What changed in this filing

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Item 2. Management’s Discussion and Analysis

2022-09-08 compared with 2022-06-03 · 283 added, 182 removed, 297 unchanged (61% of the section changed)

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The results of operations for the periods reflected herein are not necessarily indicative of results that may be expected for future periods, and our actual results may differ materially from those discussed in the forward-looking statements as a result of various factors, including but not limited to those listed in our 2021 Form 10-K.

The discussion of our financial condition and changes in our results of operations, liquidity and capital resources is presented in this section for the three months ended April 30, 2022 and a comparison to the three months ended May 1, 2021.

The discussion for related to cash flows for the three months ended May 1, 2021 has been omitted from this Quarterly Report on Form 10-Q, but is included in Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations on our Form 10-Q for the quarter ended May 1, 2021, filed with the Securities and Exchange Commission (“SEC”) on June 10, 2021.

The discussion of our financial condition and changes in our results of operations, liquidity and capital resources is presented in this section for the three and six months ended July 30, 2022 and a comparison to the three and six months ended July 31, 2021.

The discussion related to cash flows for the six months ended July 31, 2021 has been omitted from this Quarterly Report on Form 10-Q, but is included in Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations on our Form 10-Q for the quarter ended July 31, 2021, filed with the Securities and Exchange Commission (“SEC”) on September 9, 2021.

MD&A is a supplement to our condensed consolidated financial statements within Part I of this Quarterly Report on Form 10-Q and is provided to enhance an understanding of our results of operations and financial condition.

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Recently Issued Accounting Pronouncements .

This section provides a summary of recent authoritative accounting pronouncements that were adopted during the three months ended April 30, 2022 and that will be adopted in future periods.

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This section provides a summary of recent authoritative accounting pronouncements that have been adopted in fiscal 2022 and that will be adopted in future periods.

FORWARD-LOOKING STATEMENTS AND MARKET DATA

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These statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “plan,” “intend,” “believe,” “may,” “will,” “short-term,” “non-recurring,” “one-time,” “unusual,” “should,” “likely” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events.

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Forward-looking statements are subject to risk and uncertainties that may cause actual results to differ materially from those that we expected.

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While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors and it is impossible for us to anticipate all factors that could affect our actual results, and matters that we identify as “short term,” “non-recurring,” “unusual,” “one-time,” or other words and terms of similar meaning may, in fact, recur in one or more future financial reporting periods.

Important factors that could cause actual results to differ materially from our expectations, or cautionary statements, include those factors disclosed under the section entitled Risk Factors in our 2021 Form 10-K, and Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part I of this quarterly report and in our 2021 Form 10-K.

All forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by these cautionary statements, as well as other cautionary statements.

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We position our Galleries as showrooms for our brand, while our websites and Source Books act as virtual and print extensions of our physical spaces.

We operate our retail locations throughout the United States, Canada, and the U.K., and, after the opening of RH San Francisco, The Gallery at the Historic Bethlehem Steel Building in May 2022, we have an integrated RH Hospitality experience in 14 of our Design Gallery locations, which includes Restaurants and Wine Bars.

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As of April 30, 2022, we operated the following number of Galleries, Outlets and Showrooms:

We operate our retail locations throughout the United States, Canada, and the U.K., and have an integrated RH Hospitality experience in 14 of our Design Gallery locations, which includes Restaurants and Wine Bars.

As of July 30, 2022, we operated the following number of Galleries, Outlets and Showrooms:

Design Galleries

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Waterworks Showrooms

COVID-19 Pandemic and Macro-Economic Factors

The COVID-19 pandemic continues to cause challenges in certain aspects of our business operations primarily related to our supply chain, including delays in our receipt of products from vendors, which have affected our ability to convert demand into revenues at normal historic rates.

While our performance during the pandemic demonstrates the desirability of our exclusive products, we may see consumer spending patterns shift away from spending on the home and home-related categories as customers return to pre-COVID consumption trends, such as spending on travel and leisure, and other activities.

Macro-Economic Factors and COVID-19 Pandemic

There are a number of macro-economic factors and uncertainties affecting the overall business climate as well as our business, including increased inflation and rising interest rates.

These factors may have a number of adverse effects on overall economic conditions and markets in which we operate.

A slowdown in the housing market or continued negative trends in stock market prices could have a negative impact on our customers and demand for our products.

Our decisions regarding the sources and uses of capital will continue to reflect and adapt to changes in market conditions and our business including further developments with respect to the pandemic.

These factors may have a number of adverse effects on macro-economic conditions and markets in which we operate, with the potential for an economic recession and a sustained downturn in the housing market.

Factors such as a slowdown in the housing market or negative trends in stock market prices could have a negative impact on demand for our products.

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For more information, refer to the section entitled “Risk Factors” in our 2021 Form 10-K.

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Our products are presented across multiple collections, categories and channels that we control, and their desirability and exclusivity has enabled us to achieve industry-leading revenues and margins.

Our customers know our brand concepts as RH Interiors, RH Modern, RH Beach House, RH Ski House, RH Outdoor, RH Baby & Child, RH TEEN and Waterworks.

Our strategy to elevate the design and quality of our product will continue as we introduce RH Contemporary in 2022.

We also have plans to introduce RH Couture Upholstery, RH Bespoke Furniture and RH Color over the next several years.

Our customers know our brand concepts as RH Interiors, RH Modern, RH Contemporary, RH Outdoor, RH Beach House, RH Ski House, RH Baby & Child, RH TEEN and Waterworks.

Our strategy is to continue to elevate the design and quality of our product.

Over the next few years, we plan to introduce RH Couture Upholstery, RH Bespoke Furniture and RH Color.

Gallery Transformation .

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We believe hospitality has created a unique new retail experience that cannot be replicated online, and that the addition of hospitality drives incremental sales of home furnishings in these Galleries.

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Brand Elevation .

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Our hospitality efforts will continue to elevate the RH brand as we extend beyond the four walls of our Galleries into RH Guesthouses, where our goal is to create a new market for travelers seeking privacy and luxury in the $200 billion North American hotel industry.

In September 2022, we opened our first RH Guesthouse in New York.

Additionally, we are creating bespoke experiences like RH Yountville, an integration of Food, Wine, Art & Design in the Napa Valley, RH1 & RH2, our private jets, and RH3, our luxury yacht that is available for charter in the Caribbean and Mediterranean, where the wealthy and affluent visit and vacation.

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Internally, our multi-year effort began with the reimagination of our Center of Innovation & Product Leadership to incorporate digitally integrated visuals and decision data designed to amplify the creative process from product ideation to product presentation.

Externally our strategy is designed to come to life digitally as we launch The World of RH, an online portal where customers can explore and be inspired by the depth and dimension of our brand.

The World of RH will include rich, immersive content with simplified navigation and search functionality, all designed to enhance the shopping experience and render our product and brand more valuable.

Externally, our strategy comes to life digitally with The World of RH, an online portal where customers can explore and be inspired by the depth and dimension of our brand.

Launched this spring, The World of RH includes rich, immersive content with simplified navigation and search functionality, all designed to enhance the shopping experience and render our product and brand more valuable.

We expect to continue to elevate the customer experience on The World of RH with further enhancements to content, navigation and search functionality.

We believe an opportunity exists to create similar strategic separation online as we have with our Galleries offline, reconceptualizing what a website can and should be.

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FINANCIAL INFORMATION

Global Expansion .

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Our view is that the competitive environment globally is more fragmented and primed for disruption than the North American market, and there is no direct competitor of scale that possesses the product, operational platform, and brand of RH.

As such, we are actively pursuing the expansion of the RH brand globally with the objective of launching international locations in Europe, beginning in 2022 with the opening of RH England, The Gallery at the Historic Aynho Park.

