Gildan Activewear Inc. lowered its sales and earnings guidance for the year due to weakness in the imprintables channel and lower sock sales in the third quarter.
Sales in the third quarter were down 2 percent compared to the prior year quarter mainly due to weak sales of activewear in the imprintables channel both in North America and internationally, combined with lower sock sales, including the exit of sock programs in mass, which largely offset strong sales of activewear to global lifestyle brands in the retail channel.
The sales decline together with higher manufacturing costs, including anticipated higher raw material and other input costs, partially offset by lower selling, general and administrative expenses (SG&A), led to lower earnings for the quarter. GAAP diluted EPS totaled $0.51 and adjusted diluted EPS totaled $0.53 for the three months ended September 29, 2019, both down 7 percent over the prior year quarter.
While weaker imprintables order flow in North America and ongoing softness in international imprintables markets is currently dampening sales and earnings growth in 2019, we do not believe this reflects a structural change to our business as a leading supplier of basic replenishment apparel driven by our large scale, low-cost vertically-integrated manufacturing system. Further, our sales to retailers remains largely on track, particularly as we continue to leverage our position as a preferred supplier of private brands. We continue to remain focused on the execution of our supply chain initiatives aimed at driving increased operational efficiency across our manufacturing base and continue to expect benefits from these initiatives to materialize, translating to gross margin expansion as we move into 2020. As part of these initiatives, at the end of October, we decided to move forward with plans for the closure of our textile and sewing operations in Mexico and the relocation of the equipment at these facilities to our operations in Central America and the Caribbean Basin. We are also evaluating additional opportunities to reduce costs and enhance the execution of our growth drivers, including reducing complexity in certain areas of our business. In this regard, we are currently assessing fully phasing out of our direct ship-to-the-piece imprintables business. This would allow us to continue to focus on our distributor business, simplify our product offering, and reduce costs. Finally, we are pleased with the progress of our cost containment efforts related to SG&A infrastructure and continue to expect to deliver lower SG&A as a percentage of sales in 2019.
Q3 2019 operating results
Sales for the third quarter totaled $739.7 million, down 1.9 percent compared to the prior year quarter. Lower sales reflected activewear sales of $619.2 million, up 1.1 percent compared to the third quarter of 2018, offset by a 15.1 percent decline in the hosiery and underwear category where we generated $120.5 million in overall sales. The decline in overall sales in the quarter reflected lower unit sales volumes, partly offset by favourable product-mix and slightly higher net selling prices. The slight increase in activewear sales was primarily driven by double digit growth in sales of activewear to global lifestyle brands, as well as higher fleece and fashion basics sales in North America, partly offset by lower sales of imprintable basics in North America and international markets.
Lower sales in the North American imprintables channel reflected an overall decline in point of sales from distributors to screenprinters in the high-single-digit range. While the company was projecting an improvement in demand in international markets from the first half of the year, demand softness in Europe and China extended through the third quarter. The sales decline in the hosiery and underwear category was mainly due to lower sock sales in mass and other channels, including the exit of a sock program in the dollar channel, as well as the impact of weaker industry demand in this category.
Gross margin of 27.4 percent in the third quarter of 2019 was down from 29.0 percent in the third quarter last year. The 160-basis point decline reflected higher manufacturing costs, including anticipated increases in raw material costs, inflationary pressure on other input costs, as well as unfavourable foreign exchange. These factors more than offset the benefit of more favourable product-mix and slightly higher net selling prices.
SG&A expenses for the third quarter of 2019 of $79.0 million, were down $9.1 million, compared to SG&A expenses of $88.1 million in the same quarter of 2018. As a percentage of sales, SG&A expenses were 10.7 percent, reflecting an improvement of 100 basis points over the same period last year.
The company incurred $4.4 million of restructuring and acquisition-related costs in the third quarter, compared to $3.1 million in the same period last year. Restructuring and acquisition-related costs in the third quarter of 2019 related primarily to previously announced manufacturing optimization initiatives, including consolidation of textile, hosiery, sewing, and yarn operations, as well as warehouse consolidation and sales and marketing initiatives.
Operating income for the third quarter of 2019 totaled $117.9 million, down from $127.6 million in the third quarter of 2018. After excluding restructuring and acquisition-related costs in both years, adjusted operating income1 for the three months ended September 29, 2019 amounted to $122.3 million, down $8.4 million, or 6.4 percent lower than the same period last year. As a percentage of sales, adjusted operating income for the third quarter of 16.5 percent, was down 80 basis points from adjusted operating margin1 of 17.3 percent in the third quarter of 2018. The decline was mainly due to the gross margin pressure in the quarter, offset in part by SG&A reduction.
Net earnings for the three months ended September 29, 2019 amounted to $104.9 million, or $0.51 per share on a diluted basis, compared with net earnings of $114.3 million, or $0.55 per share on a diluted basis, for the same period last year. Excluding the impact of after-tax restructuring and acquisition-related costs in both years, the company reported adjusted net earnings1 of $108.4 million, or $0.53 per share on a diluted basis, in the third quarter of 2019, down from $118.1 million, or $0.57 per share on a diluted basis, in the third quarter of 2018. The 7.0 percent decline in adjusted diluted EPS was mainly due to the decline in sales and adjusted operating margin.
