NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Unaudited)
1. Description of Business, Basis of Presentation and Summary of Significant Accounting Policies
Description of Business
Victoria’s Secret & Co. (together with its subsidiaries unless the context otherwise requires, the “Company”) is a specialty retailer of women's intimate and other apparel and beauty products marketed under the Victoria’s Secret and PINK brand names. The Company has approximately 900 Victoria’s Secret and PINK stores in the U.S., Canada and China as well as online at www.VictoriasSecret.com and www.PINK.com and other online channels worldwide. Additionally, Victoria’s Secret and PINK have more than 450 stores in approximately 70 countries operating under franchise, license and wholesale arrangements. The Company also includes the Victoria’s Secret and PINK merchandise sourcing and production function serving the Company and its international partners. The Company operates as a single segment designed to serve customers worldwide seamlessly through stores and online channels.
In July 2022, the Company announced a new, simplified corporate leadership structure designed to unite the Company's brands, better align its teams with a shifting consumer landscape and enable better execution of its strategy. The restructuring eliminated approximately 160 management roles, or approximately 5% of the Company's home office headcount. For additional information, see Note 4, “Restructuring Activities.”
Victoria's Secret & Co. Spin-Off
On July 9, 2021, L Brands, Inc. (“L Brands” or the “Former Parent”) announced that its Board of Directors approved the previously announced separation of the Victoria’s Secret business, including PINK, into an independent, publicly traded company (the “Separation”). Prior to the Separation, L Brands operated the Bath & Body Works, Victoria’s Secret and PINK retail brands.
On August 2, 2021 (the “Distribution Date”), after the New York Stock Exchange (“NYSE”) market closing, the Separation of the Victoria’s Secret business was completed. On August 3, 2021, Victoria’s Secret & Co. became an independent, publicly traded company trading on the NYSE under the stock symbol “VSCO.”
The Separation was achieved through the Former Parent’s distribution of 100% of the shares of the Company’s common stock to holders of the Former Parent’s common stock as of the close of business on the record date of July 22, 2021. The Former Parent’s stockholders of record received one share of the Company’s common stock for every three shares of the Former Parent’s common stock. In connection with the Separation, the Company made a cash payment of approximately $976 million to the Former Parent on August 2, 2021 using cash proceeds from the issuances of certain debt (discussed in Note 10, “Long-term Debt and Borrowing Facilities”). The Former Parent retained no ownership interest in the Company following the Separation.
The Company entered into several agreements with the Former Parent that, among other things, effect the Separation and govern the relationship of the parties following the Separation, including a Separation and Distribution Agreement, a Tax Matters Agreement, an L Brands to VS Transition Services Agreement, a VS to L Brands Transition Services Agreement, an Employee Matters Agreement and a Domestic Transportation Services Agreement. For additional information, see Note 2, “Transactions with Former Parent.”
Fiscal Year
The Company’s fiscal year ends on the Saturday nearest to January 31. As used herein, “third quarter of 2022” and “third quarter of 2021” refer to the thirteen-week periods ended October 29, 2022 and October 30, 2021, respectively. “Year-to-date 2022” and “year-to-date 2021” refer to the thirty-nine-week periods ended October 29, 2022 and October 30, 2021, respectively.
Basis of Presentation - Unaudited Consolidated and Combined Financial Statements
The Company’s financial statements for periods through the Separation date of August 2, 2021 are combined financial statements prepared on a carve-out basis as discussed below. The Company’s financial statements for the period from August 3, 2021 through October 29, 2022 are consolidated financial statements based on the reported results of Victoria's Secret & Co. as a standalone company.
The Consolidated and Combined Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”). The Consolidated and Combined Financial Statements may not be indicative of the Company’s future performance and do not necessarily reflect what the financial position, results of operations, and cash flows would have been had it operated as an independent company during all of the periods presented.
Basis of Presentation - Prior to Separation
Through the Separation date, the Company's combined financial statements are prepared on a “carve-out” basis. The Combined Financial Statements have been derived from the consolidated financial statements and accounting records of the Former Parent in conformity with GAAP.
Intracompany transactions have been eliminated. Transactions between the Company and the Former Parent have been included in these financial statements.
For the periods prior to the Separation, certain of the Former Parent's assets and liabilities that were specifically identifiable or otherwise attributable to the Company were included in the Company's balance sheets. For the periods prior to the Separation, the Former Parent utilized a centralized approach to cash management and financing its operations. The cash and cash equivalents held by the Former Parent at the corporate level were not specifically identifiable to the Company and, therefore, were not reflected in the Company’s balance sheets. Cash transfers between the Former Parent and the Company were accounted for through Net Investment by Former Parent. Cash and cash equivalents that are included in the Company's balance sheets for the periods prior to the Separation represent cash and cash equivalents held by the Company prior to any potential transfer to the centralized cash management pool of the Former Parent.
For the periods prior to the Separation, the Consolidated and Combined Statements of Income include costs for certain functions, including information technology, human resources and store design and construction, that historically were provided and administered on a centralized basis by the Former Parent. Starting in the third quarter of 2020, as part of the steps to prepare the Company to operate as a separate, standalone company, these functions were transitioned to the business and began to be operated and administered as part of Victoria’s Secret & Co. Costs applicable to the Company related to these functions are included in the Consolidated and Combined Statements of Income for all periods presented. Prior to the transition of these functions, these costs were directly charged to the Company by the Former Parent.
In addition, for purposes of preparing the combined financial statements on a “carve-out” basis prior to the Separation, a portion of the Former Parent's corporate expenses were allocated to the Company. These expense allocations include the cost of corporate functions and resources provided by, or administered by, the Former Parent including, but not limited to, executive management and other corporate and governance functions, such as corporate finance, internal audit, tax and treasury. The related employee payroll and benefit costs associated with such functions, such as share-based compensation, were included in the expense allocations. For year-to-date 2021, corporate expenses of $49 million were allocated and included within General, Administrative and Store Operating Expenses in the Consolidated and Combined Statement of Income.
