What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-12-09 compared with 2021-09-08 · 181 added, 166 removed, 309 unchanged (53% of the section changed)

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All statements, other than statements of historical facts, included or incorporated in this Form 10-Q are forward-looking statements, particularly statements which 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, the impact of the COVID-19 pandemic on our business and results of operations, expectations related to our acquisition of MIRROR, our prospects and strategies for future growth, the development and introduction of new products, and the implementation of our marketing and branding strategies.

In many cases, you can identify forward-looking

statements by terms such as "may," "will," "should," "expects," "plans," "anticipates," "believes," "estimates," "intends," "predicts," "potential" or the negative of these terms or other comparable terminology.

In many cases, you can identify forward-looking statements by terms such as "may," "will," "should," "expects," "plans," "anticipates," "believes," "estimates," "intends," "predicts," "potential" or the negative of these terms or other comparable terminology.

The forward-looking statements contained in this Form 10-Q and any documents incorporated herein by reference 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.

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.

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Fiscal 2021 and fiscal 2020 are referred to as "2021," and "2020," respectively.

The first two quarters of 2021 and 2020 ended on August 1, 2021 and August 2, 2020, respectively.

The first three quarters of 2021 and 2020 ended on October 31, 2021 and November 1, 2020, respectively.

Components of management's discussion and analysis of financial condition and results of operations include:

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During the second quarter of 2020, we acquired Curiouser Products Inc., dba MIRROR.

MIRROR is an in-home fitness company with an interactive workout platform that features live and on-demand classes.

MIRROR is an in-home fitness company offering connected hardware and related software products and services, with an interactive workout platform that features live and on-demand classes.

The acquisition of MIRROR bolsters our digital sweatlife offerings and brings immersive and personalized in-home sweat and mindfulness content to new and existing lululemon guests.

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COVID-19 continues to impact the global economy and cause disruption and volatility.

Governments and public health officials around the world have imposed and continue to impose restrictions and recommend precautions to mitigate the spread of the virus.

It has caused governments and public health officials to impose restrictions and recommend precautions to mitigate the spread of the virus.

We believe we will continue to experience differing levels of disruption and volatility, market by market.

While most of our retail locations were open throughout the first two quarters of fiscal 2021, certain locations were temporarily closed based on government and health authority guidance in those markets, including in parts of Canada, Asia Pacific, and Europe.

We continue to operate with necessary precautionary measures in place at our retail locations and distribution centers.

While most of our retail locations were open throughout the first three quarters of fiscal 2021, certain locations were temporarily closed based on government and health authority guidance.

We continue to operate with precautionary measures in place, as appropriate.

The pandemic has also impacted our product manufacturers and our distribution and logistics providers.

We have experienced disruption in transportation and port congestion, as well as an increase in freight costs.

There has been disruption in transportation and port congestion, an increase in freight costs, and we have increased our use of air freight.

As a result of this disruption, certain inventory receipts have been delayed, and we expect this disruption and increased costs to continue at least through to the end of 2021.

Prior to the COVID-19 pandemic, guest shopping preferences were shifting towards digital platforms and we had been investing in our websites, mobile apps, and omni-channel capabilities.

We believe COVID-19 further shifted guest shopping behavior and has resulted in significant increases in traffic to our websites and digital apps.

This increased traffic contributed to the significant growth in our direct to consumer net revenue in 2020 and in the first quarter of 2021.

While we expect our direct to consumer business to grow in 2021, we expect the year over year growth rate to moderate compared to 2020.

Guest traffic at our retail locations has improved during 2021, but remains below pre-pandemic levels.

Improved traffic combined with increased conversion has resulted in overall store productivity at our open stores in the second quarter of 2021 being in line with the second quarter of 2019.

There remains significant uncertainty regarding the extent and duration of the impact that COVID-19 will have on our operations.

Continued proliferation of the virus, resurgences, or the emergence of new variants may result in further or prolonged closures of our retail locations and distribution centers, reduce operating hours, further disrupt our supply chain, cause changes in guest behavior, and reduce discretionary spending.

Such factors are beyond our control and could elicit further actions and recommendations from governments and public health authorities.

Financial Highlights

For the second quarter of 2021, compared to the second quarter of 2020:

For the third quarter of 2021, compared to the third quarter of 2020:

• Net revenue increased 30% to $1.5 billion.

On a constant dollar basis, net revenue increased 28%.

• Company-operated stores net revenue increased 142% to $695.1 million.

• Total comparable sales, which includes comparable store sales and direct to consumer net revenue, increased 27%.

On a constant dollar basis, total comparable sales increased 26%.

– Comparable store sales increased 32% or increased 31% on a constant dollar basis.

– Direct to consumer net revenue increased 23% to 586.5 million, or increased 21% on a constant dollar basis.

We held an online warehouse sale during the second quarter of 2020 which generated net revenue of $43.3 million.

• Gross profit increased 32% to $829.4 million.

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• Income from operations increased 26% to $257.9 million.

• Operating margin increased 630 basis points to 20.1%.

• Operating margin decreased 50 basis points to 17.8%.

• Income tax expense increased 16% to $70.2 million.

Our effective tax rate for the second quarter of 2021 was 28.5% compared to 30.0% for the second quarter of 2020.

• Diluted earnings per share were $1.59 compared to $0.66 in the second quarter of 2020.

This includes $7.7 million and $9.5 million of after-tax costs related to the MIRROR acquisition in the second quarter of 2021 and 2020, respectively, which reduced diluted earnings per share by $0.06 and $0.08 in the second quarter of 2021 and 2020, respectively.

Our effective tax rate for the third quarter of 2021 was 27.2% compared to 29.7% for the third quarter of 2020.

• Diluted earnings per share were $1.44 compared to $1.10 in the third quarter of 2020.