As such, we are actively pursuing the expansion of the RH brand globally with the objective of launching international locations in Europe beginning with the opening of RH England, The Country House at the Historic Aynho Park, in the spring of 2023.

We have secured a number of locations in various markets in the United Kingdom and continental Europe for future Design Galleries and are in lease or purchase negotiations for additional locations.

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Basis of Presentation and Results of Operations

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THREE MONTHS ENDED

SIX MONTHS ENDED

(dollars in thousands)

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Loss on extinguishment of debt

Other income—net

Other expense—net

Total other expenses

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Share of equity method investments losses

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Non-GAAP Financial Measures

To supplement our consolidated financial statements, which are prepared and presented in accordance with generally accepted accounting principles in the United States (“GAAP”), we use non-GAAP financial measures, including adjusted operating income, adjusted net income, EBITDA, adjusted EBITDA, and adjusted capital expenditures (collectively, our “non-GAAP financial measures”).

To supplement our condensed consolidated financial statements, which are prepared and presented in accordance with generally accepted accounting principles in the United States (“GAAP”), we use non-GAAP financial measures, including adjusted operating income, adjusted net income, EBITDA, adjusted EBITDA, and adjusted capital expenditures (collectively, our “non-GAAP financial measures”).

We compute these measures by adjusting the applicable GAAP measures to remove the impact of certain recurring and non-recurring charges and gains and the tax effect of these adjustments.

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These accompanying tables include details on the GAAP financial measures that are most directly comparable to non-GAAP financial measures and the related reconciliations between these financial measures.

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Adjusted Operating Income .

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THREE MONTHS ENDED

SIX MONTHS ENDED

(in thousands)

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Loss on extinguishment of debt (1)

Other income—net (1)

Other expense—net (1)

Income tax expense (benefit) (1)

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Employer payroll taxes on option exercise (2)

Professional fee (3)

Asset impairments (4)

Non-cash compensation (3)

Asset impairments (4)

Professional fees (5)

Compensation settlements (6)

Recall accrual (7)

Reorganizational related costs (8)

Adjusted operating income

(1) Refer to discussion “Three Months Ended April 30, 2022 Compared to Three Months Ended May 1, 2021” below for a discussion of our results of operations for the three months ended April 30, 2022 and May 1, 2021.

(1) Refer to discussion “Three Months Ended July 30, 2022 Compared to Three Months Ended July 31, 2021” and “Six Months Ended July 30, 2022 Compared to Six Months Ended July 31, 2021” below for a discussion of our results of operations for the three and six months ended July 30, 2022 and July 31, 2021.

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FINANCIAL INFORMATION

(2) Represents employer payroll tax expense related to the option exercise by Mr.

Friedman in the first quarter of fiscal 2022.

(3) Represents professional fee contingent upon the completion of certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and Notes Repurchase (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

(4) Represents asset impairments related to property and equipment of Galleries under construction.

(3) Represents the amortization of the non-cash compensation charge related to a fully vested option grant made to Mr.

Friedman in October 2020.

(4) Represents asset impairment related to property and equipment of Galleries under construction.

The three and six months ended July 30, 2022 includes lease impairment of $1.0 million due to the early exit of a leased facility.

(5) Represents professional fees contingent upon the completion of certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and convertible senior notes repurchases (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

(6) Represents compensation settlements related to the Rollover Units and Profit Interest Units in the Waterworks subsidiary.

(7) Represents accruals associated with product recalls.

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(8) Represents severance costs and related payroll taxes associated with reorganizations.

Adjusted Net Income .

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THREE MONTHS ENDED

SIX MONTHS ENDED

(in thousands)

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Employer payroll taxes on option exercise (1)

Professional fee (1)

Asset impairments (1)

Non-cash compensation (1)

Asset impairments (1)

Professional fees (1)

Compensation settlements (1)

Recall accrual (1)

(Gain) loss on derivative instruments—net (2)

Amortization of debt discount (3)

Gain on derivative instruments—net (3)

Reorganization related costs (1)

Subtotal adjusted items

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(1) Refer to table titled “Reconciliation of GAAP Net Income to Operating Income and Adjusted Operating Income” and the related footnotes for additional information.

(2) Represents net (gain) loss on derivative instruments resulting from certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and convertible senior notes repurchases (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

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(3) Prior to the adoption of Accounting Standards Update (“ASU”) 2020-06—Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity (which was adopted as of the first quarter of fiscal 2022) (“ASU 2020-06”), certain convertible debt instruments that may be settled in cash on conversion were required to be separately accounted for as liability and equity components of the instrument in a manner that reflected the issuer’s non-convertible debt borrowing rate.

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The equity components represented the difference between the proceeds from the issuance of the 2023 Notes and 2024 Notes and the fair value of the liability components of the 2023 Notes and 2024 Notes, respectively.

Amounts were presented net of interest capitalized for capital projects of $2.7 million during the three months ended May 1, 2021.

No amortization of the debt discounts were recognized during the three months ended April 30, 2022, since we recombined the previously outstanding equity component of the 2023 Notes and 2024 Notes upon the adoption of ASU 2020-06.

(3) Represents net gain on derivative instruments resulting from certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and Notes Repurchase (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

(4) The adjustment for the three months ended April 30, 2022 is based on an adjusted tax rate of 0%, which represents our expected cash tax liability associated with anticipated fiscal 2022 results as we do not expect to pay taxes for fiscal 2022 due to the tax benefits primarily resulting from Mr.

Amounts were presented net of interest capitalized for capital projects of $2.9 million and $5.6 million during the three and six months ended July 31, 2021, respectively.

No amortization of the debt discounts were recognized during the three and six months ended July 30, 2022, since we recombined the previously outstanding equity component of the 2023 Notes and 2024 Notes upon the adoption of ASU 2020-06.

(4) The adjustment for both the three and six months ended July 30, 2022 is based on an adjusted tax rate of 0.0%, which represents our expected cash tax liability associated with anticipated fiscal 2022 results as we do not expect to pay taxes for fiscal 2022 due to the tax benefits primarily resulting from Mr.

Friedman’s option exercise in the first quarter of fiscal 2022.

The adjustment for the three months ended May 1, 2021 is based on an adjusted tax rate of 23.9%, which excludes the tax impact associated with our share of equity method investments losses.

The adjustment for the three and six months ended July 31, 2021 is based on an adjusted tax rate of 1.3% and 9.3%, respectively, which excludes the tax impact associated with our share of equity method investments losses.

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EBITDA and Adjusted EBITDA .

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THREE MONTHS ENDED

SIX MONTHS ENDED

(in thousands)

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Employer payroll taxes on option exercise (1)

Professional fee (1)

Asset impairments (1)

Professional fees (1)

Share of equity method investments losses (1)

Compensation settlements (1)

Capitalized cloud computing amortization (3)

Other expense—net (1)

Recall accrual (1)

Other income—net (1)

Reorganization related costs (1)

Adjusted EBITDA

(1) Refer to table titled “Reconciliation of GAAP Net Income to Operating Income and Adjusted Operating Income” and the related footnotes for additional information.

(2) Represents non-cash compensation related to equity awards granted to employees.

(3) Represents amortization associated with capitalized cloud computing costs.

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Adjusted Capital Expenditures.

We define adjusted capital expenditures as capital expenditures from investing activities and cash outflows of capital related to construction activities to design and build landlord-owned leased assets, net of tenant allowances received.

