Edited Transcript of LE earnings conference call or presentation 4-Jun-19 12:30pm GMT

Additionally, we voluntarily prepaid $100 million of our term loan with excess cash on hand, further strengthening our balance sheet. As a result of the debt reduction, we are adjusting our net income guidance to reflect the positive impact of interest expense savings. Jim will provide details on our guidance.

The continued progress we’re making across our numerous growth initiatives put us on track to achieve our stated long-term objectives of $1.8 billion to $2 billion in revenue and high-single-digit EBITDA margin. I’d like to take this opportunity to elaborate on our strategies to achieve these goals.

Our growth strategy is centered around getting the product right: operating as a digitally led company; executing a uni-channel strategy; and improving business processes and infrastructure. We believe these strategies will enable us to successfully grow e-commerce, develop our uni-channel capabilities and reach and expand our Outfitters business.

All of our growth initiatives begin with getting the product right. We believe our growth will be driven, first and foremost, by the continued optimization of our product assortments focused on our key item strategy. Our goal is to retain our core customers and attract new customers to Lands’ End by delivering product for the purpose that offers great value to our customer. We want to be our customers’ destination for our core categories, which includes swim, outerwear, knits and bottoms.

We are driving our product strategy through 4 main objectives that we articulate as: own the water; own the weather; layers, layers, layers; and we fit every body. Central to our product initiative is our commitment to inclusion by meeting all of our customers’ needs.

We continue to leverage our data to align our assortment with customer preferences and determine the optimal product mix. The efforts we put behind these objectives are reflected in the strong performance of our knits, bottoms and outerwear categories during the first quarter. For example, in bottoms, we’re building off what the data tells us by adding patterns, different leg shapes, more waistline options and successful fabrications as well as introducing a variety of washes to our denim assortment. We also remain focused on the fit to ensure consistency across all of our bottoms businesses.

In addition, our initiatives to increase speed to market will position us to make more informed product decisions and operate with leaner and fresher inventory.

Looking ahead, we will maintain our focus on aligning our assortment with our customers’ needs and preferences and that our foundation is our commitment to consistently deliver strong value and service for our customers.

Regarding our distribution strategy, our goal is to offer our products however, wherever and whenever our customer wants to shop, whether through e-commerce or brick-and-mortar stores. At Lands’ End, our e-commerce business represents over 90% of our direct-to-consumer sales. While industry-wide, only 25% of all apparel sales occur online, digitally native brands are recognizing that there is a value in having a storefront presence. Our digital customers want to shop our brand in brick-and-mortar stores as a way to enhance their digital experience. These stores enable us to showcase our assortment, presented by well-trained sales associates, providing us with the opportunity to further engage our customer with the brand as well as our product look, feel and features. In addition to providing greater convenience for our customers, we know the customers who shop in more than one channel of a brand by the most productive customers. Our stores also represent a powerful brand and marketing tool, and we remain very disciplined on how we expand our footprint to leverage our strong brand and heritage.

We are encouraged by the performance of our current store base, and we’ll continue to evolve our retail model as we evaluate performance and apply our learnings to existing and new stores. The majority of our store openings will be in high-quality, open-air locations where our target customer shops. To be clear, we are and will remain an e-commerce-led direct-to-consumer company, but in support of our uni-channel strategy, we will also be aware of customers who want to shop and provide a consistent customer experience across all channels.

During the first quarter, we opened 3 stores to end the quarter with 19 U.S. stores. For fiscal 2019, we plan to open 7 to 9 stores to end the year at 26 to 28 locations. By the end of 2022, we are currently targeting 60 to 70 stores in select locations with store economics that generate attractive 4-wall contribution margins.

Next, we continue to enhance and leverage our strong digital presence to drive traffic and conversion. We’re focused on maintaining our connection with our current customers and attracting new and lapsed customers to Lands’ End. Our buyer file is healthy with growth in the quarter driven by new customer acquisition.

During the quarter, we saw positive results from our continued efforts around search engine optimization as we leverage key categories to increase our visibility and discovery by customers searching for products that fit their needs. When our customers search for products, we consistently appear early on the search results. Our strategy to match relevant products based on customer behavior enables us to optimize investments across media to continue to grow our customer file.

Additionally, we remain focused on providing a strong value proposition to our customers through pricing and promotions. In our ongoing efforts to improve margin, we were evaluating how AI-based algorithms can determine the optimal offer to place on a given item to drive the best response from our customer. While still early, we’re pleased with the results, and we’ll continue to test and learn through the spring/summer season with the goal of having our dynamic promotion model in place for holiday peak.

