Williams-Sonoma, Inc.
Q4 2018 Earnings Call Transcript

Published: 21 Mar 2019

[Operator:]

Welcome to the Williams-Sonoma Incorporated Fourth Quarter 2018 Earnings Conference Call. At this time, all participants are in listen-only mode. We will conduct a question-and-answer session after the presentation. This call is being recorded. I would now like to turn the conference over to Elise Wang, Vice President of Investor Relations, to discuss non-GAAP financial measures and forward-looking statements. Please go ahead.

[Elise Wang:]

Thank you. Good afternoon. This call should be considered in conjunction with the press release that we issued earlier today. Our discussion today will relate to results and guidance based on certain non-GAAP measures. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP financial measures and our explanation of why the non-GAAP financial measures may be useful are discussed in Exhibit 1 of our press release. This call also contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, which addresses financial condition, results of operations, business initiatives, trends, guidance, growth plans and prospects of the company in 2019 and beyond, and are subject to risks and uncertainties that could cause certain actual results to differ materially from such forward-looking statements. Please refer to the company's current press release and SEC filings, including the most recent 10-K for more information on these risks and uncertainties. The company undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call. I will now turn the conference call over to Laura Alber, our President and Chief Executive Officer.

[Laura Alber:]

Thank you. Good afternoon, everyone. On the call with me today are Julie Whalen, our Chief Financial Officer; Felix Carbullido, our Chief Marketing Officer; and Yasir Anwar, our Chief Technology Officer. 2018 was a strong year for our business. We outperformed revenue and EPS expectations, while making important investments in our business that sets us up for accelerated long-term growth. For 2019 and beyond, our goal is to maximize growth and maintain high profitability and we have several substantial growth engines that we will be aggressively prioritizing including West Elm are newly launched business-to-business offering, our emerging brands Williams Sonoma Home, Rejuvenation, and Mark and Graham, as well as growth in our largest brand Pottery Barn and our namesake brand Williams-Sonoma. We'll also continue to improve the customer experience through technology innovation and supply chain optimization. We believe superior customer service is oxygen for growth. We’ve built over time a vertically integrated supply chain and a unique platform to launch and scale new brands and businesses. These are unparalleled advantages, which will enable us to deliver mid to high-single-digit revenue growth and margin stability for the long-term. Before I discuss our growth opportunities for the years ahead I would like to highlight some of our accomplishments in 2018 and the powerful foundation that we will continue to build upon for future growth. In 2018, we delivered revenue growth of 7.1% and comp brand revenue growth of 3.7%, the highest in four years and driven by positive comp growth in all brands. Growth in Pottery Barn accelerated from last year, driven by outperformance in the e-commerce business and breakout growth in new businesses, marketplace and Pottery Barn Apartment, as well as strong upholstery growth. Q4 comp was below our expectations due to a softer gift business in December. And while we still the back orders that were delayed from last quarter net comp continued to lag demand due to a 50% increase in drop ship sales and the rapid expansion of our marketplace business. Both of which take longer to fulfill. The Pottery Barn Kids and Teen business substantially improved from last year delivering a combined comp of 2.8% and our baby business continues to gain momentum at up 15 attracting new customers at the entry points to our brand and through registry creations, whilst Home had another outstanding year of double-digit growth driven by strong e-commerce performance and continued strength in the core furniture business. The Williams-Sonoma brand delivered comp growth of 1.7% with the fourth quarter comp dipping to 0.1% largely due to a reduction in promotional activity as we reduced inventories and continue to refine the balance between top-line growth and profitability for the brand. Our emerging brands Rejuvenation and Mark and Graham continue to scale with double-digit growth and increasing profitability. Company-wide full year EPS was 24% to $4.46, which is significantly above the high end of our guidance. For the fourth quarter, our top-line and EPS also outperformed expectations growing 9.3% and 25%, respectively. Even more encouraging is our double-digit new customer growth, which reached a three-year high in 2018. This reflects the success of our strategies to increase customer acquisition and fuel our future growth. Across the business, you can see examples of how we are delivering more compelling experiences for our customers. As part of our strategic priority of digital leadership, we've significantly enhanced the e-commerce experience through two differentiators

