Q2 2019 Earnings Call
He currently on hold for the Macy's second quarter 2019 earnings Conference call. At this time, there are certainly today's audience and plan to be underway. Shortly we appreciate your patience and please remain on the line.
Good morning, and welcome to Macy's Inc. second quarter 2019 earnings Conference call.
So these are long conference is being recorded I would now like to turn the call over to Mike Mcguire Head Investor Relations. Please go ahead.
Thank you operator, good morning, everyone and thanks for joining us on this conference call to discuss our second quarter 2019 results and our full year 2019 outlook with me on the call today are Jeff <unk>, our chairman and CEO and Paula price our CFO .
Jeff and Paul have several prepared remarks to share after which we'll open it up for question and answer session. Given the time constraints in the number of people who want to participate we ask that you. Please limit your questions to one with a quick follow up.
In addition to this call and our press release, we have posted a slide presentation on the investors section of our website Macy's Inc. dot com the presentation summarizes the information in our prepared remarks as well as some additional facts and figures regarding our operating performance and guidance.
Additionally, our Form 10-Q will be filed in a few weeks and that too will be available on our website at that time.
I do have one administrative note to share and that is that we will be adjusting the timing of our typical quarterly earnings release, beginning with our next quarterly earnings call, which will be on Thursday November 21st that's a rough rule of thumb and barring any minor conflicts going forward. We plan to release our results for the first through third quarters on the third Thursday after the quarter ends.
However, the timing of the fourth quarter call. Its not plans to change. In addition, we will now be publishing our earnings release, one hour earlier and moving up the time of our call to eight o'clock am Eastern time for all quarterly results. So please mark your calendars accordingly.
Keep in mind that all forward looking statements are subject to the safe Harbor provisions of the private Securities Litigation Reform Act of 995. These forward looking statements are subject to risks and uncertainties that could cause actual results to differ materially from the expectations and assumptions mentioned today a detailed discussion of these factors and uncertainties is contained in the Companys filings with the Securities and Exchange Commission.
In discussing the results of our operations will be providing adjusted net income and diluted earnings per share amounts that exclude the impact of impairment and other costs. You can find additional information regarding these non-GAAP financial measures as well as others used in our earnings release and during this call on the investors section of our website.
As a reminder, today's call is being webcast on our website.
A replay will be available approximately two hours after the conclusion of this call and it will be archived there following the call for one year.
Now I'd like to turn this over to Jeff.
Thank you, Mike and good morning, everybody and thanks for joining us So Paul and I will take you through our second quarter results and then we will open up the line for Q1 day.
As you saw in our press release this morning, Macy's Inc. delivered another quarter of comparable sales growth, we achieved 8.3% increase in comparable sales on an owned plus licensed basis, our earnings per share was 28 cents well below our expectation.
As we communicated on our first quarter earnings call, we walked into the second quarter with elevated spring inventory.
The second quarter got off to a very slow start as we move deeper into the quarter. It became clear that inventory was a mounting problems due to a combination of factors a miss on fashion and are a key womens sportswear private brands.
Slow sell through of warm weather apparel and the accelerated decline in our international tourism business.
We took the necessary markdowns to clear inventory beyond anticipated markdowns impacted our gross margin for the second quarter by almost one full point.
We now enter the fall season, with the right inventory level and mix to meet anticipated customer demand with improved freshness and liquidity to respond to in season fall trends.
We remain confident in our annual comparable sales guidance of flat to up 1%.
That said in light of our second quarter results. We are lowering adjusted earnings guidance by 20 cents for the full year. We now expect adjusted earnings per share in the range of $2.85 to $3.05, including asset sale gains or to 60 to 80 minus asset sale gains.
When I step back and look at the business more broadly, while we had our seasonal inventory challenges in the second quarter. There are many areas of the business that are performing well.
Our brick and mortar business is healthier led by our growth 50 stores in backstage expansion, our digital business delivered its 14th consecutive quarter of double digit growth. We made good progress on our 2019 strategic initiatives all are on track and expected to contribute to comparable sales growth in the back half of the year. So to quickly review them growth 150.
100, additional macy stores are receiving the growth treatment work on these stores will be complete and ahead of last year's growth 50 rollout well in advance of the holiday season, we continue to see strong performance from the original 50 grow stores and expect a similar sales lift in the 100 ones that are now and where the work is being completed these hundred 50 stores make up approximately 50% of Macy's brick and mortar sales.
Backstage in 2019 were expanding backstage to another 50 stores with 47 of them already complete.
We now have more than 200 backstage within a macys across the country and it's encouraging to see that the backstage locations within Macy stores open for more than 12 months continue to comp mid single digits, we are getting better at off price every day.
Our backstage distribution center in Columbus, Ohio is now up and running.
This DC operates on the Google cloud platform, giving us improved efficiency speed and scale to support the continued growth of our off price business.
As part of our supply chain strategy, we will roll this Google cloud platform out to our other distribution centers in 2020, providing additional network flexibility and speed for both Macy's and bloomingdale's.
Third center direct we continue to aggressively grow the skews and brands, we're able to offer our customers on Macy's dot com through vendor direct we're now halfway to our goal of adding 1 billion skews this year, our customers love the expanded selection.
Vendor direct only has upside it AD sales and gross margin increases both customer satisfaction and traffic to the site.
The zero capital inventory investment make for a very high ROI see rates.
Mobile mobile helps us create a better omni channel experience for our customers, enabling them to shop more easily and frequently both in our stores and online.
Our app is our customers valued assistant for interacting with the Macy's and Bloomingdale's brands and we continue to see significant increases in usage and conversion mobile remains our fastest growing channel and we have a regular cadence of new features with my wallet My store and my stylist. Many of these will improve the in store customer experience like quick barcode pickups of online orders localized product recommendations and in store rewards that are exclusive to the app.
And lastly destination businesses are six destination businesses as a group were up 5% for the second quarter with the strongest performance in fine jewelry men's tailored and women's shoes. The six destination businesses account for nearly 40% of our total sales at Macy's and all six or higher and you are businesses. All six continue to outperform the balance of the business on market share return on investment and profitability.