This includes $23.5 million and $7.6 million of after-tax costs related to the MIRROR acquisition in the third quarter of 2021 and 2020, respectively, which reduced diluted earnings per share by $0.18 and $0.06 in the third quarter of 2021 and 2020, respectively.

Refer to the non-GAAP reconciliation tables contained in the "Non-GAAP Financial Measures" section of this Item 2.

Management's Discussion and Analysis of Financial Condition and Results of Operations" for reconciliations between constant dollar changes in net revenue and direct to consumer net revenue and the most directly comparable measures calculated in accordance with GAAP.

Management's Discussion and Analysis of Financial Condition and Results of Operations" for reconciliations between constant dollar changes in net revenue, total comparable sales, comparable store sales, and direct to consumer net revenue and the most directly comparable measures calculated in accordance with GAAP.

Quarter-to-Date Results of Operations:

Second Quarter Results

Third Quarter Results

The following table summarizes key components of our results of operations for the periods indicated:

Second Quarter

Third Quarter

2021 2020 2021 2020

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Net income $ 187,788 $ 143,643 12.9 % 12.9 %

Net revenue increased $547.7 million, or 61%, to $1.5 billion for the second quarter of 2021 from $902.9 million for the second quarter of 2020.

On a constant dollar basis, assuming the average foreign currency exchange rates for the second quarter of 2021 remained constant with the average foreign currency exchange rates for the second quarter of 2020, net revenue increased $507.3 million, or 56%.

The increase in net revenue was primarily due to increased company-operated store and other net revenue, primarily due to most of our stores being open for the entire second quarter of 2021, while almost all were temporarily closed for a significant portion of the second quarter of 2020 as a result of COVID-19.

Direct to consumer net revenue also increased.

Net revenue for the second quarter of 2021 and 2020 is summarized below.

Second Quarter

Net revenue increased $333.0 million, or 30%, to $1.5 billion for the third quarter of 2021 from $1.1 billion for the third quarter of 2020.

On a constant dollar basis, assuming the average foreign currency exchange rates for the third quarter of 2021 remained constant with the average foreign currency exchange rates for the third quarter of 2020, net revenue increased $313.6 million, or 28%.

The increase in net revenue was primarily due to increased company-operated store net revenue, including from increased comparable store sales and new company-operated stores.

Direct to consumer net revenue and other net revenue also increased.

Total comparable sales, which includes comparable store sales and direct to consumer net revenue, increased 27% for the third quarter of 2021 compared to the third quarter of 2020.

Total comparable sales increased 26% on a constant dollar basis.

Net revenue for the third quarter of 2021 and 2020 is summarized below.

Third Quarter

2021 2020 2021 2020 Year over year change

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Company-Operated Stores.

The increase in net revenue from our company-operated stores was primarily due to most of our stores being open for the entire second quarter of 2021, while almost all were temporarily closed for a significant portion of the second quarter of 2020 as a result of COVID-19.

We have opened 28 net new company-operated stores since the second quarter of 2020 which also contributed to the increase in net revenue.

This included 16 stores in Asia Pacific, 10 stores in North America, and two stores in Europe.

The increase in net revenue from our company-operated stores was driven by increased comparable store sales.

Comparable store sales increased 32%, or increased 31% on a constant dollar basis.

The increase in comparable store sales was primarily a result of increased store traffic, partially due to most of our stores having reduced operating hours and occupancy restrictions for the third quarter of 2020 as a result of COVID-19.

Net revenue from company-operated stores that we opened or significantly expanded since the third quarter of 2020 contributed $37.5 million to the increase in net revenue from our company-operated stores.

We opened 37 net new company-operated stores since the third quarter of 2020, including 25 stores in Asia Pacific, nine stores in North America, and three stores in Europe.

Direct to Consumer.

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The increase in net revenue from our direct to consumer segment was primarily a result of increased traffic and a higher dollar value per transaction, partially offset by a decrease in conversion rates.

During the second quarter of 2020, we held an online warehouse sale in the United States and Canada which generated net revenue of $43.3 million.

We did not hold any warehouse sales during the second quarter of 2021.

Other channels.

The increase in net revenue from our other channels was primarily due to most of our locations being open for the entire second quarter of 2021, while almost all were temporarily closed for a significant portion of the second quarter of 2020 as a result of COVID-19.

Net revenue from MIRROR, which we acquired during the second quarter of 2020, also contributed to the increase in other net revenue.

Second Quarter

The increase in net revenue was primarily due to increased sales at our outlet and seasonal locations as a result of COVID-19 restrictions in place for the third quarter of 2020.

An increase in the number of temporary locations, including

seasonal and outlet stores, that were open during the third quarter of 2021 compared to the third quarter of 2020 also contributed to the increase in other net revenue.

The increase in net revenue from our other retail locations was partially offset by a decrease in net revenue from MIRROR.

Third Quarter

2021 2020 Year over year change

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• a decrease in occupancy and depreciation costs as a percentage of net revenue of 60 basis points, driven primarily by the increase in net revenue;

• a decrease in costs related to our distribution centers and product departments as a percentage of net revenue of 140 basis points, driven primarily by the increase in net revenue;

• a favorable impact of foreign currency exchange rates of 30 basis points;

The increase in gross margin was partially offset by a decrease in product margin of 20 basis points, primarily due to higher air freight costs as a result of COVID-19 impacts on logistics availability and costs, as well as higher inventory provision expenses, partially offset by lower markdowns.

• an increase in product margin of 20 basis points, primarily due to lower markdowns, partially offset by higher air freight costs as a result of COVID impacts on supply chain.

