The Children's Place, Inc.
Q4 2017 Earnings Call Transcript

Published: 20 Mar 2018

[Operator:]

Good morning and welcome to The Children’s Place Fourth Quarter 2017 Conference Call. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Now, at this time, I will turn the call over to Mr. Bob Vill, Group Vice President, Finance.

[Bob Vill:]

Thank you for joining us this morning. With me here today are Jane Elfers, President and Chief Executive Officer; Mike Scarpa, Chief Operating Officer; and Anurup Pruthi, Chief Financial Officer. A copy of our press release can be found on our website. Before we begin, I would like to remind participants that any forward-looking statements made today are subject to the Safe Harbor statements found in this morning’s press release as well as in the company’s SEC filings. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially. The company undertakes no obligation to publicly release any revision to these forward-looking statements to reflect events or circumstances after the date hereof. In addition, to find disclosures and reconciliations of non-GAAP measures that we use when discussing our financial results, you should refer to this morning’s earnings release and to our SEC filings that can be found on our Investor Relations site. After the prepared remarks, we will open the call to questions. We ask that each of you limit yourself to one question so that everyone will have an opportunity. I will now turn the call over to Jane Elfers.

[Jane Elfers:]

Thank you, Bob and good morning everyone. After briefly reviewing the highlights from 2017, I will spend the bulk of my time this morning outlining the next phase of our strategic growth plan. Anurup will then cover Q4 and full year 2017 financials and detailed the accelerated SG&A and CapEx investments associated with our growth strategy and provide forward guidance. Following our prepared remarks, Mike, Anurup and I will be available to answer your questions. Our prepared remarks are extensive. So, if we do not get to all of your questions, we will be happy to regroup with you after the call. Starting with 2017, simply put 2017 was a stellar year for the Children’s Place and we are extremely proud of our consistent track record of rewarding our shareholders. I want to thank all of our associates for their efforts this past year. We delivered adjusted diluted EPS of $7.91 versus $5.43 in full year 2016, a 46% increase. Comparable retail sales increased 5.8% versus 2016. We comped positive in all channels and all geographies. U.S. comp sales increased 6.5%, Canada comp sales increased 0.6% and all of our key selling metrics, AUR, ADS, transactions, UPT and conversion were positive for the year and our traffic has improved for seven consecutive quarters with Q4 traffic ending down only slightly negative. We have made great progress on our strategic initiatives over the past few years and we are now ready to move into the next phase of our strategic growth plan. We have delivered consistent industry-leading results for several years with 2017 being our fourth consecutive year of positive comp. 4 years of positive comp is quite an accomplishment in this environment and certainly makes us an outlier in the children space. A large part of our success comes from our ability to consistently grow market share through our unique and compelling product offerings. In addition, the successful execution of our longstanding strategic growth plan, which relies predominantly on self-help initiatives, has enabled us to consistently deliver best-in-class returns for shareholders. We are uniquely positioned to grow market share by accelerating our investments in transformation capability. Digital transformation is our single biggest opportunity for growth and we will be making significant SG&A and CapEx investments in transformative personalization capabilities, which will position us to continue to outperform in the long-term. We are focusing our investments in four key areas

[Anurup Pruthi:]