[Julie Whalen:]

Thank you, Laura. And good afternoon, everyone. We delivered another quarter of solid results on both the top and bottom lines once again, demonstrating our ability to execute against our growth and operational initiatives, while maintaining strong financial discipline. Before I discuss in more detail our fourth quarter financial results, I would like to first highlight our financial accomplishments for the full year. As a reminder, our results include the financial impact from a 53rd week that added approximately $85 million in net revenues and approximately $0.10 in earnings per share to the fourth quarter and the year. Our results also include the financial impact from a new revenue recognition standard that we adopted at the beginning of the year, which primarily re-classes other income from SG&A into net revenues and impacts the timing of our revenue recognition for certain merchandise shipped to our customers. For fiscal year 2018, we delivered net revenues of $5.7 billion growing 7.1% over last year. Comparable brand revenues grew 3.7%, which was an acceleration of 50 basis points from fiscal year 2017 and was our highest comp in several years. Growth was driven by both channels. Retail revenues grew 3% despite a decline in nationwide retail traffic and e-commerce revenues almost doubled their growth to 10.8% reaching a record high of 54.3% of total revenues. By brand, we saw positive comp across all brands this year with the Pottery Barn brand accelerating 150 basis points from the prior year. Pottery Barn maintained its momentum with a comp of 1.2% increasing 20 basis points over last year. Our Pottery Barn Kids and Teen business returned to a positive comp this year up 2.8% versus the negative 1.7% last year. The Williams-Sonoma brand drove a 1.7% comp on top of a 3.2% comp in fiscal year 2017. West Elm continued its accelerated growth trajectory with their ninth consecutive year of double-digit growth and another year of strong revenue comps of 9.5%. Our emerging businesses Rejuvenation and Mark and Graham delivered another year of double-digit comp growth of 17.4% on top of 24.5% last year. And in our global operations, we delivered almost $350 million in total revenues, including double-digit growth in our company-owned operations. From an earnings perspective, we generated operating income of $483 million at an operating margin of 8.5%, which includes the reinvestment of a portion of this year’s tax savings primarily into higher hourly wages and digital advertising. This resulted in earnings per share of $4.46 growing almost 24% over last year and significantly outperforming the high end of our fiscal year 2018 guidance. And these earnings allowed us to further increase our return on invested capital this year to almost 19%, which was significantly above the industry average. We also delivered another year of robust operating cash flow of almost $600 million, which allowed us to provide incremental returns to shareholders, including a 50% increase in our share repurchases and a 10% increase in our quarterly dividend. As a result, combined, we returned approximately $436 million to our shareholders this year for an increase of 32% over last year. Now, I would like to review our fourth quarter results. In the fourth quarter, we generated net revenues of $1.836 billion for a year-over-year growth of 9.3% and comparable brand revenue growth a 2.4% on top of a 5.4% comp last year. By channel, revenue growth accelerated in the e-commerce channel to 14.2% and the retail channel delivered revenue growth of 3.9%. Moving down the income statement. Gross margin for the fourth quarter was 38.7% versus 38.5% last year. Occupancy costs of a $181 million versus $177 million last year leveraged 70 basis points during the fourth quarter. The 20 basis points of gross margin leverage was primarily driven by occupancy leverage that was partially offset by lower selling margins, which included higher year-over-year merchandise margins being offset by increased shipping costs from higher UPS shipping rates and a larger mix of furniture sales versus last year, which was more expensive to ship. SG&A for the fourth quarter was 26.9% this year versus 26.1% last year. This 80 basis point deleverage was primarily associated with the negative impact from the new revenue recognition standard. Employment deleverage from higher year-over-year performance based incentive compensation as well as the impact from the reinvestment of our tax savings into higher hourly wages was offset by advertising leverage during the quarter. This resulted in an operating margin for the fourth quarter of 11.9%. By channel, the