Selling, General and Administrative Expenses

Second Quarter

Third Quarter

2021 2020 Year over year change

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The increase in selling, general and administrative expenses was primarily due to:

• an increase in costs related to our operating channels of $93.5 million, comprised of:

– an increase in employee costs of $51.0 million primarily due to an increase in incentive compensation and salaries and wages expenses in our company-operated stores and other retail locations, primarily from the growth in our business;

– an increase in brand and community costs of $19.9 million primarily due to an increase in digital marketing expenses;

– an increase in variable costs of $13.6 million primarily due to an increase in credit card fees and packaging costs as a result of increased net revenue;

– an increase in operating costs of $9.0 million primarily due to an increase in depreciation, occupancy, security, information technology, and repairs and maintenance costs;

• an increase in head office costs of $88.4 million, comprised of:

– an increase in costs of $41.5 million primarily due to an increase in professional fees, brand and community costs, information technology costs, and depreciation;

– an increase in employee costs of $29.8 million primarily due to an increase in salaries and wages expense, incentive compensation, and benefits, primarily as a result of headcount growth;

• a decrease in government payroll subsidies of $21.0 million as no government payroll subsidies were recognized in the second quarter of 2021;

– an increase in costs of $55.6 million primarily due to an increase in brand and community costs, professional fees, and information technology costs;

– an increase in employee costs of $32.8 million primarily due to an increase in salaries and wages expense and incentive compensation, primarily as a result of headcount growth;

• an increase in costs related to our operating channels of $43.2 million, comprised of:

– an increase in employee costs of $37.8 million primarily due to an increase in salaries and wages expense and incentive compensation in our company-operated stores and other retail locations, primarily from the growth in our business;

– an increase in variable costs of $11.1 million primarily due to an increase in credit card fees, distribution costs, and packaging costs, as a result of increased net revenue;

– an increase in operating costs of $3.7 million primarily due to an increase in depreciation and professional fees;

– a decrease in brand and community costs of $9.4 million primarily due to a decrease in digital marketing expenses related to MIRROR;

• an increase in net foreign currency exchange and derivative revaluation losses of $1.8 million.

Amortization of intangible assets

Second Quarter

Third Quarter

2021 2020 Year over year change

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Amortization of intangible assets $ 2,195 $ 2,195 $ — — %

The increase in the amortization of intangible assets was the result of the amortization of intangible assets recognized upon the acquisition of MIRROR during the second quarter of 2020.

The amortization of intangible assets was primarily the result of the amortization of intangible assets recognized upon the acquisition of MIRROR during the second quarter of 2020.

Acquisition-related expenses

Second Quarter

Third Quarter

2021 2020 Year over year change

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Acquisition-related expenses $ 24,127 $ 8,531 $ 15,596 182.8 %

In connection with our acquisition of MIRROR, we recognized acquisition-related compensation expenses of $7.1 million and $5.0 million in the second quarter of 2021 and 2020, respectively.

We also recognized transaction and integration related costs of $1.0 million and $7.2 million in the second quarter of 2021 and 2020, respectively.

Acquisition related expenses in the second quarter of 2020 were partially offset by a $0.8 million gain recognized on our existing investment.

In connection with our acquisition of MIRROR, we recognized acquisition-related compensation expenses of $23.8 million and $7.5 million in the third quarter of 2021 and 2020, respectively.

We also recognized transaction and integration related costs of $0.3 million and $1.0 million in the third quarter of 2021 and 2020, respectively.

Please refer to Note 3.

Acquisition included in Item 1 of Part 1 of this report for information on the nature and recognition of acquisition-related compensation expenses.

Income from Operations

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Segmented income from operations is summarized below.

Second Quarter

Third Quarter

2021 2020 2021 2020 Year over year change

(In thousands) (Percentage of net revenue of respective operating segment) (In thousands) (Percentage)

Segmented income (loss) from operations:

Company-operated stores $ 184,996 $ (5,293) 26.6 % (1.8) % $ 190,289 n/a

Segmented income from operations:

Company-operated stores $ 180,700 $ 111,780 25.6 % 21.8 % $ 68,920 61.7 %

Direct to consumer 257,050 209,610 43.8 43.8 47,440 22.6

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Company-Operated Stores .

The increase in income from operations from our company-operated stores was primarily the result of increased gross profit of $264.4 million, driven by increased net revenue and higher gross margin primarily due to most of our stores being open for the entire second quarter of 2021, while almost all were temporarily closed for a significant portion of the second quarter of 2020 as a result of COVID-19.

The increase in income from operations from our company-operated stores was primarily the result of increased gross profit of $110.0 million, driven by increased net revenue, as a result of increased comparable store sales, sales from new and significantly expanded stores, as well as higher gross margin.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses, primarily due to higher employee and operating costs.

Employee costs increased primarily due to higher incentive compensation and higher salaries and wages expense as a result of growth in our business.

Store operating costs increased primarily due to government payroll subsidies that were recognized during the second quarter of 2020.

No government payroll subsidies were recognized during the second quarter of 2021.

There were also increases in credit card fees, distribution and packaging costs as a result of higher net revenue.

Income from operations as a percentage of company-operated stores net revenue increased due to higher gross margin and leverage on selling, general and administrative expenses.

Employee costs increased primarily due to higher salaries and wages expense and higher incentive compensation as a result of growth in our business.

Store operating costs increased primarily due to increases in packaging costs, credit card fees, and distribution costs, as a result of higher net revenue.

Income from operations as a percentage of company-operated stores net revenue increased due to increased net revenue and gross margin, as well as leverage on selling, general and administrative expenses.

Direct to Consumer.

The increase in income from operations from our direct to consumer segment was primarily the result of increased gross profit of $34.5 million driven by increased net revenue.

The increase in gross profit was partially

offset by an increase in selling, general and administrative expenses, primarily due to higher digital marketing expenses and depreciation.

Income from operations as a percentage of direct to consumer net revenue increased primarily due to higher gross margin.

Other channels.