We also continue to enhance our smartphone experience. Our mobile traffic increased 25% during the first quarter. As we noted on our last call, in the fourth quarter of 2018, mobile traffic exceeded desktop traffic for the first time. That was the case again in the first quarter of 2019, with mobile traffic exceeding desktop traffic by an even wider margin, and we expect that trend to continue through the year. This is particularly exciting heading into the back-to-school season as we know the smartphone is a busy parent’s preferred device. We made improvements to our mobile site speed in the first quarter. And over the next several quarters, we’ll increase our efforts to further improve site speed and optimize our mobile experience.

Our Outfitters business is an integral part of our revenue growth strategy. While this business generate some sales volatility due to periodic launches and major programs, it represents a significant growth driver for our company. Business Outfitters consist of corporate uniform accounts and our school uniforms business. We view the corporate uniform business as a great opportunity for growth. We were extremely pleased with the success of our Delta launch, and we believe this solidified our standing as a major player serving enterprise-wide uniforms’ need. As we’ve discussed on past calls, we have American Airlines scheduled to launch in the fourth quarter, which will further illustrate our capabilities in the uniform business. We will continue to leverage these and other successful relationships as we strive to win new accounts and deepen relationships with existing partners. In addition, we are planning for more modest organic growth in our school uniform business driven by both existing relationships as well as the addition of new accounts.

Lastly, I will touch on our plans to improve profitability. As our top line grows, we believe we can scale our SG&A spend appropriately to meet our long-term EBITDA margin goals. We also see opportunities to reduce overall costs through the benefits of the IT investments we are making now in projects, such as order management and through the realization of greater business process efficiencies.

In conclusion, we’re well positioned to drive revenue growth through our direct business with retention of our core customers and new customer acquisition, retail expansion and the opportunities ahead for our Outfitters business. I’m very pleased with the progress we’ve made throughout the business. And looking ahead, we’ll remain focused on executing across our 4 strategic pillars of product, digital, uni-channel distribution and business process improvement. Overall, we remain on track to achieve our long-term goals, and I look forward to providing you with an update next quarter.

With that, I’ll turn it over to Jim to review our financial performance and review our outlook for the second quarter and the full year.

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James Frederick Gooch, Lands’ End, Inc. – Executive VP, COO, CFO & Treasurer [4]

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Thank you, Jerome, and good morning. As Jerome mentioned, we’re pleased with the strong start to fiscal 2019. We saw strength in our U.S. e-commerce and retail businesses, although total company revenue and EBITDA declined as we not only anniversaried the Delta launch last year, but also operated 120 fewer Lands’ End Shops at Sears. The U.S. e-commerce business increased 8.1%, and comps at our U.S. company-operated stores increased 12%.

For the first quarter, total company revenue decreased 12.5% to $262.4 million compared to $299.8 million in the same period last year. Excluding the impact of sales from the Delta launch last year and our Sears performance, revenue would have increased 3.4%.

We saw solid performance across most of our categories with particular strength in knit tops, bottoms and home as we continue to focus on delivering relevant, high-quality product at great value to our customers.

Beginning with our retail business, as I said, we drove strong performance on our U.S. stores, delivering a 12% comp store growth for the quarter. We saw customers respond very favorably to our product assortment across most categories with particular strength in bottoms and knit tops.

During the quarter, we opened 3 new stores and ended the quarter with 19 U.S. company-operated stores. As Jerome mentioned, we’re encouraged with the performance of our new stores and plan to open an additional 7 to 9 stores this year.

Overall sales on our retail business did decrease by $16 million to $10.4 million. As expected, sales within our retail business continue to be impacted by Sears closings with 120 fewer locations compared to the same period of last year. We ended the quarter with 39 shops at Sears, all of which have leases expiring by the end of 2020.

Within Outfitters, sales declined when compared with the Delta launch from last year. As you will recall, we shipped approximately half of the launch order in the first quarter of 2018 and we shipped approximately 25% of the launch in the second quarter of 2018.

Looking ahead, we are making continued progress on our American Airlines launch, which is still being estimated to be between $40 million and $50 million, with the majority expected to occur in the fourth quarter of 2019.

Gross margin in the first quarter increased approximately 130 basis points from last year to 45.7%. The gross margin expansion was primarily related to the inclusion of the lower-margin Delta launch in the same period last year combined with meaningful gross margin improvement in both our retail and international businesses. Our continued improvement in inventory management is driving increase efficiencies and better full-priced selling mix, resulting in improved gross margins.

Selling and administrative expenses decreased by $7.2 million to $116.8 million primarily due to the decrease in the number of Sears locations and the nonrecurrence of expenses associated with the Delta launch last year.