operating margin in the e-commerce channel was 21.7% this year versus 22% last year. Gross margin leverage from higher year-over-year merchandise margins partially offset by higher shipping costs was more than offset by SG&A deleverage. SG&A was negatively impacted from the new revenue recognition standard which was partially offset by advertising and employment leverage. The operating margin in the retail channel was 14.6% this year versus 15.6% last year. The 100 basis point decline was driven by SG&A deleverage from the negative impact associated with the new revenue recognition standard, employment deleverage resulting from a year-over-year impact from the partial reinvestment of our tax savings into higher hourly wages as well as gross margin deleverage from lower selling margins partially offset by occupancy leverage. Corporate unallocated expenses in the fourth quarter as a percentage of net revenues were flat to last year at 6.6%. Higher year-over-year performance-based incentive compensation was offset by occupancy leverage. The effective income tax rate during the fourth quarter was 21.6% this year, compared to 31.6% last year. This lower tax rate mainly reflects the impact of the 2017 Tax Cuts and Jobs Act, which primarily resulted in a substantially reduced federal tax rate. This resulted in diluted earnings per share of $2.10, which was $0.42 or 25% over last year, and significantly above the high end of our guidance at $1.99. On the balance sheet, we ended the quarter with a cash balance of $339 million versus $390 million last year. We generated $406 million in operating cash flow during the fourth quarter, which we utilized to invest $62 million in the business and to return capital to shareholders in the amount of $110 million through share purchases of approximately $75 million, and dividend payments of approximately $35 million. Moving down the balance sheet, merchandise inventories were $1.125 billion for an increase of 6% over last year. This growth was substantially below revenue growth and was primarily driven by inventory in transit and not yet received at our distribution centers. Inventory on hand and available for sale decreased 0.8%. We are pleased of the ongoing success of our inventory initiatives across our brands that allowed us to optimize our inventory levels even further. Before I discuss our 2019 guidance, I would like to draw your attention to three changes that will take effect in fiscal year 2019. First is the implementation of a new lease accounting standard which requires all leases with terms greater than 12 months to be capitalized on the balance sheet. We expect that this will result in a net increase of approximately 1.2 billion to our asset and liabilities upon adoption of the standard in the first quarter fiscal year 2019. We do not expect there will be any material impact to the income statement. Second, due to the rapid convergence of our retail and e-commerce businesses, and the synergies that exists between the two, we will no longer be reporting our financial results into separate segments. As we continue to evolve and adapt to this multi-channel environment, our retail and e-commerce businesses have become more similar to and dependent on each other on both qualitative and quantitative way. This decision reflects the culmination of business initiatives and corresponding operational changes that have been and will continue to be implemented in our business to meet our customers’ increasing need for channel agnostic convenience. As a result beginning in fiscal 2019, we will be consolidating our financial results into one reportable segment and we'll continue to provide quarterly comps and annual revenues by brand, as well as any additional disclosures necessary to understand the evolving dynamics of our business. Third, as noted in our press release, we are implementing a change in our guidance practice beginning in fiscal 2019. Going forward, we will no longer be providing quarterly guidance and instead we will provide annual guidance along with a long-term financial outlook. We believe this approach is better aligned with the long-term view we take in managing the business and our focus on long-term shareholder value creation. Now, I would like to discuss our fiscal year 2019 guidance as well as our longer term outlook which reflects our strategic vision for accelerated growth with sustained high profitability for the long-term. For our annual fiscal year 2019 guidance, a 52-week year compared to fiscal 2018, a 53-week year, we expect net revenues to be in the range of $5.670 billion to $5.840 billion with comparable brand revenue growth in the range of 2% to 5%. We expect our full year comp to be back half weighted given both the tougher compares for the first half of fiscal year ‘18, as well as our decision not to comp several promotions in the first half of last year as we continue to bounce margins with sales. Additionally, revenues in the first quarter may also be impacted by an Easter shift, with Easter now closer to the end of the quarter, as well as a one week calendar shift all year due to the 53rd week which may cause revenue growth to fluctuate by quarter. Our comps have been adjusted for this shifted week. Our operating income is expected to grow relatively in line with our revenue growth resulting in an operating margin in line with fiscal year 2018. Our effective tax rate on the year is projected to be in the range of 23% to 24% and our diluted earnings per share is expected to be in the range of $4.50 to $4.70. This reflects guidance that at the high end of the ranges results in top-line mid single-digit revenue growth, operating margin stabilization and bottom line earnings per share growing faster than revenue growth. In terms of our fiscal year 2019 capital allocation strategy, we remain committed to a long-term balanced approach, utilizing our strong operating cash flow to first invest in the business to support our growth initiatives, with capital expenditures expected to be within a range of $200 million to $220 million and we plan to return excess cash to our shareholders. As far as our capital investments for fiscal year 2019, we remain focused on prioritizing those investments that support the strategic growth initiatives that Laura spoke to earlier and where we see sustainable long-term returns for our shareholders. As a result, our fiscal year 2019 capital investments are primarily focused on technology investments across our company to drive innovation, growth and an improved customer experience, investments in the further optimization of our supply chain to improve our competitive advantages and to maximize operational efficiencies and investments in our retail fleet, particularly with new stores in the West Elm brand. We also expect to return excess cash to our shareholders in the form of share repurchases and dividend payments. Based on our balanced capital allocation strategy, we announced today a double-digit dividend increase of 11.6% for a quarterly dividend payment of $0.48 per share and a share repurchase authorization increase of $500 million. This expanded authorization will not only allow us to continue to repurchase shares annually at a level to at least offset equity dilution, but will also allow us to opportunistically increase our rate of share buybacks if appropriate, just as we did in fiscal 2018. These decisions reflect our confidence and our ability to continue to generate long-term sustainable revenue and earnings growth and strong operating cash flows as well as our commitment to maximizing returns to our shareholders. As far as our longer term financial outlook, we expect to deliver mid to high single-digit revenue growth with operating income growth in line with revenue growth and driving operating margin stability. We expect EPS growth to exceed that of revenue growth, we also expect to continue to maintain an above industry average return on invested capital to sustain strong operating cash flow and to provide a balanced capital allocation approach optimizing returns to shareholders through strategic investments in the business, incremental share buybacks and increased dividend payouts. We believe this financial outlook reflects our commitment to deliver long-term shareholder value. In summary, 2018 was a year of solid financial and operational accomplishments which included some important investments in our business that has set us up for accelerated long-term growth and profitability. As we look ahead to 2019 we are confident that with our competitive advantages, including our portfolio of strong brands that serve a range of demographics and aesthetics, the proprietary, high quality and sustainably sourced products, our multi-country vertically integrated supply chain that gives us flexibility on sourcing and control over quality and cost. Our multi-channel shopping platform with an industry leading e-commerce penetration, our strong operating cash flow and resilient balance sheet and our proven track record of strong financial discipline, we have a unique foundation to support the successful execution of all of our growth and operational initiatives in 2019 and beyond, and to deliver upon our financial commitments to drive long-term shareholder value. I would now like to open up the call for questions. Thank you.

[Operator:]

[Operator Instructions]. We'll now take our first question from Oliver Wintermantel from Evercore ISI. Please go ahead.

[Oliver Wintermantel:]

Laura, you mentioned your long-term guidance right, so the mid to high-single-digit revenue growth, but margin stable. Can you maybe explain what it needs to happen to that we see margin expansion? I mean we've seen over the years your top-line is growing nicely but then we have shipping costs, we have ad costs and all of that. So that margins are not growing. So with this longer term guidance what would have to happen that we see margin expansions? Thank you.

[Laura Alber:]

I want to remind you, you might not be aware that last year -- sorry in 2017, we made a big move to reduce our shipping income to be competitive. And we changed from a per item charge to flat rate and it was a substantial hit to shipping. And we don't see the need to overhaul and make another change like that. In fact we are looking at ways to take cost out of our network so that it's less expensive to ship. So that explains one of the reasons you saw that big hit in 2017. As far as the mix of the brands and also the channels, as I think you know, the DTC channel is more profitable and as we continue to push the growth there from a margin perspective, you’ll see the benefit. We're also working to close underperforming stores. Over the next three years, we have over a third of our stores up for renewal. And so we'll either get great favorable leases or we’ll leave and that's going to be a substantial opportunity for us to reposition at a time where the mall owners and landlords really want to have great brands like ours to drive traffic. And then of course with our business, growth leverages everything and we have substantial growth initiatives that we have a clear view to. And I went through some of them before but West Elm very profitable business that we can really maximize and leverage our great designs across multiple geographies and also pushing to grow the customer base as we have them across DTC. We continue to see the brand really resonate both in urban and suburban markets and have options to really differentiate the aesthetic and the categories that we are in. We're also -- if you saw last week, we have growth opportunities in West Elm in places like Rent the Runway, there's all sorts of new ways to think about how we sell our products and participate in this new retail environment. So West Elm, although we've been talking about it for a while and telling you about the growth story, we're really refocusing our dollars towards pushing the growth faster in West Elm, which will inevitably drive margins. And then I mentioned earlier the new business-to-business division that we're officially naming and supporting so that we can drive growth across all of our brands and we've been working to convert more of our products to contract grade and we are marketing these services and supporting the delivery in the way that the businesses want them delivered. And that is going to push a lot of leveraged growth because it's just leveraging what we're already doing. So we're quite excited about business-to-business. And then of course, we talked about our emerging brands and the clear roadmap for growth initiatives. So it's a combination of cost reduction, otherwise known as customer enhancements because a lot of cost is wasted when you don't deliver perfectly and we're seeing great improvement there. We talked about one inventory being a big driver of better inventory optimization but then also the growth driving leverage on the base.

[Operator:]

We will now take our next question from Jonathan Matuszewski of Jefferies. Please go ahead.

[Jonathan Matuszewski:]

I guess just first off on poor congestion. I know that impacted results, last quarter contributed to the spread between reported and demand comps. What did you see on the poor congestion front during fourth quarter and do you see any issues still lingering at this point?

[Julie Whalen:]

Hi, this is Julie. Yes, we did receive all the delayed goods from China. They did come-in in the fourth quarter and all the customer orders were filled. As a result we saw that our back order rates of course significantly improved compared to last quarter and we're seeing less customer issues than we've had in the past with more on time deliveries and less damage at returns and replacement. So that issue regarding the China port slowdown is behind us.

[Jonathan Matuszewski:]

Great. And then just a quick follow-up. For West Elm, I know you mentioned expanding some categories where you've seen historical strength in momentum and then maybe some new product introductions, could you just elaborate there and keep us updated on what we can expect in stores in 2019 that's different from the past?

[Laura Alber:]

Sure. It's very exciting. They continue to really push and lead in design. And while the specifics are quite competitive, I'm really impressed with how this team is really innovating and building new products for the modern customer. So you're going to see a lot of innovation in core categories. And then also, as you just saw we just relaunched bath to great success and we're still just in the early stages of building out that business as an example.

[Operator:]

We will now take our next question from Curt Nagle of Bank of America Merrill Lynch. Please go ahead.

[Curtis Nagle:]

So, just one. In terms of just regard to next year, just curious if you could comment on what you guys have factored in for one-time items? I know you guys don’t guide to GAAP. And then just as a follow-up, just kind of curious what your expectations are or it’s wider forward into Rent the Runway, it seems like an interesting opportunity?

[Julie Whalen:]

This is Julie. As far as the non-GAAP items go forward. I think we've said in the past that the outward cost that we're backing out particularly associated with the transaction costs, they're going to be amortized over multiple years are going to be backed out for 2019. Those are the only things that we've identified as this point.

[Laura Alber:]

In terms of Rent the Runway, it's another example of a very interesting way to get into the consumers’ house. We've seen success in closing and people for different life stages sometimes don't want to buy things, they're going to rent them anyway, they're going to go to second hand stores, and we see this as a really high quality rate to participate in that circular economy and give the customer what they want. And we know that when we get some early on, or in a certain part of the lab usually are able to keep them better than other retailers. So that's one -- just yet another example of how we're thinking about our business differently, no difference than business-to-business, where we look at the world and say, “Where else aren't we?” And we relaunched Workspace at West Elm, it's been very successful, and we continue to push on contract, and everywhere that you see furniture, we want to be a part of it. And we believe that we can build a really sizable business in these different kinds of channels that we have before.

[Operator:]

We will now take our next question from Michael Lasser of UBS. Please go ahead.

[Michael Lasser:]

You mentioned that you're being less promotional on the Williams-Sonoma brand. Is that in response to something you're seeing in the environment? And do you expect Williams-Sonoma to comp negative in the first half of the year? And then I have a follow up.

[Laura Alber:]

We don't like negative comps anytime of the year. Yes. So less promotional, we're reducing the amount of SKUs, unproductive SKUs and stores and being smarter about the inventory investments. And so you may not comp those sales that were less profitable. And as we've reduced inventory -- we're going to continue to reduce it, by the way, because, we know, it's the right thing to do, you're going to have lessened that bucket. On the other hand, you can make the argument that, when you offer too much on sale, you chase them down. And so, do you, actually lose the sale or do you trade them up to something that’s at regular price. And at the regular price, in all brands, including Williams-Sonoma, we're pushing value. So Open Kitchen is a great example, where you can go to Williams-Sonoma and by great, the best product at the best price, all exclusive in Williams-Sonoma. And that should I hope offset the reduction in the clearance activity in that brand. But as I said earlier, we're undertaking a free transformational change and improving the profitability of Williams-Sonoma brand improving the ROIC in the Williams-Sonoma brand. And we really are excited about that initiative and you could see some more muted comps but on the other hand, we have some great opportunities in that brand and exciting product line-up for the year.

[Michael Lasser:]

And then my second question is, as we calibrate our model, you've guided to a flat margin at the midpoint of your 2% to 5% comp outlook for the year, call it 3.5%. Does that mean if you comp at the low-end, you would see some margin compression or because you might be giving up some unprofitable sales, we shouldn't expect to see a margin degradation at a lower end of the comp range?

[Julie Whalen:]

Yes, I mean, what we've guided to obviously is to be in line with last year's margin. So that is fully where we believe will come in, regardless of where we land on the revenue. So yes, there'll be things that play like that, like where we might be giving up on comp to be able to have more promotional sale, I mean, more profitable sales -- sorry, like Laura just spoke to with Williams-Sonoma and quite honestly, across our brands we've been doing more of that. So that's possible but I wouldn't read anything more into the low end of the revenue range relative to op margin.

[Operator:]

We will now take our next question from Marni Shapiro of Retail Tracker. Please go ahead.

[Marni Shapiro:]

Hey guys, congratulations. And stores have looked really fantastic. Can you just talk a little bit about West Elm specifically you talked about accelerating the growth, I'm curious to -- so you have a lot of things going on with West Elm, so I'm curious if you're looking to accelerate the growth by opening more stores? Or is it things like Rent the Runway or all of this of the other aspects of West Elm that you're targeting right now?

[Laura Alber:]

I mean, it is all of the above, which is quite exciting. So it's the cross brand initiatives that we talked about that feed right into West Elms strength. They're still really early in on the registry business, so that is wide open space for them to take that business away from others. And simply now that you can finish your registry at West Elm’s Furniture with Williams-Sonoma Open Kitchen that we really have the product to serve the whole house and so that's an opportunity as well as the new channels we talked about. And then as I said within just the core brand there's product category opportunities, there's aesthetic opportunities, price point scale. In fact we believe that sometimes the trench is too small. West Elm was born for an urban environment yet suburban people in larger homes love it. And so we also are doing the opposite of what we're doing a Pottery Barn which is the expanding the size of some of our products so that they fit in larger homes. And then lastly I don't think we've really explained well enough the operational excellence that the team at West Elm are pushing. They’ve really changed the course of the profitability, the inventory is in so much better condition, it's very clean, back order rate is way down and our on time delivery is up. And well it’s hard to put a exact finger on how much that's worth, we know that's a sizable number that will continue as an opportunity through this year.

[Marni Shapiro:]

And can you just give us an update quickly you had launched West Elm the baby side and I think it was last year, it might have been the year before I had seen in a bunch of stores you rolled out what I would call like the higher end more exclusive West Elm, if you could just touch on those, are those still in the works both of them and where they’re going?

[Laura Alber:]

Yes, great question. So on the baby side, we did a collaboration, we do a lots of collaborations with different outside designers and we realized let's do a collaboration with PB Kids and West Elm, because PB Kids understands safety and building children furniture and West Elm has a unique aesthetic that kids hadn't been offering. So we actually -- they designed it together in house and we put the product both in the stores for West Elm and the kids stores and online on both and all brands are benefiting. And the volume is kind of similar, it’s actually quite the same. Now, in terms of collection, we’d tried the higher end West Elm and it wasn't successful and we very quickly exited that and the great news was it was a small test. So, we feed the ones that work and we got rid of that one. And actually we had a store in New York where we had to separate entrance and we had collection in there. We’ve converted that to our bedding and bath expansion. So it was a pretty easy move.

[Operator:]

We will now take our next question from Christopher Horvers of JP Morgan. Please go ahead.

[Christopher Horvers:]

I want to just follow-up on the demand comp commentary. So the rough math around the third quarter is 110 basis points call it was shifted in based on the 150 basis points headwinds from the third quarter. So at that 110 basis points in the fourth quarter, so do you look at like a low one is really the underlying demand comp there, but you also mentioned that you also had some late shipments. So I was trying to understand the underlying trend how much you expect could shift into the first quarter? And then bigger picture sort of how you think about the first quarter relative to the guide for the year. Do you think that 1Q could be at the low end of the range or slightly below where midpoint, how you are thinking about it?

[Julie Whalen:]

Hi, Chris. It's Julie, I'll take that. So I think there's a couple things you have to think about. Yes demand comps were higher than that in Q4. And yes I said earlier that we did get the China goods in through the fourth quarter. Well you have to recall a couple of things. First of all, we had a 2.4 comp, which of course is the midpoint of our range relative to 5.4 last year. But we also incurred a 70 basis point negative impact on -- from an accounting perspective as a result of the new revenue recognition standard. And so that right out of the gate hurt the comps and brought them lower. We also as Laura mentioned in her prepared remarks, also has a couple other drivers that impacted the demand and net conversion primarily associated with the Pottery Barn brand and the fact that a lot of their growth is coming out of drop ship sales, which in marketplace and upholstery, which those take longer to fulfill. And then we also were impacted, as we just spoke to with Michael about Williams-Sonoma with the lower comps primarily associated with being less promotional in the fourth quarter. But all that to say at the end of the day, we have really good strong comps relative to our performance to last year. As far as giving guidance to the first quarter obviously is one thing that you do need to remember in the first quarter, we have an Easter shift that's pretty sizable and I alluded this in my prepared remarks that's going to put the Easter revenue comps towards the end of the quarter. And obviously, as Easter drive both traffic and revenue across our brands this tiny shift makes it hard to currently read the business. But this Easter shift actually further speaks to exactly why we want to gather the business of the shorter term business reads and to move away from quarterly guidance and it’s not reflective of our more strategic long-term vision.

[Christopher Horvers:]

And then as a follow-up on the flat EBIT margins for 2019, any color in terms of how you're thinking about the gross versus the SG&A? Closing 30 stores rough math seems like about of 50 basis points tailwind to occupancies or are you expecting grosses and SG&A to be relatively flat to arrive at the EBIT line?

[Julie Whalen:]

Well, there is obviously a lot of moving parts in there. I mean certainly with higher revenues you have occupancy leverage, with lower costs like we had in the fourth quarter with actually one of our lowest growth rates we’ve had a 2.2. You're starting to see some of these costs come down both from rent and otherwise depreciation et cetera. So with that continuing that should be some tailwinds for us. Also we saw gross margins that were up in Q4 that we continue to talk about. So I think that's another opportunity to provide leverage on the gross margin. And a lot of our supply chain initiatives to help lower some of our costs that hit gross margin should also be helpful. The tailwind or the headwind if you will is the higher shipping costs that we continue to have obviously from both the UPS shipping rate increases, but more importantly, from the higher mixed furniture and the China tariff, which is everybody's question mark as to where that's going to land. We have in fact, included that in all of our guidance for the full year and is factored into our margins because we're covering that 100%, but it could shorter term put pressure on our gross margin, which of course then as we have higher sales leverage across the P&L like we’ve done in the fourth quarter we will continue to leverage the other areas of the SG&A lines to be able to offset that and to be able to land in an operating margin that is fair to last year.

[Laura Alber:]

And by the way, since we have -- and we have covered the China tariff and it's in our guidance, it has removed its upside.

[Christopher Horvers:]

Understood. You mean the 10% -- 10% tariff?

