Express, Inc.
Q4 2016 Earnings Call Transcript

Published: 9 Mar 2017

[Operator:]

Greetings and welcome to the Express, Inc. Fourth Quarter 2016 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Mark Rupe, Vice President of Investor Relations. Thank you. Mr. Rupe, you may begin.

[Mark Rupe:]

Thank you, Michelle. Good morning and welcome to our call. I would like to open by reminding you of the company’s Safe Harbor provisions. Any statements made during this conference call, except those containing historical facts, maybe deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual future results may differ materially from those suggested in the forward-looking statements due to a number of risks and uncertainties, all of which are described in the company’s filings with the SEC, including today’s press release. Express assumes no obligation to update any forward-looking statements or information, except as otherwise required by law. In addition, during this call, we will make reference to adjusted net income, adjusted diluted earnings per share and free cash flow, which are non-GAAP measures. Information necessary to reconcile these non-GAAP measures to reported net income and diluted earnings per share can be found in our press release and in the investor presentation, which have been filed with the SEC and are available on the company’s Investor Relations website. Our comments today will supplement the detailed information provided in both the press release and the investor presentation. With me today are David Kornberg, President and CEO; Matt Moellering, Executive Vice President and COO; and Perry Pericleous, Senior Vice President and CFO. I will now turn the call over to David.

[David Kornberg:]