And we're putting additional resources behind the six categories to drive growth through great product top performing colleagues improved environment and enhanced marketing. These destinations are the point of entry to the Macy's brand and we see significant opportunity to drive cross shopping.
Which is one of the competitive advantages of being a department store.
While we're pleased with market share growth and these businesses that we've seen to date, we won't be satisfied until Macy's is taking market share overall, and we will get their business by business starting with the six.
So with these initiatives the team are hard at work at implementing them and we are confident that they will be important contributors to our back half performance.
Bloomingdale's had a more challenging quarter driven largely by declines in international tourism.
Women's and men's shoes, and bloomingdales, the outlet were standouts in the quarter and in the third quarter were going to be opening two additional outlet stores.
Blue Mercury had another strong quarter, we've opened three new stores for a total of 167 stores across 26 states.
Mercury free standing stores and shops within Macy's stores, both grew sales in the quarter with the shop in shops showing considerable growth.
Bluemercury Dot com continues to have significant runway growing double digits.
We will continue to innovate across all channels to strengthen relationships with our existing customers and to bring new customers into our brand.
In July we launched the second iteration of story at Macy's Outdoor story and we're pleased with the customer response, so far three brings in new customers and gifts current customers. Another reason to visit more often.
It also opens doors to new partnerships with local and each brands as well as major players for outdoor story, we partnered with Dick's Sporting goods and Scotts Miracle Gro and these collaborations allowed us to offer our customers unique product and experiences.
We're also testing opportunities in both re commerce and rental to tap into the changing customer behavior, especially among millennials and Gen Z consumers.
This month, we began a pilot with thread up the world's largest fashion resale marketplace in 40, Macy's doors across the country. We know many consumers are passionate about sustainable fashion and shopping resale. This partnership gives us the opportunity to reach a new customer and keep them coming back to shop and ever changing selection of styles and brands that we don't typically carry.
As it relates to fashion rental we know that our customers want variety in discovery tapping into this bloomingdale's is launching my list a subscription rental service with our partner Castle learnings from Bloomingdale's will inform the development of a similar rental service at Macy's in the near future.
So as we look ahead to the second half of 2019, we're confident that we have the right plans in place to continue to grow our business.
The second quarter gross margin was tough, but we now have the inventory at the right levels.
We've laid down holiday 2019, as a must win for the entire organization and we have the levers we need to be competitive in today's environment.
While consumer spending remains healthy there are significant noise in the macro economy tariffs currency fluctuations declining international tourism to name a few its a dynamic situation and the team is prepared to respond to changes in the consumer environment.
As it relates specifically to tariffs. We're currently assessing the details that the U.S. trade Representatives office released yesterday related to the fourth tranche of tariffs on goods imported from China.
We have confidence that our scale gives us the leverage defined mitigation strategies that worked for us our vendor partners and our suppliers in China, We know from the earlier tranche of tariffs, though that today's customer doesn't have much appetite for price increases.
So in closing the first half of 2019 has been challenging but I'm proud of the work. The team has done to drive the business in this dynamic external environment and course correct. When needed we are committed to delivering in the back half of the year.
We remain focused on continued topline growth market share growth and the growth of our customer base.
But as importantly, we also have a clear line of sight into profitability growth and are hard at work on our productivity initiatives, Paul will touch on the shortly and we will share more details together in early September .
While we know there is negative sentiment on our sector. We are confident in our plans there are strong consumer demand for high quality affordable fashion, we are strengthening our relationship with our current customers and bringing new customers into the brand today's consumer demands the ability to shop anytime anywhere and we know we can deliver that convenience as an omni channel retailer.
We've stabilized the business and have a strong and align team our balance sheet is healthy and we have the resources to invest to create long term shareholder value.
Now I'm going to hand, it over to Paul up to review, the second quarter and provide more detail on our outlook for the year.
Thank you, Jeff and good morning, everyone.
Well, we achieved another consecutive quarter of positive comparable sales we were not pleased with our overall performance that said we are fully focused on a successful fall season and confident in the benefits we expect to deliver in the second half of the year from our strategic initiatives and our funding our future productivity program.
In the second quarter, we delivered sales of $5.5 billion, an increase of 8.3% on an owned plus licensed comparable basis as Jeff mentioned, we saw strength within all of our destination businesses, we experienced some softness in the home category, while ready to wear continue to be a challenge.
We saw our strongest performance in the North Central region, and digital continue to deliver solid growth.
International Tourism sales were down approximately 9% in the quarter accelerating the headwind sequentially.
It is encouraging to see that growth. The total transactions continues to be a key driver of our positive sales comp and were up 5.3% in the quarter.
Average units per transaction were down 1.8% as our platinum customers purchased fewer units on average when they transact with us, but importantly continue to spin more with that in aggregate.
Our average unit retail was down 3% driven by the growth of backstage or heightened markdowns in the quarter as well as a challenging comparison to a very strong performance in the second quarter of 2018.
We generated credit revenue in the quarter of $176 million down 5.4% from last year and in line with our expectations.
Our star rewards loyalty program continues to drive good momentum in our credit revenue with credit card penetration up 10 basis points to 46.7% in the quarter. However, there were slight upticks in fraud and bad debt.
We monitor these metrics closely and strategies are in place to mitigate our exposure over the balance of the year.
We remain confident in our annual credit revenue guidance range, which remain unchanged.
Gross margin for the second quarter was 38.8% down 160 basis points to last year combined the additional markdowns, Jeff mentioned and the growth in delivery drove the vast majority of this decline the increased delivery costs supporting online growth in our star rewards program, we're anticipating and their impact on our margin was roughly equal to what we saw in the first quarter. However, it was the additional markdowns that were largely responsible for the much steeper decline in gross margin than we expected at the start of the quarter.
With an inventory overhang to start the quarter ended tougher sales environment than we anticipated our team took the necessary markdowns to clear that excess bring inventory.
While these markdowns resulted in a significantly lower gross margin in the quarter. We ended the quarter with comp inventory nearly flat and up 8.1% versus up 2.4% in the first quarter.
