Ralph Lauren Corporation
Q3 2023 Earnings Call Transcript

Published: 9 Feb 2023

[Operator:]

Ladies and gentlemen, thank you for standing by. Welcome to the Ralph Lauren Third Quarter Fiscal Year 2023 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. I'd now like to turn over the conference to our host, Ms. Corinna Van der Ghinst. Please go ahead.

[Corinna Van der Ghinst:]

Good morning, and thank you for joining Ralph Lauren's Third Quarter Fiscal 2023 Conference Call. With me today are Patrice Louvet, the company's President and Chief Executive Officer; and Jane Nielsen, Chief Operating Officer and Chief Financial Officer. After prepared remarks, we will open up the call for your questions, which we ask that you limit to one per caller. During today's call, we will be making some forward-looking statements within the meaning of the federal securities laws, including our financial outlook. Forward-looking statements are not guarantees and our actual results may differ materially from those expressed or implied in the forward-looking statements. Our expectations contain many risks and uncertainties. Principal risks and uncertainties that could cause our results to differ materially from our current expectations are detailed in our SEC filings. 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 website. With that, I'll turn the call over to Patrice.

[Patrice Louvet:]

Thank you, Corinna. Good morning, everyone, and thank you for joining today's call. We were pleased to deliver another quarter of better-than-expected performance, including through the important holiday season. All three regions contributed positively to revenue growth. And at the same time, we made strong progress on the strategic priorities we outlined last September in our Next Great Chapter

[Jane Nielsen:]

Thank you, Patrice, and good morning, everyone. We are encouraged by our strong early progress on our Next Great Chapter

[Operator:]

[Operator Instructions] The first question comes from Dana Telsey with Telsey Advisory Group.

[Dana Telsey:]

Good morning, everyone, and nice to see the progress. Certainly seems that there's still a lot of moving pieces on the macro side and you beat again on top line this quarter while continuing to grow AUR, as the environment has become more promotional. Just bigger picture, can you talk about what gives you the confidence that your elevation strategy can continue to work in a less favorable macro or pricing backdrop? And along those lines, any expansion on your thoughts on the health of the consumer in the wholesale channel in different regions, and what you're seeing in your own retail DTC business with the health of the consumer?

[Patrice Louvet:]

Good morning, Dana. Thanks for your question. Listen, Ralph, Jane and I are really proud of our company's outperformance this year to date. As you mentioned, the macro environment certainly continues to be quite choppy, but I think we're used to that by now. Our teams have built this incredible agility muscle over the past few years, if you kind of reflect on what we've worked through COVID, inflation and now a relatively promotional environment. So this agility gives us confidence looking ahead, but it's that agility plus other three things that I would really call out. The first one, and it touches on your second question is, our core consumer remains quite resilient. And that's true around the world, and that's true across channels. And as you know, we've done a lot of work over the past few years to evolve our customer base to bring in a higher value, younger customer that played out again this past quarter, 1.6 million new consumers, higher value, less price-sensitive, younger consumer. The second point is our diverse growth strategy that has multiple growth levers, and we constantly challenge ourselves to make sure they're still relevant in the environment that we are operating in and looking ahead, and we believe they are as relevant as ever, even in a tougher environment. What do I mean by that? Well, you can look at our opportunities to grow across regions, right? We have significant growth opportunities, of course, across Asia, including in China, in particular, but also in key cities across North America and in Europe. On the product front, we have a very wide lifestyle portfolio, and so that enables us to drive our core. You saw our core did quite well this past quarter, up high single digits, but also go after high potential categories like women's up mid-teens this quarter and outerwear up high single digits. And then the third point is really around flexibility, right? And two things I would call out here. One is because of this breadth of product portfolio, we can really flex up and down. You've seen us do that over the past few years based on where the consumer desires, wants, needs are. And I'm sure we'll have the opportunity today to talk a little bit more about products and what we're seeing. But this ability to flex, I think, is quite unique, and it's a real strength for our company. The other thing is our elevation journey, means our pricing structure has built in flexibility, right? If you look back since the start of this elevation phase, our AUR is up close to 70%, which means we can still react to the competitive environment, including when it gets more promotional without walking back our overall brand elevation strategy. I was really encouraged to see our AUR performance again this quarter, up 10%, bringing in more consumers, driving strong topline growth in what is pretty clearly a more aggressive promotional environment. And then underlying our diverse and flexible growth drivers are two critical things

[Jane Nielsen:]

And we had that win in North America specifically with AURs up 10%. So that elevation journey continued on a promotional day base that was about equal to last year. Really happy with that quality.

