Urban Outfitters, Inc. (NASDAQ:URBN) Q2 2024 Earnings Call Transcript

Urban Outfitters, Inc. (NASDAQ:URBN) Q2 2024 Earnings Call Transcript August 22, 2023

Urban Outfitters, Inc. beats earnings expectations. Reported EPS is $1.1, expectations were $0.89.

Operator: Good day, ladies and gentlemen, and welcome to the Urban Outfitters, Inc. Second Quarter Fiscal ’24 Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this conference is being recorded. I would now like to introduce on Oona McCullough, Executive Director of Investor Relations. Ma’am, you may begin.

Oona McCullough: Good afternoon, and welcome to the URBN second quarter fiscal 2024 conference call. Earlier this afternoon, the company issued a press release outlining the financial and operating results for the three and six month period ending July 31, 2023. The following discussions may include forward-looking statements. Please note that actual results may differ materially from those statements. Additional information concerning factors that could cause actual results to differ materially from projected results is contained in the company’s filings with the Securities and Exchange Commission. On today’s call, you will hear from Richard Hayne, Chief Executive Officer, URBN; Tricia Smith, Global CEO, Anthropologie Group; Frank Conforti, Co-President and COO, URBN; and Melanie Marein-Efron, Chief Financial Officer, URBN.

Following that, we will be pleased to address your questions. For more detailed commentary on our quarterly performance and the text of today’s conference call, please refer to our Investor Relations website at www.urbn.com. I will now turn the call over to Dick.

Richard Hayne: Thank you, Oona, and good afternoon, everyone. I’ll begin with some brief remarks regarding our second quarter results, and then make a few observations concerning our view of the customer and the macro environment. After that, I’ll turn the call over to Tricia Smith, who will provide greater detail about Anthropologie’s stellar second quarter results. Then, Frank and Melanie will add to the analysis of our Q2 results, along with thoughts about our future business. Simply put, URBN’s Q2 results were outstanding. In total, they topped our optimistic expectations. Four of our five brands posted record second quarter revenues. The Anthropologie, Free People and FP Movement brands produced double-digit sales growth in stores and online, with FP Movement leading the way with comp sales of plus 57%.

This more than offset a negative comp at the Urban Outfitters brand. Total URBN delivered 8% revenue growth, while the total Retail segment comp sales increased by 5%. The Nuuly brand, our apparel rental service, continue to enjoy strong positive response through its business concept and product offering with year-over-year revenues almost doubling in Q2, driven by an 85% increase in active subscribers. Nuuly contributed $27 million in additional revenues versus last year’s second quarter. Total Wholesale segment revenues declined by 5% as some of our larger partners continue to write smaller orders as they seek to operate with leaner inventory levels and grow their penetration of internally generated product. Customer demand for fashion at the Anthropologie, Free People and FP Movement brands remained strong throughout Q2.

The customer continued to respond positively to fashion newness and within women’s apparel, accessories and shoe categories. Effective brand marketing drove robust traffic increases to our website and stores, including strong growth in new customers. Clearly, these brands were pleasing existing customers and capturing additional market share. So far in August, total Retail segment comps are in line with first half results, and we believe total Retail segment comps in Q3 could look very similar to both previous quarters. During the July and August back-to-school period, the Urban Outfitters team in North America succeeded in improving women’s and men’s apparel comps, especially in stores. But unfortunately, the comp improvement fell short of our goals.

In Q2, the apparel teams also improved full-price sales, lowered markdown rates and enhanced the IMU and MMU, but total brand comp sales remained disappointingly weak. We’ve made some progress, but the teams know there is still much work to be done to write the Urban ship. That work is underway, but could take longer than we originally expected. Let me now focus your attention on URBN’s bottom line results. In Q2, we enjoyed the continued benefit of our pre-COVID like operating environment. Supply chain speed and reliability returned to pre-COVID levels. A speedier supply chain allowed the merchants to keep inventories tight, thus lowering markdowns. At the same time, our IMU improvement initiatives, especially the reduction in inbound freight costs, exceeded expectations.

