Express, Inc.
Q2 2014 Earnings Call Transcript

Published: 28 Aug 2014

[Operator:]

Greetings. And welcome to the Express, Inc. Second Quarter 2014 Earnings Conference Call. At this time, all participants are in a listen only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Marisa Jacobs, Vice President of Investor Relations. Thank you. You may begin.

[Marisa Jacobs:]

Thank you. Good morning, and welcome to our call. I'd 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, may be 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 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, which speaks only as of the date given. With me today are Michael Weiss, Chairman and CEO; David Kornberg, President; Matt Moellering, Executive Vice President and COO; and Paul Dascoli, Senior Vice President and CFO. I'm going to turn the call over to Michael, who will be followed by David and Paul. We will then turn to Q&A before concluding the call.

[Michael Weiss:]

Thank you, Marisa. Good morning, everyone. And thank you for joining us today. Our second quarter result reflects a sequential improvement we guided to and spoke with you in May. Our comps were down 5%, while still not where we want them to be, those results reflect improvement from the negative revenue comp we reported for the first quarter. And our EPS which came at $0.08 exceeded the high end of our second quarter guidance. Our business performed better across the board than we initially anticipated and below the operating line we benefited for one time tax item. Paul will provide more details on our financial results in a few minutes. Looking at the business as a whole, we entered the second quarter with three priorities, to successfully ramp up our new outlet business, to deliver improved assortments and better product mix, and to invest in impactful marketing. We made good progress on all three initiatives. We also began to implement our cost savings program which remains on track. Outlets were the highlights of the quarter as they continue to exceed our expectations. Customer acceptance has been immediate and enthusiastic. Product consisting of items that were best sellers at retail translates into faster turning merchandize and fewer markdowns. When combined with a lower rent structure than our full price retail stores we expect outlets to generate higher operating margins. When we spoke about the 2014 contribution from the outlet at the beginning of the year, we estimated $30 million of incremental revenue. Based on performance today, we believe the incremental revenue is now likely to range from $55 million to $60 million. This dramatic increase is possible because comps at converted stores are significantly exceeding our original expectations. Similarly, each newly open store is significantly exceeding our pre opening sales forecast. We now anticipate that the yearend outlet stores net will be 37 including the 19 conversions, we are aggressively searching for new locations that meet our criteria with the goal of having 70 outlets open by the end of 2015. Given the opportunity, we will certainly open more. E-commerce during the second quarter grew 3%. The third quarter had gotten off to strong start and was growing at faster pace than in Q2. We are working on a number of e-commerce initiatives. In fact, we just recently rolled out several upgrades to our web site. Improved product description and product views help customers hone in on items they are looking for. We also expanded content that deepens our customers' personal involvement with the brand. The addition of customers' selfies and new features that make it easier for customers to review and to share product with their friends are examples. At the same time, we've improved the navigation and simplified checkout. In total, we expect these enhancements to improve our e-commerce conversion rate. The migration to mobile is happening at a rapid pace which is challenging because mobile conversion still lags behind desktop and tablet. We recently rolled our responsive website that creates a consistent experience from mobile to tablet to desktop. This demonstrates our prioritization of mobile first e-commerce design and supports our efforts to significantly improve mobile related conversion. We are also seeing encouraging results from our recently launched expedited mobile checkout feature. That said e-commerce remains extremely important to our current business to our omni channel transformation and to our future growth. On a full year basis, we expect e-commerce to represent approximately 16% of our total sales compared to approximately 15% last year. We are keenly aware of the ongoing changes in customer shopping preferences. We are continuing to adapt our business and there is no doubt that going forward a larger percentage of our total business will be derived from e-commerce and outlets. Stores of course will remain important but we do see a bifurcation as some malls continue to thrive while others are declining and will continue to do so. In terms of our international business, we are excited about the developing relationships with our new franchisee, Edcon. Based in South Africa, Edcon owns Edgars department stores that is also the largest non food retailer of South Africa, operating 1,300 stores across nine different formats. Edgars is rated the most recognized brand in South Africa and as such will provide us with a wonderful vehicle for introducing Express to consumers in that country. We expect our first shop-in-shop store open this fall with others to follow. Each of them will be situated in one of Edgars premium location. These shop-in-shops will provide us with important information that may enable us to open similar format in markets such as Asia and Europe. In terms of freestanding stores in South Africa, the first one is scheduled to open next spring in Cape Town. The last topic I want to touch on before turning the call over to David is my decision to retire. Last month we announced that I will retire from my role as Chief Executive Officer on January 30, the last business day of our current fiscal year. When the transition does occur, David will step into the role of CEO. I'll continue to serve as non-executive Chairman of the Board, and David will join me on the Board as the new director. I was present at the launch of Express and except for a brief hiatus I have been deeply involved with this company from that point on. Express has been a labor of love. It's also been my life's work involving a deep commitment on my part. I feel quite lucky to have found something I wanted to commit to so fully, but there was no part time status when running this business. So I decided to pass the baton. I know David is a right person to succeed me. I have full confidence in him and also know that he is supported by a deep and talented team that will lead this business forward to a future I believe holds great promise with this brand. It’s been a pleasure to get to know so many of you and I hope I will have the opportunity to say goodbye personally between now and January. With that, I'll turn the call over to David.

