channel mix after the
restructuring, with nearly 40% of sales coming from online, and the
remainder split fairly evenly between the specialty and value channels.

Brand Revitalization:

While stores are an important part of the customer journey, the Company
is actively working on multiple initiatives to revitalize the Gap brand
by re-engaging with customers and expanding its loyal customer base,
leveraging the multigenerational, democratic appeal of the brand.
Improving the product by recapturing the traditional Gap attributes of
style, quality, fit and value is a top priority. The company intends to
modernize its marketing model to efficiently build engagement and
loyalty.

Fourth Quarter and Fiscal Year 2018 Results

The company reported fourth quarter fiscal year 2018 diluted earnings
per share of $0.72 compared with fourth quarter fiscal year 2017
reported diluted earnings per share of $0.52, or $0.61 on an adjusted
basis. Please see the reconciliation of adjusted diluted earnings per
share, a non-GAAP financial measure, from the GAAP financial measure in
the tables at the end of this press release.

The company reported fiscal year 2018 diluted earnings per share of
$2.59, compared with fiscal year 2017 reported diluted earnings per
share of $2.14, or $2.13 on an adjusted basis.

The company noted that foreign currency fluctuations positively impacted
earnings per share for the fourth quarter and fiscal year 2018 by an
estimated $0.01 and $0.04, respectively.1

Comparable Sales Results

Due to the 53rd week in fiscal 2017, comparable sales for the
fourth quarter and fiscal year 2018 are compared with the 13-week and
52-week periods ended February 3, 2018. On this basis, the company’s
fourth quarter comparable sales were down 1% compared with a 5% increase
last year. Comparable sales by global brand for the fourth quarter were
as follows:

  • Old Navy Global: flat versus positive 9% last year
  • Gap Global: negative 5% versus flat last year
  • Banana Republic Global: negative 1% versus positive 1% last year

For fiscal year 2018, the company’s comparable sales were flat compared
with a 3% increase last year. Comparable sales by global brand for
fiscal year 2018 were as follows:

  • Old Navy Global: positive 3% versus positive 6% last year
  • Gap Global: negative 5% versus negative 1% last year
  • Banana Republic Global: positive 1% versus negative 2% last year

Recent Accounting Pronouncement – Revenue Recognition

During the first quarter of fiscal 2018, the company adopted the new
revenue recognition standard, ASC 606. The adoption of this standard has
a significant impact on the presentation of certain line items within
the Consolidated Statements of Income, but does not have a significant
impact to operating income, net income or earnings per share. The most
significant presentation changes are the reclassifications from
operating expenses to net sales for revenue sharing associated with the
company’s credit card programs and breakage income for our gift cards,
as well as reclassifications from cost of goods sold and occupancy
expenses to net sales for reimbursements of loyalty program discounts
associated with the company’s credit card programs.

The company adopted this standard in the first quarter of fiscal 2018,
on a modified retrospective basis. For the fourth quarter of fiscal
2018, the presentation changes resulted in an increase of $170 million
to net sales, an increase of $47 million to cost of goods sold and
occupancy expenses, and an increase of $123 million to operating
expenses. For fiscal year 2018, the presentation changes resulted in an
increase of $619 million to net sales, an increase of $176 million to
cost of goods sold and occupancy expenses, and an increase of $443
million to operating expenses. Other changes resulting from the adoption
did not have a material impact on the company’s operating income, net
income, or earnings per share for either the fourth quarter or fiscal
year 2018.

In accordance with the company’s adoption of the standard on a modified
retrospective basis, financial information prior to fiscal 2018 will not
be recast. The summary below provides financial measures with and
without the presentation changes for revenue sharing and reimbursements
of loyalty program discounts associated with the company’s credit card
programs and breakage income for our gift cards.

Additional Fourth Quarter and Fiscal Year 2018 Results

  • The company noted that fiscal year 2018 had 52 weeks compared with 53
    weeks in fiscal year 2017. As a result, fourth quarter and fiscal year
    2018 results were negatively impacted by the loss of the 53rd
    week. For fiscal 2018, the loss of the 53rd week was a
    detriment of approximately $0.06 to diluted earnings per share.
  • Fourth quarter fiscal year 2018 net sales were $4.6 billion and fiscal
    year 2018 net sales were $16.6 billion. Excluding the presentation
    changes from the adoption of the new revenue recognition standard,
    fourth quarter 2018 net sales decreased 7% compared with last year and
    fiscal year 2018 net sales increased 1% compared with last year.