Costs were allocated to the Company based on direct usage when identifiable or, when not directly identifiable, on the basis of proportional net sales. Management considers the basis on which the expenses have been allocated to reasonably reflect the utilization of services provided to, or the benefit received by, the Company during the periods presented. However, the allocations may not reflect the expenses the Company would have incurred if the Company had been a standalone company for the periods presented. Actual costs that may have been incurred if the Company had been a standalone company would depend on a number of factors, including the organizational structure, whether functions were outsourced or performed by employees, and strategic or capital decisions. Going forward, the Company may perform these functions using its own resources or outsourced services. For a period following the Separation, however, some of these functions will continue to be provided by the Former Parent under a transition services agreement, and the Company will provide some services to the Former Parent under a transition services agreement. The Company has also entered into certain commercial arrangements with the Former Parent in connection with the Separation. For more information, see Note 2, “Transactions with Former Parent.”
During the periods prior to the Separation that are presented in these Consolidated and Combined Financial Statements, the Company's income tax expense (benefit) and deferred tax balances were included in the Former Parent's income tax returns. Income tax expense (benefit) and deferred tax balances contained in these Consolidated and Combined Financial Statements for periods prior to the Separation are presented on a separate return basis, as if the Company had filed its own income tax returns. As a result, actual tax transactions included in the consolidated financial statements of the Former Parent may or may not be included in the Consolidated and Combined Financial Statements of the Company. Similarly, the tax treatment of certain items reflected in the Consolidated and Combined Financial Statements of the Company may or may not be reflected in the consolidated financial statements and income tax returns of the Former Parent. The taxes recorded in the Consolidated and Combined Statements of Income for periods prior to the Separation are not necessarily representative of the taxes that may arise in the future when the Company files its income tax returns independent from the Former Parent's returns.
Interim Financial Statements
The Consolidated and Combined Financial Statements as of and for the periods ended October 29, 2022 and October 30, 2021 are unaudited. These Consolidated and Combined Financial Statements should be read in conjunction with the audited Consolidated and Combined Financial Statements and Notes thereto included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission (“SEC”) on March 18, 2022.
In the opinion of management, the accompanying Consolidated and Combined Financial Statements reflect all adjustments, which are of a normal recurring nature, necessary for a fair presentation of the results for the interim periods.
Seasonality of Business
Due to the seasonal variations in the retail industry, the results of operations for the thirteen-week and thirty-nine-week periods ended October 29, 2022 are not necessarily indicative of the results expected for any other interim period or the full fiscal year ending January 28, 2023.
Equity Method Investments
The Company accounts for investments in unconsolidated entities where it exercises significant influence, but does not have control, using the equity method. Under the equity method of accounting, the Company recognizes its share of the investee's net income or loss. Losses are only recognized to the extent the Company has positive carrying value related to the investee. Carrying values are only reduced below zero if the Company has an obligation to provide funding to the investee. The Company’s share of net income or loss of unconsolidated entities from which the Company purchases merchandise or merchandise components is included in Costs of Goods Sold, Buying and Occupancy in the Consolidated and Combined Statements of Income, and the Company's share of net income or loss from all other unconsolidated entities is included in General, Administrative and Store Operating Expenses in the Consolidated and Combined Statements of Income. The Company’s equity method investments are required to be reviewed for impairment when it is determined there may be an other-than-temporary loss in value.
In March 2022, the Company acquired a minority interest in swimwear brand Frankies Bikinis, LLC (“Frankies Bikinis”) in exchange for $18 million. The investment in Frankies Bikinis is accounted for using the equity method of accounting.
The carrying values of equity method investments were $52 million as of October 29, 2022, $35 million as of January 29, 2022 and $32 million as of October 30, 2021. These investments are recorded in Other Assets on the Consolidated Balance Sheets.
Noncontrolling Interest
The Company accounts for investments in entities where it has control over the entity by consolidating the entities' assets, liabilities and results of operations and including them in the Company's Consolidated and Combined Financial Statements. The share of the investment not owned by the Company is reflected in Noncontrolling Interest in the Consolidated Balance Sheets. The Company recognizes the share of net income or loss not attributable to the Company in Net Loss Attributable to Noncontrolling Interest in the Consolidated and Combined Statements of Income. Noncontrolling interest represents the portion of equity interests in a joint venture in China that is not owned by the Company. For additional information, see Note 4, “Restructuring Activities.”
Net Investment by Former Parent
Net Investment by Former Parent represents the Former Parent's historical investment in the Company, the accumulated net earnings after taxes and the net effect of the transactions with and allocations from the Former Parent. All transactions reflected in Net Investment by Former Parent have been considered as financing activities for purposes of the Consolidated and Combined Statements of Cash Flows.
For additional information, see Basis of Presentation above and Note 2, “Transactions with Former Parent.”
Derivative Financial Instruments
The Company from time to time uses derivative financial instruments to manage exposure to foreign currency exchange rates. The Company does not use derivative instruments for trading purposes. All derivative instruments are recorded on the Consolidated Balance Sheets at fair value.
The earnings of the Company’s foreign operations are subject to exchange rate risk as substantially all the merchandise is sourced through U.S. dollar transactions. The Company from time to time utilizes foreign currency forward contracts designated as cash flow hedges to mitigate this foreign currency exposure. Amounts for these designated cash flow hedges are reclassified from Accumulated Other Comprehensive Income (Loss) upon sale of the hedged merchandise to the customer. These gains and losses are recognized in Costs of Goods Sold, Buying and Occupancy in the Consolidated and Combined Statements of Income. During the second quarter of 2021, the Company terminated its foreign currency forward contracts designated as cash flow hedges that were used to mitigate foreign currency exposure for its Canadian operations. The fair value of designated cash flow hedges is not significant for any period presented.
Concentration of Credit Risk
The Company maintains cash and cash equivalents with various major financial institutions. The Company monitors the relative credit standing of financial institutions with whom the Company transacts with and limits the amount of credit exposure with any one entity. As of October 29, 2022, the Company's investment portfolio is primarily comprised of bank deposits. Prior to the Separation, cash generated by the Company was invested by the Former Parent in U.S. government obligations and U.S. Treasury and AAA-rated money market funds.
The Company also periodically reviews the relative credit standing of franchise, license and wholesale partners and other entities to which the Company grants credit terms in the normal course of business. The Company determines the required allowance for expected credit losses using information such as customer credit history and financial condition. Amounts are recorded to the allowance when it is determined that expected credit losses may occur.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period, as well as the related disclosure of contingent assets and liabilities at the date of the financial statements. Actual results may differ from those estimates, and the Company revises its estimates and assumptions as new information becomes available.
