See accompanying notes.
Under Armour, Inc. and Subsidiaries
See accompanying notes.
Under Armour, Inc. and Subsidiaries
See accompanying notes.
Under Armour, Inc. and Subsidiaries
See accompanying notes.
Under Armour, Inc. and Subsidiaries
Notes to the Unaudited Consolidated Financial Statements
1. Description of the Business
Under Armour, Inc. and its wholly owned subsidiaries (the "Company") is a developer, marketer and distributor of branded athletic performance apparel, footwear, and accessories. TheseThe Company creates products are sold worldwideengineered to solve problems and worn bymake athletes at all levels, from youth to professional on playing fields around the globe,better, as well as by consumers with active lifestyles. The Under Armour Connected FitnessTM platform powers the world's largest digital health and fitness community.apps built to connect people and drive performance. The Company uses this platform to engage its consumersCompany's products are made, sold and increase awareness and sales of its products.worn worldwide.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited consolidated financial statements include the accounts of Under Armour, Inc. and its wholly owned subsidiaries (the “Company”).the Company. Certain information in footnote disclosures normally included in annual financial statements was condensed or omitted for the interim periods presented in accordance with the rules and regulations of the Securities and Exchange Commission (the “SEC”) and accounting principles generally accepted in the United States of America ("U.S. GAAP") for interim consolidated financial statements. These consolidated financial statements are presented in U.S. Dollars. In the opinion of management, all adjustments consisting of normal, recurring adjustments considered necessary for a fair statement of the financial position and results of operations were included. Intercompany balances and transactions were eliminated.eliminated upon consolidation. The consolidated balance sheet as of December 31, 20162019 is derived from the audited financial statements included in the Company’s Annual Report on Form 10-K filed with the SEC for the year ended December 31, 20162019 (the “2016“2019 Form 10-K”), which should be read in conjunction with these unaudited consolidated financial statements. The unaudited results for the three and nine months ended September 30, 2017,2020, are not necessarily indicative of the results to be expected for the year ending December 31, 20172020, or any other portions thereof.
On June 3, 2016,March 2, 2020, the BoardCompany acquired, on a cash free, debt free basis, 100% of Directors approved the payment ofTriple Pte. Ltd. ("Triple"), a $59.0 million dividend to the holdersdistributor of the Company's Class C stockproducts in connectionSoutheast Asia. The results of operations of this acquisition have been consolidated with shareholder litigationthose of the Company beginning on March 2, 2020. Refer to Note 4 for a discussion of the acquisition.
COVID-19
In March 2020, a novel strain of coronavirus (COVID-19) was declared a global pandemic by the World Health Organization. This pandemic has negatively affected the U.S. and global economies, disrupted global supply chains and financial markets, and led to significant travel and transportation restrictions, including mandatory closures and orders to “shelter-in-place”. The Company has been focused on protecting the health and safety of its teammates, athletes and consumers, working with its customers and suppliers to minimize potential disruptions and supporting the community to address challenges posed by the global pandemic, while managing the Company's business in response to a changing dynamic. The Company's business operations and financial performance for the three and nine months ended September 30, 2020 were materially impacted by COVID-19. These impacts are discussed within these notes to the unaudited consolidated financial statements, including but not limited to discussions related to long-lived asset and goodwill impairment, leases, long term debt, and income taxes.
In response to the creationpandemic, global legislation, including the Coronavirus Aid, Relief, and Economic Security ("CARES") Act, were announced. The Company recognized certain incentives totaling $1.5 million and $6.6 million for the three and nine months ended September 30, 2020. The incentives were recorded as a reduction of the Class C stock.associated costs which the Company incurred within selling, general and administrative expenses in the unaudited consolidated statement of operations. Further, the CARES Act includes modification to income tax provisions. Refer to Note 12 for discussion of the impacts of modifications to income tax provisions under the CARES Act.
Cash, Cash Equivalents and Restricted Cash
The Company considers all highly liquid investments with an original maturity of three months or less at the date of purchase to be cash and cash equivalents. The Company's Boardrestricted cash is reserved for payments related to claims for its captive insurance program, which is included in prepaid expenses and other current assets on the Company's unaudited consolidated balance sheets. The following table provides a reconciliation of Directors approvedcash, cash equivalents and restricted cash reported within the paymentunaudited consolidated balance sheets to the unaudited consolidated statements of this dividend in the formcash flows.
| | | | | | | | | | | | | | | | | |
| (In thousands) | September 30, 2020 | | December 31, 2019 | | September 30, 2019 |
| Cash and cash equivalents | $ | 865,609 | | | $ | 788,072 | | | $ | 416,603 | |
| Restricted cash | 8,926 | | | 7,936 | | | 11,002 | |
| Total Cash, cash equivalents and restricted cash | $ | 874,535 | | | $ | 796,008 | | | $ | 427,605 | |
Concentration of Credit Risk
Financial instruments that subject the Company to significant concentration of credit risk consist primarily of accounts receivable. The majority of the Company’s accounts receivable is due from large retailers. Credit is extended based on an evaluationwholesale customers. None of each customer’s financial condition and collateral is not required. Thethe Company's largest customercustomers accounted for 13.1%, 16.0% and 20.2%more than 10% of accounts receivable as of September 30, 2017,2020 and December 31, 2016 and2019, respectively. One of the Company's customers accounted for 10% of accounts receivable as of September 30, 2016, respectively.2019. For the three and nine months ended September 30, 2017,2020 and 2019, no customer accounted for more than 10% of the Company's net revenues. Given the current global economic environment and impacts of COVID-19, the Company regularly evaluates the credit risk of the large wholesale customers which make up the majority of the Company's accounts receivable. Refer to the "Credit Losses - Allowance for Doubtful Accounts" for a discussion of the evaluation of credit losses.
Sale of Accounts Receivable
The Company has an agreement with a financial institution to sell selected accounts receivable on a recurring, non-recourse basis. Under the agreement, at any time and from time to time the balance of up to $140.0 million of the Company's accounts receivable may be sold to the financial institution. The Company's ability to utilize these agreements, however, may be limited by the credit ratings of the Company's customers. The Company removes the sold accounts receivable from the unaudited consolidated balance sheets at the time of sale. The Company does not retain any interests in the sold accounts receivable. The Company acts as the collection agent for the outstanding accounts receivable on behalf of the financial institutions.
As of September 30, 2020, December 31, 2019 and September 30, 2019, no amounts remained outstanding under these agreements. The funding fee charged by the financial institutions is included in the other income (expense), net line item in the unaudited consolidated statement of operations.
Credit Losses - Allowance for Doubtful Accounts
Credit losses are the risk of financial loss to the Company if a customer or counterparty to a financial instrument fails to meet its contractual obligations. The Company is exposed to credit losses primarily through customer receivables associated with the sales of product within the Company's wholesale and Connected Fitness channels, recorded in accounts receivable, net on the Company's unaudited consolidated balance sheet. The Company also has other receivables, including receivables from licensing arrangements, recorded in prepaid expenses and other current assets on the Company's unaudited consolidated balance sheet.
Credit is extended to customers based on a credit review. The credit review considers each customer’s financial condition, including review of the customers established credit rating or the Company's assessment of the customer’s creditworthiness based on their financial statements absent a credit rating, local industry practices, and business strategy. A credit limit and terms are established for each customer based on the outcome of this review. The Company actively monitors ongoing credit exposure through review of customer balances against terms and payments against due dates. To mitigate credit risk, the Company may require customers to provide security in the form of guarantees, letters of credit, or prepayment. The Company is also exposed to credit losses through credit card receivables associated with the sales of products within the Company's direct to consumer channel.
The allowance for doubtful accounts is based on the Company’s assessment of the collectibility of customer accounts. The Company makes ongoing estimates relating to the collectibility of accounts receivable and records an allowance for estimated losses resulting from the inability of its customers to make required payments. The Company establishes expected credit losses by evaluating historical levels of credit losses, current economic conditions that may affect a customer’s ability to pay, and creditworthiness of significant customers. These inputs are used to determine a range of expected credit losses and an allowance is recorded within the range. Accounts receivable are written off when there is no reasonable expectation of recovery.
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of
June 30, 2020 | Charged to
Costs and
Expenses | Write-Offs
Net of
Recoveries | Balance as of
September 30, 2020 |
Allowance for doubtful accounts -
accounts receivable, net | $ | 29,658 | | $ | (1,103) | | $ | (154) | | $ | 28,401 | |
Allowance for doubtful accounts -
prepaid expenses and other current assets | $ | 7,359 | | $ | 9 | | $ | 0 | | $ | 7,368 | |
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of December 31, 2019 | Charged to
Costs and
Expenses | Write-Offs
Net of
Recoveries | Balance as of
September 30, 2020 |
Allowance for doubtful accounts -
accounts receivable, net | $ | 15,083 | | $ | 13,504 | | $ | (186) | | $ | 28,401 | |
Allowance for doubtful accounts -
prepaid expenses and other current assets | $ | 0 | | $ | 7,368 | | $ | 0 | | $ | 7,368 | |
For the three months ended September 30, 2020, the decrease in the reserve is primarily due to the collection of account balances that were previously reserved for. For the nine months ended September 30, 2016,2020, the Company's largest customer accountedincrease in the reserve is primarily due to the evaluation of certain account balances in connection with negative developments that represent a higher risk of credit default. The allowance for 11.0%doubtful accounts was established with information available, including reasonable and supportable estimates of net revenues.future risk to the Company as of September 30, 2020. There may be further impacts due to COVID-19.
Allowance for Doubtful Accounts
As of September 30, 2017, December 31, 2016 and September 30, 2016,2019, the allowance for doubtful accounts wwas $16.5 million.
Revenue Recognition
The Company recognizes revenue pursuant to Accounting Standards Codification 606 ("ASC 606"). Net revenues consist of net sales of apparel, footwear and accessories, license and Connected Fitness revenue. The Company recognizes revenue when it satisfies its performance obligations by transferring control of promised products or services to its customers, which occurs either at a point in time or over time, depending on when the customer obtains the ability to direct the use of and obtain substantially all of the remaining benefits from the products or services. The amount of revenue recognized considers terms of sale that create variability in the amount of consideration that the Company ultimately expects to be entitled to in exchange for the products or services and is subject to an overall constraint that a significant revenue reversal will not occur in future periods. Sales taxes imposed on the Company’s revenues from product sales are presented on a net basis on the unaudited consolidated statements of operations, and therefore do not impact net revenues or costs of goods sold.
Revenue transactions associated with the sale of apparel, footwear, and accessories, comprise a single performance obligation, which consists of the sale of products to customers either through wholesale or direct to consumer channels. The Company satisfies the performance obligation and records revenues when transfer of control has passed to the customer, based on the terms of sale. In the Company’s wholesale channel, transfer of control is based upon shipment under free on board shipping point for most goods or upon receipt by the customer depending on the country of the sale and the agreement with the customer. The Company may also ship product directly from its supplier to wholesale customers and recognize revenue when the product is delivered to and accepted by the customer. In the Company’s direct to consumer channel, transfer of control takes place at the point of sale for brand and factory house customers and upon shipment to substantially all e-commerce customers. Payment terms for wholesale transactions are established in accordance with local and industry practices. Payment is generally required within 30 to 60 days of shipment to or receipt by the wholesale customer in the United States, and generally within 60 to 90 days of shipment to or receipt by the wholesale customer internationally. The Company has provided extensions to standard payment terms for certain customers in connection with COVID-19. Payment is generally due at the time of sale for direct to consumer transactions.
Gift cards issued to customers by the Company are recorded as $13.1contract liabilities until they are redeemed, at which point revenue is recognized. The Company also estimates and recognizes revenue for gift card balances not expected to ever be redeemed ("breakage") to the extent that it does not have a legal obligation to remit the value of such unredeemed gift cards to the relevant jurisdiction as unclaimed or abandoned property. Such estimates are based upon historical redemption trends, with breakage income recognized in proportion to the pattern of actual customer redemptions.
Revenue from the Company's licensing arrangements is recognized over time during the period that licensees are provided access to the Company's trademarks and benefit from such access through their sales of licensed products. These arrangements require licensees to pay a sales-based royalty, which for most arrangements may be subject to a contractually guaranteed minimum royalty amount. Payments are generally due quarterly. The Company recognizes revenue for sales-based royalty arrangements (including those for which the royalty exceeds any contractually guaranteed minimum royalty amount) as licensed products are sold by the licensee. If a sales-based royalty is not ultimately expected to exceed a contractually guaranteed minimum royalty amount, the minimum is recognized as revenue over the contractual period, if all other criteria of revenue recognition have been met. This sales-based output measure of progress and pattern of recognition best represents the value transferred to the licensee over the term of the arrangement, as well as the amount of consideration that the Company is entitled to receive in exchange for providing access to its trademarks.
Revenue from Connected Fitness subscriptions is recognized on a gross basis and is recognized over the term of the subscription. The Company receives payments in advance of revenue recognition for subscriptions and these payments are recorded as contract liabilities in the Company's unaudited consolidated balance sheet. Related commission cost is included in selling, general and administrative expense in the unaudited consolidated statement of operations. Revenue from Connected Fitness digital advertising is recognized as the Company satisfies performance obligations pursuant to customer insertion orders.
The Company records reductions to revenue for estimated customer returns, allowances, markdowns and discounts. The Company bases its estimates on historical rates of customer returns and allowances as well as the specific identification of outstanding returns, markdowns and allowances that have not yet been received by the Company. The actual amount of customer returns and allowances, which is inherently uncertain, may differ from the Company’s estimates. If the Company determines that actual or expected returns or allowances are significantly higher or lower than the reserves it established, it would record a reduction or increase, as appropriate, to net sales in the period in which it makes such a determination. Provisions for customer specific discounts are based on negotiated arrangements with certain major customers. Reserves for returns, allowances, markdowns and discounts are included within customer refund liability and the value of inventory associated with reserves for sales returns are included within prepaid expenses and other current assets on the unaudited consolidated balance sheet. The Company reviews and refines these estimates on at least a quarterly basis. As of September 30, 2020, December 31, 2019 and September 30, 2019, there were $197.5 million, $11.3$219.4 million and $33.6$209.8 million, respectively, in reserves for returns, allowances, markdowns and discounts within customer refund liability and $50.8 million, $61.1 million and $58.7 million, respectively, as the estimated value of inventory associated with the reserves for sales returns within prepaid expenses and other current assets on the unaudited consolidated balance sheet.
Contract Liabilities
Contract liabilities are recorded when a customer pays consideration, or the Company has a right to an amount of consideration that is unconditional, before the transfer of a good or service to the customer, and thus represent the Company's obligation to transfer the good or service to the customer at a future date. The Company's contract liabilities primarily consist of payments received in advance of revenue recognition for subscriptions for the Company's Connected Fitness applications and royalty arrangements, included in other current liabilities, and gift cards, included in accrued expenses, on the Company's unaudited consolidated balance sheets. As of September 30, 2020, December 31, 2019, and September 30, 2019, contract liabilities were $64.9 million, $60.4 million and $60.6 million, respectively.
For the three and nine months ended September 30, 2020, the Company recognized $9.9 million and $21.2 millionof revenue that was previously included in contract liabilities as of December 31, 2019. For the three and nine months ended September 30, 2019, the Company recognized $9.2 million and $22.6 million of revenue that was previously included in contract liabilities as of December 31, 2018. The change in the contract liabilities balance primarily results from the timing differences between the Company's satisfaction of performance obligations and the customer's payment. Commissions related to subscription revenue are capitalized and recognized over the subscription period.
Shipping and Handling Costs
The Company charges certain customers shipping and handling fees. These fees are recorded in net revenues. The Company includes the majority of outbound handlingincurs freight costs associated with shipping goods to customers. These costs are recorded as a component of selling, general and administrative expenses. Outboundcost of goods sold.
The Company also incurs outbound handling costs include costs associated with preparing goods to ship to customers and certain costs to operate the Company’s distribution facilities. These costs included withinare recorded as a component of selling, general and administrative expenses and were $25.5$21.2 million and $25.7$20.8 million for the three months ended September 30, 20172020 and 2016,2019, respectively, and $74.5$61.2 million and $65.1$63.0 million for the nine months ended September 30, 20172020 and 2016,2019, respectively.
Equity Method Investment
The Company includes outbound freight costshas a common stock investment of 29.5% in Dome Corporation ("Dome"), the Company's Japanese licensee. The Company accounts for its investment in Dome under the equity method, given it has the ability to exercise significant influence, but not control, over Dome.
In the first quarter of 2020, the Company performed a qualitative assessment of potential impairment indicators for its investment in Dome and determined that indicators of impairment existed due to impacts from COVID-19. The Company performed a valuation of its investment in Dome and determined that the fair value of its investment was less than its carrying value by $3.7 million. The Company determined this decline in value to be other-than-temporary considering Dome's near and long-term financial forecast. Accordingly, the Company's results for the nine months ended September 30, 2020 include the impact of recording a $3.7 million impairment of the Company's equity method investment in Dome during the first quarter, which reduced the carrying value to 0. The impairment charge was recorded within income (loss) from equity method investment on the unaudited consolidated statements of operations and as a reduction to the invested balance within other long term assets on the unaudited consolidated balance sheets. The Company calculated fair value using the discounted cash flows model, which indicates the fair value of the investment based on the present value of the cash flows that it expects the investment to generate in the future.
As of September 30, 2020, December 31, 2019 and September 30, 2019 there was 0 carrying value, $5.1 million, and $47.4 million, respectively, associated with shipping goodsthe Company’s equity investment in Dome. The Company did 0t record its allocable share of Dome's net loss for the three months ended September 30, 2020 as losses are not recognized in excess of the total investment. The Company recorded its allocable share of Dome’s net loss of $1.2 million for the three months ended September 30, 2019, and $1.4 million and $5.4 million for the nine months ended September 30, 2020 and 2019, respectively, within income (loss) from equity method investment on the unaudited consolidated statements of operations and as an adjustment to customersthe invested balance within other long term assets on the unaudited consolidated balance sheets.
In addition to the investment in Dome, the Company has a license agreement with Dome. The Company recorded license revenues from Dome of $10.9 million and $9.2 million for the three months ended September 30, 2020 and 2019, respectively, and $17.4 million and $20.9 million for the nine months ended September 30, 2020 and 2019, respectively. Of the $10.9 million of license revenues recorded for the three months ended September 30, 2020, $3.0 million was related to license revenues earned in the three months ended June 30, 2020 but collected in the third quarter, as a componentthe Company had previously deemed the collection of costthis amount not probable. As of goods sold.September 30, 2020, December 31, 2019, and September 30, 2019, the Company had $8.5 million, $15.6 million, and $9.1 million, respectively, in licensing receivables outstanding, recorded in the prepaid expenses and other current assets line item within the Company's unaudited consolidated balance sheets.
On March 2, 2020, as part of the Company's acquisition of Triple, the Company assumed 49.5% of common stock ownership in UA Sports (Thailand) Co., Ltd. (“UA Sports Thailand”). The Company accounts for its investment in UA Sports Thailand under the equity method, given it has the ability to exercise significant influence, but not control, over UA Sports Thailand. For the three and nine months ended September 30, 2020, the Company recorded the allocable share of UA Sports Thailand’s net loss of $1.2 million and $1.8 million, respectively, within income (loss) from equity method investment on the unaudited consolidated statements of operations and as an adjustment to the invested balance within other long term assets on the unaudited consolidated balance sheets. As of September 30, 2020, the carrying value of the Company’s total investment in UA Sports Thailand was $3.7 million. Refer to Note 4 for discussion of the acquisition.
Management Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of AmericaU.S. GAAP requires 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 consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Further, the three months ending September 30, 2017,full impact of COVID-19 cannot reasonably be estimated. The Company has made appropriate accounting estimates and assumptions based on the facts and circumstances available as a changeof the reporting date. The Company may experience further impacts based on long-term effects on the Company's customers and the countries in estimate,which the Company reversed $12.3 millionoperates. As a result of incentive compensation accruals relating to the first two quarters of 2017.these uncertainties, actual results could differ from those estimates and assumptions.
Recently Issued Accounting Standards
In May 2014,August 2020, the Financial Accounting Standards Board (“FASB”("FASB") issued Accounting Standards Update ("ASU") 2014-09, which supersedesASU 2020-06. The amendment in this update simplifies the most current revenue recognition requirements.accounting for convertible instruments by reducing the number of accounting models available for convertible debt instruments and convertible preferred stock. This ASUupdate also amends the guidance for the derivatives scope exception for contracts in an entity's own equity to reduce form-over-substance-based accounting conclusions and requires the application of the if-converted method for calculating diluted earnings per share. The update also requires entities to recognize revenueprovide expanded disclosures about the terms and features of convertible instruments, how the instruments have been reported in a waythe entity’s financial statements, and information about events, conditions, and circumstances that depictscan affect how to assess the transferamount or timing of goods or servicesan entity’s future cash flows related to customers in an amount that reflects the consideration which the entity expects to be entitled to in exchange for those goods or services. This ASU will beinstruments. The guidance is effective for annualinterim and interimannual periods beginning after December 15, 2017, with early adoption for annual and interim periods beginning after December 15, 2016 permitted.
2021. The Company’s initial assessment of the guidance in this ASU has identified wholesale customer support costs, direct to consumer incentive programs and customer related returns as transactions potentially affected by this guidance. While the Company has not completed its evaluation, it expects the impact of the adoption of this ASU would primarily change presentation within our consolidated financial statements but is currently not expected to have a material effect on income from operations.
The Company will adopt the guidance in this new ASU effective January 1, 2018, and plans to use the modified retrospective transition approach, which would result in an adjustment to retained earnings for the cumulative effect, if any, of applyingevaluating this guidance to determine the impact it may have on its consolidated financial statements.
In March 2020, the FASB issued ASU 2020-04, ReferenceRateReform (Topic 848): Facilitation of Effects of Reference Rate Reform on Financial Reporting. The ASU provides practical expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. The expedients and exceptions provided by the amendments in effectthis update apply only to contracts, hedging relationships, and other transactions that reference the London interbank offered rate (“LIBOR”) or another reference rate expected to be discontinued as a result of reference rate reform. This ASU is currently effective and upon adoption may be applied prospectively to contract modifications and hedging relationships made on or before December 31, 2022. The Company is currently evaluating this guidance to determine the adoption date. Under this approach, we would not restateimpact it may have on its consolidated financial statements.
Recently Adopted Accounting Standards
In December 2019, the priorFASB issued ASU 2019-12 to simplify the accounting for income taxes. The ASU impacts various topic areas within ASC 740, including accounting for taxes under hybrid tax regimes, accounting for increases in goodwill, allocation of tax amounts to separate company financial statements presented.within a group that files a consolidated tax return, intraperiod tax allocation, interim period accounting, and accounting for ownership changes in investments, among other minor codification improvements. The guidance in this ASU requires us to provide additional disclosures of the amount by which each financial statement line item is affected in the current reporting period during 2018 as compared to the guidance that was in effect before the change,becomes effective for fiscal years, and an explanation of the reasons for significant changes, if any.
In February 2016, the FASB issued ASU 2016-02, which amends the existing guidance for leases and will require recognition of operating leases with lease terms of more than twelve months and all financing leases on the balance sheet. For these leases, companies will record assets for the rights and liabilities for the obligations that are created by the leases. This ASU will require disclosures that provide qualitative and quantitative information for the lease assets and liabilities recorded in the financial statements. This ASU is effective forinterim periods within those fiscal years, beginning after December 15, 2018. The Company is currently evaluating this ASU to determine the impact of its adoption on its consolidated financial statements. The Company currently anticipates adopting the new standard effective January 1, 2019.2020 and may be early adopted. The Company has formed a committee and initiated the review process forelected to early adopt this standard as of January 1, 2020. The adoption of this ASU. While the Company is still in the process of completing its analysis on the complete impact this ASU will have on its consolidated financial statements and related disclosures, it expects the ASU todid not have a material impact on itsthe unaudited consolidated balance sheetfinancial statements or disclosures in 2020. The aspect of this ASU which may have the most significant impact to the Company in future periods is the removal of a limit on the tax benefit recognized on pre-tax losses in interim periods that exceeds the anticipated tax benefit for recognition of lease-related assets and liabilities.the full year.
In August 2017, the FASB issued ASU 2017-12, which simplifies the application of hedge accounting and more closely aligns hedge accounting with companies' risk management strategies, thereby making more hedging strategies eligible for hedge accounting. This ASU will be effective for fiscal years beginning after December 15, 2018, with early adoption permitted. The Company is currently assessing the impact this ASU will have on its financial statements and related disclosures.
Recently Adopted Accounting Standards
In MarchJune 2016, the FASB issued ASU 2016-09,2016-13 - Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments. This ASU amended the impairment model to utilize an expected loss methodology in place of the previously used incurred loss methodology, which affects all entities that issue share-based payment awards to their employees. The amendmentsresults in this ASU cover such areas as themore timely recognition of excess tax benefits and deficiencies, the classification of those excess tax benefits on the statement of cash flows, an accounting policy election for forfeitures and the classification of those taxes paid on the statement of cash flows.losses. The new standard applies to financial assets measured at amortized cost basis, including receivables that result from revenue transactions. The Company adopted the provisions of this ASU on January 1, 2017 on a prospective basis2020 and recorded an excess tax deficiency of $1.3 million as an increase in income tax expense relatedthere was no material impact to share-based compensation for vested awards. Additionally, the Company made a policy election under the provisions of this ASU to account for forfeitures when they occur rather than estimating the number of awards that are expected to vest. As a result of this election, the Company recorded a $1.9 million cumulative-effect benefit to retained earningsunaudited consolidated financial statements as of the date of adoption. The Company adopted the provisionsResults for reporting periods as of this ASU related to changes on the Consolidated Statement of Cash Flows on a retrospective basis.
Excess tax benefits and deficiencies have been classified within cash flows from operating activities and employee taxes paid for shares withheld for income taxes have been classified within cash flows from financing activities on the Consolidated Statement of Cash Flows. This resulted in an increase of $44.4 million to the cash flows from operating activities section and a decrease of $13.7 million to the cash flows from financing activities section of the Consolidated Statement of Cash Flows for the nine months ended September 30, 2016.
In October 2016, the FASB issued ASU 2016-16, which requires an entity to recognize the income tax consequences of an intra-entity transfer of an asset, other than inventory, when the transfer occurs. The Company adopted the provisions of this ASU on a modified retrospective basis on January 1, 2017, resulting in a cumulative-effect benefit2020 are presented under the new standard, while prior results continue to retained earnings of $26.0 million as ofbe reported under the date of adoption.previous standard.
In January 2017, the FASB issued ASU 2017-04, which simplifies how an entity is required to test goodwill for impairment by eliminating step two of the test. The Company adopted the provisions of this ASU on July 1, 2017, and recorded an impairment charge of $28.6 million during its interim goodwill impairment test for the Connected Fitness reporting unit.
3. Restructuring and Related Impairment Charges
A descriptionOn March 31, 2020, the Company's Board of significantDirectors approved the previously announced restructuring plan ("2020 Restructuring") designed to rebalance the Company’s cost base to further improve profitability and related impairment charges is included below:
Restructuring
On July 27, 2017,cash flow generation. The Company identified further opportunities and on September 2, 2020, the Company’s Board of Directors approved a $75 million increase to the restructuring plan, (the “restructuring plan”)resulting in an updated 2020 restructuring plan of approximately $550 million to more closely align its financial resources with the critical priorities$600 million of the business. The Company’s original expectation was to incurtotal estimated pre-tax restructuring and related chargescharges.
