RL
#Thank you, <UNK>, and good morning, everyone
Our second quarter results showed strong progress on resetting the business to a healthier base
Our quality of sales improvements are delivering higher AURs, lower discounts, expanded gross margins, higher inventory turns and significant growth in free cash flow
Our performance this quarter was achieved despite meaningful impact from the tragic hurricanes that affected Texas, Florida and Puerto Rico
In total, we experienced about 1 point of comp pressure in North America as a result of the hurricanes
But our results do not tell the full story, and I am incredibly proud of our teams for their swift and tireless actions to ensure that all our employees were safe, to bring relief their communities and to reopen our stores quickly following these devastating events
Let me now turn to our results
Second quarter revenues declined 9% on both a reported basis and in constant currency, which was at the high end of our guidance
Adjusted operating margin was 13.4%, 100 basis points above last year on a reported basis and 70 points higher in constant currency
Gross margin in the second quarter was up 300 basis points to last year and up 290 basis points in constant currency, driven by both average unit retail increases and discount rate reductions
Consistent with previous quarters, approximately half of the increase was driven by reduced promotional activity and half by favorable geographic and channel mix
We also remain on track with our target expense savings for the year
Operating expenses were down 5% to last year in the second quarter, driven by rightsizing our cost structure, closing unprofitable distribution and changing product development processes through SKU optimization
This productivity allows us to fund our early growth initiatives while delivering our performance commitments for the year
Moving on to our segment performance
Starting with North America
We continue to execute our plan to come back to profitable growth
Revenue was down 16% in the second quarter, reflecting substantial progress on quality-of-sales initiatives
Despite the challenging top line, our team was able to expand adjusted operating margin 150 basis points
In North America wholesale, we continue to take deliberate actions to ensure the health of our brand and to set us up for long-term success
Execution progress this quarter focused on distribution closures, brand exits, off-price reductions, receipt fullbacks and lower promotional level
These actions accounted for approximately 70% of the 22% decline in the U.S
wholesale revenue this quarter
Our pullback in the off-price channel drove lower penetration within our North America wholesale business
This will continue through the remainder of the year
Consumer demand and channel dynamics remained challenging in North America wholesale and contributed to comp declines estimated in the mid- to high single digits
However, our digital wholesale business continued to be a highlight and posted growth last year
We are addressing the weak underlying demand by evolving our product and marketing and by investing in our wholesale store environments to improve the consumer experience
As an example, as part of our Stadium launch in September, we dropped a special capsule of knitwear items with the famous P wing logo in select Macy's and Bloomingdale's stores with customers lining up for the product overnight
As <UNK> highlighted, early reads on fall product performance in Polo has shown an improving trend, which is promising
In our directly operated e-commerce business in North America, comps were down 18% in the quarter, as expected, but gross margin expanded significantly as we continued our strategy to aggressively reduce promotional activity to both ensure price coherency across our channel and to enhance the overall brand and shopping experience for our digital flagship consumer
Following our decision to shift to a cloud-based e-commerce platform, our digital and IT teams moved with urgency and outstanding dedication to implement the platform switch in time for the upcoming holiday season
As a result of their work, two weeks ago, we went live with our new cloud-based platform for RalphLauren
com in North America
Now that our new infrastructure platform is in place, we will grow the digital flagship experience for our customers by adding functionality and evolving the creative to the second half of this year
As the new site develops, it will help us create a more brand-enhancing and consistent experience for consumers and better insights and functionality for us
Moving on to Europe
Revenue increased 4% on a reported basis and was relatively flat with prior year in constant currency in the second quarter
Our teams in Europe delivered adjusted operating profit growth with margins up 350 basis points to last year and up 370 basis points in constant currency, driven by gross margin expansion
Wholesale revenue in Europe decreased 1% in constant currency
The negative impact of brand exits and significant reductions in off-price liquidation was partially offset by a shift in shipment timing from the first quarter that benefited the second quarter
The underlying trend of the full price wholesale business is about flat to last year
In the retail channel, constant currency comps were down 6% in Europe as we continued quality of sales work to rebalance pricing levels across channels
While this impacted comp growth negatively in the second quarter, gross margin and AUR were both up and the discount rate was down significantly
Going forward, we will continue this focus in Europe, which will negatively impact comps
This is similar to the strategy we pursued in Asia, and they are now delivering positive comps
Turning to Asia
Revenue was flat to last year on a reported basis and up 4% in constant currency
Adjusted operating margin was up 750 basis points and up 580 basis points in constant currency
Our team is reigniting growth in the Asia region while continuing to focus on productivity
This was the second quarter of positive comps, which increased 3% in constant currency, comp growth was driven by increased traffic and conversion and were keyed in the context of strong quality-of-sales initiatives