Recently Issued Accounting Pronouncements
The Company did not adopt any new accounting standards during the third quarter of 2022 that had a material impact on the Company's results of operations, financial position or cash flows. In addition, there are no new accounting standards not yet adopted that are expected to have a material impact on the Company's results of operations, financial position or cash flows.
2. Transactions with Former Parent
Prior to the Separation, the Company's financial statements were prepared on a “carve-out” basis and were derived from the consolidated financial statements and accounting records of the Former Parent. The following discussion summarizes activity between the Company and the Former Parent.
Allocation of General Corporate Expenses
Prior to the Separation, for purposes of preparing the financial statements on a “carve-out” basis, the Company was allocated a portion of the Former Parent's total corporate expenses. See Note 1 for a discussion of the methodology used to allocate corporate-related costs for purposes of preparing the financial statements on a “carve-out” basis.
Long-term Debt due to Former Parent
Prior to the Separation, during 2020, the Company borrowed $97 million from the Former Parent to pay down outstanding debt with external parties. This borrowing was due in September 2025 and had a variable interest rate based on the China Loan Prime Rate. As a result of the Separation, the Company no longer has this Long-term Debt due to Former Parent. Prior to the Separation, the Company recognized $2 million of interest expense year-to-date 2021 related to this borrowing.
Net Transfers from (to) Former Parent
The following table presents the components of Net Transfers from (to) Former Parent prior to the Separation in the third quarter and year-to-date 2021 Consolidated and Combined Statements of Equity:
| | | | | | | | | | | | |
| | Third Quarter | | Year-to-Date |
| | 2021 | | 2021 |
| | |
| Cash Pooling and General Financing Activities, Net | $ | 259 | | | $ | (172) | |
| Long-lived Assets (a) | — | | | 16 | |
| Corporate Expense Allocations | — | | | 49 | |
| Share-based Compensation Expense | — | | | 15 | |
| Assumed Income Tax Payments | — | | | 15 | |
| Cash Payment to Former Parent | (976) | | | (976) | |
| Total Net Transfers to Former Parent | $ | (717) | | | $ | (1,053) | |
_______________(a)Represents long-lived assets transferred between the Company and the Former Parent as a result of asset allocation decisions made during the period.
Agreements with Former Parent
The Company entered into several agreements with the Former Parent that, among other things, effect the Separation and govern the relationship of the parties following the Separation, including a Separation and Distribution Agreement, a Tax Matters Agreement, an L Brands to VS Transition Services Agreement, a VS to L Brands Transition Services Agreement, an Employee Matters Agreement and a Domestic Transportation Services Agreement.
Under the terms of the transition services agreements, as amended, the Company provides its Former Parent, on a transitional basis, certain services or functions, including information technology, certain logistics functions and customer marketing services. Additionally, the Former Parent provides to the Company various services or functions, many of which currently use a shared technology platform, including human resources, payroll and certain logistics functions. Generally, these services will be provided for a period of up to two years following the Separation, except for information technology services, which will be provided for a period of up to three years following the Separation and may be extended for a maximum of two additional one-year periods subject to increased administrative charges. Consideration and costs for the transition services will be determined using several billing methodologies as described in the agreements, including customary billing, pass-through billing, percent of sales billing or fixed fee billing. Costs for transition services provided by the Former Parent are recorded within the Consolidated and Combined Statements of Income based on the nature of the services. Consideration for transition services provided to the Former Parent are recorded within the Consolidated and Combined Statements of Income based on the nature of the services and as an offset to expenses incurred to provide the services.
The following table summarizes the recognized consideration and costs pursuant to the transition services agreements for the third quarter and year-to-date 2022 and 2021:
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2022 | | 2021 | | 2022 | | 2021 |
| (in millions) |
Consideration Received | $ | 16 | | | $ | 24 | | | $ | 56 | | | $ | 24 | |
Costs Recognized | 17 | | | 20 | | | 55 | | | 20 | |
Under the terms of the Domestic Transportation Services Agreement, the Former Parent will continue to provide transportation services to the Company for certain beauty and apparel merchandise in the United States and Canada for an initial term of three years following the Separation, which term will thereafter continuously renew unless and until either party elects to terminate the arrangement upon written prior notice. Costs for the transportation services will be determined using customary billing and fixed billing methodologies, which are described in the agreement, and are subject to an administrative charge. Costs for transition services are recorded within Costs of Goods Sold, Buying and Occupancy in the Consolidated and Combined Statements of Income.
The following table summarizes the recognized costs pursuant to the Domestic Transportation Services Agreement for the third quarter and year-to-date 2022 and 2021:
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2022 | | 2021 | | 2022 | | 2021 |
| (in millions) |
Costs Recognized | $ | 23 | | | $ | 18 | | | $ | 62 | | | $ | 18 | |
Prior to the Separation, certain Company employees participated in the stock option and performance incentive plan of the Former Parent. Under the terms of the Employee Matters Agreement, in connection with the Separation, restricted stock and stock option equity awards held by Company employees were converted to awards representing approximately 6.0 million shares of the Company's common stock under the Company's 2021 Stock Option and Performance Incentive Plan.
3. Revenue Recognition
Accounts receivable, net from revenue-generating activities were $133 million as of October 29, 2022, $101 million as of January 29, 2022 and $86 million as of October 30, 2021. Accounts receivable primarily relate to amounts due from the Company's franchise, license and wholesale partners. Under these arrangements, payment terms are typically 60 to 90 days.
The Company records deferred revenue when cash payments are received in advance of transfer of control of goods or services. Deferred revenue primarily relates to gift cards, loyalty and credit card programs and direct channel shipments, which are all impacted by seasonal and holiday-related sales patterns. Deferred revenue was $229 million as of October 29, 2022, $258 million as of January 29, 2022 and $214 million as of October 30, 2021. The Company recognized $117 million as revenue year-to-date 2022 from amounts recorded as deferred revenue at the beginning of the year. As of October 29, 2022, the Company recorded deferred revenue of $210 million within Accrued Expenses and Other, and $19 million within Other Long-term Liabilities on the Consolidated Balance Sheet.
