2QTD retail segment comps trending positive mid-teens. After market on 6/11/18, URBN filed its 10-Q and reported 2QTD retail segment comp of +mid-teens. We believe QTD comps are at the low end of the range (+14%). Included in the Management's Discussion & Financial Analysis, URBN commented on the consolidated QTD comp trend (including DTC), “Thus far during the second quarter of fiscal 2019, comparable retail segment net sales are running mid-teen positive.” There remains a great deal of the quarter with the July 4th holiday and the start of the summer break ahead.
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Expect 2QTD trends in-line with +LDD guidance. After market on 6/11/18, we expect URBN to file its 10-Q. We expect another solidly positive comp report, but do not expect a material acceleration from the +LDD guidance provided on their most recent earnings call. 2QTD, our proprietary promo checks show URBN consolidated promo levels are running “Flat” to LY (see Exhibits 4-10 on pages 4-6), suggesting comps are likely in-line with the +LDD guidance, but may not be materially above at this point in the quarter. Based on our checks, each of the brands were opportunistically promotional over Memorial Day weekend. In the Management's Discussion & Financial Analysis, URBN comments on consolidated QTD comparable retail segment trend. We expect commentary similar to: “Thus far during the second quarter of fiscal 2019, comparable retail segment net sales are running low-double-digit positive.” With only one month completed, we choose to maintain our 2Q18 comp estimate of +10.1% (Cons +10.1%) and our 2Q18 EPS of $0.73 (Cons $0.74). There remains a great deal of the quarter with the July 4th holiday and the start of the summer break ahead.
Omnichannel 301: The Four Factor Success Model. In this primer, we answer the question, “What should an investor look for to see if a retailer is successfully making the shift to e-commerce?” A successful omni model has four critical elements: 1) positive comps in both brick-andmortar and e-commerce, 2) a fixed-cost breakeven leverage point reduced to the flat to low-single-digit range, 3) channel earnings parity (e.g., an e-commerce order value is >2x that of the store transaction value), and 4) highly accretive e-commerce EBIT margins. If these four criteria are met, the omni-retailer will be highly incentivized to grow ecommerce as quickly as possible to generate both higher margin rate and greater earnings power. Each of these factors is explained in detail in this note and this process can be used to analyze any retailer that is shifting its business from brick-and-mortar to e-commerce.
Delivered on their word, but is it sustainable? ANF was able to deliver another quarter of comp upside on positive brick-and-mortar comps, while curbing discounts. While admirable, we believe the rising tide in consumer is temporarily allowing momentum to continue and foresee the real test coming in 2H18. As back-to-school and holiday typically invite steep competitive promotions, we believe ANF could struggle to maintain the progress without breaking price during the upcoming peak season.
A rare asset. Throughout the ups and downs of the retail backdrop, we highlight longer-term investing themes for the next three- to five-years. Our secular thematic trends include 1) a successful omnichannel model defined by both accretive e-commerce margins and EPS, 2) China/Asia-specific global growth, and 3) brand equity and brand resonance with the fast-growing Millennial generation. The LULU story possesses all three secular trends, in addition to a highly desirable brand, demonstrated by the +19% consolidated comp and +60% e-commerce comp in 1Q18. Despite a rich current valuation (trading at a forward PE multiple of 33x, among the highest in our sector), a solid 1Q18 print and confident guide provide increased visibility on continued market share gains and brand momentum. Valuation is the most obvious risk. However, in retail, highly desirable brands that command full price are a rare asset indeed. With a soon-to-be announced permanent CEO, a strong trio of current senior leadership, and Interim Chairman Glenn Murphy guiding LULU, we remain advocates even at the current lofty valuation. Shares were up 5% in after-market trading.
The AE brand comp of +4% came in as expected, but aerie posted a huge +38% comp for the quarter suggesting they are clearly one of the biggest beneficiaries of VS and Pink’s departure from the swim business. As one of the pioneers of the “body positivity” movement, we believe there is a genuine and growing connection with the Millennial consumer. We note that 2Q18 benefits from an incremental 5% points of sales growth due to the pickup of week 1 August (back-to-school tax free holiday week) and dropping the less impactful first week of May. As a result, 2Q18 guidance came in well above Cons; however this shift reverses itself in 3Q18 and therefore is a wash over the two-quarter period. We note that the “flow through” of the +9% comp was not what investors were expecting and therefore the share reaction was muted as AEO traded -2% during intraday trading.
1Q18 EPS and comp beat guidance and consensus driven by improving traffic trends and gross margin gains. 1Q18 EPS came in at $0.01 vs. Cons of ($0.02) on a comp of +1% vs. Cons of (0.7%). While we note this is the first positive in over two years, it was predominantly driven by a +33% e-commerce comp, offset by brick-and-mortar comp of -8%. Gross margin came in solidly ahead of Cons by 140 bps (29.9% vs. 28.5% Cons); however we note $5 million benefit from sourcing initiatives captured out of the total $12 million outlined for FY18. We investors focused on sourcing-driven GM upside and a -8% brick-and-mortar comp. Shares initially traded up 15% at the open, but quickly faded and are now -9% during the intraday session.
Key inflections. We believe FY4Q18 showed the success of the underlying turnaround strategy to: 1) elevate MK brand equity by limiting distribution and reducing promotional activity, 2) expand through international growth, and 3) return to positive, healthy margin comp growth. The quarter showed a miss in the recently-acquired Jimmy Choo brand as they reposition non-footwear accessory inventory. The investments needed to support the Choo brand result in greater margin pressure in FY19, which was a key concern for the guide. As such, investors may be concerned that all the progress made at the MK brand (over 90% of the business) may be funneled into the Jimmy Choo brand. We believe the fundamental drivers of margin expansion remain, including accretive geographic channel growth, retail growth, and improved full-price selling. Shares traded off 11% in reaction.
Those fundamentally turning benefit the most in a rising tide. Reports have beat sales and earnings but with very few “clean” reports. A rising tide has on outsized beneficial impact on the best fundamental companies – BURL, KORS, LULU and ULTA reporting this week.
Gap brand worsens. After gaining some momentum during the last two years, Gap brand began to struggle during holiday and performance was exacerbated by disruption in flows and weather issues. Gap comped -4% (vs. -4% last year) and contributed to overall merchandise margin deleverage of 180 bps. Although issues at Gap brand were known, the extent of which were a surprise. Old Navy reported a +3% but missed the Retail Metrics Consensus of +4% and Banana Republic, the smallest brand, actually continued to comp positively. Our proprietary promotional checks show that Old Navy was “flat” to last year on promotional activity, which suggests to us that there may not be merchandise margin upside to subsidize margin pressure at the Gap brand. What we are seeing with ON promos is consistent with a market share strategy to maximize gross margin dollars (over rate). While Old Navy and Athleta remain the strongest brands, and BR is now in recovery, we believe Gap brand needs to recover in order for the stock to outperform the sector in 2018. Thus, we remain Peer Perform.
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