We expect continued comp growth in Asia as we upgrade our distribution network and continue our marketing initiatives to amplify the brand
Turning to our store fleet
We continued to improve our retail network through the closure of underperforming locations and opening new stores with improved adjacencies
In the second quarter, we opened 14 stand-alone stores and 34 concessions
We closed 12 stand-alone stores and 37 concessions, ending this quarter with 469 stand-alone stores and 622 concessions on a global basis
At yearend, we expect our stand-alone count to be up slightly to last year and our concession network to have a net increase of 20 locations, primarily in Asia
Moving on to the balance sheet
Our balance sheet is significantly stronger than last year and is a reflection of the operational progress we are making
At the end of the second quarter, inventory declined 26% to $865 million versus last year
This inventory reduction is driven by prior year restructuring actions and more effective buying processes, including a proactive pullback in receipts
We will continue to focus on inventory productivity and matching inventory flows with demand
We ended the second quarter with $1.7 billion in cash and short- and long-term investments, up from $1.1 billion at the end of last year's second quarter
Total debt at the end of the quarter was $590 million versus $692 million last year
We generated $362 million of free cash flow in the second quarter, up from $67 million in the prior year period
Now I'd like to turn to guidance for the full year and the third quarter of fiscal 2018. As a reminder, this guidance excludes restructuring and other charges
We are maintaining our constant currency revenue guidance for fiscal 2018 and raising the low end of our operating margin guidance
We continue to expect revenues to decline 8% to 9% for the year, excluding the impact of foreign currency
Brand and distribution exits in both wholesale and retail account for approximately half of the decline, with quality-of-sales initiatives and challenging traffic trends representing the remainder, partially offset by new distribution and product and marketing initiatives
Foreign currency is now expected to have approximately 80 basis points of benefit to revenue growth in fiscal 2018 versus previous guidance of minimal impact, given the recent movements in foreign exchange rates
Based on performance in the first half and targeted investments in the fourth quarter, we now expect operating margin for fiscal 2018 to be 9.5% to 10.5% in constant currency, up from our previous guidance of 9% to 10.5%
Foreign currency is now expected to have minimal impact on operating margin for fiscal 2018 versus previous guidance of 40 to 50 basis points of pressure
For the third quarter, we expect revenues to be down 6% to 8% in constant currency
Foreign currency is expected to have approximately 160 to 170 basis points of benefit to revenue growth
Operating margin for the third quarter is expected to be down 50 to 70 basis points in constant currency
While we expect gross margin to continue to expand into the third quarter, SG&A rate will create some pressure as we start the lap last year's expense reductions and invest in growth initiatives around marketing, product and stores
Foreign currency is estimated to benefit operating margin by approximately 10 to 20 basis points in the third quarter
Looking towards the fourth quarter, revenue will continue to be pressured for two reasons: First, we expect to shift in wholesale shipments that benefit Q3 and pressure Q4; second, a large portion of the March quarter is driven by clearance sales post-holiday
To support our quality-of-sales initiatives, we have planned for less clearance inventory, which will limit the clearance sales volumes this year year-over-year
This will offset some of the benefits from the Easter shift in Q4. Also for the fourth quarter, we expect SG&A expenses to grow versus last year as we accelerate our marketing initiatives and grow our marketing investments double-digits in the second half
We believe this is the right decision for the long term as we balance near-term margin pressure with setting the company up to return to growth
In terms of restructuring charges, we continue to expect approximately $200 million for the year
In the second quarter, we recognized $30 million of restructuring and other charges
We expect our effective tax rate for fiscal 2018 to be approximately 25% and for the third quarter to be approximately 23%
Let me finish by reviewing our priorities for cash and capital structure
In times of dynamic change, a strong balance sheet is a strategic asset
We are committed to maintaining our strong balance sheet and investment-grade credit rating to provide strategic flexibility, liquidity and access to the capital markets
Within that context, our first priority for cash is to invest in our business and lay the foundation for future profitable growth
Our second priority is to return capital to shareholders with a commitment to maintaining our dividend
Excess cash flow beyond current and future investment and dividend needs will be considered for future potential share repurchases
We are not planning share repurchases for fiscal 2018. We make this determination based on the cash needs of our business, sector dynamics and with consideration for the uncertain environment around U.S
Capital expenditures for fiscal 2018 are estimated at $225 million, down from the previous guidance of $300 million
We want to shift capital investments behind consumer-facing initiatives that have a demonstrated proof-of-concept and healthy rate of return
In closing, we continue to make strong progress on our operational efficiencies
We are elevating our brand and have strengthened our balance sheet and improved our cash flow so that we have the resources to fuel future profitable growth
This, combined with Ralph's enduring vision and the commitment of our teams around the world, puts us in a strong position to drive value for all our stakeholders
With that, I'd like to open it up for your questions
Question-and-Answer Session
Good morning, <UNK>
