Item 1A. Risk Factors
Macroeconomic and Industry Risks
Our inability to anticipate and respond to changing consumer preferences and fashion trends and fluctuations in customerdemand in a timely manner could adversely impact our profitability.
Our future success depends, in part, upon our ability to identify and respond to fashion trends and changing consumer preferences in a timely manner. The specialty retail apparel business fluctuates according to changes in the economy and customer preferences, dictated by fashion and season. These fluctuations can materially impact our sales and gross margins which is exacerbated by the fact that merchandise is typically ordered well in advance of the selling season. As a result, we are susceptible to changing fashion trends and fluctuations in customer demands.
Lead times for many of our design and purchasing decisions may make it more difficult for us to respond rapidly to new or changing apparel trends or consumer acceptance of our products. As a result, we are vulnerable to changes in consumer demand, pricing shifts and the timing and selection of merchandise purchases. Our failure to enter into agreements for the manufacture and purchase of merchandise in a timely manner could, among other things, lead to a shortage of inventory and lower sales. Changes in fashion trends, if unsuccessfully identified, forecasted or responded to by us, could, among other matters, lead to lower sales, excess inventories and higher markdowns, which in turn could have a material adverse effect on our results of operations and financial condition.
Our business is highly competitive, and we face significant pricing pressures from existing and new competitors.
The sale of apparel, accessories, intimates, and personal care products is a highly competitive business with numerous participants, including individual and chain specialty apparel retailers, local, regional, national, and international department stores, discount stores and online businesses. Changing consumer preferences has and may continue to result in new competition for our products. The substantial sales growth in the digital channel within the last several years has increased competition due to new entrants in the market and has resulted in pricing pressures from new entrants and established competitors. Some of these competitors have robust digital customer experiences and highly efficient delivery systems. Furthermore, the decrease in mall traffic is putting a greater reliance on the digital channel and thus increasing the competitive threat.
We face a variety of competitive challenges, including:
• Sourcing merchandise efficiently;
In light of the competitive challenges we face, we may not be able to compete successfully in the future and have lower market share. Additionally, increases in competition could reduce our sales, which in turn could have a material adverse effect on our results of operations and financial condition.
The effect of economic pressures and other business factors on discretionary consumer spending and changes in consumer preferences could have a material adverse effect on our business, results of operations and liquidity.
The success of our operations is highly dependent on consumer spending, which can be negatively impacted by economic conditions as well as factors affecting disposable consumer income such as income taxes, payroll taxes,
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employment, consumer debt, interest rates, increases in energy costs and consumer confidence. We may be negatively impacted by changes in consumer preferences and discretionary spending habits such as consumer behavior reallocating to non-retail discretionary consumer spending.
Seasonality may cause sales to fluctuate and negatively impact our results of operations.
Historically, our operations have been seasonal, with a large portion of total net revenue and operating income occurring in the third and fourth fiscal quarters, reflecting increased demand during the back-to-school and year-end holiday selling seasons, respectively. Because of this seasonality, factors negatively affecting us during the third and fourth fiscal quarters of any year, including adverse weather or unfavorable economic conditions, could have a material adverse effect on our financial condition and results of operations for the entire year. Our quarterly results of operations also may fluctuate based upon such factors as the timing of certain holiday seasons, the number and timing of new store openings, the acceptability of seasonal merchandise offerings, the timing and level of markdowns, store closings and remodeling’s, competitive factors, weather and general economic and political conditions.
The novel coronavirus (COVID-19) pandemic has had, and is expected to continue to have, an adverse effect on our business and results of operations.
In late 2019, COVID-19 was first detected in Wuhan, China. In March 2020, the World Health Organization declared COVID-19 a global pandemic, and governmental authorities around the world have implemented measures to reduce the spread of COVID-19. These measures have adversely affected workforces, customers, consumer sentiment, economies, and financial markets, and, along with decreased consumer spending have led to an economic downturn in many of our markets. We continue to operate our e-commerce business, and had to temporarily close our corporate offices and American Eagle and Aerie physical stores. We have since reopened nearly all of our stores, but have had to operate at lower capacities than normal.
The COVID-19 pandemic also directly threatens the health of our associates and customers. The operation of all of our stores is critically dependent on our associates who staff these locations. In the event that an associate tests positive for COVID-19, we have had to, and may in the future have to, temporarily close one or more stores, offices or distribution centers for cleaning and/or quarantine of one or more associates, which could negatively impact our financial results.
We are unable to accurately predict the impact that COVID-19 will have on our operations going forward due to uncertainties that will be dictated by the length of time that such disruptions continue, which will, in turn, depend on the currently unknowable duration of the COVID-19 pandemic, any resurgences of COVID-19 in areas where our stores, customers, or associates are located, and the impact of governmental regulations that might be imposed in response to the pandemic, which could, among other things, require that we close our distribution and fulfillment centers or otherwise make it difficult or impossible to operate our e-commerce business. Numerous state and local jurisdictions have imposed, and others in the future may impose, shelter-in-place orders, quarantines, executive orders and similar government orders and restrictions for their residents to control the spread of COVID-19. Such orders and restrictions have resulted in temporary store closures, work stoppages, slowdowns and delays, travel restrictions and cancellations of events, among other effects, thereby negatively impacting our operations. In addition, we expect to be impacted by a deterioration of economic conditions in the United States, which potentially could have an impact on discretionary consumer spending. To the extent that our target customer demographic is disproportionately impacted by unemployment or otherwise as a result of the COVID-19 pandemic, our business may be further adversely affected. The ultimate impacts of the COVID-19 outbreak to our business remain highly uncertain and will depend on future developments, including changes in consumer behavior and traditions, changed mandated or recommended by government or health officials, and the widespread availability use and effectiveness of vaccines, which are highly uncertain and cannot be predicted. While it is premature to accurately predict the ultimate impact of these developments, we expect our results for the remainder of the COVID-19 pandemic to be adversely impacted in a significant manner.
Our results could be adversely affected by natural disasters, public health crises, political crises, negative global climate patterns, or other catastrophic events.
Natural disasters, such as hurricanes, tornadoes, floods, earthquakes, extreme cold events and other adverse weather conditions; public health crises (including, without limitation, the recent coronavirus outbreak), such as pandemics and epidemics; political crises, such as terrorist attacks, war, labor unrest, and other political instability; negative global climate patterns, especially in water stressed regions; or other catastrophic events, such as fires or other disasters occurring at our distribution centers or our vendors' manufacturing facilities, whether occurring in the United States or internationally, could disrupt our operations, including the operations of our licensees, or the operations of one or more of our vendors. In
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particular, these types of events could impact our supply chain from or to the impacted region and could impact our ability or the ability of our licensees or other third parties to operate our stores or websites. In addition, these types of events could negatively impact consumer spending in the impacted regions or, depending upon the severity, globally. Disasters occurring at our vendors’ manufacturing facilities could impact our reputation and our customers’ perception of our brands. To the extent any of these events occur, our operations and financial results could be adversely affected.
Impairment to goodwill, intangible assets, and other long-lived assets could adversely impact our profitability.
Significant negative industry or general economic trends, changes in customer demand for our product, disruptions to our business, and unexpected significant changes or planned changes in our operating results or use of long-lived assets may result in impairments to goodwill, intangible assets, and other long-lived assets.
Strategic Risks
Our inability to grow our digital channels and leverage omni-channel capabilities could adversely impact our business.
We have and expect to continue to make significant investments in building our technologies and digital capabilities in three key areas: mobile technology, digital marketing, and the digital customer experience. We have made significant capital investments in these areas but there is no assurance that we will realize a return on those investments or be successful in growing our digital channels.
As omni-channel retailing continues to evolve, our customers are increasingly more likely to shop across multiple channels that work in tandem to meet their needs. In addition, our competitors are also investing in omni-channel initiatives, some of which may be more successful than our initiatives. Our inability to respond to these changes and successfully maintain and expand our omni-channel business may have an adverse impact on our results of operations.
Failure to define, launch and communicate a brand relevant customer experience could have a negative impact on our growth and profitability.
We strive to build strong emotional connections with our customers and to enrich the customer experience. If our marketing and customer experience programs, including our loyalty program, are unsuccessful, or if our competitors are more effective with their programs than we are, our growth and profitability may be negatively affected.
Our efforts to execute on our key business priorities could have a negative impact on our growth and profitability.
Our success depends on our ability to execute on our key priorities, which are centered on driving our brands forward and delivering an exceptional customer experience across channels, including:
• Double Aerie to $2 billion in revenue.
• Reignite American Eagle for profit growth.
As part of the plan, the Company will leverage customer-focused capabilities and continue to strengthen its ROI discipline, while building on the power of AEO’s people, culture and purpose.
Achieving these key business priorities depends on us executing our strategies successfully, and the initiatives that we implement in connection with these goals may not resonate with our customers. It may take longer than anticipated to generate the expected benefits of our initiatives, and there can be no guarantee that pursuing these key priorities will result in improved operating results or achievement of a given priority. Misalignment and competing initiatives could result in inefficiencies, erroneously prioritized efforts, and resource dilution. Failure to implement our key business priorities successfully could have a negative impact on our growth and profitability.
Our efforts to expand internationally expose us to risks inherent in operating in new countries.
We are actively pursuing additional international expansion initiatives, which include Company-owned stores and stores operated by third parties through licensing arrangements in select international markets. The effect of international expansion arrangements on our business and results of operations is uncertain and will depend upon various factors, including the demand for our products in new markets internationally. Furthermore, although we provide store operation training, literature and support, to the extent that a licensee does not operate its stores in a manner consistent with our
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requirements regarding our brand and customer experience standards, our business results and the value of our brand could be negatively impacted.
A failure to implement our expansion initiatives properly, or the adverse impact of political or economic risks in these international markets, could have a material adverse effect on our results of operations and financial condition. We have limited prior experience operating internationally where we face established competitors. In many of these locations, the real estate, labor and employment, transportation and logistics and other operating requirements differ dramatically from those in the locations where we have more experience. Consumer demand and behavior, as well as tastes and purchasing trends, may differ substantially, and as a result, sales of our products may not be successful, or the margins on those sales may not be in line with those we currently anticipate. Any differences that we encounter as we expand internationally may divert financial, operational, and managerial resources from our existing operations, which could adversely impact our financial condition and results of operations. In addition, we are increasingly exposed to foreign currency exchange rate risk with respect to our revenue, profits, assets, and liabilities denominated in currencies other than the U.S. dollar. The instruments we may use to hedge certain foreign currency risks in the future may not succeed in offsetting all of the negative impact of foreign currency rate movements on our business and results of operations.
As we pursue our international expansion initiatives, we are subject to certain laws, including the Foreign Corrupt Practices Act, as well as the laws of the foreign countries in which we operate. Violations of these laws could subject us to sanctions or other penalties that could have an adverse effect on our reputation, operating results and financial condition.
Operational Risks
Our failure to protect our reputation could have a material adverse effect on our brands.
Our business depends on the value and reputation of our brands and our ability to anticipate, identify, and respond to customers’ demands, preferences, and fashion trends. In addition, the increasing use of social media platforms allows for rapid communication and any negative publicity related to the aforementioned concerns may reduce demand for our merchandise. Public perception about our products or our stores, whether justified or not, could impair our reputation, involve us in litigation, damage our brands and may adversely impact our business, results of operations, and financial condition.
Our inability to implement and sustain adequate information technology systems could adversely impact our profitability.
We regularly evaluate our information technology systems and are currently implementing modifications and/or upgrades to the information technology systems that support our business. Modifications include replacing legacy systems with successor systems, making changes to legacy systems, or acquiring new systems with new functionality. We are aware of the inherent risks associated with operating, replacing, and modifying these systems, including inaccurate system information and system disruptions. There is a risk that information technology system disruptions and inaccurate system information, if not anticipated and/or promptly and appropriately mitigated, could have a material adverse effect on our results of operations. Additionally, there can be no guarantee that, if any computer system failure, cyber-attack, or security breach occurs, it will be timely detected or sufficiently remediated. Furthermore, if our information technology systems are damaged, breached or cease to properly function for any reason, including the poor performance of, failure of, or cyber-attack on third-party service providers, catastrophic events, power outages, cyber-security breaches, network outages, failed upgrades or similar events, and if our disaster recovery and business continuity plans do not effectively resolve such issues, we may suffer interruptions in our ability to manage or conduct business, as well as reputational harm, and we may be subject to governmental investigations and litigation, any of which may adversely impact our business, results of operations, and financial condition.
Measures intended to prevent the spread of COVID-19 may negatively impact our operations.