The company generated $87.3 million of free cash flow1 in the third quarter of 2019, compared to free cash flow of $118.4 million in the third quarter last year. The decline was mainly due to higher working capital requirements. During the third quarter of 2019, capital expenditures were $40.2 million primarily for expenditures related to manufacturing capacity expansion initiatives. The company ended the third quarter of 2019 with net debt1 of $933.6 million and a net debt leverage ratio1 of 1.7 times net debt to trailing twelve months adjusted EBITDA1, in line with the company’s target leverage range.
Year-to-date operating results
Net sales for the nine months ended September 29, 2019 of $2,165.2 million were flat compared to the same period last year, as an increase of $26.2 million, or 1.5 percent in activewear sales offset a 6.5 percent decline in the hosiery and underwear category. The growth in activewear where we generated sales of $1,778.3 million was mainly due to favourable product-mix, driven primarily by higher fleece sales, as well as higher net selling prices, partly offset by the impact of lower unit sales volumes in imprintable basics. The decline in the hosiery and underwear sales category was mainly due to lower unit sales of socks, including the impact of our exit of a sock program in the dollar channel, partly offset by double-digit growth in underwear sales.
Gross margin of 27.1 percent for the first nine months of 2019 was down 110 basis points compared to the same period last year due mainly to higher manufacturing costs, including higher raw material costs and inflationary pressures on other input costs, as well as unfavourable foreign exchange, which more than offset the benefit of higher net selling prices and more favourable product-mix. SG&A expenses of $264.0 million for the nine months ended September 29, 2019 declined $9.0 million, or 3.3 percent, compared to the same period last year, improving 40 basis points as a percentage of sales to 12.2 percent, driven by the company’s focus on SG&A cost containment.
Operating income for the first nine months of 2019 totaled $264.7 million, or 12.2 percent of sales, down from $325.0 million, or 15.0 percent of sales, for the same period last year. The decline was primarily attributable to lower gross margin, an impairment of trade accounts receivable related to a distributor receivership in the first quarter of 2019, which negatively impacted operating income by more than 100 basis points, as well as higher restructuring and acquisition-related costs associated with the company’s manufacturing and warehouse consolidation initiatives. Excluding the impact of restructuring and acquisition-related costs, adjusted operating income for the nine months ended September 29, 2019 totaled $296.0 million, or 13.7 percent of sales, compared to $337.5 million, or 15.6 percent of sales for the same period last year.
Net earnings for the nine months ended September 29, 2019 amounted to $227.3 million, or $1.11 per share on a diluted basis, compared with net earnings of $291.2 million, or $1.37 per share on a diluted basis, for the same period last year. Excluding the impact of after-tax restructuring and acquisition-related costs in both years, the company reported adjusted net earnings of $256.2 million, or $1.25 per share on a diluted basis, for the nine months ended September 29, 2019, down from $304.2 million, or $1.43 per share on a diluted basis for the first nine months of 2018. The decrease in GAAP diluted EPS and adjusted diluted EPS was mainly due to the decline in operating and adjusted operating margin.
Outlook
Given the sales weakness for imprintables both in North America and internationally in the third quarter, which we continue to see in the fourth quarter, combined with the expected impact of lower than previously projected year-end distributor inventory levels, the company is projecting full year 2019 sales to be down low-single-digits compared to 2018. This sales guidance reflects projected activewear sales to be down low-single-digits due primarily to the downturn in imprintables sales in North America and internationally. For the hosiery and underwear category, given current overall industry demand in socks and underwear, we are incorporating more cautious assumptions in this guidance for the fourth quarter and we are now projecting sales in this category to be flat to down low-single-digits versus our prior mid-single-digit growth projection.
While gross margin for the full year of 2019 is now projected to be below the 2018 level, we continue to project gross margin expansion as we move into 2020. In addition, we continue to project an improvement in SG&A expenses as a percentage of sales over 2018. We now expect estimated after-tax restructuring and acquisition-related costs for 2019 of approximately $45 million compared to our previous projection of approximately $30 million. The increase reflects estimated costs related to the decision we made at the end of October to relocate our Mexican operations to Central America and the Caribbean Basin.
Adjusted operating margin for 2019 is expected to be lower than 2018, GAAP diluted EPS for 2019 is now projected to be $1.43 to $1.48 compared to its previous estimate of $1.50 to $1.55, and adjusted diluted EPS is expected to be in the range of $1.65 to $1.70. Adjusted EBITDA1 for the full year is projected to be in the range of $545 to $555 million and free cash flow for 2019 is expected to be $200 to $250 million. Finally, the company’s 2019 guidance does not include potential additional GAAP charges that could range between $35 to $45 million in the fourth quarter, in connection with the full phase out of its direct ship-to-the-piece imprintables business that is currently under evaluation. These charges, if incurred, are not expected to be included in adjusted operating income, adjusted EBITDA, and adjusted diluted EPS.