[David Kornberg:]

Thank you, Michael. Good morning, everyone. I want to reiterate Michael's theme that we are making progress. The environment is still challenging and promotions during the back-to-school period remain intensely competitive. Even with these headwinds, we saw improvement in a number of our women's and men's product category during the second quarter. We cleared through a lot of our slow moving spring product and did so with less impact to margins than we initially anticipated. More important is the fact that we feel better about our fall assortment, some of which you already seeing in stores and online. We have more work to do and are still dealing with under performance in certain areas including women's causal knit tops. This is a category that has seen weakness across the industry. In the second quarter, however, we saw a nice turn in our women's dressing knit tops business and expect to build upon this improvement in Q3. The more polished differentiated dressy knit that hit the store in Q2 drove growth but sequentially and when compared to last year's second quarter. And while casual knit tops remain challenging, we can partially offset this with growth in dressy knits and woven. Woven tops continue to be source of tremendous strength for business on top of a record year earnings in 2013. Sweaters in the second quarter were challenging, but we are seeing a change in the trend of the business with new fall deliveries. We received some very positive reads on our most recent sweater test and have reacted them for the fourth quarter. We are anticipating that the second half of 2014 will deliver improved performance over the first half and that we will have a good holiday sweater season. In our bottoms business, we saw improved performance, particularly as columnist and editor inventory improved throughout the second quarter. We are expecting further progress during the full season and are well positioned to September, an important wear-to-work selling period. The denim businesses have been challenging. We've done a lot of work however to improve our denim AECs. This lets us run full denim promotions that keep us competitive without impacting margins as dramatically would otherwise have been the case. We are also not accepting CRM on this denim transaction with no customer push back. In fact, we are seeing great results from our recent denim campaign. And on a side note, we avoided adding any incremental also discount to the ones that we ran last year. Furthermore, while conscious to price; we are staying true to our brand, delivering great washes, finishes and quality those appeals to the Express customer. We have built out our core denim with great clarity to showcase our offering. Women's mid- and high-rise styles are continuing to increase as an overall percentage of the mix and we don't yet see that leveling off. With the growing importance of skirts and legging, we anticipate at some trade-off with denim and plan accordingly. The strength in skirt we've been talking about for a while continued. The business has been driven by different looks including embellished minis, pencil skirt, maxis and full skirt, in short, mid and below the kneel line. We have some promising new dresses arriving and expect full results to outperform spring. Jumpsuits and rompers are selling well, and will continue to make real progress with women's shoes. Like women our overall men's business was down to last year although lesser. The men's side of the business has stronger first quarter and we took fewer men's items into our second quarter sale and to better AUR margin. In terms of specific category, the casual pants were real standout, delivering strong gain. Our chinos continued to perform well and we are seeing great initial selling on our jogger. There will be bigger message in Q3 since product is really hitting the store this month. Shorts also comfortably for the quarter. Our men's denim business has been challenging but the men's casual pant business is reflecting the shift. Men's jacket continues to build during the second quarter. We expect to see suit sales accelerate when our guys leave summer behind and come to us and search of more formal looks. Our pattern dress shirt has been a real standout in terms of men's top and in shoes we did well with sneakers during Q2. So looking at the second quarter entirely, it was one in which we made progress. We tackle the weakest categories in the first quarter and are our effortless sequential and in some cases quarter-over-quarter improvement. We are continuing to work on underperforming categories, while maximizing those delivering the better performance. In short, we believe we've positioned ourselves for stronger back half of the year. In terms of the full season, we are focused on delivering compelling fashion with an appealing price value proposition, maintaining high level of the discipline around our test-and-react strategy, improving our IMU as to preserve merchandized margins in a highly commercial environment, and last but certainly not least, with focus on maintaining open-to-buy dollars so that we can chase successful items as late in the season as possible. Turning now to marketing. Our fall campaign with Kate Upton is well underway and is driving impactful media and blogger coverage and also boosting the number of Express followers on social media. Our fall denim campaign is one of the most integrated we have run so far, successfully driving a consistent message across multiple channels of communication. We saw a huge lift in August editorial coverage which appeared in premier publications such as Elle, InStyle and Teen Vogue. In addition, feature shop to the Express product being worn by A list celebrities such as Selena Gomez, Bella Thorne, and Shakira appeared in weekly such as US Weekly and People. In September, we will see more editorial coverage in fashion and lifestyle magazine including People Style Watch, Elle, and GQ, with the focus on key wear-to-work, denim and party pieces. Before wrapping up, I want to take a minute acknowledge my gratitude to Michael and the Board of Directors for the confidence that they have shown and continue to show in me. It will be an honor to server as next CEO of Express and I want to say clearly that my commitment to the brand is stronger than ever. We will all be sad to see Michael retire. I'm very pleased, however, by his decision to stay on as our Chairman of the Board so that we can all continue to benefit from his wisdom and insight. At this time, I'm going to turn the call over to Paul to go into more detail about our financial performance.