Thank you, Jane. Good morning everyone. In the fourth quarter we delivered adjusted EPS of $2.52 compared to adjusted EPS of $1.88 last year, a 34% increase. For the full year 2017, we delivered adjusted EPS of $7.91 compared to adjusted EPS of $5.43 last year, a 46% increase. These full year results include a $0.93 benefit resulting from the income tax impact on share based compensation. Excluding this benefit adjusted EPS increased 29%. Details for the fourth quarter are as follows. Net sales increased 9.4% to $570 million inclusive of the impact of the 53rd week. Comparable retail sales increased 8.2% on top of a positive 6.9% comp in the fourth quarter of 2016. U.S. comp sales increased 8.2%. Canada comp sales increased 8.4%. We achieved positive comps in all channels and geographies and continued to see a significant increase in the penetration of our e-commerce sales. Our e-commerce business grew to 22.7% of total sales in fiscal 2017. Adjusted gross margin leveraged 90 basis points to 37% of sales. This was driven by our 12th consecutive quarter of merchandise margin expansion and the leverage of fixed expenses resulting from the strong comparable retail sales. This was partially offset by the increased penetration of our e-commerce business which operates at a lower gross margin rate due to higher fulfillment costs. Adjusted SG&A de-leveraged 30 basis points to 23.6%. The de-leverage was primarily a result of the investment in our transformation initiatives, partially offset by the impact of the positive comparable retail sales and lower credit card fees. Depreciation was $19.7 million for the quarter. Adjusted operating income was $57 million, an increase of 14.1% compared to last year, leveraging 40 basis points to 10% of net sales. Our adjusted tax rate was 20.7% for the quarter versus 30.7% last year, primarily due to the mix of U.S. and foreign income additional tax credits and the partial year impact of the lower corporate tax rate. As a result of the new tax legislation, the company recorded one-time tax charges of $52 million in the fourth quarter, primarily consisting of tax expense related to undistributed foreign earnings and profits, the revaluation of deferred assets and other charges associated with the implementation of this legislation. These charges are not included in our adjusted results. Details related to these charges can be found in our press release. Moving onto the balance sheet, our cash and short-term investments at the end of the quarter were $260 million compared to $243 million last year. We ended the quarter with $21 million outstanding on our revolver compared to $15 million last year. Inventory was up 13.3% at the end of the quarter. Excluding the timing impact of in-transit inventory was in line with our guidance of mid to high single-digits. We believe our inventories are well positioned as we enter the first quarter. For the full year 2017, we generated $240 million in cash flow from operating activities in fiscal 2017 compared to $199 million in fiscal 2016. We repurchased $119 million in stock in fiscal 2017 or over 1 million shares. This includes the repurchase of shares surrendered to cover tax withholdings associated with the vesting of equity awards. We also made dividend payments of $28 million in 2017 nearly double the level of 2016. I will now outline our financial goals through 2020 before providing specific guidance for the year 2018. We are extremely proud of our long and consistent track record of delivering industry leading results. We delivered in an operating margin of 9.6% in 2017, up 110 basis points over last year and 400 basis points since 2014 driven by the successful execution of our strategic plan, which has resulted in four consecutive years of positive comp sales and three consecutive years of merchandise margin expansion, while e-commerce penetration of total sales has grown almost 700 basis points since 2014. During this period, our adjusted EPS has increased to $7.91 from $3.05, a compound annual growth rate of 37%. Our consistent strong cash flow generation has resulted in significant capital returns to shareholders as we have repurchased approximately 4.9 million shares over the last 3 years and tripled our quarterly dividend over that time. This has resulted in a return on invested capital of 30% in 2017 versus 11% in 2014. We are operating from a position of strength and market leadership, which gives us confidence in our ability to execute the next phase of our strategic growth initiatives. For the period 2018 through 2020, given the significant runway ahead in each of our four strategic pillars, we are targeting an operating margin of 12% and earnings per share of $12 by the end of 2020. Over the past 5 years, we significantly reduced our SG&A from 28% of sales to 24.9%, a reduction of 310 basis points, while funding our transformation investments. During the 2018 to 2020 period, we expect to invest approximately $50 million in incremental SG&A or less than 1% of total sales over this 3-year period, consisting of $30 million in 2018, $15 million in 2019 and the remaining $5 million in 2020. While this incremental SG&A investment represents a relatively small portion of our total expenses, we expect that it will generate significant returns for our shareholders. We expect CapEx to be in the $75 million to $85 million range annually over this period with the majority of this attributed to our transformation initiatives. This compares to $59 million in 2017. The capital and SG&A investments are focused in four key areas

[Operator:]

[Operator Instructions] And our first question comes from the line of Susan Anderson.

[Susan Anderson:]

Hi, good morning. Nice job on the quarter again and good to see the initiatives for the next few years. I was wondering if you could maybe talk about, I know you are not giving gross margin, SG&A guidance anymore, but kind of the puts and takes of the drivers that you don’t necessarily have to bucket into those two categories, but driving to the 12% op margin by 2020? And then also how much of the $12 in earnings is below the op margin line by 2020? Thanks.