In response to the COVID-19 outbreak and the government mandates implemented to control its spread, most of our corporate office associates are working remotely. If our associates are unable to work effectively as a result of the COVID-19 outbreak, including because of illness, quarantines, office closures, ineffective remote work arrangements or technology failures or limitations, our operations would be adversely impacted. Further, remote work arrangements may increase the risk of security incidents, data breaches or cyber-attacks, which could have a material adverse effect on our business and results of operations, due to, among other things, the loss of proprietary data, interruptions or delays in the operation of our business, damage to our reputation and any government-imposed penalty.
Our inability to safeguard against security incidents with respect to our information technology systems could damage ourreputation and adversely impact our profitability.
Our business employs systems and websites that allow for the storage and transmission of proprietary or confidential information regarding our business, customers, and employees including credit card information, street addresses, and
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email addresses. Attackers continuously enhance and evolve in their efforts to compromise our systems and websites. Such security incidents could expose us to a risk of loss or misuse of this proprietary or confidential information, random demands and potential liability. We have experienced cyber incidents, which have not had a material adverse impact on our business or required external notification and for which we have taken measures to prevent from reoccurring. However, we may experience security incidents in the future, potentially with more frequency and/or sophistication. We may not be able to anticipate or prevent rapidly evolving types of cyber-attacks. Actual or anticipated attacks may cause us to incur increasing costs including costs to deploy additional personnel and protection technologies, train employees, and engage third-party experts and consultants. Advances in computer capabilities, new technological discoveries, or other developments may result in the technology we use to protect transaction or other data being breached or compromised. Security breaches can also occur as a result of non-technical issues including intentional or inadvertent action or inaction of our employees or persons with whom we have commercial relationships that result in security incident. Any security incident could result in a violation of applicable privacy and other laws, significant financial exposure and a loss of confidence in our security measures, which could have an adverse effect on our results of operations and our reputation.
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We may be exposed to risks and costs associated with the loss of customer information that would cause us to incurunexpected expenses and loss of revenues.
We collect customer data, including encrypted credit card information, in our stores, at special events and online. For our sales channels to function successfully, we and third parties involved in processing customer transactions for us must be able to transmit confidential information, including credit card information, securely over public networks. We cannot guarantee that any of our security measures or the security measures of third parties with whom we work will effectively prevent others from obtaining unauthorized access to our customers’ information. If such a breach were to occur, customers could lose confidence in our ability to secure their information and choose not to purchase from us. Any unauthorized access to customer information could expose us to data loss or manipulation, litigation and legal liability, and could seriously disrupt operations, negatively impact our marketing capabilities, cause us to incur significant expenses to notify customers of the breach and for other remediation activities, and harm our reputation and brand, any of which could adversely affect our financial condition and results of operations.
In addition, state, federal, and foreign governments are increasingly enacting laws and regulations protecting consumers’ privacy and personal information against identity theft and unwanted exposure. These laws and regulations likely will increase the costs of doing business. If we fail to implement appropriate security measures or fail to detect and provide applicable notice of unauthorized access (as required by some of these laws and regulations), we could be subject to potential governmental investigations, claims for damages, or other remedies, which could adversely affect our business and operations.
Our failure to manage growth in our omni-channel operations and the resulting impact on our distribution and fulfillment networks may have an adverse effect on our results of operations.
In Fiscal 2020, digital sales represented 45% of our total revenue, a 36% increase compared to Fiscal 2019. In order to grow and remain competitive, we will need to continue to adapt to future changes in technology to address the changing demands of our customers.
Our omni-channel operations are subject to numerous risks that could have a material adverse effect on our results. Risks include, but are not limited to, the difficulty in recreating the in-store experience; our ability to anticipate and implement innovations in technology and logistics in order to appeal to existing and potential customers who increasingly rely on multiple channels to meet their shopping needs; and the failure of and risks related to the systems that operate our web infrastructure, websites and the related support systems, including computer viruses, theft of customer information, privacy concerns, telecommunication failures and electronic break-ins and similar disruptions.
Our failure to maintain efficient and uninterrupted fulfillment operations could also have a material adverse effect on our results. The satisfaction of our customers who shop online depends on their timely receipt of merchandise. If we encounter difficulties with our distribution facilities, or if the facilities were to shut down for any reason, including as a result of fire, natural disaster or work stoppage, we could face shortages of inventory; incur significantly higher costs and longer lead times associated with distributing our products to our customers; and cause customer dissatisfaction.
Any of these issues could have a material adverse effect on our operations, financial condition and cash flows.
Our international merchandise sourcing strategy subjects us to risks that could adversely impact our business and resultsof operations.
Our merchandise is manufactured by suppliers worldwide. We purchase a significant portion of our merchandise through a single international buying agent. Because we have a global supply chain, any event that causes the disruption of imports, including the insolvency of a significant supplier, global health crisis, a major labor dispute including any such actions involving ports, trans loaders, consolidators, or shippers, could have an adverse effect on our operations. Given the volatility and risk in the current markets, our reliance on external vendors leaves us subject to certain risks should one or more of these external vendors become insolvent. The financial failure of a key vendor could disrupt our operations and have an adverse effect on our cash flows, results of operations and financial condition.
Trade matters may disrupt our supply chain. Trade restrictions, including increased tariffs or quotas, embargoes, safeguards, and customs restrictions against apparel items, as well as U.S. or foreign labor strikes, work stoppages, or boycotts, could increase the cost or reduce the supply of apparel available to us and adversely affect our business, financial condition, and results of operations.
We have a Supplier Code of Conduct that provides guidelines for our vendors regarding working conditions, employment practices, and compliance with local laws. A copy of the Supplier Code of Conduct is posted on our website, www.aeo-inc.com, and is included in our vendor manual in English and multiple other languages. There can be no assurance that all violations can be eliminated in our supply chain. Publicity regarding violation of our Supplier Code of Conduct or other social responsibility standards by any of our vendor factories could adversely affect our reputation, sales, and financial performance.
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There is a risk of terrorist activity on a global basis. Such activity might take the form of a physical act that impedes the flow of imported goods or the insertion of a harmful or injurious agent into an imported shipment. We cannot predict the likelihood of any such activities or the extent of their adverse impact on our operations.
Our product costs may be adversely affected by foreign trade issues (including import tariffs and other trade restrictions with China), currency exchange rate fluctuations, increasing prices for raw materials, political instability, or other reasons, which could impact our profitability.
A significant portion of the products that we purchase, including those purchased from domestic suppliers, as well as most of our private brand merchandise, is manufactured abroad. Foreign imports subject us to risks relating to changes in import duties, quotas, the introduction of U.S. taxes on imported goods or the extension of U.S. income taxes on our foreign suppliers' sales of imported goods through the adoption of destination-based income tax jurisdiction, loss of "most favored nation" status with the U.S., shipment delays and shipping port constraints, labor strikes, work stoppages or other disruptions, freight cost increases and economic uncertainties. Furthermore, we could face significantly higher U.S. income and similar taxes with respect to sales of products purchased from foreign suppliers if the U.S. were to adopt a system of taxation, such as a border adjustment tax, under which the cost of imported products was not deductible in determining such products' tax base. If such a tax system were adopted, we could also face higher prices for products manufactured or produced abroad that we purchase from our domestic suppliers if they were subject to such a tax. In addition, the U.S. government periodically considers other restrictions on the importation of products obtained by our vendors and us. General trade tensions between the U.S. and China have been high, with multiple rounds of U.S. tariffs on Chinese goods implemented in 2018 and 2019. Furthermore, China or other countries may institute retaliatory trade measures in response to existing or future tariffs imposed by the U.S. that could have a negative impact on our business. If any of these events continue as described, we may need to seek alternative suppliers or vendors, raise prices, or make changes to our operations, any of which could have a material adverse effect on our sales and profitability, results of operations and financial condition. If any of these or other factors were to cause a disruption of trade from the countries in which our vendors' suppliers or our private brand products' manufacturers are located, our inventory levels may be reduced or the cost of our products may increase. Additionally, we could be impacted by negative publicity or, in some cases, face potential liability to the extent that any foreign manufacturers from which we directly or indirectly purchase products utilize labor, environmental, workplace safety and other practices that vary from those commonly accepted in the U.S. or elsewhere. Also, the prices charged by foreign manufacturers may be affected by the fluctuation of their local currency against the U.S. dollar and the price of raw materials, including as a result of the COVID-19 pandemic, which could cause the cost of our products to increase and negatively impact our sales or profitability.
Our inability to achieve planned store performance, gain market share in the face of declining shopping center traffic orattract customers to our stores could adversely impact our profitability and our results of operations.
The results achieved by our stores may not be indicative of long-term performance or the potential performance of stores in other locations. Part of our future growth is dependent on our ability to operate stores in desirable locations with capital investment and lease costs providing the opportunity to earn a reasonable return. We cannot be sure as to when or whether such desirable locations will become available at reasonable costs. The failure of our stores to achieve acceptable results could result in store asset impairment charges, which could adversely affect our results of operations and financial condition.
Additionally, our real estate strategy may not be successful, and store locations may fail to produce desired results, which could impact our competitive position and profitability. Customer shopping patterns have been evolving from brick-and-mortar locations to, increasingly, digital channels. We have Company-owned stores in shopping centers that have experienced declining traffic trends while our digital channels continue to grow. Our ability to grow revenue and acquire new customers is contingent on our ability to drive traffic to both store locations and digital channels so that we are accessible to our customers when and where they want to shop.
We seek to locate our brick and mortar stores in prominent locations within successful shopping malls or street locations. Our stores benefit from the ability of the malls’ “anchor” tenants, which generally are large department stores and other area attractions, to generate consumer traffic near our stores. We cannot control the increasing impact of digital channels on shopping center traffic, the loss of an anchor or other significant tenant in a shopping mall in which we have a store, the development of new shopping malls in the U.S. or around the world, the availability or cost of appropriate locations, competition with other retailers for prominent locations, or the success of individual shopping malls. All of these factors may
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impact our ability to meet our productivity targets and could have a material adverse effect on our financial results. In addition, some malls and shopping centers that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend away from brick and mortar retail continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations and financial condition.
We have significant lease obligations, and are subject to risks associated with leasing substantial amounts of space, including future increases in occupancy costs and the need to generate significant cash flow to meet our lease obligations.
Operating lease obligations, which consist primarily of future minimum lease commitments related to store operating leases, represent a significant contractual commitment. All of our stores are leased and generally have initial terms of 5-10 years. In the future, we may not be able to negotiate favorable lease terms for the most desired store locations. Our inability to do so may cause our occupancy costs to be higher in future years or may force us to close stores in desirable locations.
Certain leases have early termination options, which can be exercised under certain specific conditions. In addition to future minimum lease payments, some of our store leases provide for additional rental payments based on a percentage of net sales, or “percentage rent,” if sales at the respective stores exceed specified levels, as well as the payment of tenant occupancy costs, including maintenance costs, common area charges, real estate taxes and certain other expenses. Many of our lease agreements have defined escalating rent provisions over the initial term and any extensions.
We depend on cash flow from operations to pay our lease expenses. If our business does not generate sufficient cash flow from operating activities to fund these expenses, due to continued decreases in mall traffic, the highly competitive and promotional retail environment, or other factors, we may not be able to service our lease expenses, which could materially harm our business. Furthermore, the significant cash flow required to satisfy our obligations under the leases increases our vulnerability to adverse changes in general economic, industry, and competitive conditions, and could limit our ability to fund working capital, incur indebtedness, and make capital expenditures or other investments in our business.
We rely on key personnel, the loss of whom could have a material adverse effect on our business.
Our success depends to a significant extent upon our ability to attract and retain qualified key personnel, including senior management, and, in particular, Jay Schottenstein, our Executive Chairman and CEO as well as Jennifer Foyle, our Chief Creative Officer. Collective or individual changes in our senior management and other key personnel could have an adverse effect on our ability to determine and execute our strategies, which could adversely affect our business and results of operations. There is a high level of competition for senior management and other key personnel, and we cannot be assured we will be able to attract, retain, and develop a sufficient number of qualified senior managers and other key personnel.
Legal, Tax, and Regulatory Risks
The Company’s amended and restated bylaws (“Bylaws”) provide, to the fullest extent permitted by law, that the Court of Chancery of the State of Delaware will be the exclusive forum for certain legal actions between the Company and its stockholders, which could increase costs to bring a claim, discourage claims or limit the ability of the Company’s stockholders to bring a claim in a judicial forum viewed by the stockholders as more favorable for disputes with the Company or the Company’s directors, officers or other employees.