Taking the markdowns was certainly tough medicine, but it was important that we into the fall season with aligned inventory and sales plan. We have achieved that and we are confident in our plans to deliver more normal levels of markdown in the back half of the year.
Our confidence in protecting margin is supported by several factors first inventory is well positioned in our fall receipt planning is much leaner, allowing us to maintain liquidity to use opportunistically as customer demand dictates.
Second the majority of the unanticipated second quarter markdowns were related to women's sportswear private brands, which is now in a much improved inventory position and is being managed with much greater discipline.
This is a problem that we can control.
We put new leadership in place and are doing a deep examination of all aspects of this business.
But it will take some time to get the sportswear business growing as healthily at other areas of ready to wear.
Third we are being more strategic in our inventory allocation and marketing for example, we continue to challenge the status quo to drive effectiveness and efficiency in our media doing more with less.
This includes simplifying our offerings, leveraging strategic partnerships and improving our segmentation and targeting of customers.
We have already taken several actions to simplify or eliminate mess affective marketing promotion saving us a few million dollars of incremental EBITDA on an annualized basis.
And fourth we are making good progress on our productivity initiatives. One initiative that we've discussed many times is holding flow, which enables us to dynamically allocate inventory in season based on need resulting in fewer markdowns in how to stock.
The initial results of our tests have been encouraging we found that hold inflow products on average generated more than $4 of incremental margin at a cost of two dollar a net benefit of more than $2 each that could translate into tens of millions of dollars of incremental EBIT on an annualized basis.
This gives us great confidence in operating the program at scale during the fall and we expect to see significant EBIT benefit as a result.
Additionally, we are enhancing our data analytics capability and getting to a more granular understanding of pricing and markdown decision, which will also enhance our margin.
We are now rolling out our new pricing capabilities at scale. Following our successful spring test also with sizeable EBIT benefits expected.
Moving on to ask DNA, we recorded $2.2 billion of expense in the quarter, an increase of $13 million or 50 basis points on a rate basis over last year.
The increase in SGN $8 was primarily driven by investment in our strategic initiative.
As a reminder, given the front loaded nature of these investments we continue to expect the growth in ESG in a year over year to be weighted towards the spring season, and the benefits of the $300 million in restructuring and normal ongoing cost reductions that we previously discussed to be weighted more towards the fall season.
Interest expense continued to benefit from lower debt levels in our balance sheet remains healthy while our effective tax rate was 25.9% in the second quarter, we expected to be 23% for the year.
The variance is caused by certain normal and discrete tax benefits that occurred evenly through the year.
Summing it all up we delivered $88 million of adjusted net income in the quarter versus $219 million last year included in these net income figures or asset sale gains of $5 million and $34 million respectively.
Adjusted EPS was 28 cents in the quarter compared to 70 cents last year of which asset sale gains represented about one cents and 11 cents respectively.
Year to date cash flow from operating activities was $350 million compared to $544 million last year.
The variance is due to lower merchandise payables and adjusted EBITDA offset by lower tax payments.
Capital expenditures were $501 million compared to $408 million last year.
We remain on track to achieve our existing guidance of approximately $1 billion of capital expenditure.
Cash used by financing activities was $239 million less than a year ago as we paid down less debt. This year than we did last year.
Here's our guidance.
For the full year, we continue to expect approximately flat total sales growth in comps of flat to up 1% on an owned plus licensed basis.
We are confident that we can deliver in the upper end of the sales range, we will be at full strength with our strategic initiatives. We have learned from our challenges during the holiday season of 2018 and consumer spending continues to be healthy although as Jeff noted, we are mindful of being up against some macro uncertainty, which our FFO guidance range contemplates.
Looking at the fall season sales, specifically, we expect the fourth quarter comp to be meaningfully greater than the third quarter comp.
In the third quarter, we will be cycling, our toughest comp sales comparison of the year in large part due to the benefit we saw from cooler temperatures last October .
On the flip side in the fourth quarter, we will be cycling the disruption caused by the fire in our West Virginia Mega Center, and the underperformance of our pre Christmas promotional event.
Gross margin in the fall season is expected to be down slightly to a year ago.
Our confidence in this trend improvement is based in the four factors I mentioned earlier inventory parity merchant team liquidity enhance precision in our fall promotion and our productivity program.
Regarding inventory, we are expecting it to rise as we in the third quarter as we are intentionally bringing in receipt to support early November sales and the truncated holiday season, we still expect to be below last year by the end of the fall season.
As we look at asset sale gains planned for the back half of the year, we anticipate the balance of our 100 million dollar guidance to occur in the fourth quarter.
We now expect adjusted EPS to be in the range of $2.85 to $3.05 for $2.60 to $2, an 80 cents when excluding asset sale gains.
Any potential impact from a fourth traunch of tariff is not contemplated in our guidance as we are still processing. The details released yesterday as Jeff noted.
We are in active discussions with our vendors and suppliers to mitigate terror and minimize customer impact in 2019 as much as possible and we'll know more in the coming weeks.
With respect to our overall guidance, we are confident in the outcome of what we can control. We are also mindful of what we cannot control and we are providing guidance with prudent ranges that are cognizant of the current macro uncertainty you can find our complete guidance in the slide presentation, we posted on our website earlier this morning.
As we committed it we will be sharing more details and our funding our future productivity programs in early September I, along with Jeff and how long our president will lay out our productivity strategy more fully including detail on the sixth Workstreams and anticipated total savings over the next three to five years.
To wrap up while the second quarter was indeed, a challenge I'm confident that we're on the right track to accomplish both our short term and long term objective, we've strengthened our balance sheet through steady debt retirement and it is in a healthy position that allows us additional flexibility.
We're making the right investments in the business and we are hyper focused on profitable growth.
We're making good progress on the initiatives that will enhance both customer and shareholder value.
Our strategic initiatives are growing gross sales our productivity program will transform the way, we work and diligent inventory management and capital allocation are top of mind day in day out.
We're improving our management disciplines everyday with data analytics, better tools and better processes and we have a strong team that is working together to win every day with that Jeff and I will be happy to take your questions.
