Ralph Lauren Corporation (NYSE:RL) Q3 2023 Earnings Call Transcript

Ralph Lauren Corporation (NYSE:RL) Q3 2023 Earnings Call Transcript February 9, 2023

Operator: Ladies and gentlemen, thank you for standing by. Welcome to the Ralph Lauren Third Quarter Fiscal Year 2023 Earnings Call. As a reminder, this conference is being recorded. I’d now like to turn over the conference to our host, Ms. Corinna Van der Ghinst. Please go ahead.

Corinna Van der Ghinst: Good morning, and thank you for joining Ralph Lauren’s Third Quarter Fiscal 2023 Conference Call. With me today are Patrice Louvet, the company’s President and Chief Executive Officer; and Jane Nielsen, Chief Operating Officer and Chief Financial Officer. After prepared remarks, we will open up the call for your questions, which we ask that you limit to one per caller. During today’s call, we will be making some forward-looking statements within the meaning of the federal securities laws, including our financial outlook. Forward-looking statements are not guarantees and our actual results may differ materially from those expressed or implied in the forward-looking statements. Our expectations contain many risks and uncertainties.

Principal risks and uncertainties that could cause our results to differ materially from our current expectations are detailed in our SEC filings. To find disclosures and reconciliations of non-GAAP measures that we use when discussing our financial results, you should refer to this morning’s earnings release and to our SEC filings that can be found on our Investor Relations website. With that, I’ll turn the call over to Patrice.

Patrice Louvet: Thank you, Corinna. Good morning, everyone, and thank you for joining today’s call. We were pleased to deliver another quarter of better-than-expected performance, including through the important holiday season. All three regions contributed positively to revenue growth. And at the same time, we made strong progress on the strategic priorities we outlined last September in our Next Great Chapter: Accelerate plan. We have multiple levers of growth and a broad lifestyle portfolio of products. Combined with the agility muscle our teams have built over the last several years, this puts us in a position of strength to become the world’s leading luxury lifestyle company even amid macro uncertainty. A key element of this strategy is our commitment to brand and product elevation as we have demonstrated over the past five years, and we’re doing all this while maintaining flexibility to respond to consumer demand and market dynamics.

This translated to another quarter of double-digit AUR growth even as the broader marketplace became more promotional, as anticipated. We also continue to drive a culture of operating and cost discipline, which enabled us to meet our operating margin targets in the period. As our guidance reflected from the start of this fiscal year, the global environment has been choppy. We are encouraged that our core consumer has remained generally resilient, which reflects the growing desirability of our brand. At the same time, we continue to watch our more value-oriented customers and channels carefully. In this environment, we are taking a pragmatic approach to merchandising, pricing and inventory planning. As we navigate ongoing macro uncertainties, we remain steadfast in driving our three strategic pillars of long-term growth and value creation.

These are: first, elevate and energize our lifestyle brand; second, drive the core and expand for more; and third, win in key cities with our consumer ecosystem. Let me take you through a few of our third quarter highlights across each of these strategic pillars. First, on our efforts to elevate and energize our lifestyle brand. We continue to invest in our most powerful asset, our timeless luxury brand and way of life to inspire and engage our consumers and ultimately, drive lifetime value. We continue to build our brand desirability with consumers while also growing their value perception of our brand. This is enabling us to grow both market share and AUR. In the third quarter, we drove a diverse range of both global and localized brand activations, showcasing the Ralph Lauren lifestyle.

We kicked off the quarter with our California Dreaming Fashion Show at the Huntington Library in L.A. This represented our first ever show on the West Coast, where we have historically been underdeveloped and have an opportunity to scale our presence. From there, we launched into holiday with our Gift of Togetherness campaign, featuring friends of the brand like Shalom Harlow and Tyson Beckford. Our local flagship events range from a family-friendly pop-up skating rink in Ginza to live musical performances at Bond Street in London. These campaigns leverage our authentic brand values around family and togetherness combined with unique localized engagement to excite and delight our consumers around the world. For Polo lovers, we offered our 7 Days 7 Drops on our Polo 67 fan app with a limited edition collection of custom-made skis, vintage ski jackets and collectible posters from the RL archive.