The increase in income from operations from our other retail locations was primarily the result of increased gross profit of $54.4 million, primarily due to increased net revenue.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses driven by MIRROR digital marketing expenses, higher salaries and wages and incentive compensation, as well as increased credit card fees and distribution costs as a result of higher net revenue.

Income from operations as a percentage of other net revenue increased primarily due to an increase in gross margin, partially offset by deleverage on selling, general and administrative expenses.

The increase in income from operations from our direct to consumer segment was primarily the result of increased gross profit of $69.0 million, driven by increased net revenue as a result of increased traffic and a higher

dollar value per transaction.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses, primarily due to higher depreciation, digital marketing expenses, and employee costs, as well as higher variable operating costs, including distribution costs and credit card fees, as a result of higher net revenue.

Income from operations as a percentage of direct to consumer net revenue was consistent for the third quarter of 2021, compared to the third quarter of 2020.

The leverage on selling, general and administrative expenses was offset by lower gross margin.

The increase in income from operations was primarily the result of increased gross profit of $23.0 million, driven by increased net revenue and higher gross margin.

Selling, general and administrative expenses decreased, driven by decreases in digital marketing expenses and distribution costs related to MIRROR.

These decreases were partially offset by increased salaries and wages and incentive compensation related to our other retail locations.

Income from operations as a percentage of other net revenue increased primarily due leverage on selling, general and administrative expenses and due to higher gross margin.

General Corporate Expenses.

The increase in general corporate expenses was primarily due to increased employee costs primarily from the growth in our business, as well as increased professional fees, information technology costs, brand and community costs, and depreciation.

The increase in general corporate expenses was primarily due to increased employee costs, primarily from the growth in our business, as well as increased brand and community costs, professional fees, information technology costs, and depreciation.

An increase in net foreign currency exchange and derivative revaluation losses of $1.8 million also contributed to the increase in general corporate expenses.

Other Income (Expense), Net

Second Quarter

Third Quarter

2021 2020 Year over year change

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Other income (expense), net $ 15 $ (580) $ 595 (102.6) %

The increase in other income, net was primarily due to an increase in interest income driven by increased cash balances.

The increase in other income, net was primarily due to a decrease in expenses related to our credit facilities, including for the 364-day credit facility that was in place during 2020.

Income Tax Expense

Second Quarter

Third Quarter

2021 2020 Year over year change

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27.2 % 29.7 % (250) basis points

The decrease in the effective tax rate was primarily due to a net increase in tax deductions related to stock-based compensation.

Certain non-deductible expenses related to the MIRROR acquisition increased the effective tax rate by 60 basis points in the second quarter of 2021 compared to 110 basis points in the second quarter of 2020.

Second Quarter

The decrease in the effective tax rate was primarily due to a reduction in non-deductible expenses in international jurisdictions, a net increase in tax deductions related to stock-based compensation, and a reduction in adjustments upon filing of certain income tax returns.

Certain non-deductible expenses related to the MIRROR acquisition increased the effective tax rate by 210 basis points in the third quarter of 2021 compared to 80 basis points in the third quarter of 2020.

Third Quarter

2021 2020 Year over year change

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Net income $ 187,788 $ 143,643 $ 44,145 30.7 %

The increase in net income was primarily due to an increase in gross profit of $353.2 million and an increase in other income (expense), net of $0.4 million and a decrease in acquisition-related expenses of $3.3 million, partially offset by an increase in selling, general and administrative expenses of $188.4 million, an increase in income tax expense of $45.8 million, and an increase in amortization of intangible assets of $1.4 million.

The increase in net income was primarily due to an increase in gross profit of $202.0 million and an increase in other income (expense), net of $0.6 million, partially offset by an increase in selling, general and administrative expenses of $133.4 million, an increase in income tax expense of $9.5 million, and an increase in acquisition-related expenses of $15.6 million.

Year-to-Date Results of Operations:

First Two Quarters Results

First Three Quarters Results

The following table summarizes key components of our results of operations for the periods indicated:

First Two Quarters

First Three Quarters

2021 2020 2021 2020

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Net income $ 540,818 $ 259,076 13.1 % 9.7 %

Net revenue increased $1.1 billion, or 72%, to $2.7 billion for the first two quarters of 2021 from $1.6 billion for the first two quarters of 2020.

On a constant dollar basis, assuming the average foreign currency exchange rates for the first two quarters of 2021 remained constant with the average foreign currency exchange rates for the first two quarters of 2020, net revenue increased $1.0 billion, or 67%.

The increase in net revenue was primarily due to increased company-operated store and other net revenue, primarily due to most of our stores being open for the entire first two quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020 as a result of COVID-19.

Direct to consumer net revenue also increased, partially due to a shift in the way guests are shopping as a result COVID-19.

Net revenue for the first two quarters of 2021 and 2020 is summarized below.

First Two Quarters

Net revenue increased $1.5 billion, or 54%, to $4.1 billion for the first three quarters of 2021 from $2.7 billion for the first three quarters of 2020.

On a constant dollar basis, assuming the average foreign currency exchange rates for the first three quarters of 2021 remained constant with the average foreign currency exchange rates for the first three quarters of 2020, net revenue increased $1.4 billion, or 51%.

The increase in net revenue was primarily due to increased company-operated store net revenue, as a result of the temporary store closures and COVID operating restrictions that were in place during the first three quarters of fiscal 2020.

Direct to consumer net revenue and other net revenue also increased.

Net revenue for the first three quarters of 2021 and 2020 is summarized below.

First Three Quarters

2021 2020 2021 2020 Year over year change

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Company-Operated Stores .

The increase in net revenue from our company-operated stores was primarily due to most of our stores being open for the entire first two quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020 as a result of COVID-19.

We opened 28 net new company-operated stores since the second quarter of 2020 which also contributed to the increase in net revenue.

