|Summary of Significant Accounting Policies
||Summary of Significant Accounting Policies
Use of Estimates
The preparation of financial statements in accordance with U.S. GAAP requires management to use judgment and make estimates 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. The level of uncertainty in estimates and assumptions increases with the length of time until the underlying transactions are completed. The most significant assumptions and estimates involved in preparing the financial statements include allowances for customer deductions, sales returns, sales discounts and doubtful accounts, estimates of gift card breakage, estimates of inventory recovery, the valuation of share-based compensation, valuation of deferred taxes and the valuation of and the estimated useful lives used for amortization and depreciation of intangible assets and property and equipment. Actual results could differ from those estimates.
Certain reclassifications have been made to the prior periods’ financial information in order to conform to the current period’s presentation, including the realignment of the Company’s segment reporting structure in the fourth quarter of Fiscal 2019, as further described in Note 18.
The Company experiences certain effects of seasonality with respect to its business. The Company generally experiences greater sales during its third fiscal quarter, primarily driven by holiday season sales, and the lowest sales during its first fiscal quarter.
Inventories mainly consist of finished goods with the exception of raw materials of $20 million and $25 million, respectively, recorded on the Company’s consolidated balance sheets as of December 28, 2019 and March 30, 2019.
Derivative Financial Instruments
Forward Foreign Currency Exchange Contracts
The Company uses forward currency exchange contracts to manage its exposure to fluctuations in foreign currency for certain transactions. The Company, in its normal course of business, enters into transactions with foreign suppliers and seeks to minimize risks related to these transactions. The Company employs these forward currency contracts to hedge the Company’s cash flows, as they relate to foreign currency transactions. Certain of these contracts are designated as hedges for accounting purposes, while others remain undesignated. All of the Company’s derivative instruments are recorded in the Company’s consolidated balance sheets at fair value on a gross basis, regardless of their hedge designation.
In connection with the September 24, 2018 definitive agreement to acquire all of the outstanding shares of Versace, the Company entered into forward foreign currency exchange contracts in September 2018 with notional amounts totaling €1.680 billion (approximately $2.001 billion) to mitigate its foreign currency exchange risk through the closing date of the acquisition, which were settled on December 21, 2018. These derivative contracts were not designated as accounting hedges. Therefore, changes in fair value were recorded to foreign currency (gain) loss in the Company’s consolidated statements of operations and comprehensive income. The Company’s accounting policy is to classify cash flows from derivative instruments that are accounted for as cash flow hedges in the same category as the cash flows from the items being hedged. Accordingly, the Company classified the unrealized gains and losses relating to these derivative instruments within cash flows from investing activities.
The Company designates certain contracts related to the purchase of inventory that qualify for hedge accounting as cash flow hedges. Formal hedge documentation is prepared for all derivative instruments designated as hedges, including a description of the hedged item and the hedging instrument and the risk being hedged. The changes in the fair value for contracts designated as cash flow hedges is recorded in equity as a component of accumulated other comprehensive income (loss) until the hedged item affects earnings. When the inventory related to forecasted inventory purchases that are being hedged is sold to a third party, the gains or losses deferred in accumulated other comprehensive income (loss) are recognized within cost of goods sold. The Company uses regression analysis to assess effectiveness of derivative instruments that are designated as hedges, which compares the change in the fair value of the derivative instrument to the change in the related hedged item. If the hedge is no longer expected to be highly effective, future changes in the fair value are recognized in earnings. For those contracts that are not designated as hedges, changes in the fair value are recorded to foreign currency (gain) loss in the Company’s consolidated statements of operations and comprehensive income. The Company classifies cash flows relating to its forward foreign currency exchange contracts related to purchase of inventory consistently with the classification of the hedged item, within cash flows from operating activities.
The Company is exposed to the risk that counterparties to derivative contracts will fail to meet their contractual obligations. In order to mitigate counterparty credit risk, the Company only enters into contracts with carefully selected financial institutions based upon their credit ratings and certain other financial factors, adhering to established limits for credit exposure. The aforementioned forward contracts generally have a term of no more than 12 months. The period of these contracts is directly related to the foreign transaction they are intended to hedge.
Net Investment Hedges
The Company also uses fixed-to-fixed cross currency swap agreements to hedge its net investments in foreign operations against future volatility in the exchange rates between its U.S. Dollars and these foreign currencies. The Company has elected the spot method of designating these contracts under ASU 2017-12 and has designated these contracts as net investment hedges. The net gain or (loss) on the net investment hedge is reported within foreign currency translation gains and losses (“CTA”), as a component of accumulated other comprehensive income (loss) on the Company’s consolidated balance sheets. Interest accruals and coupon payments are recognized directly in interest expense in the Company’s statement of operations and comprehensive income. Upon discontinuation of a hedge, all previously recognized amounts remain in CTA until the hedged net investment is sold, diluted, or liquidated.
Net Income per Share
The Company’s basic net income per ordinary share is calculated by dividing net income by the weighted average number of ordinary shares outstanding during the period. Diluted net income per ordinary share reflects the potential dilution that would occur if share option grants or any other potentially dilutive instruments, including restricted shares and restricted share units (“RSUs”), were exercised or converted into ordinary shares. These potentially dilutive securities are included in diluted shares to the extent they are dilutive under the treasury stock method for the applicable periods. Performance-based RSUs are included in diluted shares if the related performance conditions are considered satisfied as of the end of the reporting period and to the extent they are dilutive under the treasury stock method.