In Asia, we drove another successful Singles Day event, ranking #2 for men’s apparel and #4 for women’s apparel on Tmall. The campaign included our first-ever Tmall cat-faced logo collaboration, generating billions of impressions across online and offline channels in China’s key cities. And as we continue to lead in gaming and the metaverse, we launched an innovative collaboration with Fortnite, targeted to next-gen consumers with additional exciting partnerships to come for spring and fall ’23. Together, these activations are both reengaging existing customers while also attracting younger full-price consumers to our business. In our DTC businesses, we added 1.6 million new consumers this quarter consistent with recent trends. We exceeded 51 million social media followers globally, a high single-digit increase to last year, led by double-digit growth on Instagram.

And our online search trends continue to significantly outpace our peers across our top markets globally, driven by our core categories. Moving to our second key initiative, drive the core and expand for more. Across our organization, we are committed to becoming the leading luxury lifestyle company globally. This starts with the work Ralph and our creative teams are doing every day to offer sophisticated, timeless products that meet the needs of our consumers across their modern lifestyles. Ralph Lauren has a unique positioning in the marketplace that has enabled our brands to thrive over 50 years. Our brand stands for much more than a single product or category. It invites our customers to step into their dream of a better life. At the heart of our business is our collection of iconic core products, which represent 70% of sales and remain a consistent driver of our business season after season.

Our core products grew high single digits in the third quarter, led by sweaters, seasonal core knits, sweatshirts and suit separates. Our core also establishes the foundation and credibility to grow our high-potential categories. These include women’s, outerwear and our emerging home business. Together, these high potential categories increased low teens in the quarter. Women’s represents our single largest long-term opportunity for market share gains and category growth as a company. We are trading her into the brand across categories to drive lifetime value and up to more elevated style with women’s AUR up 12% in the third quarter. Highlights from the period included our dedicated head to toe holiday campaigns for both Polo Women’s and Lauren, including the expansion of our Polo ID bags in new seasonal fabrications.

Other product highlights and special releases this quarter included the official launch of our Polo Originals line, elevating the upper tier of our core brand with high-quality AUR enhancing styles that pay homage to Polo’s roots, our exclusive Navy and gold logo collection capsule with influential Japanese retailer BEAMS, and our Fortnite collaboration with core icons featuring the new Llama player logo and our Polo Stadium collection of digital and physical products. Through these dynamic times, we continue to leverage the breadth of our brand and assortments to give consumers what they want as their lifestyles evolve. This enables us to flex from stay-at-home sweatshirts to return to work outfits, to wedding dresses and eveningwear. Switching to our third key initiative, win in key cities with our consumer ecosystem.

We continue to invest in our long-term strategy to develop our key city ecosystems around the world in the third quarter with a focus on elevating and connecting all our consumer touch points across every channel. Starting with digital. Third quarter sales for our total Ralph Lauren digital ecosystem, including our directly operated sites, department store dotcom, pure players and social commerce increased high single digits in constant currency. Our Asia digital ecosystem once again delivered the fastest growth globally. This included another strong Singles Day with double-digit new customer acquisition and sales, significantly outperforming our peers even as we grew AUR by 28%. Within our own digital sites, sales grew low double digits globally in the third quarter.

As part of our fully connected ecosystems, we also continue to open new physical stores that enable consumers to engage directly with our brands around the world. We opened 55 new stores in concessions, focused on our top cities globally this quarter, with the majority again in Asia, particularly the Chinese Mainland. Our brand momentum and opportunities in China remain strong. We reported third quarter Mainland sales up high single digits in constant currency. This was an encouraging result in light of widespread COVID disruptions following the relaxation of zero COVID policies in the period with over 90% of our stores impacted by foreclosures, reduced trading hours and staffing levels. As our dedicated teams on the ground continue to manage near-term disruptions with agility, we expect the countries reopening to be a net positive as we continue to strengthen our growing presence in this key market.