This included 16 stores in Asia Pacific, 10 stores in North America, and two stores in Europe.

The increase in net revenue from our company-operated stores was primarily due to most of our stores being open for the entire first three quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020, and open with reduced operating hours and occupancy restrictions for the third quarter of 2020 as a result of COVID-19.

We opened 37 net new company-operated stores since the third quarter of 2020 which also contributed to the increase in net revenue, including 25 stores in Asia Pacific, nine stores in North America, and three stores in Europe.

Direct to Consumer.

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During the second quarter of 2020, we held an online warehouse sale in the United States and Canada which generated net revenue of $43.3 million.

We did not hold any warehouse sales during the first two quarters of 2021.

Other channels.

The increase in net revenue from other channels was primarily due to most of our locations being open for the entire first two quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020 as a result of COVID-19.

Net revenue from MIRROR, which we acquired during the second quarter of 2020, also contributed to the increase in other net revenue.

First Two Quarters

We did not hold any warehouse sales during the first three quarters of 2021.

The increase in other net revenue was primarily due to most of our outlet and seasonal locations being open for the entire first three quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020, and open with reduced operating hours and occupancy restrictions for the third quarter of 2020 as a result of COVID-19.

Net revenue from MIRROR, which we acquired during the second quarter of 2020, as well as an increase in the number of temporary locations, including seasonal and outlet stores, that were open during the third quarter of 2021 compared to the third quarter of 2020 also contributed to the increase in other net revenue.

First Three Quarters

2021 2020 Year over year change

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• a favorable impact of foreign currency exchange rates of 50 basis points.

The increase in gross margin was partially offset by a decrease in product margin of 60 basis points, primarily due to higher air freight costs as a result of COVID-19 impacts on logistics availability and costs, partially offset by lower markdowns.

The increase in gross margin was partially offset by a decrease in product margin of 20 basis points, primarily due to higher air freight costs as a result of COVID impacts on supply chain, partially offset by lower markdowns.

Selling, General and Administrative Expenses

First Two Quarters

First Three Quarters

2021 2020 Year over year change

5 unchanged sentences

• an increase in costs related to our operating channels of $242.3 million, comprised of:

– an increase in employee costs of $89.7 million primarily due to an increase in incentive compensation, salaries and wages expense, and benefit expenses in our company-operated store and other retail locations, primarily from the growth in our business;

– an increase in employee costs of $126.6 million primarily due to an increase in salaries and wages expense, incentive compensation, and benefit expenses in our company-operated store and other retail locations, primarily due to the increased number of hours worked as a result of COVID-19 impacts in 2020, as well as performance and growth in our business;

– an increase in variable costs of $63.0 million primarily due to an increase in distribution costs, credit card fees, and packaging expenses as a result of increased net revenue;

– an increase in brand and community costs of $35.9 million primarily due to an increase in digital marketing expenses;

– an increase in other operating costs of $27.1 million primarily due to an increase in information technology costs, depreciation, occupancy costs, and security costs;

– an increase in other operating costs of $16.8 million primarily due to an increase in depreciation, information technology costs, and occupancy costs;

• an increase in head office costs of $232.4 million, comprised of:

– an increase in costs of $79.1 million primarily due to an increase in professional fees, information technology costs, brand and community costs, and depreciation;

– an increase in employee costs of $65.2 million primarily due to an increase in salaries and wages expense and employee benefit costs as a result of headcount growth, and an increase in incentive compensation and stock-based compensation expense.

• a decrease in government payroll subsidies of $21.1 million as no government payroll subsidies were recognized in the first two quarters of 2021;

– an increase in costs of $134.7 million primarily due to an increase in professional fees, brand and community costs, information technology costs, and depreciation;

– an increase in employee costs of $97.7 million primarily due to an increase in salaries and wages expense, and incentive compensation, stock-based compensation expense, and employee benefit costs, primarily as a result of headcount growth,

• a decrease in government payroll subsidies of $36.5 million as no government payroll subsidies were recognized in the first three quarters of 2021;

• an increase in net foreign currency exchange and derivative revaluation losses of $7.7 million.

Amortization of intangible assets

First Two Quarters

First Three Quarters

2021 2020 Year over year change

3 unchanged sentences

Acquisition-related expenses

First Two Quarters

First Three Quarters

2021 2020 Year over year change

1 unchanged sentence

Acquisition-related expenses $ 39,934 $ 22,040 $ 17,894 81.2 %

In connection with our acquisition of MIRROR, we recognized acquisition-related compensation expenses of $14.3 million and $5.0 million in the first two quarters of 2021 and 2020, respectively.

We also recognized transaction and integration related costs of $1.5 million and $9.2 million in the first two quarters of 2021 and 2020, respectively.

In connection with our acquisition of MIRROR, we recognized acquisition-related compensation expenses of $38.1 million and $12.6 million in the first three quarters of 2021 and 2020, respectively.

We also recognized transaction and integration related costs of $1.9 million and $10.3 million in the first three quarters of 2021 and 2020, respectively.

Acquisition related expenses in the first three quarters of 2020 were partially offset by a $0.8 million gain recognized on our existing investment.

Please refer to Note 3.

Acquisition included in Item 1 of Part 1 of this report for information on the nature and recognition of acquisition-related compensation expenses.

Income from Operations

1 unchanged sentence

Segmented income from operations is summarized below.

First Two Quarters

First Three Quarters

2021 2020 2021 2020 Year over year change

(In thousands) (Percentage of net revenue of respective operating segment) (In thousands) (Percentage)

Segmented income (loss) from operations:

Company-operated stores $ 284,144 $ (35,447) 23.1 % (6.5) % $ 319,591 n/a

Segmented income from operations:

Company-operated stores $ 464,844 $ 76,333 24.0 % 7.2 % $ 388,511 509 %

Direct to consumer 754,231 604,152 43.6 43.6 150,079 24.8

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Company-Operated Stores.

