Fossil Group, Inc. (NASDAQ:FOSLL), a global design, marketing, and distribution company specializing in consumer fashion accessories, is navigating a challenging operating environment while driving a comprehensive transformation plan to position the business for long-term success.

In fiscal year 2023, Fossil reported annual net sales of $1,412,384,000, a decline from the prior year. Net income for the year was a loss of $157,088,000, and the company generated negative operating cash flow of $59,459,000 and negative free cash flow of $69,352,000. These results reflect the broader headwinds impacting the consumer discretionary sector, including macroeconomic pressures, shifting consumer preferences, and increased competition.

Despite these challenges, Fossil is making progress on its strategic initiatives. In the first quarter of 2024, the company reported net sales of $254,884,000, a 21.6% decline (21.5% in constant currency) compared to the prior year period. The sales decrease was largely driven by overall category, consumer, and channel softness, as well as the company's exit from the smartwatch category and store closures as part of its Transform & Grow (TAG) plan.

Gross profit margin in the first quarter improved by 300 basis points year-over-year to 52.4%, primarily due to benefits from the TAG plan, including exiting the lower-margin smartwatch category, improved product margins in core categories, and lower freight costs. Operating expenses declined 20% compared to the prior year quarter, reflecting savings across headcount, labor, and services.

As a result, Fossil narrowed its operating loss to $29.2 million in the first quarter, compared to a loss of $37.3 million in the prior year period. The company's focus on cost optimization and margin improvement through the TAG plan is starting to bear fruit, though top-line challenges persist.

Business Overview

Fossil Group, Inc. is a global design, marketing, and distribution company that specializes in consumer fashion accessories. The company's principal offerings include an extensive line of men's and women's fashion watches and jewelry, handbags, small leather goods, belts, and sunglasses. Fossil has a diverse portfolio of globally recognized owned and licensed brand names, which it markets and distributes through various channels, including wholesale, direct-to-consumer retail stores, and e-commerce.

The company operates in three geographic segments: Americas, Europe, and Asia. In the Americas segment, which includes the United States, Canada, and Latin America, Fossil generates the majority of its sales through wholesale and direct-to-consumer channels. The Europe segment, which includes European countries, the Middle East, and Africa, also relies on wholesale and direct-to-consumer channels. The Asia segment, which includes markets such as China, Japan, and India, primarily sells through wholesale and direct-to-consumer channels as well.

Fossil's product portfolio spans a range of price points, from value-conscious to luxury-oriented consumers, allowing the company to target a wide age spectrum of style-conscious shoppers globally. The company's diversified business model, with multiple brands, product categories, and distribution channels, has historically produced varying ranges of gross profit margins.

Navigating Challenges and Driving Transformation

Fossil is currently navigating a challenging operating environment, with macroeconomic factors, such as inflation and increased interest rates, impacting consumer behavior and demand for discretionary goods. The company has also faced headwinds in specific product categories and distribution channels, including declines in its licensed fashion watch brands and leathers category, which collectively account for over 40% of revenue.

In response to these challenges, Fossil has implemented its comprehensive Transform & Grow (TAG) plan, a multi-faceted restructuring program aimed at reducing operating costs, improving operating margins, and advancing the company's commitment to profitable growth. The TAG plan, which was expanded in scope and duration in 2023, focuses on initiatives to exit or minimize certain product offerings, brands, and distribution, while strengthening gross margins and increasing operating expense efficiencies.

The first quarter of 2024 saw the initial benefits of the TAG plan reflected in Fossil's financial results. Gross profit margin improved by 300 basis points year-over-year, driven by the exit of the lower-margin smartwatch category, improved product margins in core categories, and reduced freight costs. Operating expenses declined 20% compared to the prior year quarter, as the company realized savings from workforce reductions and other cost optimization measures implemented in 2023.

Fossil's long-term goal is to achieve adjusted gross margins in the low to mid-50% range and adjusted operating margins of approximately 10%, aided by the TAG initiatives. The company estimates that the TAG plan will generate approximately $300 million in annualized operating benefits by the end of 2025, with $100 million to $120 million in total charges over the duration of the program.

