Q3 2022 Burlington Stores Inc Earnings Call
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Yeah.
Good morning, and welcome to Burlington stores third quarter, 2022 earnings call and webcast.
All participants are in a listen only mode. After the speaker's presentation, we will conduct a question and answer session.
To ask a question you will need to press star followed by the number one on your telephone keypad.
As a reminder, this conference call is being recorded.
I would now like to turn the call over to David Glick Group Senior Vice President Treasurer, and Investor Relations. Please go ahead Mr. Glick.
Thank you operator, and good morning, everyone. We appreciate everyone's participation in today's conference call to discuss Burlington's fiscal 2022 third quarter operating results. Our presenters today are Michael O'sullivan, Our Chief Executive Officer, and Christian will our EVP and Chief Financial Officer.
Before I turn the call over to Michael I would like to inform listeners that this call may not be transcribed recorded or broadcast without our expressed permission.
A replay of the call will be available until November 29, 2022, we take no responsibility for inaccuracies that may appear in transcripts of this call by third parties a.
Our remarks, and the Q&A that follows are copyrighted today by Burlington stores.
Remarks made on this call concerning future expectations events strategies objectives trends or projected financial results are subject to certain risks and uncertainties.
Actual results may differ materially from those that are projected in such forward looking statements.
Such risks and uncertainties include those that are described in the company's 10-K for fiscal 2021 and in other filings with the SEC all of which are expressly incorporated herein by reference.
Please note that the financial results and expectations. We discussed today are on a continuing operations basis.
Reconciliations of the non-GAAP measures, we discussed today to GAAP measures are included in today's press release.
Now here's Michael.
Thank you David.
Good morning, everyone and thank you for joining us.
I would like to cover four topics this morning.
Firstly, I will discuss our third quarter results.
Secondly, I will review our outlook for the fourth quarter.
Thirdly, I will talk about our 2023 outlook.
And finally I'll offer some comments on the longer term.
After that I will hand over to Christian to walk through the financial details.
Then we will be happy to respond to any questions.
Okay.
About our results.
Comp store sales for the third quarter decreased 17%.
This was on top of 16% comparable store sales growth last year.
As we have done on previous calls today, and we are describing our comp trends, we will use a three three year geometric Scott.
This metric is defined in more detail in today's press release.
Our three year geometric stack was minus 3% for the third quarter.
<unk> was within our guidance range, but still a disappointing result.
There were external headwinds that contributed to this comp performance.
These headwinds are real and have affected our business all year.
Day, I do not plan to spend much time talking about these.
As we said on our August call. Despite these headwinds as an off price retailer, we should be able to drive stronger performance than this.
If you look at the results reported this past week clearly we are an outlier within off price.
Again this mirrors my comments from August so I would like to spend some time talking about the actions that we have taken since then.
In off price. The most important driver of sales is the value that we put in front of the customer.
In August I explained that we were aggressively reviewing the value and the mix in our assortment.
That would numerous actions that came out of that review.
Let me share some details on these.
Number one we.
We had originally planned to raise retail prices and increased merchant margin in the back half of the year.
In Q3, we pulled back on this.
We reviewed our on order and we adjusted retails to sharpen the values on fresh receipts, but slowed to stores in September and October .
Number two.
We also went through our existing inventory and went after a slower moving merchandise with more aggressive markdowns.
By end of September we had rolled these markdowns through all areas of the store and we took further aggressive markdowns in October .
Number three.
We raised liquidity and faster moving businesses and focused this open to buy on great opportunistic deals.
<unk> began to show up in stores in early October .
And before we used the liquidity that I, just mentioned to drive up the mix of recognizable brands and our assortment.
By mid October we achieved a much higher mix of these key brands in front of the customer compared to last year.
Number five in addition, we focused very heavily on expanding our mix of opening price points across our businesses.
We know that we have many neither deal customers for whom these lower price points are very important.
And number six we accelerated releases are great values from reserve inventory.
We pulled these releases forward from Q4 to Q3 and grew down reserved inventory from 52% of total inventory at the end of the second quarter to 31% of total inventory at the end of the third quarter.
During this period, we tightened and controlled expenses.
We reinvested the savings and the actions I have just described.
Since early September we have done a lot to sharpen our values.
As I acknowledged back in August we should have done all of this sooner.
In 2022, the consumers' frame of reference for value shifted significantly versus last year.
We should have responded more aggressively and more rapidly.
With that said, let me talk now about the results we have seen from the actions we have taken.
The main headline is that since mid October we have seen a pickup in our sales trend that has continued into November month to date.
This is a short period of time and of course, there are many important shopping days ahead of us.
But we believe that this improvement is attributable to the actions we have taken and this pickup gives us some optimism going into Q4.
In fact, let me move on to talk about Q4 guidance.
Although we have made significant adjustments to sharpen our values and we have seen a pickup in our sales trends we are maintaining the guidance for Q4 that we previewed on our August earnings call.
We are mindful of the fact and 2022 has demonstrated that we are more exposed to some of the prevailing macro headwinds than many other retailers.
These headwinds have not gone away.
For these reasons, we are staying with the guidance that we issued in August .
As a reminder, this guidance is based on a three year geometric stack of minus 4% minus 1%.
We hope to do better, but we think it is prudent to maintain guidance.
Now I would like to talk about how we're thinking about 2023 and our longer term outlook.
We previewed this on our call in August as a reminder, coming into 2022, we were concerned about the headwinds and risks across retail.
And it turns out that we were right.
In contrast, we are optimistic about the outlook for 2023.
Optimism is based on five factors.
Firstly, we expect that the economy will continue to slow down.
And as it does we anticipate that there will be an even stronger consumer focus on value.
Secondly throughout 2022, there has been a huge imbalance between supply and demand with too much inventory across retail.
This is driven much higher promotional activity, especially in mass channels.
Put simply in 2023, we expect a lower level of promotional activity and this should help to recover our sales trend.
Thirdly, there was a very strong availability of great off price merchandise.
It has also been reported by our peers.
By year end, we think it is likely that we will have rebuilt a reserve inventory with great opportunistic buys.
We also expect that the availability of great in season merchandise will remain strong well into 2023.
Fourthly, we have made mistakes this year that have hurt our sales trend.
I realize we have to demonstrate that but we do not intend to repeat these mistakes in 2023.
Finally, we believe that the expense environment in 2023 is likely to improve very significantly versus this year, especially as the contracted transportation rates.
Those are the reasons why we were optimistic about 2023.
In terms of risks the main call out is a continuing concern about the lower income customer.
As we have discussed before we have more exposure to this customer than most other retailers and.
In 2022, the lower income shopper has borne the brunt of the impact of inflation.
As we look forward to 2023, we do not expect that this headwind will disappear.
We think that it should moderate the level of inflation continues to fall.
To sum up on 2023.
We have to get through Q4, and we need to complete our budget process before we can offer guidance, but given what we know at this point, we are optimistic about the potential to drive some recovery in sales and margin next year.
I'm going to finish up with some comments about the outlook beyond 2023.
We remain very excited about the ability of off price to continue to take market share over time.
We also remain confident in our ability to improve our execution of the off price model and thereby drive higher sales and margin.
I realize that there are investors listening to this call who were thinking well that all sounds great, but given your results. This year why should we be confident in this longer term outlook.
Let me address that question.
I'll start by saying that we do not believe that any of the issues. We have faced this year have been what you might call structural.
For example, there has been no issue with getting access to great supply and great brands.
I can't recall, a time when off price supply has been better.
Rather than a structural root cause I think there have been two key drivers of our poor performance this year.
Firstly.
Macro headwinds have been real, especially the impact of inflation on the lower income customer.
This has hurt us more than most other retailers.
But this is not a permanent structural change rather it is temporary and driven by the economic cycle.
This impact will recede over time.
I would describe the second key driver of our poor performance is being developmental.
In the last few years, we have been transitioning to become more off price. For example, we have been investing in our buying capabilities.
By the end of this year, our buying team will be almost 50% larger than it was in 2019.
It is important to note that much of this investment is now behind us.
The pace of growth is already naturally slowed.
The focus going forward will be on how to take greater advantage of this improved buying capability to drive sales and margin growth.
So to sum up we are excited about the prospects for off price and despite our disappointing performance. This year, we are confident in our ability to drive improved execution and significant sales and margin recovery over the next few years.
I would now like to turn the call over to Christian to provide more details on our Q3 results and our rest of year guidance.
Thanks, Michael and good morning, everyone. Let me start with some additional financial details for the third quarter total sales in the quarter were down 11%, while comp sales were down 17%.
As Michael mentioned, our three year geometric comp stack was a negative 3%.
Comp sales and adjusted EPS came within our guidance range for Q3, our adjusted EPS was <unk> 43.
Which was within our guidance range at <unk>, 36% to 66%.
The gross margin rate was 41, 2% a decrease of 20 basis points versus 2021 third quarter rate of 41, 4%.
This was driven by a 90 basis point decline in merchandise margin.
Was partially offset by a 70 basis point decrease in trade expense.
The decline in merchandize margin was driven by the more aggressive markdowns that Michael referenced in order to sharpen our value.
Product sourcing costs were $178 million compared to $173 million in the third quarter of 2021.
Increasing 120 basis points as a percentage of sales.
This deleverage was driven by buying and supply chain cost buying costs deleveraged on the 17% comp decline while supply chain costs were higher than expected primarily due to a pull forward of Q4 receipt.
And the higher mix of true closeout merchandise, which is more labor intensive process.
Adjusted SG&A was $544 million versus $582 million in 2021, increasing 140 basis points as a percentage of sales. This was driven by the overall deleverage on the sales comp decline.
Adjusted EBIT margin for the quarter was two 7% 340 basis points lower than the third quarter of 2021.
Given where our comp store sales actualized within our guidance range. This margin decline is what we would've expected given our Q3 EBIT margin guidance for a decline of 260 to 360 basis points.
Relative to our Q3 2019, adjusted EBIT margin 2022 third quarter adjusted EBIT margin declined by 520 basis points.
Of this 360 basis points is driven by supply chain and freight with the balance driven by the deleverage on the lower comp sale.
All of this resulted in diluted earnings per share of <unk> 26 cents versus <unk> 20 in Q3 of 2021.
As a reminder, the prior years and that included a $1 22 per share impact from a loss on debt extinguishment charges.
Adjusted diluted earnings per share were 43 <unk>.
First is $1.36 in the third quarter of 2021.
At the end of the quarter, our in store inventories were 8% above 2021 on a comp store basis, and our reserve inventory was 31% of our total inventory versus 30% last year.
As Michael discussed, we aggressively flared reserve inventory to stores during the month of October in order to be properly set with great values for the critical holiday selling season.
In the third quarter, we opened 16 net new stores, bringing our store count at the end of the quarter to 893 stores.
This included 28, new store openings.
Ken relocations and two closings.
In the fourth quarter, we plan to open an additional 39, new stores and to relocate five stores.
As a result, we should end the year with 927 stores. This translates to 87 net new store openings this year.
Now, let me turn to our outlook for Q4 as Michael mentioned, we are maintaining our outlook for the fourth quarter, which is based on a negative four to negative 1% three year geometric comp stat.
This translates to a one year comp decline of 9% to 6%.
This range should lead to a Q4 adjusted EBIT margin of flat to up 70 basis points versus 2021, and two fourth quarter adjusted EPS of $2 45.
To $2 75.
For the full year fiscal 2022, this implies a one year comp range of negative 15 to negative 14%.
Based on this range, our adjusted EBIT margin is expected to decline by 400 to 370 basis points.
Even our actual third quarter results and Q4 guidance. This translates to an updated adjusted EPS outlook for fiscal 2022 or $3 77.
Two $4 incentives.
I will now turn the call back to Michael.
Thanks, Kristen, let me summarize the key points that we have discussed.
In August we took a step back to challenge and reset the values and mix in our assortment we made significant changes.
We believe that these drove the improvement in our trend towards the end of the quarter.
Despite these changes and the improvement in the trends we are cautious.
2022 has shown that we are more exposed to the prevailing macro headwinds and many other retailers.
So despite the recent improvement we are maintaining our previously issued guidance for Q4.
Looking ahead to 2023, there are several reasons why we are optimistic about the outlook.
We need to get through Q4 before we offer guidance, but we believe we should be able to drive some recovery in sales and margin in 2023.
Lastly, as we look further out we remain confident in the prospects for the off price model and in our ability to drive improved execution of that model over time.
With that I would now like to turn the call over for your questions.
Yeah.
Thank you as a reminder to ask a question. Please press star followed by the number one on your telephone keypad and the interest of time, we ask that you. Please limit yourself to one question and one follow up thank you.
Our first question comes from Matthew Boss from Jpmorgan. Please go ahead. Your line is open.
Great. Thanks so.
So Michael maybe to dig further in on the long term. So clearly 2022 has not gone. According to plan and there has been a pretty major setback in terms of financial performance.
How best to think about your ability to get back on track and the potential and timing to achieve some of the longer term financial targets that you laid out last year.
Well good morning, Matt Thanks for the question.
I think that the way that you phrased. It is exactly right 2022 has been a major setback in terms of hitting our longer term financial targets.
<unk>.
So let me explain why I believe that we can get back on track and what we need to do to get there.
Firstly the reason why I believe we can get back on track is because nothing nothing fundamental or structural has changed.
What I was getting at in.
In the prepared remarks, there have been they're really been two key drivers of our performance. This year, firstly macro headwinds which have been significant.
But I don't see those as being permanent Theyre, just part of the part of the economic cycle.
And secondly.
Our own mistakes driven by by poor execution.
So the long term opportunity in my view has not changed but let me talk about what we need to do to get.
Back on track as we go after that opportunity.
The number one the number one priority is sales we have to drive sales go your way to do that in our business.
Is to continue to improve our ability to deliver value to the customer.
I realize 2022 has not been a good investment for our ability to do that but it will learn from the mistakes that we've made this year.
The other aspect of getting back on track to our longer term financial targets.
Is to drive earnings as well as sales.
If you look at the de leverage in our operating margin this year versus 2019.
A couple from two sources.
Expense deleverage lower sales and higher freight and supply chain costs.
As I said, our number one priority as we get into 2023 and beyond is to drive sales. If we can do that then we can drive leverage.
But we're also very focused on driving down freight and supply chain expenses as rates and as external conditions start to normalize.
It's too early to put a more specific timeframe on it but I believe that we can get back to our 2019 margins within the next few years.
And in addition, as we've talked about before.
There are longer term initiatives that should help us to deliver.
And even stronger margin over time for example, the rollout of our smaller more profitable new store prototype.
Let me finish up by saying.
We've deliberately not provided a formal update to the longer term financial model that we said last year.
I'm still very confident in our ability to achieve those longer term financial targets.
<unk> for an update to that model to have any credibility, we have to get through 2023 fast.
We really have to demonstrate improved performance and execution.
Great and then maybe a follow up on new store openings. So it looks like you're on track to open 87, net new stores. This year, that's a bit shy of your original target of 90 could you just provide any additional color on that and should we interpret this as a slowdown.
It's a good question.
Right.
We had originally planned to open 90 net new stores this year.
But we're now we're now expecting to open 87.
The short answer to your question is that there were some.
Supply chain delays with air conditioning equipment.
Stuff like that.
So a small number of stores slipped.
Those cuts.
That small number of stores will open in the spring.
So we now expect to end this year with 927 stores.
As a reminder, our long term target is 2000 stores.
Has not changed.
Also.
As we've announced previously we expect to open between 506 hundred.
Net new stores over the next five years over that entire period.
We update.
Is that the actual number may vary slightly more year by year, the reason I'm, calling that out.
Is that we expect that there'll be some bricks and mortar retail consolidation over the next few years that could have a very positive impact on the quality and availability of real estate locations, but but it is hard to predict what that looks like year over year and that means that the number of openings could be higher or lower in <unk>.
One year versus the next so bottom line. The overall target has not changed.
But the number of openings in any specific yes, Mike ferry more depending on the availability of locations.
That's great color best of luck.
Thank you.
Our next question comes from Ike <unk> from Wells Fargo. Please go ahead. Your line is open.
Hey, good morning, Michael Chris and David.
Michael first question for you I wanted to focus on inventory levels any chance you could provide maybe some additional detail on inventory levels and where you ended Q3, and where you expect these to be at year end and then maybe also it sounds like the off price buying environment is very attractive.
This mean, there might be some merch margin upside in <unk> as you flow more recent buys in the stores.
And then a follow up for Christian.
Okay.
Good morning Ike.
I think the best thing to do a separate out our store inventory from our reserve inventory.
Our store inventory is obviously, what's what's available for sale to.
Customers in our stores reserve inventory is obviously goods that we packed away.
The later release.
At the end of Q3, our store inventory was up 8% on a comp store basis.
We actually expect to drive that inventory level, even higher in the run up to holiday.
Isn't for that Youll remember that last year, we suffered significant receipt delays, which Craig had holes in our assortment. During this critical selling period and as we lap that impact obviously, our store inventory is going to be higher year over year.
Similarly at year end I would anticipate that we would have much higher store inventory levels than last year.
Last year, our store inventories were just too lean going into the spring and again, you'll remember that that together with receipt delays really undermined our sales trend in February and March.
So our plan is to stop the screen season with much higher score inventory level than.
And then we did last year.
Let me move on now and talk about reserve inventory.
In Q3, we released a lot of receipts out of reserve to build up our store inventory levels as we entered Q4.
Now, it's going to depend on the opportunities that our buyers find in the market, but I would expect that by year end.
We will have built backup powers up inventory.
But again that will depend on opportunities.
On the last part of your question.
Yes, the off price buying environment right. Now is is very attractive there are a lot of great deals.
And ordinarily I would agree that that should drive much margin upside but.
But I think that that's unlikely to happen in Q4.
Okay and as I described in my prepared remarks.
Our overriding focus in this environment is to offer great value in order to drive the sales trend and that means that we'll be passing along great deals to our national peers.
Got it and then Chris maybe can you give us a little bit more color on the <unk> guide from a margin perspective, I think you are calling for flat to up slightly EBIT margin given the significant decline in the third quarter can you just walk us through the big drivers of the improvement that you're kind of embedding for the holiday.
Sure. Thanks for the question.
So first and foremost our three year comp stack is similar to what we guided to in Q3. The one year is actually several hundred basis points better given that last year. Our Q3 comp was the <unk> and then Q4 moderated to plus six.
And while we are maintaining that Q4 guidance as Michael mentioned since mid October we've seen a pickup in the sales trend.
And despite a warm start in November our month to date sales trend is slightly above the high end of our guidance range. So this gives us confidence in that guidance.
So given the improved one year comps for the fourth quarter expense deleverage moderates somewhat on each line in the P&L, particularly in SG&A.
And then coming down to gross margin, we expect to see.
Favorability, our leverage and freight expense given the dynamics of what's happening in transportation costs that headwinds moderating.
As a reminder, last year those are peak import freight costs in Q4 that were lapping that and those factors should help us drive a modest increase in reported gross margin.
And then we do expect to see less deleverage in product sourcing costs, including supply chain cost given the acceleration of Q4 receipts into Q3 that Michael mentioned as well as we're lapping onetime incentives and hiring expenses and our distributions from last year.
And with regard to supply chain, we've put in place several initiatives to continue to drive productivity, we're investing in automation and efficiencies opportunities in the Dcs. So continuing there. So overall given these puts and takes and factors. We expect fourth quarter EBIT margin as you said to be flattish to slightly above Q4 2021.
Great. Thanks happy holidays, everyone.
Thanks.
Our next question comes from Lorraine Hutchinson from Bank of America. Please go ahead. Your line is open.
Thanks, Good morning, Michael the merchandising organization has been a strategic priority for you can you describe the investment you've made in this capability since 2019, and how this investment might drive the sales and margins margin objectives over time.
Okay.
Well good morning Lorraine.
For the question.
Yes, we've been growing our merchant team.
For the last few years as you say.
This has been a major priority for us we know that merchandising capability is how you win in off price.
We've recognized since the stop that we are well behind our competitors in this regard we've been playing catch up with these capabilities I would say our peer is built with their buying organizations over many years.
We're trying to do it in a much more compressed period of time.
As I mentioned in my remarks by the end of this year, we will have grown our buying team by almost 50% versus 2019.
This is huge.
I am pleased with this growth and more importantly, I am very pleased with the quality of the talent that we've been able to attract.
But of course, this kind of growth takes a while to absorb and integrate it will take time to this team to become as effective as it can be as effective as it needs to be.
Between 2021 and 2022.
As I said in the script, it's been a huge shift.
In the consumer's frame of reference for value with all the newness that I. Just described we didn't respond to that shift as rapidly or as aggressively as we should have as.
That's disappointing, but we're probably not surprising I think it reflects our stage of development.
But let me sort of looked look let me look ahead I think that is.
It's important to note that the major growth spurt and merchandising capability is now behind us.
We will continue to add where we need to or Opportunistically, where we see really great talent, but we're not going to be adding much in head count at anything like the same pace as we have over the last three years.
The focus going forward is going to be to drive greater efficiency and value from the investment that we've already made.
Just to bring this to life, a little bit more compared with 2019, we now have much greater off price merchant expertise.
Our experienced leadership.
Stronger vendor coverage and much greater buying resources.
Specially targeting our highest opportunity growth businesses.
I feel like we've built a huge asset and I've got no doubt that this asset is going to drive significant growth in sales and earnings over the next few years.
Thanks, and then for Kristen can you walk us through the puts and takes on your margins in Q3 supply chain costs were a little higher than we had expected. So can you help us understand why they are still elevated and then what's the path to recapturing at least a portion of the supply chain deleverage looks like.
Sure Lorraine Thanks for the question.
I'll walk through the puts and takes on Q3 from a gross margin standpoint, we came in about where we expected merchandise margin was down 90 basis points and freight lower by 70 basis points came in largely in line with what we were expecting.
SG&A did come in lower than we had planned due to strong expense control, but as you noted we did incur higher than expected supply chain costs. These were offset in the context of our guidance with that lower SG&A, but it was higher so let me walk you through the key factors on supply chain is a bit of a good news bad news story.
The good news is we were able to accelerate releases of great values from reserve and Michael mentioned in his prepared remarks, I think it bears repeating reserve inventory went from 52% of total inventory at the end of the second quarter, and then down to 31% of total inventory at the third quarter.
The other good news is that we were able to secure them our highly desirable branded closeout buys. These <unk> are typically next year. They are more labor intensive less efficient to work the distribution centers.
Those are sort of the good news items. The bad news of course is that all of this drove higher supply chain expenses, but as I mentioned.
Our next question, we should see improvement in the fourth quarter again with that receipt pull forward lapping the higher incentives, but also with the <unk>.
Connectivity and automation initiatives for continuing and which will continue into 2023.
Thank you.
Our next question comes from John Kernan from Cowen. Please go ahead. Your line is open.
Good morning, Michael Kristen.
Michael will have a question about the low income customer.
Clearly this customer's been under inflationary pressures this year, how long do you think it'll take before theyre spending levels begin to recover.
And until that happens do you think it's going to be difficult to drive your historical levels of comps and sales.
A quick one for Steve.
Good morning, John .
When we look at our core customer demographics.
We index.
As much lower income much more ethnic younger and larger family size than most other retailers.
These are I think the very very consumers that have been disproportionately hurt by the high cost of living this year.
Unlike other income groups.
These demographics don't have savings to draw from.
But I have to say, we love this customer the shoppers have driven the growth of bricks and mortar value retail over over many years. It may take a while but but this customer is going to recover and over the long term.
It's a very attractive and growing customer base.
We look forward to 2023, we anticipate.
This low income customer will continue to be pressured economically our optimism.
Around 2023 is not predicated on a sudden bounce back by this customer group.
We think that constrained spending levels by lowering some customers will still be a headwind for us in 2023, but but just less of a headwind than it was in 2022.
So our optimism about 2023 is driven by other factors specifically.
A greater focus on value by other income groups and therefore more trade down traffic.
Less of an inventory overhang, and therefore, lower promotions, especially in mass retail and.
On improving expense environment, especially for contracted freight and last year of course, better execution by us as we lap our own mistakes from from this year.
Got it maybe just a final question here for Christian or David can you give us some color on your cash levels and free cash flow.
The cash flow profile impact your ability to continue share repurchases given the cash balances moderated year over year.
Yeah.
This is David good morning, John I'll take that one thanks, thanks for the question.
Just as a reminder, our approach to our capital structure is to maintain a conservative and flexible balance sheet to fund our growth we want.
To have adequate liquidity to manage through different economic scenarios and of course, we want to deploy excess cash in the most accretive way possible for our shareholders. Now 2022 was a really unusual year from a cash flow perspective.
Particularly as it related to working capital that was a substantial use of cash why we really rebuilt our inventory levels, especially our reserve inventory, which we've talked about on this call and.
In addition, we continue to invest in our growth with over $500 million in forecasted Capex. This year, and we still repurchase stock having bought back approximately.
$250 million in shares year to date, and we also paid down about $65 million of debt earlier. This year. So as a result of.
The actions that I just walked you through in addition to lower EBITDA levels.
Our excess cash balance has certainly moderated from 2021 2021 levels.
That said if you look at our balance sheet at the end of the third quarter, we had nearly $1 3 billion in liquidity, including $429 million in cash, which we would expect to build seasonally as we go through Q4.
But given the challenging operating environment, we would expect a more modest pace of buybacks going forward, perhaps more similar to our activity that you saw in Q3, but we're going to remain flexible in our approach and react to the environment appropriately the outlook remains very uncertain and we wanted to take a prudent approach to how we.
Manage our balance sheet.
But as we look forward to 2023 from a cash flow perspective. It is important to recognize that we do not expect working capital to be the drag that it was in 2022.
As Michael talked about earlier in this in his prepared remarks, we are optimistic that EBITDA can begin to recover in 2023.
So we should be able to generate sufficient free cash flow to not only support the growth of our business and maintain adequate liquidity, but return excess cash to shareholders probably.
At a similar pace as we did in in Q3.
And how we deploy that excess cash thats always a function of what we view as the most accretive Avenue for our shareholders.
Now all of this depends on our results and of course the environment, we're operating in but at a high level. That's how we're thinking about our cash flow.
Great Happy Thanksgiving and best of luck in the holiday MDU John Thank you.
Our next question comes from Alex <unk> from Morgan Stanley . Please go ahead. Your line is open.
Great. Thanks for taking my question. This one is probably best for Michael.
Wondering if we'd seen across off price. This year is that the price gap to the full price channel has certainly compressed given the significant promotions and discounting.
Now that players like Walmart and target seem more clean on apparel inventory.
Perhaps that's an opportunity for next year.
And even into the fourth quarter, but I guess at the same time some of the more specialty retailers continue to have high inventories heading into the fourth quarter. So there is definitely some puts and takes I'm. Just wondering how do you think about that value gap dynamic as it relates to Burlington in both the fourth quarter and then into next year. Thanks.
Okay.
Yeah, Good morning, Alex.
Yes, I think the way that you described in terms of the value gap.
That's something we watch very closely I would say looking back over this year I think.
Value differentiation I mean, we want drives our sales is when we offer great value compared with other retailers I would say I found your differentiation very compressed.
In Q2 into early Q3.
And that was driven by significant promotional activity.
And and we didn't respond to it soon enough and I feel like the a big part of the.
The pivot of the pivot that we made in late August was to take actions to restore that value differentiation.
By giving all of the things I described in the prepared remarks.
So as we go into Q4, we feel we feel better about our value differentiation versus versus other retailers.
I guess two things one is its not a one and done exercise I think we need to continue.
There's much more I think we can do to drive even better even in front of the customer.
Our merchants our plan as our operators are very very focused on those additional steps we can take.
And then secondly, I would say.
But I agree with your point it seems like.
Inventory levels in the mass channels have have improved significantly because now much more rational than they were in the middle of the year.
But in specialty I think that's still there's still a lot of inventory so.
So we so we don't know what to expect in Q4 in terms of promotions we think.
Certainly in terms of the mass channels, it should be better, but there's still plenty of inventory out there. So we think this Q.
Q4 could be quite promotional and we feel like we've factored that in appropriately to our to our guidance.
Great. That's super helpful. Maybe one more from me is just on the merchandising or part it sounds like hiring.
Component it is mostly complete but maybe could you talk about the other pieces to that that could get the business or that part of the business where it needs to be going forward is there anything maybe outside of just the hiring and the leadership that you've already.
Gotten in place thanks.
Yes, actually it's a really.
An important point.
Growing our emerging capability on merchandising capability.
Isn't just about head counts, obviously head count and bringing in talent is important.
And it's also about processes and tools.
We've had we've talked about this before.
A last 18 months 18 to 24 months we've.
We've had a project internally at Burlington coat merchandising to point out that it is focused on our buying processes, our planning processes, making these more nimble more off price and basically pushing putting better tools better reports.
But our structure around around those processes I would say that this is Ben.
It will be the most important project in the company's 71 of the most important projects in the company.
That project has already started to deliver.
Some improvements, but I would say most of the deliverables from that project, 80% of the benefits I'm going to say I'll still ahead of us and mostly ahead of us in terms of.
Being delivered in 2023.
So I think.
I think in 2023, we're looking at we're going to have a combination of great talent that we've hired plus improved processes tools reports et cetera. So I think thats going to be that's going to really put us in a position to take advantage of the of the investment that we've made in our merchandising organization.
That's great color good luck.
Thank you.
Our next question comes from Chuck Grom from Gordon Haskett. Please go ahead. Your line is open.
Hey, good morning, Thanks very much.
Michael as the quarter progressed I'm curious if you saw any pickup in trade down activity at some of the external factors that have impacted your business intensified and maybe that partially explain the acceleration.
Towards the end of October and I was also curious if there's any geographic callouts across the country, particularly at the end of the month and then November .
Sure so.
Let's start with the trade down I.
I would say that we we don't yet have any clear evidence of a trade down customer in our stores.
Yes, I think I may have said this in August but.
With the external promotional environment being being what it is.
I just think the the incentive the motivation for a trade down.
Diluted.
Okay.
You don't need to come to our stores, if you can get great deals elsewhere.
Now given the changes that we made in August .
I do feel like as we finished Q3, our assortments and our values were a lot more compelling and again I want to be careful that there's much more we need to do and we can do.
But I think as we make our assortments more compelling I think we will see a trade down customer in our stores. It's just I can't say that we have a lot of evidence of that that just yet.
On your question about sort of regional variations and Theres no. There wasn't a lot to call out in terms of regional performance in Q3.
<unk>.
I would say that the comp performance on the West coast.
Has trailed the chain for most of the year that continued in Q3.
But other than that our recent performance has been fairly broad based.
Okay. Thanks very much.
Touched on this a little bit in the last question, but a lot of the conversation.
I'm just wondering whether you guys.
On the build out of the systems right. So the buyers and merchants can be more efficient and use the tools to make real time decisions I'm. Just can you just maybe go a little bit.
A layer deeper on on steps on that journey, you talked about a lot of that happening in 2023, but I'm just curious.
Deeper explanation on that front.
Yes sure.
Actually I guess I would I would take a step back and I would I would say.
We.
I have already described we've grown our merchant team by almost 50% since 2019.
<unk>.
I think we can get better value more value more effectiveness out of that team as we add improved processes tools reports et cetera, I would say historically, but when I arrived in 2019 don't get me wrong. Burlington was up was an off price retailer, but many of the processes that we had.
Its tools and reports that we have they.
It looks a lot like the processes tools and reports that you might find a department store rather than an off price retailer.
So that's.
That's what I meant by.
Our merchandising to point out project, it's really to take all those tools processes et cetera, and really sort of.
We can figure them.
Through an off price lens.
And I.
I feel like a lot of that work will be delivered in 2023.
So thats another piece of this though.
Which which actually has less to do with.
Tools and processes, but it's more about.
I guess, what I would call in any organization I would say that there is an experience.
Again, when I arrived in 2019.
There's no question Burlington was an off price retailer, but over the last three years, we've been attempting to become more off price.
And I think I think we.
To get further down the experience that we need to manage ourselves down the experience curve.
To make sure that as we do that.
We are as effective as possible and we get value. After the investments that we've made in people and systems and reports et cetera.
Great. Thank you Michael.
Thanks.
Our next question comes from Mark <unk> from Baird. Please go ahead. Your line is open.
Good morning, Thanks for taking my question.
Michael You mentioned, a higher mix of branded merchandize.
What is the mix of the key brands now versus pre Covid wondering if theres a way to contextualize that and what's giving you the confidence that the favorable buying environment, including the favorable in season buying environment will continue into next year.
Sure so.
So mark on the first question.
The.
Hi.
Actually.
The best way to look at our mix.
Ill now versus pre Covid.
Is actually.
Sort of a mix of off price, what I'll pull off price buys through off price buys versus.
Many retailers would call an upfront buy something that you buy before the season.
Negotiating.
With the vendor for them.
Our mix of true sort of off price buys is much higher now than it was in 2019 or historically.
Obviously, that's a key part of that strategy.
Now because our mix of off price buys is higher.
We're able to go after.
More and more interesting brands.
Because we're buying them opportunistically.
So.
So if I look at 2022 versus versus.
So it's a 2019.
Move the needle fairly significantly in terms of the mix of that business I would call as true off price.
The second part of your question was the buying environment I think.
The truth is the buying environment and other other retailers other other off price retailers have reported the same thing the buying environment right now is tremendous.
Across brands across categories.
Hum.
And from our point of view that that offers a short term opportunity obviously because it means we can we can get great merchandise that we will realign to slow to stores that we'll put in reserve, but it also provides us a bit of a strategic opportunity because.
Part of the catch up that I described earlier when I was talking about the merchandising organization.
So.
<unk> two hours and the networks.
So this kind of environment gives us a chance to open up new vendors.
<unk> develop and grow existing vendors.
So so the buying environment right now is very favorable for us in the short term and as I say strategically.
What would I expect how would I expect that buying environment to evolve I would say that.
I think theres going to be great deals in the market certainly for the next several months beyond.
Beyond the next several months its always hard to tell.
It will depend.
Think on what happens to overall consumer demand next year, if consumer demand next year weakens and specifically if it turns out to be weaker than the outlook that vendors and retailers have used to set their production forecast.
And we should continue to see fairly plentiful supply of off price.
And I think that's a reasonable challenge. So that's how things will have things will play out.
Okay.
Thanks for the detail best of luck.
Thank you.
Our next question comes from Brooke Roach from Goldman Sachs. Please go ahead. Your line is open.
Good morning, and thank you so much for taking our question.
Earlier in the call you commented that you believe that you can get back to 2019 margins within the next two years can you provide a little bit more commentary around the drivers the cadence of recapture and your degree of confidence in that recapture perhaps you could bucket the proportion of the margin improvement that's embedded there between each of kind of the key drivers of freight rates supply chain leverage.
And other margin categories.
Hi.
Good morning Brook.
It's a good question and.
We are.
Let me start with sort of the buckets that we're going to have to.
So we need to drive in order to recover our margin back to 2019 levels.
I think there were really three key drivers.
Sales as I talked about.
I mean, we this year our comp sales is obviously very negative and with a very negative comp sales, we've experienced significant fixed expense deleverage.
So the number one priority is to drive sales and I would say a good chunk of what I've talked about this morning has been around how are we going to do that.
And it's really around driving.
Shopper value in our assortment.
<unk> also.
Making up getting our merchant organization to be more effective.
And shocking that value and therefore driving sales so.
So thats priority number one a bubble drive sales.
Sort of lever number two if you like is on freight and supply chain expenses.
Those expenses went up significantly.
For the last couple of years for lots of reasons that we all understand.
But we're already starting to see.
Some improvement.
I'd say certainly in freight rates.
In terms of the supply environment I think.
A lot of the.
The headwinds that we had in freight and supply chain are starting to abate now.
Get into 2023, I expect to see more of that it's hard to quantify it too precisely because there are other things that could affect those numbers in 2023 for example.
Costs right now are pretty high and depending upon what happens with those.
Could they could partially offset some of the benefit we might see in terms of lower freight rates.
Since the second level the third.
Labor.
Where I think we have an opportunity.
To recover margin is actually a merchandise margin, but I want to be careful on this one.
I believe that the way that we're now buying merchandise the way that we're more opportunistically buying much nicer provides us with an opportunity to run a higher merchandise margin because we're buying the goods at a better deal.
But.
That's not an opportunity that we're going after in Q4, I think as we've said and it may not be an opportunity that we really want to go after in 2023, because I think our focus is where do you see price drive sales by offering the best value that we can.
But I think as we've sort of come out of this.
So we come out with this promotional cycle will take another look at that and we'll see whether or not we have an opportunity to maybe take some margin a little bit. So the combination of those three things sales.
<unk> freight and supply chain expenses and merchant margin gives me confidence that we can get back to 2019 levels.
I would not expect that to happen certainly not in a single year.
I think over the next few years.
We should be able to get back to 2019 levels and then at that point, we need to push on.
We believed and we still believe.
So we're doing things that over the longer term should drive that margin above 2019 levels. The one example, that's perhaps the easiest to visualize as what we're doing in terms of our new store program and as we opened new stores, especially as we opened new stores that are in our smaller prototype.
That are accretive we underwrite those schools to be accretive from an operating margin point of view that should give us some additional tailwind in terms of operating margin.
Thanks, So much I'll pass it on.
Thank you.
Our last question will come from Adrian <unk> from Barclays. Please go ahead. Your line is open.
Great. Thank you very much good time to be an off pricer. So.
Michael I guess I wanted to go back to the the merchandising organization, the 50% increase because it seems like that is the route.
The source of kind of upside to sales et cetera.
Mike.
Characterization and how would you characterize the kind of buying that Scott said earlier in the year is it a strategic direction in categories, right and more casual et cetera or was it a newer organization that was sort of more at the micro level get learning in China gain experience.
And then where are you hiring these margin trends.
Okay.
Sure.
Well actually I would say.
It was kind of it was kind of a bit of all of the things that you. Just described I think Tim I think that were certainly some businesses, where I think we.
We made the wrong decisions.
Maybe maybe.
Styles will fashions or mix.
And then if I sort of zoom up from there I think.
I think we just we didn't move rapidly enough.
Across categories and move money rapidly enough across categories and businesses and then maybe most significantly we didn't put enough focus on sharpening our value.
And as I kind of described I feel like in this somehow we kind of got close out on that I feel like.
As promotions ramped up in Q2 and early Q3.
Our value differentiation was just being being.
Being squeezed.
Now <unk>.
Merchant organization I look at the talent and our merchandise merchandising organization, we have a lot of excellent off price experience.
We have a lot of great merchants who've been around off price for a long time and I think now off price.
It's more to do with the merchants backgrounds I do think.
Got it.
It's two things I think I think the improved processes tools that I described a little bit earlier, I think I think will help us, but I also think that realistically when you when you grow an organization very rapidly like that you do get some missteps and I think I.
I think we have to acknowledge that in the last call. It.
So I think it's a combination of those things.
Okay, and then just final.
Wrap up would be how do you make sure that you know over by your stores are still markedly larger than your peers.
In the states.
What are the guard rails to make sure that we don't over index the other way.
Yes, that's a great question.
The key thing to understand and this is something we put a lot of focus on this over the last four years.
The amount of inventory that we buy.
The volume of receipts that we buy has absolutely nothing to do with the size of store.
Driven by the sales volume.
So so.
So we've looked very closely at our inventory turn and if we think sales are trending up we get the store more inventory.
Still happens to be an 80000 square foot store versus the 25000 square foot store that doesn't mean it gets more inventory if somebody if its sales volume justifies that.
The pacing of that Im sure many analysts and investors have noticed this is if you go to some of our older stores.
Our older less productive stores youre going to see a lot of empty space and it may be space that we thought that we've tried to manage by putting in temporary walls, but you're going to see some of that because as I say.
We're very careful the amount of inventory, we're putting the store is not driven by the physical square footage in the store, it's driven by the sales volume and.
And sales trend in that store.
That's very helpful Best of luck happy Thanksgiving.
You too thank you.
We are out of time for questions today, I'd like to turn the call back over to Michael O'sullivan Sullivan for closing remarks.
Sure.
Let me close by thanking everyone on this call for your interest in Burlington stores.
We look forward to talking to you again in March to discuss our fourth quarter and full year 2022 fiscal results.
Thank you for your time today.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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