    • The translation of foreign currencies into U.S. dollars negatively
      impacted the company’s net sales for the fourth quarter of fiscal
      year 2018 by about $28 million and positively impacted the
      company’s net sales for fiscal year 2018 by about $17 million.2
      Fourth quarter and fiscal year 2018 net sales details appear in
      the tables at the end of this press release.
  • Fourth quarter fiscal year 2018 gross profit was $1.65 billion, a
    decrease of 6% compared with last year. Excluding the impact of
    presentation changes from the adoption of the new revenue recognition
    standard, gross profit decreased about 13% compared with last year.
  • Fiscal year 2018 gross profit was $6.32 billion, an increase of 4%
    compared with last year. Excluding the impact of presentation changes
    from the adoption of the new revenue recognition standard, gross
    profit decreased about 3% compared with last year.
  • Fourth quarter fiscal year 2018 gross margin was 35.6%, a decrease of
    120 basis points compared with last year. Excluding the impact of
    presentation changes from the adoption of the new revenue recognition
    standard, fourth quarter fiscal year 2018 gross margin was 34.2%, a
    decrease of 260 basis points compared with last year, largely driven
    by elevated promotional activity at Old Navy and Gap brand.
  • Fiscal year 2018 gross margin was 38.1%, a decrease of 20 basis points
    compared with last year. Excluding the impact of presentation changes
    from the adoption of the new revenue recognition standard, fiscal year
    2018 gross margin was 36.8%, a decrease of 150 basis points compared
    with last year.
  • Fourth quarter fiscal year 2018 operating margin was 8.0%, a decrease
    of 30 basis points compared with last year. Excluding the impact of
    presentation changes from the adoption of the new revenue recognition
    standard, fourth quarter fiscal year 2018 operating margin was 8.4%,
    an increase of 10 basis points compared with last year.
  • Fiscal year 2018 operating margin was 8.2%, a decrease of 110 basis
    points compared with operating margin of 9.3% last year. Excluding the
    impact of presentation changes from the adoption of the new revenue
    recognition standard, fiscal year 2018 operating margin was 8.5%, a
    decrease of 40 basis points compared with adjusted operating margin of
    8.9% last year. Please see the reconciliation of adjusted operating
    margin, a non-GAAP financial measure, from the GAAP financial measure
    in the tables at the end of this press release.
  • The effective tax rate was 24.4% for the fourth quarter of fiscal year
    2018. The company finalized its provisional amounts related to the
    enactment of the U.S. Tax Cuts and Jobs Act of 2017 (“TCJA”) in the
    fourth quarter of fiscal year 2018, with no material impacts.
  • The effective tax rate for fiscal year 2018 was 24.1%. The effective
    tax rate reflects the benefits of the enactment of TCJA, as well as
    certain adjustments to the liability for the one-time transition tax
    enacted as part of the TCJA in fiscal year 2017, partially offset by
    increases to liabilities recorded in connection with examinations by
    taxing authorities.
  • During the quarter, the company repurchased 3.8 million shares for $98
    million. For fiscal year 2018, the Company repurchased 13.8 million
    shares for $398 million and ended fiscal year 2018 with 378 million
    shares outstanding. Underscoring Gap Inc.’s continued commitment to
    distributing cash to shareholders, on February 26, 2019, the company
    announced that its Board of Directors approved a new $1 billion share
    repurchase authorization for the company’s common stock, superseding
    the company’s existing authorization dated February 25, 2016.
  • The company paid a dividend of $0.2425 per share during the fourth
    quarter of fiscal year 2018, an increase of over 5% compared with last
    year. In addition, on February 26, 2019, the company announced that
    its Board of Directors authorized a first quarter dividend of $0.2425
    per share.