[Dominic Paul Dascoli:]

Thank you, David. Good morning, everyone. I'm pleased to begin with the fact that our results starting on the top line of revenues and comps and progressing down to our margins were better than we anticipated back in May. Consequently, our diluted earnings per share exceeded our guidance. Having said that, the macro environment remains difficult and we continue to address the need for more compelling fashion. Traffic and transactions reached down during the quarter and our net sales of $481 million were 2% below last year's second quarter. Comparable sales were down 5%. Our gross margin came at 28.3% declining 280 points driven primarily by buying occupancy de-leverage. Merchandized margins declined 70 basis points which was better than we had expected as we headed into the quarter. This drove some of the EPS upside. We also made progress in our inventory related initiatives. Specifically, we've reduced our dependence on air, reduced shrink and managed fabric commitment far more prudently, resulting in fewer cancellation charges. I will note that we don't anticipate the same transportation savings in the second half of the year as we shift the deliveries to ensure that product keeps flowing regardless of what happens to the West Coast labor negotiations. While we have diverted shipments to East Coast ports, we have also increased our use of air shipments on a temporary basis. As a percentage of net sales, buying and occupancy expenses de-leveraged by 210 basis points compared to Q2 of 2013. With the actual comp coming in a bit better than modeled at the time we gave guidance, we experienced a bit less de-leverages than initially contemplated. Having said that, the de-leverage we did experience was primarily related to the combined impact of lower sales, higher rent and higher depreciation and amortization expense when compared to last year. SG&A as a percent of sales came at 25.3%. The 100 basis points to de-leverage reflect the impact of the negative comps as well as our increased investments in marketing. On our call we discussed certain actions being taken to reduce cost without materially impacting our operations. We estimate in 2014 savings against the 2014 operating plan at $15 million with annual go forward savings approximately $18 million. During the second quarter, we've realized just shy of $4 million in savings and are on track with our $15 million 2014 target. I'd want to point out that these savings have multiple line not just SG&A. You should expect to see approximately $12 million of these savings realized in SG&A and the balance flowing through costs of good sold and buying occupancy. Our effective tax rate was 20.6% versus 39.7% in last year's second quarter. This quarter's tax rate reflects the benefit of $1.7 million or $0.02 per diluted share associated with the completion of multi-year tax examination. We generated $7 million in net income and $0.08 of diluted earning per share compared to $16.9 million of net income and earnings per share of $0.20 in last year's second quarter. Our capital expenditures during the quarter were $32.5 million compared to $29 million last year. The increase is primarily due to investments and information technology and outlet stores. We ended the quarter with $253 million of cash and cash equivalents compared to $234 million at the same time last year. Turning to inventory. We ended the second quarter with inventory of $240 million, down 1%. Of course the reduction would have been even greater without the Express factory outlet inventory. On per square foot basis, inventories were down 4%. In terms of retail stores alone excluding outlets, inventories on per square foot basis actually declined by approximately 8%. We are comfortable with our current inventory levels at this point in the fall season. We also taking steps to more quickly redline merchandize not meeting our turn requirement, which will free up dollars to chase into better selling items. Our third quarter is of course essentially bought at this point, but we are more liquid this year than last when it comes to our fourth quarter open-to-buy. One final point as it relates our balance sheet. On our last call, we announced that the Board of Directors had authorized another $100 million repurchase program. And also authorized us to move ahead with debt refinancing transactions. Following our first quarter earnings call, Sycamore Partners expressed an interest in acquiring the company. In light of that, starting second quarter, the company did not repurchase any shares of its stock or proceed with the refinancing of our outstanding senior notes. We will not be making any further comments at this time regarding Sycamore Partners' expressed interest in the company or our plans regarding refinancing or share repurchases. I am now going to turn to our guidance for the third quarter and full year. For the third quarter, we expect to see the sequential improvement we have been discussing for the past few quarters continue; specifically we expect comparable sales to decline in low single digit range. Some gross margin de-leverage but to a lesser degree than in Q2. Modest SG&A de-leverage as we continue to be impacted by the anticipated negative comps, but also to a less degree than in Q2. And we expect our tax rate to be approximately 40%. This brings us our third quarter net income guidance to a range of $11 million to $15 million or $0.13 to $0.18 per diluted share. On a full year basis, we expect our comps to decline in mid single digit range, expect our interest expense to be approximately $24 million our tax rate to be approximately 39%. We now expect our 2014 net income to range from $72 million to $80 million or $0.85 to $0.95 per diluted share. Given our second quarter out performance we narrowed the ranges while also increasing their high end. Capital expenditures are currently expected to come in at the high end of $110 million to $115 million range provided earlier in the year compared to the $105 million spent in 2013. On our last call, we referenced plan to close 50 stores. I just want to remind you the closing days will generally coincide with the lease expiration, taking place between 2015 and 2018. So they will have no impact on this year's store count. I also want to remind you that our guidance excludes any non-core operating items that may occur. That concludes my comments. At this time, I am going to turn the call back over to Michael for some closing remarks.