Elsewhere in the region, we continued to drive double-digit constant currency growth across Japan, Korea, Australia and Southeast Asia, where we opened our first Ralph’s Coffee experience in Kuala Lumpur this quarter. In addition to our sustained momentum across Asia, we remain bullish on our long-term growth opportunities and ability to strategically drive lifetime value across North America and Europe. In Q3, we opened our largest children’s store in the world on Via della Spiga in Milan. Located across from our flagship, we are now able to showcase the full breadth of our luxury lifestyle proposition in this important market. We also launched our first full-price emblematic store in Barcelona, another influential fashion market as we continue to build our connected ecosystems across the region.

And finally, touching briefly on our enablers. In addition to our strategic priorities, our business continued to be supported by our five key enablers. In the third quarter, we were proud to be recognized on Fast Company’s 2022 Brands That Matter list for our collaboration with Morehouse and Spelman Colleges launched last March. This ground-breaking partnership was just one example of our commitment to evolve how we portray the American Dream in the stories we tell and the faces and creators we champion. We were also recognized as one of Fortune’s World’s Most Admired Companies, moving from #6 last year to #2 this year for our sector. And on the sustainability front, we highlighted our first cradle-to-cradle certified product just a few weeks ago with our luxury gold Cashmere sweater.

A first-of-its-kind luxury product to achieve this global standard, this is just one part of our commitment to enable our past and future products to live on responsibly. This sweater is the first of five iconic products that we plan to make C2C certified by 2025. In closing, our strong performance through the first three quarters of the year underscores our consistency and strong execution. This is underpinned by the power of our brand and Ralph Lauren’s multiple drivers of long-term sustainable growth and value creation. Ralph and I are proud of our team’s continued agility, execution and productivity as we effectively navigate a dynamic global operating environment. Our focus on offense, agility and pragmatism continues to inspire our approach moving forward.

And I just want to take a moment to welcome our newest Board member, Wei Zhang, former President of Alibaba Pictures and SVP of Alibaba Group, who joined us this quarter. Her leadership experience across international business development, focusing on China, entertainment, media and corporate social responsibility make her a unique addition to our Board. With that, I’ll hand it over to Jane to discuss our financial results, and I’ll join her at the end to answer your questions.

Jane Nielsen: Thank you, Patrice, and good morning, everyone. We are encouraged by our strong early progress on our Next Great Chapter: Accelerate plan. We leveraged our multiple strategic drivers and superior operational capabilities to deliver third quarter results ahead of our expectations. We drove another quarter of solid top line growth, with Q3 revenues up 1% on a reported basis and 7% in constant currency, above our outlook. All three regions delivered positive revenue growth on both a reported and constant currency basis as well as positive retail comp growth. Operating margin was at the high end of our guidance with strong expense discipline more than offsetting lower-than-expected gross margin. Operating with discipline has been and will continue to be a cornerstone of our long-term strategic plan with productivity helping to fuel our investments in sustainable long-term growth.

Exiting the quarter, we continue to leverage the strength of our balance sheet, which has served us well through times of uncertainty. We believe our elevated brand, clear strategy and targeted investments combined with our culture of operating discipline and fortress foundation enablers, put us in a position of strength to continue to drive long-term value creation. Let me take you through our third quarter financial highlights. Total company revenues increased 7% in constant currency, above our low to mid-single-digit outlook, led by double-digit growth in Asia and Europe. Guidance and results included a timing shift with the week between Christmas and New Year’s moving back into the third quarter from the fourth quarter last year due to the 53rd week in fiscal ’22.

This benefited this year’s Q3 sales by about 130 basis points, which should negatively impact our smaller fourth quarter by an estimated 170 basis points. Ralph Lauren digital ecosystem sales grew high single digits in constant currency and more than 40% on a two-year stack. With our owned Ralph Lauren digital sites, sales grew 10% on top of more than 30% growth last year. We continue to elevate and expand the breadth of our offering online while enhancing the user experience with a rich digital content. We are also driving further improvements in quality of sales with an increase in full price sales penetration and digital margins strongly accretive to our overall profitability in the quarter. Note that the fiscal quarter shift benefited our own digital sales by about 2 points in Q3 and should negatively impact Q4 by about 3 points.