The restructuring and related charges primarily consist of approximately $140.0up to $150.0approximately:
•$224 million for the year ending December 31, 2017.of cash restructuring charges, comprised of up to: $63 million in facility and lease termination costs, $30 million in employee severance and benefit costs, and $131 million in contract termination and other restructuring costs; and
Impairment
As a part•$376 million of the restructuring plan, the Company abandoned the usenon-cash charges comprised of several assets included within Property and Equipment, resulting in an impairment charge of $14.4$291 million reducingrelated to the carrying valueCompany’s New York City flagship store and $85 million of these assets to their estimated fair values. Fair value was estimated using an income-approach based on Management’s forecast of future cash flows expected to be derived from the assets' use.
Additionally, in connection with the restructuring plan, strategic decisions were made during the third quarter in 2017 to abandon the use of certain intangible assets in the Company's Connected Fitness reporting unit. These intangible assets included technologyintangibles and brand names, resulting in total intangibleother asset impairment charges of $12.1 million, reducing the carrying value of these assets to their estimated fair values. Fair value was estimated using an income-approach based on management’s forecast of future cash flows expected to be derived from the assets use. In addition, the Company also made the strategic decision to not pursue certain other planned future revenue streams in connection with the restructuring plan.related impairments.
The Company determined sufficient indication existed to trigger the performancerecorded $70.2 million and $410.3 million of an interim goodwillrestructuring and related impairment for Company’s Connected Fitness reporting unit. Using updated cash flow projections, the Company calculated the fair value of the Connected Fitness reporting unit based on the discounted cash flows model. The carrying value exceeded the fair value, resulting in an impairment of goodwill. As the excess of the carrying valuecharges for the Connected Fitness reporting unit was greater than the goodwill for this reporting unit, all $28.6 million of goodwill was impaired.
three and nine months ended September 30, 2020, respectively. The summary of the costs incurredrecorded during the three and nine months ended September 30, 2017,2020, as well as the Company’sCompany's current estimates of the amount expected to be incurred duringin connection with the remainder of 2017, are2020 restructuring plan is as follows:
|
| | | | | | | | | | | | | | | | |
| | Restructuring and Impairment Charges incurred | Estimated Restructuring and Impairment Charges to be Incurred |
| | Three Months Ended September 30, | | Nine Months Ended September 30, | | Three Months Ended December 31, | | Total | |
| (In thousands) | 2017 | | 2017 | | 2017 (2) | | 2017 (2) | |
| Costs recorded in cost of goods sold: | | | | | | | | |
| Inventory write-offs (1) | $ | 3,597 |
| | $ | 3,597 |
| | $ | — |
| | $ | 3,597 |
| |
| Total costs recorded in cost of goods sold | 3,597 |
| | 3,597 |
| | — |
| | 3,597 |
| |
| | | | | | | | | |
| Costs recorded in restructuring and impairment charges: | | | | | | | | |
| Goodwill impairment | 28,647 |
| | 28,647 |
| | — |
| | 28,647 |
| |
| Property and equipment impairment | 14,415 |
| | 14,415 |
| | — |
| | 14,415 |
| |
| Employee related costs | 11,657 |
| | 12,159 |
| | 3,000 |
| | 15,159 |
| |
| Intangible asset impairment | 12,054 |
| | 12,054 |
| | — |
| | 12,054 |
| |
| Other restructuring related costs | 12,603 |
| | 15,200 |
| | 23,000 |
| | 38,200 |
| |
| Contract exit costs | 5,622 |
| | 5,622 |
| | 31,000 |
| | 36,622 |
| |
| Total costs recorded in restructuring and impairment charges | 84,998 |
| | 88,097 |
| | 57,000 |
| | 145,097 |
| |
| Total restructuring, impairment and restructuring related costs | $ | 88,595 |
| | $ | 91,694 |
| | $ | 57,000 |
| | $ | 148,694 |
| |
| | | | | | | | | | | | | | | | | | | | | | | |
| Restructuring and Related Impairment Charges Recorded | | Estimated Restructuring and Related Impairment Charges |
| (In thousands) | Three months ended September 30, 2020 | | Nine months ended September 30, 2020 (A) | | Remaining to be Incurred (B) | | Total to be Incurred (1)
(A+B) |
| Costs recorded in cost of goods sold: | | | | | | | |
| Contract-based royalties | $ | 0 | | $ | 0 | | $ | 11,000 | | $ | 11,000 |
| Inventory write-offs | 0 | | 0 | | 2,000 | | 2,000 |
| Total costs recorded in cost of goods sold | 0 | | 0 | | 13,000 | | 13,000 |
| | | | | | | |
| Costs recorded in restructuring and related impairment charges: | | | | | | | |
| Property and equipment impairment | 3,307 | | | 26,211 | | | 17,789 | | | 44,000 | |
| Intangible asset impairment | 0 | | | 0 | | | 4,000 | | | 4,000 | |
| ROU asset impairment | 0 | | | 290,813 | | | 4,187 | | | 295,000 | |
| Employee related costs | 26,410 | | | 27,239 | | | 2,761 | | | 30,000 | |
| Contract exit costs (2) | 38,520 | | | 53,462 | | | 124,538 | | | 178,000 | |
| Other restructuring costs | 1,995 | | | 12,533 | | | 23,467 | | | 36,000 | |
| Total costs recorded in restructuring and related impairment charges | 70,232 | | | 410,258 | | | 176,742 | | | 587,000 | |
| Total restructuring and related impairment and restructuring related costs | $ | 70,232 | | | $ | 410,258 | | | $ | 189,742 | | | $ | 600,000 | |
(1) This table includes an additional non-cash charge of $3.6 million for the three and nine months ended September 30, 2017 associated with the reduction of inventory outside of current liquidation channels in line with the restructuring plan.
(2) Estimated restructuring and related impairment charges to be incurred reflect the high-end of the range of the estimated remaining charges expected to be taken by the Company during 2017 in connection with the restructuring plan. The Company currently anticipates that most of the total restructuring and related charges will occur by the end of fiscal 2020.
(2) Contract exit costs are primarily comprised of proposed lease exits of certain brand and factory house stores and office facilities, and proposed marketing and other contract exits.
All restructuring and related impairment charges are included in the Company's Corporate Other non-operating segment, of which $39.1 million are North America related, $11.5 million are EMEA related, $6.1 million are Latin America related, $3.6 million are Asia-Pacific related and $0.1 million are Connected Fitness related for the three months ended September 30, 2020 and $367.4 million are North America related, $11.6 million are EMEA related, $6.4 million are Latin America related, $3.6 million are Asia-Pacific related and $0.1 million are Connected Fitness related for the nine months ended September 30, 2020.
The lease term for the Company's New York City flagship store commenced on March 1, 2020 and an operating lease ROU asset and corresponding operating lease liability of $344.8 million was recorded on the Company's unaudited consolidated balance sheet. In March 2020, as a part of the 2020 Restructuring, the Company made the strategic decision to forgo the opening of its New York City flagship store and the property is actively being marketed for sublease. Accordingly, in the first quarter of 2020, the Company recognized a ROU asset impairment of $290.8 million, reducing the carrying value of the lease asset to its estimated fair value. Fair value was estimated using an income-approach based on management's forecast of future cash flows expected to be derived from the property based on current sublease market rent. Rent expense or sublease income related to
this lease will be recorded within other income (expense) on the unaudited consolidated statements of operations. There were 0 related ROU asset impairment charges for the three months ended September 30, 2020.
These charges require the Company to make certain judgements and estimates regarding the amount and timing of restructuring and related impairment charges or recoveries. The estimated liability could change subsequent to its recognition, requiring adjustments to the expense and the liability recorded. On a quarterly basis, the Company conducts an evaluation of the related liabilities and expenses and revises its assumptions and estimates as appropriate as new or updated information becomes available.
A summary of the activity in the restructuring reserve related to the Company's 2020 restructuring plan, as well as prior restructuring plans in 2018 and 2017 are as follows:
| | | | | | | | | | | | | | | | | |
| (In thousands) | Employee Related Costs | | Contract Exit Costs | | Other Restructuring Related Costs |
| Balance at January 1, 2020 | $ | 462 | | | $ | 17,843 | | | $ | 0 | |
| Additions charged to expense | 26,930 | | | 42,391 | | | 11,843 | |
| Cash payments charged against reserve | (4,279) | | | (14,618) | | | (3,699) | |
| Changes in reserve estimate | (462) | | | 42 | | | 0 | |
| Balance at September 30, 2020 | $ | 22,651 | | | $ | 45,658 | | | $ | 8,144 | |
4. Acquisition
On March 2, 2020, the Company acquired, on a cash free, debt free basis, 100% of Triple Pte. Ltd. ("Triple"), a distributor of the Company's products in Southeast Asia. The purchase price for the acquisition was $32.9 million in cash, net of $8.9 million of cash acquired that was held by Triple at closing and settlement of $5.1 million in pre-existing trade receivables due from Triple prior to the acquisition. The results of operations of this acquisition have been consolidated with those of the Company beginning on March 2, 2020.
There were 0 acquisition related costs expensed during the three months ended September 30, 2020. The Company recognized $1.0 million in acquisition related costs that were expensed during the nine months ended September 30, 2020. These costs are included in selling, general and administrative expenses within the unaudited consolidated statement of operations. Pro forma results are not presented, as the acquisition was not considered material to the consolidated Company.
5. Long-Lived Asset and Goodwill Impairment
Long-Lived Asset Impairment
As a result of the impacts of COVID-19, the Company determined that sufficient indicators existed to trigger the performance of an interim long-lived asset impairment analysis as of March 31, 2020. In the first quarter of 2020, the Company performed undiscounted cash flow analyses on it's long-lived assets, including retail stores at an individual store level. Based on these undiscounted cash flow analyses, the Company determined that certain long-lived assets had net carrying values that exceeded their estimated undiscounted future cash flows. The Company estimated the fair values of these long-lived assets based on their discounted cash flows or market rent assessments. The Company compared these estimated fair values to the net carrying values. Additionally, the Company recognized long-lived asset impairment charges of $4.0 million for the three months ended September 30, 2020, included within the North America operating segment. The Company recognized $87.8 million of long-lived asset impairment charges for the nine months ended September 30, 2020. The long-lived impairment charge was recorded within restructuring and impairment charges on the unaudited consolidated statements of operations and as a reduction to the related asset balances on the unaudited consolidated balance sheets. The long-lived asset impairment charges are included within the Company's operating segments as follows: $47.4 million recorded in North America, $25.5 million recorded in Asia-Pacific, $12.8 million recorded in Latin America, and $2.1 million recorded in EMEA for the nine months ended September 30, 2020.
The significant estimates used in the fair value methodology, which are based on Level 3 inputs, include: the Company's expectations for future operations and projected cash flows, including net revenue, gross profit and operating expenses and market conditions, including estimated market rent.
Additionally, the Company recognized $290.8 million of long-lived asset impairment charges related to the Company's New York City flagship store, which was recorded in connection with the Company's 2020 Restructuring Plan for the nine months ended September 30, 2020. Refer to Note 3 for further discussion of the restructuring and related impairment charges.
Goodwill Impairment
As a result of the impacts of COVID-19, the Company determined that sufficient indicators existed to trigger an interim goodwill impairment analysis for all of the Company’s reporting units as of March 31, 2020. In the first quarter of 2020, the Company performed discounted cash flow analyses and determined that the estimated fair values of the Latin America reporting unit and the Canada reporting unit, within the North America operating segment, no longer exceeded its carrying value, resulting in an impairment of goodwill. The Company recognized goodwill impairment charges of $51.6 million for the nine months ended September 30, 2020 for these reporting units. The goodwill impairment charge was recorded within restructuring and impairment charges on the unaudited consolidated statements of operations and as a reduction to the goodwill balance on the unaudited consolidated balance sheets. There were 0 triggering events or goodwill impairment charges recorded for the three months ended September 30, 2020.
The determination of the Company’s reporting units' fair value includes assumptions that are subject to various risks and uncertainties. The significant estimates used in the discounted cash flow analyses, which are based on Level 3 inputs, include: the Company’s weighted average cost of capital, adjusted for the risk attributable to the geographic regions of the reporting unit's business, long-term rate of growth and profitability of the reporting unit's business, working capital effects, and changes in market conditions, consumer trends or strategy.
As of March 31, 2020, the fair value of each of the Company's other reporting units substantially exceeded its carrying value with the exception of the EMEA reporting unit. The fair value of the EMEA reporting unit exceeded its carrying value by 16%. Holding all other assumptions used in the fair value measurement of the EMEA reporting unit constant, a reduction in the growth rate of revenue by 1.5 percentage points or a reduction in the growth rate of net income by 2.3 percentage points would eliminate the headroom. No events occurred during the three and nine months ended September 30, 2020 that indicated it was more likely than not that goodwill was impaired for this reporting unit.
The following table summarizes changes in the carrying amount of the Company’s goodwill by reportable segment as of the periods indicated:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| (In thousands) | | North America | | EMEA | | Asia-Pacific | | Latin America | | Connected Fitness | | Total |
| Balance as of December 31, 2019 | | 318,288 | | | 106,066 | | | 79,168 | | | 46,656 | | | 0 | | | 550,178 | |
| Effect of currency translation adjustment | | (1,572) | | | 1,076 | | | 5,950 | | | (10,426) | | | 0 | | | (4,972) | |
| Impairment | | (15,345) | | | 0 | | | 0 | | | (36,230) | | | | | (51,575) | |
| Balance as of September 30, 2020 | | $ | 301,371 | | | $ | 107,142 | | | $ | 85,118 | | | $ | 0 | | | $ | 0 | | | $ | 493,631 | |
6. Leases
The Company enters into operating leases both domestically and internationally, to lease certain warehouse space, office facilities, space for its brand and factory house stores and certain equipment under non-cancelable operating leases. The leases expire at various dates through 2035, excluding extensions at the Company's option, and include provisions for rental adjustments.
The Company accounts for a contract as a lease when it has the right to direct the use of the asset for a period of time while obtaining substantially all of the asset’s economic benefits. The Company determines the initial classification and measurement of its right-of-use ("ROU") assets and lease liabilities at the lease commencement date and thereafter if modified. ROU assets represent the Company’s right to control the underlying assets under lease, over the contractual term. ROU assets and lease liabilities are recognized on the unaudited consolidated balance sheets based on the present value of future minimum lease payments to be made over the lease term. ROU assets and lease liabilities are established on the unaudited consolidated balance sheets for leases with an expected term greater than one year. Short-term lease payments were not material for the quarter ended September 30, 2020.
As the rate implicit in a lease is not readily determinable, the Company uses its secured incremental borrowing rate to determine the present value of the lease payments. The Company calculates the incremental borrowing rate based on the current market yield curve and adjusts for foreign currency for international leases.
Fixed lease costs are included in the recognition of ROU assets and lease liabilities. Variable lease costs are not included in the measurement of the lease liability. These variable lease payments are recognized in the unaudited consolidated statements of operations in the period in which the obligation for those payments is incurred. Variable lease payments primarily consist of payments dependent on sales in brand and factory house stores. The Company has elected to combine lease and non-lease components in the determination of lease costs for its leases. The lease liability includes lease payments related to options to extend or renew the lease term only if the Company is reasonably certain to exercise those options.
The Company recognizes lease expense on a straight-line basis over the lease term. Included in selling, general and administrative expenses were operating lease costs of $36.9 million and $37.6 million for the three months ended September 30, 2020 and 2019, respectively, and $108.6 million and $113.4 million for the nine months ended September 30, 2020 and 2019, respectively, under non-cancelable operating lease agreements. The operating lease costs include $2.9 million and $3.4 million in variable lease payments, for the three months ended September 30, 2020 and 2019, respectively, and $5.4 million and $8.8 million for the nine months ended September 30, 2020 and 2019, respectively.
As a result of the impacts of COVID-19, the Company sought concessions from landlords for certain leases of brand and factory house stores in the form of rent deferrals or rent waivers. Consistent with updated guidance from the FASB in April 2020, the Company elected to account for the accounting policy of treating these concessions as though the enforceable rights and obligations to the deferrals existed in the respective contracts at lease inception and will not account for the concessions as lease modifications, unless the concession results in a substantial change in the Company's obligations. The Company's rent deferrals had no impact to rent expense during the three and nine months ended September 30, 2020 and amounts deferred and payable in future periods have been included in short term lease liability on the Company's unaudited consolidated balance sheet as of September 30, 2020. The Company's rent waivers, which were recorded as a reduction of rent expense, were not material for the three and nine months ended September 30, 2020.
There are no residual value guarantees that exist, and there are no restrictions or covenants imposed by leases. The Company rents or subleases excess office facilities and warehouse space to third parties. Sublease income is not material.
Supplemental balance sheet information related to leases was as follows:
| | | | | | | | | | | |
| Three months ended September 30, 2020 | | Three months ended September 30, 2019 |
| Weighted average remaining lease term (in years) | 9.24 | | 6.96 |
| Weighted average discount rate | 3.82 | | 4.29 |
Supplemental cash flow and other information related to leases was as follows:
| | | | | | | | | | | | | | |
| Three months ended September 30, | Nine months ended September 30, |
| (In thousands) | 2020 | 2019 | 2020 | 2019 |
| Cash paid for amounts included in the measurement of lease liabilities | | | | |
| Operating cash outflows from operating leases | $ | 37,810 | | $ | 32,331 | | $ | 113,784 | | $ | 83,183 | |
| Leased assets obtained in exchange for new operating lease liabilities | $ | 11,018 | | $ | 17,732 | | $ | 393,850 | | $ | 47,832 | |
Maturities of lease liabilities are as follows:
| | | | | |
| (In thousands) | |
| 2020 | $ | 51,619 | |
| 2021 | 184,576 | |
| 2022 | 161,460 | |
| 2023 | 143,281 | |
| 2024 | 124,598 | |
| 2025 and thereafter | 564,996 | |
| Total lease payments | $ | 1,230,530 | |
| Less: Interest | 200,854 | |
| Total present value of lease liabilities (1) | $ | 1,029,676 | |
(1) Amounts above reflect lease liabilities associated with the Company's New York City flagship store lease, which commenced on March 1, 2020. Refer to Note 3 for discussion of the impairment of the associated ROU lease asset.
As of September 30, 2020, the Company has additional operating lease obligations that have not yet commenced of approximately $12.8 million which are not reflected in the table above.
7. Long Term Debt
Credit Facility
TheIn May 2020, the Company is partyentered into an amendment to athe amended and restated credit agreement, thatdated as of March 8, 2019, by and among the Company, as borrower, JPMorgan Chase Bank, N.A., as administrative agent, and the other lenders and arrangers party thereto (the "prior credit agreement", as amended, the "amended credit agreement” or "the revolving credit facility"). As described below, the amended credit agreement provides the Company with certain relief from and revisions to its financial covenants for specified periods, which the Company expects will provide it with sufficient access to liquidity during the ongoing disruption related to the COVID-19 pandemic.
The amended credit agreement has a term of five years, maturing in March 2024, with permitted extensions under certain circumstances, and provides revolving credit commitments forof up to $1.1 billion of borrowings, a reduction from the $1.25 billion of commitments under the prior credit agreement. During the three months ended September 30, 2020, the Company repaid $250 million of borrowings under the revolving credit facility, which the Company had borrowed as well as term loan commitments,a precautionary measure in each case maturingorder to increase its cash position and preserve liquidity given the ongoing uncertainty in January 2021.global markets resulting from the COVID-19 pandemic. As of September 30, 2017,2020, December 31, 2019 and September 30, 2019, there was $270.0 millionwere 0 amounts outstanding under the revolving credit facility and $167.5 million of term loan borrowings outstanding.facility.
AtExcept during the covenant suspension period (as defined below), at the Company's request and the lender's consent, revolving and or term loan borrowingscommitments under the amended credit agreement may be increased by up to $300.0 million in aggregate, subject to certain conditions as set forth in the amended credit agreement, as amended.agreement. Incremental borrowings are uncommitted and the availability thereof will depend on market conditions at the time the Company seeks to incur such borrowings.
The borrowingsBorrowings under the revolving credit facility have maturities of less than one year. Up to $50.0 million of the facility may be used for the issuance of letters of credit. There were $4.6$15.5 million, $5.0 million and $5.1 million of letters of credit outstanding as of September 30, 2017.2020, December 31, 2019 and September 30, 2019, respectively.
The obligations of the Company under the amended credit agreement, which under the prior credit agreement were unsecured and not guaranteed by subsidiaries, are guaranteed by certain domestic significant subsidiaries of the Company, subject to customary exceptions (the “subsidiary guarantors”) and primarily secured by a first-priority security interest in substantially all of the assets of the Company and the subsidiary guarantors, excluding real property, capital stock in and debt of subsidiaries of the Company holding certain real property and other customary exceptions.
As with the prior credit agreement, the amended credit agreement contains negative covenants that subject to significant exceptions, limit the Company's ability to engage in certain transactions. The negative covenant governing the incurrence of
indebtedness of the Company and its subsidiaries affords $50.0 million of additional capacity for secured debt, while the capacity to among other things, incur $100.0 million of additional indebtedness,unsecured debt remains unchanged from the prior credit agreement. The Company’s future investments in and loans to non-guarantor subsidiaries are subject to additional limitations under the amended credit agreement, as is the ability of the Company to sell assets outside the ordinary course of business. The amended credit agreement further provides for a temporary suspension of the Company’s ability to make certain voluntary restricted payments pledge their assets as security, make investments, loans, advances, guaranteesduring the covenant suspension period.
The amended credit agreement also contains financial covenants that require the Company to comply with specific consolidated leverage and acquisitions, undergo fundamental changes and enter into transactions with affiliates. Theinterest coverage ratios during specified periods. Under the prior credit agreement, the Company is alsowas required to maintain a ratio of consolidated EBITDA as defined in the credit agreement, to consolidated interest expense of not less than 3.50 to 1.001.0 (the “interest coverage covenant”) and iswas not permitted to allow the ratio of consolidated total indebtedness to consolidated EBITDA to be greater than 3.25 to 1.00 ("consolidated leverage ratio"1.0 (the “leverage covenant”). The method of calculating these ratios is set forth, as described in more detail in the Company'sprior credit agreement. The amended credit agreement provides for suspensions of and differs from how rating agenciesadjustments to the leverage covenant (including definitional changes impacting the calculation of the ratio) and the interest coverage covenant beginning with the quarter ended June 30, 2020, and ending on the date on which financial statements for the quarter ended June 30, 2022 are delivered to lenders under the amended credit agreement (the “covenant suspension period”) as summarized below and described in more detail in the amended credit agreement:
•For the fiscal quarter ended June 30, 2020, the interest coverage covenant was suspended and the leverage covenant required that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or other companies may calculate similar measures. equal to 4.5 to 1.0.
•For the fiscal quarters ending September 30, 2020, December 31, 2020, March 31, 2021 and June 30, 2021, compliance with the interest coverage covenant and the leverage covenant are both suspended. Beginning on September 30, 2020 through and including December 31, 2021, the Company must instead maintain minimum liquidity of $550.0 million (the “liquidity covenant”) (with liquidity being the sum of certain cash and cash equivalents held by the Company and its subsidiaries and available borrowing capacity under the amended credit agreement).
•For the fiscal quarter ending September 30, 2021, the interest coverage covenant is suspended, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 4.5 to 1.0 and the Company must comply with the liquidity covenant.
•For the fiscal quarter ending December 31, 2021, the interest coverage covenant is suspended, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 4.0 to 1.0 and the Company must comply with the liquidity covenant.
•Beginning on January 1, 2022, the liquidity covenant is terminated. For the fiscal quarter ending March 31, 2022, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 3.5 to 1.0 and the interest coverage covenant will require that the ratio of consolidated EBITDA to consolidated interest expense be greater than or equal to 3.5 to 1.0.
As of September 30, 2017,2020, the Company was in compliance with these ratios. the applicable covenants.
In addition, the amended credit agreement contains events of default that are customary for a facility of this nature and similar to the prior credit agreement, and includes a cross default provision whereby an event of default under other material indebtedness, as defined in the amended credit agreement, will be considered an event of default under the amended credit agreement.
BorrowingsDuring the covenant suspension period, the applicable margin for loans will be 2.00% for adjusted LIBOR loans and 1.00% for alternate base rate loans. Otherwise, borrowings under the credit agreement bear interest at a rate per annum equal to, at the Company’s option, either (a) an alternate base rate, or (b) a rate based on the rates applicable for deposits in the interbank market for U.S. Dollars or the applicable currency in which the loans are made (“adjusted LIBOR”), plus in each case an applicable margin. The applicable margin for loans will be adjusted by reference to a grid (the “Pricing Grid”“pricing grid”) based on the consolidated leverage ratio and ranges between 1.00%1.25% to 1.25%1.75% for adjusted LIBOR loans and 0.00%0.25% to 0.25%0.75% for alternate base rate loans. The weighted average interest ratesrate under the outstanding term loans and revolving credit facility borrowings were 2.4% and 2.2%was 2.1% during the three months ended September 30, 2020, and 2.3% and 3.6% for the nine months ended September 30, 2017,2020 and 2019, respectively. TheDuring the covenant suspension period, the commitment fee rate will be 0.40% per annum. Otherwise, the Company pays a commitment fee determined in accordance with the pricing grid on the average daily unused amount of the revolving credit facility and certain fees with respect to letters of credit. As of September 30, 2017,2020, the commitment fee was 15.0 basis points. Since inception, theThe Company incurred and deferred $3.9$7.2 million in financing costs in connection with the amended credit agreement.
1.50% Convertible Senior Notes
In May 2020, the Company issued $500.0 million aggregate principal amount of 1.50% convertible senior notes due 2024 (the “Convertible Senior Notes”). The Convertible Senior Notes bear interest at the rate of 1.50% per annum, payable semiannually in arrears on June 1 and December 1 of each year, beginning December 1, 2020. The Convertible Senior Notes will mature on June 1, 2024, unless earlier converted in accordance with their terms, redeemed in accordance with their terms or repurchased.
The net proceeds from the offering (including the net proceeds from the exercise of the over-allotment option) was $488.8 million, after deducting the initial purchasers’ discount and estimated offering expenses paid by the Company, of which the Company used $47.9 million to pay the cost of the capped call transactions described below. The Company utilized $439.9 million to repay indebtedness outstanding under its revolving credit facility and pay related fees and expenses.
The Convertible Senior Notes are not secured and are not guaranteed by any of the Company’s subsidiaries. The indenture governing the Convertible Senior Notes does not contain any financial or operating covenants or restrictions on the payments of dividends, the incurrence of indebtedness or the issuance or repurchase of securities by the Company or any of its subsidiaries.
The Convertible Senior Notes are convertible into cash, shares of the Company’s Class C common stock or a combination of cash and shares of Class C common stock, at the Company’s election as described further below. The initial conversion rate is 101.8589 shares of the Company’s Class C common stock per $1,000 principal amount of Convertible Senior Notes (equivalent to an initial conversion price of approximately $9.82 per share of Class C common stock), subject to adjustment if certain events occur. Prior to the close of business on the business day immediately preceding January 1, 2024, the Convertible Senior Notes will be convertible only upon satisfaction of one or more of the following conditions:
•during any calendar quarter commencing after the calendar quarter ending on September 30, 2020 (and only during such calendar quarter), if the last reported sale price of the Company’s Class C common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day;
•during the five business day period after any five consecutive trading day period (the “measurement period”) in which the trading price per $1,000 principal amount of Convertible Senior Notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of the Company’s Class C common stock and the conversion rate on each such trading day;
•upon the occurrence of specified corporate events or distributions on the Company’s Class C common stock; or
•if the Company calls any Convertible Senior Notes for redemption prior to the close of business on the business day immediately preceding January 1, 2024.
On or after January 1, 2024 until the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert all or any portion of their Convertible Senior Notes at the conversion rate at any time irrespective of the foregoing conditions.