Combining better IMU with lower markdown rates resulted in a 400-plus basis point improvement in gross margins and led to the Anthropologie, Free People and FP Movement brands posting very strong second quarter operating results. Total URBN operating income soared 54% versus the prior year to $132 million and earnings jumped 72% to $1.10 per share. All indicators currently point to a combination of the robust business we’ve seen in the first half. Our customer is favoring fashion over price, and she is responding nicely to our brand concepts, our assortment and our marketing. With that, I will now turn the call over to Tricia to discuss Anthropologie’s second quarter. Tricia?

Tricia Smith: Thank you, Dick, and good afternoon, everyone. I’m pleased to speak to you today about the Anthropologie Group’s strong second quarter performance and our ongoing strategic growth initiatives. First, I’ll start with the quarter. The Anthropologie Group delivered an 11% Retail segment comp, marking our 10th consecutive quarter of positive sales comps. The quarter’s comps were driven by double-digit growth in both stores and digital. We exceeded pre-pandemic traffic, conversion and comps in stores and online. By product category, the team delivered exceptional growth in the apparel, accessories and shoe categories, delivering sales comps over 20%. Our top line performance was accompanied by an even more impressive growth in profit, driven by significant improvement in IMU and continued reductions in markdowns versus last year.

This year, the brand is running significantly fewer promotional days than we have in the past, allowing us to deliver an impressive 22% growth in our regular price business and a 30% year-over-year increase in operating income. The strength across all apparel and accessory categories has continued in the month of August, which has us optimistic that Anthropologie can continue to drive strong comps in the third quarter. Our outstanding second quarter performance reflects the strategy we developed 2.5 years ago when I arrived at the brand. At that time, sales growth had slowed, particularly in apparel and accessories, and the brand had become too dependent on promotional activity. We knew we had an opportunity to attract more new and younger customers to the brand and offer them a wider range of products, enabling us to gain market share.

The first course of action was aligning and empowering our leadership team around our strategy and goals to best serve our customers. Next, the team set four strategic priorities to recapture market share. These four priorities are modernize our product, enhance our selling environments both in stores and online, provide inspirational creative content, and grow our customer base across multiple age demographics. First, modernizing our product. It was essential that we developed the right mix of owned brand fashion, customer favorites and premium brands to help us return to full-price growth and offer more fashion forward product. Our focus has been to distort into core categories such as dresses and denim, introduce new concepts that appeal to different end uses such as an assortment that satisfies for vacation and casual needs, and elevate the edit of market brands to modernize the assortment to appeal to a younger customer.

We began by improving and expanding the own brand assortment, concentrated on our Pilcro, Maeve and By Anthropologie labels. Today, our own brand product mix up over 60% of the apparel assortment. We have elevated our market brand assortment with the selection of premium brands that are aspirational for the younger customer such as Reformation, Favorite Daughter, Good American and On Running, and we are becoming a go-to destination for these premium brands. Additionally, we expanded apparel adjacent categories such as intimates, accessories and shoes to cater to the different end uses of our customer’s life we were not fully servicing. Moving on to the second and third priorities of enhancing our selling environments and creating inspirational creative content with the goal of becoming an aspirational brand for new and existing customers.

We knew the customer wanted to be inspired by complete look through digitally-enabled experiences and in-store styling. As the product teams distorted into key categories and pushed new fashion trends, the creative teams elevated the imagery and enhanced the store visual experience to properly support the brand message with an omni experience in mind. Today, our teams create some of the most aspirational imagery in our industry. We have invested in creating exceptional omni-channel experiences, and this has translated into the strong traffic and comp sales the brand is experiencing today. Our last priority was to grow our customer base. We wanted to introduce the brand to a new generation of customers while strengthening our relationship with our existing customer.

We have invested in marketing to drive customer acquisition, conversion and retention. In North America, during the second quarter, new customer growth surpassed 10%, while active customer spend increased high-single digits. We designed New to Next marketing strategies that drive repeat purchases by new customers. In the past year, over 30% of new customers have returned to the brand to make a second purchase. Over 60% of the women’s new customer growth enter via our enhanced own brand product available only at Anthropologie. These customers are 2.5 years younger than our existing core customer. I’ll shift gears now to touch on our home performance. Much of today’s call has centered on the opportunities the brand has in apparel and accessories.