Thank you, Mark. Good morning and thank you for joining us. I will begin my remarks with a brief update on our fourth quarter and 2016 results, followed by a review of our key accomplishments and merchandise performance. Finally, I will discuss our 2017 initiatives in the context of our strategic objectives. Despite continued retail headwinds, our fourth quarter earnings were in line with the guidance we issued in our third quarter earnings release and reaffirmed in January. Diluted earnings per share, was $0.29 for the quarter, with comparable sales of negative 13%. And for the year as a whole, our adjusted diluted EPS was $0.81, with comparable sales of negative 9%. As we have previously discussed, our results in 2016 were impacted by declining mall traffic trends, a promotional retail environment and three company-specific issues, which included expanding choice counts, broadening our customer projections and reducing customer touch points that we have now addressed. And while the year proved challenging, it did include several key accomplishments that positioned us to not only improve our performance, but also to capitalize on changing consumer shopping patterns. I will start by highlighting some of these key accomplishments. E-commerce sales grew for the ninth consecutive year surpassing $400 million and we continue to be excited about the accelerated growth we are seeing online. We replaced 25-year-old legacy IT systems with new order management, retail management and enterprise planning systems that were all successfully implemented during 2016. We have now successfully upgraded 95% of our systems, giving us the platform to implement additional omni-channel initiatives and maximize inventory productivity. We further optimized our store base with 19 outlet store openings, 16 retail store closures and the conversion of 4 retail stores to outlets, a model we intend to continue to pursue in 2017. We also began re-launching Express Next, our customer loyalty program. We began the initial phase in Q3 and expect to complete the full program refresh by mid-2017. In addition, we announced significant cost savings initiatives totaling $44 million to $54 million, of which $9 million was realized in 2016. Now, I would like to review our merchandise performance. Beginning with women’s, in the fourth quarter, we saw better-than-comp average performance in casual knits, dresses, denims, sweaters, outerwear and shoes. We had tougher results across our wear-to-work categories and believe that the lack of newness in dressy pants and dressy woven tops negatively impacted our results. This has been corrected for spring and going forward. The men’s business overall performed slightly ahead of women’s with suits, denim, outerwear and accessories performing above the comp average. We ended 2017 with confidence that the actions we have taken and the initiatives underway will translate into stronger performance and increased shareholder value. However, it is important to note that we expect our performance to improve as we progress through the year driven by our initiatives. I will now discuss in more detail our 2017 initiatives in the context of our strategic objectives, which are improving profitability through a balanced approach to growth, increasing brand awareness and elevating our customer experience, transforming and leveraging IT systems and investing in the growth and development of our people. First, as it relates to improving profitability through a balanced approach to growth. Our goal is to increase sales productivity and profitability as we focus our resources on areas of the business that have the potential to generate a strong return on investment, including increasing store productivity, growing our e-commerce and outlet businesses and optimizing our retail footprint. To accomplish this, we will tell more defined fashion stories in the store and ensure our offerings are clear and cohesive across lifestyles. We will also deliver compelling product and frequent newness. As we have discussed on prior calls, our decision to increase choice count last year did not lead to the results we planned. We were too broad and shallow, which diluted the clarity of our message in stores and decreased productivity. We have reduced choice counts in stores across our women’s and men’s offerings and increased depth per choice. We are now aligned to levels presented in 2015 and are more narrow and deep versus 2016, which we expect to drive increased productivity. Our stores reflect a clearer, more refined message about who our customer is and what type of product we curate and offer. Our spring assortment is on trend, with choices that clearly identify, present and communicate important fashion messages. While being mindful of our choice count levels, newness continues to be very important to our brand. To this end, we are introducing compelling new products and improving upon existing categories of strength to drive incremental sales in 2017. In January, we launched batiks a new offering for us that is available exclusively online. While early, batiks is off to a good start. At the end of March, we will launch a broad and versatile assortment designed and curated in collaboration with Karlie Kloss. The exclusive line embraces each of our distinct wearing occasions and is expected to further differentiate our brand and increase consumer interest. It will be offered in select stores and online. We will also be improving upon existing key categories. For example, on the women’s side of our business, we will introduce newness in dressy woven tops and pants and will be better positioned in casual knits. We also see opportunity to grow categories such as denim and dresses as well as shoes, swim and fragrance where we will expand assortments and introduce new products. On the men’s side, we are focused on elevating key areas of our business that differentiates our brand in an effort to drive increased consumer interest and demand for Express. In 2017, we are introducing new innovation such as performance easy care shirts and pants and we remain focused on growing our established suiting business. We also see a large opportunity in shoes and accessories. Overall, we are very excited about our product newness in 2017. Now, turning to our sales channels. As the shift towards e-commerce rapidly accelerates, we continue to position ourselves to capitalize on this evolution in consumer behavior. As I highlighted upfront, we are pleased with the growth that we are seeing in our e-commerce business. E-commerce sales increased 9% in Q4 and accounted for 25% of our sales and for the year as a whole, increased 5% and accounted for 19% of our sales. In 2017, we expect our e-commerce sales growth to accelerate driven by our initiatives and the growing preference for online shopping. Our key e-commerce and omni-channel initiatives in 2017 include expanding our products assortment, further enhancing the mobile experience, launching ship from stores and piloting buy online, pick up in stores, which will provide an important catalyst for sales and margin growth in the back half of the year and going forward. Switching to stores, we will continue to optimize our store footprint while investing in stores that achieve a strong return on investment. Outlets continue to be an exciting proposition for the brand and provide us the opportunity to generate incremental sales with minimal trade-off from our full price stores. We opened our first Express factory outlet store in early 2014 and ended last year with 104 locations. In 2017, we plan to open approximately 19 new outlet stores and increase the number of retail to outlet conversions. During the past couple of years, we successfully tested the conversion of select mall stores to the outlet format. We saw great results with improved sales productivity. Based on this success, we are moving forward with additional conversions. In 2017, we plan to convert approximately 20 additional retail stores in B and C malls to outlets. These stores have minimal, if any overlap with other Express retail or outlet stores given that the majority are in more remote locations. We are planning for the conversions to occur during the second half of 2017 and we expect to end the year with approximately 143 outlet stores. Concurrent with our outlet expansion, we have been reducing our U.S. full price retail store footprint through store closures and the aforementioned conversions. As you are aware, the traditional mall retail landscape is changing. Store traffic continues to be a headwind at our mall-based locations due to the changing shopping preferences of the consumer. This is most evident in our Q4 results where the sales shift towards e-commerce accelerated to 25% of our total sales, up from 20% in the prior year’s quarter. We are proactively adapting to the change. We regularly assess our fleet’s overall performance and we have approximately 50% of our U.S. retail store leases coming up for renewal in the next 3 years, which provides us with the ability to optimize our fleet size and profitability. We have already closed 50 retail stores since beginning of 2015, 7 of which were closed at the beginning of 2017. And we expect to close 3 additional retail stores during the remainder of the year and convert approximately 20 retail stores to outlets, as just noted. Based on this, we are expecting to end 2017 with 522 retail stores, down from 552 at the end of 2016. Our goal is to ensure we have the appropriate store economics in place and the right locations and brand exposure to serve our customers whenever, wherever and however they choose to shop. Our retail stores will continue to serve an important role in our business, but they will become a smaller piece of the business than in the past and our goal is to make them more productive and profitable. In addition to real estate, we are also focused on managing costs across many other areas of our business. As we outlined in 2016, we have significant cost savings opportunities of $44 million to $54 million that we are on track to deliver. We realized $9 million in savings in 2016 and expect to achieve $20 million in 2017. And to be clear, these cost savings do not contemplate the impact of store closures. We have also further lowered our capital spending assumptions for 2017, which Perry will discuss in greater detail with you shortly. So to quickly summarize our first objective, we expect e-commerce sales growth to remain strong throughout the year and we are planning for store productivity to build through the year as many of our product and store initiatives are still in front of us. Turning to our second objective, increasing brand awareness and elevating our customer experience, we are focused on improving the effectiveness of our marketing spend to increase awareness and purchase intent. Express is a strong brand, but there are clear opportunities to further strengthen it. We just launched a new brand campaign, Your Life, Your Dress Code, that we are excited about. Express brand ambassador, Karlie Kloss, will be at the center of the campaign, which embraces the breadth of wearing occasions in a way that resonates with our customers. The new campaign provides us a platform to convey our message across stores, e-commerce and our marketing channels so that we present one cohesive and powerful brand experience where and when our customer chooses to engage with us. We expect that this campaign will gain momentum as we consistently communicate it over time. We will also continue to invest in digital and broadcast video and social media as well as increase our focus on fashion influencers to further increase awareness and familiarity of our products. We are also focused on elevating our customer experience and believe there is significant opportunity to further unlock our brand value. An underlying theme of our communication today is enhancing our customer interaction with the brand regardless of how they choose to engage with us and this extends to our customer loyalty program and omnichannel initiatives. We are in the process of re-launching our customer loyalty program, EXPRESS NEXT and have made it an integral part of the Express brand. As we have communicated in the past, NEXT customers represent an important portion of our customer base in annual sales. Fully enrolled NEXT customers spend 4x more than non-loyalty customers. Still, we think there is significant opportunity to improve the program’s overall visibility and productivity. We began the initial phase of the program refresh in Q3 last year, with the goal of making it easier for loyalty customers to become fully engaged with the program to utilize their rewards. A full program refresh began last month and will continue through Q2. This last phase will improve communication with respect to customer rewards and leverage new forms of engagement. We believe that the relationship with our most loyal customers extends beyond how much they spend annually. This re-launch will make it easier for customers to enroll, earn rewards for engaging with us and extra points for utilizing the Express credit card. In the end, we believe that this will enhance our ability to increase our customer base, retain them longer and improve the frequency with which they shop. In addition, in Q2, we will introduce ship from stores, which will be rolled out during the balance of 2017. This is an important omnichannel initiative that will improve the customer experience and lead to improved online conversion rates and higher sales. We will also pilot buy online, pick up in stores later in the year. Similar to our product and store initiatives, our marketing and customer experience initiatives in 2017 will build and contribute incrementally as the year progresses. Our third objective is transforming and leveraging our IT systems. We accomplished a great deal from an IT perspective in 2016. In 2017, we will begin to leverage our new systems. In addition to the omnichannel initiatives I just touched on, we have also begun to utilize the new systems to enhance planning and allocation, which provides us with greater visibility of inventory across the entire company. Ultimately, the new systems will enable us to make decisions more quickly, increase speed to market and conduct planning and allocation with more precision and in turn, give us the ability to maximize inventory productivity and reduce markdowns. It is important to note that while we expect to realize the initial benefits from our systems in 2017, the most significant benefits are expected to be realized over time as we learn to operationalize the processes through our seasonal planning and merchandise cycles and implement additional omnichannel capabilities. Finally, our fourth objective is investing in the growth and development of our people. We work in a business and an industry where people feel challenged in terms of what they do. But we always want to ensure that Express is a business where people can feel not only challenged, but supported and appreciated. We are committed to ensuring that we continue to attract outstanding talent to the brand and nurture that talent to grow over the long-term. In summary, we remain confident in our strategy and our team. We firmly believe that our strategy is aligned with the rapidly changing retail environment and will lead to sequential improvement as we move through the year. Express is a relevant brand to consumers and known for delivering consistently strong and differentiated fashion, along with a compelling customer experience and value proposition. We have a talented and tenured management team that is highly focused on executing the initiatives we have in place to deliver stronger results. And we have solid fundamentals with more than $200 million in cash, no debt and healthy cash flow. We are focused on the right actions to change the trends of the business in a challenging environment and look forward to updating you on our progress as the year unfolds. I want to close by thanking everyone at Express for their dedication and relentless efforts as we continue to work together towards Express’ profitable growth. I would now like to turn the call over to Perry.