On or after December 6, 2022, the Company may redeem for cash all or any part of the Convertible Senior Notes, at its option, if the last reported sale price of the Company’s Class C 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 (including the last trading day of such period) ending on, and including, the trading day immediately preceding the date on which the Company provides notice of redemption at a redemption price equal to 100% of the aggregate principal amount of the Convertible Senior Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date.
If the Company undergoes a fundamental change (as defined in the indenture governing the Convertible Senior Notes) prior to the maturity date, subject to certain conditions, holders may require the Company to repurchase for cash all or any portion of their Convertible Senior Notes in principal amounts of $1,000 or an integral multiple thereof at a price which will be equal to 100% of the aggregate principal amount of the Convertible Senior Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date.
Concurrently with the offering of the Convertible Senior Notes, the Company entered into privately negotiated capped call transactions with JPMorgan Chase Bank, National Association, HSBC Bank USA, National Association and Citibank, N.A. (the “option counterparties”). The capped call transactions are expected generally to
reduce potential dilution to the Company’s Class C common stock upon any conversion of Convertible Senior Notes and/or offset any cash payments the Company is required to make in excess of the aggregate principal amount of converted Convertible Senior Notes upon any conversion thereof, as the case may be, with such reduction and/or offset subject to a cap based on the cap price. The cap price of the capped call transactions is initially $13.4750 per share of the Company’s Class C common stock, representing a premium of 75% above the last reported sale price of the Company’s Class C common stock on May 21, 2020, and is subject to certain adjustments under the terms of the capped call transactions.
The Convertible Senior Notes contain a cash conversion feature, and as a result, the Company has separated it into liability and equity components. The Company valued the liability component based on its borrowing rate for a similar debt instrument that does not contain a conversion feature. The equity component, which is recognized as a debt discount, was valued as the difference between the face value of the Convertible Senior Notes and the fair value of the liability component.
In connection with the Convertible Senior Notes issuance, the Company incurred deferred financing costs of $12.3 million, primarily related to fees paid to the initial purchasers of the offering, as well as legal and accounting fees. These costs were allocated on a pro rata basis, with $10.1 million allocated to the debt component and $2.2 million allocated to the equity component.
The debt discount and the debt portion of the deferred financing costs are being amortized to interest expense over the term of the Convertible Senior Notes using an effective interest rate of 6.8%.
The Convertible Senior Notes consist of the following components:
| | | | | | | | |
| (In thousands) | September 30, 2020 | September 30, 2019 |
| Liability component | | |
| Principal | $ | 500,000 | | $ | 0 | |
| Unamortized debt discount | (84,127) | | 0 | |
| Unamortized issuance costs | (9,123) | | 0 | |
| Net carrying amount | $ | 406,750 | | $ | 0 | |
| | |
| Equity component, net of issuance costs | $ | 88,672 | | $ | 0 | |
Interest expense related to the Convertible Senior Notes consists of the following as of the periods indicated:
| | | | | | | | | | | | | | |
| Three months ended September 30, | Nine months ended September 30, |
| (In thousands) | 2020 | 2019 | 2020 | 2019 |
| Coupon interest | $ | 1,875 | | $ | 0 | | $ | 2,500 | | $ | 0 | |
| Non-cash amortization of debt discount | 5,040 | | 0 | | 6,720 | | 0 | |
| Amortization of deferred financing costs | 622 | | 0 | | 829 | | 0 | |
| Convertible senior notes interest expense | $7,537 | $0 | $10,049 | $0 |
In connection with the issuance of the Convertible Senior Notes, the Company recorded an $11.0 million net deferred tax liability and a corresponding reduction in valuation allowance. As a result, there was no net impact to the Company’s deferred income taxes or additional paid in capital on the unaudited consolidated balance sheet.
3.250% Senior Notes
In June 2016, the Company issued $600.0 million aggregate principal amount of 3.250% senior unsecured notes due June 15, 2026 (the “Notes”“Senior Notes”). The proceeds were used to pay down amounts outstanding under the revolving credit facility. Interest is payable semi-annually on June 15 and December 15 beginning December 15, 2016. Prior to March 15, 2026 (three months prior to the maturity date of the Notes), theThe Company may redeem some or all of the Senior Notes at any time, or from time to time, at a redemption price equal to the greater of 100% of the principal amount of the Notes to be redeemed or a “make-whole” amount applicable to such Notes asprices described in the indenture governing the Notes, plus accrued and unpaid interest to, but excluding, the redemption date. On or after March 15, 2026 (three months prior to the maturity date of the Notes), the Company may redeem some or all of the Notes at any time or from time to time at a redemption price equal to 100% of the principal amount of the Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date.
Senior Notes. The indenture governing the Senior Notes contains negative covenants including limitations that restrict the Company’s ability and the ability of certain of its subsidiaries to create or incur secured indebtedness and enter into sale and leaseback transactions andlimit the Company’s ability to consolidate, merge or transfer all or substantially all of its properties or assets to another person,engage in each casecertain transactions and are subject to material exceptions described in the indenture. The Company has incurred and deferred $5.3 million in financing costs in connection with the Senior Notes.
In December 2012, the Company entered into a $50.0 million recourse loan collateralized by the land, buildings and tenant improvements comprising the Company's corporate headquarters. The loan has a seven year term and maturity date of December 2019. The loan bears interest at one month LIBOR plus a margin of 1.50%, and allows for prepayment without penalty. The loan includes covenants and events of default substantially consistent with the Company's credit agreement discussed above. The loan also requires prior approval of the lender for certain matters related to the property, including transfers of any interest in the property. As of September 30, 2017, December 31, 2016 and September 30, 2016, the outstanding balance on the loan was $40.5 million, $42.0 million and $42.5 million, respectively. The weighted average interest rate on the loan was 2.7% and 2.5% for the three and nine months ended September 30, 2017, respectively.Interest Expense
Interest expense, net, was $9.6$15.0 million and $8.2$5.7 million for the three months ended September 30, 20172020 and 2016,2019, respectively, and $25.2$32.3 million and $18.5$15.9 million for the nine months ended September 30, 2017,2020 and 2016, respectively.2019, respectively, inclusive of amounts related to the Senior Convertible Notes, as detailed above. Interest expense includes the amortization of deferred financing costs, bank fees, capital and built-to-suit lease interest and interest expense under the credit and other long term debt facilities.
The Company monitors the financial health and stability of its lenders under the credit and other long term debt facilities, however during any period of significant instability in the credit markets, lenders could be negatively impacted in their ability to perform under these facilities.
5.8. Commitments and Contingencies
There were no significant changes to the contractual obligations reported in the 2016 Form 10-K other than those which occur in the normal course of business.
In connection with various contracts and agreements, the Company has agreed to indemnify counterparties against certain third party claims relating to the infringement of intellectual property rights and other items. Generally, such indemnification obligations do not apply in situations in which the counterparties are grossly negligent, engage in willful misconduct, or act in bad faith. Based on the Company’s historical experience and the estimated probability
of future loss, the Company has determined that the fair value of such indemnifications is not material to its consolidated financial position or results of operations.
From time to time, the Company is involved in litigation and other proceedings, including matters related to commercial and intellectual property disputes, as well as trade, regulatory and other claims related to its business. Other than as described below, the Company believes that all current proceedings are routine in nature and incidental to the conduct of its business, and that the ultimate resolution of any such proceedings will not have a material adverse effect on its consolidated financial position, results of operations or cash flows.
In re Under Armour Securities Litigation
On March 23, 2017, three 3 separate securities cases previously filed against the Company in the United States District Court for the District of Maryland (the “District Court”) were consolidated under the caption In re Under Armour Securities Litigation,, Case No. 17-cv-00388-RDB (the “Consolidated Securities Action”). On August 4, 2017, the lead plaintiff in the Consolidated Securities Action, Aberdeen City Council as Administrating Authority for the North East Scotland Pension Fund (“NESFP”Aberdeen”), joined by named plaintiff Bucks County Employees Retirement Fund (“Bucks County”), filed a consolidated amended complaint (the “Amended Complaint”) against the Company, the Company’s Chiefthen-Chief Executive Officer, Kevin Plank, and former Chief Financial Officers Lawrence Molloy and Brad Dickerson. The Amended Complaint allegesalleged violations of Section 10(b) (and Rule 10b-5) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and Section 20(a) control person liability under the Exchange Act against the officers named in the Amended Complaint, claiming that the defendants made material misstatements and omissions regarding, among other things, the Company's growth and consumer demand for certain of the Company's products. The class period identified in the Amended Complaint is September 16, 2015 through January 30, 2017.
A new plaintiff, Bucks County Employees Retirement Fund (“Bucks County”), joined NESFP in filing the The Amended Complaint. In addition to joining the claims noted above, Bucks CountyComplaint also assertsasserted claims under Sections 11 and 15 of the Securities Act of 1933, as amended (the “Securities Act”), in connection with the Company’s public offering of senior unsecured notes in June 2016. The Securities Act claims arewere asserted against the Company, the Company’s Chief Executive Officer,Mr. Plank, Mr. Molloy, the Company’s directors who signed the registration statement pursuant to which the offering was made and the underwriters that participated in the offering. Bucks County allegesThe Amended Complaint alleged that the offering materials utilized in connection with the offering contained false and/or misleading statements and omissions regarding, among other things, the Company’s growth and consumer demand for certain of the Company’s products.
On November 9, 2017, the Company and the other defendants filed motions to dismiss the Amended Complaint. On September 19, 2018, the District Court dismissed the Securities Act claims with prejudice and the Exchange Act claims without prejudice. Lead plaintiff Aberdeen, joined by named plaintiff Monroe County Employees’ Retirement Fund (“Monroe”), filed a Second Amended Complaint on November 16, 2018, asserting claims under the Exchange Act and naming the Company and Mr. Plank as the remaining defendants. The remaining defendants filed a motion to dismiss the Second Amended Complaint on January 17, 2019. On August 19, 2019, the District Court dismissed the Second Amended Complaint with prejudice.
In September 2019, plaintiffs Aberdeen and Bucks County filed an appeal in the United States Court of Appeals for the Fourth Circuit challenging the decisions by the District Court on September 19, 2018 and August 19, 2019 (the “Appeal”). The Appeal was fully briefed as of January 16, 2020.
On November 6 and December 17, 2019, two purported shareholders of the Company filed putative securities class actions in the District Court against the Company and certain of its current and former executives (captioned Patel v. Under Armour, Inc., No. 1:19-cv-03209-RDB (“Patel”), and Waronker v. Under Armour, Inc., No. 1:19-cv-03581-RDB (“Waronker”), respectively). The complaints in Patel and Waronker alleged violations of Section 10(b) (and Rule 10b-5) of the Exchange Act, against all defendants, and Section 20(a) control person liability under the Exchange Act against the current and former officers named in the complaints. The complaints claimed that the
defendants’ disclosures and statements supposedly misrepresented or omitted that the Company was purportedly shifting sales between quarterly periods allegedly to appear healthier and that the Company was under investigation by and cooperating with the United States Department of Justice (“DOJ”) and the United States Securities and Exchange Commission (“SEC”) since July 2017.
On November 18, 2019, Aberdeen, the lead plaintiff in the Consolidated Securities Action, filed in the District Court a motion for an indicative ruling under Federal Rule of Civil Procedure 62.1 (the “Rule 62.1 Motion”) seeking relief from the final judgment pursuant to Federal Rule of Civil Procedure 60(b). The Rule 62.1 Motion alleged that purported newly discovered evidence entitled Aberdeen to relief from the District Court’s final judgment. Aberdeen also filed motions seeking (i) to consolidate the Patel and Waronker cases with the Consolidated Securities Action, and (ii) to be appointed lead plaintiff over the consolidated cases.
On January 22, 2020, the District Court granted Aberdeen’s Rule 62.1 motion and indicated that it would grant a motion for relief from the final judgment and provide Aberdeen with the opportunity to file a third amended complaint if the Fourth Circuit remanded for that purpose. The District Court further stated that it would, upon remand, consolidate the Patel and Waronker cases with the Consolidated Securities Action and appoint Aberdeen as the lead plaintiff over the consolidated cases.
On August 13, 2020, the Fourth Circuit remanded the Appeal to the District Court for the limited purpose of allowing the District Court to rule on Aberdeen’s motion seeking relief from the final judgment pursuant to Federal Rule of Civil Procedure 60(b). On September 14, 2020, the District Court issued an order granting that relief. The District Court’s order also consolidated the Patel and Waronker cases into the Consolidated Securities Action and appointed Aberdeen as lead plaintiff over the Consolidated Securities Action.
On October 14, 2020, Aberdeen, along with named plaintiffs Monroe and KBC Asset Management NV, filed a third amended complaint (the “TAC”) in the Consolidated Securities Action, asserting claims under Sections 10(b) and 20(a) of the Exchange Act against the Company and Mr. Plank and under Section 20A of the Exchange Act against Mr. Plank. The TAC alleges that the defendants supposedly concealed purportedly declining consumer demand for certain of the Company's products between the third quarter of 2015 and the fourth quarter of 2016 by making allegedly false and misleading statements regarding the Company’s performance and future prospects and by engaging in undisclosed and allegedly improper sales and accounting practices, including shifting sales between quarterly periods allegedly to appear healthier. The TAC also alleges that the defendants purportedly failed to disclose that the Company was under investigation by and cooperating with DOJ and the SEC since July 2017. The class period identified in the TAC is September 16, 2015 through November 1, 2019.
The Company believescontinues to believe that the claims asserted in the Consolidated Securities Action are without merit and intends to defend the lawsuit vigorously. However, because of the inherent uncertainty as to the outcome of this proceeding, the Company is unable at this time to estimate the possible impact of this matter.
2018 Derivative Complaints
In June and July 2018, 3 purported stockholder derivative complaints were filed. NaN of the complaints were filed in Maryland state court (in cases captioned Kenney v. Plank, et al. (filed June 29, 2018) and Luger v. Plank, et al. (filed July 26, 2018), respectively), and those cases were consolidated on October 19, 2018 under the caption Kenney v. Plank, et. al. The other complaint was filed in the United States District Court for the District of Maryland (in a case captioned Andersen v. Plank et al. (filed July 23, 2018)). The operative complaints in these cases name Mr. Plank, certain other current and former members of the Company’s Board of Directors and certain former Company executives as defendants, and name the Company as a nominal defendant. The operative complaints include allegations similar to those in the Amended Complaint in the Consolidated Securities Action matter discussed above, challenging, among other things, the Company’s disclosures related to growth and consumer demand for certain of the Company’s products and stock sales by certain individual defendants. The operative complaints in each of these cases assert breach of fiduciary duty and unjust enrichment claims against the individual defendants. These complaints seek damages on behalf of the Company and certain corporate governance related actions.
The operative complaint in the Kenney matter also makes allegations related to the Company’s purchase of certain parcels of land from entities controlled by Mr. Plank (through Sagamore Development Company, LLC (“Sagamore”)). Sagamore purchased the parcels in 2014. Its total investment in the parcels was approximately $72.0 million, which included the initial $35.0 million purchase price for the property, an additional $30.6 million to terminate a lease encumbering the property and approximately $6.4 million of development costs. As previously disclosed, in June 2016, the Company purchased the unencumbered parcels for $70.3 million in order to further expand the Company’s corporate headquarters to accommodate its growth needs. The Company negotiated a
purchase price for the parcels that it determined represented the fair market value of the parcels and approximated the cost to the seller to purchase and develop the parcels. In connection with its evaluation of the potential purchase, the Company engaged an independent third-party to appraise the fair market value of the parcels, and the Audit Committee of the Company’s Board of Directors engaged its own independent appraisal firm to assess the parcels. The Audit Committee determined that the terms of the purchase were reasonable and fair, and the transaction was approved by the Audit Committee in accordance with the Company’s policy on transactions with related persons. The operative complaint asserts breach of fiduciary duty and corporate waste claims against the individual defendants in connection with the Company’s purchase of these parcels and a claim against Sagamore for supposedly aiding and abetting those alleged breaches.
The Andersen action was stayed from December 2018 to August 2019 and again from September 2019 to September 2020 (the “2019 Stay Order”). Pursuant to a court ordered stipulation issued in October 2020, the parties in the Andersen action have agreed to present to the court a schedule for further proceedings in the action on or before November 20, 2020 and that the terms of the 2019 Stay Order shall remain in effect through and including November 20, 2020.
On March 29, 2019, the court in the consolidated Kenney action granted the Company’s and the defendants’ motion to stay that case pending the outcome of both the Consolidated Securities Action and an earlier-filed derivative action asserting similar claims relating to the Company’s purchase of parcels in Port Covington (which action has since been dismissed in its entirety).The court ordered stay in the consolidated Kenney action remains in effect at this time.
Prior to the filing of the derivative complaints in Kenney v. Plank, et al., Luger v. Plank, et al., and Andersen v. Plank et al., each of the purported stockholders had sent the Company’s Board of Directors a letter demanding that the Company pursue claims similar to the claims asserted in the derivative complaints. Following an investigation, a majority of disinterested and independent directors of the Company determined that the claims should not be pursued by the Company and informed each of these purported stockholders of that determination.
The Company believes that the claims asserted in the derivative complaints are without merit and intends to defend these matters vigorously. However, because of the inherent uncertainty as to the outcome of these proceedings, the Company is unable at this time to estimate the possible impact of the outcome of these matters.
2020 Derivative Complaints
Between August 11, 2020 and October 21, 2020, five purported shareholder derivative complaints were filed. Three complaints were filed in Maryland state court (in cases captioned Cordell v. Plank, et al. (filed August 11, 2020), Klein v. Plank, et al. (filed October 2, 2020), and Salo v. Plank, et al. (filed October 21, 2020), respectively). The other two complaints were filed in the United States District Court for the District of Maryland (in cases captioned Olin v. Plank, et al. (filed September 1, 2020), and Smith v. Plank, et al. (filed September 8, 2020), respectively). The complaints in these cases name Mr. Plank, certain other current and former members of the Company’s Board of Directors, and certain current and former Company executives as defendants, and name the Company as a nominal defendant.
The complaints in these actions assert allegations similar to those in the TAC filed in the Consolidated Securities Action matter discussed above, including allegations challenging (i) the Company’s disclosures related to growth and consumer demand for certain of the Company’s products; (ii) the Company’s practice of shifting sales between quarterly periods supposedly to appear healthier and its purported failure to disclose that practice; (iii) the Company’s internal controls with respect to revenue recognition and inventory management; (iv) the Company’s supposed failure to timely disclose investigations by the SEC and DOJ; (v) the compensation paid to the Company’s directors and executives while the alleged wrongdoing was occurring; and/or (vi) stock sales by certain individual defendants. The complaints assert breach of fiduciary duty, gross mismanagement, unjust enrichment, and/or corporate waste claims against the individual defendants. These complaints seek damages on behalf of the Company and certain corporate governance related actions.
Prior to the filing of the derivative complaints in these five actions, none of the purported stockholders made a demand that the Company’s Board of Directors pursue the claims asserted in the complaints.
The Company believes that the claims asserted in these derivative complaints are without merit and intends to defend these matters vigorously. However, because of the inherent uncertainty as to the outcome of these proceedings, the Company is unable at this time to estimate the possible impact of the outcome of these matters.
Wells Notices
In addition to the Company’s material pending legal proceedings, as previously disclosed, in July 2020, the Company, as well as Kevin Plank and David Bergman (together, the “Executives”), received “Wells Notices” from the SEC relating to the Company’s disclosures covering the third quarter of 2015 through the period ending December 31, 2016, regarding the use of “pull forward” sales in connection with revenue during those quarters. The Wells Notices informed the Company that the SEC Staff has made a preliminary determination to recommend that the SEC file an enforcement action against the Company and each of the Executives that would allege certain violations of the Securities Act of 1933, as amended (the “Securities Act”), and the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and certain rules promulgated thereunder. The Wells Notices delivered to the Executives also reference potential charges related to the Executives’ participation in the Company’s violations, as well as control person liability under the Exchange Act.
The potential relief to be sought referenced in the Wells Notices included an injunction, a cease-and-desist order, disgorgement, prejudgment interest, and civil monetary penalties, as well as, in the case of the Executives, a bar from serving as an officer or director of a public company. A Wells Notice is neither a formal charge of wrongdoing nor a final determination that the recipient has violated any law, and to date no legal proceedings have been brought against the Company or the Executives with respect to this matter. The Company and the Executives maintain that their actions were appropriate and are pursuing the Wells Notice process, and also are engaging in a dialogue with the SEC Staff to work toward a resolution of this matter.
6.In 2018, an unauthorized third party acquired data associated with the Company's Connected Fitness users' accounts for the Company's MyFitnessPal application and website. The Company has faced consumer class action lawsuits associated with this incident and has received inquiries regarding the incident from certain government regulators and agencies. The Company does not currently consider these matters to be material and believes its insurance coverage will provide coverage should any significant expense arise.
9. Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). The fair value accounting guidance outlines a valuation framework, creates a fair value hierarchy in order to increase the consistency and comparability of fair value measurements and the related disclosures, and prioritizes the inputs used in measuring fair value as follows:
|
| | | | |
| Level 1: | Observable inputs such as quoted prices in active markets; |
| |
| Level 2: | Inputs, other than quoted prices in active markets, that are observable either directly or indirectly; and |
| |
| Level 3: | Unobservable inputs for which there is little or no market data, which require the reporting entity to develop its own assumptions. |
Financial assets and (liabilities) measured at fair value on a recurring basis are set forth in the table below:
| | | | | September 30, 2017 | | December 31, 2016 | | September 30, 2016 | | September 30, 2020 | | December 31, 2019 | | September 30, 2019 |
| (In thousands) | | Level 1 | | Level 2 | | Level 3 | | Level 1 | | Level 2 | | Level 3 | | Level 1 | | Level 2 | | Level 3 | (In thousands) | | Level 1 | | Level 2 | | Level 3 | | Level 1 | | Level 2 | | Level 3 | | Level 1 | | Level 2 | | Level 3 |
| Derivative foreign currency contracts (see Note 8) | |
|
| | (7,754 | ) | |
|
| | — |
| | 15,238 |
| | — |
| | — |
| | 1,577 |
| | — |
| |
| Interest rate swap contracts (see Note 8) | | — |
| | 156 |
| | — |
| | — |
| | (420 | ) | | — |
| | — |
| | 3,953 |
| | — |
| |
| Derivative foreign currency contracts (see Note 11) | | Derivative foreign currency contracts (see Note 11) | | $ | 0 | | | $ | (203) | | | $ | 0 | | | $ | 0 | | | $ | (7,151) | | | $ | 0 | | | $ | 0 | | | $ | 18,695 | | | $ | 0 | |
| TOLI policies held by the Rabbi Trust | | — |
| | 5,539 |
| | — |
| | — |
| | 4,880 |
| | — |
| | — |
| | 4,819 |
| | — |
| TOLI policies held by the Rabbi Trust | | 0 | | | 7,229 | | | 0 | | | 0 | | | 6,543 | | | 0 | | | 0 | | | 6,139 | | | 0 | |
| Deferred Compensation Plan obligations | | — |
| | (9,301 | ) | | — |
| | — |
| | (7,023 | ) | | — |
| | — |
| | (6,486 | ) | | — |
| Deferred Compensation Plan obligations | | 0 | | | (13,113) | | | 0 | | | 0 | | | (10,839) | | | 0 | | | 0 | | | (10,269) | | | 0 | |
Fair values of the financial assets and liabilities listed above are determined using inputs that use as their basis readily observable market data that are actively quoted and are validated through external sources, including third-party pricing services and brokers. The foreign currency contracts represent unrealized gains and losses on derivative contracts, which is the net difference between the U.S. dollar value to be received or paid at the contracts’
settlement date and the U.S. dollar value of the foreign currency to be sold or purchased at the current market exchange rate. The interest rate swap contracts represent gains and losses on the derivative contracts, which is the net difference between the fixed interest to be paid and variable interest to be received over the term of the contract based on current market rates. The fair value of the trust owned life insurance (“TOLI”) policies held by the Rabbi Trust isare based on the cash-surrender value of the life insurance policies, which are invested primarily in mutual funds and a separately managed fixed income fund. These investments are initially made in the same funds and purchased in substantially the same amounts as the selected investments of participants in the Under Armour, Inc. Deferred Compensation Plan (the “Deferred Compensation Plan”), which represent the underlying liabilities to participants in the Deferred Compensation Plan. Liabilities under the Deferred Compensation Plan are recorded at amounts due to participants, based on the fair value of participants’ selected investments.
As of September 30, 2017,2020, the fair value of the Company's Convertible Senior Noteswas $624.8 million. As of September 30, 2020, December 31, 2019, and September 30, 2019, the fair value of the Company's Senior Notes was $557.3$566.6 million, $587.5 million and as of September 30, 2016, the carrying value approximated the fair value.$579.7 million, respectively. The carrying value of the Company's other long term debt approximated its fair value as of September 30, 20172020, December 31, 2019 and 2016.September 30, 2019. The fair value of long-termlong term debt is estimated based upon quoted prices for similar instruments or quoted prices for identical instruments in inactive markets (Level 2).
Some assets are not measured at fair value on an ongoing basis but are subject to fair value adjustments only in certain circumstances. These assets can include long-lived assets and goodwill that hashave been reduced to fair value when impaired (see Note 3).impaired. Assets that are written down to fair value when impaired are not subsequently adjusted to fair value unless further impairment occurs.
7. Performance10. Stock Based Compensation
Performance-Based Equity Compensation
The Company grants a combination of time-based and performance-based restricted stock units and stock options as part of its incentive compensation. Certain senior executives are eligible to receive performance-based awards. DuringThe Company did not grant any performance-based restricted stock units or stock options during the three and nine months ended September 30, 2017, 1.8 million performance-based restricted stock units and 0.5 million performance-based stock options for shares of our Class C common stock were awarded under the Company's Second Amended and Restated 2005 Omnibus Long-Term Incentive Plan, as amended. The performance-based restricted stock units and options have weighted average grant date fair values of $19.05 and $8.17, respectively, and have vesting conditions tied to the achievement of certain combined revenue and operating income targets for 2017 and 2018. Upon the achievement of the targets, one half of the restricted stock units and options will vest each in February2020. During 2019, and February 2020.
If certain lower levels of combined annual revenue and operating income for 2017 and 2018 are achieved, fewer or no restricted stock units or options will vest and the remaining restricted stock units and options will be forfeited. The Company deemed the achievement of certain revenue and operating income targets for 2017 and 2018 probable during the nine months ended September 30, 2017. The Company assesses the probability of the achievement of the remaining revenue and operating income targets at the end of each reporting period. If it becomes probable that any remaining performance targets related to these performance-based restricted stock units and options will be achieved, a cumulative adjustment will be recorded as if ratable stock-based compensation expense had been recorded since the grant date. Additional stock based compensation of up to $4.2 million would have been recorded during the nine months ended September 30, 2017, for these performance-based restricted stock units and options had the achievement of the remaining revenue and operating income targets been deemed probable.
During 2016, the Company granted performance-based restricted stock units andor stock options with vesting conditions tied to the achievement of certain combined annualrevenue and operating income targets for 20162019 and 2017.2020. As of March 31, 2020, the Company deemed the achievement of these revenue and operating income targets improbable, accordingly, a reversal of $2.9 million of expense was recorded for the performance-based restricted stock units and stock options. NaN expense for these awards was recorded during the three months ended September 30, 2020.
11. Risk Management and Derivatives
The Company is exposed to global market risks, including the effects of changes in foreign currency and interest rates. The Company uses derivative instruments to manage financial exposures that occur in the normal course of business and does not hold or issue derivatives for trading or speculative purposes.