We continue to deliver gross margin expansion in constant currency this quarter, consistent with our long-term guidance. Total company adjusted gross margin was 65.2%, down 80 basis points to last year on a reported basis, but up 80 basis points in constant currency. The increase was driven by product mix elevation with AUR up 10% on top of 19% growth last year and lower air freight reliance following last year’s supply chain disruptions. While we continue to drive our long-term brand elevation strategy, gross margins were below our expectations this holiday driven by: first, targeted outlet promotions in North America to drive conversion with our value-oriented consumers; second, stronger-than-expected post-Christmas sale days, which shifted into the third quarter from Q4 last year; and finally, higher duty costs in Europe.

Compared to fiscal ’20 pre-pandemic levels, adjusted gross margin was still 300 basis points higher in the third quarter. Our better-than-expected revenues and operating expense discipline in the third quarter also enabled us to deliver operating margins at the top of our guidance range. Adjusted operating margin was 16% on a reported basis and 17.8% in constant currency, representing a 190 basis point constant currency increase to last year. Adjusted operating expenses declined 1%, including a marketing expense decline of 8% over last year’s disproportionately back half-weighted spend. Marketing was 7.3% of sales compared to 8.1% in the prior year period. As Patrice mentioned, operational excellence remains a key element of our fortress foundation, and we remain sharply focused on operating expense discipline even as we continue to invest behind our brands and targeted global expansion to drive long-term sustainable growth.

Moving to segment performance, starting with North America. Third quarter revenues grew 1% as stronger direct-to-consumer performance more than offset a slight decline in wholesale, as anticipated. The shift of post-Christmas days benefited our performance by about 190 basis points in the quarter. This shift should negatively impact our fourth quarter sales by about 270 basis points. In addition, the absence of last year’s 53rd week is expected to negatively impact North America by another 460 basis points in Q4. In North America retail, third quarter comps grew 2% on top of a strong 38% COVID reopening compare last year. While we were encouraged by another quarter of positive comp growth in our full-price stores, this was offset by softer performance in our outlets as anticipated in our guidance.

Our outlet AUR was up high single digits, reflecting our ongoing brand and product elevation in the channel. However, we continued to see softness in our value-oriented consumers. We are focused on driving a strong value proposition to the consumer, which includes expanded category assortments, enhanced selling environments and targeted communications. Our fiscal ’23 outlook still assumes caution in this channel through the rest of the year. Comps in our owned ralphlauren.com site increased 9% and more than 40% on a two-year stack, driven by strong performance in core product, tailored styles and footwear. Digital AUR increased on continued product mix elevation. In North America wholesale, revenues declined 2% to last year. As we discussed in November, the decline was entirely driven by a customs delay, which resulted in missed Q3 shipment windows, representing about 3 points of negative impact.

As expected, we also saw a slowdown in replenishment trends as our partners focus on keeping inventories clean heading into the new year. Outside of this, our positioning in the wholesale channel remains competitively strong. We gained market share across men’s, women’s and kids in key partners, and our AUR and wholesale grew 10% on continued product elevation. Promotions on our brands at wholesale were largely aligned with our expectations going into the season. Inventories at wholesale are now normalized following last year’s supply chain disruption, and we have experienced minimal cancellations to date for spring ’23. We still expect wholesale to be up in the fourth quarter of fiscal ’23, despite our more cautious view on replenishment and our spring ’23 inventory buys.

Moving on to Europe. Third quarter revenue increased 1% on a reported basis and 13% in constant currency. This 13% growth included about 450 basis points of benefit from the post-Christmas timing shift as well as a wholesale allowance benefit recognized in the quarter. We estimate the timing shift will negatively impact the smaller fourth quarter by about 120 basis points in Europe. Q3 European retail comps increased 11% on top of a 55% compare last year. Brick-and-mortar comps also up 11%, benefited from lapping the start of last year’s Omicron variant as well as the post-Christmas sales shift into Q3. AUR increased 12% with gains in both brick-and-mortar and digital AUR. Total digital ecosystem grew mid-single digits in the quarter, with low double-digit growth in owned digital commerce and wholesale dotcom more than offsetting softer pure-play results as anticipated.