Reconciliation of Adjusted Capital Expenditures

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SIX MONTHS ENDED

(in thousands)

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Adjusted capital expenditures

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The following table presents RH Gallery and Waterworks Showroom metrics, and excludes Outlets:

THREE MONTHS ENDED

SIX MONTHS ENDED

SELLING SQUARE

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(in thousands)

Beginning of period

RH Design Galleries:

San Francisco Design Gallery

Dallas Design Gallery

RH Modern Galleries:

Dallas RH Modern Gallery

RH Baby & Child and TEEN Galleries:

Santa Monica Baby & Child and TEEN Gallery

RH Legacy Galleries:

San Francisco legacy Gallery

Dallas legacy Gallery

End of period

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Leased selling square footage excludes backrooms at retail locations used for storage, office space, food preparation, kitchen space or similar purpose, as well as exterior sales space located outside a retail location, such as courtyards, gardens and rooftops.

Leased selling square footage includes approximately 4,800 square feet as of April 30, 2022 and May 1, 2021 related to one owned retail location.

(2) Total leased square footage includes approximately 5,400 square feet as of both April 30, 2022 and May 1, 2021 related to one owned retail location.

Leased selling square footage includes approximately 4,800 square feet as of July 31, 2021 related to one owned retail location.

(2) Total leased square footage includes approximately 5,400 square feet as of July 31, 2021 related to one owned retail location.

(3) Weighted-average leased square footage and leased selling square footage are calculated based on the number of days a retail location was opened during the period divided by the total number of days in the period.

Three Months Ended April 30, 2022 Compared to Three Months Ended May 1, 2021

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FINANCIAL INFORMATION

Three Months Ended July 30, 2022 Compared to Three Months Ended July 31, 2021

THREE MONTHS ENDED

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Income from operations

Consolidated net revenues increased $97 million, or 11.2%, to $957 million in the three months ended April 30, 2022 compared to $861 million in the three months ended May 1, 2021.

Consolidated net revenues increased $2.8 million, or 0.3%, to $992 million in the three months ended July 30, 2022 compared to $989 million in the three months ended July 31, 2021.

RH Segment net revenues

RH Segment net revenues increased $89 million, or 10.9%, to $909 million in the three months ended April 30, 2022 compared to $820 million in the three months ended May 1, 2021.

The below discussion highlights several significant factors that resulted in increased RH Segment net revenues, which are listed in order of magnitude.

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RH Segment net revenues for the three months ended April 30, 2022 increased due to strong customer demand for our products and fulfillment of orders generated in prior quarters as elements of our supply chain continued to catch up with customer demand.

However, during the three months April 30, 2022 we began to experience softening demand trends which began at the time of the Russian invasion of Ukraine and have further slowed during the market disruption over the past several months.

RH Segment net revenues increased in our RH Hospitality business compared to the three months ended May 1, 2021 due to new Restaurant openings in fiscal 2021.

Outlet sales increased $7.4 million to $70 million in the three months ended April 30, 2022 compared to $62 million in the three months ended May 1, 2021.

Despite our revenue growth during the three months ended April 30, 2022, the slowdown in customer demand during the quarter, together with the overall uncertainty about macro-economic conditions, has caused us to take a conservative view about our near-term revenue trends for fiscal 2022.

RH Segment net revenues decreased $7.4 million, or 0.8%, to $940 million in the three months ended July 30, 2022 compared to $948 million in the three months ended July 31, 2021.

The below discussion highlights several significant factors that resulted in a decrease in RH Segment net revenues, which are listed in order of magnitude.

The decrease in RH Segment net revenues for the three months ended July 30, 2022 was driven primarily by softening demand trends, which began in the first quarter of fiscal 2022, and have remained below prior year trends during the second quarter of fiscal 2022.

This decrease was partially offset by backlog relief, as well as increased revenue in our RH Hospitality business compared to the three months ended July 31, 2021 due to new Restaurant openings in fiscal 2021 and fiscal 2022.

Outlet sales were $69 million in both the three months ended July 30, 2022 and July 31, 2021.

Waterworks net revenues

Waterworks net revenues increased $7.4 million, or 18.0%, to $48 million in the three months ended April 30, 2022 compared to $41 million in the three months ended May 1, 2021.

Consolidated gross profit increased $92 million, or 22.5%, to $499 million in the three months ended April 30, 2022 compared to $407 million in the three months ended May 1, 2021.

As a percentage of net revenues, consolidated gross margin increased 480 basis points to 52.1% of net revenues in the three months ended April 30, 2022 from 47.3% of net revenues in the three months ended May 1, 2021.

Waterworks net revenues increased $10 million, or 24.7%, to $51 million in the three months ended July 30, 2022 compared to $41 million in the three months ended July 31, 2021.

Consolidated gross profit increased $36 million, or 7.3%, to $523 million in the three months ended July 30, 2022 compared to $488 million in the three months ended July 31, 2021.

As a percentage of net revenues, consolidated gross margin increased 350 basis points to 52.8% of net revenues in the three months ended July 30, 2022 from 49.3% of net revenues in the three months ended July 31, 2021.

RH Segment gross profit

RH Segment gross profit increased $86 million, or 22.3%, to $473 million in the three months ended April 30, 2022 from $387 million in the three months ended May 1, 2021.

As a percentage of net revenues, RH Segment gross margin increased 480 basis points to 52.0% of net revenues in the three months ended April 30, 2022 from 47.2% of net revenues in the three months ended May 1, 2021.

The change in gross margin was primarily driven by a 390 basis point increase in product margins in the Core business, as well as leverage in our RH Segment shipping costs during the three month period ended April 30, 2022.

RH Segment gross profit increased $28 million, or 6.0%, to $495 million in the three months ended July 30, 2022 from $467 million in the three months ended July 31, 2021.

As a percentage of net revenues, RH Segment gross margin increased 340 basis points to 52.7% of net revenues in the three months ended July 30, 2022 from 49.3% of net revenues in the three months ended July 31, 2021.

The increase in gross margin was primarily driven by an increase in product margins in the Core business, as well as leverage in our shipping costs during the three month period ended July 30, 2022, offset by increases in retail occupancy costs due to new Gallery openings in fiscal 2021 and fiscal 2022.

Waterworks gross profit

Waterworks gross profit increased $5.3 million, or 26.1%, to $26 million in the three months ended April 30, 2022 from $20 million in the three months ended May 1, 2021.

As a percentage of net revenues, Waterworks gross margin increased 340 basis points to 53.3% of net revenues in the three months ended April 30, 2022 from 49.9% of net revenues in the three months ended May 1, 2021.

Waterworks gross profit increased $7.5 million, or 36.6%, to $28 million in the three months ended July 30, 2022 from $21 million in the three months ended July 31, 2021.

As a percentage of net revenues, Waterworks gross margin increased 470 basis points to 54.7% of net revenues in the three months ended July 30, 2022 from 50.0% of net revenues in the three months ended July 31, 2021.

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Selling, general and administrative expenses

Consolidated selling, general and administrative expenses increased $74 million, or 33.9%, to $293 million in the three months ended April 30, 2022 from $219 million in the three months ended May 1, 2021.

Consolidated selling, general and administrative expenses increased $50 million, or 21.0%, to $289 million in the three months ended July 30, 2022 compared to $239 million in the three months ended July 31, 2021.

RH Segment selling, general and administrative expenses

RH Segment selling, general and administrative expenses increased $71 million, or 34.8%, to $276 million in the three months ended April 30, 2022 compared to $204 million in the three months ended May 1, 2021.

RH Segment selling, general and administrative expenses for the three months ended April 30, 2022 include $12 million of employer payroll tax expense associated with Mr.

Friedman’s stock option exercise during the first quarter of fiscal 2021, a $7.2 million professional fee which was contingent upon the completion of our debt transactions related to the 2023 Notes and 2024 Notes, $5.9 million of asset impairments, and $0.6 million related to product recalls.

RH Segment selling, general and administrative expenses for both the three months ended April 30, 2022 and May 1, 2021 included amortization of the non-cash compensation of $5.9 million related to a fully vested option grant made to Mr.