The Company may elect to designate certain derivatives as hedging instruments under U.S. GAAP. The Company formally documents all relationships between designated hedging instruments and hedged items, as well as its risk management objectives and strategies for undertaking hedge transactions. This process includes linking all derivatives designated as hedges to forecasted cash flows and assessing, both at inception and on an ongoing basis, the effectiveness of the hedging relationships.
The Company's foreign exchange risk management program consists of designated cash flow hedges and undesignated hedges. As of September 30, 2017,2020, the Company deemshas hedge instruments, primarily for U.S Dollar/Chinese Renminbi, British Pound/U.S. Dollar, Euro/U.S. Dollar, U.S. Dollar/Canadian Dollar, Australian Dollar/U.S. Dollar, and U.S. Dollar/Mexican Peso currency pairs. All derivatives are recognized on the achievementunaudited consolidated balance sheets at fair value and classified based on the instrument’s maturity date.
The following table presents the fair values of derivative instruments within the unaudited consolidated balance sheets. Refer to Note 9 for a discussion of the fair value measurements.
| | | | | | | | | | | | | | | | | | | | | | | | |
| (In thousands) | Balance Sheet Classification | September 30, 2020 | | December 31, 2019 | | September 30, 2019 | | |
| Derivatives designated as hedging instruments under ASC 815 | | | | | | | | |
| Foreign currency contracts | Other current assets | $ | 5,659 | | | $ | 4,040 | | | $ | 18,866 | | | | | |
| Foreign currency contracts | Other long term assets | 0 | | | 24 | | | 1,220 | | | | | |
| Total derivative assets designated as hedging instruments | $ | 5,659 | | | $ | 4,064 | | | $ | 20,086 | | | | | |
| | | | | | | | | | |
| Foreign currency contracts | Other current liabilities | $ | 4,942 | | | $ | 8,772 | | | $ | 1,260 | | | | | |
| Foreign currency contracts | Other long term liabilities | 0 | | | $ | 2,443 | | | $ | 0 | | | | | |
| Total derivative liabilities designated as hedging instruments | $ | 4,942 | | | $ | 11,215 | | | $ | 1,260 | | | | | |
| | | | | | | | | | |
| Derivatives not designated as hedging instruments under ASC 815 | | | | | | | | |
| Foreign currency contracts | Other current assets | $ | 5,373 | | | $ | 2,337 | | | $ | 1,393 | | | | | |
| Total derivative assets not designated as hedging instruments | $ | 5,373 | | | $ | 2,337 | | | $ | 1,393 | | | | | |
| | | | | | | | | | |
| Foreign currency contracts | Other current liabilities | $ | 1,714 | | | $ | 9,510 | | | $ | 2,794 | | | | | |
| Total derivative liabilities not designated as hedging instruments | $ | 1,714 | | | $ | 9,510 | | | $ | 2,794 | | | | | |
The following table presents the amounts in the unaudited consolidated statements of operations in which the effects of cash flow hedges are recorded and the effects of cash flow hedge activity on these operatingline items.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three months ended September 30, | | Nine months ended September 30, |
| 2020 | | 2019 | | 2020 | | 2019 |
| (In thousands) | Total | Amount of Gain (Loss) on Cash Flow Hedge Activity | | Total | Amount of Gain (Loss) on Cash Flow Hedge Activity | | Total | Amount of Gain (Loss) on Cash Flow Hedge Activity | | Total | Amount of Gain (Loss) on Cash Flow Hedge Activity |
| Net revenues | $ | 1,433,021 | | $218 | | $ | 1,429,456 | | $ | 6,125 | | | $ | 3,070,901 | | $3,495 | | $3,825,907 | $ | 14,337 | |
| Cost of goods sold | 746,701 | | 4,496 | | | 739,558 | | 1,317 | | | 1,604,428 | | 7,179 | | | 2,036,901 | | 3,525 | |
| Interest expense, net | (14,955) | | (9) | | | (5,655) | | (9) | | | (32,251) | | (27) | | | (15,881) | | 1,607 | |
| Other expense, net | (7,184) | | 4 | | | (429) | | 44 | | | (10,493) | | 25 | | | (2,224) | | 836 | |
The following tables present the amounts affecting the unaudited statements of comprehensive income targets improbable. As such, no expense for(loss).
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of
June 30, 2020 | Amount of gain (loss) recognized in other comprehensive income (loss) on derivatives | Amount of gain (loss) reclassified from other comprehensive income (loss) into income | Balance as of September 30, 2020 |
| Derivatives designated as cash flow hedges | | | |
| Foreign currency contracts | 26,200 | | (18,432) | | 4,701 | | 3,066 | |
| Interest rate swaps | (559) | | 0 | | (9) | | (550) | |
| Total designated as cash flow hedges | $ | 25,641 | | $ | (18,432) | | $ | 4,692 | | $ | 2,516 | |
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of
December 31, 2019 | Amount of gain (loss) recognized in other comprehensive income (loss) on derivatives | Amount of gain (loss) reclassified from other comprehensive income (loss) into income | Balance as of September 30, 2020 |
| Derivatives designated as cash flow hedges | | | |
| Foreign currency contracts | (6,005) | | 19,727 | | 10,655 | | 3,066 | |
| Interest rate swaps | (577) | | 0 | | (27) | | (550) | |
| Total designated as cash flow hedges | $ | (6,582) | | $ | 19,727 | | $ | 10,628 | | $ | 2,516 | |
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of
June 30, 2019 | Amount of gain (loss) recognized in other comprehensive income (loss) on derivatives | Amount of gain (loss) reclassified from other comprehensive income (loss) into income | Balance as of
September 30, 2019 |
| Derivatives designated as cash flow hedges | | | |
| Foreign currency contracts | 11,595 | | 17,378 | | 7,495 | | 21,478 | |
| Interest rate swaps | (595) | | 0 | | (9) | | (586) | |
| Total designated as cash flow hedges | $ | 11,000 | | $ | 17,378 | | $ | 7,486 | | $ | 20,892 | |
| | | | | | | | | | | | | | |
| (In thousands) | Balance as of
December 31, 2018 | Amount of gain (loss) recognized in other comprehensive income (loss) on derivatives | Amount of gain (loss) reclassified from other comprehensive income (loss) into income | Balance as of
September 30, 2019 |
| Derivatives designated as cash flow hedges | | | |
| Foreign currency contracts | 21,908 | | 18,277 | | 18,707 | | 21,478 | |
| Interest rate swaps | 954 | | 67 | | 1,607 | | (586) | |
| Total designated as cash flow hedges | $ | 22,862 | | $ | 18,344 | | $ | 20,314 | | $ | 20,892 | |
The following table presents the amounts in the unaudited consolidated statements of operations in which the effects of undesignated derivative instruments are recorded and the effects of fair value hedge activity on these awards has been recorded during the three and nine months ended September 30, 2017.line items.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three months ended September 30, | | Nine months ended September 30, |
| 2020 | | 2019 | | 2020 | | 2019 |
| (In thousands) | Total | Amount of Gain (Loss) on Fair Value Hedge Activity | | Total | Amount of Gain (Loss) on Fair Value Hedge Activity | | Total | Amount of Gain (Loss) on Fair Value Hedge Activity | | Total | Amount of Gain (Loss) on Fair Value Hedge Activity |
| Other expense, net | $ | (7,184) | | $ | (962) | | | $ | (429) | | $ | (474) | | | $ | (10,493) | | $ | 1,022 | | | $ | (2,224) | | $ | (2,629) | |
8. Risk Management and DerivativesCash Flow Hedges
Foreign Currency Risk Management
The Company is exposed to gains and losses resulting from fluctuations in foreign currency exchange rates relating to transactions generated by its international subsidiaries in currencies other than their local currencies. These gains and losses are primarily driven by intercompany transactions andnon-functional currency generated revenue, non-functional currency inventory purchases, investments in U.S. Dollar denominated in currenciesavailable-for-sale debt securities, and certain other than the functional currency of the purchasing entity. From time to time, theintercompany transactions. The Company may elect to enterenters into
foreign currency contracts to reduce the risk associated with the foreign currency exchange rate fluctuations on intercompany transactions and projected inventory purchases for its international subsidiaries.
these transactions. Certain contracts are designated as cash flow hedges. As of September 30, 2017,2020, December 31, 2019 and September 30, 2019, the aggregate notional value of the Company's outstanding foreign currency contractscash flow hedges was $338.6$301.2 million, which was comprised of Canadian Dollar/U.S. Dollar, Euro/U.S. Dollar, Yen/Euro, Mexican Peso/Euro$879.8 million and Pound Sterling/Euro currency pairs$568.3 million, respectively, with contract maturities ranging from one to fourteentwenty-four months. A portion of the Company's foreign currency contracts are not designated as cash flow hedges, and accordingly, changes in their fair value are recorded in earnings.
The Company also enters into foreign currency contracts designated as cash flow hedges. For foreign currency contracts designated as cash flow hedges, changes in fair value, excluding any ineffective portion, are recorded in other comprehensive income until net income is affected by the variability in cash flows of the hedged transaction. The effective portion is generally released to net income after the maturity of the related derivative and is classified in the same manner as the underlying exposure.
During the three and nine months ended September 30, 2017, the Company reclassified $0.1 million and $1.8 million from other comprehensive income to cost of goods sold related to foreign currency contracts designated as cash flow hedges, respectively. The fair values of the Company's foreign currency contracts were a liability of $7.8 million as of September 30, 2017, and were included in accrued expenses on the consolidated balance sheet. The fair values of the Company's foreign currency contracts were assets of $15.2 million and $1.6 million as of December 31, 2016 and September 30, 2016, respectively, and were included in prepaid expenses and other current assets on the consolidated balance sheet. Refer to Note 6 for a discussion of the fair value measurements. Included in other expense, net were the following amounts related to changes in foreign currency exchange rates and derivative foreign currency contracts:
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | 2017 | | 2016 |
| Unrealized foreign currency exchange rate gains (losses) | $ | 1,035 |
| | $ | 985 |
| | $ | 30,429 |
| | $ | 4,846 |
|
| Realized foreign currency exchange rate gains (losses) | 3,221 |
| | (2,635 | ) | | 865 |
| | (3,094 | ) |
| Unrealized derivative gains (losses) | 388 |
| | 516 |
| | (838 | ) | | (401 | ) |
| Realized derivative gains (losses) | (4,182 | ) | | 426 |
| | (26,972 | ) | | (2,415 | ) |
Interest Rate Risk Management
In order to maintain liquidity and fund business operations, the Company entersmay enter into long term debt arrangements with various lenders which bear a range of fixed and variable rates of interest. The nature and amount of the Company's long term debt can be expected to vary as a result of future business requirements, market conditions and other factors. The Company may elect to enter into interest rate swap contracts to reduce the impact associated with interest rate fluctuations. The Company utilizes interest rate swap contracts to convert a portion
contracts are accounted for as cash flow hedges. Accordingly, the effective portion of the changes in their fair value are recorded in other comprehensive income and reclassified into interest expense over the life of the underlying debt obligation. Refer to Note 47 for a discussion of long term debt.
As of September 30, 2017,2020, the Company had no outstanding interest rate swap contracts.
For contracts designated as cash flow hedges, the changes in fair value are reported as other comprehensive income (loss) and are recognized in current earnings in the period or periods during which the hedged transaction affects current earnings. Effective hedge results are classified in the unaudited consolidated statements of operations in the same manner as the underlying exposure.
The Company evaluated the probability of certain hedged forecasted transactions and determined certain transactions, against which hedges were designated, were no longer probable of occurring by the end of the originally specified time period, as a result of the impacts of COVID-19. The amounts recorded in other income (expense), previously recorded in accumulated other comprehensive income, as a result of the discontinuance of cash flow hedges were not material for the nine months ended September 30, 2020. There were no amounts recorded in other income (expense) as a result of the discontinuance of cash flow hedges for the three months ended September 30, 2020.
Undesignated Derivative Instruments
The Company may elect to enter into foreign exchange forward contracts to mitigate the change in fair value of specific assets and liabilities on the unaudited consolidated balance sheets. These undesignated instruments are recorded at fair value as a derivative asset or liability on the unaudited consolidated balance sheets with their corresponding change in fair value recognized in other expense, net, together with the re-measurement gain or loss from the hedged balance sheet position. As of September 30, 2020, December 31, 2019 and September 30, 2019, the total notional value of the Company's outstanding interest rate swap contractsundesignated derivative instruments was $140.0 million. During the three months ended September 30, 2017 and 2016, the Company recorded a $0.2$262.9 million, $304.2 million and $0.5$454.0 million, increase in interest expense, respectively, representing the effective portion of the contract reclassified from accumulated other comprehensive income. During the nine months ended September 30, 2017 and 2016, the Company recorded a $0.8 million and $1.6 million increase in interest expense, respectively, representing the effective portion of the contract reclassified from accumulated other comprehensive income. The fair values of the interest rate swap contracts were assets of $0.2 million and $4.0 million as of September 30, 2017 and 2016, respectively, and were included in other long term assets on the consolidated balance sheet. The fair value of the interest rate swap contracts was a liability of $0.4 million as of December 31, 2016, and was included in other long term liabilities on the consolidated balance sheet.respectively.
Credit Risk
The Company enters into derivative contracts with major financial institutions with investment grade credit ratings and is exposed to credit losses in the event of non-performance by these financial institutions. This credit risk is generally limited to the unrealized gains in the derivative contracts. However, the Company monitors the credit quality of these financial institutions and considers the risk of counterparty default to be minimal.
9.12. Provision for Income Taxes
Provision for Income Taxes
The effective rates for income taxes decreased $81.6 million to a benefit of $1.3 million duringwere (10.2)% and 22.1% for the ninethree months ended September 30, 2017 from $80.3 million2020 and 2019, respectively. The change in the Company’s effective tax rate was primarily driven by the proportion of earnings subject to tax in the United States as compared to foreign jurisdictions in each period and the recording of valuation allowances against the majority of 2020 losses forecasted in the United States and discrete items during the same period in 2016. For the ninethree months ended September 30, 2017,2020.
Cares Act
On March 27, 2020 the Company's effectiveUnited States enacted the CARES Act to combat the negative economic impact of the COVID-19 pandemic. The CARES Act includes several provisions aimed at assisting corporate taxpayers, including the allowance of a five-year carryback for net operating losses originating in the 2018, 2019, and 2020 tax rate was (3.5%) comparedyears; removal of the taxable income limitation on net operating loss utilization for tax years before 2021; loosening of the interest deduction limitation in the 2019 and 2020 tax years; and technical corrections from the Tax Cuts and Jobs Act related to 34.3%the tax life for the same period in 2016. qualified improvement property.
The Company’s effective tax rate for the ninethree months ended September 30, 2017 was lower than2020 includes the income tax accounting impacts of the CARES Act. More specifically, the effective tax rate includes a benefit for the nine months ended September 30, 2016 primarily dueportion of forecasted 2020 net operating losses in the United State federal jurisdiction able to challenged resultsbe carried back to offset taxable income in North America creating a higher proportionthe five-year carryback period. This benefit partially offsets the impact of international profits in 2017, partially offset by non-deductible goodwill impairment charges and the recording of certain valuation allowances.
Valuation allowances of $13.2 million were recorded discretely against deferred tax assets as of December 31, 2016 for certain U.S. state jurisdictions. Additionally, valuation allowances were recorded against current yearthe majority of the Company’s deferred tax assets in certain U.S. state jurisdictions. Thesethe United States federal jurisdiction.
Valuation Allowance
The Company evaluates on a quarterly basis whether the deferred tax assets are realizable which requires significant judgment. The Company considers all available positive and negative evidence, including historical operating performance and expectations of future operating performance. To the extent the Company believes it is more likely than not that all or some portion of the asset will not be realized, valuation allowances wereare established
against the Company's deferred tax assets, which increase income tax expense in the period when such a determination is made.
As noted in the Company's Annual Report on Form 10-K, a significant portion of the Company’s deferred tax assets relate to United States federal and state taxing jurisdictions. Realization of these deferred tax assets is dependent on future United States pre-tax earnings. As of December 31, 2019 the Company believed the weight of the positive evidence outweighed the negative evidence regarding the realization of the Company’s United States federal deferred tax assets and no valuation allowance was recorded. However, the weight of the negative evidence outweighed the positive evidence regarding the realization of the majority of the Company’s United States state deferred tax assets and a valuation allowance was recorded.
Based on developments during the first quarter of 2020, including the negative economic impact of the COVID-19 pandemic and an increase in the range of pre-tax charges forecast to be incurred in connection with the 2020 Restructuring Plan, the Company no longer believes it is more likely than not that a majority of the Company’s U.S. federal deferred tax assets will be realized. As such in the first quarter of 2020, the Company recorded duea valuation allowance on the portion of U.S. deferred tax assets which are not forecast to lower than expected results inbe utilized with the 2020 net operating loss carryback. Additionally, based on similar factors during the first quarter of 2020, the Company recorded a valuation allowance on all China deferred tax assets. The Company has recorded additional valuation allowances on pre-tax losses incurred year to date for the US and China during the second and third quarter of 20172020 and will continue to evaluate the Company’s ability to realize its deferred tax assets on a significantly reduced outlook for the remainder of the year.quarterly basis.
The Company files income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions which are regularly subject to examination by tax authorities. Based on the status of current examinations in various taxing jurisdictions, management believes it is reasonably possible that in the next 12 months the amount of the total liability for unrecognized income tax benefits and interest could decrease by up to $16 million.
10.13. Earnings per Share
The following represents a reconciliation from basic earningsincome (loss) per share to diluted earningsincome (loss) per share:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands, except per share amounts) | 2020 | | 2019 | | 2020 | | 2019 |
| Numerator | | | | | | | |
| Net income (loss) | $ | 38,946 | | | $ | 102,315 | | | $ | (733,630) | | | $ | 107,443 | |
| Denominator | | | | | | | |
| Weighted average common shares outstanding Class A, B and C | 454,541 | | | 451,385 | | | 453,847 | | | 450,739 | |
| Effect of dilutive securities Class A, B, and C | 2,133 | | | 3,310 | | | 0 | | | 3,308 | |
| Weighted average common shares and dilutive securities outstanding Class A, B, and C | 456,674 | | | 454,695 | | | 453,847 | | | 454,047 | |
| | | | | | | |
| Basic net income (loss) per share of Class A, B and C common stock | $ | 0.09 | | | $ | 0.23 | | | $ | (1.62) | | | $ | 0.24 | |
| Diluted net income (loss) per share of Class A, B and C common stock | $ | 0.09 | | | $ | 0.23 | | | $ | (1.62) | | | $ | 0.24 | |
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands, except per share amounts) | 2017 | | 2016 | | 2017 | | 2016 |
| Numerator | | | | | | | |
| Net income | $ | 54,242 |
| | $ | 128,225 |
| | $ | 39,660 |
| | $ | 153,748 |
|
| Adjustment payment to Class C capital stockholders | — |
| | — |
| | — |
| | 59,000 |
|
| Net income available to all stockholders | $ | 54,242 |
| | $ | 128,225 |
| | $ | 39,660 |
| | $ | 94,748 |
|
| Denominator | | | | | | | |
| Weighted average common shares outstanding Class A and B | 219,491 |
| | 218,074 |
| | 219,125 |
| | 217,535 |
|
| Effect of dilutive securities Class A and B | 3,357 |
| | 4,041 |
| | 3,746 |
| | 4,174 |
|
| Weighted average common shares and dilutive securities outstanding Class A and B | 222,848 |
| | 222,115 |
| | 222,871 |
| | 221,709 |
|
| | | | | | | | |
| Weighted average common shares outstanding Class C | 221,784 |
| | 219,756 |
| | 221,235 |
| | 218,147 |
|
| Effect of dilutive securities Class C | 3,807 |
| | 3,982 |
| | 4,155 |
| | 4,154 |
|
| Weighted average common shares and dilutive securities outstanding Class C | 225,591 |
| | 223,738 |
| | 225,390 |
| | 222,301 |
|
| | | | | | | | |
| Basic net income per share of Class A and B common stock | $ | 0.12 |
| | $ | 0.29 |
| | $ | 0.09 |
| | $ | 0.22 |
|
| Basic net income per share of Class C common stock | $ | 0.12 |
| | $ | 0.29 |
| | $ | 0.09 |
| | $ | 0.49 |
|
| Diluted net income per share of Class A and B common stock | $ | 0.12 |
| | $ | 0.29 |
| | $ | 0.09 |
| | $ | 0.21 |
|
| Diluted net income per share of Class C common stock | $ | 0.12 |
| | $ | 0.29 |
| | $ | 0.09 |
| | $ | 0.48 |
|
Effects of potentially dilutive securities are presented only in periods in which they are dilutive. Stock options and restricted stock units representing 233.8 thousand7.3 million and 83.7 thousand0.6 million shares of Class A and C common stock outstanding for the three months ended September 30, 20172020 and 2016,2019, respectively, and 1.9 million for the nine months ended September 30, 2019, were excluded from the computation of diluted earnings per share because their effect would have been anti-dilutive. Stock options and restricted stock units representing 4.0 million and 1.1 million shares of Class C common stock outstandingDue to the Company being in a net loss position for the threenine months months ended September 30, 2017 and 2016, respectively,2020, there were excluded from0 stock options or restricted stock units included in the computation of diluted earnings per share, because their effect would have been anti-dilutive. Stock options and restricted stock units representing 272.3 thousand and 86.9 thousand shares of Class A common stock outstanding for the nine months ended September 30, 2017 and 2016, respectively, were excluded from the computation of diluted earnings per share because their effect would have been anti-dilutive. Stock options and restricted stock units representing 4.1 million and 0.4 million shares of Class C common
stock outstanding for the nine months ended September 30, 2017 and 2016, respectively, were excluded from the computation of diluted earnings per share becauseas their effect would have been anti-dilutive.
11.14. Segment Data and Related InformationDisaggregated Revenue
The Company’s operating segments are based on how the Chief Operating Decision Maker (“CODM”) makes decisions about allocating resources and assessing performance. As such, the CODM receives discrete financial information for the Company's principal business by geographic region based on the Company’s strategy to become a global brand. These geographic regions include North America, Latin America, Europe, the Middle East and Africa (“EMEA”), Asia-Pacific, and Asia-Pacific.Latin America. Each geographic segment operates exclusively in one industry: the
development, marketing and distribution of branded performance apparel, footwear and accessories. The CODM also receives discrete financial information for the Company's Connected Fitness business.segment. Total expenditures for additions to long-lived assets are not disclosed as this information is not regularly provided to the CODM.
The Company excludes certain corporate costs from its segment profitability measures. The Company reports these costs within Corporate Other, which is designed to provide increased transparency and comparability of the Company's operating segments' performance. Corporate Other consists largely of general and administrative expenses not allocated to an operating segment, including expenses associated with centrally managed departments such as global marketing, global IT, global supply chain, innovation and other corporate support functions; costs related to the Company's global assets and global marketing, costs related to the Company’s headquarters; restructuring and restructuring related charges; and certain foreign currency hedge gains and losses.
The net revenues and operating income (loss) associated with the Company's segments are summarized in the following tables. Net revenues represent sales to external customers for each segment. Intercompany balances were eliminated for separate disclosure. The majority
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| Net revenues | | | | | | | |
| North America | $ | 962,565 | | | $ | 1,015,920 | | | $ | 2,021,247 | | | $ | 2,675,389 | |
| EMEA | 210,111 | | | 160,981 | | | 437,140 | | | 440,405 | |
| Asia-Pacific | 178,895 | | | 154,898 | | | 397,846 | | | 453,296 | |
| Latin America | 44,338 | | | 52,186 | | | 108,573 | | | 141,095 | |
| Connected Fitness | 36,894 | | | 39,346 | | | 102,600 | | | 101,385 | |
| Corporate Other (1) | 218 | | | 6,125 | | | 3,495 | | | 14,337 | |
| Total net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | $ | 3,070,901 | | | $ | 3,825,907 | |
(1) Corporate Other consist of corporate service costsforeign currency hedge gains and losses related to revenues generated by entities within North America have not been allocated to the Company's other segments. As the Company continues to grow its business outside of North America, a larger portion of its corporate overhead costs have begun to support global functions. Due to the individual materiality of our Asia-Pacific segment, the Company has separately presented its Asia-Pacific, EMEA and Latin Americaoperating segments, and will no longer combine these segments for presentation purposes. Net revenues and operating income by segment presented for prior periods have been conformed to the current presentation.
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | 2017 | | 2016 |
| Net revenues | | | | | | | |
| North America | $ | 1,077,088 |
| | $ | 1,225,188 |
| | $ | 2,778,165 |
| | $ | 2,932,915 |
|
| EMEA | 127,932 |
| | 105,099 |
| | 334,683 |
| | 237,559 |
|
| Asia-Pacific | 130,320 |
| | 85,810 |
| | 309,712 |
| | 188,985 |
|
| Latin America | 46,887 |
| | 35,295 |
| | 123,342 |
| | 99,170 |
|
| Connected Fitness | 23,388 |
| | 20,181 |
| | 65,290 |
| | 62,179 |
|
| Intersegment eliminations | — |
| | — |
| | — |
| | (750 | ) |
| Total net revenues | $ | 1,405,615 |
| | $ | 1,471,573 |
| | $ | 3,611,192 |
| | $ | 3,520,058 |
|
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| Nine Months Ended September 30, |
| (In thousands) | 2017 |
| 2016 |
| 2017 |
| 2016 |
| Operating income |
|
|
|
|
|
|
|
| North America | $ | 65,827 |
|
| $ | 182,840 |
|
| $ | 64,124 |
|
| $ | 251,084 |
|
| EMEA | 16,977 |
|
| 8,383 |
|
| 13,990 |
|
| 8,348 |
|
| Asia-Pacific | 34,173 |
|
| 27,151 |
|
| 69,050 |
|
| 54,399 |
|
| Latin America | (10,223 | ) |
| (10,550 | ) |
| (26,175 | ) |
| (27,751 | ) |
| Connected Fitness | (44,574 | ) |
| (8,514 | ) |
| (56,058 | ) |
| (32,509 | ) |
| Total operating income | 62,180 |
|
| 199,310 |
|
| 64,931 |
|
| 253,571 |
|
| Interest expense, net | (9,575 | ) |
| (8,189 | ) |
| (25,237 | ) |
| (18,476 | ) |
| Other expense, net | (1,069 | ) |
| (772 | ) |
| (1,383 | ) |
| (1,025 | ) |
| Income before income taxes | $ | 51,536 |
|
| $ | 190,349 |
|
| $ | 38,311 |
|
| $ | 234,070 |
|
The operating income information presented above includes the impact of restructuring and impairment charges related tobut managed through the Company's restructuring plan. Charges incurred and expected to be incurred by segment in connection with the restructuring plan are as follows:central foreign exchange risk management program.