[Perry Pericleous:]

Thank you, David. Good morning, everyone. Before I review our financial results for the fourth quarter and full year, I would like to reiterate our commitment to driving shareholder value. While this has been a difficult operating environment, we believe we are positioned to strengthen our performance as we move through 2017. I will now turn to a review of our fourth quarter and full year 2016 results beginning with the income statement. In Q4, net sales were $679 million, an 11% decline from last year’s fourth quarter, with comparable sales down 13%. Merchandise margin contracted by 330 basis points, driven by increased promotional activity due to the challenging retail environment. Buying and occupancy expenses decreased. However, our rate de-leveraged by 230 basis points as the store comp decrease led to anticipated de-leveraging of fixed cost. As a result, fourth quarter gross margin rate contracted by 560 basis points to 28.4%. We continue to aggressively focus on managing expenses. SG&A was $13 million below last year at 22.7% of net sales. The SG&A dollar decline of 8% was the result of savings across many expense categories along with variable cost reductions. The net result was operating income of $39 million or 5.7% of net sales. This 640 basis points contraction to last year was in line with our guidance. Fourth quarter diluted earnings per share was $0.29, also in line with our guidance of $0.26 to $0.30. For the full year 2016, net sales totaled $2.2 billion, a decrease of 7% versus 2015 and comparable sales declined 9%. The sales decline, coupled with increased promotional activity, led to gross margin contraction of 360 basis points and SG&A de-leverage of 80 basis points. As a result, operating margin contracted to 4.7% and adjusted diluted earnings per share declined to $0.81 from $1.45 in 2015. Turning to our cost savings initiatives. We remain on track to deliver a total of $44 million to $54 million of annualized cost savings over the next 3 years. In 2016, we achieved $9 million of savings, most of which was in SG&A. We expect $20 million in savings in 2017 and $15 million to $25 million in 2018 through 2019. As a reminder, these cost savings do not contemplate the impact of store closures. Our balance sheet remains very healthy. Year-end inventory totaled $241 million, representing a 5% decrease over last year. We ended the year with $207 million of cash and cash equivalents, up from last year’s $187 million. Fiscal 2016 operating cash flow was $187 million and capital expenditures were $99 million. Thus free cash flow was $88 million. The final topic I want to address is our guidance for the first quarter and full year. At a high level, it is important to remember that our sales and margin comparisons are more difficult in the first half of 2017. Also, we expect that many of our 2017 initiatives will build as the year progresses. Based on this, we expect our sales and margin performance to improve as we move through the year with better relative year-over-year performance in the second half as compared to the first half. Our guidance assumes the mall traffic remains challenging and that the retail environment will remain promotional. Our guidance also incorporates higher IT-related depreciation for our new systems, wage inflationary costs and built in the return of incentive compensation to the plan. With that overview, I will now provide the guidance details. For the first quarter of 2017, we currently expect comparable sales to be in the range of negative high single-digits, net income in the range of a loss of $3 million to breakeven and diluted earnings per share in the range of a loss of $0.04 to breakeven. In addition, we expect interest expense to be approximately $1 million in Q1. We also anticipate a tax rate of approximately 39%, which does not include any future tax effects from share-based compensation or other discrete tax items, which might occur. Currently, we expect the tax impact from such discrete tax items to range from $1.5 million to $2 million in the first quarter. And to be clear, this is not included in our EPS guidance range. Based on the midpoint of our Q1 guidance, we expect our operating margin to contract by approximately 660 basis points. This will be driven by merchandise margin contractions along with B&O and SG&A de-leverage associated with the lower sales expectations. Notably, we expect approximately $6 million of higher depreciation expense as compared to last year’s first quarter due to the key systems implementations that occurred during last year. Turning to our full year 2017 guidance, we expect comparable sales to be in the range of flat to low single-digits as compared to negative 9% for 2016, net income to range from $52 million to $58 million and diluted earnings per share to range from $0.65 to $0.73. We expect interest expense of $4 million and a tax rate of approximately 39%. In addition, as many of you are aware, the fiscal year ending February 3, 2018 contains a 53rd week. This additional week is included in our fourth quarter and reflected in our annual guidance. We estimate that the 53rd week will represent approximately $28 million in incremental revenue and approximately $0.04 in diluted earnings per share. On a full year basis for 2017, we expect that at the midpoint of our guidance, operating margin will contract by approximately 50 basis points driven by SG&A de-leverage. This de-leverage is due to higher depreciation, wage inflationary costs and built in the return of incentive compensation to the plan. For the year, we expect depreciation expense will be approximately $10 million higher due to the systems implementations. Lastly, in terms of our capital expenditures outlook, we are planning for $62 million to $67 million in spending, which is more than $30 million below 2016. While we are taking a more conservative stance on capital spending, we remain positioned to support our growth initiatives, including omni-channel capabilities and high return on investments real estate projects. IT spending will be lower in 2017 given that we have now modernized 95% of our systems portfolio. These actions are consistent with our latest forecast on reducing spending in all facets of our business. Similar to 2016, our 2017 guidance outlook implies that we will continue to generate solid operating and free cash flow. In summary, we are confident we have the right strategy and initiatives in place to improve our sales and profit trends. We are also financially sound with more than $200 million in cash, no debt and healthy cash flow. We are committed to driving shareholder value and look forward to updating you on our progress throughout 2017. And now, I would like to turn the call over to the operator to begin the question-and-answer portion of the call