Our Bylaws provide, to the fullest extent permitted by law, that unless the Company consents in writing to the selection of an alternative forum, the sole and exclusive forum for any (i) derivative action or proceeding brought on behalf of the Company, (ii) any action asserting a claim for or based on a breach of a fiduciary duty owed by any current or former director or officer or other employee or agent of the Company to the Company or the Company’s stockholders, including a claim alleging the aiding and abetting of such a breach of fiduciary duty, (iii) any action asserting a claim against the Company or any current or former director or officer or other employee or agent of the Company arising pursuant to any provision of the Delaware General Corporation Law (“DGCL”), or the Company’s Amended and Restated Certificate of Incorporation or Bylaws, (iv) any action asserting a claim related to or involving the Company or any current or former director or officer or other employee or agent of the Company that is governed by the internal affairs doctrine of the State of Delaware or (v) any action asserting an “internal corporate claim,” as that term is defined in Section 115 of the DGCL shall, in each case, be the Delaware Court of Chancery located within the State of Delaware (or, if the Delaware Court of Chancery located within the State of Delaware lacks jurisdiction over any such action or proceeding, the sole and exclusive forum for such action or proceeding shall be another state or federal court located within the State of Delaware).
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The choice of forum provision may increase costs to bring a claim, discourage claims orlimit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with the Company or the Company’s directors, officers or other employees, which may discourage such lawsuits against the Company or the Company’s directors, officers and other employees. Alternatively, if a court were to find the choice of forum provision contained in the Company’sBylaws to be inapplicable or unenforceable in an action, the Company may incur additional costs associated with resolving such action in other jurisdictions. The exclusive forum provision in the Company’s Bylaws will not preclude or contract the scope of exclusive federal or concurrent jurisdiction for actions brought under the federal securities laws including the Exchange Act or the Securities Act, as amended, or the respective rules and regulations promulgated thereunder.
We may be unable to protect our trademarks and other intellectual property rights.
We believe that our trademarks and service marks, as described in Part 1, Item 1, Business, are important to our success and our competitive position due to their name recognition with our customers. We devote substantial resources to establishing and protecting our trademarks and service marks. We are not aware of any material claims of infringement or material challenges to our right to use any of our trademarks. Nevertheless, the actions we have taken, including to establish and protect our trademarks and service marks, may not be adequate to prevent others from imitating our products or to prevent others from seeking to block sales of our products. Other parties may also claim that some of our products infringe on their trademarks, copyrights or other intellectual property rights. In addition, the laws of certain foreign countries may not protect our proprietary rights to the same extent as do the laws of the U.S. Litigation regarding our trademarks and other intellectual property rights could adversely affect our business, financial condition, and results of operations.
A complex regulatory, compliance and legal environment could adversely affect us.
We are subject to numerous domestic and foreign laws and regulations affecting our business, including those related to labor, employment, worker health and safety, competition, privacy, consumer protection, import/export and anti-corruption, including the Foreign Corrupt Practices Act. Additional legal and regulatory requirements have increased the complexity of the regulatory environment and the cost of compliance. If these laws change without our knowledge, or are violated by importers, designers, manufacturers, distributors or employees, we could experience delays in shipments or receipt of goods or be subject to fines or other penalties, any of which could adversely affect our business. Also, changes in laws and regulations could make operating our business more expensive or require us to change the way we do business. Our employees, subcontractors, vendors and suppliers could take actions that violate our policies and procedures which could have a material adverse effect on our reputation, financial condition and on the market price of our common stock.
Fluctuations in our tax obligations and effective tax rate could adversely affect us.
We are subject to income taxes in many U.S. and certain foreign jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for uncertain tax positions in multiple tax jurisdictions. At any one time, multiple tax years are subject to audit by various taxing authorities. The results of these audits and negotiations with taxing authorities may affect the ultimate settlement of these issues. In addition, the tax laws and regulations in the countries where we operate may change or there may be changes in interpretation and enforcement of existing tax laws. As a result, we expect that throughout the year there could be ongoing variability in our quarterly tax rates as events occur and exposures are evaluated. Our effective tax rate in a given financial statement period may be materially impacted by changes in the mix and level of earnings by jurisdiction or by changes to existing accounting rules or regulations.
Impact of various legal proceedings, lawsuits, disputes, and claims could have an adverse impact on our business, financial condition, and results of operations.
As a multinational company, we are subject to various proceedings, lawsuits, disputes, and claims (“Actions”) arising in the ordinary course of our business. Many of these Actions raise complex factual and legal issues and are subject to uncertainties. Actions filed against us from time to time include commercial, intellectual property, customer, employment, and data privacy claims, including class action lawsuits. Actions are in various procedural stages and some are covered only in part by insurance. We cannot predict with assurance the outcome of Actions brought against us. Accordingly, developments, settlements, or resolutions may occur and impact income in the quarter of such development, settlement, or resolution. An unfavorable outcome could have an adverse impact on our business, financial condition, and results of operations.
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General Risk Factors
Additionally, other factors could adversely affect our financial performance, including factors such as: our ability to successfully acquire and integrate other businesses; any interruption of our key infrastructure systems, including exceeding capacity in our distribution centers; any disaster or casualty resulting in the interruption of service from our distribution centers or in a large number of our stores; any interruption of our business related to an outbreak of a pandemic disease in a country where we source or market our merchandise; extreme weather conditions or changes in climate conditions or weather patterns; and the effects of changes in interest rates.
The impact of any of the previously discussed factors, some of which are beyond our control, and others which we are not aware of or which we do not currently consider material, may cause our actual results to differ materially from our expectations expressed elsewhere in this Form 10-K and other forward-looking statements we may make from time-to-time.
Item 1B. Unresolved Staff Comments.
Not applicable.
Item 2. Properties.
We own two buildings in urban Pittsburgh, Pennsylvania that house our corporate headquarters. These buildings total 186,000 square feet and 150,000 square feet, respectively.
We own distribution facilities in Ottawa, Kansas and Hazleton, Pennsylvania consisting of approximately 1.2 million and 1.0 million square feet, respectively.
We lease approximately 200,000 square feet of office space in New York, New York for our designers and sourcing and production teams. The lease for this space expires in 2026.
We lease a building in Mississauga, Ontario with approximately 294,000 square feet, which houses our Canadian distribution center. The lease expires in 2028.
All of the above-noted properties are shared by all of our reportable and operating business segments.
As for our stores, all are leased and generally have initial terms of 5 – 10 years. Certain leases also include early termination options, which can be exercised under specific conditions. Most of these leases provide for base rent and require the payment of a percentage of sales as additional contingent rent when sales reach specified levels. Under our store leases, we are typically responsible for tenant occupancy costs, including maintenance and common area charges, real estate taxes and certain other expenses. We have generally been successful in negotiating renewals as leases near expiration.
Item 3. Legal Proceedings.
We are involved, from time to time, in actions associated with or incidental to our business, including, among other things, matters involving consumer privacy, trademark and other intellectual property, licensing, importation of products, taxation, and employee relations. We believe at present that the resolution of currently pending matters will not individually or in the aggregate have a material adverse effect on our financial position or results of operations. However, our assessment of any litigation or other legal claims could potentially change in light of the discovery of facts not presently known or determinations by judges, juries, or other finders of fact that are not in accord with management's evaluation of the possible liability or outcome of such litigation or claims. Consistent with SEC Regulation S-K Item 103, we have elected to disclose those environmental proceedings with a governmental entity as a party where the company reasonably believes such proceeding would result in monetary sanctions, exclusive of interest and costs, of $1.0 million or more.
Refer to Note 2. “Summary of Significant Accounting Policies – Legal Proceedings and Claims” of the Notes to the Consolidated Financial Statements included herein for additional information.
Item 4. Mine Safety Disclosures.
Not Applicable.
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PART II
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.
Market Information and Holders
Our common stock is traded on the NYSE under the symbol “AEO”. As of March 1, 2021, there were 465 stockholders of record. However, when including associates who own shares through our employee stock purchase plan, and others holding shares in broker accounts under street name, we estimate the stockholder base at approximately 50,000.
Dividends
Our Board declared a quarterly cash dividend of $0.1375 per share on March 26, 2020 for the first quarter of 2020, which was subsequently deferred as part of our efforts to carefully manage the impact of COVID-19 on our liquidity. It was originally payable on May 14, 2020 to stockholders of record at the close of business on April 30, 2020, and was deferred to be paid on April 23, 2021, to stockholders of record at the close of business on April 9, 2021.
Due to positive results and improved financial liquidity, our Board updated the record and payment dates of the previously deferred first quarter 2020 cash dividend. A $0.1375 per share cash dividend was paid on December 30, 2020 to stockholders of record at the close of business on December 16, 2020, resulting in a dividend yield of 1.0% for Fiscal 2020.To preserve liquidity, the Company suspended its second, third, and fourth quarter dividends.
Subsequent to the fourth quarter of Fiscal 2020, our Board declared a $0.1375 per share dividend, payable on March 26, 2021 to the stockholders of record at the close of business on March 12, 2021.
A $0.1375 per share cash dividend was paid for each quarter of Fiscal 2019, resulting in a dividend yield of 3.1% for Fiscal 2019.
The Company maintains the right to defer the record and payment dates of its dividends, depending upon, among other factors, the progression of the COVID-19 outbreak, business performance and the macroeconomic environment. The payment of future dividends is at the discretion of our Board and is based on future earnings, cash flow, financial condition, capital requirements, changes in U.S. taxation and other relevant factors.
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Performance Graph
The following performance graph and related information shall not be deemed “soliciting material” or to be filed with the SEC, nor shall such information be incorporated by reference into any future filing under the Securities Act or Securities Exchange Act, each as amended, except to the extent that we specifically incorporate it by reference into such filing.
The following graph compares the changes in the cumulative total return to holders of our common stock with that of the S&P Midcap 400 and our peer group as described below. The comparison of the cumulative total returns for each investment assumes that $100 was invested in our common stock and the respective index on January 30, 2016 and includes reinvestment of all dividends. The plotted points are based on the closing price on the last trading day of the fiscal year indicated.
We compared our cumulative total return to a custom peer group that aligns with our compensation peer group, as disclosed in our Proxy Statement for the 2020 Annual Meeting of Stockholders. This group consisted of the following companies: Abercrombie & Fitch Co., Ascena Retail Group. Inc., Burberry Group PLC, Capri Holdings Limited, Chico’s FAS, Inc., Express, Inc., Fossil Group, Inc., The Gap, Inc., Guess?, Inc., Hanesbrands Inc., L Brands Inc., Levi Strauss & Co., lululemon athletica, inc., PVH CORP., Ralph Lauren Corporation, Tailored Brands, Inc., Tapestry, Inc., Under Armour Inc., and Urban Outfitters, Inc.
The following table provides information regarding our repurchases of common stock during the three months ended January 30, 2021.
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Issuer Purchases of Equity Securities
Total Number of Maximum Number of
Total Average Shares Purchased as Shares that May
Number of Price Paid Part of Publicly Yet be Purchased
Period Shares Purchased Per Share Announced Programs Under the Program
(2) Average price paid per share excludes any broker commissions paid.
Part II, Item 6 is no longer required as the Company has adopted certain provisions within the amendments to Regulation S-K that eliminate Item 301.
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
This section of this Form 10-K generally discusses Fiscal 2020 and Fiscal 2019 and year-to-year comparisons between 2020 and 2019. Discussions of Fiscal 2018 and year-to-year comparisons between Fiscal 2019 and Fiscal 2018 that are not included in this Form 10-K can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II. Item 7 of our Annual Report on Form 10-K for the fiscal year ended February 1, 2020.
Executive Overview and Key Performance Indicators
We are a leading global specialty retailer offering high-quality, on-trend clothing, accessories and personal care products at affordable prices under our American Eagle® and Aerie® brands.
In the fourth quarter of Fiscal 2020, we revised our reportable segment structure and have two reportable segments, American Eagle and Aerie. Our Chief Operating Decision Maker (defined as our CEO) analyzes segment results and allocates resources based on adjusted operating income (loss). See Note 15. “Segment Reporting,” of the Notes to the Consolidated Financial Statements included herein for additional information.
Our management evaluates the following items, which are considered key performance indicators, in assessing our performance:
Comparable Sales — Comparable sales and comparable sales changes provide a measure of sales growth for stores and channels open at least one year over the comparable prior year period. In light of store closures and related disruptions from COVID-19, we have not disclosed comparable sales for Fiscal 2020, as Fiscal 2020 is not comparable with prior periods.
A store is included in comparable sales in its thirteenth month of operation. When stores have a gross square footage increase of 25% or greater due to a remodel, they are removed from the comparable sales base, but are included in total sales. These stores are returned to the comparable sales base in the thirteenth month following the remodel.
Sales from company-owned stores, as well as sales from AEO Direct, are included in total comparable sales. Sales from licensed stores are not included in comparable sales. Individual American Eagle and Aerie brand comparable sales disclosures represent sales from stores and AEO Direct. AEO Direct sales are included in the individual American Eagle and Aerie brand comparable sales metric for the following reasons:
Our management considers comparable sales to be an important indicator of our current performance, and investors may find it useful as such. Comparable sales results are important to achieve leveraging of our costs, including store payroll, store supplies, rent, etc. Comparable sales also have a direct impact on our total net revenue, cash, and working capital.