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| Operating income (loss) | | | | | | | |
| North America | $ | 224,593 | | | $ | 237,229 | | | $ | 251,579 | | | $ | 536,700 | |
| EMEA | 40,834 | | | 21,989 | | | 43,840 | | | 44,700 | |
| Asia-Pacific | 19,248 | | | 34,666 | | | (30,040) | | | 74,116 | |
| Latin America | 1,802 | | | 233 | | | (50,756) | | | (4,017) | |
| Connected Fitness | 6,629 | | | 7,023 | | | 14,020 | | | 8,103 | |
| Corporate Other | (234,536) | | | (162,220) | | | (897,927) | | | (496,905) | |
| Total operating income (loss) | 58,570 | | | 138,920 | | | (669,284) | | | 162,697 | |
| Interest expense, net | (14,955) | | | (5,655) | | | (32,251) | | | (15,881) | |
| Other expense, net | (7,184) | | | (429) | | | (10,493) | | | (2,224) | |
| Income (loss) before income taxes | $ | 36,431 | | | $ | 132,836 | | | $ | (712,028) | | | $ | 144,592 | |
|
| | | | | | | | | | | | | | | | |
| | Costs Incurred | Estimated Costs to be Incurred |
| | Three Months Ended September 30, | | Nine Months Ended September 30, | | Three Months Ended December 31, | | Total | |
| (In thousands) | 2017 (1) | | 2017 (1) | | 2017 (1) | | 2017 | |
| Costs recorded in restructuring and impairment charges: | | | | | | | | |
| North America | $ | 30,965 |
| | $ | 33,563 |
| | $ | 49,000 |
| | $ | 82,563 |
| |
| EMEA | 184 |
| | 184 |
| | 8,000 |
| | 8,184 |
| |
| Asia-Pacific | — |
| | — |
| | — |
| | — |
| |
| Latin America | 6,039 |
| | 6,540 |
| | — |
| | 6,540 |
| |
| Connected Fitness | 47,810 |
| | 47,810 |
| | — |
| | 47,810 |
| |
| Total costs recorded in restructuring and impairment charges | $ | 84,998 |
| | $ | 88,097 |
| | $ | 57,000 |
| | $ | 145,097 |
| |
(1) This table excludes additional non-cash charges of $3.6 million for the three and nine months ended September 30, 2017 associated with the reduction of inventory outside of current liquidation channels in line with the restructuring plan.
Net revenues by product category are as follows:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| Apparel | $ | 927,041 | | | $ | 985,623 | | | $ | 1,951,186 | | | $ | 2,499,989 | |
| Footwear | 298,687 | | | 250,596 | | | 693,464 | | | 827,223 | |
| Accessories | 145,060 | | | 118,164 | | | 268,912 | | | 306,406 | |
| Net Sales | 1,370,788 | | | 1,354,383 | | | 2,913,562 | | | 3,633,618 | |
| License revenues | 25,121 | | | 29,602 | | | 51,244 | | | 76,567 | |
| Connected Fitness | 36,894 | | | 39,346 | | | 102,600 | | | 101,385 | |
| Corporate Other (1) | 218 | | | 6,125 | | | 3,495 | | | 14,337 | |
| Total net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | $ | 3,070,901 | | | $ | 3,825,907 | |
(1) Corporate Other consist of foreign currency hedge gains and losses related to revenues generated by entities within the Company's operating segments, but managed through the Company's central foreign exchange risk management program.
Net revenues by distribution channel are as follows:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| Wholesale | $ | 830,478 | | | $ | 891,709 | | | $ | 1,721,432 | | | $ | 2,417,028 | |
| Direct to Consumer | 540,310 | | | 462,674 | | | 1,192,130 | | | 1,216,590 | |
| Net Sales | 1,370,788 | | | 1,354,383 | | | 2,913,562 | | | 3,633,618 | |
| License revenues | 25,121 | | | 29,602 | | | 51,244 | | | 76,567 | |
| Connected Fitness | 36,894 | | | 39,346 | | | 102,600 | | | 101,385 | |
| Corporate Other (1) | 218 | | | 6,125 | | | 3,495 | | | 14,337 | |
| Total net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | $ | 3,070,901 | | | $ | 3,825,907 | |
(1) Corporate Other consist of foreign currency hedge gains and losses related to revenues generated by entities within the Company's operating segments, but managed through the Company's central foreign exchange risk management program.
15. Subsequent Events
On October 28, 2020, the Company entered into a Stock Purchase Agreement (the “Purchase Agreement”) to sell UA Connected Fitness, Inc. (“UACF”), a wholly-owned subsidiary of the Company, pursuant to which the Company will sell its MyFitnessPal business through a sale of all of the issued and outstanding shares of common stock of UACF, subject to the terms and conditions of the Purchase Agreement. The aggregate sale price is $345 million, of which $215 million is payable at the closing of the sale and up to $130 million in earnout payments which are based on the achievement of certain revenue targets over the three-year period following the closing date as set forth in the Purchase Agreement. The purchase price is subject to working capital and other customary adjustments. The potential earnout payments include up to $35 million payable in 2022, $45 million payable in 2023 and $50 million payable in 2024. The transaction is currently expected to close during the fourth quarter of 2020, subject to applicable regulatory approvals (including the expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended) and other customary closing conditions.
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | 2017 | | 2016 |
| Net Revenues | | | | | | | |
| Apparel | $ | 939,364 |
| | $ | 1,021,185 |
| | $ | 2,335,454 |
| | $ | 2,300,596 |
|
| Footwear | 285,052 |
| | 278,891 |
| | 791,637 |
| | 785,843 |
|
| Accessories | 123,487 |
| | 121,832 |
| | 335,172 |
| | 302,267 |
|
| Total net sales | 1,347,903 |
| | 1,421,908 |
| | 3,462,263 |
| | 3,388,706 |
|
| License revenues | 34,324 |
| | 29,484 |
| | 83,639 |
| | 69,923 |
|
| Connected Fitness | 23,388 |
| | 20,181 |
| | 65,290 |
| | 62,179 |
|
| Intersegment eliminations | — |
| | — |
| | — |
| | (750 | ) |
| Total net revenues | $ | 1,405,615 |
| | $ | 1,471,573 |
| | $ | 3,611,192 |
| | $ | 3,520,058 |
|
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
Some of the statements contained in this Form 10-Q constitute forward-looking statements. Forward-looking statements relate to expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts, such as statements regarding our future financial condition or results of operations, our prospects and strategies for future growth, the impact of the COVID-19 pandemic on our business and results of operations, our plans to reduce our operating expenses, anticipated charges and restructuring costs, projected savings related to our restructuring plans and our planned sale of our MyFitnessPal platform and the timing of these measures,thereof, the development and introduction of new products, the implementation of our marketing and branding strategies, and the future benefits and opportunities from acquisitions and other significant investments. In many cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “outlook,” “potential” or the negative of these terms or other comparable terminology.
The forward-looking statements contained in this Form 10-Q reflect our current views about future events and are subject to risks, uncertainties, assumptions and changes in circumstances that may cause events or our actual activities or results to differ significantly from those expressed in any forward-looking statement. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future events, results, actions, levels of activity, performance or achievements. Readers are cautioned not to place undue reliance on these forward-looking statements. A number of important factors could cause actual results to differ materially from those indicated by these forward-looking statements, including, but not limited to, those factors described in our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the Securities and Exchange Commission (“SEC”) (our “2016 Form 10-K”) or in this Form 10-Q under “Risk Factors”, if included herein, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” These factors include without limitation:
•the impact of the COVID-19 pandemic on our industry and our business, financial condition and results of operations;
•changes in general economic or market conditions that could affect overall consumer spending or our industry;
•changes to the financial health of our customers;
our ability to successfully execute our restructuring plan and realize its expected benefits;
our ability to effectively drive operational efficiency in our business;
any disruptions, delays or deficiencies in the design or implementation of our new global operating and financial reporting information technology system;
our ability to effectively manage our growth and a more complex global business;
our ability to comply with existing trade and other regulations, and the potential impact of new trade and tax regulations on our profitability;
our ability to successfully manage or realize expected results from acquisitions and other significant investments or capital expenditures;
our ability to effectively develop and launch new, innovative and updated products;
fluctuations in the costs of our products;
our ability to accurately forecast consumer demand for our products and manage our inventory in response to changing demands;
increased competition causing us to lose market share or reduce the prices of our products or to increase significantly our marketing efforts;
•loss of key suppliers or manufacturers or failure of our suppliers or manufacturers to produce or deliver our products in a timely or cost-effective manner, including duemanner;
•our ability to port disruptions;access capital and financing required to manage our business on terms acceptable to us;
•our ability to successfully execute our long-term strategies;
•our ability to successfully execute any potential restructuring plans and realize their expected benefits;
•our ability to effectively drive operational efficiency in our business;
•our ability to manage the increasingly complex operations of our global business;
•our ability to comply with existing trade and other regulations, and the potential impact of new trade, tariff and tax regulations on our profitability;
•our ability to effectively develop and launch new, innovative and updated products;
•our ability to accurately forecast consumer demand for our products and manage our inventory in response to changing demands;
•any disruptions, delays or deficiencies in the design, implementation or application of our new global operating and financial reporting information technology system;
•increased competition causing us to lose market share or reduce the prices of our products or to increase significantly our marketing efforts;
•fluctuations in the costs of our products;
•our ability to further expand our business globally and to drive brand awareness and consumer acceptance of our products in other countries;
•our ability to accurately anticipate and respond to seasonal or quarterly fluctuations in our operating results;
•our ability to successfully manage or realize expected results from acquisitions and other significant investments or capital expenditures;
•risks related to foreign currency exchange rate fluctuations;
•our ability to effectively market and maintain a positive brand image;
•the availability, integration and effective operation of information systems and other technology, as well as any potential interruption of such systems or technology, including risks related to the implementationtechnology;
our ability to accurately anticipate and respond to seasonal or quarterly fluctuations in our operating results;
risks related to foreign currency exchange rate fluctuations;
our ability to effectively market and maintain a positive brand image;
•risks related to data security or privacy breaches;
our ability to raise additional capital required to grow our business on terms acceptable to us;
•our potential exposure to litigation and other proceedings; and
•our ability to attract key talent and retain the services of our senior management and key employees.
The forward-looking statements contained in this Form 10-Q reflect our views and assumptions only as of the date of this Form 10-Q. We undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events.
Overview
We are a leading developer, marketer and distributor of branded athletic performance apparel, footwear and accessories. The brand’s moisture-wicking fabrications areWe create products engineered in many different designsto solve problems and styles for wear in nearly every climate to provide a performance alternative to traditional products. Our products are sold worldwide and worn bymake athletes at all levels, from youth to professional, on playing fields around the globe,lives better, as well as by consumers with active lifestyles. The Under Armour Connected Fitness platform powers the world's largest digital health and fitness communityapps built to connect people and our strategy is focused on engaging with these consumersdrive performance. Our products are made, sold and increasing awareness and sales of our products. We plan to grow this community by developing innovative applications, services and other digital solutions to impact how athletes and fitness-minded individuals train, perform and live.worn worldwide.
Our net revenues grew to $4,825.3$5,267.1 million in 20162019 from $1,834.9$3,963.3 million in 2012.2015. We believe that our growth in net revenues has beenwas driven by increasing consumera growing interest in ourperformance products and the strength of the Under Armour brand in the market place.marketplace. Our long-term growth strategy is focused on increased sales of our products through ongoing product innovation, investment in our distribution channels and international expansion and engaging with consumers through our Connected Fitness business.expansion. While we plan to continue to invest in growth, we also plan to improve efficiencies throughout our business as we seek to gain scale through our operations and return on our investments.
COVID-19
In March 2020, a novel strain of coronavirus (COVID-19) was declared a global pandemic by the World Health Organization. This pandemic has negatively affected the U.S. and global economies, disrupted global supply chains and financial markets, and led to significant travel and transportation restrictions, including mandatory closures and orders to “shelter-in-place”.
During the first quarter of 2020, we took action to close substantially all of our brand and factory house stores based on regional conditions, a majority of which remained closed into the second quarter of 2020. By the end of the third quarter of 2020, substantially all of our brand and factory house stores were re-opened. The following is a summary of our owned and operated store closures and their status as of the end of September 2020:
•North America: Beginning in mid-March we closed all of our stores in the North America operating segment, which remained closed through the end of April. We began a progressive re-opening of stores in May and more than 85% of our stores were open by the end of June. All of our stores were open by the end of September.
•EMEA: Beginning in mid-March we closed all of our stores in the EMEA operating segment, of which, over 65% remained closed through the end of April. We continued the re-opening of stores in May and more than 95% of our stores were open by the end of June. All of our stores were open by the end of September.
•Asia-Pacific: Stores in China were closed from late-January through early-March, when a slowly progressive re-opening process started. Stores in the remainder of the Asia-Pacific operating segment were also closed from time to time based on local conditions. More than 80% of our stores were open by the end of April and more than 95% of the stores were open by the end of June, which remained consistent through the end of September.
•Latin America: Beginning in mid-March we closed all of our stores in the Latin America operating segment, which remained closed in April and through the end of May. We began a progressive re-opening of stores in June and more than 25% of our stores were open by the end of June. We continued the progressive re-opening of stores through September and more than 85% of stores were open by the end of September.
The discussion above reflects the status of our owned and operated store closures through the end of September 2020, however, depending on the progression of COVID-19, stores in certain regions may close from time to time.
Additionally, throughout this time, many of our wholesale customers also closed their stores or operated them at limited capacity. As this pandemic progressed, we estimated that, in mid-May, approximately 80% of locations where our products are sold were closed. By the end of May and throughout June, our owned and partner doors and those of our wholesale customers began reopening, though they continued to operate at limited capacity and experienced significantly decreased traffic. By the end of June, over 90% of our owned and partner doors had reopened, and most of our wholesale customers had also reopened their stores. Throughout the second and third
quarters, we experienced significant growth in our global e-commerce business. Although we expect e-commerce sales to represent a higher portion of our overall business in 2020, sales in this channel have historically represented a small percentage of our total revenue. For example, in 2019 sales through our direct to consumer channel represented 34% of net revenues, with our e-commerce business representing less than half of the total direct to consumer business.
Our business operations and financial performance in 2020 were materially impacted by the developments discussed above, including decreases in net revenue and decreases in overall profitability as compared to the prior year. These developments have further required us to recognize certain long-lived asset and goodwill impairment charges, discussed in further detail below, and record valuation allowances on the majority of our deferred tax assets and recognize impairment on certain equity method investments.
In addition to the impacts on our sales outlined above, this pandemic has also impacted the operations of our distribution centers, our third-party logistics providers and our manufacturing and supplier partners, including through the closure or reduced capacity of facilities and operational changes to accommodate social distancing. Depending on the progression of COVID-19, we may experience further disruptions or increased operational and logistics costs throughout our supply chain which could negatively impact our ability to obtain inventory or service our customers.
As we have navigated these unprecedented circumstances, we continued to focus on preserving our liquidity and managing our cash flows through certain preemptive actions designed to enhance our ability to meet our short-term liquidity needs. During the second quarter of 2020, we amended our credit agreement which provides temporary relief from or revisions to certain of our financial covenants in the near-term, providing us with improved access to liquidity during this time period. We also completed a sale of $500 million of Convertible Senior Notes, the net proceeds of which we used to repay amounts outstanding under our amended credit agreement. Additional actions include, among others, reductions to our discretionary spending and changes to our investment strategies, negotiating payment terms with our vendors, including revised lease terms with landlords in the form of rent deferrals or rent waivers, reductions in compensation costs, including through temporary reductions in pay, layoffs and decreases in incentive compensation, and limiting certain marketing and capital expenditures. Further, in connection with global legislation, including the Coronavirus Aid, Relief, and Economic Security ("CARES") Act, we recognized certain incentives totaling $1.5 million and $6.6 million for the three and nine months ended September 30, 2020. The incentives were recorded as a reduction of the associated costs which we incurred within selling, general and administrative expenses in the unaudited consolidated statement of operations.
We do expect the pandemic to continue to have a material impact on our financial condition, results of operations and cash flows from operations in future periods. In the fourth quarter of 2020, we expect net revenues and profitability to be materially lower than the prior year period. Specifically, we are expecting timing impacts from COVID-19, related to customer order flow and changes in supply chain timing, which is expected to result in more planned spring product deliveries in early 2021 versus late 2020. We anticipate this change will negatively impact our fourth quarter net revenues by approximately 9 percentage points compared to the prior-year fourth quarter. We expect the negative impacts of COVID-19 to continue into 2021.
Further, we could experience material impacts, in addition to those noted above, including, but not limited to, increased sales-related reserves, increased charges from allowance for doubtful accounts, charges from adjustments of the carrying amount of inventory, increased cost of product, costs to alter production plans, changes in the designation of our hedging instruments, volatility in our effective tax rate and impacts to cash flows from operations due to delays in cash receipts from customers. The extent of the impact of the COVID-19 pandemic on our operational and financial performance depends on future developments outside of our control, including the duration and spread of the pandemic and related actions taken by federal, state and local government officials, and international governments to prevent disease spread. Given that the current circumstances are dynamic and highly uncertain, we cannot reasonably estimate the impact of future store closures and shopping behaviors, including the related impact on store traffic patterns, conversion or overall consumer demand. For a more complete discussion of the COVID-19 related risks facing our business, refer to the “Risk Factors” section included in Part II, Item 1A of our Quarterly Report on Form 10-Q for the three months ended March 31, 2020 and those included in this Quarterly Report on Form 10-Q.
Quarterly Results
Financial highlights for the three months ended September 30, 20172020 as compared to the prior year period include:
•Net revenues decreased 4.5%increased 0.2%.
•Wholesale revenue decreased 13.2% and Direct to Consumer6.9%, while direct-to-consumer revenue increased 14.6%16.8%.
•Apparel revenue decreased8.0%. Footwear5.9%, while footwear and accessories revenues grew 2.2%revenue increased 19.2% and 1.4%22.8%, respectively.
•Revenue in our North America segmentand Latin-America segments decreased 12.1%. Revenue5.3% and 15.0%, respectively, respectively, while revenue in our Asia-Pacific, EMEA and Latin AmericaAsia-Pacific segments grew 51.9%, 21.7%increased 30.5% and 32.8%15.5%, respectively.
•Gross margin decreased 40 basis points.
•Selling, general and administrative expense decreased 0.2%increased 0.5%.
Gross margin decreased 160 basis points.•Restructuring and impairment charges were $74.2 million, comprised of $70.2 million of restructuring and related impairment charges and $4.0 million of long-lived asset impairment charges.
2020 Restructuring
On July 27, 2017,March 31, 2020, our Board of Directors approved the previously announced restructuring plan ("2020 Restructuring") designed to rebalance our cost base to further improve profitability and cash flow generation. We identified further opportunities and on September 2, 2020, our Board of Directors approved a $75 million increase to the restructuring plan, (the “restructuring plan”)resulting in an updated 2020 restructuring plan of approximately $550 million to more closely align our financial resources with our critical priorities$600 million of the business. Our original expectation was to incurtotal estimated pre-tax restructuring and related charges.
The restructuring and related charges primarily consist of up to approximately:
•$224 million of cash restructuring charges, comprised of up to: $63 million in facility and lease termination costs, $30 million in employee severance and benefit costs, and $131 million in contract termination and other restructuring costs; and
•$376 million of non-cash charges comprised of an impairment of $291 million related to our New York City flagship store and $85 million of intangibles and other asset related impairments.
As a result of our restructuring efforts, we expect approximately $110.0$40 million to $130.0$60 million of pre-tax savings in 2020 from our restructuring plan.
We recorded $70.2 million and $410.3 million of restructuring and related impairment charges for the three and nine months ended September 30, 2020, respectively, including the right of use asset ("ROU") impairment related to our New York City flagship store. The summary of the costs recorded during the three and nine months
ended September 30, 2020, as well as our current estimates of the amount expected to be incurred in connection with the 2020 restructuring plan is as follows:
| | | | | | | | | | | | | | | | | | | | | | | |
| Restructuring and Related Impairment Charges Recorded | | Estimated Restructuring and Related Impairment Charges |
| (In thousands) | Three months ended September 30, 2020 | | Nine months ended September 30, 2020
(A) | | Remaining Charges to be Incurred (B) | | Total Charges to be Incurred (1)
(A+B) |
| Costs recorded in cost of goods sold: | | | | | | | |
| Contract-based royalties | $ | — | | $ | — | | $ | 11,000 | | $ | 11,000 |
| Inventory write-offs | — | | — | | 2,000 | | 2,000 |
| Total costs recorded in cost of goods sold | — | | — | | 13,000 | | 13,000 |
| | | | | | | |
| Costs recorded in restructuring and related impairment charges: | | | | | | | |
| Property and equipment impairment | 3,307 | | | 26,211 | | | 17,789 | | | 44,000 | |
| Intangible asset impairment | — | | | — | | | 4,000 | | | 4,000 | |
| ROU asset impairment | — | | | 290,813 | | | 4,187 | | | 295,000 | |
| Employee related costs | 26,410 | | | 27,239 | | | 2,761 | | | 30,000 | |
| Contract exit costs (2) | 38,520 | | | 53,462 | | | 124,538 | | | 178,000 | |
| Other restructuring costs | 1,995 | | | 12,533 | | | 23,467 | | | 36,000 | |
| Total costs recorded in restructuring and related impairment charges | 70,232 | | | 410,258 | | | 176,742 | | | 587,000 | |
| Total restructuring and related impairment and restructuring related costs | $ | 70,232 | | | $ | 410,258 | | | $ | 189,742 | | | $ | 600,000 | |
(1) Estimated restructuring and related impairment charges to be incurred reflect the high-end of the range of the estimated remaining charges expected to be taken in connection with the restructuring plan. We currently anticipate that most of the total restructuring and related charges will occur by the end of fiscal 2020.
(2) Contract exit costs are primarily comprised of proposed lease exits of certain brand and factory house stores and office facilities, and proposed marketing and other contract exits.
All restructuring and related impairment charges are included in our Corporate Other non-operating segment, of which $39.1 million are North America related, $11.5 million are EMEA related, $6.1 million are Latin America related, $3.6 million are Asia-Pacific related and $0.1 million are Connected Fitness related for the three months ended September 30, 2020 and $367.4 million are North America related, $11.6 million are EMEA related, $6.4 million are Latin America related, $3.6 million are Asia-Pacific related and $0.1 million are Connected Fitness related for the nine months ended September 30, 2020.
The lease term for our New York City flagship store commenced on March 1, 2020 and an operating lease ROU asset and corresponding operating lease liability of $344.8 million was recorded on our unaudited consolidated balance sheet. In March, as a part of the 2020 Restructuring, we made the strategic decision to forgo the opening of our New York City flagship store and the property is actively being marketed for sublease. We recognized a ROU asset impairment of $290.8 million for the yearnine months ended DecemberSeptember 30, 2020, reducing the carrying value of the lease asset to its estimated fair value. Fair value was estimated using an income-approach based on our forecast of future cash flows expected to be derived from the property based on current sublease market rent. Rent expense or sublease income related to this lease will be recorded within other income (expense) on the unaudited consolidated statements of operations. There were no related ROU asset impairment charges for the three months ended September 30, 2020.
These charges require us to make certain judgements and estimates regarding the amount and timing of restructuring and related impairment charges or recoveries. Our estimated liability could change subsequent to its recognition, requiring adjustments to the expense and the liability recorded. On a quarterly basis, we conduct an evaluation of the related liabilities and expenses and revise our assumptions and estimates as appropriate.
Long-Lived Asset Impairment
As a result of the impacts of COVID-19, we determined that sufficient indicators existed to trigger the performance of an interim long-lived asset impairment analysis as of March 31, 2017.2020. In the thirdfirst quarter of 2017,2020, we performed undiscounted cash flow analyses of our long-lived assets, including retail stores at an individual store level. Based on these undiscounted cash flow analyses, we determined that certain long-lived assets had net
carrying values that exceeded their estimated undiscounted future cash flows. We estimate the fair values of these long-lived assets based on their discounted cash flows or market rent assessments. We compared these estimated fair values to the net carrying values. Additionally, we recognized approximately $59.9long-lived asset impairment charges of $4.0 million for the three months ended September 30, 2020, included within the North America operating segment. As a result, we recognized $87.8 million of pre-taxlong-lived asset impairment charges for the nine months ended September 30, 2020. The long-lived impairment charge was recorded within restructuring and impairment charges on the unaudited consolidated statements of operations and as a reduction to the related asset balances on the unaudited consolidated balance sheets. The long-lived asset impairment charges are included with our operating segments as follows: $47.4 million recorded in North America, $25.5 million recorded in Asia-Pacific, $12.8 million recorded in Latin America, and $2.1 million recorded in EMEA for the nine months ended September 30, 2020.
The significant estimates used in the fair value methodology, which are based on Level 3 inputs, include: management's expectations for future operations and projected cash flows, including net revenue, gross profit and operating expenses and market conditions, including estimated market rent.
Additionally, we recognized $290.8 million of long-lived asset impairment charges related to our New York City flagship store, which was recorded in connection with thisour 2020 Restructuring Plan for the nine months ended September 30, 2020. Refer to the 2020 Restructuring section above for further discussion of the restructuring plan, which included $31.2 millionand related impairment charges.
Goodwill Impairment
As a result of asset impairmentsthe impacts of COVID-19, we determined that sufficient indicators existed to trigger an interim goodwill impairment analysis for all of our reporting units as of March 31, 2020. In the first quarter of 2020, we performed discounted cash flow analyses and $28.7 milliondetermined that the estimated fair values of restructuringLatin America reporting unit and Canada reporting unit, related, charges including employee related severance, contract terminations and other restructuring related costs. In addition to these charges, we alsowithin our North America operating segment, no longer exceeded its carrying value, resulting in an impairment of goodwill. We recognized restructuring related goodwill impairment charges of approximately $28.6 million for our Connected Fitness business which was not included our original range estimate. Inclusive of the goodwill impairment, we now expect to incur total pre-tax restructuring and related charges of approximately $140.0 to $150.0$51.6 million for the year ending Decembernine months ended September 30, 2020 for these reporting units. The goodwill impairment charge was recorded within restructuring and impairment on the unaudited consolidated statements of operations and as a reduction to the goodwill balance on the unaudited consolidated balance sheets. The goodwill impairment charges are included with our operating segments as follows: $15.4 million recorded in North America and $36.2 million recorded in Latin America for the nine months ended, September 30, 2020. There were no triggering events or goodwill impairment charges recorded for the three months ended September 30, 2020.
The determination of our reporting units' fair value includes assumptions that are subject to various risks and uncertainties. The significant estimates used in the discounted cash flow analyses, which are based on Level 3 inputs, include: our weighted average cost of capital, adjusted for the risk attributable to the geographic regions of the reporting units business, long-term rate of growth and profitability of the reporting units business, working capital effects, and changes in market conditions, consumer trends or strategy.
As of March 31, 20172020, the fair value of each of our other reporting units substantially exceeded its carrying value with the exception of our EMEA reporting unit. The fair value of our EMEA reporting unit exceeded its carrying value by 16%. Holding all other assumptions used in the fair value measurement of the EMEA reporting unit constant, a reduction in the growth rate of revenue by 1.5 percentage points or a reduction in the growth rate of net income by 2.3 percentage points would eliminate the headroom. No events occurred during the three and nine months ended September 30, 2020 that indicated it was more likely than not that goodwill was impaired for this reporting unit.
Acquisition
On March 2, 2020, we acquired, on a cash free, debt free basis, 100% of Triple Pte. Ltd. ("Triple"), a distributor of our products in Southeast Asia. The purchase price for the acquisition was $32.9 million in cash, net of $8.9 million of cash acquired that was held by Triple at closing and settlement of $5.1 million in pre-existing trade receivables due from Triple prior to the acquisition. The results of operations of this acquisition have been consolidated with our results of operations beginning on March 2, 2020.
Pending Sale of MyFitnessPal
On October 28, 2020, we entered into a Stock Purchase Agreement (the “Purchase Agreement”) to sell UA Connected Fitness, Inc. (“UACF”), a wholly-owned subsidiary, pursuant to which we will sell our MyFitnessPal business through a sale of all of the issued and outstanding shares of common stock of UACF, subject to the terms and conditions of the Purchase Agreement. The aggregate sale price is $345 million, of which $215 million is payable at the closing of the sale and up to $130 million in earnout payments which are based on the achievement of certain revenue targets over the three-year period following the closing date as set forth in the Purchase
Agreement. The purchase price is subject to working capital and other customary adjustments. The potential earnout payments include up to $35 million payable in 2022, $45 million payable in 2023 and $50 million payable in 2024. The transaction is currently expected to close during the fourth quarter of 2020, subject to applicable regulatory approvals (including the expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended) and other customary closing conditions.