The company ended the fourth quarter of fiscal year 2018 with $1.4
billion in cash, cash equivalents, and restricted cash, as well as $288
million of short-term investments. Fiscal year 2018 free cash flow,
defined as net cash from operating activities less purchases of property
and equipment, net of insurance proceeds related to loss of property and
equipment, was $676 million, compared to fiscal year 2017 free cash flow
of $715 million, which included $66 million in insurance proceeds
related to loss on property and equipment due to the Fishkill fire.
Please see the reconciliation of free cash flow, a non-GAAP financial
measure, from the GAAP financial measure in the tables at the end of
this press release.

Fiscal year 2018 capital expenditures were $705 million.

The company ended fiscal year 2018 with 3,666 store locations in 43
countries, of which 3,194 were company-operated.

Recent Accounting Pronouncement – Leases

In the first quarter of fiscal 2019, the company will adopt ASU No.
2016-02, Leases. The adoption is not expected to have a significant
impact on the company’s consolidated statement of income, but it will
result in a substantial gross-up on the company’s consolidated balance
sheet to recognize a lease liability and right of use asset for leases.
The company will apply the standard prospectively with a cumulative
adjustment to retained earnings in the first quarter of fiscal 2019.

2019 Outlook

Earnings per Share

For fiscal year 2019, the company expects reported diluted earnings per
share to be in the range of $2.11 to $2.26. Excluding the estimated
costs related to the Gap brand fleet restructuring, diluted earnings per
share is expected to be in the range of $2.40 to $2.55. Please see the
reconciliation of expected adjusted diluted earnings per share, a
non-GAAP financial measure, from the GAAP financial measure in the
tables at the end of this press release.

Comparable Sales

The company expects comparable sales for fiscal year 2019 to be flat to
up slightly.

Effective Tax Rate

For fiscal 2019, the company expects the effective tax rate to be about
26%. The effective tax rate may be materially impacted as additional
guidance related to TCJA is issued by the U.S. Treasury Department and
Internal Revenue Service.

Share Repurchases

The company currently expects to repurchase approximately $200 million
in fiscal year 2019.

Capital Expenditures

The company expects fiscal 2019 capital spending to be approximately
$750 million, including about $100 million of expansion costs related to
a headquarters building and a buildout of its Ohio distribution center.
In addition, at the beginning of fiscal 2019, the company entered into
an agreement to purchase its Old Navy headquarters building and
anticipates selling another property during fiscal 2019. The company
expects a net cash outflow of about $100 to $150 million related to
these real estate transactions.

Real Estate

The company expects to close about 50 company-operated stores, net of
openings and repositions in fiscal year 2019. This guidance includes
about 130 closures related to the Gap brand fleet restructuring
announced today, the majority of which are expected to close in the
fourth quarter of fiscal 2019. The company expects store openings to be
focused on Old Navy and Athleta locations.

Webcast and Conference Call Information

Tina Romani, Senior Director of Investor Relations at Gap Inc., will
host a summary of the company’s fourth quarter and fiscal year 2018
results during a conference call and webcast from approximately 2:00
p.m. to 3:00 p.m. Pacific Time today. Ms. Romani will be joined by Art
Peck, Gap Inc. president and chief executive officer, and Teri
List-Stoll, Gap Inc. executive vice president and chief financial
officer.

The conference call can be accessed by calling 1-855-5000-GPS or
1-855-500-0477 (participant passcode: 5575210). International callers
may dial 1-323-794-2078. The webcast can be accessed at www.gapinc.com.

Forward-Looking Statements

This press release and related conference call and webcast contain
forward-looking statements within the “safe harbor” provisions of the
Private Securities Litigation Reform Act of 1995. All statements other
than those that are purely historical are forward-looking statements.
Words such as “expect,” “anticipate,” “believe,” “estimate,” “intend,”
“plan,” “project,” and similar expressions also identify forward-looking
statements. Forward-looking statements include statements regarding the
following: plans to restructure the Gap brand specialty fleet, including
anticipated store closures and timing, impact to annualized sales,
associated costs, and effect on annualized savings; earnings per share
for first half and the full year of fiscal year 2019; comparable sales
for fiscal year 2019; effective tax rate for fiscal year 2019; share
repurchases in fiscal year 2019; capital expenditures for fiscal year
2019; store openings and closings, net of closures and repositions, and
weighting by brand in fiscal year 2019; improvement in Gap brand’s
margin trend in fiscal year 2019; dividends and share repurchases in
fiscal year 2019; impact from foreign exchange in fiscal year 2019; and
impact of the adoption of new accounting standards.