When I entered the business, these categories had the most opportunity to reignite growth, while Home had just delivered multiple years of outsized growth. Although Home was slightly negative this quarter, we see customers pivot from pandemic-driven furniture purchases to more hosting and entertaining focused categories. Customers are improving their homes with decorative layers, focusing on tabletop, glassware, decorative objects and textiles. As they refresh their spaces and prepare to entertain more, we have seen robust growth within our regular price business and gift and entertaining categories. We have hired a new President of our Anthropologie Home and we’ll be deploying strategic priorities to drive outsized growth and brand awareness in our Home business.

I’m confident in our growth opportunities and the team’s ability to execute and look forward to sharing more on upcoming calls. In conclusion, the team’s focus on our four priorities has transformed our business. Looking forward, our strategy is consistent with the work we’ve done to get here, and our focus remains on top line growth and bottom line expansion. We have plans to increase our apparel and accessories business to $2 billion, while building a foundation to double our Home business to $1 billion and will be strategically increasing our global store count to 270 over the next several years. We look forward to providing you with more updates in the future. I’ll now turn the call over to Frank.

Frank Conforti: Thank you, Tricia, and congratulations to you and the team on a truly outstanding quarter. We are excited to support the brand’s continued growth and help the team reach their goals. Now, I will discuss you URBN’s total company results and then give some additional details on our brands. As Dick noted, the second quarter for URBN performed nicely ahead of our expectations from when we spoke on the May conference call. Total company sales grew by 8% to a second quarter record of $1.3 billion, driven by a total Retail segment comp increase of 5% and a Nuuly segment revenue increase of $27 million. These increases were partially offset by a 5% decline in the Wholesale segment. The growth in Retail segment comp sales was driven by a positive mid-single-digit comp in both the digital and store channels.

Nuuly’s robust increase in revenue was due to a significant increase in subscribers from the prior year. The Wholesale segment sales decline was due to a decrease at the Free People brand. Now moving on to gross profit. Gross profit dollars increased by 22%, while gross profit rate improved by 416 basis points. The improvement in gross profit rate was primarily due to significantly improved initial margins and lower markdown rates at all brands. Improved initial margins in the quarter were driven by lower inbound freight costs as well as the early benefits on several of our URBN cross-functional initiatives. As Melanie will discuss in more detail, we believe we can continue to drive improved IMU as well as lower markdown rates for the remainder of the year.

I cannot thank the teams enough for their continued focus and results in driving improved IMU and lower markdown rates. Next, I want to briefly touch on inventory. Total inventory was down 16%, with Retail segment comp inventory down 2% and Wholesale segment inventory down 32%. We have remained committed to managing inventory variances below our sales growth rates and we are delivering on our commitments. We believe our improved inventory to sales ratio is one of the primary drivers of our lower markdown rates. As a result of our Q2 record sales as well as significant improvement in gross margin, our operating profit increased 54% from the previous year to $132 million, with earnings per share increasing by 72% to $1.10 per share. Earnings per share growth was primarily driven by healthy operating profit growth and additionally benefited from a lower effective tax rate versus last year.

Since Tricia has already provided an update on the Anthropologie, I will now provide more details for the remaining brands, starting with the Free People Group. This quarter, Free People delivered historically exceptional results, once again achieving record sales and profits in the second quarter. Retail segment comps at the Free People Group accelerated from the first quarter and finished the quarter at a robust 27% Retail segment comp increase. Within the group, the Free People brand produced a strong 22% comp and FP Movement brand produced an impressive 57% comp. Total Retail segment comp was driven by double-digit comps in the store and digital channels. These double-digit comps were driven by strong traffic growth in both channels, due in part to excellent marketing execution as well as average unit retail growth fueled by increased full-price selling across all major product categories.