The following table provides a disaggregation of Net Sales for the third quarter and year-to-date 2022 and 2021:
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2022 | | 2021 | | 2022 | | 2021 |
| (in millions) |
Stores – North America | $ | 813 | | | $ | 920 | | | $ | 2,712 | | | $ | 2,890 | |
Direct | 342 | | | 406 | | | 1,176 | | | 1,396 | |
International (a) | 163 | | | 115 | | | 435 | | | 323 | |
Total Net Sales | $ | 1,318 | | | $ | 1,441 | | | $ | 4,323 | | | $ | 4,609 | |
_______________
(a)Results include consolidated joint venture sales in China, royalties associated with franchised stores and wholesale sales.
In April 2022, the Company launched a new co-branded credit card through which customers can earn points on purchases of Company product as well as on purchases outside of the Company. The co-branded credit card is in addition to the Company's existing U.S. private label credit card.
The Company recognized Net Sales of $29 million and $30 million for the third quarter of 2022 and 2021, respectively, related to revenue earned in connection with its credit card arrangements. The Company recognized Net Sales of $85 million and $89 million year-to-date 2022 and 2021, respectively, related to revenue earned in connection with its credit card arrangements.
The Company’s international net sales include sales from Company-operated stores, royalty revenue from franchise and license arrangements, wholesale revenues and direct sales shipped internationally. Certain of these sales are subject to the impact of fluctuations in foreign currency. The Company’s net sales outside of the U.S. totaled $211 million and $170 million for the third quarter of 2022 and 2021, respectively. The Company’s net sales outside of the U.S. totaled $594 million and $500 million year-to-date 2022 and 2021, respectively.
4. Restructuring Activities
Victoria's Secret China
In April 2022, the Company announced the completion of the joint venture agreement with Regina Miracle International (Holdings) Limited (“Regina Miracle”), a company listed on the Hong Kong Stock Exchange, related to its existing Company-owned business in China. The Company and Regina Miracle formed a joint venture to operate Victoria's Secret stores and the related online business in China. Under the terms of the agreement, the Company owns 51% of the joint venture and Regina Miracle owns the remaining 49%. The Company received $45 million in cash from Regina Miracle during the first quarter of 2022 as consideration for its investment in the joint venture. In connection with the execution of the agreement, the Company and Regina Miracle each contributed $10 million in cash to the joint venture. The cash received from Regina Miracle is reflected within Cash Received from Noncontrolling Interest Partner in the 2022 Consolidated and Combined Statement of Cash Flows.
Since the Company has retained control over the joint venture, the joint venture's assets, liabilities and results of operations will continue to be consolidated in the Company's consolidated financial statements. Regina Miracle's interest in the joint venture is now reflected in Noncontrolling Interest in the October 29, 2022 Consolidated Balance Sheet and in Net Loss Attributable to Noncontrolling Interest in the 2022 third quarter and year-to-date Consolidated Statements of Income.
Corporate Leadership Restructuring
In July 2022, the Company announced a new, simplified corporate leadership structure designed to unite the Company's brands, better align its teams with a shifting consumer landscape and enable better execution of its strategy. As a result of the restructuring, pre-tax severance and related costs of $29 million, of which $16 million are included in General, Administrative and Store Operating Expenses and $13 million are included in Costs of Goods Sold, Buying and Occupancy, are included in the 2022 Year-to-Date Consolidated Statement of Income.
During year-to-date 2022, the Company made payments of $12 million related to severance and related costs associated with these reductions. As of October 29, 2022, liabilities related to the restructuring of $17 million are included in the October 29, 2022 Consolidated Balance Sheet.
5. Earnings Per Share and Shareholders' Equity
Earnings Per Share
Earnings per basic share is computed based on the weighted-average number of common shares outstanding. Earnings per diluted share include the weighted-average effect of dilutive restricted stock units, performance share units and options (collectively, “Dilutive Awards”) on the weighted-average shares outstanding.
On August 2, 2021, the Separation was achieved through the Former Parent's distribution of 100% of the shares of the Company's common stock to holders of the Former Parent's common stock as of the close of business on the record date of July 22, 2021. The Former Parent's stockholders of record received one share of the Company's common stock for every three shares of the Former Parent's common stock. As a result, on August 3, 2021, the Company had 88 million shares of common stock outstanding. This share amount is being utilized for the calculation of basic and diluted earnings per share for all periods presented prior to the Separation. After the Separation, actual outstanding shares are used to calculate both basic and diluted weighted-average number of common shares outstanding.
The following table provides the weighted-average shares utilized for the calculation of basic and diluted earnings per share for the third quarter and year-to-date 2022 and 2021:
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2022 | | 2021 | | 2022 | | 2021 |
| (in millions) |
Common Shares | 81 | | | 88 | | | 83 | | | 88 | |
Treasury Shares | — | | | — | | | — | | | — | |
Basic Shares | 81 | | | 88 | | | 83 | | | 88 | |
Effect of Dilutive Awards | 2 | | | 4 | | | 2 | | | 2 | |
Diluted Shares | 83 | | | 92 | | | 85 | | | 90 | |
Anti-dilutive Awards (a) | 2 | | | — | | | 1 | | | — | |
_______________(a)Shares underlying certain options, restricted stock units and performance share units were excluded from the calculation of diluted earnings per share because their inclusion would have been anti-dilutive.
Shareholders' Equity
Common Stock Share Repurchases & Treasury Stock Retirements
In February 2022, upon final settlement of the Company's December 2021 accelerated share repurchase agreement (“ASR Agreement”) with Goldman Sachs & Co. LLC (“Goldman Sachs”), the Company received an additional 0.3 million shares of the Company's common stock from Goldman Sachs. The delivery of shares resulted in an immediate reduction of the outstanding shares used to calculate the weighted-average common shares outstanding for basic and diluted net income per share. In connection with the settlement of the ASR Agreement, $50 million previously recorded in Paid-in Capital as of January 29, 2022, was reclassified to Treasury Stock in the first quarter of 2022. In February 2022, the Company immediately retired the additional 0.3 million shares repurchased in connection with the settlement of the ASR Agreement. The retirement resulted in a reduction of $50 million in Treasury Stock, less than $1 million in the par value of Common Stock, less than $1 million in Paid-in Capital and nearly $50 million in Retained Earnings.