[Michael Weiss:]

Thank you, Paul. I am encouraged by the progress we made during the second quarter in the face of a retail environment that remains quite challenging. We expect to make further progress during the balance of the year especially during the holiday season. We will continue our disciplined approach to inventory investment and expense management as we expect business to remain promotional. Longer-term, we have significant opportunities for growth across each of our growth pillars. We will remain true to our core vision of serving 20 to 30 years old customers across multiple wearing occasions. While doing so in a manner that adapts to their changing need and desire. Before turning to Q&A, I am turning call back over to Marisa for one quick announcement.

[Marisa Jacobs:]

Thank you, Michael. I would like to request that each person asking question focus on our second quarter performance, our guidance and our business strategy. We will not be answering questions regarding Sycamore Partners' expressed interest in the company or related matters on this call. And as always, please limit yourself to one question and one follow up so that we can get to everyone in the queue. Operator, please open the line so that we can begin the question-and-answer portion of the call.

[Operator:]

(Operator Instructions) Our first question is coming from the line of Betty Chen with Mizuho. Please proceed with your question.

[Alex Pham:]

Hi, there, it's Alex Pham on for Betty. Just want to say congratulations on a nice improvement in 2Q so far. My question is just in regards to the competitive environment. What are you guys seeing so far in 3Q and is guidance sort of incorporating sort of quarter-to-date trends? Thanks.

[David Kornberg:]

Yes. In terms of the guidance, Alex, it is incorporating third quarter-to-date trends. In terms of competitive environment it is continuing, in terms of what we are seeing, we are seeing a lot of [old-stock] [ph] promotions that have been going on for the first three weeks. Fortunately, we have not gone to any [old stock] [ph] promotions. We started today with our Labor Day sale at 40% of the entire store but that's anniversarying what we did last year. And so we still continue to see it as a very, very competitive environment.

[Operator:]

Thank you. Our next question is coming from the line of Brian Tunick with JPMorgan. Please proceed with your question.

[Kate Fitzsimmons:]

Yes, hi, this is Kate Fitzsimmons on for Brian. Thank you for taking our question. I was wondering if you could speak to your assumptions regarding the merchandize margin in the back half in context of what you are seeing just in terms of the promotional environment, some of the AUC work you're doing, as well as bringing down inventory potentially into the back half. Thank you.

[Dominic Paul Dascoli:]

So Kate, we are still hoping that we will see some modest improvement in merchandize margins as we get into the back half of the year. We really didn't comment on that, we are little hesitant to commit to that just based upon the environment that David described. We have continue to work on AUCs as we have talked about in the script -- we have seen some improvement in AUCs particularly in denim, that are being helping us as we promote that product during the early part of the third quarter, it helped us keep our margins in reasonable shape for that product category. We continue as always to try to work on AUCs with our key vendors. So that as well and discipline around how we are managing inventory, we are open to buy right now for the fourth quarter. We think that will help us compared to last year. But remember, we went into the third quarter and fourth quarter last year; we are tightening levels of inventory based upon strong business in the May and June timeframe. And we ended up having to promote some of that more heavily in the back half of the year. So we hoped that our discipline around inventory this quarter, this year, this time will help us manage that merch margin in the back half for the year. We do continue to expect there will be some pressure on B&O though in the back half particularly third quarter. We've guided our comps down low single digits. So hopefully that's helpful.