[Anurup Pruthi:]

Sure, Susan, it’s Anurup. I will take that question. As our digital penetration has continued to grow as you mentioned our gross margin and SG&A comparisons have become less relevant, so we no longer going to break that guidance out in those buckets out going forward. I would think of SG&A as we spelled out today about a $30 million mental investment in 2018 and that’s really driven by the digital initiatives, supply chain optimization, our in-store experience and our continued expansion in wholesale and international. As we have talked about today, we expect our operating margin to be in the range of 10% to 10.5% in 2019 and about 12% by 2020. In terms of buybacks, in addition to the over $800 million we bought back in the last few years, we have also talked about today about buying back up to about $500 million in shares through the 2020 period. We would expect at this point in time to buyback, including the ASR in the range of about $225 million to $250 million this year, which is a combination of our ASR and our continued open market repurchases. So in terms of gross margin, again, we have had in our 12 quarters of merchandise margin expansion, we continue in our models to expect continued strong product acceptance and I would also expect from an SG&A perspective why we continue to invest in our transformation initiatives, these will inflect downwards in 2019 and ‘20. And at ECP, the expense culture and management of expenses continues to be very strong and we will continue to drive efficiencies throughout the business.

[Operator:]

Our next question comes from the line of Adrienne Yih.

[Adrienne Yih:]

Good morning, nice into the year.

[Bob Vill:]

Hi Adrienne.

[Adrienne Yih:]

You are very welcome. I guess my question is really on kind of the investments that you are making, probably this is for Anurup, the SG&A of this 13 million in the first quarter, what – how much of that is going to be wages, wage increases, store payroll and your human infrastructure versus the capital infrastructure. And then help me understand the depreciation is higher by $2 million, I think per quarter, but you are closing a lot of stores so should be net beneficial, so where is this extra D&A, did the shorter depreciable life of the digital investment or the help there will be great? Thank you so much?

[Anurup Pruthi:]

Sure Adrienne. The second half of the question on useful lives, yes, we are investing the majority of our capital on transformation and technology which carries with it shorter useful lives, therefore it has a consequential impact on the depreciation. So and as far as the transmission expense goes the $13 million in Q1 is as you talked about accelerating $30 million for the year, logically obviously we want to front-load it into the year to move as quickly as possible on the acceleration front, therefore $13 million falls into Q1. It’s a combination of getting the best external resources to enable our transmission initiatives along with various models and tools and analysis to drive these initiatives forward. So the capital you would expect to be heavily weighted towards transformation, which carries with it shorter useful lives. And then – and Adrienne, the point about wages, we have been dealing with that for the last several years. We have rolled out multiple initiatives through our very experienced store team to be able to mitigate those effects, so that really doesn’t play into this in any material way.

[Operator:]

Our next question comes from the line of Janet Kloppenburg.

[Janet Kloppenburg:]

Good morning, everyone. This was on the good 2017. Just a couple of questions on the SG&A spend or one question on the SG&A and one question on gross margin, for ‘19 and ‘20 you have said $15 million and $5 million respectively in incremental SG&A, are there any offsets to that or should we just be building on models based on adding ‘18, ‘19 and ‘20. And secondly on the gross margin line, I am wondering what the opportunity is for ongoing product margin improvement through improved AUR etcetera and more disciplined inventory management? Thanks so much.

[Anurup Pruthi:]

Sure Janet, as we have talked about today, given the change in our business where additional penetration continues to increase, we are not going to get into specifics on SG&A and gross margin levels going forward. However, to your question, we are very focused on operating margin expansion. As we have talked about on the call today, we expect 2019 operating margin to increase to 10% to 10.5% and 12% in 2020. And as you know having followed us in 2017, we recorded operating margin of 9.6%, 400 basis points over 2014, so very happy with our results to-date. We believe we have a tremendous amount of runway ahead in our digital work. We are accelerating initiatives and the investment because it is the right time in our transformation roadmap to do so. We have a leader in place and a detailed digital roadmap laid-out. And we look forward to continuing to drive our operating results as we go forward.

[Operator:]

Our next question comes from the line of David Buckley.

[David Buckley:]

Hi, good morning. Thank you for taking my question. On the digital side, can you talk about some of the personalization opportunities that you see having near-term, the launch of the new Apple contributes to these opportunities and then some of the differences in transactions that you see online versus in-store with AUR and UPT?