Depreciation increased by $1.4 million to $7.6 million, largely due to our multiyear ERP implementation and investments in our digital infrastructure.

We recorded other income of $0.9 million in the first quarter of 2019 compared to $3.9 million of expense in the prior year. The prior year expense was primarily driven by the reduction of indemnification assets from Sears Holdings related to the reassessment of tax liabilities.

Income tax was a benefit of $4.9 million for the quarter compared to a $5.6 million benefit in the first quarter of 2018. The tax benefit this year is principally the result of the change in status of certain foreign entities for U.S. tax purposes. The prior year tax benefit is principally the result of a favorable state tax audit settlement and tax reform. We expect the tax rate to be approximately 27% for the remainder of the year.

Net loss for the quarter was $6.8 million or $0.21 per share compared to a net loss of $2.6 million or $0.08 per share last year.

In addition to the GAAP measures that we outlined above, adjusted EBITDA is an important profitability measure that we use to manage our business internally. For the quarter, adjusted EBITDA was $3 million, which was at the high end of our prior guidance range.

Turning to the balance sheet. Total cash at the end of the quarter was $40.2 million compared to $141.6 million last year as we voluntarily prepaid $100 million of our term loan facility at the end of the quarter. Our $4.9 million improvement in operating cash flow was a result of improved working capital management. Inventories at the end of the quarter were $319.3 million, that’s up $14.8 million or 4.9% compared to the end of the first quarter of last year.

As you may recall, in the second quarter of last year, we were under inventory than seasonal product, which negatively impacted sales. Entering the second quarter this year, we have appropriately planned inventory from both the quantity and mix perspective and are well positioned to meet demand for the spring/summer selling season.

Net long-term debt decreased to $381.5 million compared to $485.3 million last year due to the $100 million voluntary loan prepayment and quarterly principal payments.

We’re also pleased to note that S&P upgraded our overall corporate and term-loan credit rating to a B from a B- in early May. The upgrade was based not only on our debt repayment, but also as S&P’s stated expectation that our operating performance will continue to improve.

Now I’d like to spend a few minutes discussing our IT initiatives. We’re finalizing our ERP implementation with the assortment planning and inventory planning modular, or APIP. With the completion of our ERP system, we’ll be able to build on that backbone and improve the way we process and fulfill orders across our entire enterprise. Later this year, we’ll begin rolling out our enterprise order management system, which will provide us with realtime global visibility of our inventory. It will enable us to improve our inventory productivity and allow for numerous fulfillment options, such as buy online and pick up in store. It will also allow us to better plan and forecast inventory, which should result in an improvement in working capital as well as provide us with greater visibilities around promotional productivity, which should also benefit gross margins.

Before turning to guidance, I want to take a moment to provide our thoughts on the most recent tariff news. The first tranches that were enacted did not have a material impact on our business, and they are incorporated into our guidance. We would see a more meaningful impact of tariffs if it were to be placed on all Chinese imports. However, we continue to look at measures to offset any potential tariff increase, including negotiating pricing with our vendor base, moving production out of China, passing through some of the cost to the customer and looking at other savings opportunities on our business to offset any potential additional cost pressures.

Turning to our guidance. For the full year, we continue to expect net revenue to be between $1.45 billion and $1.5 billion driven by growth in our direct-to-consumer and Outfitter business combined with 10 to 12 new store openings, partially offset by the reduction of our Lands’ End Shops at Sears locations. Revenue growth will be greater in the back half of the year as we anticipate the launch of the new American Airlines program in the fourth quarter. We now expect net income to be between $10 million and $16 million, and diluted earnings per share to be between $0.30 and $0.50, which includes the impact of interest savings with $100 million we prepaid on the term loan.

As a reminder, we plan to spend an incremental $10 million to $15 million in marketing in 2019 compared to 2018 as part of our long-term strategy to drive brand awareness and new customer acquisition, with the majority of the spend occurring in the second half.

We continue to expect adjusted EBITDA in the range of $70 million to $80 million. We’re expecting modest gross margin expansion driven by improved inventory management as well as a greater SG&A leverage in the fourth quarter due to the American Airlines launch.

Finally, we expect CapEx of $35 million to $45 million driven by our new enterprise order management system and additional store openings.

For the second quarter, we expect net revenue to be between $285 million and $295 million driven by continued growth on our e-commerce business, offset by 109 fewer shops at Sears compared to last year.

We expect a net loss of $7.5 million to $5 million and diluted loss per share to be between $0.23 and $0.16. We expect adjusted EBITDA to be in the range of $4 million to $7 million.