[Kate Fitzsimmons:]

Okay. And so are you still thinking about comps being flat in the fourth quarter? Is that how we should think about it?

[Dominic Paul Dascoli:]

We would -- we are still hoping for sequential improvement quarter-over-quarter as we looked in the back half of the year. We would hope that we could get ourselves the flat but we really haven't provided any guidance on Q4 at this point.

[Operator:]

Thank you. The next question is coming from the line of Simeon Siegel with Nomura Securities Co. Ltd. Please proceed with the question.

[Simeon Siegel:]

Great, thanks. Good morning, guys. Your guidance calls for I think 19 outlet conversions, which I think is a slight increase from last quarter. How many retail stores do you still have in outlet centers at this point? And then are there any notable differences in the ramp up between the converted stores versus new outlets? Thanks.

[David Kornberg:]

Simeon, we don't currently have any full retail stores and outlet centers; in terms of where we stand -- sorry maybe one that I would say is Dolphin Mall, which is an outlet center, and we are going to be converting that at the end of October. Other than that we are sitting here today at 23 stores. I think at the end of the quarter we had we were at 19 stores. So we've opened in the past few weeks in Las Vegas, we've opened in Minneapolis, and we also opened in Rio Grande, all of which are important outlet malls. And then tomorrow, we open our 24th outlet store which is in Charlotte.

[Dominic Paul Dascoli:]

But Simeon, each of the conversions as well as the new stores are opening up at a pace that's a little bit faster or much faster actually than we had expected. I wouldn't say that the big difference, the huge difference between the conversions and the new stores in terms of their overall performance right now that we are able to see, but they are exceeding our expectations with respect to both sales performance as well as margins.

[Michael Weiss:]

And I would add that the conversions really give us a much better view of what real estate in these malls is producing because we see the comp from a conversion.

[Operator:]

Our next question is coming from the line of Jay Sole with Morgan Stanley. Please proceed with your question.

[Jay Sole:]

Hi, good morning. I just wanted to ask another question about the outlets. What are consumers buying? Are they buying higher-priced products or lowed priced products in the full priced stores? And you mentioned that -- I think you sound like you are little bit less incrementally positive on the full price stores. Is there impact on the brand if you see customers really going to outlets more than you expected and then maybe pulling away from full price a little bit?

[Dominic Paul Dascoli:]

I think it's kind of early to tell exactly what the overlap of customer is and we've got about 12 weeks or 13 weeks worth of data at this point, it's kind of early to actually see the overlap. Over time, we don't see is detrimental for the brand at all actually the outlet business. We think it's actually -- it is going to be very good for our brand, we see a lot of other people who are out there doing the same thing that we are and have been doing this for longer quite frankly, and don't see really any detriment to the brand. In terms of what they are buying, remember that, a lot of -- rather most of what's being sold in these outlets stores are proven winners from what’s sold before in the full priced retail stores. We've done some things to manage the cost on those items based upon on how we bring them into the business meaning boat versus no air, as well as maybe change the little bit of packaging on those products without sacrificing any quality. So I don't think we are really seeing the change in what people buy. I don’t think we can make a statement that they are going for higher priced items versus lower priced items; it is a pretty good -- pretty good mix of sales in the product categories that we are offering.

[Matthew Moellering:]

Yes, it’s Matt, it’s pretty balanced across the selling -- across all categories. We have architected the business to Paul's point where we still get relatively comparable margins to our retail business product margin wise. And as Michael mentioned in his comments, when you get down to profit, profit margins are, operating margins are much higher in the outlet business as well. So we think it should be a plus for us overall long term for the business for sure.

[Operator:]

Our next question is coming from the line of Adrienne Tennant with Janney Capital Markets. Please proceed with your question.

[Gabriella Carbone:]

Hi, this is Gabriella Carbone calling in for Adrienne. I just had one question. I was wondering if you could talk about your pricing strategy and what you have learned from raising ticket prices on certain categories and if there's any other additional opportunity there moving forward, thank you.

[David Kornberg:]

We are quite happy with our pricing strategy as it sounds today. I think in terms of what we've learned over the last few weeks with denim, we are excited that we've been able to promote it at a sharp price point and excluded from the CRM. But we've always believe that denim is the entry point into the brand. So we've been offering women's denim at $39.90 and men's denim at $49.90. And we are pleased with the results that we have seen. Other than that we are very pleased in terms of overall where we stand on our pricing strategy.

