Columbia Sportswear Company - Q2 2023

Transcript

Operator (participant)

Greetings, and welcome to the Columbia Sportswear second quarter 2023 financial results conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note, this conference is being recorded. I will now turn the conference over to your host, Andrew Burns, Vice President of Investor Relations. You may begin.

Andrew Burns (VP of Investor Relations)

Good afternoon, and thanks for joining us to discuss Columbia Sportswear Company's Q2 results. In addition to the earnings release, we furnished an 8-K containing a detailed CFO commentary and financial review presentation explaining our results. This document is also available on our investor relations website, investor.columbia.com. With me today on the call are Chairman, President, and Chief Executive Officer, Timothy Boyle, Executive Vice President and Chief Financial Officer, Jim Swanson, and Executive Vice President, Chief Administrative Officer, and General Counsel, Peter Bragdon. This conference call will contain forward-looking statements regarding Columbia's expectations, anticipations, or beliefs about the future. These statements are expressed in good faith and are believed to have a reasonable basis. However, each forward-looking statement is subject to many risks and uncertainties, and actual results may differ materially from what is projected. Many of these risks and uncertainties are described in Columbia's SEC filings.

We caution that forward-looking statements are inherently less reliable than historical information. We do not undertake any duty to update any of the forward-looking statements after the date of this conference call to conform the forward-looking statements to actual results or to changes in our expectations. I'd also like to point out that during the call, we may reference certain non-GAAP financial measures, including constant currency net sales. For further information about non-GAAP financial measures and results, including a reconciliation of GAAP to non-GAAP measures and an explanation of management's rationale for referencing these non-GAAP measures, please refer to the supplemental financial information section and financial tables included in our earnings release and the appendix of our CFO commentary and financial review.

Following our prepared remarks, we will host a Q&A period during which we will limit each caller to two questions, so we can get to everyone's question by the end of the hour. Now I'll turn the call over to Tim.

Timothy Boyle (Chairman, President, and CEO)

Thanks, Andrew. Good afternoon. Second quarter financial results reflect a dynamic environment with varying trends across our global omni-channel business. Overall, we were able to generate 7% net sales growth in the quarter. This was ahead of our prior outlook due to earlier than planned fall 23 shipments, which more than offsets lower growth in our US DTC business. International net sales increased 34%, fueled by earlier international distributor shipments and continued recovery in China. In the US, sell-through trends softened, reflecting cautious consumer behavior. Additionally, elevated inventory levels, particularly in footwear, have contributed to heavier clearance and promotional activity. As I mentioned on the last call, reducing inventory is our top priority. Inventory exiting the quarter was up 21% year-over-year.

As we progress through the second half of the year, the combination of lower inventory buys, shipping out fall 2023 orders, and increased excess inventory sales in our outlet stores will reduce our inventory position. We expect inventory to be down year-over-year, exiting the third quarter, and we remain on track to reduce year-end inventory by over $200 million compared to last year. Returning inventory to a healthy position is a vital step to improving our financial performance. Given our year-to-date performance and current trends we see across the business, we're taking a more conservative approach to planning the balance of the year. I'll provide more details on key drivers and assumptions influencing our updated financial outlook later in the call. I remain confident in our strategies and our ability to achieve the significant long-term growth opportunities we see across the business.

With that being said, our brands are not immune to macroeconomic pressures and headwinds. In this environment, we're focused on what we can control, including expense discipline and executing our inventory reduction plan. We're also continuing to invest in the business to drive long-term profitable growth. In challenging times, our strong financial position is a strategic advantage. We exited the second quarter with over $300 million in cash and short-term investments and no bank borrowings. This position will strengthen further as we are on track to generate $550 million to $600 million of operating cash flow this year. I believe our diversified business model, financial strength, and operating discipline will enable us to navigate near-term challenges and emerge in a stronger position. I'll now review our second quarter financial performance.

I'd like to remind everyone that the Q2 is our lowest sales volume quarter. year-over-year changes in the timing of wholesale shipments can have a material impact on reported results. When reviewing Q2 results, it's important to note that on time spring 2023 shipments resulted in sales shifting into the Q1 compared to last year, where we delivered products late. This presented a headwind to Q2 growth. Conversely. We are shipping fall 2023 orders earlier this year, which created a tailwind to Q2 growth. These timing movements create a pronounced impact in regional and brand net sales results. Net sales of $621 million were up 7% year-over-year and up 9% on a constant currency basis. Gross margin expanded 140 basis points and was roughly in line with our outlook.