[Laura Alber:]

We actually have -- we are anticipating, -- we plan for the 25%.

[Christopher Horvers:]

And that’s sort of -- some sort of comp benefit but some sort of gross margin headwind down with them ultimately?

[Laura Alber:]

That’s why we’ve put the worst case scenario in and we’ve prepared ourselves we've been working on this for a while. The sourcing team has done a phenomenal job and it speaks to really our vertical integration and our sourcing structure across the world. We've moved a ton out of China. We've gotten better prices. We've moved a lot of our upholstery business domestically which also has the net impact of unfortunately putting net, Chris, because it used to come in from China and sit in our DC and to shift and now we've moved and opened as you know Tupelo where we're moving a lot of our upholstery furniture business. But that also was because we got ready for what we thought was going to be 25% tariff. And so in addition to all the movement of the sourcing, we have been going after indirect vendor costs around the company and we have a team that's working on consolidating every contract. So between all these moves and also some mix shifts and some selective price increases we’re prepared for the worst.

[Christopher Horvers:]

Any comments and the degree of upside you opened up the box, so I figure it out?

[Laura Alber:]

Yes, it’s a good question. I don't think you can do the straight math because a lot is yet to be seen about this, but certainly it's good number.

[Operator:]

We'll now take our next question from Steve Forbes of Guggenheim Securities. Please go ahead.

[Steve Forbes:]

I wanted to start with the footprint expectations right, so the 30 store closings on a net basis. Maybe just help us bridge the gap there gross to net and if you can any color by brand? And then given your commentaries about the one-third of the stores up for renewal, can you talk about how these conversations for this store class with the landlords went, as you went to negotiate?

[Julie Whalen:]

So as far as the numbers from a gross and net perspective, it's predominantly store closures that you're seeing in that number. So -- and basically, as we've gone through, and we told you in the past, there was about 250 stores that were coming up for renewal and we said we close a third of them if the economics didn't make sense. And so having 30 store closures in this one particular year, if you look back one of the largest store closures that we've announced. So it's clearly a sign that we are pushing back with landlords and being very aggressive with our stands.

[Laura Alber:]

I do want to add though, but we see retail as a very important part of our multi-channel model, because it allows our customers to touch and see our products in person. And it does revenue customer acquisition. So while we have the opportunity and we have over 250 stores that are coming up for lease renewal in the next three years. We also have the opportunity to selectively open stores and invest in new stores for West Elm and dry very profitable growth. And in terms of the negotiation, these are leases that are up and is the end of the lease. And so, there's cases where we are deciding to stay to the favorable economics and other places where we are leaving and so the 30 is our best guess. And it just depends on what kind of agreement we can get with our landlords and we'd love to work together to really keep a very healthy fleet in the best center of the United States.

[Steve Forbes:]

Maybe we spent a lot of time on the call today on the growth potential for West Elm. But maybe if you can expand on Williams-Sonoma Home especially as it relates to -- pertain to like the presentation of the brand within the stores. And you mentioned sort of small and tactical presentations but really how do you plan on driving brand awareness right off that offering over the next say three to five years?

[Laura Alber:]

Thank you. We're very excited about the opportunity for Williams-Sonoma home. And we have not seen, we've seen interesting mix in our Kids and Teens businesses, which are predominantly online. In fact in Williams-Sonoma home, we are choosing to consolidate out of some of the stores actually and remove the footprints so we can make a better impact than others. So we tried a lot of things last year. We tried in a lot of markets. And we see ourselves -- we've already taken out some and we're going take out some more. And then really expand it in others based on where the market is. And at the same time, online we can drive a lot of customer acquisition through our digital efforts. And also because we're introducing that we have the Room Planner that cross-brand. So as our designers in the other retail stores help furnish their customers’ both homes and maybe they go into the Pottery Barn door, the Room Planner allows them to drag into our products and all of our brands and put together a multi-brand house, which we think is a really big competitive differentiator for us and one that we're going to continue to build upon.

[Operator:]

Ladies and gentlemen, there are no further questions at this time. Thank you for your participation. You may now disconnect.

[Laura Alber:]

Thank you all. I appreciate your support and looking forward to talking to you next time.