Friedman in October 2020.

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RH Segment selling, general and administrative expenses were 26.9% and 24.2% of net revenues for the three months ended April 30, 2022 and May 1, 2021, respectively, excluding the costs incurred in connection with the adjustments mentioned above.

The increase in selling, general and administrative expenses as a percentage of net revenues was primarily driven by higher pre-opening costs and professional fees, as well as increases in employment and employment-related costs.

RH Segment selling, general and administrative expenses increased $41 million, or 18.2%, to $264 million in the three months ended July 30, 2022 compared $224 million in the three months ended July 31, 2021.

RH Segment selling, general and administrative expenses for the three months ended July 30, 2022 include amortization of non-cash compensation of $4.3 million related to a fully vested option grant made to Mr.

Friedman in October 2020, $2.0 million of asset impairments and a $0.3 million professional fee which was contingent upon the completion of our debt transactions related to the 2023 Notes and 2024 Notes.

RH Segment selling, general and administrative expenses for the three months ended July 31, 2021 include $7.4 million related to asset impairments, amortization of the non-cash compensation of $5.8 million related to the option grant made to Mr.

Friedman in October 2020 and $0.4 million related to severance costs and related payroll taxes associated with reorganizations.

Excluding the adjustments mentioned above, RH Segment selling, general and administrative expenses would have been 27.4% and 22.1% of net revenues for the three months ended July 30, 2022 and July 31, 2021, respectively.

The increase in selling, general and administrative expenses as a percentage of net revenues was primarily driven by increased advertising costs due to the mailing of the new RH Contemporary Source Book, the launch of The World of RH, as well as higher employment and employment-related costs, occupancy costs, professional fees and pre-opening costs.

Waterworks selling, general and administrative expenses

Waterworks selling, general and administrative expenses increased $3.1 million, or 21.1%, to $18 million in the three months ended April 30, 2022 compared to $15 million in the three months ended May 1, 2021.

Waterworks selling, general and administrative expenses for the three months ended May 1, 2021 included $0.5 million related to product recalls.

Excluding the product recall adjustment mentioned above, Waterworks selling, general and administrative expenses would have been 36.8% and 34.6% of net revenues for the three months ended April 30, 2022 and May 1, 2021, respectively.

Waterworks selling, general and administrative expenses increased $9.4 million, or 61.9%, to $25 million in the three months ended July 30, 2022 compared to $15 million in the three months ended July 31, 2021.

Waterworks selling, general and administrative expenses were 47.8% and 36.8% of net revenues for the three months ended July 30, 2022 and July 31, 2021, respectively.

Waterworks selling, general and administrative expenses for the three months ended July 30, 2022 include $3.5 million in compensation settlements related to the Rollover Units and Profit Interests Units and a $0.2 million asset impairment.

Excluding the adjustments, Waterworks Segment selling, general and administrative expenses would have been 40.7% and 36.8% of net revenues for the three months ended July 30, 2022 and July 31, 2021, respectively.

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FINANCIAL INFORMATION

Interest expense—net

Interest expense—net increased $7.5 million in the three months ended April 30, 2022 compared to the three months ended May 1, 2021, which consisted of the following in each period:

Interest expense—net increased $13 million in the three months ended July 30, 2022 compared to the three months ended July 31, 2021 consisted of the following in each period:

THREE MONTHS ENDED

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Other interest expense

Amortization of convertible senior notes debt discount

Capitalized interest for capital projects

Interest income

Capitalized interest for capital projects

Total interest expense—net

Loss on extinguishment of debt

During the three months ended April 30, 2022 we recognized a loss on extinguishment of debt of $146 million related to the repurchase of $180 million of principal value of convertible senior notes, which includes the acceleration of amortization of debt issuance costs of approximately $1.0 million.

During the three months ended July 30, 2022, we recognized a loss on extinguishment of debt of $23 million related to the repurchase of $57 million of principal value of convertible senior notes, inclusive of the acceleration of amortization of debt issuance costs of $0.3 million.

The loss represents the difference between the carrying value and the fair value of the convertible senior notes upon entering into the repurchase agreements with the noteholders.

Refer to Note 9— Convertible Senior Notes .

During the three months ended May 1, 2021, we recognized a loss on extinguishment of debt for a portion of the 2023 Notes that were early converted at the option of the noteholders of $0.1 million.

Other income—net

Other income—net was $0.3 million during the three months ended April 30, 2022, which included a net gain on derivative instruments of $3.2 million, resulting from the completion of certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and Notes Repurchase (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

The net gain was partially offset by a $2.9 million loss due to unfavorable exchange rate changes affecting foreign currency denominated transactions, primarily between the U.S.

Refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements.

During the three months ended July 31, 2021, we recognized a loss on extinguishment of debt of $3.2 million for a portion of the 2023 Notes that were early converted at the option of the noteholders.

Other expense—net

Other expense—net was $3.2 million during the three months ended July 30, 2022, which included a loss on derivative instruments of $1.5 million resulting from the completion of certain transactions related to the 2023 Notes and 2024 Notes.

Refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements.

Other expense—net also includes a $1.7 million loss due to unfavorable exchange rate changes affecting foreign currency denominated transactions, primarily between the U.S.

dollar as compared to Pound Sterling and Euro, in addition to a foreign exchange loss from the remeasurement of an intercompany loan with a U.K.

Income tax expense (benefit)

Income tax expense was $56 million and $3.0 million in the three months ended July 30, 2022 and July 31, 2021, respectively.

Our effective tax rate was 31.6% and 1.3% for the three months ended July 30, 2022 and July 31, 2021, respectively.

The increase in our effective tax rate is primarily attributable to lower net excess tax benefits from stock-based compensation and amounts related to the loss on extinguishment of debt in the three months ended July 30, 2022.

FINANCIAL INFORMATION

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Equity method investments losses

Equity method investments losses consists of our proportionate share of the losses of our equity method investments by applying the hypothetical liquidation at book value methodology, which resulted in a $2.8 million and $2.5 million loss during the three months ended July 30, 2022 and July 31, 2021, respectively.

Six Months Ended July 30, 2022 Compared to Six Months Ended July 31, 2021

SIX MONTHS ENDED

(in thousands)

Cost of goods sold

Selling, general and administrative expenses

Income from operations

Consolidated net revenues increased $99 million, or 5.4%, to $1,949 million in the six months ended July 30, 2022 compared to $1,850 million in the six months ended July 31, 2021.

RH Segment net revenues

RH Segment net revenues increased $82 million, or 4.6%, to $1,849 million in the six months ended July 30, 2022 compared to $1,767 million in the six months ended July 31, 2021.

The below discussion highlights several significant factors that resulted in an increase in RH Segment net revenues, which are listed in order of magnitude.

RH Segment net revenues for the six months ended July 30, 2022 increased due to fulfillment of orders generated in prior quarters as elements of our supply chain continued to catch up with customer demand.

However, beginning in the first quarter of fiscal 2022, we began to experience softening demand trends that have remained below prior year trends during the first half of fiscal 2022.

Additionally, net revenues from our RH Hospitality business increased compared to the six months ended July 31, 2021 due to new Restaurant openings in fiscal 2021 and fiscal 2022.

Outlet sales increased $8.0 million to $139 million in the six months ended July 30, 2022 compared to $131 million in the six months ended July 31, 2021.

Waterworks net revenues

Waterworks net revenues increased $18 million, or 21.4%, to $100 million in the six months ended July 30, 2022 compared to $82 million in the six months ended July 31, 2021.

Consolidated gross profit increased $127 million, or 14.2%, to $1,022 million in the six months ended July 30, 2022 from $895 million in the six months ended July 31, 2021.