Yes, you know if he would like to ask a question. Please signal by pressing star one on your telephone handset.
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As a reminder, please limit questions to one question.
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We will take our first question from Matthew Boss with JP Morgan.
Thanks, So Jeff you're seeing comp lifts from growth 50 stores and backstage you cited comps up mid single digits at your six destination businesses and also commented that the consumer spending remains healthy today. Despite some of the cross currents I guess higher level, what's preventing better aggregate comps today it at at Macy's and if consumer spending were to take a step down in the back half of the year or into next year, what's your confidence in sustaining positive comps.
So Matt I think you hit the headlines about what is good in our business right now the one you Didnt mention was the digital overall is quite strong really led by mobile.
But when you look at the the other pieces of the business that are a challenge right now ready to wear, particularly a ready to wear sportswear and some of the soft home categories definitely depressed the the the strength of those winning categories to the comps that we're quoting so when you look at the the quarter to quarter definitely got off to a slow start and you see the combination of factors that we're quoting on that that led us to the decision that we're we expected strong sell through stronger sell throughs and seasonal product that didnt happen as we worked all the way through may and into early June . So we made the decision mid June to take the appropriate markdowns. So we entered the fall season with the right inventory levels on all of our spring and summer and we were able to flow all of our fall products that we have a lot of confidence they're going to get us ready for the fall. So we now have our inventory in line. We took the medicine it did affect our overall gross margin.
And by a full point in the second quarter now let me take you through why we're confident about the about the back half of the year. So first off we're entering the back half of the year with a comp of the 0.5% we've guided the full year at flat to up one.
We just have to mention what Paul just said, we do expect that the fourth quarter is going to be meaningfully better than the third quarter third quarter last year, we was our strongest quarter and that mostly was buoyed by the cold weather that we had in the month of October the month of October was a very strong month for us.
But on the flip side as you remember from the fourth quarter of last year, we're cycling all the disruption that we saw in the fire as well as the promotional event change that we made and what we quoted last year was that it was about a 70 basis point degradation to the fourth quarter comp. So we're lapping that.
So the holiday 2019, we are very focused on that the entire organization is aligned and engaged to make that happen.
It's a must win for us and we have a lot of confidence and looking at our content looking at our promotions. We take every opportunity to test what is going to be important in the fourth quarter. So you saw just now in the Black Friday in July we're really testing item price velocity using all of our analytics capability to make sure that we've got the right items built we're very confident in our seasonal hiring our entire fulfillment network. What we are doing with customer events and engagement. We also know that our digital business is a much higher penetration in the fourth quarter than the other three quarters. It penetrates higher it's worth about 90 basis points of comp in the fourth quarter and just lastly, Matt to get to get but what gives us confidence is that we're bringing into the fall. The full complement of all of the strategic initiatives in 2019 that weve been building that we will be building and complete by the end of October So that comes with US and that's why we're confident that we're going to have a positive comp in the fall season to add to the positive comp that.
We had in the spring season.
If you find your question has been answered you may remove yourself from the queue by pressing the star two well take our next question from Kimberly Greenberger with Morgan Stanley .
Oh, great. Thank you so much good morning, Jeff I wanted to just ask about the the store base and how you're thinking about it you talked about the brick and mortar fleet being healthier I I'd love to hear what what you mean by that it would seem like if the digital business is still growing double digits. It would seem that the stores are still negative, but as you look at the fleet.
What is it that you're seeing that's healthier and do you need to take another look at your store base I'm with you know maybe a potential eye towards some additional store closures. Thank you.
Yeah, Kimberly so.
Let's just talk about stores in general so just repeat our store segmentation strategy. So we have our flagships, which include Herald square, we got our Magnum stores, which really are touched on by our growth initiatives and then we have our neighborhood stores, which are very important for fulfillment and convenience for our customers that live in those localized areas. So we really have a line of sight on what growth looks like for magnets and flagships. The growth strategy really led by our growth 50 gave us all the confidence in getting growth out of those buildings, we talked about how those growth 50 stores have outperformed other stores and the growth 100 by three full points those stores are positive comping.
This is a customer engagement in those particular stores is much higher than our other store fleet. So what we've done is we've applied all of those learnings to the next 100 stores, which is what we call the growth 100, and what you're quoting that growth Onefifty, which will be complete by the end of October touches about 50% of all of our brick and mortar sales suffered from that is what you have many of our flagships that are classified differently that add to that 50% clear line of sight about what we need to do to make those better. So we've got a lot of initiatives with what we're doing with new experiences like beta market and story try and new concepts like threat up that are all adding new opportunities in these stores. Many of these stores are touched by backstage the neighborhood stores I would expect those to continue to negatively comp, but they are becoming more profitable because we're operating them more efficiently with less square footage.
The customers are really using them big for fulfillment a higher percentage of their sales are moving through fulfillment. So we're handling their expectations in those particular stores. We're always looking at our portfolio to look at it doesn't make sense, we're never going to say we're done but we do believe this national footprint that we have we are servicing a national customer we know that when we close a store we're firing customers we lose their business online we will make all those decisions very carefully. So this segment's dictation strategy really serves a customer that shops between our stores satisfying her needs. It also satisfies how we're building the omnichannel business through digital and mobile and so we'll be very careful about any exit is that we do in future store closures.
Great. Thank you.
Your next question comes from Lorraine Hutchinson with Bank of America.
Thanks, Good morning, I wanted to follow up Jeff on the comment you made about the consumer.
Your not wanting to see price increases and can you just give us a little bit more information on your expectations around the tariff what are the mitigation strategies and our price increases off the table for you or will you try to do some selectively.
So let me just tell you what our experience has been so obviously tranche one and two there was no significant impact and tranche three there was very limited impact when it was at 10%, but on may 10th that went to 25% and so we did play with selective price increases in categories like luggage in housewares and in parts of furniture, and we learn from that experience that the customer had very little appetite for those cost increases. So we had to make adjustments. So to answer your question Lorraine I think when you are talking about tariffs going to 25% then you get into what do you do how are you working with your vendors how do you get more make and value into those products that give you the permission from a customer's perspective because of how they're looking at the value of those goods to raise prices. So when we're thinking about traunch four weve had some time to digest this even into this morning.