[Operator:]

[Operator Instructions] Our first question comes from the line of Simeon Siegel with Nomura Instinet. Please proceed with your question.

[Simeon Siegel:]

Good morning. David, can you talk about your comfort in the implied comp acceleration throughout the year just in light of the expectations for ongoing traffic challenges? And then, Perry, can you just – can you talk about the volatility of gross margins? Maybe talk to your comfort in how, when, how much you would expect the improved systems or inventory management will help the grosses? You have obviously seen meaningful merch margin erosion. So, if you can talk to the opportunities there and then what is the implied gross margin into Q1 and full year guide? Thanks.

[David Kornberg:]

Hi, good morning Simeon. Okay, you asked me in terms of my comfort in terms of the comp acceleration over the remainder of the year. Look, I think as I mentioned on the prepared script, I am confident that the initiatives that we have in front of us will yield results as we go throughout the year. And we talked to a number – about a number of those initiatives, whether it’s the marketing campaign, Your Life, Your Dress Code, which has just launched and I expect to gain momentum, as we consistently communicated, over time. The next loyalty program relaunch and work that’s being done against that, the new product deliveries that we are bringing in, and we are seeing some very good responses to some of the initial spring deliveries that we have had, so we are starting to see some sequential progress in key categories such as knit tops, shorts, dress pants and dresses. And I think the – if you look at the omni-channel initiatives that we are going to be rolling out later in the year, I think that all of those combined gives me the confidence that we are going to be able to change the trend in terms of the comp and that we are going to be able to build upon that. So in answer to your question, clearly, it is a challenging environment out there. We are controlling what we can control, and we are ensuring that we are playing offense in terms of the initiatives that we have put into place for the balance of the year, and I am confident that, that is going to change the trend of the business. Perry?

[Perry Pericleous:]

Simeon, to your question on gross margin, for – I am going to take it first on Q1, then I am going to talk about the balance of the year and how the year looks from a gross margin standpoint. So in Q1, our guidance right now implies that our gross margin will contract by approximately 500 basis points. The vast majority of this contraction will come from merchandise margin. As we look at the gross margin for the balance of the year and especially for the total year, we expect gross margin to have some slight expansion, and that is driven by 2 things. One is from a merchandise margin standpoint, and David touched on the – some of the initiatives that we have for the balance of the year, we expect those to take effect as we move through the year. Two, we announced the $44 million to $54 million worth of annualized savings, which about 40% of that is in the merchandise margin, which obviously benefits the gross margin. So at the midpoint of that $44 million to $54 million, let’s call it $50 million, you have $20 million of merchandise margin opportunity that will be coming in 2017 and then 2018. In 2017, we expect on the back half of the year to see a lower business merchandise margin being realized through our sourcing and production opportunities and that we are expecting an improvement in our overall gross margin as we move through the year. The other piece of the gross margin that we have to keep in mind is, with a guidance that we provided of negative high single digits for Q1, our B&O needs low single-digit comp to leverage. And given that we are providing negative guidance in Q1, our B&O also obviously de-leverages. But as we move through the year, our buying and occupancy has the ability to leverage at the very low single-digit comp.

[Simeon Siegel:]

Great. Thanks a lot guys. Best of luck for the rest of the year.

[David Kornberg:]

Thank you.

[Perry Pericleous:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of John Morris with BMO Capital Markets. Please proceed with your question.

[John Morris:]

Hi, thanks. Good morning, everybody. Let’s see. First of all, with respect to I guess David on the assortment and the work that you guys have been doing particularly by narrowing the customer choices, can you just remind us – I think you have given us an approximation before of how much you are lowering the CCs. And which deliveries can we expect to see that in? Are we beginning to see it already with the spring deliveries? I am just wondering about that. And then also a little bit about the frequency that you are talking about in terms of improving or driving more newness, how will that manifest itself as it goes on, so kind of some product assortment questions first, David?