In March 2022, the Company's Board of Directors approved a new share repurchase program (“March 2022 Share Repurchase Program”), providing for the repurchase of up to $250 million of the Company's common stock. The $250 million authorization is expected to be utilized to repurchase shares in the open market, subject to market conditions and other factors. The March 2022 Share Repurchase Program will continue until exhausted, but no later than January 28, 2023.
The Company repurchased the following shares of its common stock under the March 2022 Share Repurchase Program during year-to-date 2022:
| | | | | | | | | | | | | | | | | | | | | | | |
| Amount Authorized | | Shares Repurchased | | Amount Repurchased | | Average Stock Price |
| (in millions) | | (in thousands) | | (in millions) | | |
March 2022 Share Repurchase Program | $ | 250 | | | 5,104 | | | $ | 214 | | | $ | 41.91 | |
The Company has $36 million remaining under the March 2022 Share Repurchase Program as of October 29, 2022.
In accordance with the Board of Directors' resolution, shares of the Company's common stock repurchased under the March 2022 Share Repurchase Program will be retired upon repurchase. As a result, year-to-date 2022 the Company retired 5.1 million shares repurchased under the March 2022 Share Repurchase Program, which resulted in reductions of less than $1 million in the par value of Common Stock, $10 million in Paid-in Capital and $204 million in Retained Earnings.
6. Inventories
The following table provides details of Inventories as of October 29, 2022, January 29, 2022 and October 30, 2021:
| | | | | | | | | | | | | | | | | |
| October 29, 2022 | | January 29, 2022 | | October 30, 2021 |
| (in millions) |
Finished Goods Merchandise | $ | 1,186 | | | $ | 898 | | | $ | 971 | |
Raw Materials and Merchandise Components | 56 | | | 51 | | | 48 | |
Total Inventories | $ | 1,242 | | | $ | 949 | | | $ | 1,019 | |
Inventories are principally valued at the lower of cost or net realizable value, on an average cost basis. The above amounts are net of valuation adjustments for inventory where the cost exceeds the amount the Company expects to realize from the ultimate sale or disposal of the inventory and net of loss adjustments for estimated physical inventory losses that have occurred since the date of the last physical inventory.
7. Long-Lived Assets
The following table provides details of Property and Equipment, Net as of October 29, 2022, January 29, 2022 and October 30, 2021:
| | | | | | | | | | | | | | | | | |
| October 29, 2022 | | January 29, 2022 | | October 30, 2021 |
| (in millions) |
Property and Equipment, at Cost | $ | 3,684 | | | $ | 3,795 | | | $ | 3,782 | |
Accumulated Depreciation and Amortization | (2,829) | | | (2,838) | | | (2,806) | |
Property and Equipment, Net | $ | 855 | | | $ | 957 | | | $ | 976 | |
Depreciation expense was $68 million and $75 million for the third quarter of 2022 and 2021, respectively. Depreciation expense was $208 million and $233 million for year-to-date 2022 and 2021, respectively.
8. Accrued Expenses and Other
The following table provides additional information about the composition of Accrued Expenses and Other as of October 29, 2022, January 29, 2022 and October 30, 2021:
| | | | | | | | | | | | | | | | | |
| October 29, 2022 | | January 29, 2022 | | October 30, 2021 |
| (in millions) |
Deferred Revenue on Gift Cards | $ | 168 | | | $ | 198 | | | $ | 158 | |
Compensation, Payroll Taxes and Benefits | 112 | | | 152 | | | 124 | |
Rent | 62 | | | 45 | | | 81 | |
Accrued Marketing | 38 | | | 36 | | | 39 | |
Deferred Revenue on Loyalty and Credit Card Programs | 30 | | | 36 | | | 35 | |
Accrued Freight and Other Logistics | 23 | | | 62 | | | 51 | |
Taxes, Other than Income | 21 | | | 24 | | | 27 | |
Returns Reserve | 15 | | | 23 | | | 18 | |
Accrued Interest | 13 | | | 5 | | | 13 | |
Deferred Revenue on Direct Shipments not yet Delivered | 12 | | | 16 | | | 12 | |
Accrued Claims on Self-insured Activities | 6 | | | 4 | | | 2 | |
Other | 118 | | | 113 | | | 136 | |
Total Accrued Expenses and Other | $ | 618 | | | $ | 714 | | | $ | 696 | |
9. Income Taxes
Prior to the Separation, the Company's U.S. operations and certain of its non-U.S. operations were historically included in the income tax returns of the Former Parent or its subsidiaries that may not be part of the Company. For the periods prior to the Separation, the income tax expense (benefit) and all tax liabilities that are presented in these financial statements were calculated on a “carve-out” basis, which applied the accounting guidance as if we filed income tax returns for the Company on a standalone, separate return basis. The Company believes the assumptions supporting its allocation and presentation of income taxes on a separate return basis are reasonable. However, the Company's tax results, as presented in these financial statements for periods prior to the Separation, may not be reflective of the results that the Company expects to generate in the future.
Post-Separation, the Company files a consolidated U.S. federal income tax return as well as separate and combined income tax returns in numerous state, local and international jurisdictions. Income tax expense (benefit) for the period prior to the Separation is based on the combined financial statements prepared on a “carve-out” basis. Income tax expense (benefit) for the period after the Separation is based on the consolidated results of the Company on a standalone basis.
The provision for income taxes is based on the current estimate of the annual effective tax rate and adjusted as necessary for quarterly events.
For the third quarter of 2022, the Company’s effective tax rate was 25.0% compared to 22.2% in the third quarter of 2021. The third quarter of 2022 rate was consistent with the Company's combined estimated federal and state statutory rate. The third quarter of 2021 rate was lower than the Company's combined estimated federal and state statutory rate primarily due to the recognition of excess tax benefits related to share-based compensation awards that vested in the quarter.
For year-to-date 2022, the Company’s effective tax rate was 13.2% compared to 23.0% for year-to-date 2021. Both rates were lower than the Company's combined estimated federal and state statutory rate primarily due to the recognition of excess tax benefits related to share-based compensation awards that vested in the respective period.