Omni-Channel Sales Performance — Our management utilizes the following quality of sales metrics in evaluating our omni-channel sales performance: comparable sales, average unit retail price, total transactions, units per transaction, and consolidated comparable traffic. We include these metrics within this MD&A when we believe they enhance the understanding of the matter being discussed. Investors may find them useful as such. Each of these metrics is defined as follows (except comparable sales, which is defined separately above):
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Gross Profit — Gross profit measures whether we are optimizing the profitability of our sales. Gross profit is the difference between total net revenue and cost of sales. Cost of sales consists of merchandise costs, including design, sourcing, importing, and inbound freight costs, as well as markdowns, shrinkage and certain promotional costs (collectively “merchandise costs”) and buying, occupancy and warehousing costs. Design costs consist of compensation, rent, depreciation, travel, supplies, and samples.
Buying, occupancy and warehousing costs consist of: compensation, employee benefit expenses and travel for our buyers and certain senior merchandising executives; rent and utilities related to our stores, corporate headquarters, distribution centers and other office space; freight from our distribution centers to the stores; compensation and supplies for our distribution centers, including purchasing, receiving and inspection costs; and shipping and handling costs related to our e-commerce operations.
The inability to obtain acceptable levels of sales, initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations.
Operating Income(Loss) — Our management views operating income as a key indicator of our performance. The key drivers of operating (loss) income are net revenue, gross profit, our ability to control selling, general, and administrative expenses, and our level of capital expenditures for a reasonable period of time. In light of store closures and disruptions from COVID-19, our operating income may not be comparable this year versus last year.
Cash Flow and Liquidity — Our management evaluates cash flow from operations, investing and financing activities in determining the sufficiency of our cash position and capital allocation strategies. Cash flow has historically been sufficient to cover our uses of cash. Our management believes that cash flow will be sufficient to fund anticipated capital expenditures, dividends, and working capital requirements for the next twelve months.
COVID-19
The spread of COVID-19, which was declared a pandemic by the World Health Organization in March 2020, caused state and municipal public officials to mandate jurisdiction-wide curfews, including “shelter-in-place” and closures of most non-essential businesses, as well as other measures to mitigate the spread of the virus. The COVID-19 pandemic remains highly volatile and continues to evolve on a daily basis. See Part I, Item 1A. Risk Factors herein for additional discussion regarding risks to our business associated with the COVID-19 pandemic.
Commencing in early March 2020, we experienced a significant reduction in customer traffic and demand resulting from the continued spread of COVID-19 and government actions to combat it. In response, we closed our stores to the public after the close of business on March 17, 2020; however, we continued to operate our digital business. These actions significantly impacted our consolidated results for Fiscal 2020. Beginning May 2, 2020, we started to re-open stores and call back furloughed employees where state and local governments had lifted stay-at-home orders. As of January 30, 2021, nearly all of our stores have re-opened and remain open. However, our consolidated results of operations continued to be significantly impacted by reduced customer traffic in re-opened store locations, partially offset by continued growth in e-commerce.
Since the first day that stores were closed to the public, our digital sales growth has accelerated, significantly exceeding our expectations. In order to support online demand and utilize in-store inventory, we continued to leverage our store network for buy-online/ship-from-store capabilities, where possible. Online sales represented 45% of our revenues for Fiscal 2020. Despite our strength in digital sales, we have historically generated the majority of our revenue through stores. As a result, we do not believe that our results for Fiscal 2020 are directly comparable to the same period in Fiscal 2019.
The safety and health of our associates and customers remains a paramount concern. In March 2020, we hired a medical consultant to advise us on health and safety and to ensure we are following Centers for Disease Control guidance and market practice for associate and customer in all of our locations. We instituted a work-from-home plan in mid-March 2020 ahead of stay-at-home orders. We continue to take various precautions in our stores, which include sanitation stations and masks for all customers to provide a safe and secure environment. Plexiglas health guard partitions have also been installed at the registers along with the implementation of enhanced cleaning routines and protocols.
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Further, we continue to take precautionary measures and adjust our operational needs due to the impact of COVID-19. Since March 2020, the Company has taken the following actions to preserve our financial strength:
• a convertible notes issuance and credit facility borrowings;
In addition, we have had productive discussions with our vendors to reduce purchases and extend payment terms, as well as with our landlords regarding the extension of payment terms and rent concessions.
As of January 30, 2021, we had approximately $850.5 million in cash and cash equivalents, which includes the proceeds from our convertible notes issuance, discussed in greater detail below and in Note 9 to the Consolidated Financial Statements. We expect to be able to fund our future cash requirements through current cash holdings and available liquidity. Taking into account the measures described above, we believe that our current liquidity would enable us to continue operations beyond Fiscal 2021, if necessary, even if the majority of our retail locations were forced to close during the duration of that period.
The unpredictability of the trajectory of the COVID-19 pandemic has significantly diminished visibility into the future operating environment, and we are unable to accurately predict the impact that the COVID-19 pandemic will have on our consolidated operations and financial results going forward. We are monitoring the ongoing developments as the COVID-19 vaccines are being distributed and administered, and will take further actions that are in the best interests of our associates and customers, as needed. For further information about the risks associated with the COVID-19 pandemic, see “Risk Factors” in Part I, Item 1A of this Form 10-K.
Critical Accounting Policies and Estimates
Our Consolidated Financial Statements are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”), which require us to make estimates and assumptions that may affect the reported financial condition and results of operations should actual results differ from these estimates and assumptions. We base our estimates and assumptions on the best available information and believe them to be reasonable for the circumstances. We believe that of our significant accounting policies, the following involve a higher degree of judgment and complexity. Refer to Note 2 to the Consolidated Financial Statements for a complete discussion of our significant accounting policies. Management has reviewed these critical accounting policies and estimates with the Audit Committee of our Board of Directors.
Revenue Recognition. In accordance with Accounting Standard Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”), we record revenue for store sales upon the purchase of merchandise by customers. The Company’s e-commerce operation records revenue upon the estimated customer receipt date of the merchandise. Shipping and handling revenues are included in total net revenue. Sales tax collected from customers is excluded from revenue and is included as part of accrued income and other taxes on the Company’s Consolidated Balance Sheets.
Revenue is recorded net of estimated and actual sales returns and deductions for coupon redemptions and other promotions. The Company records the impact of adjustments to its sales return reserve quarterly within total net revenue and cost of sales. The sales return reserve reflects an estimate of sales returns based on projected merchandise returns determined using historical average return percentages.
Revenue is not recorded on the issuance of gift cards. A current liability is recorded upon issuance, and revenue is recognized when the gift card is redeemed for merchandise. Additionally, the Company recognizes revenue on unredeemed gift cards based on an estimate of the amounts that will not be redeemed (“gift card breakage”), determined through historical redemption trends. Gift card breakage revenue is recognized in proportion to actual gift card redemptions as a component of total net revenue.
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The Company recognizes royalty revenue generated from its license or franchise agreements based upon a percentage of merchandise sales by the licensee/franchisee. This revenue is recorded as a component of total net revenue when earned.
Merchandise Inventory. Merchandise inventory is valued at the lower of average cost or net realizable value, utilizing the retail method. Average cost includes merchandise design and sourcing costs and related expenses. The Company records merchandise receipts when control of the merchandise has transferred to the Company.
We review our inventory in order to identify slow-moving merchandise and generally use markdowns to clear merchandise. Additionally, we estimate a markdown reserve for future planned markdowns related to current inventory. If inventory exceeds customer demand for reasons of style, seasonal adaptation, changes in customer preference, lack of consumer acceptance of fashion items, competition, or if it is determined that the inventory in stock will not sell at its currently ticketed price, additional markdowns may be necessary. These markdowns may have a material adverse impact on earnings, depending on the extent and amount of inventory affected.
We estimate an inventory shrinkage reserve for anticipated losses for the period between the last physical count and the balance sheet date. The estimate for the shrinkage reserve is calculated based on historical percentages and can be affected by changes in merchandise mix and changes in actual shrinkage trends. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to calculate our inventory shrinkage reserve. However, if actual physical inventory losses differ significantly from our estimate, our operating results could be adversely affected.
During Fiscal 2020, the Company focused on inventory optimization, which remains an ongoing priority.
Asset Impairment. In accordance with ASC 360, Property,Plant, and Equipment (“ASC 360”), we evaluate the value of leasehold improvements, store fixtures, and operating lease right-of-use assets associated with retail stores. We evaluate long-lived assets for impairment at the individual retail store level, which is the lowest level at which individual cash flows can be identified. Impairment losses are recorded on long-lived assets used in operations when events and circumstances indicate that the assets might be impaired and the projected undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts. When events such as these occur, the impaired assets are adjusted to their estimated fair value and an impairment loss is recorded separately as a component of operating (loss) income.
Our impairment loss calculations require management to make assumptions and to apply judgment to estimate future cash flows and asset fair values. The significant assumption used in our projected undiscounted cash flows analyses is revenue growth rates. Additionally, significant assumptions utilized in our fair value analyses include the aforementioned assumption, as well as market participant real estate assumptions and discount rate. We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate long-lived asset impairment losses. However, if actual results are not consistent with our estimates and assumptions, our operating results could be adversely affected.
In the first and fourth quarters of Fiscal 2020, developments related to the COVID-19 pandemic, among other things, triggered the need to perform impairment assessments of our long-lived assets, goodwill and other intangible assets. See “Comparison of Fiscal 2020 to Fiscal 2019 – Impairment, Restructuring and COVID-19 Related Charges” below, as well as Note 16 to the Consolidated Financial Statements for more information.
Share-Based Payments. We account for share-based payments in accordance with ASC 718, Compensation –Stock Compensation (“ASC 718”). To determine the fair value of our stock option awards, we use the Black-Scholes option-pricing model, which requires management to apply judgment and make assumptions to determine the fair value of our awards. These assumptions include estimating the length of time employees will retain their vested stock options before exercising them (the “expected term”) and the estimated volatility of the price of our common stock over the expected term.
We calculate a weighted-average expected term based on historical experience. Expected stock price volatility is based on historical volatility of our common stock. Changes in these assumptions can materially affect the estimate of the fair value of our share-based payments and the related amount recognized in our Consolidated Financial Statements.
Income Taxes. We calculate income taxes in accordance with ASC 740, Income Taxes (“ASC 740”), which requires the use of the asset and liability method. Under this method, deferred tax assets and liabilities are recognized based on the difference between the Consolidated Financial Statement carrying amounts of existing assets and liabilities and their respective tax bases as computed pursuant to ASC 740. Deferred tax assets and liabilities are measured using the tax rates, based on certain judgments regarding enacted tax laws and published guidance, in effect in the years when those temporary differences are expected to reverse. A valuation allowance is established against the deferred tax assets when it is more likely than not that some portion or all of the deferred taxes may not be realized. Changes in our level and composition of earnings, tax laws or the deferred tax valuation allowance, as well as the results of tax audits, may materially impact the effective income tax rate.
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We evaluate our income tax positions in accordance with ASC 740, which prescribes a comprehensive model for recognizing, measuring, presenting, and disclosing in the financial statements tax positions taken or expected to be taken on a tax return, including a decision whether to file or not to file in a particular jurisdiction. Under ASC 740, a tax benefit from an uncertain position may be recognized only if it is more likely than not that the position is sustainable based on its technical merits.
The calculation of the deferred tax assets and liabilities, as well as the decision to recognize a tax benefit from an uncertain position and to establish a valuation allowance require management to make estimates and assumptions. We believe that our assumptions and estimates are reasonable, although actual results may have a positive or negative material impact on the balances of deferred tax assets and liabilities, valuation allowances or net income (loss).
Results of Operations
Overview
Our business is affected by the pattern of seasonality common to most retail apparel businesses. Additionally, during Fiscal 2020, our consolidated results of operations were materially impacted by the effects of COVID-19.
Fiscal 2020 represented a challenging year; however, revenue strengthened as stores successfully reopened, the digital channel continued to accelerate, and Aerie posted strong growth. Operational disciplines, inventory optimization and reduced spending resulted in sequential improvement in operating earnings and positive cash flow, fortifying our financial position, ending the fiscal year with $850.5 million in cash and cash equivalents. The results for the current and prior periods are not necessarily indicative of future financial results.
The following table shows, for the periods indicated, the percentage relationship to total net revenue of the listed items included in our Consolidated Statements of Operations.