[David Kornberg:]

Okay, John. Hi. So in terms of narrowing the choices, we have talked about for a few months now that we would be at an optimal choice count as we go into Q1. And I think we are very much at that point in terms of women’s where we have 20% less choices than we had at this time last year, and we are back to the choice count position that we were at in 2015. In men’s, as we get further into the quarter towards the back end of March, we will be in a position where we have close to 10% less choices. And we believe that that’s the right number of choices, the right position that we should be in as we move through Q1 and get into Q2 in men’s. So overall, we are looking at a figure of around 15%, 16% less choices than we had in this time last year. And I know that it’s improving the clarity in terms of the view within the store. Obviously, online, we continue to increase our choice count because we can. And what we have seen with that is its fueling accelerated growth in the online area of our business. So, pleased with what that’s delivering there. In terms of frequency of newness, we are going to continue ensuring that we are refreshing the floor with monthly floor sets, and with ones that we have done so far, we have just set April, we are starting to see some very good responses to it. So we are going to refresh the floor with frequent newness and frequent changes in terms of the floor sets.

[John Morris:]

We can certainly see the improvement in the focus in stores, David. They look significantly more focused. Perry, a follow-up for you real quick, on the inventory mix, if you can comment a little bit about the complexion, as you sit here going into Q1, it looks like the inventory is under pretty good control. Complexion of carryover and then how are you thinking about planning inventory go forward here to spring?

[Perry Pericleous:]

So John, as we look at the inventory at the end of Q4, we feel good with the composition of our inventory. We will have some carryover inventory that we will be marking out of stock. Actually, we just did this past week. So from an inventory standpoint, again, we are clean into Q1. We feel that a negative 5% comp – negative 5% in our inventory is in good shape compared to the expectations of our sales for Q1. As David mentioned, our inventory composition is such that it supports the accelerated growth that we have seen in the e-commerce business. And we believe that we need to continue to fuel and fund the e-commerce. As it relates to the stores’ inventory, we believe that we have the right levels of inventory given that in Q4, we have done some depth testing, and we found that there is a need to increase some level of inventory in the stores to ensure that we are not out of sizes. That should also help as we move forward to improve our overall sales performance. As it relates to go-forward inventory and what we expect at the end of Q1, we expect to continue to manage the inventory with the same philosophy and mindset, which is to ensure that the e-commerce business has the right levels of inventory to produce the accelerated growth that we are seeing and that from a source standpoint that we fund the right depth of inventory to ensure that we are not out of sizes.

[John Morris:]

Okay. Thanks, guys.

[David Kornberg:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Adrienne Yih with Wolfe Research. Please proceed with your question.

[Adrienne Yih:]

Good morning. Thank you for taking my questions. Dave, I was wondering if you could talk about sort of longer term, we heard some CEOs kind of philosophically thinking about the brick-and-mortar to e-com penetration talking about it over maybe 3 to 5 years moving to 40% to 50%. I know you just reported about 19%. How do you feel about that? Your store footprint looks much more appropriate than some others, so seemingly, you are kind of proactive on that front. If you could talk about that, that would be great? And then Perry, I am going to also talk about – ask you about inventory. So it looked a little bit – obviously, you are going to have some merch margin pressure in 1Q. Would that clear out enough of the inventory such that at the end of first quarter we should see sales and inventory growth far more aligned? Thank you so much.

[David Kornberg:]

Good morning, Adrienne.

[Adrienne Yih:]

Good morning.

[David Kornberg:]

I think that your question is absolutely right. I think I should start by highlighting that the vast majority of our U.S. fleet is profitable. We have built in flexibility in terms of our leases and we are building more flexibility in as we go. 50%, as I have mentioned on the script, 50% of our leases are up for renewal within the next 3 years. So, we are constantly reviewing the actions that we should be taking. We really got to the end of these 50-store closings, but we are monthly looking at the position of our fleet and the actions that we need to take going forward. Having said that, we still believe in stores, okay. We still believe in stores, the importance of stores and the way in which stores can bring the brand to life in a physical nature. And as we go later into the year, we will be delivering our omni-channel initiatives, which is obviously going to rely on stores and our ability to up-sell in stores as customers are increasingly seeing a bloodline between e-commerce and bricks-and-mortar. So yes, stores are going to continue to be important. We have built flexibility into our leases. We have a significant amount of our leases, 50%, up for renewal within the next 3 years and we are watching it very, very closely.

[Adrienne Yih:]

Thank you.

[David Kornberg:]

Thank you.

[Perry Pericleous:]

To answer your question around inventory, obviously from a sales standpoint and a comp standpoint, we expect an acceleration from Q1 to the balance of the year given the initiatives that we have in place to improve the comp performance. And as such, we saw that the inventory at the end of Q1 needs to be there to achieve the increased sales. And as I have mentioned earlier, from an e-commerce standpoint, we have seen accelerated growth and we need to fund that inventory for the e-commerce business to achieve that accelerated growth. And from a store standpoint, we believe that we may have pulled the leverage too much last year, pulled back a little bit too much last year and therefore leaving us with styles and inventory that is broken in terms of sizes.

[David Kornberg:]

Particularly in the bottom categories.

[Perry Pericleous:]

Yes. So we believe based on the exact tests that we run in Q4 that you may not see the right alignment between sales expectation and inventory at the end of Q1.

[Operator:]

Thank you. Our next question comes from the line of Betty Chen with Mizuho Securities. Please proceed with your question.

[Betty Chen:]

Good morning, everyone. Thanks for taking our question. We were curious in terms of the fleet flexibility on the lease front and renewals. I know its early days in terms of the closures you have done so far, but have you seen anything in terms of sales transfer either online or to a nearby store? And kind of related to that, David, I mean, the e-commerce channel really continues to outperform and we continue to kind of try to reconcile that outperformance and the fact that customers are clearly reacting to the product online versus the in-store performance outside of the traffic headwind. And I guess just internally, how are you guys thinking about that? And our last question is when we think about the planning and allocation tool, is that being used for any part of the 2017 buys, whether it’s midyear or second half or – and if so whether that’s helping you buy any fewer units or at least units in the proper categories understanding you want to invest in bottoms? Thanks.