[Operator:]

Our next question is coming from the line of Janet Kloppenburg with JJK Research. Please proceed with your question.

[Janet Kloppenburg- JJK Research:]

Good morning, everyone, and congratulations on the progress being made. Michael, nice comments about the stores versus the e-commerce channel and the outlets and I am wondering if the company will consider a re-examination of the existing store base for incremental store closings beyond what you've announced. And also David, if you could just talk a little bit about trends, we are hearing a lot about the jogger bottom for women and I'm wondering if you think that's that silhouettes can compensate for some of the weakness in denim or what your view is on that trend. I know you are showcasing in the men's, but I'm wondering about how it's working in women's. And as far as the shift in tops go, I wonder if your investment in woven and fashion knits is where you want it to be so that the casual knit weakness won't -- may be less of a negative impact to your business in the second half. Thank you.

[Marisa Jacobs:]

Janet, not sure we can get all of it, but we will try it.

[Michael Weiss:]

Okay, Janet, all right.

[Janet Kloppenburg- JJK Research:]

It's not that many questions. It's stores and then it's jogger and --

[Michael Weiss:]

Hang on it, don't worry, I got it. In terms of store closing, we constantly reassessing our entire fleet, we have frequent real estate meeting. We look at leases every couple of weeks. And I am confident that we are looking in a very appropriate and very sharp manner in terms of the actions that we've taken so far. In terms of your second question, you are looking about trends that we are seeing, correct?

[Janet Kloppenburg- JJK Research:]

No. I am asking about the jogger bottom and what it means, and have you invested in that in the women's sector.

[Michael Weiss:]

Yes. We have invested in a big way in women's sector. And actually what I feel like is that the investments we've made in leggings are very much the right investments and we are seeing some very good results on this legging. And also the increased amount we are investing in skirt is totally the right as well. And having said, our denim business quarter-to-date is on a very good path and I am confident that we have allocated our dollar inventory into the right places.

[Operator:]

Our next question is coming from the line of Barbara Wyckoff with CLSA Limited. Please proceed with your question.

[Barbara Wyckoff:]

Hi, and my question has to do -- good quarter, first of all, thanks. And then can you talk about -- you talked about high-rises, mid- and high-rises doing better. Can you talk about how big they are as a percentage of your sales mix right now and where would you ideally like them to be saying by holiday? And looking beyond the jogger, I want to know about the -- I call it the evolving athleisure trend and you talked about leggings being strong. But is it more than this? These clothes are being worn for street as opposed to -- in addition to, I guess you would say, working out.

[Michael Weiss:]

Okay. In terms of the mid and high rise trend, looking at between the mid and high rise trend we are at about 45% to 50% of total denim business -- our inventories in the mid and high rise. We see that increasing slightly as we go through the balance of the season. In terms of your question on legging, I think in terms of the customers using the legging, wearing the legging much more as the weekend wear as well as workout wear. So I feel like we have covered the trend very, very well.

[Operator:]

Our next question is coming from the line of Susan Anderson with FBR Capital Markets & Co. Please proceed with your question.

[Susan Anderson:]

Good morning, thanks for taking my question. I was wondering if you could talk about the back-to-school or back-to-college demand you are seeing. I know last year I remember you were kind of seeing increased demand even though it's not a huge focus, such as the teen guys, but I think increased demand last year as the consumer was coming in the store for the denim offerings. Are you seeing the same thing this year? Is it a little less since denim is less of a focus? Just any color there would be helpful, thanks.

[David Kornberg:]

We are seeing very good demand across the board really in terms of what we are seeing for the three weeks to date. So denim, the promotion has been very successful for us and the $39.90 and $49.90. Clearly, we are moving on to the Labor Day promotion which started today. That was a very, very good weekend for us last year. And our expectation has got to be what the weekend comes out at this weekend is really an indicator of where we believe that we are going, go to the quarter. And that we built out into our projection.

[Operator:]

Our next question is coming from the line of Tom Filandro with Susquehanna Financial Group. Please proceed with your question.

[Tom Filandro:]

Thank you. First, a quick shout out to you, Michael; amazing career. You are an amazing individual and so we really thank you for your insight, your support, and your friendship. Great guy. We love you.

[Michael Weiss:]

Thank you, Tom.