The Company paid income taxes in the amount of $18 million and $6 million for the third quarter of 2022 and 2021, respectively. Year-to-date income taxes paid were $158 million and $21 million for 2022 and 2021, respectively.
On August 2, 2021, in connection with the Separation, the Company and the Former Parent entered into a Tax Matters Agreement. Under the agreement, the Former Parent will generally be responsible for all U.S. federal, state, local and non-U.S. income taxes of the Company for any taxable period, or portion of such period, ending on or before the Distribution Date. As such, the net liabilities associated with uncertain tax positions that were presented in the financial statements in prior periods on a carve-out basis were not transferred to the Company as part of the Separation.
10. Long-term Debt and Borrowing Facilities
The following table provides the Company's outstanding debt balance, net of unamortized debt issuance costs and discounts, as of October 29, 2022, January 29, 2022 and October 30, 2021:
| | | | | | | | | | | | | | | | | |
| October 29, 2022 | | January 29, 2022 | | October 30, 2021 |
| (in millions) |
Senior Secured Debt with Subsidiary Guarantee | | | | | |
$396 million Term Loan due August 2028 (“Term Loan Facility”) | $ | 388 | | | $ | 390 | | | $ | 390 | |
Asset-based Revolving Credit Facility due August 2026 (“ABL Facility”) | 267 | | | — | | | — | |
Total Senior Secured Debt with Subsidiary Guarantee | 655 | | | 390 | | | 390 | |
Senior Debt with Subsidiary Guarantee | | | | | |
$600 million, 4.625% Fixed Interest Rate Notes due July 2029 (“2029 Notes”) | 593 | | | 592 | | | 592 | |
Total Senior Debt with Subsidiary Guarantee | 593 | | | 592 | | | 592 | |
| | | | | |
Total | 1,248 | | | 982 | | | 982 | |
Current Debt | (4) | | | (4) | | | (4) | |
Total Long-term Debt, Net of Current Portion | $ | 1,244 | | | $ | 978 | | | $ | 978 | |
Cash paid for interest was $29 million year-to-date 2022. There was no cash paid for interest year-to-date 2021.
Issuance of Notes
In July 2021, the Company issued $600 million of 4.625% notes due in July 2029 in a transaction exempt from registration under the Securities Act of 1933, as amended. The obligation to pay principal and interest on the 2029 Notes is jointly and severally guaranteed on a full and unconditional basis by certain of the Company's wholly-owned subsidiaries. The proceeds were held in escrow for release to the Company upon satisfaction of certain conditions, including completion of the Separation.
On August 2, 2021, the Company used cash proceeds of $592 million, which were net of issuance costs of $8 million, from the 2029 Notes, to partially fund the approximately $976 million cash payment to the Former Parent in connection with the Separation. The issuance costs are being amortized through the maturity date and are included within Long-term Debt on the Consolidated Balance Sheets.
Credit Facilities
On August 2, 2021, the Company entered into a term loan B credit facility in an aggregate principal amount of $400 million, which will mature in August 2028. Commencing in December 2021, the Company is required to make quarterly principal payments on the Term Loan Facility in an amount equal to 0.25% of the original principal amount of $400 million. The Company made principal payments of $1 million and $3 million for the Term Loan Facility during the third quarter of 2022 and year-to-date 2022, respectively.
Interest under the Term Loan Facility is calculated by reference to the London Interbank Offered Rate (“LIBOR”) or an alternative base rate, plus an interest rate margin equal to (i) in the case of LIBOR loans, 3.25% and (ii) in the case of alternate base rate loans, 2.25%. The LIBOR rate applicable to the Term Loan Facility will be subject to a floor of 0.50%. The obligation to pay principal and interest on the loans under the Term Loan Facility is jointly and severally guaranteed on a full and unconditional basis by certain of the Company's wholly-owned domestic subsidiaries. The loans under the Term Loan Facility are secured on a first-priority lien basis by certain assets of the Company and guarantors that do not constitute priority collateral of the asset-based revolving credit facility and on a second-priority lien basis by priority collateral of the asset-based revolving credit facility, subject to customary exceptions.
On August 2, 2021, the Company also entered into a senior secured asset-based revolving credit facility. The ABL Facility allows for borrowings and letters of credit in U.S. dollars or Canadian dollars and has aggregate commitments of $750 million and an expiration date of August 2026. The availability under the ABL Facility is the lesser of (i) the borrowing base, determined primarily based on the Company's eligible U.S. and Canadian credit card receivables, eligible accounts receivable, eligible inventory and eligible real property, and (ii) the aggregate commitment. Interest on the loans under the ABL Facility is calculated by reference to (i) LIBOR or an alternative base rate and (ii) in the case of loans denominated in Canadian dollars, Canadian Dollar Offered Rate (“CDOR”) or a Canadian base rate, plus an interest rate margin based on average daily excess availability ranging from (x) in the case of LIBOR and CDOR loans, 1.50% to 2.00% and (y) in the case of alternate base rate loans and Canadian base rate loans, 0.50% to 1.00%. Unused commitments under the ABL Facility accrue an unused commitment fee ranging from 0.25% to 0.30%. The obligation to pay principal and interest on the loans under the ABL Facility is jointly and severally guaranteed on a full and unconditional basis by certain of the Company's wholly-owned domestic and Canadian subsidiaries. The loans under the ABL Facility are secured on a first-priority lien basis by the Company's eligible U.S. and Canadian credit card receivables, eligible accounts receivable, eligible inventory and eligible real property and on a second-priority lien basis on substantially all other assets of the Company, subject to customary exceptions.
During the third quarter of 2022, the Company borrowed $267 million from the ABL Facility, all of which remains outstanding as of October 29, 2022. The Company had $42 million of outstanding letters of credit as of October 29, 2022 that further reduced its availability under the ABL Facility. As of October 29, 2022, the Company's remaining availability under the ABL Facility was $441 million.
On August 2, 2021, the Company used the net cash proceeds from the credit facilities of $384 million, which were net of issuance and financing costs of $10 million for the Term Loan Facility and $6 million for the ABL Facility, to partially fund the approximately $976 million cash payment to the Former Parent in connection with the Separation. The discounts and issuance costs from the Term Loan Facility are being amortized through the maturity date and are included within Long-term Debt on the Consolidated Balance Sheets.