[David Kornberg:]

Okay. Just to quickly answer your questions, I think clarity of stores is a major factor in the differentiation between the results that we have achieved online versus what we have delivered in stores. We have cleared up our choice count as I said going into Q1. So, I feel good about the presentation that we are delivering in stores and the fact that it is focused on really the few that drive the many, at the same time, as telling very clear fashion stories. So I am pleased about that. In terms of our fleet flexibility, can you just repeat what you asked on that?

[Betty Chen:]

Any sales transfers? Hey, David, can you hear me?

[David Kornberg:]

Yes. For the sales transfer, what we have seen over a period of time with the stores that we have closed is somewhere in the region of 25% to 30% of those sales have shifted online. And we see that continuing as we close more and more stores. So, we don’t see that much change in terms of that.

[Matt Moellering:]

Yes. The last question – this is Matt, Betty. The last question around systems, we finished the implementations for RMS enterprise planning last year, that’s up and running. People are getting acclimated to the new systems. The last piece that we are putting in this year, a much smaller implementation although it does have a fair amount of process change attached to it, is the assortment planning tool, which will be going in this year. And once that is in, we will – we are starting to see some benefits out of the RMS and enterprise planning tools, but we will see even more accelerated benefits once we get the assortment planning tool to complement those as well.

[Betty Chen:]

Okay. Alright, great. Best of luck.

[David Kornberg:]

Thank you, Betty.

[Operator:]

Thank you. Our next question comes from Susan Anderson with FBR Capital Markets. Please proceed with your question.

[Susan Anderson:]

Hi, good morning. Thanks for taking my questions. I was wondering if you can maybe give some color on the performance of the outlets that you have converted so far in the B and C malls. How are they performing versus the regular outlets? And just given the shift to online, why not just shut those stores down and continue with opening outlets in traditional outlet locations?

[David Kornberg:]

Look, the reason we have done it, as we have tested a number for a period of time, what we have seen is a significant increase in top line sales and an even greater increase in profitability. I can’t go into the specifics. But what we are doing is we are opportunistically looking at stores based on their locations, based on their leases and really taking steps, so that’s why we are announcing those 20 stores that we are going to be converting to outlet stores. But overall, it is a very profitable way of using our real estate and that’s why we are continuing down that path.

[Matt Moellering:]

And these are typically in remote locations, so there is very little trade-off with our retail fleet in the United States as well. So, it is really a win-win for us and it increases almost zero capital investment required in these conversions and it significantly improves profitability in those stores.

[Susan Anderson:]

Okay, great. That’s helpful. And just to follow-up on the new ERP systems, maybe if you could just remind us exactly when those were completed. And it sounds like you have received some benefit so far, but it sounds like it’s still in early innings. So, I guess is the expectation that most of the benefit will come this year especially as you layer on these other systems?

[Matt Moellering:]

Yes. As we have said on previous calls, we have taken a crawl, walk, run approach to the system implementations. They were – the systems were launched in the end of July, 1st of August last year. We got the systems stabilized over about a 3-month period. The associates are now working through all process change and getting used to the new systems. And we are starting to see some benefits particularly associated with attributes, being able to get much clearer view on attributes that are trending versus not trending, and there is lots of other benefits as well. These platforms not only provide us some merchant capabilities but it also lays the foundation for us to start all of the omnichannel work that’s in front of us, which we believe it will provide large benefits, particularly ship from store and buy online and pick up from store. The ship from store will be piloted this spring and will roll out throughout the fall season. And buy online, pick up from store will be piloted in the fall season of this year and roll out in early spring next year. Both of those should provide significant benefits from a combination of both margin and top line sales. Along with that, the other tool that we are putting in is our assortment planning tool, which complements the RMF [ph] and its enterprise planning systems. This will give us a much more granular view of store level detail around how to ship to individual stores and do it in an optimal way. That again should increase margin and it should increase top line sales as inventory availability becomes better. That tool will be implemented into 2017 and will be operational in the beginning of 2018.

[Susan Anderson:]

And these are fully new tools, right, you didn’t have existing tools that were doing the same function, these are kind of tools that you have never had before, is that correct?

[Matt Moellering:]

That’s right. Most of our systems were 20-years-old to 25-years-old. These are new state-of-the-art systems that have replaced those tools. As a simple example, we did not have a separate planning opportunity for e-commerce, which we now have, which should help accelerate our e-commerce sales. We had planned e-commerce on our old systems as an average store. And I think when we rolled out our outlet stores, which we have over 100 now, we had to plan those in our old system as two departments for the entire – the entire inventory per outlet had to be planned as two departments because that’s the only capability we had at that time. We are now able to plan store – retail stores, online and outlet inventory separately in a much more granular level of detail today.

[Susan Anderson:]

Great, that’s helpful. Good luck next quarter.

[Matt Moellering:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Paul Trussell with Deutsche Bank. Please proceed with your question.

[Paul Trussell:]

Hey, good morning. I appreciate all the color you have provided on the initiatives on this call. I just wanted to circle back though and just be clear and make sure that I truly understand what that inflection is in taking place from kind of the current run rate from a top line standpoint to turning the corner into more flat to positive territory as the year goes on, so if you just kind of can speak to that, what’s leading to that inflection. And also help us with the composition of the comp that you expect, what are your thoughts around traffic, around AUR, around brick-and-mortar comps versus e-commerce? That would be helpful. Thank you.