[Tom Filandro:]

If I could ask, Paul, a quick one for you. Can you just maybe quantify for us exactly what the open-to-buy is, maybe from a percentage standpoint and how it compares to last year? Then I have a broader question on marketing. I was hoping you guys could provide us with an update on spend for the quarter as well as your view into the second half. Wondering if you are co-branding it all to bring down the cost of the LED screen. And in conjunction with that, do you think Kate Upton is bringing in a different customer profile than you currently attract? Thank you.

[Dominic Paul Dascoli:]

So, Tom, we generally talk about the exact percentage that we are open for inventory purchases. I can't tell you that for quarter particularly on the women side of the business. We have more room than we have last year. Meaningful amount of additional room compared to where we were last year. So that will allow us to chase into the quick turning product. We are -- when you say co-branding, we are at times actually renting out the sign in Times Square, and so it is generating some revenue for us throughout the year. But we are obviously in the early stages of that, that's kind of -- that percent of high that we are renting is actually ramping up as we own it for longer period.

[David Kornberg:]

In terms of the Kate Upton question, Tom, it is very early in terms of being able to say -- the campaign, we are very excited by it but in terms of being able to speak to the difference in the customer profile that is coming into the store is really too early for us to speak to.

[Operator:]

Our next question is coming from the line of Neely Tamminga with Piper Jaffray. Please proceed with your question.

[Neely Tamminga:]

Great, thank you. Michael, you have left an indelible mark on the retail landscape and we are just nothing but profoundly grateful for all that you have built at Express. So thank you very much for that.

[Michael Weiss:]

Thank you very much for that.

[Neely Tamminga:]

Yes, you got. And hearty congrats to David, very well deserved.

[David Kornberg:]

Thank you, Neely.

[Neely Tamminga:]

Specifically for you, could you talk a little bit more about some of your tech initiatives? We are really pleased to see the good strides you guys have been making on mobile. We have noticed it in our own benchmarking, so we are really pleased to see that. But what is that next step as we kind of think about the back half or early 2015 in kind of marrying that mobile with omni in the stores? Do you have the infrastructure and you have a timeline for some additional initiatives? Thank you.

[Dominic Paul Dascoli:]

Neely, it's Paul. I'll just starting with David, David trying and as he sees the study he said -- we've made over the last couple of years pretty significant investment in our new comp business starting with the movement of the hosting of our website about 18 months ago from outside the organization to inside the organization which allowed us to really build the foundation to take over development, capabilities from within the organization. So over the last 12 months or so we've really been working on the design and functionality of the website. And taking kind of mobile first look at development and with the focus on a consistent experience as you go from mobile to tablet to desktop. So one of the things that you probably seen most recently from us if you switch from either those mediums to the other, it is a very consistent look of the website which makes the experience a lot less frustrating for the consumer when they get on the site. We've also changed the way which we are doing development. And we recall moving to much more adds of development where instead of working on large project that over a longer period of time have a big bang at the end, we are allocating dollars in more closely in and having development done and introduced into production more quickly. So we recently I think David or Michael had referred in their script, we make changes to our checkout process, we've also moved to allowing people for post reviews and selfies in our product on our website, you can see that. We've also made the navigation through the website much easier for the consumer. And we will continue to work on development. It's forward thinking and allows for more omni channel experience in the years ahead.

[David Kornberg:]

I think if could add to that as well, Neely. Obviously, Paul spoke to the response of www.express.com and redesign which we launched this month. But there are other things that we've been doing which I think advantageous in terms of the overall look and feel of our website. Such as full-body images and as you look at and go forward for the balance of this season, we have redesigned of our mobile app which will working at the moment and then we are obviously working key omni channel initiative such as being able to pick up in store and also ship from store, which we see going live towards the back end of next year, beginning of 2016.

[Operator:]

Thank you. Our next question is coming from the line of Roxanne Meyer with UBS. Please proceed with your question.

[Roxanne Meyer:]

Great. And thanks and congratulations on the progress. And Michael, you will always be remembered as one of the best merchant visionaries of all time. My question is on the knit tops business. You are clearly not the only one to call out a weak casual knit tops area and I'm just wondering if you think that this category is undergoing -- is it part of a structural issue or an issue that you think that you can fix yourselves? And how do you think about, if it is structural, how much you need to maybe ramp down that business over the next two years and how it could impact your margin structure, knowing that it's one of the highest margin categories? Thanks a lot.