Total customer growth also reached double-digit increases for the quarter for both the Free People and FP Movement brands. The Free People Group’s improvement in sales was only outdone by their impressive surge in profitability for the quarter. The strength of the Free People Group’s assortments, marketing campaigns and store experience have continued into the early fall. We believe the Free People Group’s Retail segment performance will continue to be nicely positive in the third quarter. Free People wholesale segment sales decreased 17% during the second quarter. The decrease in sales was the result of weakness in department store accounts partially offset by growth in specialty store accounts. Although wholesale sales remain challenged, profitability has returned to a healthy level.

We believe Wholesale segment sales could decline for the remainder of the year due to continued focus on the right balance of account partners and doors for the brand, while the rate of profit could remain in a healthy low-double-digit range. Now moving on to Urban Outfitters. Urban recorded a negative 14% Retail segment comp in Q2. UO’s negative comp was the result of disappointing performance in North America and a slightly negative comp in Europe. In North America, comp store sales were high-single-digit negative, while the digital channel comp sales were double-digit negative. In Europe, the weakness was concentrated in the UK, while the rest of Europe continued to see positive Retail segment comps. As Dick noted earlier, we did see improvement in North America’s women’s and men’s apparel in the back-to-school season versus last year, but we still know we can execute better and we will need more time to drive the overall improvement we want.

Next, I will touch on the Nuuly business. The brand continued to deliver strong year-over-year subscriber growth with active subs increasing 84% to last year. We continue to believe active subs could approach or possibly exceed 200,000 by year-end. In addition to strong revenue numbers, Nuuly continues to make fast and steady strides towards profitability and we continue to believe Nuuly will record its first profitable quarter later this year. Lastly, I want to congratulate the teams on the opening of our new state-of-the art distribution and fulfillment facility in Kansas City, Kansas. We believe this facility will improve our overall operating efficiency, reduce our average cost of consumer delivery expense as well as increase our delivery speed to our customers.

I will now turn the call to Melanie Marein-Efron, our Chief Financial Officer.

Melanie Marein-Efron: Thank you, Frank, and good afternoon, everyone. Now, I will discuss our thoughts on the third quarter and fiscal year ’24 financial performance. We are pleased that overall consumer demand has remained strong to start the quarter and we’re planning for this strength to continue throughout the third quarter. Right now, we believe third quarter total company sales growth could be in the high-single digits. Sales growth in Q3 could result from mid-single-digit growth in Retail segment comp sales and high-double-digit growth of Nuuly segment sales versus last year. Our growth in the Retail and Nuuly segments is likely to be partially offset by a sales decline in our Wholesale segment. Now on to gross profit margin.

We believe URBN’s gross margin rate for the third quarter could improve by more than 400 basis points compared to the prior year third quarter, similar to the improvement which we realized in Q2. The increase in gross profit margin could be driven by higher initial product margins from lower inbound freight cost as well as lower merchandise markdowns. An improved supply chain is allowing us to bring in product closer to demand. As a result of well-controlled inventory and a healthier supply chain, we believe that there could be lower markdowns in the third quarter compared to prior year third quarter. Now, moving on to SG&A expenses. Based on our current sales performance and plan, we believe SG&A growth for the third quarter will increase in the low-double digits.

Our planned growth in SG&A could be primarily driven by higher overall payroll due to anticipated higher incentive pay from improved company performance, lower vacancy rates and higher payroll rates. In addition, we intend to increase marketing expense to drive incremental customer growth at Free People and Anthropologie. This could result in SG&A rate deleverage versus last year. As always, if sales performance fluctuates, we maintain a certain level of variable SG&A spending that we can adjust up and down depending on how our business is performing. While we believe SG&A growth could outpace sales growth in Q3, we also believe that SG&A expense growth in the fourth quarter will be more closely aligned with sales growth. We are currently planning our effective tax rate to be approximately 25% for the third quarter and full year.