[David Kornberg:]

We don’t break out what the comps are in terms of the guidance and how we are going to do it by channel. But I think that going back to your question, it’s really the confidence that we have in the initiatives that we have put in place that we believe are going to deliver the results going forward. So we talked about improving the product clarity in our stores through having reduced our choice counts, the accelerated growth that we are getting online and the way in which we are supporting that with the inventory, the brand campaign that we are launching Your Life, Your Dress Code, which has just been launched in the past week. And we are starting to see some good responses to that. We talked about the new products that we are delivering. Batiks, as I said is off to a very good start and we have the Karlie Kloss collection that we will be launching at the end of March, beginning of April. The next program, which we know for a fact is very strong in terms of building customer acquisition and helping customer retention and as Matt just talked about, we are going to be capitalizing on our new IT systems. So we have got the implementation of omnichannel as we go throughout the year, which will also help in terms of overall comps. I think the other thing that’s important to mention, obviously, that does not work in terms of the inflection of the comps going forward, to your question, though in – the work that we are doing in terms of optimizing our store footprint and the conversions that we are doing to outlets and the reduction in our retail store fleet. So overall, that’s why we feel positive and there is a very clear plan in place and we believe that we are able to deliver against that.

[Paul Trussell:]

That’s helpful. Thank you.

[David Kornberg:]

Thanks.

[Operator:]

Thank you. Our next question comes from the line of Roxanne Meyer with MKM Partners. Please proceed with your question.

[Roxanne Meyer:]

Good morning and thanks for taking my question. First, I wanted to follow-up on the gross margin expectations for 1Q, down 500 basis points likely due to a comp that is below where you had planned the business, what areas of the business are falling the most short here in 1Q or is this more of a broad based issue based on the current environment?

[Perry Pericleous:]

Roxanne, this is more of a broad based issue based on the environment that we are looking – we are facing especially with the declining traffic. And as we have mentioned on the call in the prepared remarks, we have seen a significant improvement in acceleration in our e-commerce business. But from a store standpoint, we continued to see the traffic challenges that we have talked about during Q4. So as we look at the gross margin, we expect the decline of about 500 basis points and we see the merchandise margin being impacted negatively given by the promotional activity. Also, as a reminder, last year in Q1, our Q1 merchandise margin grew by 20 basis points and therefore we are looking at tougher comparisons as well. But from a buying and occupancy standpoint he negative high single-digits, as you can imagine the depreciation of rent for stores and all of the fixed related costs de-leverage as you have the negative comps.

[Roxanne Meyer:]

Okay, great. And then just appreciating that your stores portfolio is likely a moving target as you assess leases coming due, I just wanted to focus on the Express brand equity, how are you thinking about the potential for outlets, the number that you are willing to open perhaps relative to the number of full price stores over time?

[David Kornberg:]

Look we have talked about it, I mean 140 to 150 outlet stores over a period of time. With the changes that we have announced this morning and the conversions that we are doing of B and C stores, knowing the fact that there are still some top outlet malls that we are not in, we believe that that number should be closer to our 160, 165 outlet stores. And we do not want to go over and above that number. And our aim is to not go over and above that number. But ultimately, there is a tipping point, but we believe it’s somewhere around that count. I think the important thing to emphasize here is the fact that the stores that we are converting are in B and C locations and are also in more remote locations, as I have said in the prepared remarks.

[Roxanne Meyer:]

Okay, great. Thanks a lot.

[David Kornberg:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Janet Kloppenburg with JJK Research. Please proceed with your question.

[Janet Kloppenburg:]

Good morning everyone.

[David Kornberg:]

Janet, good morning.

[Janet Kloppenburg:]

David, a couple of questions. We have been hearing that maybe overall fashion trends are leading the dress business to soften up a little bit in favor of pants and sweaters, maybe you could talk to that. You did say your dress business was good, but I would love to hear your thoughts there. Also, if you could talk a little bit about some of the pressures on the comp, I think the majority of the Portofino line might be pressuring the comp a bit and what the outlook is for that business going forward. And I wondered, either for Matt or Perry, if you could talk a little bit about the P&L impact of the e-comm growth, we are hearing from some players that fulfillment and logistical cost pressures are actually adversely impacting the returns from that channel, so I am wondering what’s happening there at Express? Thanks so much.

[David Kornberg:]

Okay. Janet, in response to your first two questions on the dress outlook and the Portofino comps, dresses has been a very strong category for us all along. What I am excited today is that some of the real spring and summer dresses that we have coming in look very strong indeed. Newness in terms of shades and silhouettes and drapes, and the raves that reviews we are getting are very positive. So I feel good about dresses going forward. Portofino comp sales, as I said on the last call, we are up against some big numbers on Portofino until the end of Q2. So we have to really see the change in the trends of the business on dressy woven tops as we go through Q2, but the softer comps will be up against – will be up until the end of Q2 and going into the beginning of Q3.

[Matt Moellering:]

As it relates to fulfillment, I couldn’t hear your whole question, but there’s a couple of things that are critical on fulfillment to understand. One is there are some wage pressures associated with the fulfillment business as DC workers demand for that increase over time. Those are manageable increases, although we have seen some increases particularly during the holiday period. As it relates to returns associated with the e-commerce business, we have seen returns go up over time, as I think many others have, and a lot of those returns are coming into stores. There is an impact to the store comps associated with that for sure. We aren’t going to quantify that here, but the key there that we are focused on is figuring out how to turn that return into a selling opportunity to continue to sell to the customer when they get into the store.

[Janet Kloppenburg:]

Thanks so much, Matt.

[Matt Moellering:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Pam Quintiliano with SunTrust Robinson Humphrey. Please proceed with your question.

[Pam Quintiliano:]

Great. Thanks so much for taking my question guys. So can you just remind us of the progression of comps in 4Q and anything around these extreme peaks and valleys that we have been hearing about? And then in conjunction with that, just quarter-to-date, others have commented on ongoing choppiness with improvements over Presidents’ Day. Do you think this is the new normal with the peaks and valleys?