As a percentage of net revenues, consolidated gross margin increased 400 basis points to 52.4% of net revenues in the six months ended July 30, 2022 from 48.4% of net revenues in the six months ended July 31, 2021.

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FINANCIAL INFORMATION

RH Segment gross profit

RH Segment gross profit increased $114 million, or 13.4%, to $968 million in the six months ended July 30, 2022 from $854 million in the six months ended July 31, 2021.

As a percentage of net revenues, RH Segment gross margin increased 400 basis points to 52.3% of net revenues in the six months ended July 30, 2022 from 48.3% of net revenues in the six months ended July 31, 2021.

The increase in gross margin was primarily driven by an increase in product margins in the Core business, as well as leverage in shipping costs during the six month period ended July 30, 2022, offset by increases in retail occupancy costs driven by new Gallery openings in fiscal 2021 and fiscal 2022.

Waterworks gross profit

Waterworks gross profit increased $13 million, or 31.4%, to $54 million in the six months ended July 30, 2022 from $41 million in the six months ended July 31, 2021.

As a percentage of net revenues, Waterworks gross margin increased 410 basis points to 54.0% of net revenues in the six months ended July 30, 2022 from 49.9% of net revenues in the six months ended July 31, 2021 primarily driven by higher revenues, favorable changes in product mix, and leverage in Waterworks occupancy costs, offset by an increase in shipping costs related to customer deliveries.

Selling, general and administrative expenses

Consolidated selling, general and administrative expenses increased $124 million, or 27.2%, to $582 million in the six months ended July 30, 2022 compared to $458 million in the six months ended July 31, 2021.

RH Segment selling, general and administrative expenses

RH Segment selling, general and administrative expenses increased $112 million, or 26.1%, to $540 million in the six months ended July 30, 2022 compared to $428 million in the six months ended July 31, 2021.

RH Segment selling, general and administrative expenses for the six months ended July 30, 2022 include $12 million of employer payroll tax expense associated with Mr.

Friedman’s stock option exercise during the first quarter of fiscal 2022, amortization of non-cash compensation of $10 million related to a fully vested option grant made to Mr.

Friedman in October 2020, $8.0 million related to asset impairments, $7.5 million of professional fees which were contingent upon the completion of our debt transactions related to the 2023 Notes and 2024 Notes and $0.6 million related to product recalls.

RH Segment selling, general and administrative expenses for the six months ended July 31, 2021 include amortization of the non-cash compensation of $12 million related to the option grant made to Mr.

Friedman in October 2020, $7.4 million related to asset impairments and $0.4 million related to severance costs and related payroll taxes associated with reorganizations.

RH Segment selling, general and administrative expenses would have been 27.1% and 23.1% of net revenues for the six months ended July 30, 2022 and July 31, 2021, respectively, excluding the costs incurred in connection with the adjustments mentioned above.

Waterworks selling, general and administrative expenses

Waterworks selling, general and administrative expenses increased $12 million, or 41.8%, to $42 million in the six months ended July 30, 2022 compared to $30 million in the six months ended July 31, 2021.

Waterworks selling, general and administrative expenses were 42.5% and 36.3% of net revenues for the six months ended July 30, 2022 and July 31, 2021, respectively.

Waterworks selling, general and administrative expenses for the six months ended July 30, 2022 include $3.5 million in compensation settlements related to the Rollover Units and Profit Interest Units and a $0.2 million asset impairment.

Waterworks selling, general and administrative expenses for the six months ended July 31, 2021 include $0.5 million related to product recalls.

Excluding the adjustments mentioned above, Waterworks selling, general and administrative expenses would have been 38.8% and 35.7% of net revenues for the six months ended July 30, 2022 and July 31, 2021.

FINANCIAL INFORMATION

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Interest expense—net

Interest expense—net increased $20 million in the six months ended July 30, 2022 compared to the six months ended July 31, 2021 consisted of the following in each period:

SIX MONTHS ENDED

(in thousands)

Term loan interest expense

Finance lease interest expense

Other interest expense

Amortization of convertible senior notes debt discount

Interest income

Capitalized interest for capital projects

Total interest expense—net

Loss on extinguishment of debt

During the six months ended July 30, 2022, we recognized a loss on extinguishment of debt of $170 million related to the repurchase of $237 million of principal value of convertible senior notes, inclusive of the acceleration of amortization of debt issuance costs of $1.3 million.

The loss represents the difference between the carrying value and the fair value of the convertible senior notes upon entering into the repurchase agreements with the noteholders.

Refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements.

During the six months ended July 31, 2021, we recognized a loss on extinguishment of debt of $3.3 million for a portion of the 2023 Notes that were early converted at the option of the noteholders.

Other expense—net

Other expense—net was $2.9 million during the six months ended July 30, 2022, which included a $4.6 million loss due to unfavorable exchange rate changes affecting foreign currency denominated transactions, primarily between the U.S.

dollar as compared to Pound Sterling and Euro, in addition to a foreign exchange loss from the remeasurement of an intercompany loan with a U.K.

The foreign currency loss was partially offset by a net gain on derivative instruments of $1.7 million during the six months ended July 30, 2022, resulting from the completion of certain transactions related to the 2023 Notes and 2024 Notes, including bond hedge and warrant terminations and convertible senior notes repurchases.

Refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements.

Income tax expense (benefit)

We recorded an income tax benefit of $163 million and income tax expense of $42 million in the three months ended April 30, 2022 and May 1, 2021, respectively.

Our effective tax rate was (438.3)% and 24.2% for the three months ended April 30, 2022 and May 1, 2021, respectively.

The decrease in our effective tax rate is primarily attributable to significantly higher net excess tax benefits from stock-based compensation partially offset by nondeductible amounts related to the extinguishment of debt.

Income tax benefit was $107 million and income tax expense was $45 million in the six months ended July 30, 2022 and July 31, 2021, respectively.

Our effective tax rate was (49.6)% and 11.1% for the six months ended July 30, 2022 and July 31, 2021, respectively.

The decrease in our effective tax rate is primarily due to significantly higher discrete tax benefits from stock-based compensation in fiscal 2022.

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FINANCIAL INFORMATION

Equity method investments losses

Equity method investments losses consists of our proportionate share of the losses of our equity method investments by applying the hypothetical liquidation at book value methodology, which resulted in a $1.4 million and $2.1 million loss during the three months ended April 30, 2022 and May 1, 2021, respectively.

Equity method investments losses consists of our proportionate share of the losses of our equity method investments by applying the hypothetical liquidation at book value methodology, which resulted in a $4.2 million and $4.6 million loss during the six months ended July 30, 2022 and July 31, 2021, respectively.

Liquidity and Capital Resources

Our principal sources of liquidity are cash flows generated from operations, our current balances of cash and cash equivalents, and amounts available under our ABL Credit Agreement.

In fiscal 2021, we entered into the ABL Credit Agreement, which amended and extended our asset based credit facility, and issued the Term Loan in the amount of $2.0 billion pursuant to the Term Loan Credit Agreement.

The issuance of the Term Loan was assigned a Ba2 rating from Moody’s Investors Service and BB rating from S&P Global.

Additionally, in May 2022, we entered into the 2022 Incremental Amendment, which amended the Term Loan Credit Agreement and raised an incremental $500 million of Term Debt Financing.

The issuance of the 2022 Incremental Amendment was assigned a Ba3 rating from Moody’s Investors Service and BB rating from S&P Global.

In fiscal 2021, we entered into the ABL Credit Agreement, which amended and extended our asset based credit facility, and issued the Term Loan B in the amount of $2.0 billion pursuant to the Term Loan Credit Agreement.

The issuance of the Term Loan B was assigned a Ba2 rating from Moody’s Investors Service and BB rating from S&P Global.