Because these forward-looking statements involve risks and
uncertainties, there are important factors that could cause the
company’s actual results to differ materially from those in the
forward-looking statements. These factors include, without limitation,
the following risks, any of which could have an adverse effect on the
company’s financial condition, results of operations, and reputation:
the risk that additional information may arise during the company’s
close process or as a result of subsequent events that would require the
company to make adjustments to its financial information; the risk that
the company or its franchisees will be unsuccessful in gauging apparel
trends and changing consumer preferences; the highly competitive nature
of the company’s business in the United States and internationally; the
risk of failure to maintain, enhance and protect the company’s brand
image; the risk of failure to attract and retain key personnel, or
effectively manage succession; the risk that the company’s investments
in customer, digital, and omni-channel shopping initiatives may not
deliver the results the company anticipates; the risk if the company is
unable to manage its inventory effectively; the risk that the company is
subject to data or other security breaches that may result in increased
costs, violations of law, significant legal and financial exposure, and
a loss of confidence in the company’s security measures; the risk that a
failure of, or updates or changes to, the company’s information
technology systems may disrupt its operations; the risk that trade
matters could increase the cost or reduce the supply of apparel
available to the company; the risk of changes in the regulatory or
administrative landscape; the risks to the company’s business, including
its costs and supply chain, associated with global sourcing and
manufacturing; the risk of changes in global economic conditions or
consumer spending patterns; the risks to the company’s efforts to expand
internationally, including its ability to operate in regions where it
has less experience; the risks to the company’s reputation or operations
associated with importing merchandise from foreign countries, including
failure of the company’s vendors to adhere to its Code of Vendor
Conduct; the risk that the company’s franchisees’ operation of franchise
stores is not directly within the company’s control and could impair the
value of its brands; the risk that the company or its franchisees will
be unsuccessful in identifying, negotiating, and securing new store
locations and renewing, modifying, or terminating leases for existing
store locations effectively; the risk of foreign currency exchange rate
fluctuations; the risk that comparable sales and margins will experience
fluctuations; the risk that changes in the company’s credit profile or
deterioration in market conditions may limit the company’s access to the
capital markets; the risk of natural disasters, public health crises,
political crises, negative global climate patterns, or other
catastrophic events; the risk of reductions in income and cash flow from
the company’s credit card agreement related to its private label and
co-branded credit cards; the risk that the adoption of new accounting
pronouncements will impact future results; the risk that the company
does not repurchase some or all of the shares it anticipates purchasing
pursuant to its repurchase program; and the risk that the company will
not be successful in defending various proceedings, lawsuits, disputes,
and claims.

Additional information regarding factors that could cause results to
differ can be found in the company’s Annual Report on Form 10-K for the
fiscal year ended February 3, 2018, as well as the company’s subsequent
filings with the Securities and Exchange Commission.

These forward-looking statements are based on information as of February
28, 2019. The company assumes no obligation to publicly update or revise
its forward-looking statements even if experience or future changes make
it clear that any projected results expressed or implied therein will
not be realized.

About Gap Inc.

Gap Inc. is a leading global retailer offering clothing, accessories,
and personal care products for men, women, and children under the Old
Navy, Gap, Banana Republic, Athleta, Intermix, and Hill City brands.
Fiscal year 2018 net sales were $16.6 billion. Gap Inc. products are
available for purchase in more than 90 countries worldwide through
company-operated stores, franchise stores, and e-commerce sites. For
more information, please visit www.gapinc.com.

1 In estimating the earnings per share impact from foreign
currency exchange rate fluctuations, the company estimates current gross
margins using the appropriate prior year rates (including the impact of
merchandise-related hedges), translates current period foreign earnings
at prior year rates, and excludes the year-over-year earnings impact of
balance sheet remeasurement and gains or losses from
non-merchandise-related foreign currency hedges. This is done in order
to enhance the visibility of business results excluding the direct
impact of foreign currency exchange rate fluctuations.