For the Fiscal Years Ended
January 30 February 1, February 2,
Selling, general and administrative expenses 26.0 23.9 24.3
Impairment, restructuring and COVID-19 related charges 7.4 1.9 0.0
Depreciation and amortization expense 4.3 4.1 4.2
Operating (loss) income (7.2 ) 5.4 8.4
Interest expense (income), net 0.7 (0.2 ) (0.1 )
Other income, net (0.1 ) (0.1 ) (0.1 )
(Loss) income before income taxes (7.8 ) 5.7 8.6
(Benefit) provision for income taxes (2.2 ) 1.3 2.1
Net (loss) income (5.6 ) % 4.4 % 6.5 %
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Non-GAAP Information
This results of operations section contains net income per diluted share presented on a non-GAAP basis, which is a non-GAAP financial measure (“non-GAAP” or “adjusted”), comprised of earnings per share information excluding certain items. This financial measure is not based on any standardized methodology prescribed by U.S. generally accepted accounting principles (“GAAP”) and is not necessarily comparable to similar measures presented by other companies. Non-GAAP information is provided as a supplement to, not as a substitute for, or as superior to, measures of financial performance prepared in accordance with GAAP. We believe that this non-GAAP information is useful as an additional means for investors to evaluate our operating performance, when reviewed in conjunction with our GAAP financial statements and provides a higher degree of transparency. These amounts are not determined in accordance with GAAP and, therefore, should not be used exclusively in evaluating our business and operations. The table below reconciles the GAAP financial measure to the non-GAAP financial measure discussed above.
Earnings per Share
For the Fiscal Year Ended
Net loss per diluted share - GAAP Basis $ (1.26 )
Add: Impairment, restructuring and COVID-19 related charges (1) 1.20
Add: Convertible debt (2) 0.06
Net income per diluted share - Non-GAAP Basis $ (0.00 )
(2) Amortization of the non-cash discount on the Company's convertible notes
Earnings per Share
For the Fiscal Year Ended
Net income per diluted share - GAAP Basis $ 1.12
Add: Impairment and restructuring (1) 0.36
Net income per diluted share - Non-GAAP Basis $ 1.48
Comparison of Fiscal 2020 to Fiscal 2019
Total Net Revenue
Total net revenue for Fiscal 2020 decreased 13% to $3.759 billion compared to $4.308 billion for Fiscal 2019. Included in total net revenue during Fiscal 2019 is $40.0 million recognized for license royalties from a third-party operator of AE stores in Japan. The COVID-19 pandemic and the associated temporary closures of our retail stores since March 17, 2020 have negatively affected our consolidated financial results for Fiscal 2020. As of January 30, 2021, nearly all of our stores have opened and remain opened.
American Eagle
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Total net revenue for Fiscal 2020 for the American Eagle brand was $2.734 billion compared to $3.480 billion for Fiscal 2019. Units per transaction decreased in the high single digits and average unit retail price increased in the high teens.
Aerie
Total net revenue for Fiscal 2020 for the Aerie brand was $990.0 million compared to $801.0 million for Fiscal 2019. Units per transaction decreased in the high single digits and average unit retail price increased in the high teens.
Gross Profit
Gross profit decreased 25% to $1.148 billion for Fiscal 2020 from $1.522 billion for Fiscal 2019. The gross profit margin declined 480 basis points to 30.5% of total net revenue. This reflected the decline in revenue from temporary retail store closures and the impact of fixed buying, occupancy and warehousing costs as a result of the revenue decline due to the impact of the COVID-19 pandemic on our business.
There was $15.9 million of share-based payment expense, consisting of both time and performance-based awards, included in gross profit this year. This is compared to $11.2 million of share-based payment expense included in gross profit last year.
Our gross profit may not be comparable to that of other retailers, as some retailers include all costs related to their distribution network, as well as design costs, in cost of sales, and others may exclude a portion of these costs from cost of sales, including them in a line item such as selling, general, and administrative expenses. Refer to Note 2 to the Consolidated Financial Statements for a description of our accounting policy regarding cost of sales, including certain buying, occupancy and warehousing expenses.
Selling, General, and Administrative Expenses
Selling, general, and administrative expenses decreased 5% to $977.3 million for Fiscal 2020, compared to $1.029 billion for Fiscal 2019. As a percentage of total net revenue, selling, general, and administrative expenses increased 210 basis points to 26.0%, compared to 23.9% for Fiscal 2019. The reduction in expense for Fiscal 2020 was primarily the result of lower store payroll and selling expense due to COVID-19 related closures, as well as discretionary spend reductions, partially offset by incremental corporate compensation costs.
There was $16.8 million of share-based payment expense, consisting of time and performance-based awards, included in selling, general, and administrative expenses for Fiscal 2020 compared to $11.8 million for Fiscal 2019.
Impairment, Restructuring and COVID-19 Related Charges
In Fiscal 2020, total impairment, restructuring and COVID-19 related charges were $279.8 million. We recorded asset impairment charges of $249.2 million. Included in this amount are retail store impairment charges of $203.2 million, of which $154.8 million relates to operating lease ROU assets and $48.4 million relates to store property and equipment (fixtures and equipment and leasehold improvements). We also recorded $28.0 million of impairment charges related to certain corporate property and equipment as well as $18.0 million of impairment charges of certain cost and equity method investments.
Additionally, we recorded $26.9 million for incremental COVID-19 related expenses consisting of personal protective equipment and supplies for our associates and customers and $3.7 million of severance and related employee costs.
In Fiscal 2019, impairment and restructuring charges were $80.5 million. We recorded asset impairment charges of $64.5 million on the assets of 20 retail stores. Of the total, $39.5 million related to the impairment of leasehold improvements and store fixtures, and $25.0 million related to the impairment of operating lease ROU assets. We also concluded that certain goodwill was impaired resulting in a $1.7 million charge. Additionally, we recorded $6.7 million for corporate and field severance, $4.2 million of charges related to the planned exit of a joint business venture, $1.8 million related to Japan market transition costs, and $1.5 million of China severance and closure costs related to Company-owned stores.
Depreciation and Amortization Expense
Depreciation and amortization expense decreased 9% to $162.4 million for Fiscal 2020 from $179.1 million for Fiscal 2019, driven by asset impairments taken in Fiscal 2019 and 2020, as well as lower capital spending in Fiscal 2020. As a percentage of total net revenue, depreciation and amortization expense increased 20 basis points to 4.3% from 4.1% in Fiscal 2019.
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Interest Expense (Income), Net
Interest expense was $24.6 million for Fiscal 2020, compared to interest income of $6.2 million for Fiscal 2019. The increase in expense was primarily attributable to interest expense related to our convertible notes issued this year and credit facility borrowings.
Other Income, Net
Other income was $3.7 million for Fiscal 2020, compared to $5.7 million for Fiscal 2019. The decrease was attributable to foreign currency fluctuations and other non-operating expenses.
Income Taxes
The effective income tax benefit rate is 28.4% for Fiscal 2020 compared to an effective tax rate of 22.0% for Fiscal 2019. The effective income tax benefit rate this year is primarily a result of the provisions of the Coronavirus Aid, Relief, and Economic Security Act, (the “CARES Act”) which permit the carry back of current year losses to a tax year where the U.S. federal corporate income tax rate was 35%, offset by an incremental rate increase on the revaluation of deferred tax assets and liabilities for current year activity and an increase to the valuation allowances recorded in the current year. Our effective income tax rate is also dependent upon the overall mix of earnings in jurisdictions with different tax rates. Refer to Notes 2 and 14 to the Consolidated Financial Statements for additional information regarding our accounting for income taxes.
Net (Loss) Income
Net loss was $209.3 million for Fiscal 2020 compared to net income of $191.3 million for Fiscal 2019. The change in net (loss) income was attributable to the factors described above. As a percentage of total net revenue, net (loss) income was (5.6%) and 4.4% for Fiscal 2020 and Fiscal 2019, respectively. Net loss per diluted share was ($1.26), which included $279.8 million ($1.20 per diluted share) of pre-tax impairment, restructuring, and COVID-19 related charges and $12.3 million ($0.06 per diluted share) of pre-tax non-cash interest related to our convertible notes.
Net income per diluted share for Fiscal 2019 was $1.12 and included $80.5 million ($0.36 per diluted share) of pre-tax impairment and restructuring charges.
Liquidity and Capital Resources
Our uses of cash have historically been for working capital, the construction of new stores and remodeling of existing stores, information technology and e-commerce upgrades and investments, distribution center improvements and expansion and the return of value to shareholders through the repurchase of common stock, and the payment of dividends. Additionally, our uses of cash have included the development of the Aerie brand, investments in technology and omni-channel capabilities, and our international expansion efforts. The rapid expansion of the COVID-19 global pandemic, the related economic impacts, and the closure of our retail stores, resulted in a decline in net sales and earnings for Fiscal 2020, which had a corresponding impact on our liquidity and uses of cash.
Historically, our uses of cash have been funded with cash flow from operations and existing cash on hand. We also maintain an asset-based revolving credit facility that allows us to borrow up to $400 million, which will expire in January 2024. In April 2020, we issued $415 million aggregate principal amount of convertible senior notes due in 2025. We have outstanding contractual obligations of $1.7 billion undiscounted related to our operating leases, of which a total of $363 million will be paid in 2021.
As discussed in the overview, we are focused on preserving our liquidity and managing our cash flows through certain actions to enhance our ability to meet short-term liquidity needs. We have taken a series of actions to reinforce our liquidity and financial flexibility, including:
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• a convertible notes issuance and credit facility borrowings;
As of January 30, 2021, we had approximately $850.5 million in cash and cash equivalents, which includes the proceeds from our convertible notes. In April 2020, the Company issued $415 million aggregate principal amount of 3.75% convertible senior notes due in 2025 in a private placement to qualified institutional buyers. Interest is payable semi-annually. Refer to Note 9 to the Consolidated Financial Statements for additional information regarding our long-term debt. We expect to be able to fund our future cash requirements through current cash holdings and available liquidity.
The following sets forth certain measures of our liquidity:
January 30 February 1,
Working capital as of January 30, 2021 increased $368.0 million compared to February 1, 2020. The largest increase came from increased cash and short-term investments of $433.5 million due primarily to the $406.1 million proceeds from our convertible notes issuance. Compared to February 1, 2020, the remaining change was primarily due to a $55.0 million increase in prepaid expenses and a $27.0 million increase in accounts receivable, offset by a $40.8 million decrease in merchandise inventory and a $98.7 million increase in accrued compensation and payroll taxes.
Cash Flows Provided by Operating Activities
Net cash provided by operating activities totaled $202.5 million during Fiscal 2020, compared to $415.4 million during Fiscal 2019. For both periods, our major source of cash from operations was merchandise sales and our primary outflow of cash from operations was for the payment of operational costs.
Cash Flows Used for Investing Activities
Investing activities for Fiscal 2020 included $128.0 million in capital expenditures for property and equipment partially offset by $55.0 million of net short-term investment sales. Investing activities for Fiscal 2019 included $210.4 million in capital expenditures for property and equipment offset by $37.1 million of net short-term investment sales. For further information on capital expenditures, refer to the Capital Expenditures for Property and Equipment caption below.
Cash Flows Provided by (Used for) Financing Activities
During Fiscal 2020, cash provided by financing activities primarily consisted of $406.1 million of net proceeds from our revolving line of credit and the issuance of convertible notes. This was partially offset by $22.9 million for the payment of dividends, $20.0 million used for purchases of 1.7 million shares of common stock under publicly-announced programs in early March 2020, and $5.4 million for the repurchase of common stock from employees for the payment of taxes in connection with the vesting of share-based payments.
Early in Fiscal 2020, we borrowed on our revolving line of credit and issued convertible notes to strengthen our cash position and provide us with additional financial flexibility during the remainder of the ongoing COVID-19 pandemic. By August 2020, we had repaid the $330.0 million in revolving line of credit borrowings.
During Fiscal 2019, cash used for financing activities primarily consisted of $112.4 million of purchases of common stock under publicly announced programs, $92.8 million for the payment of dividends, and $8.1 million for the repurchase of common stock from employees for the payment of taxes in connection with the vesting of share-based payments.
Cash returned to shareholders through dividends and share repurchases was $42.9 million and $205.2 million in Fiscal 2020 and Fiscal 2019, respectively.
Capital Expenditures for Property and Equipment
Fiscal 2020 capital expenditures were $128.0 million, compared to $210.4 million in Fiscal 2019. Fiscal 2020 expenditures included $55.8 million related to investments in our stores, including 40 AEO stores (8 AE, 31 Aerie stand-alone, and 1
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Todd Snyder), 8 remodeled and refurbished stores, and fixtures and visual investments. Additionally, we continued to support our infrastructure growth by investing in information technology initiatives ($33.2 million), e-commerce ($27.5 million) and other home office projects ($11.5 million).
For Fiscal 2021, we expect capital expenditures to be in the range of $250 million to $275 million related to the continued support of our expansion efforts, stores, information technology upgrades to support growth and investments in e-commerce. We expect to be able to fund our capital expenditures through current cash holdings and cash generated from operations.
Credit Facilities
In January 2019, we entered into a credit agreement (“Credit Agreement”) for five-year, syndicated, asset-based revolving credit facilities (the “Credit Facilities”). The Credit Agreement provides senior secured revolving credit for loans and letters of credit up to $400 million, subject to customary borrowing base limitations. The Credit Facilities provide increased financial flexibility and take advantage of a favorable credit environment.