General
Net revenues comprise net sales, license revenues and Connected Fitness revenues. Net sales comprise sales from our primary product categories, which are apparel, footwear and accessories. Our license revenues primarily consist of fees paid to us by our licensees in exchange for the use of our trademarks on their products. Our Connected Fitness revenues consist of digital advertising, digital fitness platform licenses and subscriptions from our Connected Fitness business.
Cost of goods sold consists primarily of product costs, inbound freight and duty costs, outbound freight costs, handling costs to make products floor-ready to customer specifications, royalty payments to endorsers based on a predetermined percentage of sales of selected products and write downs for inventory obsolescence. The fabrics in many of our products are made primarily of petroleum-based synthetic materials. Therefore our product costs, as well as our inbound and outbound freight costs, could be affected by long term pricing trends of oil. In general, as a percentage of net revenues, we expect cost of goods sold associated with our apparel and accessories to be lower than that of our footwear. A limited portion of cost of goods sold is associated with license and Connected Fitness revenues, primarily website hosting costs, and other costs related tono cost of goods sold is associated with our Connected Fitness business.license revenues.
We include outbound freight costs associated with shipping goods to customers as cost of goods sold;sold, however, we include the majority of outbound handling costs as a component of selling, general and administrative expenses. As a result, our gross profit may not be comparable to that of other companies that include outbound handling costs in their cost of goods sold. Outbound handling costs include costs associated with preparing goods to ship to customers and certain costs to operate our distribution facilities. These costs were $25.5$21.2 million and $25.7$20.8 million for the three months ended September 30, 20172020 and 2016,2019, respectively, and $74.5$61.2 million and $65.1$63.0 million for the nine months ended September 30, 20172020 and 2016,2019, respectively.
Our selling, general and administrative expenses consist of costs related to marketing, selling, product innovation and supply chain and corporate services. We consolidate our selling, general and administrative expenses into two primary categories: marketing and other. The other category is the sum of our selling, product innovation and supply chain, and corporate services categories. Personnel costs are included in these categories based on the employees’ function. Personnel costs include salaries, benefits, incentivesThe marketing category consists primarily of sports and stock-based compensation relatedbrand marketing, media, and retail presentation. Sports and brand marketing includes professional, club and collegiate sponsorship agreements, individual athlete and influencer agreements, and providing and selling products directly to team equipment managers and to individual athletes. Media includes digital, broadcast and print media outlets, including social and mobile media. Retail presentation includes sales displays and concept shops and depreciation expense specific to our employees.in-store fixture programs. Our marketing costs are an important driver of our growth. Marketing costs consist primarily of commercials, print ads, league, team, player and event sponsorships and depreciation expense specific to our in-store fixture program for our concept shops.
Other expense, net consists of unrealized and realized gains and losses on our foreign currency derivative financial instruments, and unrealized and realized gains and losses on adjustments that arise from fluctuations in foreign currency exchange rates relating to transactions generated by our international subsidiaries. We also include rent expense relating to lease assets held solely for sublet purposes, which is comprised entirely of the lease related to our New York City flagship store.
Results of Operations
The following table setstables set forth key components of our results of operations for the periods indicated, both in dollars and as a percentage of net revenues:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| Net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | $ | 3,070,901 | | | $ | 3,825,907 | |
| Cost of goods sold | 746,701 | | | 739,558 | | | 1,604,428 | | | 2,036,901 | |
| Gross profit | 686,320 | | | 689,898 | | | 1,466,473 | | | 1,789,006 | |
| Selling, general and administrative expenses | 553,549 | | | 550,978 | | | 1,586,156 | | | 1,626,309 | |
| Restructuring and impairment charges | 74,201 | | | — | | | 549,601 | | | — | |
| Income (loss) from operations | 58,570 | | | 138,920 | | | (669,284) | | | 162,697 | |
| Interest expense, net | (14,955) | | | (5,655) | | | (32,251) | | | (15,881) | |
| Other expense, net | (7,184) | | | (429) | | | (10,493) | | | (2,224) | |
| Income (loss) before income taxes | 36,431 | | | 132,836 | | | (712,028) | | | 144,592 | |
| Income tax expense (benefit) | (3,714) | | | 29,344 | | | 14,696 | | | 31,735 | |
| Loss from equity method investments | (1,199) | | | (1,177) | | | (6,906) | | | $ | (5,414) | |
| Net income (loss) | $ | 38,946 | | | $ | 102,315 | | | $ | (733,630) | | | $ | 107,443 | |
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended
September 30, |
| | 2017 | | 2016 | | 2017 | | 2016 |
| Net revenues | $ | 1,405,615 |
| | $ | 1,471,573 |
| | $ | 3,611,192 |
| | $ | 3,520,058 |
|
| Cost of goods sold | 760,265 |
| | 772,949 |
| | 1,962,172 |
| | 1,863,151 |
|
| Gross Profit | 645,350 |
| | 698,624 |
| | 1,649,020 |
| | 1,656,907 |
|
| Selling, general and administrative expenses | 498,172 |
| | 499,314 |
| | 1,495,992 |
| | 1,403,336 |
|
| Restructuring and impairment charges | 84,998 |
| | — |
| | 88,097 |
| | — |
|
| Income from operations | 62,180 |
| | 199,310 |
| | 64,931 |
| | 253,571 |
|
| Interest expense, net | (9,575 | ) | | (8,189 | ) | | (25,237 | ) | | (18,476 | ) |
| Other expense, net | (1,069 | ) | | (772 | ) | | (1,383 | ) | | (1,025 | ) |
| Income before income taxes | 51,536 |
| | 190,349 |
| | 38,311 |
| | 234,070 |
|
| Income tax expense (benefit) | (2,706 | ) | | 62,124 |
| | (1,349 | ) | | 80,322 |
|
| Net income | $ | 54,242 |
| | $ | 128,225 |
| | $ | 39,660 |
| | $ | 153,748 |
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (As a percentage of net revenues) | 2020 | | 2019 | | 2020 | | 2019 |
| Net revenues | 100.0 | % | | 100.0 | % | | 100.0 | % | | 100.0 | % |
| Cost of goods sold | 52.1 | % | | 51.7 | % | | 52.2 | % | | 53.2 | % |
| Gross profit | 47.9 | % | | 48.3 | % | | 47.8 | % | | 46.8 | % |
| Selling, general and administrative expenses | 38.6 | % | | 38.5 | % | | 51.7 | % | | 42.5 | % |
| Restructuring and impairment charges | 5.2 | % | | — | % | | 17.9 | % | | — | % |
| Income (loss) from operations | 4.1 | % | | 9.7 | % | | (21.8) | % | | 4.3 | % |
| Interest expense, net | (1.0) | % | | (0.4) | % | | (1.1) | % | | (0.4) | % |
| Other expense, net | (0.5) | % | | — | % | | (0.3) | % | | (0.1) | % |
| Income (loss) before income taxes | 2.5 | % | | 9.3 | % | | (23.2) | % | | 3.8 | % |
| Income tax expense (benefit) | (0.3) | % | | 2.1 | % | | 0.5 | % | | 0.8 | % |
| Loss from equity method investment | (0.1) | % | | (0.1) | % | | (0.2) | % | | (0.1) | % |
| Net income (loss) | 2.7 | % | | 7.2 | % | | (23.9) | % | | 2.8 | % |
|
| | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| (As a percentage of net revenues) | 2017 | | 2016 | | 2017 | | 2016 |
| Net revenues | 100.0 | % | | 100.0 | % | | 100.0 | % | | 100.0 | % |
| Cost of goods sold | 54.1 | % | | 52.5 | % | | 54.3 | % | | 52.9 | % |
| Gross profit | 45.9 | % | | 47.5 | % | | 45.7 | % | | 47.1 | % |
| Selling, general and administrative expenses | 35.4 | % | | 34.0 | % | | 41.4 | % | | 39.9 | % |
| Restructuring and impairment charges | 6.0 | % | | — | % | | 2.4 | % | | — | % |
| Income from operations | 4.4 | % | | 13.5 | % | | 1.8 | % | | 7.2 | % |
| Interest expense, net | (0.7 | )% | | (0.5 | )% | | (0.7 | )% | | (0.6 | )% |
| Other expense, net | (0.1 | )% | | (0.1 | )% | | — | % | | — | % |
| Income before income taxes | 3.7 | % | | 12.9 | % | | 1.1 | % | | 6.6 | % |
| Income tax expense (benefit) | (0.2 | )% | | 4.2 | % | | — | % | | 2.2 | % |
| Net income | 3.9 | % | | 8.7 | % | | 1.1 | % | | 4.4 | % |
Consolidated Results of Operations
Three Months Ended September 30, 20172020 Compared to Three Months Ended September 30, 20162019
Net revenues decreased$66.0increased $3.6 million, or 4.5%0.2%, to $1,405.6$1,433.0 million from $1,429.5 million in 2019. Net revenues by product category are summarized below:
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | | | |
| (In thousands) | 2020 | | 2019 | | | | |
| Apparel | $ | 927,041 | | | $ | 985,623 | | | | | |
| Footwear | 298,687 | | | 250,596 | | | | | |
| Accessories | 145,060 | | | 118,164 | | | | | |
| Net Sales | 1,370,788 | | | 1,354,383 | | | | | |
| License revenues | 25,121 | | | 29,602 | | | | | |
| Connected Fitness | 36,894 | | | 39,346 | | | | | |
| Corporate Other (1) | 218 | | | 6,125 | | | | | |
| Total net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | | | |
(1) Corporate Other consists of foreign currency hedge gains and losses related to revenues generated by entities within our geographic operating segments, but managed through our central foreign exchange risk management program.
The increase in net sales was primarily driven by unit sales growth in footwear and accessories. Footwear growth was due to strength in our run and train categories and accessories growth was driven by our sports masks, which we began selling in the second quarter of this year. This was largely offset by a unit sales decline in apparel primarily from our team sports and train categories.
License revenues decreased $4.5 million, or 15.1%, to $25.1 million from $29.6 million in 2019, primarily driven by the collectability assessment relating to one of our licensing partners in North America, in which we did not recognize revenue for the three months ended September 30, 2017 from $1,471.6 million during the same period in 2016. Net revenues by product category are summarized below:
|
| | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| Apparel | $ | 939,364 |
| | $ | 1,021,185 |
| | $ | (81,821 | ) | | (8.0 | )% |
| Footwear | 285,052 |
| | 278,891 |
| | 6,161 |
| | 2.2 | % |
| Accessories | 123,487 |
| | 121,832 |
| | 1,655 |
| | 1.4 | % |
| Total net sales | 1,347,903 |
| | 1,421,908 |
| | (74,005 | ) | | (5.2 | )% |
| License revenues | 34,324 |
| | 29,484 |
| | 4,840 |
| | 16.4 | % |
| Connected Fitness | 23,388 |
| | 20,181 |
| | 3,207 |
| | 15.9 | % |
| Total net revenues | $ | 1,405,615 |
| | $ | 1,471,573 |
| | $ | (65,958 | ) | | (4.5 | )% |
The decrease in net sales was driven primarily by:
A decline in apparel unit sales in multiple categories led by outdoor, women's training2020, and youth performance, partially offset by unit sales growth in golf and sportstyle.
License revenues increased $4.8 million, or 16.4%, to $34.3 million for the three months ended September 30, 2017 from $29.5 million during the same period in 2016 driven primarily by increaseddecreased revenue from our licensing partners in North America.
Connected Fitness revenue increased $3.2 million, or 15.9%,America due to $23.4 million forsofter demand as a result of impacts of COVID-19. Included in the three months ended September 30, 20172020 is $3.0 million of license revenues earned in the three months ended June 30, 2020 but collected in the third quarter, as we previously deemed the collection of this amount not probable.
We expect lower licensing revenue for the full year, due to significantly lower contractual royalty minimums and contract settlements in the fourth quarter of 2019.
Connected Fitness revenue decreased $2.5 million, or 6.2%, to $36.9 million from $20.2$39.3 million during the same period in 2016,2019, primarily driven by a one-time development fee from a partner in 2019, which did not repeat in 2020, and a decrease in advertising revenue, partially offset by an increase in partnershipnew subscription revenue.
Gross profit decreased $53.2$3.6 million to $645.4$686.3 million for the three months ended September 30, 2017 from $698.6$689.9 million for the same period in 2016.2019. Gross profit as a percentage of net revenues, or gross margin, decreased 16040 basis points to 45.9% for the three months ended September 30, 201747.9% compared to 47.5% during the same period48.3% in 2016. The2019. This decrease in gross margin percentage was primarily driven by the following:
•an approximate 100130 basis point decrease driven by COVID-19 related pricing and discounting impacts; and
•an approximate 20 basis point decrease driven by product mix, primarily due to inventory management strategies in North America including pricinghigher footwear sales, which carries a lower gross margin rate.
This decrease was partially offset by:
•an approximate 60 basis point increase driven by supply chain initiatives primarily related to product cost improvements; and
•an approximate 60 basis point increase driven by channel mix, primarily due to a lower percentage of off-price sales within our wholesale channel and a higher concentrationpercentage of direct-to-consumer sales, to our off price partners, which weled by e-commerce.
We expect gross margin increases from supply chain initiatives and channel mix and gross margin decreases from COVID-19 related pricing and discounting to continue for the remainder of the year;year.
approximate 50 basis pointSelling, general and administrative expenses increased$2.6 million, or 0.5%, to $553.5 million from $551.0 million in 2019. Within selling, general and administrative expenses:
•Marketing costs decreased $3.2 million to $130.7 million from $133.9 million in 2019. This decrease was primarily driven by higher air freight;
approximate 50 basis point decreasereduced rights fees for sports marketing assets and reductions in retail marketing within our wholesale channel, primarily due to impacts of COVID-19, including event cancellations and store closures. These decreases were partially offset by increased brand marketing and retail marketing within our international business representingdirect-to-consumer channel. As a higher percentage of sales,net revenues, marketing costs decreased to 9.1% from 9.4% in 2019.
•Other costs increased $5.7 million to $422.8 million from $417.1 million in 2019. This increase was driven primarily by increased charitable donations and higher legal expense, partially offset by lower incentive compensation. As a percentage of net revenues, other costs increased marginally to 29.5% from 29.2% in 2019.
As a percentage of net revenues, selling, general and administrative expenses increased marginally to 38.6% compared to 38.5% in 2019.
Restructuring and impairment charges were $74.2 million, comprised of $70.2 million of restructuring and related impairment charges and $4.0 million of long-lived asset impairment charges for the three months ended September 30, 2020. There were no restructuring and impairment charges in the three months ended September 30, 2019. Refer to the "2020 Restructuring" section above for further discussion of restructuring and related impairment charges.
Income from operations decreased $80.4 million to $58.6 million from $138.9 million in 2019, primarily driven by the restructuring and impairment charges discussed above for the three months ended September 30, 2020.
Interest expense, net increased $9.3 million to $15.0 million from $5.7 million in 2019. This increase was primarily due to the amortization of the debt discount and interest expense associated with our Convertible Senior Notes and higher interest expense related to borrowing on our revolving credit facility.
Other expense, net increased $6.8 million to $7.2 million from $0.4 million in 2019. This increase was primarily due to rent expense incurred in connection with our New York City flagship store and deal-costs related to the pending sale of MyFitnessPal.
Income tax benefit increased $33.0 million to $3.7 million from income tax expense of $29.3 million in 2019. Our effective tax rate was (10.2)% compared to 22.1% in 2019. The change in our effective tax rate was primarily driven by the proportion of earnings subject to tax in the United States as compared to foreign jurisdictions in each period and the recording of valuation allowances against the majority of 2020 losses forecasted in the United States and discrete items during the three months September 30, 2020.
Loss from equity method investment was flat at $1.2 million compared to $1.2 million in 2019. The current period reflects our allocable share of the net loss of our joint venture in Thailand, in which we acquired a minority investment beginning in March 2020. The prior year period reflects our allocable share the net loss of our Japanese licensee, in which we hold a minority interest. We did not record our allocable share of the net loss in our Japanese licensee for the three months ended September 30, 2020 as losses are not recognized in excess of the total investment. As of September 30, 2020, there was no carrying value associated with our equity investment in our Japanese licensee.
Nine Months Ended September 30, 2020 Compared to Nine Months Ended September 30, 2019
Net revenues decreased$755.0 million, or 19.7%, to $3,070.9 million from $3,825.9 million in 2019. Net revenues by product category are summarized below:
| | | | | | | | | | | | | | | |
| | Nine Months Ended September 30, | | | | |
| (In thousands) | 2020 | | 2019 | | | | |
| Apparel | $ | 1,951,186 | | | $ | 2,499,989 | | | | | |
| Footwear | 693,464 | | | 827,223 | | | | | |
| Accessories | 268,912 | | | 306,406 | | | | | |
| Net Sales | 2,913,562 | | | 3,633,618 | | | | | |
| License revenues | 51,244 | | | 76,567 | | | | | |
| Connected Fitness | 102,600 | | | 101,385 | | | | | |
| Corporate Other (1) | 3,495 | | | 14,337 | | | | | |
| Total net revenues | $ | 3,070,901 | | | $ | 3,825,907 | | | | | |
(1) Corporate Other consists of foreign currency hedge gains and losses related to revenues generated by entities within our geographic operating segments, but managed through our central foreign exchange risk management program.
The decrease in net sales was driven primarily by a decline in apparel, footwear and accessories across all categories due to decreased demand, primarily related to impacts of COVID-19 including cancellations of orders by wholesale customers, closures of brand and factory house stores and lower traffic upon store re-openings, and a unit sales decrease of off-price sales within our wholesale channel.
Although we have experienced lower traffic upon store re-openings, the overall rate of conversion has increased. We expect the lower traffic trends to continue for the remainder of the year;year. We also expect decreased off-price sales within our wholesale channel to continue for the remainder of the year.
License revenues decreased $25.3 million, or 33.1%, to $51.2 million from $76.6 million in 2019 driven primarily by decreased revenue from our licensing partners in North America and
approximate 30 basis point decrease Japan due to the write-off of inventorysofter demand as a partresult of our restructuring plan.impacts of COVID-19.
The above decreases wereWe expect lower licensing revenue for the full year, due to significantly lower contractual royalty minimums and contract settlements in the fourth quarter of 2019.
Connected Fitness revenue increased $1.2 million, or 1.2%, to $102.6 million from $101.4 million in 2019, primarily driven by an increase in new subscription revenue, partially offset by:by a decrease in advertising revenue and a one-time development fee from a partner in 2019, which did not repeat in 2020.
Gross profit decreased $322.5 millionto $1,466.5 million from $1,789.0 million in 2019. Gross profit as a percentage of net revenues, or gross margin, increased 100 basis points to 47.8% compared to 46.8% in 2019. The increase in gross margin percentage was primarily driven by the following:
•an approximate 50240 basis point increase driven by favorable product input costs;channel mix, primarily due to a lower percentage of off-price sales within our wholesale channel and a higher percentage of direct-to-consumer sales, led by e-commerce; and
•an approximate 2060 basis point increase driven by supply chain initiatives primarily related to product cost improvements.
The increase was partially offset by an approximate 190 basis point decrease driven by COVID-19 related pricing and discounting impacts.
We expect gross margin increases from supply chain initiatives and channel mix and gross margin decreases from COVID-19 related pricing and discounting to continue for the weakeningremainder of the U.S. dollar positively impacting our gross margin within our businesses outside of the United States.year.
Selling, general and administrative expenses decreased$1.140.2 million, or 2.5%,to $1,586.2 million to $498.2from $1,626.3 million for the three months ended September 30, 2017 from $499.3 million for the same period in 2016.2019. Within selling, general and administrative expense:
•Marketing costs increased $4.4decreased $21.0 million to $143.9$390.5 million from $411.5 million in 2019. This decrease was primarily driven by reduced rights fees for the three months ended September 30, 2017 from $139.5 million for the same periodsports marketing assets and reductions in 2016. This increase wasretail marketing within our wholesale channel. These decreases were primarily due to increased marketing in connection with the growthimpacts of our international business,COVID-19, including event cancellations and store closures. These decreases were partially offset by decreasedincreased brand marketing spend inand retail marketing within our North America direct-to-consumer business.channel. As a percentage of net revenues, marketing costs increased to 10.2% for the three months ended September 30, 201712.7% from 9.5% for the same period10.8% in 2016.2019.
•Other costs decreased $5.5$19.1 million to $354.3$1,195.7 million for the three months ended September 30, 2017 from $359.8$1,214.8 million for the same period in 2016.2019. This decreasewas driven primarily by the reversal oflower incentive compensation, accruals, which wasdecreased travel and entertainment, and lower depreciation mostly due to reductions in capital expenditures in prior periods. The decreases in incentive compensation and travel and entertainment were primarily due to impacts of COVID-19, including store closures and travel restrictions. These decreases were partially offset by higher personnellegal expense, an increase in allowance for doubtful account reserves, due to negative developments regarding certain customer balances that represent a higher risk of credit default, and other costs incurred for the continued expansion of our direct-to-consumer distribution channel, including increased costs related to retail stores, distribution facilities and our e-commerce business.charitable donations. As a percentage of net revenues, other costs increased to 25.2% for the three months ended September 30, 201738.9% from 24.4% for the same period31.8% in 2016.2019.
As a percentage of net revenues, selling, general and administrative expenses increased to 35.4% for the three months ended September 30, 201751.7% compared to 34.0% for the same period42.5% in 2016, primarily due to the decrease in net revenue described above.2019.
Income from operations decreased $137.1Restructuring and impairment charges were $549.6 million to $62.2 million for the three months ended September 30, 2017 from incomecomprised of $199.3 million for the same period in 2016, and as a percentage of net revenues decreased to 4.4% for the three months ended September 30, 2017 from 13.5% for the same period in 2016. Income from operations for the three months ended September 30, 2017 was negatively impacted by $85.0$410.3 million of restructuring and related impairment charges in connection with the restructuring plan.
Interest expense, net increased $1.4and $139.3 million to $9.6 million for the three months ended September 30, 2017 from $8.2 million for the same period in 2016. This increase was primarily due to an increase in borrowing on our revolving credit facility.
Other expense, net increased $0.3 million to expense of $1.1 million for the three months ended September 30, 2017 from expense of $0.8 million for the same period in 2016.
Provision for income taxes decreased $64.8 million to a benefit of $2.7 million during the three months ended September 30, 2017 from $62.1 million during the same period in 2016. For the three months ended September 30, 2017, our effective tax rate was (5.3)% compared to 32.6% for the same period in 2016. The effective tax rate for the three months ended September 30, 2017 was lower than the effective tax rate for the three months ended September 30, 2016, primarily due to challenged results in North America creating a higher proportion of international profits in 2017, partially offset by non-deductiblelong-lived asset and goodwill impairment charges (See Note 3 to our Consolidated Financial Statements) and the recording of certain valuation allowances.
Nine Months Ended September 30, 2017 Compared to Nine Months Ended September 30, 2016
Net revenues increased $91.1 million, or 2.6%, to $3,611.2 million for the nine months ended September 30, 20172020. There was no restructuring and impairment charges in the nine months ended September 30, 2019. Refer to the "2020 Restructuring" and "Long-Lived Asset and Goodwill Impairment" sections above for further discussion of restructuring and impairment charges.
Income (loss) from $3,520.1operationsdecreased $832.0 million duringto a loss of $669.3 million from income of $162.7 million in 2019, primarily driven by the same period in 2016. Net revenues by product category are summarized below:
|
| | | | | | | | | | | | | | |
| | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| Apparel | $ | 2,335,454 |
| | $ | 2,300,596 |
| | $ | 34,858 |
| | 1.5 | % |
| Footwear | 791,637 |
| | 785,843 |
| | 5,794 |
| | 0.7 | % |
| Accessories | 335,172 |
| | 302,267 |
| | 32,905 |
| | 10.9 | % |
| Total net sales | 3,462,263 |
| | 3,388,706 |
| | 73,557 |
| | 2.2 | % |
| License revenues | 83,639 |
| | 69,923 |
| | 13,716 |
| | 19.6 | % |
| Connected Fitness | 65,290 |
| | 62,179 |
| | 3,111 |
| | 5.0 | % |
| Intersegment eliminations | — |
| | (750 | ) | | 750 |
| | 100.0 | % |
| Total net revenues | $ | 3,611,192 |
| | $ | 3,520,058 |
| | $ | 91,134 |
| | 2.6 | % |
The increaserestructuring and impairment charges and the decrease in net salesrevenues discussed above.
Interest expense, net increased $16.4 million to $32.3 million from $15.9 million in 2019. This increase was driven primarily by:due to the amortization of the debt discount and interest expense associated with our Convertible Senior Notes and higher interest expense related to borrowing on our revolving credit facility.
Apparel unit sales growthOther expense, net increased $8.3 millionto $10.5 million from $2.2 million in men's training2019. This increase was primarily due to rent expense incurred in connection with our New York City flagship store and golf,deal-costs related to the pending sale of MyFitnessPal, partially offset by unit sales declineforeign exchange gains, including gain associated with the de-designation of certain derivative instruments, as a result of the impacts of COVID-19.
Income tax expense decreased$17.0 millionto $14.7 million from $31.7 million in outdoor;
Footwear unit sales growth2019. Our effective tax rate was (2.1)% compared to 21.9% in run, partially offset2019. The change in our effective tax rate was primarily driven by unit sales declinethe proportion of earnings subject to tax in basketball;the United States as compared to foreign jurisdictions in each period and
Accessories unit sales growth led by men's training.
License revenues increased $13.7 million, or 19.6%, to $83.6 million the recording of valuation allowances against the majority of 2020 losses forecasted in the United States and against all of the 2020 losses forecasted in China, and discrete items, including the recording of valuation allowances on certain previously recognized deferred tax assets in the United States and China during the nine months ended September 30, 20172020.
Loss from $69.9equity method investment increased $1.5 million during the same periodto $6.9 million from $5.4 million in 2016, driven2019. This increase was primarily by increased revenue from our licensing partners in North America.
Connected Fitness revenue increased $3.1due to a $3.7 million or 5.0%, to $65.3 million during the nine months ended September 30, 2017 from $62.2 million during the same period in 2016, primarily driven by a increases in paid subscribers and an increase in advertising and partnership revenues, partially offset by a decrease in hardware sales as we discontinued connected hardware sales as partimpairment of our restructuring plan.
Gross profit decreased $7.9 million to $1,649.0 millionequity method investment in our Japanese licensee for the nine months ended September 30, 2017 from $1,656.9 million for the same period in 2016. Gross profit as a percentage2020.
approximate 90 basis point decrease due to inventory management and pricing strategies in North America, which we expect to continue for the remainder of the year;
approximate 50 basis point decrease driven by higher air freight;
approximate 30 basis point decrease due to our international business representing a higher percentage of sales, which we expect to continue for the remainder of the year; and;
approximate 20 basis point decrease driven by the strengthening of the U.S. dollar negatively impacting our gross margins within our businesses outside of the United States.
The above decreases were partially offset by:
approximate 50 basis point increase driven by favorable sales channel mix due to higher direct to consumer sales as a percentage of total sales, which we expect to continue for the remainder of the year.