2 The translation impact on net sales is calculated by
applying foreign exchange rates applicable for the fourth quarter and
fiscal year 2018 to net sales for the fourth quarter and fiscal year
2017. This is done to enhance the visibility of underlying sales trends,
excluding the impact of foreign currency exchange rate fluctuations.

 
The Gap, Inc.
CONDENSED CONSOLIDATED BALANCE SHEETS
UNAUDITED
 

($ in millions)

 

February 2,
2019

 

February 3,
2018

ASSETS
Current assets:
Cash and cash equivalents $ 1,081 $ 1,783
Short-term investments 288
Merchandise inventory 2,131 1,997
Other current assets   751     788  
Total current assets 4,251 4,568
Property and equipment, net 2,912 2,805
Other long-term assets   886     616  
Total assets $ 8,049   $ 7,989  
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable $ 1,126 $ 1,181
Accrued expenses and other current liabilities 1,024 1,270
Income taxes payable   24     10  
Total current liabilities   2,174     2,461  
Long-term liabilities:
Long-term debt 1,249 1,249

Lease incentives and other long-term liabilities

 

1,073

    1,135  
Total long-term liabilities   2,322     2,384  
Total stockholders’ equity   3,553     3,144  
Total liabilities and stockholders’ equity $ 8,049   $ 7,989  
 
 
The Gap, Inc.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
UNAUDITED
 
  13 Weeks Ended   14 Weeks Ended  

52 Weeks Ended

  53 Weeks Ended

($ and shares in millions except per share amounts)

February 2,
2019

February 3,
2018

February 2,
2019

February 3,
2018

Net sales $ 4,623 $ 4,778 $ 16,580 $ 15,855

Cost of goods sold and occupancy expenses

  2,978     3,019     10,258     9,789  
Gross profit 1,645 1,759 6,322 6,066
Operating expenses   1,273     1,363     4,960     4,587  
Operating income 372 396 1,362 1,479
Interest, net   7     13     40     55  
Income before income taxes 365 383 1,322 1,424
Income taxes   89     178     319     576  
Net income $ 276   $ 205   $ 1,003   $ 848  
 
Weighted-average number of shares – basic 381 389 385 393
Weighted-average number of shares – diluted 383 393 388 396
 
Earnings per share – basic $ 0.72 $ 0.53 $ 2.61 $ 2.16
Earnings per share – diluted $ 0.72 $ 0.52 $ 2.59 $ 2.14
 
Cash dividends declared and paid per share $ 0.2425 $ 0.23 $ 0.97 $ 0.92
 
 
The Gap, Inc.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
 
  52 Weeks Ended   53 Weeks Ended

($ in millions)

February 2,
2019 (b)

February 3,
2018 (b)

Cash flows from operating activities:
Net income $ 1,003 $ 848
Depreciation and amortization (a) 517 499
Change in merchandise inventory (154 ) (142 )
Other, net   15     175  
Net cash provided by operating activities   1,381     1,380  
 
Cash flows from investing activities:
Purchases of property and equipment (705 ) (731 )
Insurance proceeds related to loss on property and equipment 66
Purchases of short-term investments (464 )
Sales and maturities of short-term investments 177
Other   (9 )   (1 )
Net cash used for investing activities   (1,001 )   (666 )
 
Cash flows from financing activities:
Payments of short-term debt (67 )
Proceeds from issuances under share-based compensation plans 46 30
Withholding tax payments related to vesting of stock units (23 ) (18 )
Repurchases of common stock (398 ) (315 )
Cash dividends paid (373 ) (361 )
Other   (1 )    
Net cash used for financing activities   (749 )   (731 )
 
Effect of foreign exchange rate fluctuations on cash, cash
equivalents, and restricted cash
  (10 )   19  
Net decrease in cash, cash equivalents, and restricted cash (379 ) 2
Cash, cash equivalents, and restricted cash at beginning of period   1,799     1,797  
Cash, cash equivalents, and restricted cash at end of period $ 1,420   $ 1,799  

Contacts

Investor Relations Contact:
Tina Romani
(415) 427-5264
[email protected]

Media Relations Contact:
Trina Somera
(415) 427-3145
[email protected]

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