Now moving on to inventory. We have made significant progress this year controlling our inventory to sales ratio. We believe that inventory levels in the third quarter could grow at a rate below sales growth. The team continues to make progress speeding up inventory turns and are targeting product turns close to pre-pandemic levels at most of our brands by the end of fiscal year ’24. Capital expenditures for the fiscal year are planned at approximately $230 million. The spend is primarily related to investments in additional distribution facilities. Earlier this month, we opened our highly-automated omni fulfillment facility in Kansas City, Kansas. In addition, we are investing in a new rental fulfillment facility in Missouri within the Kansas City region.

We are targeting to open this facility at the beginning of fiscal year ’25. Lastly, we’ll be opening approximately 28 new stores and closing approximately 21 stores during fiscal year ’24. As a reminder, the foregoing does not constitute a forecast, but is simply a reflection of our current views. The company disclaims any obligation to update forward-looking statements. Now, I’m pleased to turn the call back over to Dick.

Richard Hayne: Thank you, Mel. In conclusion, as you’ve heard from Mel and Frank, we’re confident about our prospects for the remainder of fiscal 2024. We have four brands that are executing at rarefied levels and gaining market share. In addition to top line growth, we have significant margin recapture as demonstrated by our performance in the first two quarters. All this would not be possible without the hard work of our brand and shared service leaders, their merchant, creative and operating teams, and our 24,000 associates worldwide. With their amazing dedication and creativity, they produced a truly outstanding quarter, and I thank them. I also recognize and thank our many partners around the world. Finally, I thank our shareholders for their continued support.

That concludes our prepared remarks. Before I turn the call over for your questions, I remind you to please keep your questions to one per caller, so we have time to recognize more of your colleagues. Thank you, and now for your questions.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Lorraine Hutchinson with Bank of America. Your line is open.

Lorraine Hutchinson: Thank you. Good afternoon. I was hoping you could just elaborate on your comments about the Urban Outfitters brand, turn kicking longer than expected. And then with that, talk to your comfort with the level of incoming receipts at the brand for the remainder of the year. Thank you.

Richard Hayne: Sheila, would you like to take that?

Sheila Harrington: Sure. I think at the last call we talked about apparel being the focus and it certainly was both the men’s and women’s apparel assortment has progressively got better throughout the quarter. And in August, we are sitting at a positive comp in our store with stronger MMU. And what’s taking a little longer is, now what we did in apparel, it needs to be done to the accessories, shoe and home business. And then we need to get our DTC business rightsized. It’s been heavily reliant on promotional activity, and we don’t think this is a long-term strategy that the brand needs to progress forward. So that is what I’m referring to as the long-term opportunity to change the trajectory of the brand to health profile (ph). And I believe our inventory levels are with the speed model that we’ve been allowed to get back to you in apparel, we’ll be able to hold the same rules of engagement that URBN is that sales should outpace inventory comps.

Operator: Thank you. Please standby for our next question. Our next question comes from the line of Adrienne Yih with Barclays. Your line is open.

Adrienne Yih: Good afternoon. Congratulations. It’s great to see all three brands kind of in various phases of repairs, and even UO. I guess my question is…

Richard Hayne: Thank you, Adrienne.

Adrienne Yih: You’re welcome. It’s on the merchandise margin cycles. So within each of those three brands, I’m wondering, maybe Frank or Melanie, if you can remind us sort of where each of the brand is in their kind of promotional cycle relative to normal. So for example, Anthropologie, while very clean, are they still at above average and still room to grow? And then, for example, like under — Urban Outfitters, are they at new lows and so should we think about kind of low-hanging fruit in terms of their merchandise margin capture? Thank you very much.

Frank Conforti: Adrienne, I can take a stab at that and then certainly, Tricia, and Sheila can correct me and add any more color, if they want. I think all of the brands, which is great to see, are driving healthy improvement in IMU and markdown rate. The IMU improvement across all brands is fairly consistent and is — I want to say not quite at fiscal — pre-pandemic levels, but certainly is approaching there. And you’re seeing that benefit driven not just by lower inbound freight expenses now as those expenses have normalized. You’re honestly starting to see several of our URBN cross-functional initiatives really start to take hold, and that’s just that a credit to the sourcing teams and the brand for their execution there.