The increase in income from operations from our company-operated stores was primarily the result of increased gross profit of $441.9 million, driven by increased net revenue and higher gross margin primarily due to most of our stores being open for the entire first two quarters of 2021, while almost all were temporarily closed for a significant portion of the first two quarters of 2020 as a result of COVID-19.

The increase in income from operations from our company-operated stores was primarily the result of increased gross profit of $551.9 million, driven by higher gross margin and increased net revenue.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses, primarily due to higher employee and operating costs.

Employee costs increased primarily due to higher incentive compensation and higher salaries and wages expense as a result of the growth in our business, as well as an increase in employee benefit expense.

Store operating costs increased primarily due to government payroll subsidies that were recognized during the first two quarters of 2020.

No government payroll subsidies were recognized during the first two quarters of 2021.

There were also increases in credit card fees, distribution and packaging costs as a result of higher net revenue.

Employee costs increased primarily due to the increased number of hours worked as a result of COVID-19 impacts in 2020, as well as performance and growth in our business, and store operating costs increased, primarily due to government payroll subsidies that were recognized during the first three quarters of 2020.

No government payroll subsidies were recognized during the first three quarters of 2021.

There were also increases in credit card fees, packaging costs, and distribution as a result of higher net revenue.

Income from operations as a percentage of company-operated stores net revenue increased, primarily due to higher gross margin and leverage on selling, general and administrative expenses.

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The increase in income from operations from our direct to consumer segment was primarily the result of increased gross profit of $233.2 million, driven by increased net revenue.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses primarily due to higher variable costs including

distribution costs, packaging, and credit card fees a result of higher net revenue, as well as higher digital marketing expenses and employee costs.

Income from operations as a percentage of direct to consumer net revenue was consistent for the first two quarters of 2021, compared to the first two quarters of 2020.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses primarily due to higher variable costs including distribution costs, credit card fees, and packaging, as a result of higher net revenue, as well as higher digital marketing expenses, depreciation, employee costs, and information technology costs.

Income from operations as a percentage of direct to consumer net revenue was consistent for the first three quarters of 2021, compared to the first three quarters of 2020.

The increase in gross margin was offset by deleverage on selling, general and administrative expenses.

Other channels.

The increase in income from operations from our other retail locations was primarily the result of increased gross profit of $113.0 million, primarily due to increased net revenue.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses, driven by MIRROR digital marketing expenses, higher salaries and wages expense and incentive compensation, as well as distribution costs and credit card fees as a result of higher net revenue.

Income from operations as a percentage of other net revenue increased primarily due to leverage on selling, general and administrative expenses and in increase in gross margin.

The increase in income from operations was primarily the result of increased gross profit of $136.1 million, driven by higher gross margin and increased net revenue.

The increase in gross profit was partially offset by an increase in selling, general and administrative expenses, driven by MIRROR digital marketing expenses and professional fees.

Higher overall salaries and wages expense, incentive compensation, and occupancy costs, as well as higher overall credit card fees and distribution costs as a result of higher net revenue also contributed to the increase in selling, general and administrative expenses.

Income from operations as a percentage of other net revenue increased primarily due to leverage on selling, general and administrative expenses and a higher gross margin.

General Corporate Expense.

The increase in general corporate expenses was primarily due to increased employee costs primarily from the growth in our business, as well as increased professional fees, brand and community costs, information technology costs, depreciation, and supplies costs.

An increase in net foreign currency exchange and derivative revaluation losses of $7.7 million also contributed to the increase in general corporate expenses.

Other Income (Expense), Net

First Two Quarters

First Three Quarters

2021 2020 Year over year change

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Other income (expense), net $ 338 $ 250 $ 88 35.2 %

The decrease in other income, net was primarily due to a decrease in interest income driven by lower interest rates, partially offset by increased cash balances.

The increase in other income, net was primarily due to a decrease in expenses related to our credit facilities, including for the 364-day credit facility that was in place during 2020.

This was partially offset by a decrease in interest income primarily due to lower interest rates.

Income Tax Expense

First Two Quarters

First Three Quarters

2021 2020 Year over year change

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27.2 % 28.5 % (130) basis points

The increase in the effective tax rate was primarily due to certain non-deductible expenses in international jurisdictions which were partially offset by a net increase in tax deductions related to stock-based compensation.

Certain non-deductible expenses related to the MIRROR acquisition increased the effective tax rate by 70 basis points in the first two quarters of 2021 compared to 90 basis points in the first two quarters of 2020.

First Two Quarters

The decrease in the effective tax rate was primarily due to a net increase in tax deductions related to stock-based compensation, and adjustments upon filing of certain income tax returns, partially offset by non-deductible expenses in international jurisdictions.

Certain non-deductible expenses related to the MIRROR acquisition increased the effective tax rate by 120 basis points in the first three quarters of 2021 compared to 90 basis points in the first three quarters of 2020.

First Three Quarters

2021 2020 Year over year change

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Net income $ 540,818 $ 259,076 $ 281,742 108.7 %

The increase in net income was primarily due to an increase in gross profit of $719.1 million, partially offset by an increase in selling, general and administrative expenses of $385.5 million, an increase in income tax expense of $89.6 million, an increase in amortization of intangible assets of $3.6 million, an increase in acquisition-related expenses of $2.3 million, and a decrease in other income of $0.5 million.

The increase in net income was primarily due to an increase in gross profit of $921.1 million, partially offset by an increase in selling, general and administrative expenses of $518.9 million, an increase in income tax expense of $99.1 million, an increase in acquisition-related expenses of $17.9 million, an increase in amortization of intangible assets of $3.6 million, and an increase in other income of $0.1 million.

Comparable Store Sales and Total Comparable Sales

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We therefore believe that investors would similarly find these metrics useful in assessing the performance of our business.