And with that, we’ll open up the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Alex Fuhrman of Craig-Hallum Capital Group.

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Alex Joseph Fuhrman, Craig-Hallum Capital Group LLC, Research Division – Senior Research Analyst [2]

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And congratulations on another strong quarter here. Wanted to ask about some of the initiatives that you’re making to really make the company more digital-first and mobile-first. And I know you’ve talked about today improving the site speed on your mobile site and other initiatives, improving the way that you can attract organic search and things like that. And just curious if you can kind of give us a sense of how far along you are on some of those initiatives. I know those are things you’ve been working on for a little while. Sounds like some of these things are starting to generate positive results for you. I’m just curious how far you are in terms of time and then also just in terms of expense on some of these initiatives that you’re going forward.

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Jerome Squire Griffith, Lands’ End, Inc. – CEO, President & Director [3]

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Al, it’s Jerome. I think as you look at last year and some of the work that we did last year, particularly with dynamic pricing, particularly with search, you saw some pretty good results going into quarter 3 and quarter 4. Some of that has continued into this year. Customer behavior continues to shift somewhat from desktop or laptop and then into mobile. We think there’s a lot of opportunity for us on mobile with our product display pages and being able to get their product in front of the consumer faster, making it easier for them to check out. As you know, there’s really no end of technological advancements out there, so we think this is going to be long term for us. But we didn’t like it when it comes to expense. We’ve spent a very large amount of money over the last 2 years on our back-front system. ERP is complete now. EOM is under way. Those are bigger expenses than continuing to manage our website and upgrade the speed or upgrade the flexibility of your website, so we think the bigger costs for us are kind of behind us. But we will see continued investment into our website going forward. That’s not going to stop. And as customer behavior continues to evolve, we’ll evolve right along with it.

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Alex Joseph Fuhrman, Craig-Hallum Capital Group LLC, Research Division – Senior Research Analyst [4]

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Great. That’s really helpful. And then if we could switch gears maybe and ask about just uses of cash. Obviously, you paid down a big chunk of debt just about a month ago. Sounds like you’re also pretty optimistic about the new stores you’ve been opening and looking to open 50, 60 new stores over the next few years. So just curious how you think about deploying your cash flow, I mean, going forward. Might we see another chunk of debt that gets repaid? Or at this point, should we think about your cash more going to some of those new store openings?

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James Frederick Gooch, Lands’ End, Inc. – Executive VP, COO, CFO & Treasurer [5]

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Yes. Alex, Jim. Yes, I think from a debt perspective, we’re starting conversations right now to look what — to look at what that refinancing will look and will probably advance it probably in the next 12 months or so. As far as uses of cash going forward, as Jerome mentioned, we have our largest behind us, which was the ERP implementation with the finalization of that and APIP. That puts that multiyear rollout behind us. What we now have on our play is our EOM or our order management system. That will be over the next 12 months, start smaller than certainly what the ERP was and then were scoping out the WMS. And then besides that, you hit on that we have our new store rollouts and we have the expenses and the capital spend on what we’re doing from a digital perspective. But all of those, individually, are certainly smaller than what the ERP, and we think we can do all of those in the CapEx guidance that we’ve given.

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Alex Joseph Fuhrman, Craig-Hallum Capital Group LLC, Research Division – Senior Research Analyst [6]

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That’s really helpful. And then lastly, if I could just ask about swim. Sounds like a number of different merchandising and design initiatives that are under way for that category. This year, obviously, we can see your Q2 guidance and your full year guidance, which I’m sure you incorporate everything that’s been going on, but just any learnings that you can share with us on what the reception has been to your swim collection just given how big of a category that is for you. And curious if there is a good read you’ve been able to have on the design and change that you made for that category.

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Jerome Squire Griffith, Lands’ End, Inc. – CEO, President & Director [7]

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It’s really GIM driven, Alex. Board shorts, tankinis, seamless tanks seem to be the things that continue to resonate with customers. Our customers also like color and pattern quite a lot. I think for quarter 1, the weather was a bit cold for swim. We did extremely well in other product categories with layering and with — even with rainwear and bottoms. But we see swim probably picking up a bit more going into the second quarter as things get a little bit warmer. Last week, it was pretty decent. So we still feel pretty good. We’re in a much better inventory position this year than we were last year and feel pretty good about where we’re going to finish the quarter right now.

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Operator [8]

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And our next question comes from Steve Marotta of CL King & Associates.