All obligations under the Credit Facilities are unconditionally guaranteed by certain subsidiaries. The obligations under the Credit Agreement are secured by a first-priority security interest in certain working capital assets of the borrowers and guarantors, consisting primarily of cash, receivables, inventory, and certain other assets and have been further secured by first-priority mortgages on certain real property.
In March 2020, we borrowed $330.0 million under the Credit Facilities which we repaid in full by August 2020. As of January 30, 2021, we were in compliance with the terms of the Credit Agreement and had $7.9 million outstanding in stand-by letters of credit.
Stock Repurchases
During Fiscal 2016, our Board of Directors (our “Board”) authorized the repurchase of 25.0 million shares of our common stock. The authorization of the repurchase of the remaining 3.6 million shares that may yet be repurchased under the Fiscal 2016 authorization expired on January 30, 2021.
During Fiscal 2019, our Board authorized the repurchase of 30.0 million shares under a new share repurchase program, which expires on February 3, 2024. In early March 2020, as part of our publicly-announced share repurchase program, we repurchased 1.7 million shares for $20.0 million, at a weighted average price of $11.63 per share. As of January 30, 2021, our total remaining share repurchase authorization was 30.0 million shares.
As previously announced, to preserve cash liquidity in response to the uncertainty created by the impact of COVID-19, the company suspended its publicly-announced share repurchase program. Accordingly, we did not repurchase any shares pursuant to this program during the second, third or fourth quarters of Fiscal 2020. Subsequent to January 30, 2021, the Company has unsuspended its share repurchase program. During Fiscal 2019, we repurchased 6.3 million shares for approximately $112.4 million at a weighted average price of $17.74 per share.
During both Fiscal 2020 and Fiscal 2019, we repurchased approximately 0.4 million shares from certain employees at market prices totaling $5.4 million and $8.1 million, respectively. These shares were repurchased for the payment of taxes in connection with the vesting of share-based payments, as permitted under our equity incentive plans.
The aforementioned share repurchases have been recorded as treasury stock.
Dividends
Dividends are disclosed in Part II. Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.
Recent Accounting Pronouncements
Recent accounting pronouncements are disclosed in Note 2 of the Consolidated Financial Statements.
Fair Value Measurements
ASC 820, Fair Value Measurement Disclosures (“ASC 820”) defines fair value, establishes a framework for measuring fair value in accordance with GAAP, and expands disclosures about fair value measurements. Fair value is defined under
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ASC 820 as the exit price associated with the sale of an asset or transfer of a liability in an orderly transaction between market participants at the measurement date:
Financial Instruments
Valuation techniques used to measure fair value under ASC 820 must maximize the use of observable inputs and minimize the use of unobservable inputs. In addition, ASC 820 establishes this three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include:
• Level 1 — Quoted prices in active markets.
As of January 30, 2021, we held certain assets that are required to be measured at fair value on a recurring basis. These include cash and cash equivalents.
In accordance with ASC 820, the following table represents the fair value hierarchy of our financial assets (cash equivalents) measured at fair value on a recurring basis as of January 30, 2021:
Fair Value Measurements at January 30, 2021
Cash and cash equivalents
Long-Term Debt
The fair value of the Company's $415 million aggregate principal amount of convertible senior notes due in 2025 is not required to be measured at fair value on a recurring basis. Upon issuance, the fair value of these convertible notes was measured using two approaches that consider market related conditions, including market benchmark rates and a secondary market quoted price, and is therefore within Level 2 of the fair value hierarchy.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
We have market risk exposure related to interest rates and foreign currency exchange rates. Market risk is measured as the potential negative impact on earnings, cash flows, or fair values resulting from a hypothetical change in interest rates or foreign currency exchange rates over the next year.
We have estimated our market risk exposure using sensitivity analysis. To test the sensitivity of our market risk exposure, we have estimated the changes in fair value of market risk sensitive instruments assuming a hypothetical 10 percent adverse change in market prices or rates. The results of the sensitivity analyses are summarized below.
Interest Rate Risk
Our earnings from our investments are not materially affected by changes in market interest rates. If our Fiscal 2020 average yield rate decreases by 10% in Fiscal 2021, our loss before taxes will increase by approximately $0.1 million. Comparatively, if our Fiscal 2019 average yield rate had decreased by 10% in Fiscal 2020, our income before taxes would have decreased by approximately $0.1 million. These amounts are determined by considering the impact of the hypothetical yield rates on our cash and investment balances and assumes no change in our investment structure.
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Foreign Exchange Rate Risk
We are primarily exposed to the impact of foreign exchange rate risk primarily through our Canadian and Mexican operations where the functional currency is the Canadian dollar and Mexican peso, respectively. The impact of all other foreign currencies is currently immaterial to our consolidated financial results. We do not utilize hedging instruments to mitigate foreign currency exchange risks. A hypothetical 10% movement in the Canadian dollar and Mexican peso exchange rate could result in a $20.2 million foreign currency translation fluctuation, which would be recorded in accumulated other comprehensive income in the Consolidated Balance Sheets. An unrealized loss of $7.6 million is included in accumulated other comprehensive income as of January 30, 2021. This is primarily related to the decline in the US dollar to Mexican peso and US dollar to Canadian dollar exchange rates during the 13 weeks ended May 2, 2020, partially offset by the strengthening of the US dollar during the 39 weeks ended January 30, 2021.
This sensitivity analysis has inherent limitations. The analysis disregards the possibility that rates of multiple foreign currencies will not always move in the same direction relative to the value of the US dollar over time.
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Item 8. Financial Statements and Supplementary Data.
Index to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm 40
Consolidated Balance Sheets 42
Consolidated Statements of Operations 43
Consolidated Statements of Comprehensive Income 44
Consolidated Statements of Stockholders’ Equity 45
Consolidated Statements of Cash Flows 46
Notes to Consolidated Financial Statements 47
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Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of American Eagle Outfitters, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of American Eagle Outfitters, Inc. (the Company) as of January 30, 2021 and February 1, 2020, the related consolidated statements of operations, comprehensive income, stockholders’ equity and cash flows for each of the three years in the period ended January 30, 2021, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at January 30, 2021 and February 1, 2020, and the results of its operations and its cash flows for each of the three years in the period ended January 30, 2021, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of January 30, 2021, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 Framework), and our report dated March 11, 2021 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
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Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Retail Store Long-Lived Asset Impairment
/s/ Ernst & Young LLP
We have served as the Company’s auditor since 1993.
Pittsburgh, Pennsylvania
March 11, 2021
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AMERICAN EAGLE OUTFITTERS, INC.
Consolidated Balance Sheets
January 30, February 1,
(In thousands, except per share amounts) 2021 2020
Assets
Current assets:
Short-term investments (available for sale) - 55,000
Property and equipment, at cost, net of accumulated depreciation 623,808 735,120
Intangible assets, net, including goodwill 70,332 53,004
Liabilities and Stockholders’ Equity
Current liabilities:
Current portion of operating lease liabilities 328,624 299,161
Unredeemed gift cards and gift certificates 62,181 56,974
Other current liabilities and accrued expenses 55,343 56,824
Non-current liabilities:
Commitments and contingencies — —
Stockholders’ equity:
Accumulated other comprehensive loss, net of tax (40,748 ) (33,168 )
Refer to Notes to Consolidated Financial Statements
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AMERICAN EAGLE OUTFITTERS, INC.
Consolidated Statements of Operations
For the Years Ended
January 30, February 1, February 2,
Basic net (loss) income per common share $ (1.26 ) $ 1.13 $ 1.48
Diluted net (loss) income per common share $ (1.26 ) $ 1.12 $ 1.47
Refer to Notes to Consolidated Financial Statements
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AMERICAN EAGLE OUTFITTERS, INC.
Consolidated Statements of Comprehensive Income
For the Years Ended
January 30, February 1, February 2,
Other comprehensive gain (loss):
Foreign currency translation (loss) gain (7,580 ) 1,664 (4,037 )
Refer to Notes to Consolidated Financial Statements
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AMERICAN EAGLE OUTFITTERS, INC.
Consolidated Statements of Stockholders' Equity
Repurchase of common stock from employees (943 ) — — — (19,668 ) — (19,668 )
Other comprehensive loss — — — — — (4,037 ) (4,037 )
Repurchase of common stock from employees (431 ) — — — (8,087 ) — (8,087 )
Other comprehensive income — — — — — 1,664 1,664
Repurchase of common stock from employees (449 ) — — — (5,413 ) — (5,413 )
Convertible Notes - Equity portion, net of tax — — 68,330 — — — 68,330
Other comprehensive loss — — — — — (7,580 ) (7,580 )
Refer to Notes to Consolidated Financial Statements
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AMERICAN EAGLE OUTFITTERS, INC.
Consolidated Statements of Cash Flows
For the Years Ended
January 30, February 1, February 2,
Operating activities:
Changes in assets and liabilities:
Investing activities:
Financing activities:
Repurchase of common stock from employees (5,413 ) (8,087 ) (19,668 )
Proceeds from revolving line of credit and convertible notes 736,108 — —
Principal payments on revolving line of credit (330,000 ) — —
Effect of exchange rates on cash 87 (696 ) (1,596 )
Refer to Notes to Consolidated Financial Statements
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AMERICAN EAGLE OUTFITTERS, INC.
Notes to Consolidated Financial Statements
For the Year Ended January 30, 2021
1. Business Operations
American Eagle Outfitters, Inc. (the “Company,” “we” and “our”), a Delaware corporation, operates under the American Eagle® (“AE”) and Aerie® brands. We also operate Todd Snyder New York, a premium menswear brand.
Founded in 1977, the Company is a leading multi-brand specialty retailer that operates more than 1,000 retail stores in the U.S. and internationally, online through our digital channels at www.ae.com and www.aerie.com, www.toddsnyder.com and more than 200 international store locations managed by third-party operators. Through its portfolio of brands, the Company offers high quality, on-trend clothing, accessories, and personal care products at affordable prices. The Company’s online business, AEO Direct, ships to 81 countries worldwide.
AEO Direct reinforces each particular brand platform and is designed to complement the in-store experience. We offer the ability for customers to return products seamlessly via any channel regardless of where it was originally purchased. We also offer a variety of channels to fulfill customer orders. These include “ship to home”, which can be fulfilled either through our distribution center or our store sites (buy online, ship from stores) when purchased online or through our app; “store pick-up”, which consist of online orders being fulfilled either in store or curbside, and we offer “store-to-door” capability where customers order within our store, and the goods are shipped directly to their home.
2. Summary of Significant Accounting Policies
Principles of Consolidation
The Consolidated Financial Statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany transactions and balances have been eliminated in consolidation. At January 30, 2021, the Company operated in two reportable segments, American Eagle and Aerie.
Fiscal Year
Our fiscal year is a 52- or 53-week year that ends on the Saturday nearest to January 31. As used herein, “Fiscal 2021” refers to the 52-week period that will end on January 29, 2022. “Fiscal 2020” refers to the 52-week period ended January 30, 2021. “Fiscal 2019” refers to the 52-week period ended February 1, 2020. “Fiscal 2018” refers to the 52-week period ended February 2, 2019.
Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires the Company’s management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. On an ongoing basis, our management reviews its estimates based on currently available information. Changes in facts and circumstances may result in revised estimates.
Recent Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board (“FASB”) established Accounting Standards Codification (“ASC”) Topic 842, Leases (“ASC 842”), by issuing Accounting Standards Update (“ASU”) No. 2016-02 (“ASU 2016-02”). ASU 2016-02 was subsequently amended by ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU No. 2018-10, Codification Improvements to Topic 842, Leases; and ASU No. 2018-11, Targeted Improvements.
The standard establishes a right-of-use (“ROU”) model that requires a lessee to recognize a right-of-use, “ROU” asset and lease liability on the balance sheet for all leases with a term longer than 12 months. Leases will be classified as finance or operating, with classification affecting the pattern and classification of expense recognition in the income statement.
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The Company adopted ASU 2016-02 and its subsequent amendments effective February 3, 2019. Financial information has not been updated and the disclosures required under the new standard have not been provided for dates and periods before February 3, 2019. The Company elected the new standard’s package of practical expedients, which permits the Company to maintain prior conclusions about lease identification, lease classification, and initial direct costs. The Company elected to use the go-forward practical expedient to not separate lease and non-lease components for all of our leases. The Company also elected to use the short-term lease recognition exemption for all leases that qualify.
Upon adoption, the Company:
Refer to Note 10 to the Consolidated Financial Statements for information regarding leases.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments–Credit Losses, which modifies the measurement of expected credit losses of certain financial instruments. The Company adopted this ASU on February 2, 2020. The adoption did not have a material impact on the Company’s Consolidated Financial Statements.