However, as the temporary store closures

from COVID-19 during the first two quarters of 2020 resulted in a significant number of stores being removed from our comparable store calculations, we believe total comparable sales and comparable store sales are not currently representative of the underlying trends of our business.

We do not believe these metrics are currently useful to investors in understanding performance, therefore we have not included these metrics in our discussion and analysis of results of operations.

We did not provide comparable sales metrics that included the first two quarters during 2020, and expect to do the same for 2021.

However, as the temporary store closures from COVID-19 resulted in a significant number of stores being removed from our comparable store calculations during the first two quarters of 2020, we believe total comparable sales and comparable store sales on a year-to-date basis are not currently representative of the underlying trends of our business.

We do not believe these year-to-date metrics are currently useful to investors in understanding performance, therefore we have not included these metrics in our discussion and analysis of results of operations.

As most of our stores were open during the third quarter of fiscal 2020, and our comparable store base therefore included the majority of our stores, we have included total comparable sales and comparable store sales on a quarter-to-date basis in our discussion and analysis of results of operations.

Comparable store sales reflect net revenue from company-operated stores that have been open, or open after being significantly expanded, for at least 12 full fiscal months.

Net revenue from a store is included in comparable store sales beginning with the first fiscal month for which the store has a full fiscal month of sales in the prior year.

Comparable store sales exclude sales from new stores that have not been open for at least 12 full fiscal months, from stores which have not been in their significantly expanded space for at least 12 full fiscal months, and from stores which have been temporarily relocated for renovations or temporarily closed.

Comparable store sales also exclude sales from direct to consumer and our other operations, as well as sales from company-operated stores that have closed.

Total comparable sales combines comparable store sales and direct to consumer net revenue.

In fiscal years with 53 weeks, the 53rd week of net revenue is excluded from the calculation of comparable sales.

In the year following a 53 week year, the prior year period is shifted by one week to compare similar calendar weeks.

Opening new stores and expanding existing stores is an important part of our growth strategy.

Accordingly, total comparable sales is just one way of assessing the success of our growth strategy insofar as comparable sales do not reflect the performance of stores opened, or significantly expanded, within the last 12 full fiscal months.

The comparable sales measures we report may not be equivalent to similarly titled measures reported by other companies.

Non-GAAP Financial Measures

Constant dollar changes in net revenue and direct to consumer net revenue are non-GAAP financial measures.

Constant dollar changes in net revenue, total comparable sales, comparable store sales, and direct to consumer net revenue are non-GAAP financial measures.

A constant dollar basis assumes the average foreign currency exchange rates for the period remained constant with the average foreign currency exchange rates for the same period of the prior year.

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The below changes in net revenue show the change compared to the corresponding period in the prior year.

Second Quarter 2021

First Two Quarters 2021

Net Revenue Direct to Consumer Net Revenue Net Revenue Direct to Consumer Net Revenue

(In thousands) (Percentages) (Percentages) (In thousands) (Percentages) (Percentages)

Third Quarter 2021

First Three Quarters 2021

Net Revenue Net Revenue

(In thousands) (Percentages) (In thousands) (Percentages)

Change $ 332,995 30 % $ 1,455,174 54 %

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Change in constant dollars $ 313,647 28 % $ 1,362,096 51 %

Constant dollar changes in total comparable sales, comparable store sales, and direct to consumer net revenue

The below changes in total comparable sales, comparable store sales, and direct to consumer net revenue show the change compared to the corresponding period in the prior year.

As the temporary closures from COVID-19 resulted in a significant number of stores being removed from our comparable store base during the first two quarters of 2020, total comparable sales and comparable store sales are only reported on a quarter-to-date basis.

Third Quarter 2021

First Three Quarters 2021

Total Comparable Sales 1,2

Comparable Store Sales 2

Direct to Consumer Net Revenue Direct to Consumer Net Revenue

Change 27 % 32 % 23 % 25 %

Adjustments due to foreign currency exchange rate changes (1) (1) (2) (3)

Change in constant dollars 26 % 31 % 21 % 22 %

(1) Total comparable sales includes comparable store sales and direct to consumer net revenue.

(2) Comparable store sales reflects net revenue from company-operated stores that have been open for at least 12 full fiscal months, or open for at least 12 full fiscal months after being significantly expanded.

Our business is affected by the general seasonal trends common to the retail apparel industry.

Our annual net revenue is weighted more heavily toward our fourth fiscal quarter, reflecting our historical strength in sales during the holiday season, while our operating expenses are more equally distributed throughout the year.

Our annual net revenue is weighted more heavily toward our fourth fiscal quarter, reflecting our historical strength in sales during the holiday season,

while our operating expenses are more equally distributed throughout the year.

As a result, a substantial portion of our operating profits are generated in the fourth quarter of our fiscal year.

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Risk Factors".

debt or equity securities or other external financing sources to the extent we were unable to fund such capital expenditures out of our cash and cash equivalents and cash generated from operations.

In addition, we may make discretionary capital improvements with respect to our stores, distribution facilities, headquarters, or systems, or we may repurchase shares under an approved stock repurchase program, which we would expect to fund through the use of cash, issuance of debt or equity securities or other external financing sources to the extent we were unable to fund such capital expenditures out of our cash and cash equivalents and cash generated from operations.

The following table includes certain measures of our liquidity:

August 1, 2021

October 31, 2021

(In thousands)

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The following table summarizes our net cash flows provided by and used in operating, investing, and financing activities for the periods indicated:

First Two Quarters

First Three Quarters

2021 2020 Year over year change

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• an increase in cash flows from the changes in operating assets and liabilities of $207.1 million.

This increase was driven by changes in accrued compensation, and prepaid expenses and other current assets;

• changes in adjusting items of $86.8 million, primarily driven by higher cash inflows related to derivatives not designated in a hedging relationship, and due to increased stock-based compensation and depreciation expense.