[Operator:]

The next question comes from Matthew Boss with JPMorgan.

[Matthew Boss:]

So Patrice, could you speak to demand relative to plan that you're seeing for the Polo brand? And maybe just outline market share gains that you're seeing in the women's category? And then, Jane, just in relation to your larger picture comments, how best to think about North America next year relative to your mid-single-digit multiyear target? And just any change in the path to mid-teens constant currency operating margins by FY '25 that we should consider based on anything that you're seeing today?

[Patrice Louvet:]

Sure. So sorry, on demand on the Polo brands, particularly in the Polo brand, as you know, is the heart of this company. We are seeing progress on men's consistently. And what I'm excited about, we touched on it in our prepared remarks, is the introduction of the Polo Originals line that kind of pays homage to the Polo roots, which is just a view the full line of products that our teams have being around to allow us with really a communication that's really resonating with the customers. So continuing to drive that elevation and tapping into the breadth of the portfolio so that if you want athleisure, we have that available with exciting products. But we also have investments in the more tailored proposition, which is where we're seeing the consumer gravitate more and more to this more elevated casual proposition. So Polo Men is really nice momentum with a number of engines of growth that were very promising for the future. Outerwear is obviously an area of strength on the Polo Men. On the women's side, across all the key categories actually, we're seeing Polo Women's get significant traction. And as we're seeing the consumer gravitate to this more elevated casual dimension, then we're able to leverage the breadth of the portfolio and that ranges from sweaters to dresses to acceleration in outerwear, and we expect that to continue. Obviously, we see significant growth opportunities ahead on Polo Women. And then on Polo Kids, we're also continuing to see nice traction and share growth, we’ve seen share growth for quite a while on that business as well and expect that to continue as we throw a relatively wide net when it comes to attracting new consumers and leveraging the presence we have across multiple categories. So the range of product offerings we have on the Polo brand and the skew to our sweet spot, which is this elevated casual, I think, sets up to run nicely, not just for outperformance now, but for the future. Jane, I'll turn it over to you for the second.

[Jane Nielsen:]

Yes. On some larger-picture perspective now, we feel that this year's performance is consistent with our FY '25 guidance of getting to a mid-teens OI margin. And we feel that because our -- despite some macro choppiness, our strategy is working. Again, this quarter, we were able to offset inflation, putting up a 10% AUR growth. And what undergirds that gives us confidence is that our consumer value perception rating again this quarter improved and is obviously improved from the pre-pandemic level. So the consumer is giving us confidence in our ability to navigate with gross margin -- holding and expanding our gross margin over the next several years. We also have a robust productivity plan that we outlined. We're still committed to delivering this $400 million over the life of the plan in productivity savings. We're investing in that, and we're seeing the benefits of that in our supply chain, in our buying groups and in just our cost management. And you saw that flow through this quarter in our expense management and beating our OI margin guidance. So those are things that are giving us confidence encourage, also the resiliency of Asia; multiple countries delivering strongly and the resiliency that we see in our China business and Europe continuing in a difficult environment to outperform. All those things are confidence builders that 15% is the right margin. On North America next year, I think that we've outlined as called out for the last couple of quarters, the pressure on the value consumer, I think we're responding appropriately and well within the guardrails of our strategy. So we're still confident in our outlook for growth in North America next year and are pleased with the progress we've made since the reset putting it on a healthier base. So absolutely, yes.

[Operator:]

The next question comes from Michael Binetti with Credit Suisse.

[Michael Binetti:]

Congrats on a really nice holiday. How much of the AUR increase going forward is North America driven? And within that, how much should we think about from here is from SKU mix or channel compared to a like-for-like pricing opportunities? And then Jane, it feels like the right time to ask, North America margin crossed above pre-COVID levels this quarter for the first time in a while. It was nice to see. Could you outline bridge for North America operating margin to get back to the 21%, 22% zone that it was in prior to COVID. You've given us some of the components like digital being accretive, those kinds of things. You know our bigger businesses today. I'm curious what your thoughts are there.