Yeah, <UNK> I would say that definitely, as we think about the future, you're going to see, as you did this quarter, less penetration in our total wholesale mix from off-price
And obviously, as <UNK> called out, digital has been a highlight in wholesale
So I'd expect that to increase in penetration
And certainly, we have an opportunity once we right-sized wholesale to get back to share growth
So those are sort of how we think about the total ecosystem
As I think about revenue growth following quality-of-sales initiatives, we absolutely believe that after we get through our rightsizing and quality-of-sales initiatives, quality of sales is going to be an ongoing scene I think it will be about balance and - but following the reset that we would get back to growth and obviously
As <UNK> said, in June, we're going to come back and play out the initiatives in more detail and give you a better road map for the timing of our financial metrics and our come back to growth
Next question please
Yeah, <UNK>, I can't say enough about how important the resetting of the base and the elevation of the brand has been in building our confidence for China in the future
As you can see in our segment reporting, just three years ago, we were not profitable in the Asia region and specifically, in China
And the team has done tremendous work as you've seen notably in this quarter in Asia to really expand operating margin
So that now, China and Asia growth is accretive over all Ralph Lauren growth
And so from a profitability standpoint and a healthy base standpoint, we're on solid footing
The brand is in great shape
We've cleaned up our distribution, which is an effort that we're continuing, and we are opening doors in a way that makes sense
We've got flagships that build the brand
We've got Polo doors that are smaller footprint that have excellent four-wall profitability that we're building out
And as you can see, we're building out a system of concessions that get us reach with our Chinese consumers and also provide a very healthy ROI
The gross margin in Asia is the highest that we have in the company
And so building and scaling in the Asia market is an opportunity to continue to expand operating margin, but to really be a significant factor of growth for us
The time is certainly right, and we have the right team and we are in the right position to do so now
Next question please
Next question please
Thank you, <UNK>
<UNK>, I do think that the inventory discipline in the - and the buying process discipline that we put in place will enable us to differentiate product assortments, but also maintain of the SKU efficiency and inventory efficiencies that we've been able to drive over the last year
Thank you
So, <UNK>, as we look at gross margin in the second quarter, we feel that we'll have gross margin expansion in the second half of at least 150 basis points
So as we move forward and we're seeing our gross margin trends, we've been confident in moving up that guidance on gross margin
What you'll see in the second half in terms of SG&A is a real shift in the fourth quarter where we are going to be investing in new stores, but most notably, marketing
Jonathan Bottomley, our new Head of Marketing, has been on board
And we have a Polo campaign coming out and some real amplification in marketing
In fact, if you look at our marketing spend, as you can see in the Q, that's been down in the first half, and it's going to be up significantly in the second half, around double-digit in the third quarter, but up significantly in the fourth quarter
As we really believe marketing and telling our story is a great opportunity for us and a great opportunity to really get back to telling our story to position us for growth
Next question, please
Thank you
Of course
So on the expense side, and as we think about investments by market, obviously, with our growth focus in Asia, that market will need more marketing
The marketing we've put is very effective, as <UNK> noted
Our top-of-mind awareness in China is very high and really is another thing that gives us confidence for growth
So you'll see marketing go up in China
Also, as we called out in our store profile, most of the new doors that are being opened are being opened in Asia, and most of the concessions that we're opening this year will be opened in Asia
So capital will be shifting to the China market as we build out
You'll also see capital going into Europe as we realize the opportunity for some greater store penetration in Europe, as well as some marketing
In North America, what the focus in capital will be is more refurbishment, how do we refresh our store environment
We're fully, although there'll be some close store here opened ones there, but it really our opportunity is to show up really well in North America and give some of our stores the love that they deserve in terms of refurbishment
You'll see marketing also in the U.S
I think we have to get back to telling our story in the U. S
Notably, on our digital site, as we - now that the - we're switched on our platform, you're going to see, especially in the third - later third and fourth quarter, more digital assets show up in marketing on our digital sites, but also telling our story in the market but in a much more digitally savvy social media way
Trend continues in this quarter was up nicely, so it's encouraging
Next question, please
So we're comfortable with our guidance in terms of our total wholesale outlook, and specifically for North America, as we said
We expect that we'll see wholesale end the year in about the same range that you saw in Q2, so we're down about 22% Q2. I expect the full year will look about similar as our cleanup continues through the third and fourth quarter
We are encouraged by what we see as progress on execution
Our underlying comp rate, as we view it, is in the mid to high single digits, and we know what we have product and marketing that we need to focus on as well as the store refreshments to change that trend as we move into FY 2019. So about similar to the year to what you saw in this quarter, but I think that the pretty stable underlying comp trend that we are looking to address as we look at all the vectors product marketing and stores