Europe wholesale declined 1% on a reported basis, but grew 11% in constant currency. This was ahead of our expectations, driven by roughly 8 points benefit related to lower-than-anticipated wholesale allowances as well as stronger spring ’23 shipments and fill rates, more than offsetting softer reorder trends. Note that our wholesale outlook continues to embed a notable deceleration through Q4 based on challenging compares and macro headwinds. Overall, while our Europe business has performed better than expected through the first 3 quarters of the year, we remain cautious on the remainder of fiscal ’23 into fiscal ’24, given dynamic macro conditions across the region. Turning to Asia. Revenue increased 1% on a reported basis and 16% in constant currency, a strong result given significant COVID outbreaks in the Chinese Mainland as well as higher infection rates in Japan.

Asia retail comps were up 8% with balanced growth across digital commerce and brick-and-mortar stores. By market, third quarter sales in Japan and Korea each increased mid-teens in constant currency. Australia, New Zealand and Southeast Asia were up more than 25% and 50%, respectively. The Chinese Mainland was up 7%, despite the significant COVID impacts Patrice mentioned, while Hong Kong, Macau and Taiwan grew low teens in the quarter. We returned to full operations in the Mainland by mid-January. And while our teams are prepared to manage through further disruptions, we are encouraged by the continued resilience and strength of our consumer and brand momentum in China along with the rest of Asia. Moving on to the balance. Our balance sheet continues to be an important element of our Fortress Foundation, enabling us to balance strategic investments in our brand and business with returning cash to shareholders even through dynamic times.

Through the third quarter, we returned approximately $560 million in the form of our dividend and share repurchases year-to-date. We ended the period with $1.7 billion in cash and short-term investments and $1.1 billion in total debt. Net inventory increased 33%, moderating from first half trends as we reduced goods in transit and significantly improved our lead times from last year’s global supply chain delays. Inventory growth still reflects earlier timing of receipts, higher product costs and our strategy of product mix elevation. Nevertheless, we still expect to end fiscal ’23 with inventory more closely aligned to sales growth. We continue to manage our inventory position fund with the majority still weighted to core and seasonless product.

This gives us greater flexibility to adjust future production levels and allocate product to the channels and geographies with the strongest demand. We also continue to make meaningful improvements in transit times as we move through this year. Looking ahead, our outlook is based on the evolving macro environment, including inflationary pressures, disruptions in the global supply chain, COVID-19, foreign currency volatility and the war in the Ukraine. We continue to plan across a range of scenarios, and our guidance represents our best assessment of market conditions and resulting consumer impacts. For fiscal ’23, we are maintaining our full year outlook in constant currency with revenues expected to increase high single digits or about 8% on a 52-week comparable basis.

Our outlook continues to assume a challenging consumer backdrop in Europe and North America. We now expect foreign currency to negatively impact revenues by approximately 600 basis points. We expect operating margin of approximately 13.5% to 14% in constant currency compared to our prior outlook of about 14%. This is based on a more modest level of gross margin expansion in the second half of the year as we keep inventories current and align to demand. Foreign currency is now expected to negatively impact operating margin by about 180 basis points. This compares to operating margin of 13.1% on a 52-week basis and 13.4% on a 53-week basis last year, both on a reported basis. Gross margin is now expected to be flattish to last year on a constant currency basis.

We plan to continue driving stronger AUR and favorable product mix to offset increased product costs. Foreign currency is now expected to negatively impact gross margins by about 150 basis points in fiscal ’23. For the fourth quarter, on a 13-week comparable basis, we expect constant currency revenue growth of about mid- to high single digits. On a reported basis, which includes the impact of last year’s 53rd week, we expect revenues to be up 1% and 2% in constant currency. Foreign currency is expected to negatively impact revenue growth by approximately 500 basis points. Our outlook also includes about 170 basis points of negative impact from the week after Christmas shifting into fiscal Q3 from Q4 last year. We expect fourth quarter operating margin of about 5.5% in constant currency.