Selling, general and administrative expenses increased$92.7 million to $1,496.0 million for the nine months ended September 30, 2017 from $1,403.3 million for the same period in 2016. As a percentage of net revenues, selling, general and administrative expenses increased to 41.4% for the nine months ended September 30, 2017, compared to 39.9% for the same period in 2016. Within in selling, general and administrative expense:
Marketing costs increased $38.5 million to $408.3 million for the nine months ended September 30, 2017 from $369.8 million for the same period in 2016. This increase was primarily due to the timing of marketing expenses related to investments in our collegiate and professional athlete sponsorships and increased marketing in connection with the growth of our international business, partially offset by decreased marketing spend in our North America direct-to-consumer business. As a percentage of net revenues, marketing costs increased to 11.3% for the nine months ended September 30, 2017 from 10.5% for the same period in 2016.
Other costs increased $54.2 million to $1,087.7 million for the nine months ended September 30, 2017 from $1,033.5 million for the same period in 2016. This increase was primarily due to higher personnel and other costs incurred for the continued expansion of our direct to consumer distribution channel, which was partially offset by the reversal of incentive compensation accruals. Other costs for the nine months ended September 30, 2016 included $24.5 million of expense related to the bankruptcy and liquidation of one of our wholesale customers. As a percentage of net revenues, other costs increased to 30.1% for the nine months ended September 30, 2017, from 29.4% for the same period in 2016.
Income from operations decreased$188.7 million to $64.9 million for the nine months ended September 30, 2017 from $253.6 million for the same period in 2016, and as a percentage of net revenues decreased to 1.8% for the nine months ended September 30, 2017 from 7.2% for the same period in 2016. Income from operations for the nine months ended September 30, 2017 was negatively impacted by $88.1 million of restructuring and impairment charges in connection with the restructuring plan.
Interest expense, net increased $6.7 million to $25.2 million for the nine months ended September 30, 2017 from $18.5 million for the same period in 2016. This increase was primarily due to interest on the $600 million in Senior Notes issued in June of 2016 and an increase in borrowing on our revolving credit facility.
Other expense, net increased $0.4 million to $1.4 million for the nine months ended September 30, 2017 from$1.0 million for the same period in 2016.
Provision for income taxes decreased$81.6 million to a benefit of $1.3 million during the nine months ended September 30, 2017 from $80.3 million of expense during the same period in 2016. For the nine months ended September 30, 2017, our effective tax rate was (3.5)% compared to 34.3% for the same period in 2016. The effective tax rate for the nine months ended September 30, 2017 was lower than the effective tax rate for the nine months ended September 30, 2016, primarily due to challenged results in North America creating a higher proportion of international profits in 2017, partially offset by non-deductible goodwill impairment charges (see Note 3 to our Consolidated Financial Statements) and the recording of certain valuation allowances.
Segment Results of Operations
Our operating segments are based on how the Chief Operating Decision Maker (“CODM”) makes decisions about allocating resources and assessing performance. Our segments are defined by geographic regions, including North America, EMEA, Asia-Pacific, and Latin America. Connected Fitness is also an operating segment.
We exclude certain corporate costs from our segment profitability measures. We report these costs within Corporate Other, which is designed to provide increased transparency and comparability of our operating segments performance. Corporate Other consists largely of general and administrative expenses not allocated to an operating segment, including expenses associated with centrally managed departments such as global marketing, global IT, global supply chain, innovation and other corporate support functions; costs related to our global assets and global marketing, costs related to our headquarters; restructuring and restructuring related charges; and certain foreign currency hedge gains and losses.
The net revenues and operating income (loss) associated with our segments are summarized in the following tables. The majority of corporate expenses within North America have not been allocated to our other segments. Intersegment revenue is generated by Connected Fitness which runs advertising campaigns for other segments. Due to the individual materiality of our Asia-Pacific segment, we have separately presented our Asia-Pacific, EMEA and Latin America segments, and will no longer combine these segments for presentation purposes. Net revenues and operating income by segment presented for prior periods have been conformed to the current presentation.
Three Months Ended September 30, 20172020 Compared to Three Months Ended September 30, 20162019
Net revenues by segment and Corporate Other are summarized below:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | $ Change | | % Change |
| North America | $ | 962,565 | | | $ | 1,015,920 | | | $ | (53,355) | | | (5.3) | % |
| EMEA | 210,111 | | | 160,981 | | | 49,130 | | | 30.5 | % |
| Asia-Pacific | 178,895 | | | 154,898 | | | 23,997 | | | 15.5 | % |
| Latin America | 44,338 | | | 52,186 | | | (7,848) | | | (15.0) | % |
| Connected Fitness | 36,894 | | | 39,346 | | | (2,452) | | | (6.2) | % |
| Corporate Other (1) | 218 | | | 6,125 | | | (5,907) | | | (96.4) | % |
| Total net revenues | $ | 1,433,021 | | | $ | 1,429,456 | | | $ | 3,565 | | | 0.2 | % |
|
| | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| North America | $ | 1,077,088 |
| | $ | 1,225,188 |
| | $ | (148,100 | ) | | (12.1 | )% |
| EMEA | 127,932 |
| | 105,099 |
| | 22,833 |
| | 21.7 | % |
| Asia-Pacific | 130,320 |
| | 85,810 |
| | 44,510 |
| | 51.9 | % |
| Latin America | 46,887 |
| | 35,295 |
| | 11,592 |
| | 32.8 | % |
| Connected Fitness | 23,388 |
| | 20,181 |
| | 3,207 |
| | 15.9 | % |
| Total net revenues | $ | 1,405,615 |
| | $ | 1,471,573 |
| | $ | (65,958 | ) | | (4.5 | )% |
The decreaseincrease in total net revenues for the three months ended September 30, 2020, compared to the same period in 2019, was driven by the following:
•Net revenues in our North America operating segment decreased $148.1$53.3 million to $1,077.1$962.6 million for the three months ended September 30, 2017 from $1,225.2$1,015.9 million for the same period in 20162019. This decrease was primarily due to lowera decrease of unit sales inwithin our wholesale channel, drivenimpacted by lower demand and operational challenges.cancellations of orders by our wholesale customers due to COVID-19. This decrease was partially offset by increased unit sales within our direct-to-consumer channel, through e-commerce.
•Net revenues in our EMEA operating segment increased $22.8$49.1 million to $127.9$210.1 million for the three months ended September 30, 2017 from $105.1$161.0 million for the same period in 20162019, primarily due to increased unit sales growthwithin our wholesale and direct-to-consumer channels. Increases in our wholesale channel were impacted by a seasonal product launch shift due to wholesale partnersCOVID-19, from the second quarter to the third quarter. Increases in the United Kingdom and Germany.our direct-to-consumer channel were primarily a result of increased unit sales through e-commerce.
•Net revenues in our Asia-Pacific operating segment increased $44.5$24.0 million to $130.3$178.9 million for the three months ended September 30, 2017 from $85.8$154.9 million for the same period in 20162019, primarily due to store growth in Chinaincreased unit sales within our direct-to-consumer and South Korea.wholesale channels, partially offset by impacts of additional returns reserves and markdowns within our wholesale channel due to COVID-19.
•Net revenues in our Latin America operating segment increased $11.6decreased $7.9 million to $46.9$44.3 million from $52.2 million in 2019. This decrease was primarily due to decreased unit sales within our wholesale channel, impacted by cancellations of orders by wholesale customers due to closures of stores. This decrease was partially offset by increased unit sales within our direct-to-consumer channel, through e-commerce.
•Net revenues in our Connected Fitness operating segment decreased $2.5 million to $36.9 million from $39.3 million in 2019, primarily driven by a one-time development fee from a partner in 2019 and a decrease in advertising revenue, partially offset by an increase in new subscription revenue.
Operating income by segment and Corporate Other is summarized below:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | $ Change | | % Change |
| North America | $ | 224,593 | | | $ | 237,229 | | | $ | (12,636) | | | (5.3) | % |
| EMEA | 40,834 | | | 21,989 | | | 18,845 | | | 85.7 | % |
| Asia-Pacific | 19,248 | | | 34,666 | | | (15,418) | | | (44.5) | % |
| Latin America | 1,802 | | | 233 | | | 1,569 | | | 673.4 | % |
| Connected Fitness | 6,629 | | | 7,023 | | | (394) | | | (5.6) | % |
| Corporate Other | (234,536) | | | (162,220) | | | (72,316) | | | (44.6) | % |
| Total operating income | $ | 58,570 | | | $ | 138,920 | | | $ | (80,350) | | | (57.8) | % |
The decrease in total operating income for the three months ended September 30, 2017 from $35.3 million for2020, compared to the same period in 20162019, was driven by the following:
Operating segments
•Operating income in our North America operating segment decreased $12.6 million to $224.6 million from $237.2 million in 2019, primarily driven by decreases in net revenues discussed above, partially offset by product cost improvements.
•Operating income in our EMEA operating segment increased $18.8 millionto $40.8 million from $22.0 million in 2019, primarily driven by increases in net revenues discussed above and the related gross margin benefits due to channel mix, partially offset by increased distribution and selling costs in connection with increased e-commerce sales.
•Operating income in our Asia-Pacific operating segment decreased$15.4 million to $19.2 million from $34.7 million in 2019, primarily driven by gross margin decreases due to COVID-19 related pricing and discounting impacts and increased selling, distribution and facilities costs in connection with increased direct-to-consumer sales, partially offset by increases in net revenues discussed above.
•Operating income in our Latin America operating segment increased $1.6 million to $1.8 million from $0.2 million in 2019, primarily driven by gross margin benefits due to channel mix, decreased marketing related activities and compensation expense, partially offset by decreases in net revenues discussed above.
•Operating income in our Connected Fitness segment decreased $0.4 million to $6.6 million from $7.0 million in 2019, primarily driven by the decrease in net revenues discussed above partially offset by decreased compensation expense.
Non-operating segment
•Operating loss in our Corporate Other non-operating segment increased $72.3 million to $234.5 million compared to $162.2 million in 2019, primarily driven by $70.2 million of restructuring and related impairment charges related to the 2020 restructuring plan and higher legal expense, partially offset by lower incentive compensation.
Nine Months Ended September 30, 2020 Compared to Nine Months Ended September 30, 2019
Net revenues by segment are summarized below:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | $ Change | | % Change |
| North America | $ | 2,021,247 | | | $ | 2,675,389 | | | $ | (654,142) | | | (24.5) | % |
| EMEA | 437,140 | | | 440,405 | | | (3,265) | | | (0.7) | % |
| Asia-Pacific | 397,846 | | | 453,296 | | | (55,450) | | | (12.2) | % |
| Latin America | 108,573 | | | 141,095 | | | (32,522) | | | (23.0) | % |
| Connected Fitness | 102,600 | | | 101,385 | | | 1,215 | | | 1.2 | % |
| Corporate Other (1) | 3,495 | | | 14,337 | | | (10,842) | | | (75.6) | % |
| Total net revenues | $ | 3,070,901 | | | $ | 3,825,907 | | | $ | (755,006) | | | (19.7) | % |
(1) Corporate Other consists of foreign currency hedge gains and losses related to revenues generated by entities within our geographic operating segments, but managed through our central foreign exchange risk management program.
The decrease in total net revenues for the nine months ended September 30, 2020, compared to the same period in 2019, was driven by the following:
•Net revenues in our North America operating segment decreased $654.2 million to $2,021.2 million from $2,675.4 million in 2019. This decrease was primarily due to a decrease of unit sales growth inwithin our wholesale and direct-to-consumer channelschannels. Decreases in Brazilour wholesale channel were impacted by cancellations of orders by our wholesale customers due to COVID-19 and Mexico.decreased unit sales to off-price customers. Decreases in our direct-to-consumer channel were impacted by closures of our brand and factory house stores and lower traffic upon store re-openings, partially offset by increased unit sales through e-commerce.
•Net revenues in our EMEA operating segment decreased $3.3 million to $437.1 million from $440.4 million in 2019, primarily due to decreased unit sales within our wholesale channel, which was impacted by cancellations of orders by wholesale customers due to closures of stores. This decrease was partially offset by increased unit sales within our direct-to-consumer channel, through e-commerce.
•Net revenues in our Asia-Pacific operating segment decreased $55.5 millionto $397.8 million from $453.3 million in 2019, primarily due to decreased unit sales, impacted by cancellations of orders by wholesale customers due to closures of stores and impacts of additional returns reserves and markdowns within our wholesale channel, due to COVID-19. This decrease was partially offset by increased unit sales within our direct-to-consumer channel, led by e-commerce.
•Net revenues in our Latin America operating segment decreased $32.5 million to $108.6 million from $141.1 million in 2019. This decrease was primarily due to decreased unit sales within our wholesale and direct-to-consumer channels. Decreases in our wholesale channel were impacted by cancellations of orders by wholesale customers due to closures of stores. Decreases in our direct-to-consumer channel were impacted by closures of our brand and factory house stores, partially offset by increased unit sales through e-commerce.
•Net revenues in our Connected Fitness operating segment increased $3.2$1.2 million to $23.4$102.6 million from $20.2$101.4 million for the same period in 20162019 primarily driven by an increase in partnership revenue.new subscription revenue, partially offset by a decrease in advertising revenue and a one-time development fee from a partner in 2019.
Operating income (loss) by segment is summarized below:
| | | | | | | | | | | | | | | | | | | | | | | |
| | Nine Months Ended September 30, |
| (In thousands) | 2020 | | 2019 | | $ Change | | % Change |
| North America | $ | 251,579 | | | $ | 536,700 | | | $ | (285,121) | | | (53.1) | % |
| EMEA | 43,840 | | | 44,700 | | | (860) | | | (1.9) | % |
| Asia-Pacific | (30,040) | | | 74,116 | | | (104,156) | | | (140.5) | % |
| Latin America | (50,756) | | | (4,017) | | | (46,739) | | | (1,163.5) | % |
| Connected Fitness | 14,020 | | | 8,103 | | | 5,917 | | | 73.0 | % |
| Corporate Other | (897,927) | | | (496,905) | | | (401,022) | | | (80.7) | % |
| Total operating income (loss) | $ | (669,284) | | | $ | 162,697 | | | $ | (831,981) | | | (511.4) | % |
|
| | | | | | | | | | | | | | |
| | Three Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| North America | $ | 65,827 |
| | $ | 182,840 |
| | $ | (117,013 | ) | | (64.0 | )% |
| EMEA | 16,977 |
| | 8,383 |
| | 8,594 |
| | 102.5 | % |
| Asia-Pacific | 34,173 |
| | 27,151 |
| | 7,022 |
| | 25.9 | % |
| Latin America | (10,223 | ) | | (10,550 | ) | | 327 |
| | 3.1 | % |
| Connected Fitness | (44,574 | ) | | (8,514 | ) | | (36,060 | ) | | (423.5 | )% |
| Total operating income | $ | 62,180 |
| | $ | 199,310 |
| | $ | (137,130 | ) | | (68.8 | )% |
The decrease in total operating income, to a loss for the nine months ended September 30, 2020, compared to income for the same period in 2019, was driven by the following:
•Operating income in our North America operating segment decreased $117.0$285.1 million to $65.8$251.6 million operating income for the three months ended September 30, 2017 from $182.8$536.7 million for the same period in 20162019 primarily due to thedriven by decreases in net revenues discussed above, $43.4 million of long-lived asset impairment and $15.3 million of goodwill impairment, related to our business in Canada, an increase in allowance for doubtful account reserves and higher selling costs in connection with increased e-commerce sales, andpartially offset by gross margin discussed above in the Consolidated Results of Operationsbenefits due to channel mix, decreased wages due to store closures and $31.0 million in restructuring and impairment charges.decreased marketing related activities.
•Operating income in our EMEA operating segment decreased $0.9 millionto $43.8 million from $44.7 million in 2019 primarily driven by increased $8.6 milliondistribution and selling costs in connection with increased e-commerce sales and decreases in net revenues discussed above, partially offset by gross margin benefits due to $17.0 million for the three months ended September 30, 2017 from $8.4 million for the same period in 2016 primarily due the sales growth discussed above.channel mix and decreased marketing related activities.
•Operating income in our Asia-Pacific operating segment increased$7.0decreased $104.1 millionto a loss of $30.0 million to $34.2from income of $74.1 million for the three months ended September 30, 2017 from $27.2in 2019 primarily driven by decreases in net revenues discussed above and $25.5 million for the same periodof long-lived asset impairment and increased selling, distribution and facilities costs in 2016 primarily due to the sales growth discussed above. This increase was offset by investments in our direct to consumer business and entry into new territories.
connection with increased direct-to-consumer sales.•Operating loss in our Latin America operating segment decreased $0.3increased $46.8 million to $10.2$50.8 million for the three months ended September 30, 2017 from $10.6$4.0 million for the same period in 20162019 primarily due to the sales growthdriven by $36.2 million of goodwill impairment charges and $12.8 million of long-lived asset impairment and decreases in net revenues discussed above, partially offset by $6.0 million in restructuringgross margin benefits due to channel mix and impairment chargesdecreased marketing related activities.
•Operating lossincome in our Connected Fitness segment increased $36.1 million to $44.6 million for the three months ended September 30, 2017 from $8.5 million for the same period in 2016 primarily due to $47.8 million in restructuring and impairment charges.
Nine Months Ended September 30, 2017 Compared to Nine Months Ended September 30, 2016
Net revenues by segment are summarized below:
|
| | | | | | | | | | | | | | |
| | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| North America | $ | 2,778,165 |
| | $ | 2,932,915 |
| | $ | (154,750 | ) | | (5.3 | )% |
| EMEA | 334,683 |
| | 237,559 |
| | 97,124 |
| | 40.9 | % |
| Asia-Pacific | 309,712 |
| | 188,985 |
| | 120,727 |
| | 63.9 | % |
| Latin America | 123,342 |
| | 99,170 |
| | 24,172 |
| | 24.4 | % |
| Connected Fitness | 65,290 |
| | 62,179 |
| | 3,111 |
| | 5.0 | % |
| Intersegment eliminations | — |
| | (750 | ) | | 750 |
| | 100.0 | % |
| Total net revenues | $ | 3,611,192 |
| | $ | 3,520,058 |
| | $ | 91,134 |
| | 2.6 | % |
The increase in total net revenues was driven by the following:
Net revenues in our North America operating segment decreased $154.8 millionto $2,778.2 million for the nine months ended September 30, 2017 from $2,932.9 million for the same period in 2016 primarily due to lower sales in our wholesale channel driven by lower demand and operational challenges.
Net revenues in our EMEA operating segment increased $97.1 million to $334.7 million for the nine months ended September 30, 2017 from $237.6 million for the same period in 2016 primarily due to unit sales growth to wholesale partners in the United Kingdom and Germany.
Net revenues in our Asia-Pacific operating segment increased $120.7 million to $309.7 million for the nine months ended September 30, 2017 from $189.0 million for the same period in 2016 primarily due to store growth in China and South Korea.
Net revenues in our Latin America operating segment increased $24.2 million to $123.3 million for the nine months ended September 30, 2017 from $99.2 million for the same period in 2016 primarily due to unit sales growth to wholesale partners and through our direct to consumer channels in Mexico, Chile, and Brazil.
Net revenues in our Connected Fitness operating segment increased $3.1 million to $65.3 million for the nine months ended September 30, 2017 from $62.2 million for the same period in 2016 primarily driven by a increases in paid subscribers and an increase in advertising and partnership revenues partially offset by a decrease in hardware sales.
Operating income (loss) by segment is summarized below: |
| | | | | | | | | | | | | | |
| | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | | $ Change | | % Change |
| North America | $ | 64,124 |
| | $ | 251,084 |
| | $ | (186,960 | ) | | (74.5 | )% |
| EMEA | 13,990 |
| | 8,348 |
| | 5,642 |
| | 67.6 | % |
| Asia-Pacific | 69,050 |
| | 54,399 |
| | 14,651 |
| | 26.9 | % |
| Latin America | (26,175 | ) | | (27,751 | ) | | 1,576 |
| | 5.7 | % |
| Connected Fitness | (56,058 | ) | | (32,509 | ) | | (23,549 | ) | | (72.4 | )% |
| Total operating income | $ | 64,931 |
| | $ | 253,571 |
| | $ | (188,640 | ) | | (74.4 | )% |
The decrease in total operating income was driven by the following:
Operating income in our North America operating segment decreased $187.0 million to $64.1 million for the nine months ended September 30, 2017 from $251.1 million for the same period in 2016 primarily due to the decreases in net sales and gross margin discussed above in the Consolidated Results of Operations and $33.6 million in restructuring and impairment charges. Operating income in our North America operating segment for the nine months ended September 30, 2016 was negatively impacted by $24.5 million of expense related to the liquidation of one of our wholesale customers.
Operating income in our EMEA operating segment increased $5.6$5.9 million to $14.0 million forfrom $8.1 million in 2019 primarily driven by decreased compensation expense and the nine months ended September 30, 2017 from $8.3 million for the same periodincrease in 2016 primarily due sales growthnet revenues discussed above, which was partially offset by costs related to a distributor termination.above.
Operating income in our Asia-Pacific operatingNon-operating segment increased$14.7 millionto $69.1 million for the nine months ended September 30, 2017 from $54.4 million for the same period in 2016 primarily due to the sales growth discussed above. This increase was offset by investments in our direct to consumer business and entry into new territories.
•Operating loss in our Latin America operatingCorporate Other non-operating segment decreased $1.6increased $401.0 million to $26.2$897.9 million for the nine months ended September 30, 2017 from $27.8compared to $496.9 million for the same period in 20162019, primarily duedriven by $410.3 million of restructuring and related impairment charges related to the sales growth discussed above2020 restructuring plan and higher legal expense, partially offset by $6.5 million in restructuring and impairment charges.lower incentive compensation.
Operating loss in our Connected Fitness segment increased $23.5 million to $56.1 million for the nine months ended September 30, 2017 from $32.5 million for the same period in 2016 primarily due to $47.8 million in restructuring and impairment charges.
Seasonality
Historically, we have recognized a majority of our net revenues and a significant portion of our income from operations in the last two quarters of the year, driven primarily by increased sales volume of our products during the fall selling season, including our higher priced cold weather products, along with a larger proportion of higher margin direct to consumer sales. The level of our working capital generally reflects the seasonality and growth in our business.
Financial Position, Capital Resources and Liquidity
Our cash requirements have principally been for working capital and capital expenditures. We fund our working capital, primarily inventory, and capital investments from cash flows from operating activities, cash and cash equivalents on hand, and borrowings available under our credit and long term debt facilities. Our working capital requirements generally reflect the seasonality and growth in our business as we historically recognize the majority of our net revenues in the last two quarters of the year. Our capital investments have generally included expanding our in-store fixture and branded concept shop program, improvements and expansion of our distribution and corporate facilities, to support our growth, leasehold improvements to our brand and factory house stores, and investment and improvements in information technology systems.
Our inventory strategy is focused on continuing to meet consumer demand while improving our inventory efficiency over the long term by putting systems and processes in place to improve our inventory management. These systems and processes are designed to improve our forecasting and supply planning capabilities. In addition to systems and processes, key areas of focus that we believe will enhance inventory performance are added discipline around the purchasing of product, production lead time reduction, and better planning and execution in selling of excess inventory through our factory house stores and other liquidation channels. In response to the COVID-19 pandemic, however, we have reduced our inventory purchases and capital expenditures as we manage our liquidity and working capital through this period.
We believe our cash and cash equivalents on hand, cash from operations, our ability to access the debt capital markets andreduce our expenditures as needed, borrowings available to us under our amended credit agreement, our ability to access the capital markets, and other financing instrumentsalternatives are adequate to
meet our liquidity needs and capital expenditure requirements for at least the next twelve months. During the fiscal year ended December 31, 2019, our liquidity needs were primarily funded through cash from operations. During the first quarter of 2019, we borrowed $25 million under our revolving credit facility and repaid those amounts during the same quarter. Our prior credit agreement remained undrawn for the remainder of 2019. However, during the six months ended June 30, 2020, our cash generated from operations was negatively impacted due to widespread temporary store closures as a result of the COVID-19 pandemic. As of September 30, 2017,the start of the second quarter, we had $1.0 billionborrowed $700 million under our revolving credit facility as a precautionary measure in order to increase our cash position and preserve liquidity given the upcoming uncertainty in global markets resulting from the COVID-19 outbreak. In May 2020, we issued $500 million of remaining availabilityconvertible senior notes through a securities offering and utilized approximately $440 million of the net proceeds from the offering to repay amounts outstanding under our revolving credit facility.
Due to the negative impacts of the COVID-19 pandemic, we supplemented our cash from operations with additional sources of liquidity during 2020, including the issuance of convertible senior notes and borrowings from time to time under our revolving credit facility. AlthoughBeginning with the third quarter of 2020, we believeare required to maintain a specified amount of "minimum liquidity" under the terms of our revolving credit facility. Our credit agreement limits our ability to incur additional indebtedness. We currently expect to be able to comply with these requirements without pursuing additional sources of financing to support our liquidity over the next twelve months. However, if we have adequateneed to raise or conserve additional cash to fund our operations or satisfy this requirement, we may consider additional alternatives, including further reducing our expenditures, including reductions to our discretionary spending and changes to our investment strategies, negotiating payment terms with our customers and vendors,
reductions in compensation costs, including through temporary reductions in pay and layoffs, and limiting certain marketing and capital expenditures. In addition, we may seek alternative sources of liquidity, overincluding but not limited to accessing the long term, an economic recessioncapital markets, sale leaseback transactions or a slow recovery could adversely affect our business and liquidity. In addition,other sales of assets, or other alternative financing measures. However, instability in, or tightening of the capital markets, could adversely affect our ability to obtain additionalaccess the capital to grow our businessmarkets on terms acceptable to us or at all. Although we believe we have adequate sources of liquidity over the long term, a prolonged or more severe economic recession or a slow recovery could adversely affect our business and liquidity.
Refer to our “Risk Factors” section included in Part II, Item 1A of this Quarterly Report on Form 10-Q for a further discussion of risks related to our indebtedness.
As discussed in the "Overview", as we navigate these unprecedented circumstances, we are focused on preserving our liquidity and managing our cash flows through certain preemptive actions designed to enhance our ability to meet our short-term liquidity needs. These actions include those noted above. In addition, from time to time we may take action to manage liquidity as of the end of a quarterly period, including our level of indebtedness or cash on hand. For example, some of our customers have delayed payments in connection with COVID-19 as they manage their own cash balances, and we have also delayed payments as well. Furthermore, our revolving credit agreement includes leverage and minimum liquidity covenants that apply from time to time. We may repay indebtedness as of the end of a fiscal quarter and reborrow amounts immediately after or take other action to manage liquidity in connection with these requirements. We are also continuing to evaluate benefits that may be available to us under global legislation and the CARES Act.
Cash Flows
The following table presents the major components of net cash flows provided by and used in operating, investing and financing activities for the periods presented:
| | | | Nine Months Ended September 30, | | Nine Months Ended September 30, |
| (In thousands) | 2017 | | 2016 | (In thousands) | 2020 | | 2019 |
| Net cash provided by (used in): | | | | Net cash provided by (used in): | |
| Operating activities | $ | (29,193 | ) | | $ | (36,033 | ) | Operating activities | $ | (249,707) | | | $ | 102,468 | |
| Investing activities | (227,572 | ) | | (316,042 | ) | Investing activities | (110,487) | | | (107,040) | |
| Financing activities | 256,881 |
| | 402,273 |
| Financing activities | 436,323 | | | (138,692) | |
| Effect of exchange rate changes on cash and cash equivalents | 7,416 |
| | (96 | ) | Effect of exchange rate changes on cash and cash equivalents | 2,398 | | | 4,809 | |
| Net increase in cash and cash equivalents | $ | 7,532 |
| | $ | 50,102 |
| |
| Net increase (decrease) in cash and cash equivalents | | Net increase (decrease) in cash and cash equivalents | $ | 78,527 | | | $ | (138,455) | |
Operating Activities
Operating activities consist primarily of net income (loss) adjusted for certain non-cash items. Adjustments to net income for non-cash items include depreciation and amortization, unrealized foreign currency exchange rate gains and losses, losses on disposals of property and equipment, impairment charges, stock-based compensation, excess tax benefits from stock-based compensation arrangements, deferred income taxes and changes in reserves and allowances. In addition, operating cash flows include the effect of changes in operating assets and liabilities, principally inventories, accounts receivable, income taxes payable and receivable, prepaid expenses and other assets, accounts payable and accrued expenses.