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Steven Louis Marotta, CL King & Associates, Inc., Research Division – Senior VP of Equity Research & Senior Research Analyst [9]

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First, Jim, from exposure to China standpoint, you mentioned the potential obviously of tariffs and mitigating factors. What is your specific exposure to China now on domestic COGS? And I’ll start there. And where do you think it will be at the end of the year?

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James Frederick Gooch, Lands’ End, Inc. – Executive VP, COO, CFO & Treasurer [10]

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We’ve been as high out in the 40% range. Moving through this year, we’re going to end probably lower — in the lower 30s. And as we move into this year, we anticipate moving that even lower, probably into the mid-25% range, somewhere in there.

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Steven Louis Marotta, CL King & Associates, Inc., Research Division – Senior VP of Equity Research & Senior Research Analyst [11]

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Okay. That’s very helpful. And as it pertains to speed to market, you mentioned earlier on the call that you’re endeavoring to shorten that product cycle and sort of product initiations. Can you talk a little bit about where you are now and where you expect to be towards year-end?

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Jerome Squire Griffith, Lands’ End, Inc. – CEO, President & Director [12]

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Yes. We ended up, through 2018, shaving off somewhere 20%, 25% of the time that it took us to get product to market. We’re working with some outside people to help us right now continue to shave that down. It kind of depends on what type of product you’re looking at, Steve, because we’ve kind of bucketed things into 3 areas. We’ve got product, which are basics we carry day in and day out. We’ve got products which are seasonal items, which come in for 6 to 9 months and then fashion items. So we’ll look at different time frames for each one of those with the thought that it’s going to help us continue to free up capital and continue to have us help manage our inventory in a better, more productive way. And we’ve — as you’ve seen, we’ve continue to whittle down old inventory over the course of the last several quarters. I think the guys have done a pretty good job at it, but there is still ways to go. And we’ll continue to work at that, making ourselves more productive.

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Steven Louis Marotta, CL King & Associates, Inc., Research Division – Senior VP of Equity Research & Senior Research Analyst [13]

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Okay. That’s helpful. Also it’s been widely reported across the retail space in the first quarter was pretty difficult with a little bit of inventory backing up in the system. Promotions are ticking up. Can you talk a little bit about the environment that you find yourself in that, vis-à-vis competitors, how much promotional stands, if you will, is provided in the second quarter guidance and where you think things shake out by the time back-to-school comes around?

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Jerome Squire Griffith, Lands’ End, Inc. – CEO, President & Director [14]

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Well, my feeling is for quarter 1, we actually came through the quarter positively okay. I mean, our largest business, which is our U.S. direct business, was up in the high single digits. So I think that was pretty good, double-digit comps our own stores. I think that was also pretty good. And overall, our margins ticked up a little bit. But I’ve got to say, I still see a pretty promotional environment out there. Customers are a lot more well informed than they have been in the last few years. I think our biggest initiative, which is dynamic promotion, is under way. We’re still testing a lot of stuff. We see ourselves testing a lot through the summer to get ready and see what we can really implement well for Q3 and Q4 sales for this year. I think back to school every year gets a little bit tougher, quite honestly. You have x amount of students and it’s not like it’s growing. It’s huge out there, so you’re generally taking business from somebody else. I think it will be a relatively promotional time period, yet again, as we have seen in the past. And I don’t think that there’s any signs of that changing out there.

If you look at the retail environment, I think the tariff discussions have been difficult for some people. I think that’s hurt people’s bottom line. It definitely hurt what the valuations have been on the market. And whether that’s right or wrong, it is what it is for the time being. And you’re going to have to manage yourself through the rest of the year. As you guys saw last year, the beginning of the year is a little bit slower. That part of the year ticks up a bit when people get into the buying mode. And we expect to see that again this year.

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James Frederick Gooch, Lands’ End, Inc. – Executive VP, COO, CFO & Treasurer [15]

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Steve, I think of a couple things to go on top of that. That promotional environment, we feel like we’ve included that into our guidance. We don’t anticipate it getting any better in the second quarter and really throughout the rest of this year.

As it relates to your comment on inventory, you can see that our inventory is higher year-over-year. But if go back to last year, you’ll recall that we were very light on inventory coming out of the second quarter and then — coming out of the first quarter and into the second quarter. And we specifically talked about how that negatively impacted our top line sales. So we’re very comfortable with where we are not only from quantity, but from a mix and from a quality of inventory. Jerome mentioned our aged inventory were really at an all-time low with our inventory over one year old. So we do have more inventory year-over-year, but we feel like we’re in a much better in-stock position.

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Operator [16]

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And this does conclude our question-and-answer session. Ladies and gentlemen, thank you for participating in today’s conference. This concludes today’s program. You may all disconnect. Everyone, have a great day.