We're looking at which of all of the remaining pieces that are touching our business. The comment from touch from tranche for are being affected as of September Onest versus December 15th I would tell you that we are looking at no price increases on any content that is touched by tranche for so we're looking at what is our risk for the way that it's now been because you've got some categories based on one fiber to come thats being taxed or by on September onest versus other same category, but different fiber that is being affected as of December 15th So looking at all of that and rolling It I think we we recognize that our risk to annual guidance in 2019 would be no more than one Nicole I think on a long term basis. We believe that we will work through solutions on 10%. We're working closely with our manufacturing partners. We are leveraging our scale and our strong relationships with our sourcing partners as well as our vendor partners, who sort who source out of China.
So I think that 10% is manageable in the in the short and long term I think when it goes to 25% you're dealing with a whole other series of dynamics that I would not say, we wouldn't have to raise prices.
Thank you.
Okay.
Our next question comes from Paul Trussell with Deutsche Bank.
Good morning. Thank you for taking my question I wanted to circle back on to the digital business, which which is performing well.
You mentioned that the mobile business did over a billion last year just curious on on any update on the on the total size that you're driving now.
Through E Commerce and also one vendor direct.
Maybe discuss in a bit more detail the type of product skews that you've been adding to the website as you expanded the assortment.
And now that vendor direct is 10% of sales.
I mean help us understand how much the vendor direct businesses driving.
The E Commerce growth and also how you are accounting for that in terms of taking on the wholesale versus a take rate in your top line. Thank you.
All right.
Hi, Paul So let me take you through mobile first so.
No surprise mobile is our fastest growing channel. So what we told you last year $1 billion in sales, we expect to grow 50% in 2009 team that we get to 1 billion five we're on track for that when you think about our performance in 2000 in the first half of the year. So when we get into vendor direct.
On this one I were on track what we said was that we had a goal of adding 1 million skus were halfway to that goal. So we've added 450 new vendors.
$640000 in new skews or of that 600 to 40000, new skews. So were we started really primarily in home and we're now implementing more broadly we're we're expanding to the full catalog of our brand partners were also adding new categories that we look at failed searches and really what our customers expect of US we always look at what our competitive set is and as we've mentioned our peers have a larger ratio of skews on line two skews in store. So we have a ways to go here, but I think the benefit of this as it's giving our customers an endless aisle. This is all really driven by data driven personalization and it's given US side, we have to make sure that we're hitting Macy's high standards of quality and customer satisfaction.
I think in aggregate I see nothing but upside within or direct.
I don't I'm, not going to speak to where we see it going over the long term ill tell you in kind of yearly increments.
But we're on track to achieve all of our objectives I think that it adds sales it adds profit increases satisfaction and traffic to the site theres minimal capital and no inventory investment. So it really makes for a high ROI see rate and so when we quote our digital business being up double digit that includes what we are doing with mobile that includes what we are doing the vendor direct and we see continued growth in the entire digital channel with these with mobile and vendor directing two of the big accelerates.
And so just to clarify on the accounting thoughts is to your question as well and this is a wholesale model from that from an accounting perspective to an AD sales.
Gross margin as Jeff said, there is no inventory no capital and really add quite thing in comparison to state owned and in similar gross margins. It just depends on the category that at that you lack in terms of what the actual gross margin, but again no inventory no capital make for a very strong ally C. and so this is this is all going.
Thank you.
Our next question comes from Chuck Grom with Gordon Haskett.
Thanks. Good morning, just wondering if you guys could unpack for us the compression in gross margins in the second quarter I think it's around 100 basis on a basis point for markdowns and 60 for delivery just wondering if that's correct and I guess.
You know if you can just hold our hand for the third and fourth quarter, what what offsets you could have against that 60 basis point delivery headwind. Thanks.
Yes, yes, so I'm just again I just to step back a little bit on on gross margin. When we last talked to you in may our margin guidance factored in our expectations around the delivery expense the pressure from that related to our growing digital business and the star rewards program as well as the clearance of the excess spring stock that we had at the time and then as we move deeper into the quarter it became clear.
As Jeff mentioned due to the factors that he mentioned the fashion Miss in key womens sportswear private brands the slow warm weather product sell through the accelerated decline in international tourism that we needed to take the fast action to put us in good shape for for the fall season.
And then just keep in mind that this was this was a fashion apparel that head in and out dates that we really needed to head and so when the sell throughs did not improve as the quarter went on we took these additional markdowns that got our inventory down to nearly flat on a comp basis, which is a really good place to be as we head into the fall season, So just a little bit.
On the numbers of gross margin as you noted was down 160 basis points again, that's about 90 basis points almost a full point that was related to the additional seasonal markdowns in the rest of it relates primarily to delivery headwinds, which is consistent with what we saw in the in the first quarter and was consistent with our expectations. So.
We took the the markdowns thoughtfully and as we're entering the fall season, our inventory levels and mix are in line with what we expect our customer demand to be.
And then just while we're on the topic.
Let me give you the thoughts on how we're looking at the fall. So I'll just reiterate the four points that I made earlier that gives us confidence in the.
Call gross margin improvements so private brand women's sportswear is in a much better position and we're allocating inventory more strategically and with that with better tools as we head into the fall season receipt planning is leaner and we will have merchant liquidity as we move through the fall season to buy Opportunistically. So we're we feel good about that our fall promotions are.
More precise.
Again better tools there.
And the productivity projects that we've been testing up to this point and sharing with you like hold and flow and markdown optimization. They really are ready to scale in the fall and so we anticipate benefit coming from from those from those as well and then just regarding the guidance.
Just in general as you know, we Didnt change our sales guidance. We finished the spring season with the comp above <unk>, 0.5% and as Jeff.
I mentioned before we have confidence in our call strategies to continue the positive trend. So if we hit the upper end of our sales range, we see gross margin down slightly and then to be prudent if sales are at the lower end of our range. We would expect the gross margin rate to be a bit worse, but as I've said, we are confident in the fall plan.
Thanks, a lot.