[Jane Nielsen:]

Yes, sure. Let me take the first part of your question, which is AUR base. So as we move forward in this pricing journey, you've seen us continuously put up AUR increases across all three regions. Again, this quarter, we saw Asia, which is furthest along in the journey put a very strong AUR delivery, but more modest than the rest of the regions because they're further along in their journey. So fully offsetting inflation and expanding gross margin. Europe, which is in the middle of the journey also put up nice AUR expansion as did North America. I do believe that because North America is earlier on in his earnings that they will be slightly outpaced in progression through this long term -- through the length of our plan, and they're certainly positioned to offset inflation through the length of this plan. So it's not a disproportionate amount, but I do think there's more opportunities. We've just started this journey in wholesale. We're early on there. And we've continued to make progress across full price our outlets and our digital. So we're encouraged by the breadth of AUR progression that we see in North America. And again, we have a multi-pronged strategy. Because of inflation, like-for-like pricing is a part of that, but we're getting continued benefits from geographic, and because we're shifting to DTC, we'll see DTC also be a positive tailwind for us and also including the elevation of our assortments, which will continue as we elevate the brand. As I look at North America operating margin, overall, we're very pleased with the reset of North America and putting North America on a more profitable base. Year-to-date, our margins have been pressured really by two primary things. One is, rate impacts were disproportionate in North America, and we do expect that to start to abate a bit in the latter fourth quarter, but certainly into FY '24. The other factor was wage actions that we took last year that were overlapping this year. Those were primarily in our distribution centers and in our retail staff. We think it was the right thing to do, and as we elevate the brand, that continuity is important in our retail. So clearly, as we come out of that and start to get a free benefit into '24 and we'll be out of the overlap of wages, it will be a positive benefit as we move it into North America. And as I said before, we have made some meaningful investments in digital. We have a home app. We now have a full content RL app. Those have been good investments that are now made, and we can start to leverage in the future.

[Operator:]

The next question comes from Paul Kearney with Barclays.

[Paul Kearney:]

Jane, I was wondering, can you help unpack the foreign currency into next year based on current rates? How much of the transaction impact has already hedged or locked in for the year? And what are some of the ways to recapture the 180 basis points of margin impact that you now expect from this year?

[Jane Nielsen:]

So the primary way that we will address gross margin expansion on both a constant currency and reported basis is going to be our pricing strategy. It's a proven muscle for us, and we expect to deliver over the next several years. Now foreign currency, given the tailwinds that we've seen this quarter, which we called out and the impact of ForEx will have lessened since the start of the year in our guidance, we're encouraged, but I don't have a crystal ball. But I do know that I think we've been relatively wise about the hedges we placed going into next year. And as currency continues to strengthen, we should have over translational and transactional benefit, but we do hedge dramatically in layers and again, just optimizing around being relatively smart and placing those layers. So I'm feeling good, but again, I don't have a crystal ball. And it is our practice, we'll give guidance in our fourth quarter results, but we will call out the impacts based on the spot at that time.

[Operator:]

The next question comes from Laurent Vasilescu with BNP Paribas.

[Laurent Vasilescu:]

Jane, I want to ask about China. I think you mentioned -- I know you usually don't mention quarter-to-date trends, but you mentioned that your China operations are back to full operations mid-January. I know it's only three weeks, but just for the audience, if you can kind of unpack what you're seeing? Is it just -- is it traffic just coming back? Or are you also seeing conversion? And then just one quick question on the 4Q gross margin. If you can give us some puts and takes, great to hear that the 4Q gross margin should be up 50 bps. If you can parse that out a little bit, that would be very helpful.