As expected, the largest driver of expansion was lower inbound freight costs. This was partially offset by higher clearance and promotional activity, as well as higher distributor shipments, which generally carry lower gross margins. Overall, promotional activity is elevated compared to 2022, when promotions were exceptionally low. Within our DTC business, we have increased plan- clearance activity as we focused our efforts on reducing inventories. SG&A expenses increased 11%, primarily driven by increased expenses across our DTC business, supply chain, and enterprise technology. Diluted earnings per share increased 27% to $0.14. I will now review second quarter year-over-year net sales growth by region and brand. For this regional view, I will reference constant currency net sales growth rates. U.S. net sales decreased 3%.

U.S. wholesale decreased high single digit percent, driven in large part by on-time spring 23 shipments, which shifted sales into the first quarter. In the U.S., the Columbia brand's spring selling season performance is down slightly compared to last year. After a stronger start to the season, driven in part by better inventory availability, sell-through trends slowed in the second quarter. U.S. DTC net sales increased low single digit percent. Brick-and-mortar was up mid single digit percent, driven by the contribution from new stores opened last year, as well as incremental sales from temporary outlet stores. U.S. e-commerce net sales were down mid single digit percent. The online environment has become more competitive and promotional as consumers seek out value in the marketplace. In the first half of this year, our U.S. DTC business grew low single digit percent, reflecting a challenging environment.

While wholesale shipments remain the priority for the company, I believe there are long-term opportunities to accelerate our DTC growth and improve efficiency and profitability. Under the leadership of our new SVP of North America, DTC, David Tiss, we are actively identifying growth opportunities and operational improvements that can further elevate the Columbia brand. David has experience building a balanced store fleet that's profitable and elevates brand performance across all channels. Turning back to the second quarter financial performance, I'll now review our international business. Latin America, Asia Pacific region, or LAAP, net sales increased 35%. China net sales increased over 140%, reflecting strong consumer demand compared to last year, which included the impact of pandemic restrictions. Improved store productivity and enhanced marketing are among the key drivers, enabling us to capitalize on growing consumer interest in outdoor activities in this important market.

Our new premium China-specific collection, named Transit, is attracting new, younger consumers to the Columbia brand. Sell-through has been exceptional. We're building on the success of our initial spring launch with new styles for fall. Another bright spot is e-commerce, where we drove strong results during the 618 event across all our key platforms, including Tmall, JD, and TikTok. E-commerce has continued to perform very well as physical traffic returns and is indicative of the team's ongoing efforts to better serve consumers through digital channels. We continue to anticipate that China will be one of our fastest-growing markets in 2023. Japan net sales increased mid-single digit percent, led by healthy growth in our DTC brick-and-mortar stores. We continue to see encouraging traffic trends in our branded stores as the tourism industry recovers. In April, we opened a store in Kamikochi National Park.

This top hiking destination in the Japanese Alps attracts over one million visitors per year. The store features unique Columbia products with designs from local artists. Korea net sales declined double-digit percent. As we mentioned last quarter, we are in the early phases of resetting our business in Korea. Management is focused on several initiatives across talent, distribution, marketing, and product. We've closed unprofitable doors in the first half of the year and are focused on improving the productivity of the remaining fleet. We believe these efforts to reposition the brand and elevate distribution will drive a deeper connection with the next generation of consumers and fuel long-term sustainable growth. LAAP distributor markets were up low 80%. This growth primarily reflects earlier shipments of fall 2023 orders. Europe, Middle East, and Africa region or EMEA, net sales increased 75%.

Europe direct net sales declined mid-single digit percent as spring 2023 shipments shifted to the first quarter. This was partially offset by healthy DTC growth, which was strong across both e-commerce and brick-and-mortar. This quarter, Columbia Hike Society U.K., hosted several successful events, including special hikes led by Columbia brand ambassadors. These grassroots clubs help promote spending more time outside and attracting a younger generation of hikers. We believe these unique brand experiences, as well as our exclusive partnerships with Megamarsch hiking events that take place across Europe, will help drive momentum in the important hike category. Our EMEA distributor business increased approximately 310%, reflecting earlier fall 2023 shipments. Canada net sales were down 16% as spring 2023 shipments shifted into the first quarter. This was partially offset by healthy DTC growth, which was strong across both e-commerce and brick-and-mortar.

Columbia was recently voted the number one trusted sportswear brand and number three most trusted brand overall in Canada for the eighth consecutive year in the Gustavson Brand Trust Index. The survey included over 400 brands in 33 categories. Our high brand awareness and consumer trust provide a healthy foundation for growth in this market. Looking at performance by brand, Columbia brand net sales increased 11% during the quarter, including the benefit of earlier fall 2023 shipments. The Columbia brand's differentiated cooling technologies and sun protection products have never been more important. We have a broad range of innovation in our product line, built from a platform of sun protection and cooling technologies, including Omni-Freeze Zero, Omni-Shade Sun Deflector, and our most recent addition, Omni-Shade Broad Spectrum. These innovations differentiate the Columbia brand in the marketplace and position us as a leader in sun protection.

As we look forward to fall, we're building on the success of Omni-Heat Infinity with an expanded assortment of styles. This differentiated, visible technology remains one of the fastest-growing parts of our product line and will be our top marketing story this fall. Another innovation story for fall is Omni-Heat Helix, our disruptive polyfleece visible technology. We're excited to build on this unique technology in fall 2023 and beyond. We will also continue to invest in footwear, including the launch of the Facet 75 Alpha. Despite near-term category headwinds, footwear remains a key growth accelerator for the Columbia brand. Shifting to our emerging brands, Sorel brand net sales increased 32%, primarily driven by earlier fall 2023 shipments and increased wholesale closeout sales. Overall, Sorel spring sell-through is up versus last year, largely reflecting higher clearance and promotional activity in a challenging footwear environment.

Sandals has been a top-performing category this spring, led by popular styles like the Kinetic Impact sandal. During the quarter, we announced Mark Nenow stepped down from his role as brand president to focus on his health. Mark oversaw Sorel during a period of tremendous growth, and he helped transform the brand into a women's function-first fashion footwear brand. We thank Mark for his outstanding contribution to the Columbia and Sorel brands during his long tenure. Senior Vice President of Emerging Brands, Craig Zanon, will lead the brand until a new president is appointed. Mountain Hardwear net sales decreased 19%, driven in large part by on-time spring 2023 shipments, which resulted in sales shifting into the first quarter.

prAna net sales decreased 32% in the quarter, with a decline in wholesale, driven in part due to on-time spring 2023 shipments, which resulted in sales shifting to the Q1, as well as a decline in DTC. We are excited to announce the appointment of Tricia Shumavon as the President of the prAna brand starting in September. Tricia brings vast experience in the apparel industry, having served in leadership roles for several global brands, including most recently as the Global VP of Sportswear for Adidas. Tricia will be able to leverage her deep roots in design, product management, and merchandising to position the prAna brand for growth in future seasons. I'll now discuss our 2023 financial outlook. This outlook and commentary include forward-looking statements. Please see our CFO commentary and financial review presentations for additional details and disclosures related to these statements.

The current environment is making it difficult to achieve the long-term growth algorithm that I believe we're capable of. Given current trends we're seeing in the business, we are taking a more conservative approach to how we plan the second half of the year. We now expect full-year net sales to grow 2% to 3.5% year-over-year. Gross margin is expected to expand by 40 basis points to approximately 49.8%. Marketplace promotional activity continues to normalize. We are anticipating a higher level of clearance activity as we opportunistically work down inventory levels. We expect operating margin to be in the range of 9.8%-10.3%. Operating margin performance will not be linear year-to-year. We remain firmly committed to improving operating margin over time.

This operating performance leads to a diluted earnings per share range of $4.40-$4.65. We anticipate strong operating cash flows of $550 million to $600 million in 2023 as our inventory levels normalize. Before my closing remarks, I'd like to note that later this month, we will be releasing our 2022 impact report, highlighting our efforts across environmental, social, and governance matters. I'd encourage you to review the report, which will be available on our website, to learn more about the progress and accomplishments we've made, empowering people, sustaining places, and promoting responsible practices. As we've previously said, we've been working to eliminate PFAS chemicals across our global product line. Our intent is to stop manufacturing any apparel or footwear with PFAS prior to our fall 2024 season.

New products manufactured with fall 2024 are designed to be PFAS free. We have been working on our alternate chemistries for some time and are making these changes in advance of regulatory restrictions in a small number of jurisdictions. We're very pleased with the technical performance of the new chemistry, but recognize that the transition has the potential to impact the flow of our wholesale business in 2024 and how we and others manage their existing inventory. In summary, I'm confident we have the right strategies in place to unlock the significant growth opportunities we see across the business.

We're investing in our strategic priorities to accelerate profitable growth, create iconic products that are differentiated, functional, and innovative, drive brand engagement with increased focus demand creation investments, enhance consumer experiences by investing in capabilities to delight and retain consumers, amplify marketplace excellence that is digitally led, omni-channel and global, and empower talent that is driven by our core values. That concludes my prepared remarks. We welcome your questions for the remainder of the hour. Operator, could you help us with that?

Operator (participant)

Certainly. At this time, we will be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Once again, that's star one if you wish to ask a question. One moment, please, while we pull for questions. The first question today is coming from Bob Drbul from Guggenheim Securities. Bob, your line is live.

Bob Drbul (Senior Managing Director)

Thank you. Good afternoon.

Timothy Boyle (Chairman, President, and CEO)

Bob, hello.

Bob Drbul (Senior Managing Director)

Hey, guys. A couple questions for me. I guess just on, on the outlook, can you just talk through, I guess, your, your updated visibility, you know, I think on, on the lowered sales, if you could just talk through a little bit more how you're planning the wholesale business, you know, for the back half of the year, like, you know, are your orders all firmed up now? You know, I think you've made some adjustments to your buys as well. If you could talk through that, I think that would be pretty helpful to us. I guess, just with some of the early shipments, is that just a function of you had the inventory and your partners, you know, wanted, wanted the product?

Maybe you could just talk a little bit about, you know, sort of, you know, where you think things sit with the wholesale guys, as you think about your business. Thanks.

Timothy Boyle (Chairman, President, and CEO)

Yeah, no problem, Bob. Well, yeah, the, as you know, we have a firm order book, and it's strong with fall product. Our partners are selling off the balance of their spring merchandise and looking forward to receiving spring, which some of them have already done so. We're planning for a normal winter, so the variability of winter, is impactful on our business, especially when we're selling outerwear and winter boots. As it relates to the early shipments, I mean, frankly, as we've noted, we have too much inventory. A large portion of our SG&A spend this year was a result of having too much inventory and having merchandise stored at off-site locations, et cetera.

It was great that we could both move the merchandise out to retailers and wholesale partners and distributors earlier than last year, in order to free up some space and give us some relief on our extra spend, for locations. Now, our retailers and partners were happy to receive the merchandise, especially, knowing that in prior years we've been late on this merchandise.

Jim Swanson (EVP and CFO)

... Hey, Bob. Just to add a little bit more color in terms of the change in the outlook, the lion's share of the change is due to the softness we've seen in the U.S. business, and that's been essentially across our U.S. wholesale business, which is roughly half of the overall change in our outlook, and then to a slightly lesser degree, U.S. e-commerce, and then to an even lesser extent, Korea. Those are the major moves. As Tim touched on, as it relates to the wholesale business, we hadn't so much seen any significant changes, so to speak, as it relates to the fall order book, but what's led us to the change in the outlook is what we're seeing in terms of replenishment and reorder as there's been some softness in the market.

That's contributed to that overall change in our, our outlook.

Bob Drbul (Senior Managing Director)

Great. Thank you.

Operator (participant)

Thank you. The next question is coming from Laurent Vasilescu, from BNP Paribas. Laurent, your line is raised.

Laurent Vasilescu (Managing Director and Senior Equity Analyst)

Thank you, and good afternoon. Thank you very much for taking my question. Jim, I wanted to follow up on your CFO slides. They're always super helpful. I think one on the pages, it notes that wholesale is anticipated to grow low single digits for the year, which implies that wholesale in the second half should be down low single digits to mid single digits. Just curious to know, how, how do we think about that? You know, I know you don't guide explicitly by quarter, but just any dynamics as we think about Q3, Q4, and especially how you're lapping the Russian distributor sales in the third quarter.

Jim Swanson (EVP and CFO)

Yeah, that's, that's a good point. I, I would keep in mind, compared to looking at the flow of our business, even from a first half, second half perspective, the impact of the shifts in the timing of deliveries, because we're much earlier this year for both the spring and fall season, does create challenges in terms of the comparative differences year-over-year. As you pointed out, you know, we do plan on the business being a lower rate of growth on the wholesale side in the back half of the year. Keep in mind, there's a very material component of shipments from the fall 2023 season, particularly for our distributor business that shipped in the second quarter. That's, that's to the tune of across our global wholesale and distributor business, roughly $70 million.

You know, so if you adjust for that timing difference, coupled with Laurent, you also mentioned, the shipments that we made in the latter part of last year for Russia, which were orders we took, pre-invasion. Those equated about $45 million. If you adjust for each of those two items, you know, the, the rate of growth that we'd be seeing in our wholesale business would be, you know, in the mid-single digit percent range. From an overall standpoint, when you look at the full year, which I think is much more indicative of, the trends we're seeing across the business, at least for the wholesale side, we're up a low single digit percent on the year.

Laurent Vasilescu (Managing Director and Senior Equity Analyst)

Very, very helpful. Thank you, Jim. I, I want to follow up on margins. I, I think in your Form 10-K, it notes that freight, inbound freight was 180 basis point impact to FY 2022 gross margins. I looked from your CFO slide deck today that it, you recaptured about 200 basis points in the score. Just curious to know how much freight is gonna be a benefit for your full year gross margin. Clicking down to the SG&A, last 10-Q, you had about $18.8 million of, of logistics costs in your SG&A. Just curious to know how much that was impact for Q2, in dollar terms, and how much do you think of it can impact for the full year? Thank you.

Jim Swanson (EVP and CFO)

Yeah, as it relates, as it relates, first to the gross margin, and the inbound freight headwinds that we had last year of 180 basis points, we continue to anticipate greater than 200 basis points of gross margin, favorable gross margin impact this year, as those inbound freight costs have come down, materially for us. And then, as it pertains to SG&A, we've continued to see, you'll see in the, in the same CFO commentary document, among the higher rates of growth in SG&A continues to be operations, and that encompasses our warehousing, distribution, fulfillment costs. That's still a meaningful part of what's driving our SG&A up, in the quarter. You know, we'd anticipate those costs continuing through the balance of this year.

Then, of course, you know, we, we do believe those to be transitory. As we get our inventories back down to more normalized levels going into next year, that should become more of a headwind. In terms of quantifying that, Laurent, it's gonna be in or around the $30 million range, would be a ballpark estimate of the, of the impact in that area of our business.

Laurent Vasilescu (Managing Director and Senior Equity Analyst)

Very helpful as we think about the next fiscal year. Thank you very much, Jim.

Operator (participant)

Thank you. The next question is coming from Mitch Kummetz from Seaport Research Partners. Mitch, your line is live.

Mitch Kummetz (Senior Analyst)

Yes, thanks for taking my questions. Jim, if I heard you correctly, it sounds like the biggest part of the change in the sales guide is replenishment. Your thoughts around replenishment in the back half. I mean, how do you, how do you guys come up with that? Are you just looking at kind of, you know, trends over the last, you know, month or two and extrapolating that? I'm just trying to get a sense as to how conservative you might be with that assumption.

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, the replenishment business for us is very helpful. We are in the process of automating that, that process today. Just left a meeting where we talked about the increased accuracy around the replenishment business. It's, it's gonna be important for us in the future, and it's something that we're getting much better at. It is impactful this year. Especially when you consider the potential impact of the PFAS product change. It's, it's gonna be an important part of our business, and, and we, we're getting much better at it all the time.

Jim Swanson (EVP and CFO)

Yeah, I think just to further to that, Mitch, you know, it's based on a statistical forecast in looking back at what we've seen in, in trends over the last several weeks. I would say if that's the case in terms of our wholesale replenishment business, that's also the case in terms of how we're thinking about D2C growth in the back half of the year. The, our outlook would contemplate D2C growth rates being similar to what our experience has been when you look at the first half of the year.

Mitch Kummetz (Senior Analyst)

Okay. I also had a question on the margins. I haven't fully penciled out your revised guidance yet, but if I'm not mistaken, you know, it looks like your sales are coming down, your gross margin is coming down. I, I think from an SG&A dollar standpoint, that really hasn't changed or maybe is up a tick from where it was before. I may have done my math wrong. If that's the case, I would've thought that you guys would've been with the revised sales guidance, you would be sort of, you know, turning over every rock looking for cost savings. I assume you're doing that, but are there other expenses that are going up in the process? How, how should I think about that SG&A dollar number, which, which is leading to, you know, a fair amount of deleverage on the year?

Jim Swanson (EVP and CFO)

Yeah, I mean, we're we're certainly, to your point, turning over every rock that we can in terms of, you know, executing on cost containment, in certain cases, even cost reduction, actions internally, as well. That's, that's top of mind. I would agree, you know, ordinarily, you would expect a little bit more pass-through of variable-based expenses given the reduction in the top line. There are investments we're making along the way here to ensure, though, that, you know, as we look at, the distribution and the third-party logistics side of our business, there are some professional fees, some other costs that we're incurring that are incremental investments to ensure that, you know, we set those operations up going forward to be more streamlined and productive. There are, there are certain one-time costs in there, Mitch.

I won't get down into specifics in terms of each one of them individually, but they're offsetting some of what you'd otherwise believe to be a greater degree of variable-based expense savings.

Mitch Kummetz (Senior Analyst)

Okay, that's helpful. All right, thanks. Good luck.

Operator (participant)

Thank you. The next question is coming from John Kernan from TD Cowen. John, your line is live.

John Kernan (Analyst)

Hi, folks, thanks for taking my question. You know, just given some of the macro headwinds out there that are clear, I'm just, just curious if you've seen any changes in the actual competitive environment. I know the Columbia brand has always really held, but yet more of an entry-level price point in the, you know, in the wholesale channel and versus some of your peers. Is there any change in the competitive environment, or is this really just this, this difficult period being driven by a broader macro environment? Curious about some of your high-level thought there.

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, I wonder. We're having a little bit of trouble with the audio here, so I wanna make sure I got your question, but I think you're asking about whether our position as a, as a value brand is impacted. We believe that over time, this is gonna be a real strength for the company. You know, we, we talked about the impact on the SG&A of the carry cost of inventories, and we're able to keep a, a high gross margin, based on the company's strength in sourcing. We do have too much inventory, so that's gonna be impactful for the balance of the year on the SG&A line.

We're finding, you know, great strength and comfort in the fact that we have a balance sheet that can help us to hang on to this inventory and sell it profitably during a period like this.

John Kernan (Analyst)

I know I have some background noise right now, but if you can hear me, any thoughts on Sorel? Obviously, there's a new management that's coming in. Any thoughts about how to turn around Sorel, specifically in the U.S.? Thank you.

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, I'm sorry. I'm having a real, a real difficult time understanding the question. We'll be happy to to capture that if we can at at a later time, if you're able to call in.

Operator (participant)

Thank you. The next question is coming from Jonathan Komp from Baird. Jonathan, your line is live.

Jonathan Komp (Senior Research Analyst)

Yeah. Hi, thank you. Good afternoon. Jim, I just wanna follow up a, a question on the updated guidance that it, it, it sounded like at least through June, the message was, you know, you really weren't assuming any improvement in the sales environment or the promotional cadence for the year. I'm just wondering, should we, should we assume that the environment's shifted pretty meaningfully in the last couple of months, or any other color, just, you know, going back to the, the change in the full year guidance and the, and the drivers?

Jim Swanson (EVP and CFO)

I think that's fair, John. You know, when we had our earnings call in April, up to about that time, you know, we were continuing to see the same trends that we saw in Q1, in which we reiterated the top-line guidance we provided earlier in the year. The month of May was, I would describe, being a bit, you know, it was exceptionally challenging. Things improved a little bit in June, and, they've been a bit better here in July.

in light of what we saw during the quarter, and, and particularly as we got into the mid to latter part of quarter, you know, things were, things were a bit more, more challenging, and that's led to the revision we made, both on the wholesale side in terms of how we're thinking about reorder replenishment, and then also in terms of e-commerce. You'll recall, e-commerce was a channel of our business that we thought would be the highest rate of growth business coming into the year. you know, as we sit here through the first half, it's been the slowest, growing part of our business at a low low single digits, so we thought it was appropriate and prudent to realign our outlook and de-risk some of the trends that we're seeing in the business through the quarter.

Jonathan Komp (Senior Research Analyst)

Do you have any ability to tell if those risks or the adjustments to the business, yeah, will be concentrated in the second half of 2023? Or any, you know, any, any perspective on when you might get some color on how wholesale trends and any destocking might carry into 2024?

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, the biggest variable for the back half of the year is gonna be the weather globally. Our retailers, they, they have relatively low inventory levels of winter merchandise carried over from prior periods, so they'll be starting the year with brand-new merchandise, and, and full, full stocks. Really, the balance of the year, in terms of weather, will be much more impactful, frankly, than, than the economy.

Jim Swanson (EVP and CFO)

I think, John, retailers are just generally being more cautious. You know, as we sit here today with where spring sell-through, and Tim touched on spring sell-through, has been a bit slower. I described inventory levels in the marketplace as being moderately elevated. When you look at, you know, some slowdown in higher inventories, naturally, they're gonna be a bit more cautious. That's, that's what we're reflecting in terms of the change in how we're seeing the revenue forecast for the balance of the year.

Then I, and then I think in terms of getting a better read on that, you know, the third quarter is typically the point in time where we're shipping an initial floor set, so it doesn't become until we get into the early fall, where we start to see that sell-through, through back to school and some of the early fall sales, to get a better read on how things are progressing.