Cash used in operating activities decreased $6.8increased $352.2 million to $29.2$249.7 million for the nine months ended September 30, 20172020 from $36.0cash provided by operating activities of $102.5 million duringfor the same period in 2016.2019. The decreaseincrease in cash used in operating activities was due to a decreaseprimarily driven by the following:
•an increase in net cash outflows from operating assets and liabilitiesloss of $42.7$423.5 million, offset by an decrease in net income adjusted forof non-cash items of $35.9 million. The decrease in cash outflows$417.6 million, which includes restructuring related to changes in operating assetsimpairment and liabilities period over period was primarily driven by:long-lived and goodwill impairment;
an increase in the•a change in accounts receivable of $204.1other non current assets, increasing by $294.1 million infor the current periodnine months ended September 30, 2020 as compared to the priorsame period in 2019, primarily due to the timingoperating lease ROU asset associated with lease commencement of cash collections from new customers;the space originally planned to be our New York City flagship store; and
•a change in inventory, increasing by $283.3 million for the nine months ended September 30, 2020 as compared to the same period in 2019.
This was partially offset byby:
•a decreasechange in income taxescash provided by accrued expenses and other liabilities, increasing by $354.2 million for the nine months ended September 30, 2020 as compared to the same period in 2019, primarily due to the operating lease liability associated with the lease commencement of the space originally planned to be our New York City flagship store;
•a change in cash provided by accounts payable, increasing by $85.3 million for the nine months ended September 30, 2020 as compared to the same period in 2019; and
•a change in cash provided by accounts receivable, of $127.2increasing by $81.7 million and a decreasefor the nine months ended September 30, 2020 as compared to the same period in inventories of $57.2 million.2019.
Investing Activities
Cash used in investing activities decreased $88.4increased $3.4 million to $227.6$110.5 million for the nine months ended September 30, 20172020 from $316.0$107.0 million for the same period in 2016,2019, primarily due to the acquisition of Triple, a distributor of our products in Southeast Asia, partially offset by lower capital expenditures.expenditures for the nine months ended September 30, 2020 as compared to the same period in 2019.
Capital expenditures for the full year 20172020 are expected to be approximately $300.0$80 million, compared to $144.3 million in 2019. In response to the COVID-19 pandemic and the related impact on our results from operations, we have taken action to reduce our capital expenditures during 2020, through reductions and delays of expenditures related to global retail, including owned and operated retail stores and wholesale fixtures, as well as certain planned investments in our corporate offices. Capital expenditures in 2020 are comprised primarily of investments in our distribution centersretail stores, global wholesale fixtures, digital initiatives and retail stores.corporate offices.
Financing Activities
Cash provided by financing activities decreasedincreased$145.4575.0 million to $256.9$436.3 million for the nine months ended September 30, 20172020 from $402.3$138.7 million forof cash used in financing activities during the same period in 2016. This decrease was2019, primarily due to lower borrowings on our revolving credit facility.the issuance of Convertible Senior Notes.
Capital Resources
Credit Facility
We are partyIn May 2020, we entered into an amendment to athe amended and restated credit agreement, thatdated as of March 8, 2019, by and among the Company, as borrower, JPMorgan Chase Bank, N.A., as administrative agent, and the other lenders and arrangers party thereto (the "prior credit agreement" as amended by the amendment, the “amended credit agreement” or "the revolving credit facility"). As described below, the amended credit agreement provides us with certain relief from and revisions to from our financial covenants for specified periods, which we expect to provide us with sufficient access to liquidity during the ongoing disruption related to the COVID-19 pandemic.
The amended credit agreement has a term of five years, maturing in March 2024, with permitted extensions under certain circumstances, and provides revolving credit commitments forof up to $1.25$1.1 billion of borrowings, a reduction from the $1.25 billion of commitments under the prior credit agreement. During the three months ended September 30, 2020, we repaid $250 million of borrowings under the revolving credit facility, which we had borrowed as well as term loan commitments,a precautionary measure in each case maturingorder to increase our cash position and preserve liquidity given the ongoing uncertainty in January 2021.global markets resulting from the COVID-19 pandemic. As of September 30, 2017,2020, December 31, 2019 and September 30, 2019, there was $270.0 millionwere no amounts outstanding under the revolving credit facility and $167.5 million of term loan borrowings outstanding.facility.
AtExcept during the covenant suspension period (as defined below), at our request and the lender's consent, revolving and or term loan borrowingscommitments under the amended credit agreement may be increased by up to $300.0 million in aggregate, subject to certain conditions as set forth in the amended credit agreement, as amended.agreement. Incremental borrowings are uncommitted and the availability thereof will depend on market conditions at the time we seek to incur such borrowings.
The borrowingsBorrowings under the revolving credit facility have maturities of less than one year. Up to $50.0 million of the facility may be used for the issuance of letters of credit. There were $4.6$15.5 million, $5.0 million and $5.1 million of letters of credit outstanding as of September 30, 2017.2020, December 31, 2019 and September 30, 2019, respectively.
Our obligations under the amended credit agreement, which under the prior credit agreement were unsecured and not guaranteed by subsidiaries, are guaranteed by certain domestic significant subsidiaries of the Company, subject to customary exceptions (the “subsidiary guarantors”) and primarily secured by a first-priority
security interest in substantially all of the assets of the Company and the subsidiary guarantors, excluding real property, capital stock in and debt of our subsidiaries holding certain real property and other customary exceptions.
The credit agreement contains negative covenants that, subject to significant exceptions, limit our ability to, among other things, incur additional secured and unsecured indebtedness, make restricted payments, pledge our assets as security, make investments, loans, advances, guarantees and acquisitions, (including investments in and loans to non-guarantor subsidiaries), undergo fundamental changes, andsell our assets outside the ordinary course of business, enter into transactions with affiliates. affiliates and make restricted payments (including a temporary suspension of certain voluntary restricted payments during the covenant suspension period (as defined below)).
We are also required to comply with specific consolidated leverage and interest coverage ratios during specified periods. Under the prior credit agreement, we were required to maintain a ratio of consolidated EBITDA, as defined in the credit agreement, to consolidated interest expense of not less than 3.50 to 1.001.0 (the “interest coverage covenant”), and we arewere not permitted to allow the ratio of consolidated total indebtedness to consolidated EBITDA to be greater than 3.25 to 1.00 ("consolidated leverage ratio"1.0 (the “leverage covenant”)., as described in more detail in the prior credit agreement. The method of calculating these ratios is set forth in ouramended credit agreement provides for suspensions of and differs from how rating agenciesadjustments to the leverage covenant (including definitional changes impacting the calculation of the ratio and the interest coverage covenant beginning with the quarter ended September 30, 2020, and ending on the date on which financial statements for the quarter ended June 30, 2022 are delivered to lenders under the amended credit agreement (the “covenant suspension period”) as summarized below and described in more detail in the amended credit agreement:
•For the fiscal quarter ended June 30, 2020, the interest coverage covenant was suspended and the leverage covenant required that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or other companies may calculate similar measures. equal to 4.5 to 1.0.
•For the fiscal quarters ending September 30, 2020, December 31, 2020, March 31, 2021 and June 30, 2021, compliance with the interest coverage covenant and the leverage covenant are both suspended. Beginning on September 30, 2020 through and including December 31, 2021, we must instead maintain minimum liquidity of $550.0 million (the “liquidity covenant”) (with liquidity being the sum of certain cash and cash equivalents held by the Company and its subsidiaries and available borrowing capacity under the amended credit agreement).
•For the fiscal quarter ending September 30, 2021, the interest coverage covenant is suspended, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 4.5 to 1.0 and we must comply with the liquidity covenant.
•For the fiscal quarter ending December 31, 2021, the interest coverage covenant is suspended, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 4.0 to 1.0 and we must comply with the liquidity covenant.
•Beginning on January 1, 2022, the liquidity covenant is terminated. For the fiscal quarter ending March 31, 2022, the leverage covenant will require that the ratio of consolidated total indebtedness to consolidated EBITDA be less than or equal to 3.5 to 1.0 and the interest coverage covenant will require that the ratio of consolidated EBITDA to consolidated interest expense be greater than or equal to 3.5 to 1.0.
As of SeptemberJune 30, 2017,2020, we were in compliance with these ratios. the applicable covenants.
In addition, the amended credit agreement contains events of default that are customary for a facility of this nature and similar to the prior cred agreement, and includes a cross default provision whereby an event of default under other material indebtedness, as defined in the amended credit agreement, will be considered an event of default under the amended credit agreement.
BorrowingsDuring the covenant suspension period, the applicable margin for loans will be 2.00% for adjusted LIBOR loans and 1.00% for alternate base rate loans. Otherwise, borrowings under the credit agreement bear interest at a rate per annum equal to, at our option, either (a) an alternate base rate, or (b) a rate based on the rates applicable for deposits in the interbank market for U.S. Dollars or the applicable currency in which the loans are made (“adjusted LIBOR”), plus in each case an applicable margin. The applicable margin for loans will be adjusted by reference to a grid (the “Pricing Grid”“pricing grid”) based on the consolidated leverage ratio and ranges between 1.00%1.25% to 1.25%1.75% for adjusted LIBOR loans and 0.00%0.25% to 0.25%0.75% for alternate base rate loans. The weighted average interest ratesrate under the outstanding term loans and revolving credit facility borrowings were 2.4%was 2.1% during the three months ended September 30, 2020, and 2.2% during2.3% and 3.6% for the nine months ended September 30, 20172020 and 2016,2019, respectively. WeDuring the covenant suspension period, the commitment fee rate will be 0.40% per annum. Otherwise, we pay a commitment fee determined in accordance with the pricing grid on the average daily unused amount of the revolving credit facility
and certain fees with respect to letters of credit. As of September 30, 2017,2020, the commitment fee was 15.0 basis points. We incurred and deferred $7.2 million in financing costs in connection with the amended credit agreement.
1.50% Convertible Senior Notes
In May 2020, we issued $500.0 million aggregate principal amount of 1.50% convertible senior notes due 2024 (the “Convertible Senior Notes”). The Convertible Senior Notes bear interest at the rate of 1.50% per annum, payable semiannually in arrears on June 1 and December 1 of each year, beginning December 1, 2020. The Convertible Senior Notes will mature on June 1, 2024, unless earlier converted in accordance with their terms, redeemed in accordance with their terms or repurchased.
The net proceeds from the offering (including the net proceeds from the exercise of the over-allotment option) were $488.8 million, after deducting the initial purchasers’ discount and estimated offering expenses paid by us, of which we used approximately $47.9 million to pay the cost of the capped call transactions described below. We utilized $439.9 million to repay indebtedness outstanding under our revolving credit facility and pay related fees and expenses.
The Convertible Senior Notes are not secured and are not guaranteed by any of our subsidiaries. The indenture governing the Convertible Senior Notes does not contain any financial or operating covenants or restrictions on the payments of dividends, the incurrence of indebtedness or the issuance or repurchase of securities by us or any of our subsidiaries.
Prior to the close of business on the business day immediately preceding January 1, 2024, the Convertible Senior Notes will be convertible only upon satisfaction of certain conditions and during certain periods. On or after January 1, 2024, at any time until the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert all or any portion of their Convertible Senior Notes. The initial conversion rate is 101.8589 shares of our Class C common stock per $1,000 principal amount of Convertible Senior Notes (equivalent to an initial conversion price of approximately $9.82 per share of Class C common stock), subject to adjustment if certain events occur.
On or after December 6, 2022, we may redeem for cash all or any part of the Convertible Senior Notes, at our option, if the last reported sale price of our Class C 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 (including the last trading day of such period) ending on, and including, the trading day immediately preceding the date on which we provide notice of redemption at a redemption price equal to 100% of the aggregate principal amount of the Convertible Senior Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date.
If we undergo a fundamental change (as defined in the indenture governing the Convertible Senior Notes) prior to the maturity date, subject to certain conditions, holders may require us to repurchase for cash all or any portion of their Convertible Senior Notes in principal amounts of $1,000 or an integral multiple thereof at a price which will be equal to 100% of the aggregate principal amount of the Convertible Senior Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date.
Concurrently with the offering of the Convertible Senior Notes, we entered into privately negotiated capped call transactions with JPMorgan Chase Bank, National Association, HSBC Bank USA, National Association and Citibank, N.A. (the “option counterparties”). The capped call transactions are expected generally to reduce potential dilution to our Class C common stock upon any conversion of Convertible Senior Notes and/or offset any cash payments we are required to make in excess of the aggregate principal amount of converted Convertible Senior Notes upon any conversion thereof, as the case may be, with such reduction and/or offset subject to a cap based on an initial cap price of $13.4750 per share of our Class C common stock, subject to certain adjustments under the terms of the capped call transactions.
The Convertible Senior Notes contain a cash conversion feature, and as a result, we have separated it into liability and equity components. We valued the liability component based on our borrowing rate for a similar debt instrument that does not contain a conversion feature. The equity component, which is recognized as a debt discount, was valued as the difference between the face value of the Convertible Senior Notes and the fair value of the liability component.
3.250% Senior Notes
In June 2016, we issued $600.0 million aggregate principal amount of 3.250% senior unsecured notes due June 15, 2026 (the “Notes”“Senior Notes”). The proceeds were used to pay down amounts outstanding under the revolving credit facility. Interest is payable semi-annually on June 15 and December 15 beginning December 15,
2016. Prior to March 15, 2026 (three months prior to the maturity date of the Notes), we may redeem some or all of the Senior Notes at any time or from time to time at a redemption price equal to the greater of 100% of the principal amount of the Senior Notes to be redeemed or a “make-whole”"make-whole" amount applicable to such Senior Notes as described in the indenture governing the Senior Notes, plus accrued and unpaid interest to, but excluding, the redemption date. On or after March 15, 2026 (three months prior to the maturity date of the Notes), we may redeem some or all of the Notes at any time or from time to time at a redemption price equal to 100% of the principal amount of the Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date.
The indenture governing the Senior Notes contains covenants, including limitations that restrict our ability and the ability of certain of our subsidiaries to create or incur secured indebtedness and enter into sale and leaseback transactions and our ability to consolidate, merge or transfer all or substantially all of our properties or assets to another person, in each case subject to material exceptions described in the indenture.
Other Long Term Debt
In December 2012, we entered into a $50.0 million recourse loan collateralized by the land, buildings and tenant improvements comprising our corporate headquarters. The loan has a seven year term and maturity date of December 2019. The loan bears interest at one month LIBOR plus a margin of 1.50%, and allows for prepayment without penalty. The loan includes covenants and events of default substantially consistent with our credit agreement discussed above. The loan also requires prior approval of the lender for certain matters related to the property, including transfers of any interest in the property. As of September 30, 2017, December 31, 2016 and September 30, 2016, the outstanding balance on the loan was $40.5 million, $42.0 million and $42.5 million, respectively. The weighted average interest rate on the loan was 2.7% and 2.5% for the three and nine months ended September 30, 2017, respectively.Interest Expense
Interest expense, net, was $9.6$15.0 million and $8.2$5.7 million for the three months ended September 30, 20172020 and 2016,2019, respectively, and $25.2$32.3 million and $18.5$15.9 million for the nine months ended September 30, 2017,2020 and 2016,2019, respectively. Interest expense includes the amortization of deferred financing costs, bank fees, capital and built-to-suit lease interest and interest expense under the credit and other long term debt facilities.
We monitor the financial health and stability of our lenders under the credit and other long term debt facilities, however during any period of significant instability in the credit markets, lenders could be negatively impacted in their ability to perform under these facilities.
Contractual Commitments and Contingencies
Other than the borrowings and repayments disclosed above in the "Capital Resources" section and changes which occur in the normal course of business, there were no significant changes to the contractual obligations reported in our 20162019 Form 10-K as updated in our Form 10-Q for the quarter ended September 30, 2017.2020.
Critical Accounting Policies and Estimates
Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America.U.S. GAAP. To prepare these financial statements, we must make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, as well as the disclosures of contingent assets and liabilities. Actual results could be significantly different from these estimates. We believe the following addresses the critical accounting policies that are necessary to understand and evaluate our reported financial results.
Our significant accounting policies are described in Note 2 of the audited consolidated financial statements included in our 20162019 Form 10-K. The SEC suggests companies provide additional disclosure on those accounting policies considered most critical. The SEC considers an accounting policy to be critical if it is important to our financial condition and results of operations and requires significant judgments and estimates on the part of management in its application. Our estimates are often based on complex judgments, probabilities and assumptions that management believes to be reasonable, but that are inherently uncertain and unpredictable. It is also possible that other professionals, applying reasonable judgment to the same facts and circumstances, could develop and support a range of alternative estimated amounts. For a complete discussion of our critical accounting policies, see the “Critical Accounting Policies” section of the MD&A in our 20162019 Form 10-K. ThereOther than adoption of recent accounting standards as discussed in Note 2 of our unaudited consolidated financial statements, there were no significant changes to our critical accounting policies during the nine months ended September 30, 2017.2020.
Recently Issued Accounting Standards
Refer to Note 2 to the notes toof our unaudited consolidated financial statements, included in this Form 10-Q, for our assessment of recently issued accounting standards.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no significant changes to our market risk since December 31, 2016.2019. For a discussion of our exposure to market risk, refer to our Annual Report on Form 10-K for the year ended December 31, 2016.2019.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Our management has evaluated, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective in ensuring that information required to be disclosed in our Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
COVID-19
There were no material impacts, due to COVID-19 and the resulting need to close our books remotely, on our ability to maintain internal control over financial reporting and disclosure controls and procedures for the three and nine months ended September 30, 2020.
Changes in Internal Controls
In 2015, we began the process of implementing a global operating and financial reporting information technology system, SAP Fashion Management Solution ("FMS"), as part of a multi-year plan to integrate and upgrade our systems and processes. The first phase of this implementation became operational onin July 5, 2017, in our North America, EMEA, and Connected Fitness operations. The second phase of this implementation became operational in April 2019 in China and South Korea. The third phase of this implementation became operational in April 2020 in Mexico. We believe the implementation of the systems and related changes to internal controls will enhance our internal controls over financial reporting. We also believe the necessary steps have been takenexpect to monitor and maintain appropriate internal control over financial reporting during this period of change and will continue to evaluate the operating effectiveness of related key controls during subsequent periods.
We are currently in the process of developing an implementation strategy and roll-out plan for FMS in our Asia-Pacific and Latin America operations over the next several years.
As the phased implementation of this system occurs, we will experience certain changessee enhancements to our processes and proceduresglobal systems, which in turn, result in changes to our internal control over financial reporting. While we expect FMSwill then continue to strengthen our internal financial reporting controls by automating certainselect manual processes and standardizing both business processes and relied upon reporting across our organization, management will continue to evaluate and monitororganization. We believe that our robust assessment provides effective global coverage for key control activities that support our internal controls as each of the affected areas evolve.over financial reporting conclusion. For a discussion of risks related to the implementation of new systems, see Item 1A - "Risk Factors - Risks Related to Our Business - RisksThe process of implementing a new operating and information system, which involves risks and uncertainties associated with the implementation of information systems may negatively impactthat could adversely affect our business"business " in our Annual Report on Form 10-K for the year ended December 31, 2016.2019.
During the quarter ended March 31, 2020, we implemented controls to ensure we adequately evaluate expected credit losses for trade receivables and properly assessed the impact of the new credit losses accounting standard on our financial statements in connection with the adoption of ASU 2016-13 on January 1, 2020.
There have been no other changes in our internal control over financial reporting as defined in Exchange Act Rules 13a-15(f) and 15d-15(f) during the most recent fiscal quarter that hashave materially affected, or that isare reasonably likely to materially affect our internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, we are involved in litigation and other proceedings, including matters related to commercial and intellectual property, as well as trade, regulatory and other claims related to our business. See Note 58to our Consolidated Financial Statements for information on certain legal proceedings, which is incorporated by reference herein.
ITEM 1A. RISK FACTORS
Our results of operations and financial condition could be adversely affected by numerous risks.In addition to the other information in this Quarterly Report on Form 10-Q, you should carefully consider the Risk Factors includedrisk factors detailed below and in our Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission for the quarter ended March 31, 2020, which supersede the risk factors disclosed in our Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2016. The Company is supplementing those risk factors by adding the Risk Factor set forth below.2019.
Our restructuring plan may not be successful,credit agreement contains financial covenants, and both our credit agreement and debt securities contain other restrictions on our actions, which could limit our operational flexibility or otherwise adversely affect our financial condition.
We have, from time to time, financed our liquidity needs in part from borrowings made under our credit facility and the issuance of debt securities. Our 3.250% senior notes limit our ability to, subject to certain significant exceptions, incur secured debt and engage in sale leaseback transactions. Our amended credit agreement contains negative covenants that, subject to significant exceptions limit our ability, among other things to incur additional indebtedness, make restricted payments, sell or dispose of assets, pledge assets as security, make investments, loans, advances, guarantees and acquisitions, undergo fundamental changes and enter into transactions with affiliates. In addition, during specified periods, we must maintain a certain leverage ratio and interest coverage ratio as defined in the amended credit agreement. Our ability to continue to borrow amounts under our amended credit agreement is limited by continued compliance with these financial covenants, and in the past we have amended our credit agreement to provide certain relief from and revisions to our financial covenants for specified future periods and provide us with sufficient access to liquidity during those periods. During certain quarters, our amended credit agreement requires us to maintain a specified amount of minimum liquidity.If our cash flows and capital resources are insufficient to maintain this liquidity level, we may need to take further actions to reduce our expenditures, and potentially seek alternative sources of liquidity, including but not fully realizelimited to accessing the expected benefitscapital markets, sale leaseback transactions or other sales of assets, or other alternative financing measures.Failure to comply with these operating or financial covenants could result from, among other things, changes in our results of operations or general economic conditions. These covenants may restrict our ability to engage in transactions that would otherwise be in our best interests. Failure to comply with any of the covenants under the amended credit agreement or our senior notes could result in a default, which could negatively impact our access to liquidity.
In addition, the amended credit agreement includes a cross default provision whereby an event of default under certain other debt obligations (including our debt securities) will be considered an event of default under the amended credit agreement. If an event of default occurs, the commitments of the lenders under the amended credit agreement may be terminated and the maturity of amounts owed may be accelerated. Our debt securities include a cross acceleration provision which provides that the acceleration of certain other debt obligations in excess of $100 million (including amounts outstanding under our credit agreement) may result in an event of default under our debt securities if such accelerated debt is not discharged or the acceleration is not cured, waived, rescinded or annulled within 30 days of us receiving notice from the trustee of our restructuring plandebt securities or holders of at least 25% of the principal amount of our outstanding notes. Under those circumstances, holders of our senior notes and convertible senior notes would have the right to accelerate our debt securities to become immediately payable.
We are the subject of a number of ongoing legal proceedings that have resulted in significant expense, and adverse developments in our ongoing proceedings and/or future legal proceedings could have a material adverse effect on our business, reputation, financial condition, results of operations or stock price.
We are currently involved in a variety of litigation, investigations and other operatinglegal matters and may be subject to additional investigations, arbitration proceedings, audits, regulatory inquiries and similar actions, including matters related to commercial disputes, intellectual property, employment, securities laws, disclosures, tax, accounting, class action and product liability, as well as trade, regulatory and other claims related to our business
and our industry, which we refer to collectively as legal proceedings. For example, we are subject to an ongoing securities class action proceeding regarding our prior disclosures and derivative complaints regarding related matters, as well as past related party transactions, among other proceedings. Refer to Note 8 to our Consolidated Financial Statements included in Part I, Item 8 of this Quarterly Report on Form 10-Q for additional information regarding these specific matters. We may face legal proceedings in connection with actions we have taken in response to the COVID-19 pandemic. For example, we have delayed or cost-saving initiatives.
Duringsuspended payments to certain of our vendors based on regional facts and circumstances. While we are currently negotiating with many of these counterparties, we may face future disputes if we are unable to reach agreement with respect to these payments. In addition, as previously disclosed in November 2019, we have been responding to requests for documents and information from the U.S. Securities and Exchange Commission (“SEC”) and Department of Justice (“DOJ”) beginning with submissions to the SEC in July 2017, and in July 2020 we and two members of our senior management received “Wells Notices” from the SEC relating to our disclosures covering the third quarter of 2017,2015 through the period ending December 31, 2016, regarding the use of “pull forward” sales in connection with revenue during those quarters. In the course of cooperating with the SEC and DOJ requests, we announced a restructuring plan designedhave reviewed our disclosures and we continue to more closely align our financial resourcesbelieve they were appropriate. However, we cannot predict the outcome of any particular proceeding, or whether ongoing investigations, including the SEC and DOJ investigations, will be resolved favorably or ultimately result in charges or material damages, fines or other penalties, enforcement actions, bars against serving as an officer or director, or practicing before the critical prioritiesSEC, or civil or criminal proceedings against us or members of our business. This plan included a reductionsenior management.
Legal proceedings in our global workforce, as well as other initiatives to improve operational efficiencies. Restructuring plans present significant potential risksgeneral, and securities and class action litigation and regulatory investigations in particular, can be expensive and disruptive. Our insurance may not cover all claims that may impair our ability to achieve anticipated operating improvements and/or cost reductions. These risks include, among others, higher than anticipated costs in implementing our restructuring plans, management distraction from ongoing business activities, damage to our reputationbe asserted against us, and brand image and workforce attrition beyond planned reductions. If we are unable to successfully implement and managepredict how long the legal proceedings to which we are currently subject will continue. An unfavorable outcome of any legal proceeding may have an adverse impact on our restructuring plans, we may not achieve our targeted operational improvements and efficiencies, including planned cost reductions. This could adversely impact our operating results andbusiness, financial condition and our future results of operations. In addition,operations orour stock price. Any proceeding could negatively impact our reputation among our customers or our shareholders. Furthermore, publicity surrounding ongoing legal proceedings, even if we fail to achieve targeted operating improvements and/or cost reductions, we may be required to implementresolved favorably for us, could result in additional restructuring-related activities, which may be dilutive tolegal proceedings against us, as well as damage our earnings in the short term.brand image.
ITEM 6. EXHIBITS
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Exhibit
No.
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| Under Armour, Inc. Amended and Restated Executive Incentive Compensation Plan. |
| Section 302 Chief Executive Officer Certification |
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| Section 302 Chief Financial Officer Certification |
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| Section 906 Chief Executive Officer Certification |
| |
| Section 906 Chief Financial Officer Certification |
| 101.INS | |
101.INS | XBRL Instance Document - The instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document |
| 101.SCH | |
101.SCH | XBRL Taxonomy Extension Schema Document |
| 101.CAL | |
101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document |
| 101.DEF | |
101.DEF | XBRL Taxonomy Extension Definition Linkbase Document |
| 101.LAB | |
101.LAB | XBRL Taxonomy Extension Label Linkbase Document |
| 101.PRE | |
101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document |
| 104 | Cover Page Interactive Data File (embedded within the Inline XBRL document) |
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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| UNDER ARMOUR, INC. |
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| UNDER ARMOUR, INC. |
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| By: | /s/ DAVID E. BERGMAN |
| | David E. Bergman |
| | Chief Financial Officer
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Date: November 8, 2017
5, 2020