This represents a roughly 190 basis point increase to last year, driven primarily by operating expense leverage as we normalize our cadence of marketing spend versus last year. Foreign currency is expected to negatively impact operating margin by about 160 basis points in the quarter. We expect constant currency gross margins to be about flat in Q4. This implies roughly 50 basis points of expansion on a 13-week comparable basis. Foreign currency is expected to negatively impact gross margin in the quarter by about 140 basis points. We now expect our tax rate in the range of 24% to 25% for the full year and estimate a roughly 29% tax rate for the fourth quarter. Though this could vary widely as Q4 is our smallest quarter and highly dependent on mix and discrete items.

And lastly, we now expect capital expenditures in the range of $240 million to $250 million based on the timing of build-out. In closing, our teams around the world are operating with agility and executing strongly, driving continued progress on our Next Great Chapter: Accelerate plan. This is a testament to the power of our iconic brand that Ralph created over 50 years ago, and the strength of our Fortress Foundation coupled with diversified engines of growth across product categories, geographies and channels. And with that, let’s open up the call for your questions.

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Q&A Session

Operator: The first question comes from Dana Telsey with Telsey Advisory Group.

Dana Telsey : Good morning, everyone, and nice to see the progress. Certainly seems that there’s still a lot of moving pieces on the macro side and you beat again on top line this quarter while continuing to grow AUR, as the environment has become more promotional. Just bigger picture, can you talk about what gives you the confidence that your elevation strategy can continue to work in a less favorable macro or pricing backdrop? And along those lines, any expansion on your thoughts on the health of the consumer in the wholesale channel in different regions, and what you’re seeing in your own retail DTC business with the health of the consumer?

Patrice Louvet : Good morning, Dana. Thanks for your question. Listen, Ralph, Jane and I are really proud of our company’s outperformance this year to date. As you mentioned, the macro environment certainly continues to be quite choppy, but I think we’re used to that by now. Our teams have built this incredible agility muscle over the past few years, if you kind of reflect on what we’ve worked through COVID, inflation and now a relatively promotional environment. So this agility gives us confidence looking ahead, but it’s that agility plus other three things that I would really call out. The first one, and it touches on your second question is, our core consumer remains quite resilient. And that’s true around the world, and that’s true across channels.

And as you know, we’ve done a lot of work over the past few years to evolve our customer base to bring in a higher value, younger customer that played out again this past quarter, 1.6 million new consumers, higher value, less price-sensitive, younger consumer. The second point is our diverse growth strategy that has multiple growth levers, and we constantly challenge ourselves to make sure they’re still relevant in the environment that we are operating in and looking ahead, and we believe they are as relevant as ever, even in a tougher environment. What do I mean by that? Well, you can look at our opportunities to grow across regions, right? We have significant growth opportunities, of course, across Asia, including in China, in particular, but also in key cities across North America and in Europe.

On the product front, we have a very wide lifestyle portfolio, and so that enables us to drive our core. You saw our core did quite well this past quarter, up high single digits, but also go after high potential categories like women’s up mid-teens this quarter and outerwear up high single digits. And then the third point is really around flexibility, right? And two things I would call out here. One is because of this breadth of product portfolio, we can really flex up and down. You’ve seen us do that over the past few years based on where the consumer desires, wants, needs are. And I’m sure we’ll have the opportunity today to talk a little bit more about products and what we’re seeing. But this ability to flex, I think, is quite unique, and it’s a real strength for our company.

The other thing is our elevation journey, means our pricing structure has built in flexibility, right? If you look back since the start of this elevation phase, our AUR is up close to 70%, which means we can still react to the competitive environment, including when it gets more promotional without walking back our overall brand elevation strategy. I was really encouraged to see our AUR performance again this quarter, up 10%, bringing in more consumers, driving strong topline growth in what is pretty clearly a more aggressive promotional environment. And then underlying our diverse and flexible growth drivers are two critical things: one is our ongoing productivity work, which is as relevant as ever; and the second is our fortress balance sheet.