In August 2020, the FASB issued ASU 2020-06, Debt with Conversion and Other Options (“ASU 2020-06”), which simplifies accounting for convertible instruments. The new guidance eliminates two of the three models in ASC 470-20 that require separating embedded conversion features from convertible instruments. The guidance also addresses how convertible instruments are accounted for in the diluted earnings per share calculation. The guidance is effective for fiscal years beginning after December 15, 2021. The Company is currently evaluating the impact of ASU 2020-06 on its Consolidated Financial Statements, which may be material.
Foreign Currency Translation
In accordance with ASC 830, Foreign Currency Matters, the Company translates assets and liabilities denominated in foreign currencies into United States dollars (“USD”) (the reporting currency) at the exchange rates prevailing at the balance sheet date. The Company translates revenues and expenses denominated in foreign currencies into USD at the monthly average exchange rates for the period. Gains or losses resulting from foreign currency transactions are included in the consolidated results of operations, whereas, related translation adjustments are reported as an element of other comprehensive income in accordance with ASC 220, Comprehensive Income. (Refer to Note 11 to the Consolidated Financial Statements for information regarding comprehensive income).
Cash, Cash Equivalents, and Short-term Investments
The Company considers all highly liquid investments purchased with a remaining maturity of three months or less to be cash equivalents.
Short-term investments classified as available-for-sale included certificates of deposit with a maturity greater than three months, but less than one year as of February 1, 2020.
Refer to Note 3 to the Consolidated Financial Statements for information regarding cash, cash equivalents, and short-term investments.
Receivables
The Company maintains an allowance for doubtful accounts for estimated losses from the failure of certain of our customers to make required payments for products or services delivered. The Company estimates this allowance based on the age of the related receivable, knowledge of the financial condition of customers, review of historical and expected future receivables and reserve trends and other pertinent information. If the financial condition of customers deteriorates
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or an unfavorable trend in receivable collections is experienced in the future, additional allowances may be required. Historically, the Company’s reserves have approximated actual experience.
Merchandise Inventory
Merchandise inventory is valued at the lower of average cost or net realizable value, utilizing the retail method. Average cost includes merchandise design and sourcing costs and related expenses. The Company records merchandise receipts when control of the merchandise has transferred to the Company.
The Company reviews its inventory levels to identify slow-moving merchandise and generally uses markdowns to clear merchandise. Additionally, the Company estimates a markdown reserve for future planned permanent markdowns related to current inventory. Markdowns may occur when inventory exceeds customer demand for reasons of style, seasonal adaptation, changes in customer preference, lack of consumer acceptance of fashion items, competition, or if it is determined that the inventory in stock will not sell at its currently ticketed price. Such markdowns may have a material adverse impact on earnings, depending on the extent and amount of inventory affected.
The Company also estimates a shrinkage reserve for the period between the last physical count and the balance sheet date. The estimate for the shrinkage reserve, based on historical results, can be affected by changes in merchandise mix and changes in actual shrinkage trends.
Property and Equipment
Property and equipment is recorded on the basis of cost with depreciation computed utilizing the straight-line method over the assets’ estimated useful lives. The useful lives of our major classes of assets are as follows:
Buildings 25 years
Leasehold improvements Lesser of 10 years or the term of the lease
Fixtures and equipment Five years
Information technology Three - five years
As of January 30, 2021, the weighted average remaining useful life of our assets was approximately 7.2 years.
In accordance with ASC 360, Property, Plant, and Equipment (“ASC 360”), the Company’s management evaluates the value of leasehold improvements, store fixtures, and operating lease ROU assets associated with retail stores. The Company evaluates long-lived assets for impairment at the individual store level, which is the lowest level at which individual cash flows can be identified. Impairment losses are recorded on long-lived assets used in operations when events and circumstances indicate that the assets might be impaired and the projected undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts. When events such as these occur, the impaired assets are adjusted to their estimated fair value and an impairment loss is recorded separately as a component of Operating (loss) income within Impairment, restructuring and COVID-19 related charges in the Consolidated Statements of Operations.
When the Company closes, remodels, or relocates a store prior to the end of its lease term, the remaining net book value of the assets related to the store is recorded as a write-off of assets within depreciation and amortization expense.
Refer to Note 7 to the Consolidated Financial Statements for additional information regarding property and equipment, and refer to Note 16 for additional information regarding impairment charges for Fiscal 2020 and Fiscal 2019.
Intangible Assets, including Goodwill
The Company’s goodwill is primarily related to the acquisition of its importing operations, Canada business, and Tailgate. In accordance with ASC 350, Intangibles – Goodwill and Other (“ASC 350”), the Company evaluates goodwill for possible impairment on at least an annual basis and last performed an annual impairment test as of January 30, 2021. As a result, there was no goodwill impairment charge recorded during Fiscal 2020. During Fiscal 2019, the Company concluded that certain goodwill was impaired resulting in a $1.7 million charge included within Impairment, restructuring and COVID-19 related charges in the Consolidated Statements of Operations.
Definite-lived intangible assets are recorded on the basis of cost with amortization computed utilizing the straight-line method over the assets’ estimated useful lives. The Company’s definite-lived intangible assets, which consist primarily of trademark assets, are generally amortized over 15 to 25 years.
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The Company evaluates definite-lived intangible assets for impairment in accordance with ASC 360 when events or circumstances indicate that the carrying value of the asset may not be recoverable. Such an evaluation includes the estimation of undiscounted future cash flows to be generated by those assets. If the sum of the estimated future undiscounted cash flows is less than the carrying amounts of the assets, then the assets are impaired and are adjusted to their estimated fair value. No definite-lived intangible asset impairment charges were recorded for all periods presented.
Refer to Note 8 to the Consolidated Financial Statements for additional information regarding intangible assets, including goodwill.
Gift Cards
Revenue is not recorded on the issuance of gift cards. The value of a gift card is recorded as a current liability upon issuance and revenue is recognized when the gift card is redeemed for merchandise. The Company estimates gift card breakage and recognizes revenue in proportion to actual gift card redemptions as a component of total net revenue.
The Company determines an estimated gift card breakage rate by continuously evaluating historical redemption data and the time when there is a remote likelihood that a gift card will be redeemed. The Company recorded $8.8 million, $9.5 million, and $8.9 million during Fiscal 2020, Fiscal 2019, and Fiscal 2018, respectively, of revenue related to gift card breakage.
Construction Allowances
As part of certain lease agreements for retail stores, the Company receives construction allowances from lessors, which are generally comprised of cash amounts. The Company records a receivable and an adjustment to the operating lease ROU asset at the lease commencement date (date of initial possession of the store). The deferred lease credit is amortized as part of the single lease cost over the term of the original lease (including the pre-opening build-out period). The receivable is reduced as amounts are received from the lessor.
Self-Insurance Liability
The Company uses a combination of insurance and self-insurance mechanisms for certain losses related to employee medical benefits and worker’s compensation. Costs for self-insurance claims filed and claims incurred but not reported are accrued based on known claims and historical experience. Management believes that it has adequately reserved for its self-insurance liability, which is capped by stop loss contracts with insurance companies. However, any significant variation of future claims from historical trends could cause actual results to differ from the accrued liability.
Leases
The Company leases all store premises, some of its office space and certain information technology and office equipment. These leases are generally classified as operating leases.
Store leases generally provide for a combination of base rentals and contingent rent based on store sales. Additionally, most leases include lessor incentives such as construction allowances and rent holidays. The Company is typically responsible for tenant occupancy costs including maintenance costs, common area charges, real estate taxes and certain other expenses.
Most leases include one or more options to renew. The exercise of lease renewal options is at the Company’s discretion and is not reasonably certain at lease commencement. When measuring operating lease ROU assets and operating lease liabilities, the Company only includes cash flows related to options to extend or terminate leases once those options are executed.
Some leases have variable payments. However, because they are not based on an index or rate, they are not included in the measurement of operating lease ROU assets and operating lease liabilities.
When determining the present value of future payments for an operating lease that does not have a readily determinable implicit rate, the Company uses its incremental borrowing rate as of the date of initial possession of the leased asset.
For leases that qualify for the short-term lease exemption, the Company does not record an operating lease liability or operating lease ROU asset. Short-term lease payments are recognized on a straight-line basis over the lease term of 12 months or less.
Refer to Note 10 to the Consolidated Financial Statements for additional information.
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Lease Modifications and COVID-19
The FASB staff issued a Q&A document in April 2020 providing guidance on how to apply the lease modification guidance in ASC 842 to rent concessions arising from COVID-19, allowing companies to elect accounting for the concessions as if enforceable rights and obligations existed, regardless of whether they are explicitly stated in the lease contract. Per the FASB staff Q&A guidance, entities may make the elections for any lessor-provided concessions related to the effects of the COVID-19 pandemic (e.g., deferrals of lease payments, cash payments made to the lessee, reduced future lease payments) as long as the concession does not result in a substantial increase in the rights of the lessor or the obligations of the lessee.
Co-Branded Credit Card
The Company offers a co-branded credit card and a private label credit card under the AE and Aerie brands. These credit cards are issued by a third party bank (the “Bank”) in accordance with a credit card agreement (the “Agreement”). The Company has no liability to the Bank for bad debt expense, provided that purchases are made in accordance with the Bank’s procedures. We receive funding from the Bank based on the Agreement and card activity, which includes payments for new account activations and usage of the credit cards. We recognize revenue for this funding as we fulfill our performance obligations under the Agreement. This revenue is recorded in other revenue, which is a component of total net revenue in our Consolidated Statements of Operations.
For further information on the Company’s loyalty program, refer to the Customer Loyalty Program caption below.
Customer Loyalty Program
In June 2020, the Company launched a highly-digitized loyalty program called Real Rewards by American Eagle and AerieTM (the “Program”). This Program features both shared and unique benefits for loyalty members and credit card holders. Under the Program, members accumulate points based on purchase activity and earn rewards by reaching certain point thresholds. Members earn rewards in the form of discount savings certificates. Prior to this launch in June 2020, under our previous program, AEO ConnectedTM, we also offered additional rewards for key items such as jeans and bras. Rewards earned are valid through the stated expiration date, which is 60 days from the issuance date of the reward. Rewards not redeemed during the 60-day redemption period are forfeited.
Points earned under the Program on purchases at American Eagle and Aerie are accounted for in accordance with ASC 606, Revenue from Contracts with Customers (“ASC 606”). The portion of the sales revenue attributed to the award points is deferred and recognized when the award is redeemed or when the points expire, using the relative stand-alone selling price method. Additionally, reward points earned using the co-branded credit card on non-AE or Aerie purchases are accounted for in accordance with ASC 606. As the points are earned, a current liability is recorded for the estimated cost of the reward, and the impact of adjustments is recorded in revenue.
The Company defers a portion of the sales revenue attributed to the loyalty points and recognizes revenue when the points are redeemed or expire, consistent with the requirements of ASC 606.
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Sales Return Reserve
Revenue is recorded net of estimated and actual sales returns and deductions for coupon redemptions and other promotions. The Company records the impact of adjustments to its sales return reserve quarterly within total net revenue and cost of sales. The sales return reserve reflects an estimate of sales returns based on projected merchandise returns determined using historical average return percentages.
For the Years Ended
January 30, February 1, February 2,
The presentation on a gross basis consists of a separate right of return asset and liability. These amounts are recorded within (i) prepaid expenses and other and (ii) other current liabilities and accrued expenses, respectively, on the Consolidated Balance Sheets.
Income Taxes
The Company calculates income taxes in accordance with ASC 740, Income Taxes (“ASC 740”), which requires the use of the liability method. Under this method, deferred tax assets and liabilities are recognized based on the difference between the Consolidated Financial Statement carrying amounts of existing assets and liabilities and their respective tax bases as computed pursuant to ASC 740. Deferred tax assets and liabilities are measured using the tax rates, based on certain judgments regarding enacted tax laws and published guidance, in effect in the years when those temporary differences are expected to reverse. A valuation allowance is established against the deferred tax assets when it is more likely than not that some portion or all of the deferred taxes may not be realized. Changes in the Company’s level and composition of earnings, tax laws or the deferred tax valuation allowance, as well as the results of tax audits may materially impact the Company’s effective income tax rate.
The Company evaluates its income tax positions in accordance with ASC 740, which prescribes a comprehensive model for recognizing, measuring, presenting and disclosing in the financial statements tax positions taken or expected to be taken on a tax return, including a decision whether to file or not to file in a particular jurisdiction. Under ASC 740, a tax benefit from an uncertain position may be recognized only if it is “more likely than not” that the position is sustainable based on its technical merits.
The calculation of deferred tax assets and liabilities, as well as the decision to recognize a tax benefit from an uncertain position and to establish a valuation allowance requires management to make estimates and assumptions. The Company believes that its estimates and assumptions are reasonable, although actual results may have a positive or negative material impact on the balances of deferred tax assets and liabilities, valuation allowances or net income (loss).