[Perry Pericleous:]

Pam, can you repeat the first part of your question? You are breaking up a little bit, so we couldn’t – get, your questions, so it was something about the comp?

[Pam Quintiliano:]

Yes, sure. Just the progression of comps in 4Q and the peaks and valleys.

[Perry Pericleous:]

Got it. From a Q4 standpoint, pretty much what we have seen is a pretty consistent performance throughout the quarter, a bit better performance in the month of January but pretty consistent. And as a reminder, we guided in January to a negative 13%, and we came in within that guidance. And there were another couple of parts of your question. Can you please?

[Pam Quintiliano:]

Of course, sorry about that. So as far as some others have commented quarter-to-date, there’s been a lot of commentary regarding the choppy start with February, but that Presidents’ Day serves as a call to action. So just how do you think about the customer shopping on those calls to action? And then in conjunction with that, does that make you change the way you think about your promotional strategy to attempt to get the customers in the stores during those peak periods?

[Perry Pericleous:]

So Pam, as you know, we were typically more promotional during those call to action times. Historically, we have run different types of promotions to be able to attract the traffic that is the most attracted to our stores. And as we continue to look at those opportunities, whether it be the Easter build week or the Presidents’ Day in February, we will continue to run different types of promotions to ensure that, one, we remain competitive; and two, we get our fair share of the mall traffic.

[Pam Quintiliano:]

And as a follow-up to that, just are you thinking about refreshing? Or do you continue to evolve the types of promotions you are offering to keep the customer engaged with what’s going on versus a 40% off item specific or BOGO 50%? And should we see that as the year progresses?

[David Kornberg:]

Well, it depends on the environment that we see. Obviously, we continue to refresh our promotions and try to come up with what is going to be the newest thing that’s going to help drive sales and the conversion in the mall.

[Pam Quintiliano:]

Okay, thanks so much and best of luck.

[Perry Pericleous:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Marni Shapiro with The Retail Tracker. Please proceed with your question.

[Marni Shapiro:]

Hi everybody. Your spring set does look very beautiful, I have to say. Could you talk a little bit about – I have a couple of questions. As everybody is shifting online, can you talk a little bit about your ability to use your loyalty program to drive the customer into the store? Are you looking at rolling out reserve in store in 2017? And then I guess the other thing is, you have a pretty exceptional footwear assortment online, and some stores have a really good footwear assortment. I am curious why you haven’t further extended that in some of the stores. It seems like something that might drive the customer into the store to try on.

[David Kornberg:]

Okay. So in terms of loyalty and the ship to store, I think the most important initiative that we are doing this year in many ways is the omni-channel rollout. So as we get later on in the year, we are going to pilot ship from the store, and then we are going to roll it out in 2017. Having said that, in addition, we are going to pilot buy online, pick up in store. And then as we get into next year, we are going to look at reserve online, pick up in store so that we can drive some of the customers into the store. In terms of the overall footwear assortment, footwear has also been very good today. We have seen that business grow. We can obviously offer a much broader assortment online, and we are seeing a great response to that. But the limitation in terms of the overall footprint in our stores stops us from getting to a certain point in terms of footwear. But footwear continues to grow, it continues to be strong. And we are pretty pleased with the results we have got, and we are seeing it as being an absolute integral part of the assortment going forward.

[Marni Shapiro:]

Excellent. Best of luck with the spring season.

[David Kornberg:]

Thank you.

[Operator:]

Thank you. And our final question comes from the line of Rebecca Duval with BlueFin Research Partners. Please proceed with your question.

[Rebecca Duval:]

Good morning, guys and thanks for squeezing me in. Just a couple of quick questions and we will catch up more later. David, you talked about, last year especially, some of your learnings that you could get the younger customer into the stores. So do you feel like that wider net has now been cast for the 18 to, say, 30-plus customer, and that what’s represented in the assortment in stores now? And then secondly, in terms of promos, you guys have been talking about promos being up, and obviously, last year, you had pulled back on promos. So the way that we should think about it, especially in the first half, is that promos are going to be more in line with 2015 Q1 promos. Or do you think there will be even further pressure on that?

[David Kornberg:]

Let me start off with your question about the assortment. We are very clear in terms of our NF point. Our NF point is around the 25-year-old customer. And I think that the assortment and the clarity of the assortment in store is much greater and is much more in line with that target, so I feel very good about that. The other thing that I think is important to share is that we are starting to see improvement in terms of the purchase consideration of the customer who is in that 25- to 30-year-old age group, so pleased about that. Your second question was about – sorry, can you say that again?

[Rebecca Duval:]

Sorry, so about the promos. Last year, you guys pulled back further on promos at the beginning of the year. You had to correct that in the second half. But in terms of promotional levels, should we think it would be more in line with 2015?

[Perry Pericleous:]

For Q1, Rebecca, as I alluded to the promo calendar, we are going to be more in line with that of 2014 on the Q1. And then for the balance of the year, it’s going to be more in line with last year’s and a combination of last year to 2015. We are going to look at the areas from a calendar standpoint, that the call to action and given the traffic challenges, we need to make sure and ensure that we get the – we have the right promotions to drive the traffic into our stores.

[Rebecca Duval:]

Thank you. That’s very helpful. Best of luck to you guys.

[Perry Pericleous:]

Thank you.

[David Kornberg:]

Thank you.

[Operator:]

Thank you. There are no further questions at this time. I would like to turn the call back over to Mr. David Kornberg for closing remarks.

[David Kornberg:]

Thank you again for joining us and we look forward to speaking with you soon.

[Operator:]

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation and have a wonderful day.