This increase was driven by changes in income taxes, accrued compensation, and prepaid expenses and other assets, partially offset by changes in inventories;

• changes in adjusting items of $83.9 million, primarily driven by higher cash inflows related to derivatives not designated in a hedging relationship, as well as increased depreciation and stock-based compensation expenses.

Investing Activities

The decrease in cash used in investing activities was primarily due to the MIRROR acquisition in 2020, partially offset by the settlement of net investment hedges and increased capital expenditures.

The increase in capital expenditures was primarily due to increased capital expenditures for our direct to consumer segment driven by investment in our distribution centers, as well as increased corporate expenditures.

This was partially offset by decreased expenditures for our company-operated stores.

The decrease in cash used in investing activities was primarily due to the MIRROR acquisition in 2020, partially offset by increased capital expenditures and the settlement of net investment hedges.

The increase in capital expenditures was primarily due to increased corporate expenditures driven by investment in information technology and business systems.

There was also increased direct to consumer segment expenditures driven by investment in our distribution centers, as well as increased company-operated stores expenditures driven by opening new stores, remodeling or relocating certain stores, and ongoing store refurbishment.

Financing Activities

The increase in cash used in financing activities was primarily the result of an increase in stock repurchases.

Cash used in financing activities for the first two quarters of 2021 included $254.9 million to repurchase 0.8 million shares of our common stock compared to $63.7 million to repurchase 0.4 million shares for the first two quarters of 2020.

Cash used in financing activities for the first three quarters of 2021 included $491.3 million to repurchase 1.4 million shares of our common stock compared to $63.7 million to repurchase 0.4 million shares for the first three quarters of 2020.

The common stock was repurchased in the open market at prevailing market prices, including under plans complying with the provisions of Rule 10b5-1 and Rule 10b-18 of the Securities Exchange Act of 1934, with the timing and actual number of shares repurchased depending upon market conditions, eligibility to trade, and other factors.

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Dollars, Euros, Canadian Dollars, and in other currencies, subject to the lenders' approval.

As of August 1, 2021, aside from letters of credit of $2.8 million, we had no other borrowings outstanding under this credit facility.

As of October 31, 2021, aside from letters of credit of $3.1 million, we had no other borrowings outstanding under this credit facility.

Borrowings under the facility bear interest at a rate equal to, at our option, either (a) rates based on deposits on the interbank market for U.S.

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The credit agreement also contains certain customary representations, warranties, affirmative covenants, and events of default (including, among others, an event of default upon the occurrence of a change of control).

As of August 1, 2021, we were in compliance with the covenants of the credit facility.

As of October 31, 2021, we were in compliance with the covenants of the credit facility.

Mainland China revolving credit facility

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It is comprised of a revolving loan of up to 200.0 million Chinese Yuan and a financial guarantee facility of up to 30.0 million Chinese Yuan, or its equivalent in another currency.

Loans are available for a period not to exceed 12 months, at an interest rate equal to the loan prime rate plus a spread of 0.5175%.

Loans are available for a period not to exceed 12 months, at an interest

rate equal to the loan prime rate plus a spread of 0.5175%.

We are required to comply with certain covenants.

As of August 1, 2021, we were in compliance with the covenant and, aside from letters of credit of 1.3 million Chinese Yuan, we had no other borrowings or guarantees outstanding under this credit facility.

As of October 31, 2021, we were in compliance with the covenants and, aside from letters of credit of 3.5 million Chinese Yuan, we had no other borrowings or guarantees outstanding under this credit facility.

Off-Balance Sheet Arrangements

We enter into standby letters of credit to secure certain of our obligations, including leases, taxes, and duties.

As of August 1, 2021, letters of credit and letters of guarantee totaling $3.4 million had been issued, including $2.8 million under our committed revolving credit facility.

As of October 31, 2021, letters of credit and letters of guarantee totaling $4.2 million had been issued, including $3.1 million under our committed revolving credit facility.

We have not entered into any transactions, agreements or other contractual arrangements to which an entity unconsolidated with us is a party and under which we have (i) any obligation under a guarantee, (ii) any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity, (iii) any obligation under derivative instruments that are indexed to our shares and classified as equity in our consolidated balance sheets, or (iv) any obligation arising out of a variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or engages in leasing, hedging or research and development services with us.

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Actual results may vary from our estimates in amounts that may be material to the financial statements.

reasonably could have been used or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact our consolidated financial statements.

An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact our consolidated financial statements.

Our critical accounting policies and estimates are discussed within "Item 7.

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Operating Locations

Our company-operated stores by country as of August 1, 2021 and January 31, 2021 are summarized in the table below.

Number of company-operated stores by country August 1,

Our company-operated stores by country as of October 31, 2021 and January 31, 2021 are summarized in the table below.

Number of company-operated stores by country October 31,

2021 January 31,

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Total company-operated stores 552 521

(1) Included within PRC as of August 1, 2021, were seven stores in Hong Kong, Special Administrative Region, three stores in Taiwan, and two stores in Macao, Special Administration Region.

(1) Included within PRC as of October 31, 2021, were seven stores in Hong Kong, Special Administrative Region, three stores in Taiwan, and two stores in Macao, Special Administration Region.

As of January 31, 2021, there were seven stores in Hong Kong, Special Administrative Region, two stores in Taiwan, and two stores in Macao, Special Administration Region.

Retail locations operated by third parties under license and supply arrangements are not included in the above table.

As of August 1, 2021, there were eight licensed locations, including four in Mexico, three in the United Arab Emirates, and one in Qatar.

As of October 31, 2021, there were 14 licensed locations, including six in Mexico, six in the United Arab Emirates, one in Kuwait, and one in Qatar.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis