Q3 2023 Capri Holdings Ltd Earnings Call
[music].
Greetings and welcome to Capri Holdings Limited third quarter 2023 earnings Conference call.
At this time all participants are in a listen only mode.
A question and answer session will follow the formal presentation.
If anyone should they should require operator assistance during the conference. Please press star zero from your telephone keypad.
Please note this conference is being recorded.
At this time I'll now turn the conference over to Jennifer Davis, Vice President of Investor Relations.
Davies you may now begin.
Good morning, everyone and thank you for joining us on Capri Holdings Limited third quarter fiscal 23 conference call.
With me. This morning are chairman and Chief Executive Officer, John Idol, and Chief Financial and Chief Operating Officer, Tom Edwards.
Before we begin let me remind you that certain statements made on today's call may constitute forward looking statements, which are subject to risks and uncertainties that could cause actual results to differ from those we expect those risks and uncertainties are described in today's press release and in the company's SEC filings, which are available on the company's website investors should not assume.
These statements made during this call will remain operative at a later time and the company undertakes no obligation to update any information discussed on the call.
Unless otherwise noted all financial information on today's call will be presented on a non-GAAP basis.
non-GAAP measures exclude certain costs associated with COVID-19 related charges the impact of the war in Ukraine, ERP implementation cost Capri transformation costs impairment charges restructuring and other charges to view the corresponding GAAP measures and related reconciliation. Please view the earnings release posted to our website earlier.
Today, our Capri Holdings Dot Com now I would like to turn the call over to Mr. John Idol, Chairman and Chief Executive Officer.
John .
Jennifer.
And good morning, everyone.
Overall, our performance in the third quarter was more challenging than we anticipated.
However, many aspects of our business performed well in particular, we were pleased with the continued growth in our own retail channel across all three of our luxury houses.
This is a testament to the strength of our powerful iconic brands for Satya.
Jimmy Choo.
And Michael Kors.
As well as the success of our strategic initiatives.
However.
We were disappointed with the performance of our global wholesale revenue in.
In the quarter.
Additionally, revenue in mainland China declined significantly.
Due to the surge in Covid cases, as the country reopens.
Now turning to third quarter performance in more detail.
Revenue decreased 6% on a reported basis and 1% in constant currency.
Total company retail sales increased mid single digits globally in constant currency.
New customer acquisition was a key driver of growth.
As we added more than 12 million new names to our database versus the prior year.
This is the largest year over year increase in our history.
The growth in our own retail channel.
As well as our large and growing customer database.
Demonstrates the strength and desirability of our brands.
However, sales in our wholesale channel declined approximately 20% driven largely by Michael Kors.
Operating margin of 16, 9% was below prior year.
This reflected the sales mix shift between retail and wholesale as.
As well as increased marketing expense to support growth and build longer term brand equity.
As a result earnings per share of $1 84.
Were below our expectations.
Now looking at third quarter group revenue trends by geography.
In the Americas revenue decreased 4% with mid single digit growth in retail.
Offset by significant declines in our wholesale channel.
In EMEA revenue decreased 2% on a reported basis, but increased 9% in constant currency.
This was driven by strong retail revenue, partially offset by weaker trends in wholesale.
In Asia revenue decreased 20% on a reported basis and 8% in constant currency.
This reflects strong results in Japan, and southeast Asia, offset by a nearly 40% decline in mainland China.
Moving to third quarter revenue trends by brand.
Starting with Versace revenue decreased 1% on a reported basis, but increased 11% in constant currency.
Compared to prior year.
Excluding mainland China revenue increased 21% in constant currency.
We were pleased that revenue was better than anticipated and operating margin was in line with our expectations.
Turning to product.
Starting with accessories, which are a key component of our growth strategy.
Women's accessories was the strongest performing category with sales in our retail channel up over 40% versus prior year.
We were pleased with the response to our record got us pillar.
Which is continuing to gain traction.
With our three pillars Lama do so virtuous and Greco got us.
We are making significant progress in our goal to position Versace as a leading luxury leather house.
Another component of our growth strategy.
As to expand footwear.
For such a continued to gain authority.
As a women's luxury footwear brand as we expanded our core offerings.
With the introduction of the pinpoint collection.
A new range of statement pumps characterize by a curved metal stiletto heel.
Men's and women's sneakers also performed well driven by our Tri Graca, but Greco and Odessa styles.
Moving to brand awareness and consumer engagement for such a continued to deepen consumer desire through powerful storytelling.
The holiday campaign was inspired by Versace has deep roots within the world of theatre and the Arts.
Model, Lily Mcmenemy embodied high Versace drama, while highlighting holiday gift offerings.
Our marketing initiatives continue to focus on versace's Italian luxury heritage.
This helped contribute to an over 40% increase year over year.
In Versace's global consumer database.
Overall, we were pleased with the performance of Versace.
As we continue to execute our strategic initiatives.
Looking forward, we remain confident in the luxury houses long term growth potential as we reinforce for such as brand codes significantly grow accessories, and footwear as well as renovate our store fleet.
Moving to Jimmy Choo.
Revenue decreased 6% on a reported basis, but increased 3% in constant currency compared to prior year.
Excluding mainland China revenue increased 10% in constant currency.
While revenue was below our expectations, primarily impacted by China up.
Operating margin was better than anticipated.
Turning to product.
Starting with accessories.
Which are a key component of our growth strategy.
Women's accessories was the strongest performing category with sales in our retail channel up high single digits versus prior year.
Seasonal updates to our iconic bonbon and varied in styles performed exceptionally well.
Women's footwear sales grew driven by dress footwear styles as people engaged in social activities enjoyed special occasions and celebrated the holidays.
<unk> also performed well.
With positive consumer reaction to our new Diamond Maxine.
During the third quarter, Jimmy Choo launched its successful capsule collaboration with timberland.
Sandra Choi partnered with New York Native designer Chanel camp of Harlem's fashion row to re imagine timberlands iconic yellow boot.
The collection celebrated urban glamour.
And the eclecticism of New York's dynamic community.
This exciting collaboration generated over 50 million impressions across social media as well as strong product sell throughs.
Now turning to brand awareness and consumer engagement.
For holiday our campaign celebrated the playful energy of the party season in London's Claridges Hotel.
Our Jimmy Choo designed the 2022 Christmas tree.
The unveiling of the Jimmy Choo tree was attended by celebrities and friends of the house, including Iris Law, Sienna Miller and Daisy Love.
Post by attendees generated approximately 7 million impressions across social media.
Our marketing initiatives continue to underpin our focus on glamour.
This helped contribute to a 20% year over year increase in Jimmy choose global consumer database.
Overall, we were pleased with the progress at Jimmy Choo, as we continued to execute on our strategic initiatives.
Looking forward, we remain confident in the luxury houses long term growth potential as we reinforced Jimmy Choo brand codes significantly grow accessories, and expand our casual footwear offering.
Now turning to Michael Kors.
Revenue decreased 7% on a reported basis and 4% in constant currency compared to prior year.
We were pleased with the continued growth in our own retail channel with constant currency sales up low single digits, despite greater declines in mainland China.
However, we were disappointed with Michael Kors wholesale which declined approximately 25% during the quarter.
Operating margin was below prior year due to the sales mix shift between retail and wholesale.
As well as increased marketing expenses in our retail channel.
To provide some additional color around wholesale revenue at Pos declined in the mid teens as sales lagged trends and our own retail channel.
We had anticipated a sequential improvement at P. O S. During the holiday shopping season, but that did not materialize.
Therefore, we shipped less into the channel as we did not want to end up with excess inventory, which will result in additional markdowns.
As you know we've been elevating the Michael Kors brand and product.
We believe our elevation strategy is working well, particularly in our own retail channel.
We continue to believe that elevating Michael Kors is the right strategy for the brand.
Now turning to product.
And accessories sales in our own retail channel increased low single digits globally.
Consumers responded positively to core iconic collections, featuring Michael Kors signature and hardware.
We drove newness and excitement and signature with seasonal updates featuring metallic logo prints.
As a result signature represented approximately 55% of accessory sales during the quarter.
Looking at footwear, we continue to believe we can significantly expand Michael Kors footwear to drive incremental revenue.
What were sales in our retail channel increased low double digits.
As we delivered exciting.
Fashion, featuring iconic hardware branding elements and signature detailing.
Men's remains one of the strongest performing categories in retail.
And we remain enthusiastic about our opportunity to expand the accessories collection.
Mens third quarter retail sales increased strong double digits globally led by signature product.
In December Michael Kors collaborated with Italian luxury sportswear brand a lesser force.
For a second time to create a sporty and glamorous ski capsule collection.
The collaboration created energy and excitement generated approximately 140 million impressions on social media as well as solid sell throughs.
Now turning to brand awareness and consumer engagement.
For holiday, our consumer communication and body, Michael Kors signature glamour and optimism and fused with the joy of the season.
Bella Hadid captured the jet set chic glamour of Michael's designs for this season's festivities.
Additionally, in Asia, we amplified the campaign with renowned Chinese model Hey call.
Our marketing initiatives continue to underpin.
Our jet set storytelling.
This helped contribute to a 17% year over year increase in Michael Kors Global consumer database, demonstrating the strength and desirability of the brand.
Overall, we were disappointed with the performance of Michael Kors in the third quarter.
Given lower wholesale revenue, we recognize the need to reset our operating expense structure.
We are beginning to take measures to better align operating expenses with the change in revenue by channel.
Looking forward, we remain focused on our long term growth initiatives to elevate the Michael Kors brand and reinforce our jets at coats.
We anticipate future growth driven by our own retail channel, where we can leverage our brand momentum and personalized connections with consumers to drive revenue growth.
Now looking ahead to the fourth quarter for Capri Holdings.
We expect continued momentum in our own retail channel driven by each of our brands strategic initiatives.
However.
In the wholesale channel, we now anticipate an even greater sequential decline relative to the third quarter.
Due to weakness in our wholesale Pos performance during the third quarter.
Which has continued into the fourth quarter, we are further reducing shipments into this channel.
Now turning to fiscal 'twenty four for Capri Holdings, we anticipate total revenue and earnings growth in the mid single digits.
In our own retail channel, we anticipate solid growth driven by our strategic initiatives.
Client, telling and personalized strategies.
As well as a recovery in China as the country reopens.
In the wholesale channel, we expect revenue to decline in the mid teens.
With trends normalizing in the back half of the fiscal year.
Looking forward, we remain focused on executing our strategic initiatives to drive sustainable future growth.
Our three powerful iconic brands have enduring value and strong brand equity.
We remain confident in our ability to achieve our long term revenue and operating margin targets over time.
Due to the resilience of the luxury industry, the strength of our portfolio and the talented group of employees executing our strategic initiatives.
Before turning the call over to Tom I would like to welcome Cedric will Mark as our new Chief Executive Officer of Michael Kors.
Cedric has proven himself to be a versatile leader within our luxury fashion group.
As president of Michael Kors EMEA for over 13 years.
As well as the interim CEO of Versace for the last year.
And the COO over such a currently.
The board, Michael and I are confident that Cedric leadership will help to further accelerate Michael Kors strategic initiatives and brand momentum.
Importantly, Cedric appointment ensures that we have three experienced and talented Ceos at each of our luxury fashion houses.
I am confident that we now have the right management team in place to execute our long term strategic initiatives.
Now, let me turn the call over to Tom.
Thank you John and good morning, everyone.
Overall, we were disappointed in our performance in the third quarter.
While we were pleased with the continued growth in our own retail channel across all three of our luxury houses.
Revenue in our wholesale channel declined significantly which resulted in expense deleverage and a lower operating margin.
Now turning to third quarter revenue in more detail.
Total company revenue of $1 5 billion decreased 6% versus prior year and 1% in constant currency, which was below our expectation.
Looking at revenue performance by brand at Versace revenue decreased 1% on a reported basis, but increased 11% in constant currency compared to prior year.
Global retail sales increased in the mid single digits in constant currency.
By geography total revenue in the Americas decreased 4% Rev.
Revenue in EMEA increased 14% on a reported basis and 28% in constant currency.
Revenue in Asia decreased 19% on a reported basis and 11% in constant currency driven by greater declines in mainland China.
For Jimmy Choo revenue decreased 6% on a reported basis, but increased 3% in constant currency compared to prior year.
Global retail sales increased low single digits in constant currency.
By geography total revenue in the Americas increased 6%.
Revenue in EMEA increased 1% on a reported basis and 14% in constant currency.
Revenue in Asia decreased 24% on a reported basis and 13% in constant currency driven by greater declines in mainland China.
At Michael Kors revenue decreased 7% on a reported basis and 4% in constant currency compared to the prior year.
Impacted by the decline in wholesale.
Looking at Michael Kors revenue by channel Global retail sales increased low single digits in constant currency.
This was driven primarily by a double digit increase in ecommerce sales with ecommerce penetration, increasing 300 basis points versus prior year.
However, wholesale revenue declined approximately 25% compared to prior year.
Turning to Michael Kors revenue by geography sales in the Americas decreased 5% driven by the decline in wholesale.
Revenue in EMEA decreased 11% on a reported basis and 1% in constant currency also driven by a decline in wholesale.
Revenue in Asia decreased 18% on a reported basis and 5% in constant currency driven by greater declines in mainland China.
Now looking at total company margin performance.
Gross margin expanded 120 basis points to 66, 3% driven by moderating inbound transportation costs price increases and channel mix.
Operating expense as a percent of revenue was 49, 4% compared to 42, 8% last year, reflecting several factors primarily driven by the Michael Kors brand.
First the significant decline in wholesale revenue resulted in deleverage as the wholesale channel has a low variable cost structure.
Second as planned we increased our marketing investments to support brand building activities across the group.
And third e-commerce sales increased double digits, which resulted in higher variable costs.
Due to the operating expense deleverage total company operating margin declined to 16, 9% compared to 22, 3% last year and was below our expectations.
After such a operating margin of nine 6% was in line with our expectations and compared to 12, 7% last year.
At Jimmy Choo operating margin of 10, 7% was ahead of our expectation and compared to 9% last year.
And then Michael Kors operating margin of 22, 9% was below our expectation and compared to 28, 4% last year.
Our tax rate for the quarter was 3% compared to last year's rate of eight 1% primarily due to the release of a valuation allowance on U K deferred tax asset.
Now turning to our balance sheet, we ended the quarter with cash of 281 million and debt of 1.54 billion, resulting in net debt of $1 two 6 billion.
As part of our ongoing commitment to return cash to shareholders, we repurchased approximately $300 million worth of shares in the third quarter.
Looking at inventory, we ended the quarter with 1.1 dollars 9 billion, a 21% increase over last year.
This represents a sequential deceleration compared to the prior quarter.
We continue to expect inventory levels at the end of the fourth quarter to be below prior year.
Now turning to guidance.
Looking at the fourth quarter, we are more cautious in our revenue outlook in the face of an increasingly uncertain macroeconomic environment.
We now anticipate total company revenue of approximately $1 $2 75 billion.
This represents a decline of 15% on a reported basis.
Fighting a mid single digit decline in retail.
For wholesale we had planned that channel down, but we are now planning it down further and forecast an approximate 35% decline.
On a 52 week constant currency basis total company revenue would be down 8%, including an increase in retail revenue in the mid single digits.
Yeah.
Our fourth quarter revenue by brand, we forecast for such a revenue of approximately $280 million.
This represents a decline of 11% on a reported basis with a low single digit decline in retail and an approximate 30% decline in wholesale on.
On a constant currency basis, Versace revenue would be down 7%, including a low single digit increase in retail revenue.
As a reminder, precisely reports on a one month lag therefore, the significant declines.
In mainland China in December will be included in fourth quarter results.
For Jimmy Choo, we forecast revenue of approximately $130 million. This represents a decline of 16% on a reported basis with a low double digit decline in retail and an approximate 40% decline in wholesale.
On a 52 week constant currency basis, Jimmy Choo revenue would be down 7%, including a low single digit increase in retail revenue.
For Michael Kors, we forecast revenue of approximately $865 million.
This represents a decline of 15% on a reported basis with a mid single digit decline in retail and an approximate 35% decline in wholesale.
A 52 week constant currency basis, Michael Kors revenue would be down 5%, including a mid single digit increase in retail revenue.
Now looking at operating margin.
We anticipate fourth quarter operating margin of approximately eight 5%.
This reflects continued gross margin expansion offset by operating expense deleverage, primarily due to the sales mix shift between retail and wholesale.
We expect this across all three brands.
For Versace, we now anticipate an operating margin of approximately 10%.
For Jimmy Choo, we now expect an operating margin in the negative mid teen.
And for Michael Kors, We now anticipate an operating margin in the mid teens.
Turning to our expectations around certain non operating items.
We forecast net interest expense of approximately $11 million.
We expect an income tax benefit with a rate of approximately negative 20% driven primarily by the resolution of an uncertain foreign tax position as well as anticipated mix of earnings in lower tax jurisdictions.
We expect weighted average shares outstanding of approximately $126 million.
As a result, we now anticipate diluted earnings per share of approximately 90 to 95.
Now I would like to take a moment to share high level thoughts around our preliminary expectations for fiscal 'twenty four.
We're providing this outlook given the material change in wholesale trends.
We currently expect fiscal 'twenty for revenue of approximately $5 8 billion, a 4% increase versus fiscal 'twenty three driven by continued growth in our own retail channels across all brands.
We anticipate retail revenue will increase in the low double digits, primarily driven by growth in Asia as China reopened.
Excluding Asia, we expect retail revenue to increase in the mid single digit range driven by our strategic initiatives.
In the wholesale channel, we expect revenue to decline in the mid teens range together with our partners across all three of our brands. We are taking a more cautious approach to planning the business due.
Due to the uncertain macroeconomic environment, we now anticipate wholesale penetration will decline from 27% of revenue in fiscal 'twenty three to approximately 23% of revenue in fiscal 'twenty four.
Now looking at our operating expenses because of the anticipated decline in wholesale revenue, we recognize the need to reset our expense structure.
We plan to proactively manage expenses, while also continuing to make strategic investments, particularly in marketing to drive long term growth.
Looking at fiscal 'twenty for operating margin, we expect modest expansion to 16, 5%.
Reflecting gross margin expansion, partially offset by expense deleverage.
We expect an effective tax rate in the mid teens as well as higher interest expense largely offset by lower share count.
As a result, we anticipate EPS of approximately $6 40.
Now I would like to discuss our expectations regarding the cadence of fiscal 'twenty for revenue and earnings between the first and second half of the year.
Looking at revenue in our own retail channel, we anticipate growth throughout the year.
In wholesale we expect significant declines in the first half with trends normalizing in the back half of the year as we anniversary the declines in fiscal 'twenty three.
Relative to prior year. This will result in lower margins in the first half of fiscal 'twenty four.
With margin expansion expected in the back half of the year.
Looking at our expectations by brand for Versace, we anticipate revenue of approximately $1 $25 billion and an operating margin in the mid teens range.
For Jimmy Choo, we expect revenue of approximately $650 million and an operating margin in the high single digit range.
And for Michael Kors, we anticipate revenue of approximately $3 9 billion and an operating margin in the low 20% range.
In conclusion.
While we are disappointed with our third quarter results and our fourth quarter guidance, we remain optimistic about the long term growth potential for Versace, Jimmy Choo, and Michael Kors or.
Our powerful brands have enduring value and proven resilient reinforcing our confidence in the ability to deliver strong revenue and earnings growth over time.
Now we will open up the line for questions.
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Thank you.
Thank you and our first question comes from the line of Matthew Boss with Jpmorgan. Please proceed with your question.
Great. Thanks.
John maybe couple questions first larger picture could you speak to overall category demand for accessories that youre seeing today, maybe relative to pre holiday if theres been any change and then how best to explain the difference that you're seeing between direct to consumer and wholesale as it relates to.
The overall health of your brand portfolio and do you believe the reset and revenues for next year appropriately covers you for nearly any scenario from a macro perspective. Thanks.
Thank you Matt good morning.
So obviously, we are very disappointed with our third quarter.
Results.
Mainly driven by the wholesale channel.
We are.
Pleased as we said in our prepared remarks, with our own retail channel which showed strength.
Really across the globe with the exception of China.
China, which further declines.
We hadn't had anticipated and that was due to the reopening.
And I think we have said that we had more stores shut down at certain points during the fourth quarter in China that we did during at any point during the pandemic so that was.
Quite difficult.
And we have seen.
An uptick in the business there, especially in January so we're feeling a strong and good about our own retail channel and how we're able to communicate.
In clientele and work directly with the consumer and of course, you also saw that in our in our database growth, where we have the largest.
Growth ever in the company's history.
And we've consistently grown the database at all three of those luxury brands.
Every single quarter, and the double digit range and I think that speaks to the strength of the brands. The way the consumer is reacting to our strategic initiatives and that's everything from the marketing to the actual product itself.
You saw in all three of our categories are.
We had growth in accessories.
And so that that really speaks to I think the strength of the category.
I think you've also seen from many of the other reports that have happened with other luxury houses in the world. The category is strong.
In terms of what happened in the.
Wholesale category.
I'd say, that's more of a <unk>.
North America issue, where Europe performed better although still.
Not up to our anticipation.
We have been and this is really more of a Michael Kors issue.
We've been elevating the brand both in positioning the way we're marketing it the way that we have.
Really elevated many of the products in terms of the quality in terms of the design.
And in terms of the pricing.
<unk> is up.
On average close to 25% since we started our price increases in 2019.
I do think that the consumer was was more.
Our cautious during the holiday season.
We saw strong performance in our own stores through Black Friday, and then that kind of consistent right.
Right afterwards.
We did not see the same rate.
Right pace and rate at the in.
In particular, the North American wholesale channel.
They have not that channel has not kept up the pace of the growth all throughout the year.
Thought that part of that was an.
An inventory issue, where we thought if we could get in a better inventory position, which we did think we were in Oh come the third quarter of the calendar year.
As we had shift you saw in our first two quarters.
Very strong wholesale shipments and that was really to get our inventories back in line.
In that channel.
And the performance just never came from that consumer.
There is a possibility that the pricing increases that we've taken.
Are impacting that channel differently than it's impacting our own channel.
We have multiple tiers inside of our pricing.
But all of our pricing has gone up.
What we did see as a positive in both the North American and the European channels is where we had.
Our own selling staff back into the stores.
We saw a fairly significant delta between the performance in those doors that had our own staffing in it and those doors that did not.
And we intend on as a part of our investment.
Investment continued investment in the wholesale channel too to take that level of staffing up we talked about it once before we said, we'd see how that how that goes.
And there's clearly been a positive results, especially in top tier doors.
So we intend on continuing.
Two to invest in that.
Again in terms of category demand, we think the category continues to grow.
I do have to say that the category was impacted across the department store channel in particular.
In North America, we saw it at all at all locations.
So that was disappointing we had expected that to really.
I have an uptick, especially during the holiday season and that unfortunately.
It did not happen and in terms of our our forecast.
All we can do is provide the best guidance.
And I think we gave very fulsome guidance.
We do believe that we're going to continue to see strength in our own retail channel that seems to be.
Consistent with what we see happening we do think that the reopening of China in particular will add additional opportunity for four.
Sure.
Revenue in our own retail channel and.
And we do see some some small additional increase in the travel retail channel again in particular in Asia, We think that will rebound.
So I think we're feeling comfortable with that we plan the business to be down.
Quite significantly in the.
Our fourth quarter and into the first quarter of next year for our quarters, and that's really to offset where we were restocking the wholesale channel that's on a global basis.
And we planned for a again a slightly higher.
The decline in Q2, the back half of the year, we've planned it more or less flat, which will still be a stacked year on year decline and we've said wholesale would be down in the mid teens.
And by the way that's across the group, that's just not Michael Kors, we're seeing our partners at.
At multiple levels.
In the wholesale area be more conservative in their planning given.
Some some some concerns around the consumer and how they might respond in general. So I think we're taking a very prudent point of view and then lastly, as Tom said in his prepared remarks.
Going to adjust our.
Our investments and our spend accordingly.
The wholesale business for us.
It was a was a profitable business and does not have a lot of fixed costs associated with it. So therefore, we will have to make some adjustments inside of our own.
Operations and we're hard at work at that right now.
So I think I think the takeaway for US is we have three incredibly strong brands.
Versace, Jimmy Choo, and Michael Kors, we.
We believe that that.
These are very strong.
Our brands and we believe that our strategic initiatives are are very very solid and we're going to stay true to those to that vision and I think that worked for us as we went through Covid and we're going to stay with that strategy as we go through this.
It kind of change in how we're going to be running the business given.
A lower wholesale business that has.
Lower.
<unk>.
Costs are up against it and we will continue to work our model accordingly.
So thank you very much for that question Matt.
Yeah.
Our next question is from the line of Omar Saad with Evercore ISI. Please proceed with your question.
Hi, Good morning. This is Warren Cheng online for Omar I, just wanted to dig in a little bit further on the <unk> sales guidance, it's a pretty big step stepped down even from the <unk>.
<unk>. So just to clarify is that all coming on the wholesale side or did you change the outlook on the retail side too and then also just.
I look geographically and focusing on China.
We all understand what happened in December for China, but looking past December have your expectations for China changed there versus three months ago.
Hi, it's Tom here. Thanks for the question and for Q4, we've really taken a more cautious outlook due to the increasingly uncertain macroeconomic environment and also as John mentioned inflation impacting consumer confidence.
So.
What we've seen there is a big step down in wholesale for.
Down 35% versus prior year, and mainland China down 35%.
So in total if I do that on an absolute dollar basis, that's pretty much the whole reduction versus our prior year for the quarter, we still expect retail to grow mid single digits and this is a slight change in our China outlook, because we do have opportunity next year, we believe as they are REO.
<unk>.
However, as they've taken away all the restrictions.
Covid cases has surge that has created I think a near term pullback in traffic and results.
Okay.
Thank you. Thank you.
Our next question comes from the line of Ike Varsha.
Bush out with Wells Fargo. Please proceed with your question.
Hey, good morning, John and Tom.
Good to hear from you guys.
I guess, John if you could just clarify.
Two quick questions on wholesale so I I believe based on your answer to Matt that you're kind of talking about next year wholesale being basically down 30 in the first half and flat in the back half, but I think you said Q2 should be worse in Q1 that if I heard that right could you just.
Could you just clarify why that would be.
Then just within the wholesale cost structure, obviously, it's a little out of whack because of the declines how quickly can do you think it will take them. How much time do you think it will take to kind of align the cost structure. So that you feel like you're in a good a good position go forward from a profitability perspective.
That channel.
Sure.
Tom here I'll take those so for wholesale Q1 Q2 next year. So overall as you mentioned will be down 15% for the year.
Declines in the first half as we are anniversarying the restocking in fiscal 'twenty, three and that's going to be more weighted to the first quarter.
So the first quarter in wholesale will be down more than the second quarter on a year over year basis.
So I hopefully that answers. The first question and then in terms of aligning costs. As we mentioned wholesale has a lower variable cost structure. So we are working on a number of initiatives to reduce expenses had been embedded those into our guidance and we are recalibrating the rate of spend across all our divisions and reducing non revenue generating.
Expenses.
In corporate for instance, and also a rigorous evaluation of other expenses not directly linked to consumer engagement and revenue and other areas.
Driving the business that said, we are going to continue to invest.
<unk> and marketing, but also in areas like E Commerce and digital that we know drive engagement allow us to use that large database and growing database.
Yes.
Wanted to clarify one thing and I understand why you asked the question. So we are planning at retail the business down with our partners.
Across the group.
In the wholesale channel in the first half of the calendar year and the back half of calendar year. So this is at retail sales not wholesale at retail. So it's Pos we are planning the business roughly flat.
And there might be some exceptions to that whether it's Jimmy Choo planned up slightly but in terms of impacting the total.
Company, we think that that's the right.
Way to view, how what may happen with the consumer in the back half of the year and we think that's prudent with Michael Kors given that there was such a high decline.
In the in the channel during the back half of the year.
Might add one other thing too in terms of color.
We did not have that decline last last year. So in calendar 2021, we actually had a very strong performance with the Michael Kors brand in the retail and the wholesale.
Particular department store channel. So this was.
As I said this could be caused by some of the price increases that we've seen happen.
We can't speak to what staffing levels were in the stores et cetera.
But we know where we put our own people and we know in our own stores, where we have our own teams in place.
We are doing a I think a very good job connecting with the consumer we also know that.
When you have database grow the way that we saw and by the way. Those are those are predominantly are consumers who are actually purchasing from us. So usually when the database is growing they haven't made a purchase from us.
So that shows us that there is tremendous interest in all three of these.
These are brands and so again, we feel confident and I know that it's not going to be easy for many of you on this call and people listening and given the step change in the.
The wholesale business.
Again, we continue to look at the strength and the power of $3 three houses.
We're gonna have to pivot a little more quickly than we had anticipated because we always have wanted the wholesale business to get down to around 20% of the company sales.
Happened, a little faster than we would've anticipated.
But I think we've shown we can be nimble.
And really move forward quickly.
So I think you can expect to see some of the fruits of our initiatives around rebalancing certain costs in areas.
Happen relatively quickly.
Thank you.
Our next question is from the line of Alex Chan with Morgan Stanley . Please proceed with your question.
Great. Thanks for taking my question and good morning, I wanted to focus on gross margin here. It appears to have held in quite nicely.
Perhaps could you just share your observations on the promotional environment in the quarter as well as the assumptions you have embedded in not modest expansion guidance going forward. Thanks.
Thank you and good morning, Alex.
I think that the.
Better news in our report was first our performance in our own retail stores second.
Again, the database growth showing the health and the response of the consumer to are our brands.
And I think the gross margin also we had a number of things that impacted the gross margin.
Positively again, we've had the sequential price increase we told you either two calls ago or last call.
We're not going to be taking any more price increases is a little bit of it that will flow through in the first half of the year.
And then we're stopping the price increases across the group for the time being we're going to take a pause.
We also took a fairly significant price increases at Jimmy Choo and Versace as well. So we think we're in a good place.
Of where our pricing is right now and part of that is reflecting in the gross margin tomo.
Tom will speak to some of the other areas that are also impacted positively.
So I think that Youll see two things next year.
Again, youll see a little bit of of Av.
Some of the freight.
And the benefit that will start to show up a little bit more in next year.
And secondly, there'll be a channel mix.
As retail becomes a bigger part that will also show up in the.
And the gross margin, but let me have Tom speak to this year, an extra sure I'm happy to give it a little more color on Q3.
It's very similar trends for Q4, so it as John mentioned, we did see moderating inbound freight cost we.
We benefited from the price increases.
That is still ongoing but we will stop in the future and the channel mix with a higher retail versus wholesale we were not more promotional but given a better inventory position compared to last year. We did have a more normalized level of promotional and markdown sales.
Some additional headwinds included regional mix as we've been saying over the past several quarters Asia is a lower percentage of revenue and it's a higher margin.
As well as the stronger dollar, which has hurt us through the year on a margin perspective, but as we look at next year retail will be a larger portion of the business. We expect a rebound in China, which will be a tailwind and freight as well.
And this is in addition to the strategic initiatives on our brands, which over the past several years have driven significant improvements in gross margin across our brands all of our brands.
Wholesale as John mentioned in the first half, it's going to be a headwind because of deleverage with that low variable cost base, but as we normalize in the back half as those other areas.
Will shine through.
I might also add that we feel that FX will will probably not be a headwind or a tailwind next year, we're expecting it to more or less normalized and it'll still be a headwind in the first two quarters, but then by the time, we get to the back half of the year it should be normalized or just a very minor.
A tailwind so so hopefully that some of that noise will start to come out of the performance numbers and as you know it's been a significant headwind for us this year. Thank you Alex.
Yeah.
The next question is coming from the line of broke Roche with Goldman Sachs. Please proceed with your question.
Okay.
Good morning, and thank you so much for taking our question John I know you mentioned pricing as a potential explanation of what could be driving additional equal for wholesale along those lines can you talk about the momentum that you're seeing.
Across our business within various income demographic cohorts or price tiers of your product architecture is there any difference in sell through trends or sell out trends in your own retail versus outlet versus full line stores, particularly in North America.
Separately, you had nice breadth and youre, taking lines out of the day.
Talk to the repeat purchase activity that you're slow from customer cohorts that were acquired over the last few years that may be more price sensitive it. Thank you.
Good morning, and thank you Brook.
The overall, but what's very interesting about our.
Our database and the consumer in the database.
We actually reviewed this yesterday.
We're still.
And this is also in particular that Michael of course, we're still dealing with a fairly high income demographic in the Michael Kors database and it Hasnt changed a lot over the last 567 years, which we think is a good sign.
Where there has been a concern does a lower or.
Income.
Consumer be driven more towards the brand.
And did we lose any brand equity with the more a higher income consumer and so far that has not been the case. What's also interesting is while.
While we do have crossover between the channels between.
E Commerce and in our stores. The crossover is is not as great. As we continue to anticipate so the good news for us is.
And probably.
Probably 60% of our database growth and it's pretty consistent across the group is coming through the E Commerce channel.
It's not cannibalizing the store customer. So so we think that's a very healthy.
Mix and you can see you know as Tom mentioned, we significantly accelerated our marketing activities across all three of our houses.
During the during the quarter and that was a very.
<unk> decision on our part to do that we knew that many of our competitors in Europe and North America would also be accelerating their spend and we thought to be competitive from a mind share standpoint.
We had to really make sure that our brands we're shining through.
So the good news for that is these databases are getting so sizable.
That in certain ways some of our direct to consumer marketing costs may be coming down a little bit next year, and that's because we're going to be able to mine the existing databases.
And we've had we've seen a acceleration.
On repeat customers inside we've been able to to really through our our data analytics tactics.
Get those consumers.
<unk> and repeat to transact with us more regularly so we feel that there is an opportunity for us to create some leverage in next year given the size of the database that all three of the companies.
And how we can start to leverage that.
And again, we're still going to invest as Tom said and overall marketing across the group. We think that's one of the most important initiatives to to be competitive again with with the European.
Luxury houses as well as the North American competitors.
Who have very strong brand statements. So we have to continue to invest in that and we're going to continue to invest in our stores renovations.
Et cetera.
And then lastly, we think that.
Our our client telling initiatives, we're really going to step that up over the next two years, it's going to take us more time to get to a place where we feel that that's going to be a competitive advantage for us, but it's a again a very important part of our strategy across the group.
Thank you very much.
The next question is from the line of Paul Lajoie with Citigroup. Please proceed with your question.
Hey, Thanks, guys. Just a couple of quick ones curious if you can talk about transactions versus ticket than the DTC business.
You saw in the quarter and what you expect going forward.
Then our free cash flow assumption for F. 'twenty four and then just China.
The assumption in the first half or second half 'twenty four.
Good morning, Paul Thank you, Paul we really didn't see.
A lot of change in in.
Transaction.
<unk> so that wasn't.
An issue for US we did see a small decline.
In the in the ticket and that was really more of a result of we saw a shift to smaller to a return to smaller box and I would say we saw that across the group, where there was much more cross bodies and small leather goods.
We benefited during COVID-19.
Over a lot of larger bags, selling where people were.
Needing to put more things in larger bags and so our actual retail price of units was not down but the actual transaction was slightly down and that was more because of we've seen a very a double digit increase in our small leather goods business.
And we classify our cross bodies in that category.
Which which really reflected I think people enjoying the holidays going out and partying dressing up.
And.
So unit sales were slightly higher.
Then actual retail performance and that's driven by by.
But.
A lean in by the consumer into that category of product I'll turn it over the cash flow to Tom.
Sure with regard to cash flow you asked about last year, but just to comment on this year.
Free cash flow of approximately $4 50 year to date and our Q3 was even above that so we had an incredibly strong cash flow quarter.
We would anticipate next year that we will have similar cash flows that has always been a strength of the company that we are generating strong free cash flows across our brands.
And our balance sheet is extremely strong we noted in my prepared remarks net debt of $1 6 billion and our leverage ratio is very solid and low. So we feel very comfortable with the strength of both our balance sheet and our cash flow and were using that to redeploy and purchase shares.
Ours to return cash to shareholders. So when we look at our capital allocation.
Priorities still number one invest in the business number two remains returning cash to shareholders and then pay down debt, which we have done over time and manage it very carefully.
And as regards to China in fiscal 'twenty for <unk>.
<unk> to grow at an outsized rate compared to the overall growth of retail and I think we had mentioned the retail business, we expect to be up double digits.
Driven first by Asia, mainly reflecting China, and excluding that up mid single digits across the remainder of the world.
Thank you guys. Good luck.
Our next question is from the line of Simeon Siegel with BMO capital markets. Please proceed with your question.
Thanks, Hi, everyone. Good morning.
Apologize if I missed it but John would love to hear your opinion on whether you think the domestic department store weakness is more broader consumer demand and traffic versus the C stores attempt to reduce their own inventory. So just trying to think through how big of an industry pressure point, you think it might be and how long it might last and then Tom if I can how are you thinking about the Michael.
<unk> EBIT margins versus the pre pandemic to the earlier point about wholesale having little fixed cost and just any help on thinking through decremental margins on wholesale from the lower revenues. Thank you.
Yeah Simeon.
First of all good morning.
Number one I want to say that our <unk>.
Partners, both in North America, and in Europe have been terrific partners. So so we worked very closely together.
All through the pandemic and exiting the pandemic.
The first half of this caliber of last calendar year, we had tremendous difficulties filling the inventory needs of the department stores and as I said to you coming out of calendar 2021, we actually had a very strong holiday season with that channel and we were depleted in.
Inventories and so we didn't really get caught up in terms of inventory at retail until almost August of this past year.
The inventories got to retail.
Did not see any type of a significant step change in the channels.
And we.
We.
As I said very hopeful.
And we did run some tests with additional staffing in the stores, which worked well for us but.
But we just didn't see the conversion with.
With the consumer in that channel.
Can't tell specifically, whether it was our prices or not.
But we just know the channel didn't deliver in our category and obviously the biggest category being the accessories part of it I don't know whether this is going to continue or not we've seen a continuing weakness as I've said through January so we've taken again, the very prudent step we do not.
I want to put additional inventory into the channel to cause markdowns, which we think will cause brand erosion and we've worked too hard to get ourselves to this point. We've said, we would suffer the inventory declines if if and the wholesale shipment declines if that meant preserving the brand and I think we're going to continue to do that.
We know that we're on the right track with elevating Michael Kors, We know we're on the right track.
With Versace, and I think youre going to see some very powerful things happen. It for such a here momentarily we've announced our fashion show on March 10th out in.
In California in Los Angeles, our new CEO Emmanuel can spur is hard at work and he is he is making some incredible strides along with Donatella and I think youre going to see a real step change in terms of what the product looks like where we're going marketing wise. So we're extremely enthusiastic about what's happening there.
And Jimmy Choo has been on a pretty good trajectory.
Through the year and in fact, I do need to call out the Jimmy Choo did have a very strong retail performance during the holiday season, but our partners are very concerned about where the consumer is going to be next year and it has taken a step change down even with our performance.
On being conservative on inventory and we're quite frankly, we're okay with that we don't want to have excessive markdowns.
In these stores, we think that's the wrong place for us to end up so we have to be focused on if you are going to believe in a luxury company and long term brand health then you've got to stay committed to what your strategy is and I think our ourselves and our management team.
We are committed to that so I'll turn it over to Tom.
And Timmy and with regard to the Michael Kors operating margin long term, we continue to believe in the mid 20% range operating margin goal for the Michael Kors brand near.
Near term does definitely.
Step change in the wholesale revenue and we will adjust our cost structure to address that and we've already begun to rebalance the cost base.
We look at 'twenty four as I mentioned in the first half the wholesale declines will create deleverage, but then the initiatives the growth in retail, China, and Asia, becoming a larger portion of the mix again as they recover and little freight tailwind, we believe along with our strategic initiatives.
We will get us back on that path.
Thank you, Tim and best of luck for the rest of the year.
I'd like to thank everyone for joining our call. This morning again.
We're very disappointed in our results for the third quarter and our guidance for the fourth quarter that being said, we believe in the strength of our three luxury houses. We believe that we have a very good plan for fiscal year 'twenty for on a go forward basis that will continue to embrace and support.
The strengths of each of these three.
Phenomenal brands and we believe that we will return to the type of growth that we expect.
In the future. So thank you very much for your support and we look forward to keeping you updated thank you.
This will conclude today's conference you may disconnect. Your lines at this time. Thank you for your participation.
Okay.