Thanks.
Machine comes from Jay sole with you the yes.
Great. Thanks, So much Jeff you don't want to ask about your comment that I think you said that you see the risk to the annual guidance for 2019 would be no more than one nickel from terrorists no could you talk about you know the algorithm to get there is it that you feel like that if you don't change prices as you know the the vendors basically absorb all the price increases or is there an element of you know maybe gross margin to be a little bit under pressure, but you can offset it with as you know any help around that would be would be great. Thank you.
Yeah, So [laughter].
So on that Jay we've got we're looking at our own private brands, where we bear the Stifel a risk of any changes that we make in so we've looked at that we're obviously talking very intensely with all of our vendor partners and have been really on the whole subject terrorists for some time now so we've gotten into a good place in terms of what what price increases or they are going to foist on us what they are absorbing themselves are what they are believing they're getting concessions from their own sourcing partners. So I think those are kind of in that we're looking at that in three parts. We're looking at what we are doing in our our own private brands, what that means and as I mentioned, what we have found is there is no customer appetite for price increases. So what are we going to do to mitigate that and so in the short run where we've already taken our mitigation strategies. We believe that we might have additional risk of up to a nickel. When you look at between our brand partners and our private brands based on what we learned yesterday.
That would be for the balance of 2000.
19, we're hard at work that if you. If we continued with all of the 10% tariffs that are landing as of mid December onward, we are looking at opportunities to mitigate that in 2020 and beyond and we'll keep everybody posted as we work through all those scenarios.
Got it thanks, so much.
Thanks Jay.
Next question comes from Paul <unk> with Citi.
Hey, Thanks, guys can you talk about how big vendor direct loans as a percentage of E. Com sales. This this quarter versus what it was in the second quarter of last year also what the plan is for for the second half.
How much of a growth driver that can be two to the comp.
You did mention just secondly that second quarter was off to a.
Got off to a slow start Im curious if you could make any comments about how it how to queue finished in Threeq you started thanks.
What I'd say on Paul Let me take first we're not we're not quoting what vendor direct is through the first half of the year, we'll definitely give you that at the end of the year.
As I mentioned with a previous caller was about 10% of the business.
For 2018, it is growing at a rate bigger than the average of overall income which is double digit so.
We don't break that out.
In kind of mid stream on that as to how that how I characterize the sales flow within the quarter started out very slow in the month of May and so the month of May was.
We don't often talk about weather, but in the month of May It was particularly cold and it was particularly wet and it was across the entire country. So generally with whether you get some pockets of the country that are experiencing warmer weather than others and they kind of cancel each other out in this particular month it was pretty tough across the board. So.
That's that's really the whole conversation about those are really important weeks in sell through in seasonal goods like spring and summer fashion deliveries, particularly shorts tanks tease those types of deliveries. So very important that we responded to that I did get better in the month of June and that the positive continued into the month of July So what I would tell you is tough may got better through the course of the remaining two months, which led to our positive comp.
For the total quarter.
Thanks anything on for David.
I'm sorry.
Starting with our view.
Yes, we don't comment on in quarter results as you know call, but I'd say Paul is that what we said earlier was that we do expect that the fourth quarter is going to be meaningfully better than the third quarter from a comp perspective.
Thank you guys. Good luck.
Thank you.
Next question comes from Alexander with Goldman Sachs.
Good morning. Thanks, so much for taking the question I had a question on tourism, you mentioned that sales to foreign tourists were down 9% in the quarter I Wonder if you could give a little more color on that and whether the shape of that poor spend has been changing over the last few quarters is it more a function of traffic or more a function of basket size, there and how are you.
Expecting that the trend.
Hi, Alex Let me give you some context on international tourism, so and how it affects our business. So it is a significant driver of involve volume in 40 of our Macy's and bloomingdale's stores. So is the gateway cities.
And many of these stores.
Virtually all of them are really touched by our growth initiatives. So were built and ready in both bloomingdales and macys for those markets.
When you look at these international tourist sales there really some of our best transactions because they are higher you are there more apt to buy full price and there's virtually no returns. So it's a very high margin sale that you are dealing with here. So as we mentioned, we our business across bloomingdale's and Macy's was down 9% in the second quarter and that was an acceleration from our trend from the first quarter, we were down 3%.
Now we are.
We are lapping four now consecutive quarters of negative comps so were going up against a easier fall compare them, while we were up against in spring and as I think we're getting we're pretty good at this we see that international tourism always has its ebbs and flows. This decline is not unprecedented we've navigated through this before but just to be on the prudent side, we took our comp from the second quarter and we pulled that all the way through our fall expectations just to be prudent so even though we are up against a negative on a much easier comp in the back half we did pull that through just to be prudent and then we're really focused on these 40 stores.
Is what can we do to offset that the international tourism. So we're really focused with those teams and our corporate teams on how we get more domestic tourists and how we really when more local customers. In these very important doors. So then when you look at the composition by country, certainly Brexit is affecting as China is depressed theres always ins announced depending on what country, but.
I'm, calling it as I see it right now we are taking the trend from the second quarter and carrying that through the back half.
Great. Thanks, if that's super helpful. And then one more for you and with related I I Wonder if you could comment on trends in the New York market Im sure that tourism is having an impact but I wonder if you could also comment on the incremental supply in this market has it been a few new openings of retail areas that are similar coming up how are you thinking about the new market in that context.
You know as as expectations.
I'm sorry, if you if you look at them and if you look at the Manhattan, we have seen little change in our business, a bloomingdale's and Macy's as a result of the new competition coming in there.
We have some of our best performing stores are in the Metro area and I would attribute that to customer satisfaction scores being up growth initiatives being in place. So we are we have thought hard in those communities were winning and Thats not different in New York City, or New York Metro versus other parts of the country. So bloomingdale's is while they had a more difficult quarter, where theyre, making investments you know you see it in New York City thriving great strength in all the areas of the Bloomingdale's 59 Street store that they renovated very happy with that we've had we've seen very little effect with the competition increasing in Manhattan with Bloomingdale's 59 Street. So I would say the metro area is unaffected by what you're describing.