Jonathan Komp (Senior Research Analyst)

Okay, great. Just last one from me, Jim. It looks like the guidance is assuming operating profit below 2019 levels through the third quarter, followed by a pretty significant shift to positive in the teens, in the fourth quarter, comparing against a 2019 base. I don't know if that's the right comparison to think about, but just any more color on factors that would drive that profitability flip by the fourth quarter?

Jim Swanson (EVP and CFO)

Yeah. Trying to go back to fourth quarter and comparing it to a prior period like that, I, I would have difficulty doing it. What I would say, John, though, is, you know, certainly being at a 10%-ish operating margin this year, you know, that's a disappointment from our perspective. We've got much higher expectations in terms of driving the right profitability and expanding operating margins over time. I think bear in mind, you know, as, as Tim's touched on, certainly the most significant item that's impacting and having a deleveraging effect on our operating profits is the elevated inventories that we're carrying. You know, we're not ready to provide an outlook, you know, as we think out to 2024 here today.

Having said that, if you look at the pressure that that's putting on the PNL in 2023 across SG&A, that we've touched on, as well as the clearance type activity and lower margins as we move through certain of this inventory through our outlets, it's north of 200 basis points. As we get that inventory back down into a more tolerable level and think about, potential to expand operating margin, all subject to how the top line plays out next year, that should be a tailwind for us.

Jonathan Komp (Senior Research Analyst)

That's very helpful. Thanks again for all the color.

Operator (participant)

Thank you. The next question is coming from Jim Duffy from Stifel Financial Corp., Jim, your line is open.

Jim Duffy (Managing Director of Consumer and Retail)

Thank you. Thank you, good afternoon. I wanted to ask on pricing in general, just given the pressures to consumer spending, how do you feel about your MSRP in the marketplace? You know, are you revisiting pricing at all, looking at making adjustments there? I recognize you have promotion as a tool, how do you feel about your go-in pricing and the price-value equation?

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yes, Jim, I think we're, we're in good shape, actually. I, I, I don't believe that these, the reduction in, in our guidance is a function of of our products being overpriced. You know, I, I think we're in the right spot, and, frankly, as the, as the business normalizes from an inventory perspective, we intend to increase, our marketing spend over time to, to give us a, a larger voice, to the consumers. No, I think we're in great shape. We've got a very efficient sourcing operation, and, you know, we expect to be able to continue to use that as a lever together with our balance sheet to make a better organized approach to the marketplace.

Jim Duffy (Managing Director of Consumer and Retail)

Okay, thank you. I also thought I'd ask just about inventory composition, and in, in the past, you'd spoken about footwear versus apparel. How does that split? Are you heavier in footwear than you are in apparel, or is it relatively balanced?

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, we're slightly heavier in, in footwear, than we are in apparel. You know, we're pretty good at estimating the values we're gonna be garnering out of this inventory, so we're generally pretty accurate on the gross margin guidance. I think we've, we've built in the right approach to, to how we plan to liquidate this.

Yeah, and then, and then just looking at the composition of the inventory, Jim, at a high level, call it around 50% of the inventory is current season, 20% of it's aged, and then the balance would be the carryover, the evergreen-type styles. That 20% that's aged, that's not too far off of, you know, it's more elevated than where we would like, in light of, the outlet stores that we have to leverage, we've opened up some temporary stores. You know, we feel perfectly comfortable, working that inventory down in the latter part of this year.

Jim Duffy (Managing Director of Consumer and Retail)

Very well. Thank you.

Operator (participant)

Thank you. The next question is coming from Abbie Zvejnieks from Piper Sandler. Abby, your line is live.

Abbie Zvejnieks (Analyst)

Hi. Yeah, thanks for taking my question. I know a smaller piece of the business, but can you just, you know, talk about kind of how you're thinking about the go-forward growth trajectory of both prAna and Mountain Hardwear? Thanks.

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah, I-- Mountain Hardwear, as you know, is a, is a high-end alpinist brand, and we believe that we've got the right team managing that business today. It's been challenged in the past, but frankly, I think we're in the right spot with that brand, and there's large opportunity for us, especially in the US, as we approach some specialized retailers. Yeah, it's an area where, where it's sort of a smaller niche consumer, and I believe that's, that's gonna be... We'll be successful with that brand, and, and we have the right people in place to manage it.

Operator (participant)

Okay. Thank you. The next question is coming from Mauricio Serna from UBS. Mauricio, your line is live.

Mauricio Serna (Executive Director)

Great, thanks for taking my question. I wanted to ask about the sales guidance. Just if I look at the through Q3 outlook you provided, I think it implies sales will be down 2% to 8% in Q4. Just want to understand if that's all related to shift in wholesale shipments, you know, like between the quarters, or how. From a regional perspective, how should we think about that? Just wanted to confirm, like, if I would think that a lot of that maybe is coming from U.S. Then maybe if you could talk about, you know, you've commented about some challenges in the footwear category. Just wanna make sure, like, if those challenges that you're talking about, are that, like, related specifically to outdoor, or would you say it's more like throughout overall, you know, sportswear? Thank you.

Jim Swanson (EVP and CFO)

Tim, you want to touch on footwear one, then I'll come back around with sales?

Peter Bragdon (EVP, Chief Administrative Officer, and General Counsel)

Yeah. Yeah, I can talk about the footwear in that. The outdoor category has been softening a bit. That's where the primary business for the Columbia brand is. The Sorel brand, on the other hand, is, is primarily women's fashion brand. We've seen great successes in the sandal category with that brand, and the expectation for the balance of the year is solid growth in women's protective footwear, as well as fashionable products. We're excited about that, but there, there is some softness in the outdoor category as it relates to the Columbia brand.

Jim Swanson (EVP and CFO)

Mauricio, as it relates to the sales guidance, we've provided third quarter revenue growth of 4% to 6%, then, if you engineer that back to what would be contemplated in the fourth quarter, it'd be down a mid-single digit percent. To your question, there, there are still a lot of timing shifts each quarter. You know, last year, for the fall 2022 season, we were awfully late getting inventory to the market, and so there was a higher proportion of our fall 2022 wholesale orders that shipped in the fourth quarter. We're contemplating being much earlier, and we would expect our wholesale direct business being up quite substantially in the third quarter. There's gonna be an offset as we ship the international distributor fall 2023 orders in the second quarter.

There is an awful lot of noise when you get into the overall timing impacts of our wholesale and distributor business. Keep that in mind when you look at quarterly flows. Then, as it relates to the direct consumer side of the business, I think we've planned it relatively stable in Q3, Q4, mid-single digit percent of growth.

Mauricio Serna (Executive Director)

Got it. Sorry, can you repeat that number? Mid-single digit for DTC, is that, is that right?

Jim Swanson (EVP and CFO)

Yes. Yep, that's right.

Mauricio Serna (Executive Director)

Okay. Thank you very much.

Operator (participant)

Thank you. The next question is coming from Alexander Perry from Bank of America Securities. Alex, your line is live.

Alexander Perry (Director of Equity Research)

Hi, thanks for taking my question. I just have one here. I just wanted to ask, can you talk about how you're thinking about gross margins in the third quarter? Should they be up year-over-year? Do you still expect a, you know, fairly promotional environment as we enter the back half? Like, I guess within the full year gross margin guide, what is sort of the expectations for, for promos in the back half, and any color on sort of, you know, Q3 versus Q4 gross margin would be super helpful. Thank you.

Jim Swanson (EVP and CFO)

Yeah, as it relates to Q3 gross margin, we've not gotten down into specifics from our guidance standpoint, aside from providing a revenue and an operating income outlook. Having said that, we would expect gross margin to be up in the third quarter. You know, we'll continue to benefit from the lower inbound freight costs. You know, that should be a 300 basis point benefit in the third quarter. There's gonna be some favorability as it relates to the region and channel mix as well with lower sales from our distributor business, which carries a lower gross margin. So there, there is an offset, however, and that's to your point in terms of, you know, what we're expecting from a promotional and clearance standpoint.

That's by and large, offsetting a lot of that, in the third quarter, and that's effectively as we move through this inventory through our outlets. You know, we're, we're more or less holding the, the promotions that you would see marketed, but as it relates to in-store and the age or the excess inventory moving through there from a clearance standpoint, those are marked down a bit more. That's essentially the offset that you see in the margin. The fourth quarter, we anticipate being up as well, and it's really those same drivers that are gonna, that are gonna be at play.

Alexander Perry (Director of Equity Research)

Perfect. That's really helpful. Best of luck going forward.

Jim Swanson (EVP and CFO)

Yep. Thanks, Alex.

Operator (participant)

Thank you. There are no other questions at this time. I would now like to hand the call back to Timothy Boyle for closing remarks.

Timothy Boyle (Chairman, President, and CEO)

Thank you very much. Thanks for listening in. Look forward to talking to you at the end of Q3.

Operator (participant)

Thank you. This does conclude today's conference. You may disconnect your lines at this time. Thank you for your participation.