[Michael Weiss:]

Okay, I think first of all Roxanne, the most important thing is that we think significant growth in our woven top business. And we don't see that slowing down at all. In terms of the casual knit top business, yes, it is tough, but we are making some of-- some of that drop volume on our dressy knit top business and which I am very excited about go forward for the balance of the season. And in term of the being structural, I think it is, but I think also we have to be focused on our creativity in the way which we are focused on the product, of redesigning product and inviting the customer in a way that when she going to come back and buying the top. And that's really what we are focused on at the moment. So you are going to see a lot of testing from us in terms of knit top, casual knit top and but the good news is I think as we go forward to the balance of the season, and I expect we go forward to the balance of the season, we will make up significant volume in sweater and also in woven top.

[Operator:]

Our next question is coming from the line of Pam Quintiliano with SunTrust. Please proceed with your question.

[Nick Hiatt:]

Hi, guys. This is Nick Hiatt. I am on for Pam. Thanks for taking our call. I am just wondering if -- you've talked about denim a little bit already. You mentioned that it was challenged in the second quarter but quarter-to-date you've seen some progress, so I'm just wondering if you can talk a little bit more about your denim inventory commitment in the back half. And wondering if that is planned up or down and if you can just give us your thoughts a little bit more on the current denim cycle, if you can talk about high-rise and mid-rise and some of the other trends your seeing out there and just give us your opinion on that cycle. Thanks

[David Kornberg:]

Okay. In terms of our overall inventory going into the fourth quarter, I still -- we have plenty, I think we are in a very good position. We are constantly reassessing it and on weekly basis and we've gone out and committed some more there than we needed based on what we've seen over the past four weeks. So I am confident we are in a very good position to be able to drive the business in the way that we need to.

[Dominic Paul Dascoli:]

And we still have open-to-buy dollars

[David Kornberg:]

Yes. We still have open-to-buy dollars available for the full quarter. In terms of the balance of mid and high-rise, again I expected that earlier on the question, in terms of our overall penetration, I think we are in very good place, I think we are absolutely right on trend, right on the mark. And we are seeing a bigger penetration on the mid-rise and we are on the high-rise and we see that continuing as we go through the balance of third quarter and into the fourth quarter.

[Michael Weiss:]

If I can add something here, I think the denim category for us is just the opposite of the casual knit category. I think in the casual knit category, we -- we and people like us have lost a lot business to low priced retailer. I don't think that's true in denim. I think in denim, the customer really sees the value and quality, we has and always will. I am not saying the customer doesn't want to bargain on quality, but inexpensive cheap jeans are not appealing to most women. They are different, they don't look right, they just not right. So we believe that our denim has tremendous, tremendous upside. We also believe we can offer the quality that we do offer on a go forward basis which as we've said in the past, in terms of the quality we compete up not down at prices that they really love. They seemed to look at these days. And prices that we can make decent money.

[Operator:]

Your next question is coming from the line of Richard Jaffe with Stifel Nicolaus. Please proceed with your question.

[Richard Jaffe:]

Thanks very much, guys. Just a couple of thoughts about the franchise opportunity as you see it, both countries and ultimate size. And also the outlet business and how high or how big that can be particularly given its recent success. Has that changed your views on it? Then just a quick clarification. You mentioned gross margin approaching flat in the fourth quarter. Did I catch that correctly?

[David Kornberg:]

So thought with the franchise operations, we are pursuing some additional deals as we mentioned in the prepared remarks that we are launching South Africa here shortly. This is the first time that we are actually opening some shop-in-shop locations. We are doing this with very good partner who knows how to make this work. If we get good results here this also could open up many other locations for operations in Europe as well as in Asia and places like Korea, to get an additional foothold taking advantage of football traffic that's endemic to the department stores that we are in. And then move out expanding into some standalone stores. We are pursuing other geographies due to competitive reasons, we won't outline what those are, but over the next couple of years we hope to sign on approximately two new franchise partners a year for the next two years.

[Dominic Paul Dascoli:]

So, Richard, in terms of outline, we did say in the last call that we think the number of outlet stores is good approach of 150 and we still believe is that is an offer -- is the opportunities over time for us. And so we are very excited about the impact that could have on the business long term. I don't think I really actually commented on our gross margin for fourth quarter. What I said is in the third quarter, we would expect to see some-- hopefully some-- we expect to see some improvement in our merge margin compared to last year, along that depends on the promotion environment, and we would still expect to see some de-leverage in our overall B&O.

[Operator:]

Thank you. It appears we have no further questions at this time. I would now like to turn the call back over to management for any additional concluding comments.

[Michael Weiss:]

That concludes our call for today. Thank you for joining us this morning and for your ongoing interest in Express. We look forward to speaking to you in early December. Bye.

[Operator:]

Thank you. Ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation and you may disconnect your lines at this time.