[Patrice Louvet:]

Laurent, we'll tag team on this one. A few things on China. First of all, I have to say, I am really proud of our team's execution, actually not just in China, but across the entire APAC region. And as we talked in prior forums, we see significant near and long-term growth opportunities in China on strong brand building, on relevant product offering and a connected ecosystem expansion in key markets. In Q3, we were up 7% constant currency in China, despite 94% of our stores impacted either by closures or reduced hours or staffing shortages. So it gives you a sense of the team's agility that I referred to earlier and the ability to kind of navigate that still connect with the consumer while the access is a little constrained. You are right that we don't generally comment on in-quarter performance, and it's only been 3 weeks, but we've been very encouraged by the reopening. We are now up and running everywhere, and we're seeing consumers reengage strongly. So far, I think, double-digit rebound across Mainland China. And we're seeing a combination of, of course, the return of traffic both on -- in our brick-and-mortar and also online and then strong conversion. And why strong conversion? Because the work that the teams are doing on brand desirability in China is really resonating with the consumer, and they're leaving the brand into the local fabric of the Chinese culture in a way that really sets us apart. If you think about what the Ralph Lauren brand is about, right, it's understated luxury grounded in heritage and icons. And that's a pretty unique proposition. And based on where the Chinese consumers' mindset is right now, which is maybe a little less focused on short-term fashion and more focused on brands that have a history to have a heritage and have a set of clear values, that positions us very well. Team is doing a really nice job creating our product line up there, and as we've mentioned in prior calls, we're continuing to see consumers there gravitate towards our highest price items actually around the world. And then we're super excited about the way the ecosystems are playing out in the top six cities that we've called out. Those of you who plan to visit Mainland China in the near term, you can visit our new store in Shenzhen, which we opened a few days ago and is off to a wonderful start. In a store we opened recently flagship in Chengdu, which is also doing quite well. And then this is only about domestic consumption, right? So the other thing that's going to happen is, we're going to see Chinese travelers wanting to shop our brand around the world, and we're in a much better position in terms of brand perception than we were 3 years ago. So I think we'll be able to benefit from that, and we're starting to see some of that in Southeast Asia and parts of Northeast Asia for our business. So promising start, excited about the long-term perspective, and we have a very intentional game plan to win with the Chinese consumer.

[Jane Nielsen:]

Yes. A few things to this -- giving us confidence in our Q4 guide on gross margins, Laurent. But one is that what Patrice just said, which is we expect China to come back resiliently in the quarter. It's our highest gross margin country within one of our highest gross margin countries within Asia. So we expect that to be a mix benefit as we move forward in gross margin. We're also starting to see some of the freight benefits, both the reduction in air freight and some reductions starting in ocean freight. So we're encouraged by that as a tailwind. But underlying it all is our confidence in the pricing strategy that we have and the mix benefits that we have in our assortment moving forward into the fourth quarter, and that is really the strength along with the consumer perception strength that we see that gives us confidence in the fourth quarter.

[Operator:]

Our final question comes from Ike Boruchow with Wells Fargo.

[Ike Boruchow:]

So Jane, that's actually what I wanted to ask about. So understanding the pricing strategies are working in the margins themselves in absolute terms are still very healthy, can you just explain, versus three months ago looking into Q4, the gross margin differential? Because you're lowering the gross margin for the year. I think The Street was looking at like flattish gross margin. Now you're guiding down 140. I know that that's FX-driven, but just directionally, something is a little bit worse ex currency. So I don't know if that has to do with wholesale being weaker, but can you just kind of explain exactly what’s kind of taking place in Q4 versus maybe the prior plan?

[Jane Nielsen:]

So I think that when we guided in May, we gave guidance based on our best estimate of consumer response and pressures. I think the consumer -- the value consumer that we've called out is more pressured than when we gave our original guidance. And we've also looked at the fourth quarter and want to ensure that we are in good shape as we start fiscal year '24 from an inventory perspective. As we've committed, we're going to have inventories more closely aligned to sales, and that's been responding to the desires of our value consumers to have a really compelling value. Total value for us has made us a little more responsive to that and as well that we want to make sure that we're healthy on inventories as we move out of the fourth quarter.

[Patrice Louvet:]

Okay. Well, listen, thank you, everyone, for joining us today. We look forward to sharing our fourth quarter and full year fiscal '23 results with you in late May. And until then, stay safe, and have a great day.

[Operator:]

Ladies and gentlemen, that does conclude your conference for today. Thank you for your participation. You may now disconnect.