Segmental Performance

Fossil's geographic segments have experienced varying degrees of performance in the first quarter of 2024.

The Americas segment, which includes the United States, Canada, and Latin America, reported a 20.2% (20.8% in constant currency) decline in net sales compared to the prior year period. Sales decreases were largely driven by the FOSSIL brand and declines across all major channels, including wholesale, retail stores, and e-commerce.

In the Europe segment, which includes European countries, the Middle East, and Africa, net sales decreased by 25.5% (26.5% in constant currency) year-over-year. Sales declines were broad-based, with decreases across much of the Eurozone and in all major channels.

The Asia segment, which includes markets such as China, Japan, and India, reported an 18.1% (15.5% in constant currency) decline in net sales compared to the prior year quarter. The sales decreases were largely driven by mainland China, partially offset by sales increases in India.

Across these segments, Fossil is focusing on stabilizing its business by pivoting resources and capital into more stable and growing segments, such as its Fossil traditional watches and jewelry, value brands, and premium-priced brands. The company is also working closely with its licensors to manage the contraction in its fashion watch brands amid category declines, brand transitions, and challenging macroeconomic conditions in key markets.

Liquidity

As of the end of the first quarter of 2024, Fossil had $112.9 million in cash and cash equivalents and $9.9 million in available borrowing capacity under its revolving credit facility, for a total liquidity position of $122.8 million. The company also had $150.0 million in outstanding senior notes and $57.5 million in outstanding borrowings under its revolving credit facility.

Fossil is focused on strengthening its balance sheet and improving its liquidity position. In the first quarter, the company had minimal cash usage, and it received a $57 million U.S. tax refund in April 2024 derived from provisions within the CARES Act. Additionally, the company is pursuing asset monetization opportunities, including the sale of real estate in Europe, which could yield $10 million to $15 million in net cash proceeds by the end of 2024.

Through continued disciplined management of working capital and the initiatives outlined in its TAG plan, Fossil expects to be free cash flow positive in fiscal year 2024, a significant improvement compared to the prior year's use of cash of approximately $70 million. However, the company notes that the seasonal nature of its business and projected sales declines will require operating cash to be used in the second and third quarters of 2024.

Outlook

For the full year 2024, Fossil is maintaining its previous guidance of approximately $1.2 billion in net sales and an adjusted operating margin loss of 3% to 5%. The company's net sales guidance assumes a negative impact of approximately $100 million from its store and concession closure plans and the lapping of last year's smartwatch sales.

Fossil expects the benefits from its TAG plan to be a key driver of its 2024 gross margins and SG&A expenses. The company anticipates achieving over $100 million in P&L benefits in 2024, stemming from annualized savings achieved in 2023 and expected to be achieved in 2024 under the TAG plan. These benefits are expected to materialize in both gross margin expansion, particularly in the second half of the year, and SG&A expense reductions in the low to mid-teens on a year-over-year basis for the remaining quarters of 2024.

In addition to executing its TAG plan, Fossil is also conducting a strategic review of its business, including an ongoing review of its business model and a comprehensive assessment of its capital structure and capital allocation strategies. The company is working with advisors to pursue avenues to maximize shareholder value and strengthen its long-term competitive position.

Conclusion

Fossil Group, Inc. is navigating a challenging operating environment, but the company is making progress on its comprehensive Transform & Grow plan to reduce costs, improve margins, and position the business for long-term success. While top-line pressures persist, Fossil's focus on cost optimization and margin improvement is starting to yield results, as evidenced by the company's improved gross profit margin and reduced operating expenses in the first quarter of 2024.

As Fossil continues to execute its strategic initiatives and explore options to strengthen its capital structure, the company's ability to stabilize its business and drive sustainable profitability will be critical in unlocking value for shareholders. Investors should closely monitor Fossil's progress in implementing its TAG plan, managing its liquidity position, and the outcomes of the ongoing strategic review process.