The Company's long-term debt and borrowing facilities contain certain financial and other covenants, including, but not limited to, the maintenance of financial ratios. The 2029 Notes and the Term Loan Facility include the maintenance of a consolidated coverage ratio and a consolidated total leverage ratio, and the ABL Facility includes the maintenance of a fixed charge coverage ratio and a debt to earnings before interest, income taxes, depreciation, amortization and rent (“EBITDAR”) ratio. The financial covenants could, within specific predefined circumstances, limit the Company's ability to incur additional indebtedness, make certain investments, pay dividends or repurchase shares. As of October 29, 2022, the Company was in compliance with all covenants under its long-term debt and borrowing facilities.
Long-term Debt due to Former Parent
During 2020, the Company borrowed $97 million from the Former Parent to pay down outstanding debt with external parties. This borrowing was due in September 2025 and had a variable interest rate based on the China Loan Prime Rate. As a result of the Separation, the Company no longer has this Long-term Debt due to Former Parent. Prior to the Separation, the Company recognized $2 million of interest expense year-to-date 2021 related to this borrowing.
11. Fair Value of Financial Instruments
Cash and Cash Equivalents include cash on hand, deposits with financial institutions and highly liquid investments with original maturities of 90 days or less. The Company's Cash and Cash Equivalents are considered Level 1 fair value measurements as they are valued using unadjusted quoted prices in active markets for identical assets.
The following table provides a summary of the principal value and estimated fair value of the Company's outstanding publicly traded debt as of October 29, 2022, January 29, 2022 and October 30, 2021:
| | | | | | | | | | | | | | | | | |
| October 29, 2022 | | January 29, 2022 | | October 30, 2021 |
| (in millions) |
Principal Value | $ | 996 | | | $ | 999 | | | $ | 1,000 | |
Fair Value, Estimated (a) | 870 | | | 975 | | | 1,003 | |
________________(a)The estimated fair value of the Company’s publicly traded debt is based on reported transaction prices which are considered Level 2 inputs in accordance with ASC 820, Fair Value Measurement. The estimates presented are not necessarily indicative of the amounts that the Company could realize in a current market exchange.
Management believes that the carrying values of accounts receivable, accounts payable and accrued expenses approximate fair value because of their short maturity. Management further believes the principal value of the outstanding debt under the ABL Facility approximates its fair value as of October 29, 2022 based on the terms of the borrowings from the ABL Facility.
12. Comprehensive Income (Loss)
The following table provides the rollforward of accumulated other comprehensive income attributable to Victoria's Secret & Co. for year-to-date 2022:
| | | | | | | | | | | | | |
| Foreign Currency Translation | | | | Accumulated Other Comprehensive Income (Loss) |
| (in millions) |
Balance as of January 29, 2022 | $ | 5 | | | | | $ | 5 | |
Other Comprehensive Income (Loss) Before Reclassifications | (8) | | | | | (8) | |
Amounts Reclassified from Accumulated Other Comprehensive Income to Paid-in Capital | 3 | | | | | 3 | |
Tax Effect | — | | | | | — | |
Current-period Other Comprehensive Loss | (5) | | | | | (5) | |
Balance as of October 29, 2022 | $ | — | | | | | $ | — | |
As a result of the China joint venture agreement completed in April 2022, the Company reclassified $3 million of accumulated foreign currency translation adjustments related to the joint venture out of Accumulated Other Comprehensive Income and into Paid-in Capital in the first quarter of 2022 in order to reflect the amount attributable to the noncontrolling interest partner. For additional information see Note 4, “Restructuring Activities.”
The following table provides the rollforward of accumulated other comprehensive income attributable to Victoria's Secret & Co. for year-to-date 2021:
| | | | | | | | | | | | | |
| Foreign Currency Translation | | | | Accumulated Other Comprehensive Income |
| (in millions) |
Balance as of January 30, 2021 | $ | 4 | | | | | $ | 4 | |
Other Comprehensive Income Before Reclassifications | 3 | | | | | 3 | |
| | | | | |
Tax Effect | — | | | | | — | |
Current-period Other Comprehensive Income | 3 | | | | | 3 | |
Balance as of October 30, 2021 | $ | 7 | | | | | $ | 7 | |
13. Retirement Benefits
The Company sponsors a tax-qualified defined contribution retirement plan for employees who meet certain age and service requirements. The qualified plan permits participating associates to elect contributions up to the maximum limits allowable under the Internal Revenue Code. The Company matches associate contributions according to a predetermined formula and contributes additional amounts based on a percentage of the associates' eligible annual compensation and years of service. Associate contributions and Company matching contributions vest immediately. Additional Company contributions and the related investment earnings are subject to vesting based on years of service. Total expense recognized related to the qualified plan was $9 million and $11 million for the third quarter of 2022 and 2021, respectively. Total expense recognized related to the qualified plan was $32 million and $31 million for year-to-date 2022 and 2021, respectively.
14. Commitments and Contingencies
The Company is subject to various claims and contingencies related to lawsuits, taxes, insurance and other matters arising out of the normal course of business. Actions filed against the Company from time to time include commercial, tort, intellectual property, customer, employment, data privacy and other claims, including purported class action lawsuits. Management believes that the ultimate liability arising from such claims and contingencies, if any, is not likely to have a material adverse effect on the Company’s results of operations, financial condition or cash flows.
Former Parent Derivative Lawsuits
As previously disclosed by the Former Parent, on May 19, 2020 and January 12, 2021, the Former Parent's shareholders filed derivative lawsuits in the Court of Common Pleas for Franklin County, Ohio (subsequently removed to the United States District Court for the Southern District of Ohio) and the Delaware Court of Chancery, respectively, naming as defendants certain current and former directors and officers of the Former Parent and alleging, among other things, breaches of fiduciary duty through asserted violations of law and failures to monitor workplace conduct (the “Lawsuits”). In addition, the Former Parent also received litigation and books-and-records demands from other shareholders related to the same matters (together with the Lawsuits, the “Actions”).