Additionally, in May 2022, we entered into the 2022 Incremental Amendment, which amended the Term Loan Credit Agreement and raised an incremental $500 million of financing by means of the Term Loan B-2.

The issuance of the Term Loan B-2 was assigned a Ba3 rating from Moody’s Investors Service and BB rating from S&P Global.

Refer to Note 10 —Credit Facilities in our condensed consolidated financial statements.

A summary of our net debt, and availability under the ABL Credit Agreement, is set forth in the following table:

THREE MONTHS ENDED

(in millions)

Asset based credit facility

Term loan (1)

Term loan B (1)

Term loan B-2 (1)

Equipment promissory notes (1)

1 unchanged sentence

Convertible senior notes due 2024 (1)

Convertible senior notes repurchase obligation (2)

Notes payable for share repurchases

3 unchanged sentences

(1) Amounts exclude discounts upon original issuance and third party offering and debt issuance cost.

(2) The convertible senior notes repurchase obligation was repaid in full on May 3, 2022 .

Refer to Note 9 —Convertible Senior Notes .

(3) As of both April 30, 2022 and January 29, 2022, the amount available for borrowing under the revolving line of credit under the ABL Credit Agreement is presented net of $20 million in outstanding letters of credit.

FINANCIAL INFORMATION

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The primary cash needs of our business have historically been for merchandise inventories, payroll, Source Books, rent for our retail and outlet locations, capital expenditures associated with opening new locations and updating existing locations, as well as the development of our infrastructure and information technology.

(2) The amount available for borrowing under the revolving line of credit under the ABL Credit Agreement is presented net of $25 million and $20 million in outstanding letters of credit as of July 30, 2022 and January 29, 2022, respectively.

The primary cash needs of our business have historically been for merchandise inventories, payroll, rent for our retail and outlet locations, capital expenditures associated with opening new locations, Source Books and updating existing locations, as well as the development of our infrastructure and information technology.

We seek out and evaluate opportunities for effectively managing and deploying capital in ways that improve working capital and support and enhance our business initiatives and strategies.

3 unchanged sentences

We expect to continue to take an opportunistic approach regarding both sources and uses of capital in connection with our business.

FINANCIAL INFORMATION

2022 SECOND QUARTER FORM 10-Q | 47

We believe our capital structure provides us with substantial optionality regarding capital allocation.

Our near-term decisions regarding the sources and uses of capital will continue to reflect and adapt to changes in market conditions and our business, including further developments with respect to macro-economic factors and the pandemic affecting business conditions including inflation and a rising interest rate environment.

We believe our existing cash balances and operating cash flows, in conjunction with available financing arrangements, will be sufficient to repay our debt obligations as they become due, meet working capital requirements and fulfill other capital needs for more than the next 12 months.

While we do not require additional debt to fund our operations, our goal continues to be in a position to take advantage of the many opportunities that we identify in connection with our business and operations.

We have pursued in the past, and may pursue in the future, additional strategies to generate capital to pursue opportunities and investments, including through the strategic sale of existing assets, utilization of our credit facilities, entry into various credit agreements and other new debt financing arrangements that present attractive terms.

We expect to continue to use additional sources of debt financing in future periods as a source of additional capital to fund our various investments.

In addition to funding the normal operations of our business, we have used our liquidity to fund significant investments and strategies such as our share repurchase program, various acquisitions, and growth initiatives, including through joint ventures and real estate investments.

In the second quarter of fiscal 2022, we repurchased 1,000,000 shares of our common stock under the Share Repurchase Program at an average price of $254.72 per share, for an aggregate repurchase amount of approximately $255 million.

To the extent we choose to secure additional sources of liquidity through incremental debt financing, there can be no assurances that we will be able to raise such financing on favorable terms, if at all, or that future financing requirements will not require us to raise money through an equity financing or by other means that could be dilutive to holders of our capital stock.

Any adverse developments in the U.S.

or global credit markets as a result of the pandemic or any other reason could affect our ability to manage our debt obligations and our ability to access future debt.

In addition, agreements governing existing or new debt facilities may restrict our ability to operate our business in the manner we currently expect or to make required payments with respect to existing commitments including the repayment of the principal amount of our convertible senior notes in cash, whether upon stated maturity, early conversion or otherwise of such convertible senior notes.

To the extent we need to seek waivers from any provider of debt financing, or we fail to observe the covenants or other requirements of existing or new debt facilities, any such event could have an impact on our other commitments and obligations including triggering cross defaults or other consequences with respect to other indebtedness.

Our current level of indebtedness, and any additional indebtedness that we may incur, exposes us to certain risks with regards to interest rate increases and fluctuations.

Our ability to make interest payments or to refinance any of our indebtedness to manage such interest rates may be limited or negatively affected by credit market conditions, macroeconomic trends and other risks.

Credit Facilities and Debt Arrangements

3 unchanged sentences

The maturity date of the asset based credit facility is July 29, 2026.

We entered into a $2.0 billion term debt financing in October 2021 (the “October 2021 Term Loans”) by means of a Term Loan Credit Agreement through RHI as the borrower, Bank of America, N.A.

We entered into a $2.0 billion term debt financing in October 2021 (the “Term Loan B”) by means of a Term Loan Credit Agreement through RHI as the borrower, Bank of America, N.A.

as administrative agent and collateral agent, and the various lenders party thereto (the “Term Loan Credit Agreement”).

The October 2021 Term Loans have a maturity date of October 20, 2028.

As of April 30, 2022, we had $1,990 million outstanding under the Term Loan Credit Agreement.

We are required to make quarterly principal payments of $5.0 million with respect to the October 2021 Term Loans.

On May 13, 2022, we entered into an incremental term debt financing (the “ 2022 Incremental Term Debt”) in an aggregate principal amount equal to $500 million by means of an amendment to the Term Loan Credit Agreement with RHI as the borrower, Bank of America, N.A.

The Term Loan B has a maturity date of October 20, 2028.

As of July 30, 2022, we had $1,985 million outstanding under the Term Loan Credit Agreement.

We are required to make quarterly principal payments of $5.0 million with respect to the Term Loan B.

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FINANCIAL INFORMATION

On May 13, 2022, we entered into an incremental term debt financing (the “ Term Loan B-2”) in an aggregate principal amount equal to $500 million by means of an amendment to the Term Loan Credit Agreement with RHI as the borrower, Bank of America, N.A.

as administrative agent and the various lenders parties thereto (the “Amended Term Loan Credit Agreement”).

The 2022 Incremental Term Debt has a maturity date of October 20, 2028.

The 2022 Incremental Term Debt constitutes a separate class from the existing October 2021 Term Loan under the Term Loan Credit Agreement.

The Term Loan B-2 has a maturity date of October 20, 2028.

The Term Loan B-2 constitutes a separate class from the existing Term Loan B under the Term Loan Credit Agreement.

As of July 30, 2022, we had $500 million outstanding under the Amended Term Loan Credit Agreement.

We are not required to make quarterly principal payments with respect to the Term Loan B-2 until December 2022.

Certain Transactions Related to Convertible Senior Notes

During the three months ended April 30, 2022, we entered into certain transactions in connection with the 2023 Notes and 2024 Notes.

In the first and second quarters of fiscal 2022, we entered into certain transactions in connection with the 2023 Notes and 2024 Notes.

Warrant Termination Agreements

We entered into agreements with certain financial institutions (collectively, the “Counterparties”) to repurchase all of the warrants previously issued in connection with the 2023 Notes and 2024 Notes.

In the first quarter of fiscal 2022, we entered into individual privately negotiated agreements with a limited number of sophisticated financial institutions (collectively, the “Counterparties”) to repurchase all of the warrants previously issued in connection with the 2023 Notes and 2024 Notes.