[Jane Elfers:]

Sure David and thanks for the question. As far as the digital strategy, as we have talked about this morning. We think we have a huge runway ahead of us with respect to digital transformation and personalized customer contact. We strongly believe that digital technology as the core competency for companies going forward it’s going to separate the long-term winners. And now it is the right time within our strategic transformation to take on digital, we have set the foundation over the past several years and now it’s really time to take the next leap into digital and into personalization and we think about it, we think about the opportunity in four buckets and each one has a pretty substantial incremental sales associated with them. The first one is really around the digital platform that it allows us to engage our moms. This wrapped around improvements in foundational features like optimized checkout, enhanced search, easier access to account, easier access to reward and then a streamlined sign up for our private label credit card and NPR and we have started to work on improved product recommendations. This initiative also impacts the rollout of the new mobile app to your point and the digital architecture really sets the foundation for the advanced personalization capabilities we spoke about earlier on the call as far as predictive analytics. The second piece is really greater conversion through predictive analytics and personalized marketing. I think this is probably the largest opportunity of the four buckets and this is where customer analytics marries up with the customer database and the customer segmentation work. Once we have a contact strategy in place in the corresponding technology to enable the triggered dynamic marketing that’s when we can start really communicating one-on-one with mom through vehicles like triggered e-mails, personalized recommendations, targeted promotion personalized offers at POS, things like digital display marketing etcetera. So the foundation of this work, is really a test and learn culture that we have been able to develop by implementing the tools we spoke about in Q4 of 2017. Third prong is really growing the penetration of our PLCC and My Place rewards loyalty programs. We have found that this will significantly increase the lifetime value of our customers who are enrolled in the program and the early results from our segmentation and customer analytics work show a very strong ROI in this initiative and the insights that we are working on now are really helping us understand how to best accelerate the opportunity around PLCC and My Place rewards. And then the last piece of the bucket is really the omni-channel capabilities kind of as we detailed on the call, we just scratched the surface of omni-channel, we launched both the ship from store, so that’s behind us in 2017 and now we really need to invest in moving on to the benefits associated with some of the other important omni capabilities like save a sale and based on while we talk about our core customer being a millennial digitally savvy mobile mom that we need to really advance these omni-channel capabilities quickly to put the foundation in place for the success of the personalized customer contact strategy. As far as your questions online, we have a higher basket size online, a higher AUR online and as we have spoken about many times, our e-commerce business is accretive to operating margins, we are unique in that in retailers as we have such a large basket size in a very low return rate.

[Operator:]

We have time for one final question and that question comes from the line of Stephen Albert.

[Stephen Albert:]

Good morning. I was wondering if we could talk more about the private label credit card, what was the sales penetration of the private label card for the full year 2017, how does that compare to ‘16 and then what are the expectations embedded within your 2018 guide? And then if you could give us, remind us on the difference of the LTV of the cardholder versus the non-cardholder? And then a follow-up on that is I guess switching to gross margin, any updates you can give us on the input cost do you see environment heading into 2018 with cotton kind of creeping up a little bit, any sort of pressure on that side? Thanks.

[Anurup Pruthi:]

Steve its Anurup. On PLCC, the program has been very, very successful for us. Penetration was approximately 20.5% of U.S. sales in 2017, up about 500 basis points in penetration. I think as importantly its fundamental level within our overall customer marketing and engagement program. Our loyalty program also increased about 200 basis points off a very big base in 2017 versus ‘16. In terms of LTV frankly, we have seen both recency, frequency and average spend for PLCC to be and our loyalty program to be higher than the – much higher than our average customer. We don’t go into more specifics in that and frankly we are still discovering what the true LTV is given that our re-launched loyalty program and our relaunch credit card program are only just about a year old. So, a lot more on that to come, but we are very excited about the progression of that. We do have benchmarks from the industry that says PLCC penetration could be in the mid-20s. Obviously, we are not there yet. We haven’t – I am not going to give you specifics of our 2018 plan except to say that we have significant runway ahead in our PLCC penetration. In terms of AUC in your second part of your question, we continue to see tailwinds in apparel AUC. We have a very diversified sourcing base as you know and very, very experienced sourcing team and have been direct sourcing for many years. So, AUC continues to be favorable for us.

[Operator:]

Thank you. This does conclude today’s Q&A session. Thank you for joining us today. If you have further questions, please call Bob Vill at 201-453-6693. You may disconnect at this time.