We still believe that goal that we set almost two years ago of 500 basis points of improvement in IMU versus Q4 of fiscal ’22, we will be able to achieve next year and we think we’re actually going be pretty darn close when we get to Q4 of this year. Again, all of the brands on the markdown side as well are favorable on a year-over-year basis. Obviously, you’ve got the really strong sales performance at Anthropologie, Free People and FP Movement brands, as well as better inventory control as the supply chain has improved across all three brands, which is benefiting the businesses.

Operator: Thank you. Please standby for our next question. Our next question comes from the line of Paul Lejuez with Citi. Your line is open.

Paul Lejuez: Hey. Thanks, guys. Can I just go back to the answer to Lorraine’s question? I think you said something was running positive August to date. Were you talking about the Urban Outfitters brand specifically? Or are you referring to overall URBN? And then my question is, you had, I think, 21 closed stores to date. Curious what you’re thinking about future store closing, specifically at Urban, and how that might break down between urban locations, meaning city locations, versus suburban or lifestyle versus mall? Thanks.

Sheila Harrington: I’ll clarify the first part of the question around Urban Outfitters. Urban women’s and men’s apparel brands are sitting positive within our store businesses month to date. And this is a continuation of the improvement that we saw throughout Q2. And we still have a great deal of improvement to do within our accessories and home and shoe businesses. Accessories, we anticipate this turn happening in Q4, where home might take a little bit longer.

Richard Hayne: Paul, and about the store closure and specifically with Urban, but it actually applies to all three brands. When stores come up for renewal, we look at them very closely and try to ascertain if we have an opportunity to make money at those stores over the next five years, that’s typical renewal date. And if we do, then we sign up for them. If we don’t, then we pass. And I think it’s that simple. And your comment about city or non-city locations. A number of cities, as you might imagine, it’s been a little bit more difficult in the last few years to make money. So we are closing more city locations than we are at mall locations, but — on a percent basis. But we treat them equally. Some of the city locations are still doing quite well, and we won’t close them. So I think that’s basically how we look at it.

Operator: Thank you. Please standby for our next question. Our next question comes from the line of Alex Straton with Morgan Stanley. Your line is open.

Alex Straton: Great. Congrats on a nice quarter, and thanks for taking my question. Just two from me. One is on Anthropologie and Free People. I’m just wondering how you think about the sustainability of the top line strength there. I think you said both continued at 2Q levels into the third quarter, so just wanted to confirm that. And then secondly, just on gross margin. I’m curious if you could outline kind of the levers or puts and takes there as you thought through the back half guide. Thanks a lot.

Richard Hayne: Okay. I’m going to ask Tricia to talk about how she looks at sustainability of our results in Anthropologie.

Tricia Smith: Hey, Alex. We have a really incredible team that’s really passionate about serving our customers, one of the best that I’ve worked with across the course of our (ph) career. And I think as we continue to introduce more customers to our brands, we’re really focused on ensuring that they come back to shop with us with our new to next strategy. And we’ve been really consistently acquiring customers over the past two years and are confident in our strategy to continue that growth. So our teams stay incredibly close to our customers, they’re very good at identifying new opportunities and we’ll continue to leverage the strategic priorities that have contributed to the growth that we’ve had over the last couple of years and feel confident that we’ll be able to continue that.

Richard Hayne: Great. And gross margin, Frank?

Frank Conforti: Yes, I can talk to gross profit margin and then maybe Sheila will talk about the confidence on Free People side. So as it relates to the leverage for the back half of the year, I think I’ll start with IMU with which we’ve seen nice gains in the first half and we would basically anticipate to see very similar gains in the back half of the year, again that’s being driven by lower inbound freight expenses as well as several of our URBN cross-functional initiatives. With a lot of our orders on and that trend in place, I think we feel pretty confident about the IMU improvement on the back half of the year. And then secondarily is the markdown rate improvement. And I think as Tricia and I know Sheila will speak to, the strength of the business at Anthropologie and Free People, that leaves us with, I think, a pretty high level of confidence that we’ll see markdown rate improvement over the back half of the year at those brands as well as then contributing to lower inventory, better-positioned inventory and better inventory control across all brands.