Upon closing of these transactions, we paid an aggregate of $391 million in cash to terminate warrants representing 3,385,580 shares of our common stock.

Convertible Bond Hedge Unwind Transactions

We entered into agreements with the Counterparties to terminate all of the remaining convertible note bond hedges previously entered into in connection with the 2023 Notes and 2024 Notes.

In the first quarter of fiscal 2022, we entered into individual privately negotiated agreements with the Counterparties to terminate all of the remaining convertible note bond hedges previously entered into in connection with the 2023 Notes and 2024 Notes.

Upon closing of these transactions, we received an aggregate of $232 million in cash for the termination of the bond hedges.

Convertible Notes Repurchase

We entered into individual privately negotiated transactions with certain holders of the 2023 Notes and 2024 Notes to repurchase $180 million in aggregate principal amount of the convertible senior notes (the “Notes Repurchase”) representing $45 million and $135 million in principal amount of 2023 Notes and 2024 Notes, respectively.

Convertible Senior Notes Repurchases

In the first and second quarters of fiscal 2022, we entered into individual privately negotiated transactions with certain holders of the 2023 Notes and 2024 Notes to repurchase $237 million in aggregate principal amount of the convertible senior notes representing $63 million and $174 million in principal amount of 2023 Notes and 2024 Notes, respectively.

Upon closing of these transactions, we paid an aggregate of $396 million in cash to repurchase such convertible senior notes .

Result of the Convertible Notes Transactions

In aggregate, we expended a net total amount of approximately $481 million in cash (inclusive of expenses) to complete the above transactions.

FINANCIAL INFORMATION

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In aggregate, we expended a net total amount of approximately $563 million in cash (inclusive of expenses) in the six months ended July 30, 2022 to complete the above transactions.

As a result of the bond hedge termination agreements, all convertible note hedges entered into in connection with the issuance of the 2023 Notes and 2024 Notes have been terminated, including convertible note hedges with respect to any 2023 Notes and 2024 Notes that remain outstanding.

As a result of the warrant termination agreements, all warrants entered into in connection with the issuance of the 2023 Notes and 2024 Notes have been terminated, including warrants with respect to any 2023 Notes and 2024 Notes that remain outstanding.

Following the completion of the Notes Repurchase, we had $101 million remaining in aggregate principal amount of convertible notes outstanding as of April 30, 2022, comprised of $20 million of 2023 Notes and $81 million of 2024 Notes.

Following the completion of the above convertible senior notes repurchases, we had $44 million remaining in aggregate principal amount of convertible notes outstanding as of July 30, 2022, comprised of $1.7 million of 2023 Notes and $42 million of 2024 Notes.

The remaining 2023 Notes have a scheduled maturity in June 2023 and the remaining 2024 Notes have a scheduled maturity in September 2024.

We anticipate having ample cash available in order to repay the principal amount of our convertible notes in cash with respect to any convertible notes for which the holders elect early conversion, as well as upon maturity in June 2023 and September 2024, in each case in order to minimize dilution.

We believe our capital structure provides us with substantial optionality regarding capital allocation.

Our near-term decisions regarding the sources and uses of capital will continue to reflect and adapt to changes in market conditions and our business, including further developments with respect to the pandemic and macro-economic factors affecting business conditions including inflation.

We expect to continue to use additional sources of debt financing in future periods as a source of additional capital to fund our various investments.

In addition to funding the normal operations of our business, we have used our liquidity to fund significant investments and strategies such as our share repurchase programs, various acquisitions, and growth initiatives, including through joint ventures and real estate investments.

Any adverse developments in the U.S.

or global credit markets as a result of the pandemic or any other reason could affect our ability to manage our debt obligations and our ability to access future debt.

Our current level of indebtedness, and any additional indebtedness that we may incur, exposes us to certain risks with regards to interest rate increases and fluctuations.

FINANCIAL INFORMATION

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We have invested significant capital expenditures in developing and opening new Design Galleries, and these capital expenditures have increased in the past, and may continue to increase in future periods, as we open additional Design Galleries, which may require us to undertake upgrades to historical buildings or construction of new buildings.

Our adjusted capital expenditures include capital expenditures from investing activities and cash outflows of capital related to construction activities to design and build landlord-owned leased assets, net of tenant allowances received.

During the three months ended April 30, 2022, adjusted capital expenditures were $42 million in aggregate, net of cash received related to landlord tenant allowances of $2.3 million.

During the six months ended July 30, 2022, adjusted capital expenditures were $95 million in aggregate, net of cash received related to landlord tenant allowances of $5.4 million.

In addition, we also received landlord tenant allowances of $4.4 million, which are reflected as a reduction to principal payments under finance leases within financing activities on the condensed consolidated statements of cash flows.

We anticipate our adjusted capital expenditures to be $200 million to $225 million in fiscal 2022, primarily related to our growth and expansion, including construction of new Design Galleries and infrastructure investments.

10 unchanged sentences

In addition, our capital needs and uses of capital may change in the future due to changes in our business or new opportunities that we may pursue.

In addition, we continue to address the effects of the COVID-19 pandemic on our business with respect to real estate development and the introduction of new Galleries in both the U.S.

and internationally.

A range of factors involved in the development of new Galleries and RH Hospitality may continue to be affected by the pandemic, including delays in construction as well as permitting and other necessary governmental actions.

In addition, the scope and cadence of investments by third parties, including landlords and other real estate counterparties, may be adversely affected by the health crisis.

Actions taken by international as well as federal, state and local government authorities, and in some instances mall and shopping center owners, in response to the pandemic, may require changes to our real estate strategy and related capital expenditure and financing plans.

In addition, we may continue to be required to make lease payments in whole or in part for our Galleries, Outlets and Restaurants that were temporarily closed or are required to close in the future in the event of resurgences in COVID-19 outbreaks or for other reasons.

Any efforts to mitigate the costs of construction delays and deferrals, retail closures and other operational difficulties, including any such difficulties resulting from the pandemic, such as by negotiating with landlords and other third parties regarding the timing and amount of payments under existing contractual arrangements, may not be successful, and as a result, our real estate strategy may have ongoing significant liquidity needs even as we make changes to our planned operations and expansion cadence.

FINANCIAL INFORMATION

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Cash Flow Analysis

A summary of operating, investing, and financing activities is set forth in the following table:

THREE MONTHS ENDED

SIX MONTHS ENDED

(in thousands)

2 unchanged sentences

Net cash used in financing activities

Net increase in cash and cash equivalents and restricted cash equivalents

Net increase (decrease) in cash and cash equivalents and restricted cash equivalents

Cash and cash equivalents and restricted cash equivalents at end of period

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FINANCIAL INFORMATION

Net Cash Provided By Operating Activities

Operating activities consist primarily of net income adjusted for non-cash items including depreciation and amortization, impairments, stock-based compensation, loss on extinguishment of debt, cash paid attributable to accretion of debt discount upon settlement of debt (prior to the adoption of ASU 2020-06 in fiscal 2022) and the effect of changes in working capital and other activities.

For the three months ended April 30, 2022, net cash provided by operating activities was $136 million and consisted of net income of $201 million and an increase in non-cash items of $221 million, partially offset by a change in working capital and other activities of $286 million.

The use of cash from working capital was primarily driven by an increase in prepaid expenses and other assets of $160 million primarily due to federal and state tax receivables, an increase in merchandise inventory of $83 million, a decrease in other current liabilities of $30 million and a decrease in operating lease liabilities of $19 million primarily due to payments made under the related lease agreements.

These uses of cash from working capital were partially offset by an increase in deferred revenue and customer deposits of $49 million primarily due to strong consumer demand for our products.