In July 2021, the Former Parent announced the global settlement resolving the Actions. The settlement resolves all derivative claims that have been or could have been asserted in the Actions or that involve in any way the allegations referred to in the Actions and releases all such claims against the Former Parent (and its subsidiaries, including the Company) and past and present employees, officers and directors, among others. As part of the settlement, the Former Parent (and its subsidiaries, including the Company) has agreed to implement certain management and governance measures, including the maintenance of a Diversity, Equity, and Inclusion Council. Following the Separation, the settlement terms apply to both the Former Parent and the Company. Each company has committed to invest $45 million over at least five years to fund the management and governance measures. The settlement was preliminarily approved on August 25, 2021, and a fairness hearing occurred on January 18, 2022. On May 16, 2022, the United States District Court of the Southern District of Ohio granted final approval of the settlement.
Occupancy-related Legal Matter
The Company was a tenant of portions of a building known as Two Herald Square, New York, New York (the “Premises”) pursuant to an Agreement of Lease dated August 22, 2001 (the “Lease”) with Herald Square Owner LLC (the “Landlord”). On February 20, 2021, the Company surrendered the Premises to the Landlord. On February 16, 2021, the Landlord filed a Motion for Partial Summary Judgment seeking treble holdover damages against the Company for the period commencing June 9, 2020 through February 20, 2021, the date on which the Company vacated and surrendered the Premises. By an order dated July 21, 2021, the court granted the Landlord’s motion and awarded it damages in an amount equal to three times the aggregate of the rents and charges payable under the Lease during the last month of the term of the Lease. On August 6, 2021, judgment was entered against the Company in the amount of $23 million. On September 15, 2021, the Landlord filed a Motion for Partial Summary Judgment seeking treble holdover damages against the Company for the period commencing February 21, 2021 through September 30, 2021. By an order dated April 22, 2022, the court granted the Landlord’s motion and awarded it damages in an amount equal to three times the aggregate amount of the rents and charges payable under the Lease during the last month of the term of the Lease. On May 9, 2022, judgment was entered against the Company in the amount of $22 million. The Company has appealed both judgments; the appeals have not yet been decided by the appellate court. As of the end of the third quarter of 2022, we remain fully accrued for both judgments.
15. Subsequent Events
On November 1, 2022, the Company announced that it had signed a definitive agreement to acquire 100% of AdoreMe, Inc. (“Adore Me”), a digitally-native intimates brand. The structured transaction includes an initial upfront $400 million cash payment (subject to adjustment as provided in the definitive agreement) and post-closing consideration of at least $80 million and up to $300 million, which consists of a fixed payment to be made on or prior to January 15, 2025 and contingent payments based on the achievement of certain strategic objectives and the achievement of certain EBITDA and net revenue goals within the two-year period following closing of the transaction. The transaction is expected to close by the end of calendar January 2023, subject to customary closing conditions and regulatory clearances. The Company plans to finance the transaction at closing with cash on hand.
SAFE HARBOR STATEMENT UNDER THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995
We caution that any forward-looking statements (as such term is defined in the U.S. Private Securities Litigation Reform Act of 1995) contained in this report or made by us, our management, or our spokespeople involve risks and uncertainties and are subject to change based on various factors, many of which are beyond our control. Accordingly, our future performance and financial results may differ materially from those expressed or implied in any such forward-looking statements. Forward-looking statements include, without limitation, statements regarding our future operating results, the implementation and impact of our strategic plans, and our ability to meet environmental, social, and governance goals. Words such as “estimate,” “commit,” “target,” “goal,” “project,” “plan,” “believe,” “seek,” “strive,” “expect,” “anticipate,” “intend,” “potential” and any similar expressions may identify forward-looking statements. Risks associated with the following factors, among others, could affect our financial performance and cause actual results to differ materially from those expressed or implied in any forward-looking statements:
• the spin-off from our Former Parent may not be tax-free for U.S. federal income tax purposes;
•we may not realize all of the expected benefits of the spin-off;
• general economic conditions, inflation, consumer confidence, consumer spending patterns and market disruptions including pandemics or significant health hazards, severe weather conditions, natural disasters, terrorist activities, financial crises, political crises or other major events, or the prospect of these events;
• the novel coronavirus (COVID-19) global pandemic has had and may continue to have an adverse effect on our business and results of operations;
• difficulties arising from turnover in company leadership or other key positions;
• our ability to attract, develop and retain qualified associates and manage labor-related costs;
• our dependence on mall traffic and the availability of suitable store locations on appropriate terms;
• our ability to successfully operate and expand internationally and related risks;
• our independent franchise, license, wholesale, and joint venture partners;
• our direct channel business;
• our ability to protect our reputation and the image of our brands;
• our ability to attract customers with marketing, advertising and promotional programs;
• the highly competitive nature of the retail industry and the segments in which we operate;
• consumer acceptance of our products and our ability to manage the life cycle of our brands, keep up with fashion trends, develop new merchandise and launch new product lines successfully;
• our ability to realize the potential benefits and synergies sought with the pending acquisition of Adore Me;
• our ability to source, distribute and sell goods and materials on a global basis, including risks related to:
• political instability, environmental hazards or natural disasters;
• significant health hazards or pandemics;
• legal and regulatory matters;
• delays or disruptions in shipping and transportation and related pricing impacts; and
• disruption due to labor disputes;
• our geographic concentration of vendor and distribution facilities in central Ohio and Southeast Asia;
• the ability of our vendors to deliver products in a timely manner, meet quality standards and comply with applicable laws and regulations;
• fluctuations in freight, product input and energy costs, including those caused by inflation;
• our and our third-party service providers’ ability to implement and maintain information technology systems and to protect associated data and system availability;
• our ability to maintain the security of customer, associate, third-party and company information;
• stock price volatility;
• shareholder activism matters;
• our ability to maintain our credit rating;
• our ability to comply with regulatory requirements; and
• legal, tax, trade and other regulatory matters.
Except as may be required by law, we assume no obligation and do not intend to make publicly available any update or other revisions to any of the forward-looking statements contained in this report to reflect circumstances existing after the date of this report, even if experience or future events make it clear that any expected results expressed or implied by those forward-looking statements will not be realized. Additional information regarding these and other factors can be found in “Item 1A. Risk Factors” in our Annual Report on Form 10-K filed with the SEC on March 18, 2022.