Thanks, so much.
Your next question comes from Omar.
With Evercore ISI.
Good morning, Thanks for taking my question I wanted to ask.
A follow up some inventory, but maybe a little bit more from a structural standpoint, Jeff could you talk to in a falling another kind of build up in inventory and the need to mark down to clear. It could you talk about why why Macy's maybe hasn't seen more more benefits from technology using technology to run the business with less inventory omnichannel capabilities is that something we can look forward to in the future around inventory and then.
You also mentioned.
Vendor direct the returns efficiency of that model.
Where you don't I'll have to own the inventory as you think about your physical business as well is there an opportunity to do more.
Concessions marketplaces at least with some of your big vendors, where you can run that they can run the business owning the inventory.
And create create working capital opportunities.
Macy's.
And that way as well, maybe you could address those things. Thanks.
Yes, So I'll I'll go ahead and start on this question Omar and then Jeff if he wants to add can do so as one of the biggest thing that we're doing with funding our future is developing more tools to manage our inventory and our supply chain and a much smarter more efficient way and so it's very much powered by my side technology, and we already use advanced fulfillment logic to get our customers their products in the quickest amount of time at the lowest cost for us and with the most effective inventory strategy. We use a combination of our Mega center storage vendor partners to offer the customers the best experience, well, allowing us to move inventory efficiently and cost effectively and we're taking that a step further by taking inventory position and markdown with into consideration as we make fulfillment decisions using data analytics. So we are really and we're really excited about that our supply chain.
And the transformations that we're seeing we're also getting ahead right now of the peak holiday season by allocating more of the high volume inventory and distribution centers to operate at full capacity and using our store fulfillment logic in options more effectively and we're also sort of us efficiently to inventory management, we are applying data science and data analytics to and to our markdowns and pricing. So that we can really measure the price both at velocity, how how the inventory is moving at what prices and Lilly that get very very smart smarter about how we manage our inventory for this this is a really big opportunity for us.
And just to add one thing on sort of what apologist said I think the thing and I were most excited about with markdown optimization is the ability in fall season to do that at a store level. So we've been doing there to design level or now we've tested it and we're now ready with all of our technology to be able to do that at a store level, which is really going to help you don't take markdowns on certain skews, where you don't need to or you go to different levels. We were at Thats prudent so thats going to help us with overall margin both in sales as well as gross margin improvement with markdown optimization and then the second part of your question about.
What are you learning from vendor direct and shifting some of the economic burden into lease or hybrid models that is definitely always we're always looking for opportunities with that and so when you look at what we learn from the market kind of rent retail as our as a service.
You know, we don't own any of that inventory, we basically are renting space that a and we're doing that through the our at our partnership with data and so that platform is really running all the kind of amalgamation of different retailers that are coming into that space. They they basically pay a fee basically to be a part of that.
And thats, giving customers new opportunities new things for them to see but with no risk to us when you think about lease always looking at different leaps lease options. The bloomingdale's lease percentage of their overall business is higher than Macy's I know that Macy's will go higher over time, and we're looking for opportunities. There, we definitely although always want to make sure that whatever we're doing month lease gives us the opportunity to make ships where customers go and so making sure that we're not tying ourselves into long term commitments that may not be customer focused so we're always looking at this and expect us to continue.
That makes a lot of sense. Thanks.
Your next question comes from Oliver Chen with Cowen and company.
Hi, Thank you you've been really innovative Jeff and thinking about re commerce on subscription we've done a lot of work here with with Dread up why is now the right time and what are your thoughts on balancing your relationship with the write up and castle against your vendor matrix and also thinking about.
Consumers looking for new items, and the cannibalization risk and balancing that against the opportunity and Paul just a quick follow up.
The precision in the fall promotions and thinking about that.
Sometimes the the challenge can be and making sure you still get your fair share of traffic. When you all to promotions would love your thoughts on how you're balancing the precision against the traffic risk. Thank you.
So.
Hi, Oliver Let me go first on your questions about kind of re commerce and rental.
You know this is a this is a when you think about kind of acquisition strategies.
We have a very developed.
Core customer who loves our brand and they should we just got stickier with with her decisions about shopping with us with our loyalty program. We've got a customer base in what I would call bucket, two which is an occasional customer that we're trying to get them to migrate up in their spend and then we've got an entire acquisition strategy and when you look at acquisition re commerce and rental is really at the heart of that and so there is many customers that love from a sustainability perspective, as well as just having new content at great prices. They love you know what the real real is doing or in the case of our customer whats right up has been doing for some time and so when we met with James and really said, okay. What's our opportunity. He was looking at opportunities with brick and mortar and his own or partnerships and this was a good connection for us to come together. So we are doing it now is rolling in were doing it for the back to school time frame and 40 doors is really when it started and I will tell you that with the products that are selling best.
Are those that we don't currently carry so to your question you're concerned about how to your in line vendors feel about it. It's just giving these customers additional brands that we don't carry at great prices. So I'm very encouraged we're testing it in different parts of the store, where it where its best how its best received so we're going to be we'll have a full analysis of that as we get through the fall season, but I'm very encouraged by the us as it relates to rental and what you see with.
So what what Bloomingdale's, just announced which is my list.
And our partnership with castle.
We needed to play in this game and I'm really happy with what Tony and Denise and their teams created here and they this has been under development for about a year and a half I think it's got some unique characteristics, but it takes the full complement of strengths of contemporary vendors at bloomingdales. The vendors themselves are thrilled to be a piece of that to be a part of this so.
And then the broader play would be what does this do to inform a similar opportunity and Macy's future. So staying on kind of the the acquisition. We're really focused on digital first strategies, what that means with influencers, what we're doing with our own colic population with style crew reinventing beauty with respect to Instagram so.
These these initiatives I think really help us with acquisition.
And so in terms of your I guess your question regarding balancing and precision and traffic risk. So what I meant by that is that we're really using add add better tools and better data to understand all of our promotions in terms of what's working and what's less effective and so we're simplifying our promotions were measuring how effective those are what kinds of.