Refer to Note 14 to the Consolidated Financial Statements for additional information.
Revenue Recognition
The Company recognizes revenue pursuant to ASC 606. Revenue is recorded for store sales upon the purchase of merchandise by customers. The Company’s e-commerce operation records revenue upon the customer receipt date of the merchandise. Shipping and handling revenues are included in total net revenue. Sales tax collected from customers is excluded from revenue and is included as part of accrued income and other taxes on the Company’s Consolidated Balance Sheets.
Revenue is recorded net of estimated and actual sales returns and promotional price reductions. The Company records the impact of adjustments to its sales return reserve quarterly within total net revenue and cost of sales. The sales return reserve reflects an estimate of sales returns based on projected merchandise returns determined using historical average return percentages.
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Revenue is not recorded on the issuance of gift cards. A current liability is recorded upon issuance, and revenue is recognized when the gift card is redeemed for merchandise. Additionally, the Company recognizes revenue on unredeemed gift cards based on an estimate of the amounts that will not be redeemed (“gift card breakage”), determined through historical redemption trends. Gift card breakage revenue is recognized in proportion to actual gift card redemptions as a component of total net revenue. For further information on the Company’s gift card program, refer to the Gift Cards caption above.
The Company recognizes royalty revenue generated from its license or franchise agreements based on a percentage of merchandise sales by the licensee/franchisee. This revenue is recorded as a component of total net revenue when earned and collection is probable.
The Company defers a portion of the sales revenue attributed to loyalty points and recognizes revenue when the points are redeemed or expire, consistent with the requirements of ASC 606. Refer to the Customer Loyalty Program caption above for additional information.
Cost of Sales, Including Certain Buying, Occupancy, and Warehousing Expenses
Cost of sales consists of merchandise costs, including design, sourcing, importing and inbound freight costs, as well as markdowns, shrinkage and certain promotional costs (collectively, “merchandise costs”) and buying, occupancy and warehousing costs.
Design costs are related to the Company's Design Center operations and include compensation, travel and entertainment, supplies and samples for our design teams, as well as rent and depreciation for our Design Center. These costs are included in cost of sales as the respective inventory is sold.
Buying, occupancy and warehousing costs consist of compensation, employee benefit expenses and travel and entertainment for our buyers and certain senior merchandising executives; rent and utilities related to our stores, corporate headquarters, distribution centers and other office space; freight from our distribution centers to the stores; compensation and supplies for our distribution centers, including purchasing, receiving and inspection costs; and shipping and handling costs related to our e-commerce operation. Gross profit is the difference between total net revenue and cost of sales.
Selling, General, and Administrative Expenses
Selling, general and administrative expenses consist of compensation and employee benefit expenses, including salaries, incentives and related benefits associated with our stores and corporate headquarters. Selling, general and administrative expenses also include advertising costs, supplies for our stores and home office, communication costs, travel and entertainment, leasing costs and services purchased.
Selling, general and administrative expenses do not include compensation, employee benefit expenses and travel for our design, sourcing and importing teams, our buyers and our distribution centers as these amounts are recorded in cost of sales. Additionally, selling, general and administrative expenses do not include rent and utilities related to our stores, operating costs of our distribution centers, and shipping and handling costs related to our e-commerce operations, all of which are included in cost of sales.
Advertising Costs
Certain advertising costs, including direct mail, in-store photographs, and other promotional costs are expensed when the marketing campaign commences. As of January 30, 2021 and February 1, 2020, the Company had prepaid advertising expense of $5.7 million and $14.5 million, respectively. All other advertising costs are expensed as incurred. The Company recognized $150.0 million, $151.5 million, and $143.2 million in advertising expense during Fiscal 2020, Fiscal 2019, and Fiscal 2018, respectively.
Store Pre-Opening Costs
Store pre-opening costs consist primarily of rent, advertising, supplies, and payroll expenses. These costs are expensed as incurred.
Interest Expense (Income), Net
Interest expense (income), net primarily consists of interest expense related to the Company’s convertible notes and borrowings under the revolving credit facility, as well as interest income from cash, cash equivalents and short-term investments.
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Other (Income), Net
Other income, net consists primarily of gains and losses resulting from foreign currency transactions.
Legal Proceedings and Claims
The Company is subject to certain legal proceedings and claims arising out of the conduct of its business. In accordance with ASC 450, Contingencies (“ASC 450”), the Company records a reserve for estimated losses when the loss is probable and the amount can be reasonably estimated. If a range of possible loss exists and no anticipated loss within the range is more likely than any other anticipated loss, the Company records the accrual at the low end of the range, in accordance with ASC 450. As the Company believes that it has provided adequate reserves, it anticipates that the ultimate outcome of any matter currently pending against the Company will not materially affect the consolidated financial position, results of operations or cash flows of the Company. However, our assessment of any litigation or other legal claims could potentially change in light of the discovery of facts not presently known or determinations by judges, juries, or other finders of fact that are not in accord with management’s evaluation of the possible liability or outcome of such litigation or claims.
Supplemental Disclosures of Cash Flow Information
The table below shows supplemental cash flow information for cash amounts paid during the respective periods:
For the Years Ended
January 30, February 1, February 2,
Cash paid during the periods for:
Segment Information
We have two reportable segments: American Eagle and Aerie. For additional information, regarding the Company’s segment and geographic information, refer to Note 15 to the Consolidated Financial Statements.
3. Cash, Cash Equivalents, and Short-term Investments
The following table summarizes the fair market value of our cash and short-term investments, which are recorded on the Consolidated Balance Sheets:
January 30, February 1,
Cash and cash equivalents:
Certificates of deposit 50,000 —
Short-term investments:
Certificates of deposit — 55,000
Total short-term investments — 55,000
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4. Fair Value Measurements
ASC 820, Fair Value Measurement Disclosures (“ASC 820”), defines fair value, establishes a framework for measuring fair value in accordance with GAAP, and expands disclosures about fair value measurements. Fair value is defined under ASC 820 as the exit price associated with the sale of an asset or transfer of a liability in an orderly transaction between market participants at the measurement date.
Financial Instruments
Valuation techniques used to measure fair value under ASC 820 must maximize the use of observable inputs and minimize the use of unobservable inputs. In addition, ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include:
• Level 1 — Quoted prices in active markets.
The Company’s cash equivalents and short-term investments are Level 1 financial assets and are measured at fair value on a recurring basis, for all periods presented. Refer to Note 3 to the Consolidated Financial Statements for additional information regarding cash equivalents and short-term investments.
The Company had no other financial instruments that required fair value measurement for any of the periods presented.
Long-Term Debt
As of January 30, 2021 the Company had no outstanding borrowings under its revolving credit facilities.
In April 2020, the Company issued $415 million aggregate principal amount of convertible senior notes due in 2025.
The fair value of the Company's convertible notes is not required to be measured at fair value on a recurring basis. Upon issuance, the fair value of these convertible notes was measured using two approaches that consider market related conditions, including market benchmark rates and a secondary market quoted price, and is therefore within Level 2 of the fair value hierarchy.
Refer to Note 9 to the Consolidated Financial Statements for additional information regarding long-term debt and other credit arrangements.
Non-Financial Assets
The Company’s non-financial assets, which include intangible assets and property and equipment, are not required to be measured at fair value on a recurring basis. However, if certain triggering events occur and the Company is required to evaluate the non-financial asset for impairment, a resulting impairment would require that the non-financial asset be recorded at the estimated fair value.
Certain long-lived assets were measured at fair value on a nonrecurring basis using Level 3 inputs as defined in ASC 820. During Fiscal 2020, the Company recorded asset impairment charges of $249.2 million. Included in this amount are retail store impairment charges of $203.2 million, of which $154.8 million relates to operating lease ROU assets and $48.4 million relates to store property and equipment (fixtures and equipment and leasehold improvements).We also recorded $28.0 million of impairment charges related to certain corporate property and equipment as well as $18.0 million of impairment charges of certain cost and equity method investments.The assets were adjusted to their fair valueand the loss on impairment was recorded within impairment, restructuring and COVID-19 related charges in the Consolidated Statements of Operations. The fair value of the impaired assets, after the recorded loss, is approximately $93.2 million.
The fair value of the Company’s stores was determined by estimating the amount and timing of net future cash flows and discounting them using a risk-adjusted rate of interest. The Company estimates future cash flows based on its experience and knowledge of the market in which the store is located.
During Fiscal 2019, the Company concluded that certain goodwill was impaired resulting in a $1.7 million charge included within Impairment, restructuring and COVID-19 related charges in the Consolidated Statements of Operations. The measurement of the goodwill impairment included Level 3 measurements.
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5. Earnings per Share
The following is a reconciliation between basic and diluted weighted average shares outstanding:
For the Years Ended
January 30, February 1, February 2,
Weighted average common shares outstanding:
Dilutive effect of stock options and non-vested restricted stock — 1,156 1,559
*In Fiscal 2020, there were 1.9 million potentially dilutive equity awards and 12.4 million potentially dilutive shares from the Company’s convertible notes that were excluded from the diluted earnings per share calculation because the company incurred a net loss for this period and their inclusion would be anti-dilutive. For all other periods, anti-dilutive shares relate to stock options and unvested restricted stock.
The Company has the right to settle its convertible notes in any combination of cash and shares of common stock. However, the Company intends to settle the original principal portion of the convertible notes in cash and any conversion value above the principal in stock. Because of this repayment policy election, only the conversion spread portion of the amount owed is reflected as dilutive in our weighted average diluted shares outstanding. The Company uses the average of the closing prices of its common stock (NYSE: AEO) as reported on the New York Stock Exchange to calculate the conversion spread. These convertible notes could have a potential dilutive effect in future periods.
Refer to Note 9 and Note 12 to the Consolidated Financial Statements for additional information regarding the Company’s convertible notes and share-based compensation.
6. Accounts Receivable, net
Accounts receivable, net is comprised of the following:
January 30, February 1,
Merchandise sell-offs and vendor receivables 45,096 24,474
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7. Property and Equipment, net
Property and equipment, net consists of the following:
January 30, February 1,
Depreciation expense is as follows:
For the Years Ended
January 30, February 1, February 2,
Additionally, during Fiscal 2020, Fiscal 2019, and Fiscal 2018, the Company recorded $2.2 million, $4.3 million and $2.0 million, respectively, related to asset write-offs within depreciation and amortization expense.
8. Intangible Assets, net, including Goodwill
Intangible assets, net, including goodwill, consists of the following:
January 30, February 1,
Trademarks and other intangibles, at cost 92,663 71,685
Trademarks and other intangibles, net $ 57,065 $ 39,847
Intangibles, net, including goodwill $ 70,332 $ 53,004
Amortization expense is as follows:
For the Years Ended
January 30, February 1, February 2,
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The table below summarizes the estimated future amortization expense for intangible assets existing as of January 30, 2021 for the next five Fiscal Years:
Future
(In thousands) Amortization
9. Long-Term Debt, Net
The Company’s long-term debt consisted of the following as of January 30, 2021:
January 30,
Convertible notes principal $ 415,025
Less: unamortized discount 89,735
Convertible notes, net $ 325,290
Revolving credit facility borrowings —
Total long-term debt, net $ 325,290
Convertible Notes - Equity portion, net of tax 68,330
Convertible notes
In April 2020, the Company issued $415 million aggregate principal amount of convertible senior notes due in 2025 (the “Notes”) in a private placement to qualified institutional buyers in reliance on Rule 144A under the Securities Act of 1933. The Notes have a stated interest rate of 3.75%, payable semi-annually. The Company may redeem the Notes, in whole or in part, at any time beginning April 2023. The Company used the net proceeds from the offering for general corporate purposes.
The Company does not have the right to redeem the Notes prior to April 17, 2023. On or after April 17, 2023 and prior to the fortieth scheduled trading day immediately preceding the maturity date, the Company may redeem all or any portion of the Notes, at its option, for cash, if the last reported sale price of AEO’s common stock has been at least 130% of the conversion price then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period. Beginning January 2025, noteholders may convert their Notes for approximately 115.1 shares of common stock per $1,000 principal amount of the Notes, equivalent to a conversion price of approximately $8.69 per share.
The Company has the right to settle conversions in any combination of cash and shares of common stock. However, the Company intends to settle the original principal portion of the Notes in cash and any conversion value above the principal in stock. Because of this repayment policy, only the conversion spread portion of the amount owed is reflected as dilutive in earnings per share.
The effective interest rate for the Notes is 10.0% and we calculated the effective yield using a market approach. The remaining amortization period of the discount was 4.25 years as of January 30, 2021.
Interest expense for the Notes was:
Year ended January 30,
Cash interest expense $ 11,857
Amortization of discount $ 12,517