For the six months ended July 30, 2022, net cash provided by operating activities was $193 million and consisted of net income of $323 million and an increase in non-cash items of $317 million, partially offset by a change in working capital and other activities of $447 million.

The use of cash from working capital was primarily driven by an increase in prepaid expenses and other assets of $153 million primarily due to federal and state tax receivables and the issuance of additional promissory notes receivable, an increase in merchandise inventory of $125 million, a decrease in accounts payable and accrued expenses of $64 million, a decrease in operating lease liabilities of $38 million primarily due to payments made under the related lease agreements, an increase in landlord asset under construction, net of tenant allowances, of $32 million and a decrease in other current liabilities of $25 million.

Net Cash Used In Investing Activities

1 unchanged sentence

Investing activities also include our strategic investments.

For the three months ended April 30, 2022, net cash used in investing activities was $30 million and was comprised of investments in retail stores, information technology and systems infrastructure of $29 million and additional funding of our equity method investments of $1.1 million.

For the six months ended July 30, 2022, net cash used in investing activities was $64 million and was comprised of investments in retail stores, information technology and systems infrastructure of $63 million and additional funding of our equity method investments of $1.5 million.

Net Cash Used In Financing Activities

Financing activities consist primarily of borrowings and repayments related to convertible senior notes, credit facilities and other financing arrangements, and cash used in connection with such financing activities include investments in share repurchase programs, repayment of indebtedness including principal payments under finance lease agreements and other equity related transactions.

For the three months ended April 30, 2022, net cash used in financing activities was $42 million, primarily due to certain transactions entered into in the first quarter of fiscal 2022 related to the 2023 Notes and 2024 Notes, and the related bond hedge and warrant agreements.

Financing activities consist primarily of borrowings and repayments related to convertible senior notes, credit facilities and other financing arrangements, and cash used in connection with such financing activities include investments in our share repurchase program, repayment of indebtedness including principal payments under finance lease agreements and other equity related transactions.

For the six months ended July 30, 2022, net cash used in financing activities was $224 million, primarily due to the completion of certain transactions related to the 2023 Notes and 2024 Notes in the first quarter of fiscal 2022.

These transactions resulted in payments of $391 million for the termination of all such outstanding common stock warrants, partially offset by proceeds of $232 million from the termination of all of the remaining convertible note bond hedges.

In addition, we repaid $13 million in aggregate principal amount of certain 2023 Notes and 2024 Notes as a result of early conversions during the quarter, as well as made payments on equipment notes of $11 million, term loans of $5.0 million and finance lease agreements of $3.6 million.

These cash outflows were partially offset by proceeds from option exercises of $150 million, primarily due to Mr.

Net cash used in financing activities also included uses of cash of $395 million for the settlement of the convertible senior notes repurchase obligation, as well as payments of $13 million in aggregate principal amount of certain 2023 Notes and 2024 Notes as a result of early conversions by the noteholders.

Refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements.

These cash outflows were partially offset by the issuance of the Term Loan B-2 in May 2022 in the amount of $500 million pursuant to the 2022 Incremental Amendment to the Term Loan Credit Agreement, for which we incurred debt issuance costs of $28 million.

During the six months ended July 30, 2022, we made payments on equipment notes of $13 million, payments under our term loans of $10 million and net payments under finance lease agreements of $3.1 million.

During the six months ended July 30, 2022, we repurchased 1,000,000 shares of our common stock for an aggregate repurchase amount of $255 million and we received proceeds from option exercises of $152 million, primarily due to Mr.

Friedman’s option exercise activity in the first quarter of fiscal 2022.

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Non-Cash Transactions

Non-cash transactions consist of non-cash additions of property and equipment and landlord assets and reclassification of assets from landlord assets under construction to finance lease right-of-use assets, as well as promissory notes forgiven in exchange for assets.

In addition, non-cash transactions consist of shares issued and received related to convertible senior note transactions, as well as a financing liability and an embedded derivative arising from the Notes Repurchase (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements).

In addition, non-cash transactions consist of the extinguishment of convertible senior notes related to our repurchase obligations and associated financing liabilities and embedded derivatives arising from the convertible senior notes repurchases (refer to Note 9— Convertible Senior Notes in our condensed consolidated financial statements), as well as shares issued and received related to convertible senior note transactions.

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Cash Requirements from Contractual Obligations

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Refer to Note 10— Credit Facilities in our condensed consolidated financial statements for further information on our asset based credit facility, including the amount available for borrowing under the revolving line of credit, net of outstanding letters of credit.

Refer to Note 10— Credit Facilities in our condensed consolidated financial statements for further information on our Term Loan.

Term Loan Facilities

Refer to Note 10— Credit Facilities in our condensed consolidated financial statements for further information on our term loans facilities, including our Term Loan B and Term Loan B-2.

Equipment Loan Facility

Refer to Note 10—Credit Facilities in our condensed consolidated financial statements for further information on our equipment loan facility.

Share Repurchase Program

We regularly review share repurchase activity and consider various factors in determining whether and when to execute investments in connection with our share repurchase programs, including, among others, current cash needs, capacity for leverage, cost of borrowings, results of operations and the market price of our common stock.

We believe that share repurchase programs will continue to be an excellent allocation of capital for the long-term benefit of our shareholders.

As of July 30, 2022, one equipment security note remains outstanding with a maturity date in April 2023.

Share Repurchase Program and Share Retirement

We regularly review share repurchase activity and consider various factors in determining whether and when to execute investments in connection with our share repurchase program, including, among others, current cash needs, capacity for leverage, cost of borrowings, results of operations and the market price of our common stock.

We believe that our share repurchase program will continue to be an excellent allocation of capital for the long-term benefit of our shareholders.

We may undertake other repurchase programs in the future with respect to our securities.

$950 Million Share Repurchase Program

Share Repurchase Program

In 2018, our Board of Directors authorized a share repurchase program through open market purchases, privately negotiated transactions or other means, including through Rule 10b-18 open market repurchases, Rule 10b5-1 trading plans or through the use of other techniques such as the acquisition of other equity linked instruments, accelerated share repurchases including through privately-negotiated arrangements in which a portion of the share repurchase program is committed in advance through a financial intermediary and/or in transactions involving hedging or derivatives.

We completed $250.0 million in share repurchases in fiscal 2018 under this program.

In the first quarter of fiscal 2019, we repurchased approximately 2.2 million shares of our common stock at an average price of $115.36 per share, for an aggregate repurchase amount of approximately $250.0 million under this share repurchase program.

We did not make any repurchases under this share repurchase program during fiscal 2020, fiscal 2021 or the first quarter of fiscal 2022.

On June 2, 2022, the Board of Directors authorized an additional $2.0 billion for the purchase of shares of our outstanding common stock, which increased the total authorized size of the share repurchase program to $2,450 million (the “Share Repurchase Program”).

As of July 30, 2022, approximately $2,195 million remains available for future share repurchases under the Share Repurchase Program.

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FINANCIAL INFORMATION

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The total current authorized size of the share purchase program is up to $950 million (the “Share Repurchase Program”), of which $450 million remained available as of April 30, 2022 for future share repurchases under this share repurchase program.

On June 2, 2022, the Board of Directors authorized an additional $2.0 billion for the purchase of shares of our outstanding common stock, which is effective immediately and is an addition to the $450 million remaining under the Share Repurchase Program.

Share Retirement

During the second quarter of fiscal 2022, we retired 1,000,000 shares of common stock related to shares we repurchased under the Share Repurchase Program.

As a result of this retirement, we reclassified a total of $255 million from treasury stock to additional paid-in capital on the condensed consolidated balance sheets and condensed consolidated statements of shareholders’ equity as of July 30, 2022.

Critical Accounting Policies and Estimates

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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