Results and outcomes, they deliver we de layering where its appropriate and our promotions and we're partnering and to get better data around the outcomes of our promotion with segmenting the customer base and looking at how we target different customers with different promotion. So that's the piece that I mean, when I say, we're doing this and with greater precision and we are balancing that with the outcome outcomes like traffic and ultimately at what sales. These these promotions drive so we're getting better at that it's just another way of how we're using data and data analytics to support our decision.
Thank you best regards.
Thanks Oliver.
Our next question comes from Bob Truthful with Guggenheim.
Hi, Good morning, just a couple couple of more questions.
On the the thread up relationship how how much square footage are you allocating in the 40.
Stores that you're doing in the deal overlap with backstage versus straight up and I guess, if you could talk about that and then just a question on national brands like you had some pressure in your private brands, but I was just wondering if you could comment on national brands and maybe even then im a little bit as a category. Thanks.
Okay. Thanks, Bob square footage and Fred up as approximately 500 square feet in each of these 40 stores.
Very little impact, it's when you look at the content of backstage the content of Macy's the content of.
Right up is mostly discrete so when you look at threat up we obviously gave them a list of vendors that we don't need products because weve either got them expressed in backstage or in last act or as part of a regular portfolio. So we're really we're merchandising into where we saw holes in our inventory with this re commerce play in this idea that it was pre owned is very attractive to many customers not just because of the price, but also because of the sustainability. So thats, how we approach that when you talk about national brands.
Like like anything you guys. Some national brands that are totally on the pulse of their customer and they made all the right decisions from a value in a content perspective, and they are winning and others that are finding their way and where their customers shifted and they're having to make adjustments. So I wouldn't characterize one series of vendors one way or another it really depends on the business that you're in and where they are in their own evolution.
And so that's how I would add that with respect to denim what I'd tell you is that.
You know the when I look at denim from the second quarter, there were really positions of strength in a number of areas. When you look at our kids business. Our kids business is one of our standouts in the first half of the year and some of that was as a result of of denim and then denim is.
Is mixed in the women's apparel area and doing quite well in mens.
Great. Thank you very much.
Your next question comes from Michael Binetti with Credit Suisse.
Hey, guys. Good morning, Thanks for all the detail here.
Can I just ask.
On the categories that you guys spoke about what what confidence is there and I guess, what's different between the spring and the fall women's apparel trends I know you guys.
So you're confident you are clean on inventory I'm trying to figure out why you see that helps boost your confidence the new assortment can drive improved traffic and then just thinking with the top line for a second.
I want to ask about the comps again, Paul maybe.
Can you help us think should we think about threeq comps within within the full year range of flat to up one or should should we be thinking more like threeq comps negative switching to positive in Fourq you just help us understand some of the dimensions.
Michael Let me start so.
What I tell about ready to wear is that ready wear is really in kind of two pieces. There's the classifications piece, which is dresses suits active wear coats swim.
Those in aggregate are showing really healthy growth and theyve been strengths of Macy's, we see those continuing all the way through the back half of the year. When you look at sportswear, which is where we had our problem with private brands and sportswear, which is the bulk of that business. The bulk of our sportswear business is private brands.
What I'd tell you is that we're in a really good inventory position for the right expectation for fall season. So what I would expect those it's this is not a rapid turnaround I would expect that that trend that we have experienced in the sportswear business would continue through the back half of the year without the without the inventory overhang that is going to create a margin problem for it. So that's how I would characterize ready to work.
And so when I think about the quarter. It's Mike is that we don't guide the AD quarters as you know, but as I said earlier, we do expect the fourth quarter to meaningfully better than the third quarter and so Q3 add could be outside of our annual guidance range I would think about it.
In that way.
Okay. If I could just ask a follow maybe an easier one on the DNA leverage in the second half I know you've got some cost initiatives flowing through.
You have a little better control over that after some investment in the first half. So I guess if sales do come in above the plan how should we think about SGN a relative to your guidance and then if sales come in light do you have more room. They can pull back on M&A are there still some fixed costs from the initiatives running into that make it a little bit in flexible if sales are to the downside of the plan. Thanks.
Sure I would just Dan just repeat add that our guidance in terms of SDN at the high end of our guidance, we would expect the performance to be better in the fall going into spring and and again as you know our expenses at our weighted more heavily to the first half of the year, because we began our investment earlier in the year and will benefit from expenses later in the year sales are higher and then.
That you would see that in our SGN a leverage if sales are.
Lower at yes, we always manage our expenses prudently and think about.
Different sales scenario than what we would do there and so we demonstrated that we can flex our sales and different sales environment flex expenses can different sales environments.
Okay. Thanks about the for all the helpful detail here.
Thanks Keith.
No question comes from Brian Cowen with Bank of America.
Hi, good morning, Thank you.
I just wanted to Peel back on your perspective on balance sheet health.
Debt reduction has been strong, but 2019 leverage looks like it could still be at or above the high end of your target range. So what options should reconsider being available near term to keep the balance sheet in line with investment grade ratings, you don't seem to be getting credit for the.
I guess, 10% dividend yield so would you consider altering that dividend payout.
So again I would just reiterate our capital allocation strategy, which has been changed and we do continue to generate strong cash flows and we we use that cash flow prudently and so just to reiterate what our priorities are first and foremost is to invest in the business and so we've guided that we'll invest about $1 billion. This year second it to maintain a healthy balance sheets that were significantly we've been significantly reducing our debt and we plan to use excess cash in 2019 as we as we said before that to further reduce our debt to be well within our target leverage range of 2.5 to 2.8 times and look at that within without asset sale gains and and that's important as we face into any economic environment and being in this range gives us flexibility as well.
And next we will continue to add we turned a competitive cash dividend to our shareholders with doing that and we're committed to continuing to do that and then the last thing is that as our cash position warrants, we will consider along with our board resuming our share repurchase program. So that's how we think about and our capital allocation strategy and it hasn't changed.
Thank you.
It appears there are no further questions at this time I'd like to turn the conference back to your host for any additional closing remarks.
Thanks, everybody. Thank you everyone. Thank you.
That concludes today's presentation. Thank you for your participation you may now disconnect.