The components of the calculation of basic net income per ordinary share and diluted net income per ordinary share are as follows (in millions, except share and per share data):
| ||Three Months Ended||Nine Months Ended|
|Net income attributable to Capri||$||210 || ||$||200 || ||$||328 || ||$||524 || |
|Basic weighted average shares||150,826,196 || ||149,183,049 || ||151,159,423 || ||149,420,087 || |
|Weighted average dilutive share equivalents:|
Share options and restricted shares/units, and performance restricted share units
|1,328,176 || ||1,085,375 || ||1,195,513 || ||2,037,834 || |
|Diluted weighted average shares||152,154,372 || ||150,268,424 || ||152,354,936 || ||151,457,921 || |
Basic net income per share (1)
|$||1.39 || ||$||1.34 || ||$||2.17 || ||$||3.50 || |
Diluted net income per share (1)
|$||1.38 || ||$||1.33 || ||$||2.15 || ||$||3.46 || |
(1)Basic and diluted net income per share are calculated using unrounded numbers.
During the three and nine months ended December 28, 2019, share equivalents of 2,264,959 shares and 3,487,241 shares, respectively, have been excluded from the above calculations due to their anti-dilutive effect. Share equivalents of 2,022,564 shares and 1,117,277 shares, respectively, have been excluded from the above calculations during the three and nine months ended December 29, 2018.
See Note 2 in the Company’s Annual Report on Form 10-K for the fiscal year ended March 30, 2019 for a complete disclosure of the Company’s significant accounting policies.
Recently Adopted Accounting Pronouncements
On March 31, 2019, the Company adopted ASU 2016-02, “Leases (Topic 842),” which requires lessees to recognize a lease liability and a right-of-use asset on the balance sheet for all leases, except certain short-term leases. In evaluating the impact of ASU 2016-02, the Company considered guidance provided by several additional ASUs issued by the FASB, including ASU 2018-01, “Land Easement Practical Expedient for Transition to Topic 842” in January 2018, ASU 2018-10, “Codification Improvements to Topic 842, Leases” and ASU 2018-11, “Leases (Topic 842): Targeted Improvements,” both issued in July 2018, and ASU 2018-20, “Leases (Topic 842) - Narrow-Scope Improvements for Lessors” issued in December 2018. In connection with its implementation of ASU 2016-02, the Company adopted the package of three practical expedients, allowing it to carry forward its previous lease classification and embedded lease evaluations and not to reassess initial direct costs as of the date of adoption. The Company also adopted the practical expedient allowing it to combine lease and non-lease components for its real estate leases. Lastly, the Company adopted the practical expedient provided by ASU 2018-11, “Leases (Topic 842): Targeted Improvements,” allowing it to recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption without restating the comparative prior year periods.
The Company’s existing lease obligations, which relate to stores, corporate locations, warehouses, and equipment, are subject to the new standard and resulted in recording of lease liabilities and right-of-use assets for operating leases on the Company’s consolidated balance sheet.
The below table details the balance sheet adjustments recorded on March 31, 2019 in connection with the Company’s adoption of ASU 2016-02 (in millions):
|March 30, 2019 |
As Reported under ASC 840
|ASC 842 Adjustments||March 31, 2019 |
As Reported Under ASC 842
|Prepaid expenses and other current assets||$||221 || ||$||(23)|| |
|$||198 || |
|Operating lease right-of-use assets||— || ||1,856 || |
|1,856 || |
|Intangible assets, net||2,293 || ||(20)|| |
|2,273 || |
|Deferred tax assets||112 || ||38 || |
|150 || |
|Current portion of operating lease liabilities||— || ||386 || |
|386 || |
|Accrued expenses and other current liabilities||374 || ||(72)|| |
|302 || |
|Long-term portion of operating lease liabilities||— || ||1,828 || |
|1,828 || |
|Deferred Rent||132 || ||(132)|| |
|— || |
|Deferred tax liabilities||438 || ||(7)|| |
|431 || |
|Retained earnings||4,707 || ||(152)|| |
|4,555 || |
(1)Represents the reclassification of rent paid in advance to current operating lease liabilities.
(2)Represents the recognition of operating lease right-of-use assets, reflecting the reclassifications of deferred rent, sublease liabilities, tenant allowances and favorable and unfavorable lease rights. This balance also reflects the initial impairments of the operating lease right-of-use assets recorded through retained earnings, as described below.
(3)Represents the reclassifications of favorable and unfavorable lease rights for leases recorded in conjunction with the Company’s acquisitions to operating lease right-of-use assets.
(4)Represents the initial impairment recognized through retained earnings for certain underperforming retail store locations for which property and equipment were previously impaired, net of associated deferred taxes.
(5)Represents the recognition of current and non-current lease liabilities for fixed payments associated with the Company’s operating leases.
(6)Represents the reclassification of $54 million in sublease liabilities, primarily related to Michael Kors retail stores closed under the Retail Fleet Optimization Plan as defined in Note 10, as well as the reclassification of $18 million of deferred rent and tenant allowances to operating lease right-of-use assets.
(7)Represents the reclassification of noncurrent deferred rent and tenant improvement allowances to operating lease right-of-use assets.
See Note 4 for additional disclosures related to the Company’s lease accounting policy.
Recently Issued Accounting Pronouncements
The Company has considered all new accounting pronouncements and have concluded that there are no new pronouncements that may have a material impact on our results of operations, financial condition or cash flows based on current information.