Ralph Lauren - Earnings Call - Q4 2011

Transcript

Speaker 4

Now for opening remarks and introductions, I would like to turn the conference over to Mr. James Hurley. Please go ahead, sir.

Speaker 2

Good morning, and thank you for joining us on Ralph Lauren's fourth quarter and full-year fiscal 2011 conference call. The agenda for the call includes Roger Farah, our President and Chief Operating Officer, who will give you an overview of the year and comment on our broader strategic initiatives. Jackwyn Nemerov, our Executive Vice President, will provide some product commentary, and Tracey Travis, our Chief Financial Officer, will provide operational and financial highlights from the fourth quarter, in addition to reviewing our initial expectations for fiscal 2012. After that, 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. The principal risks and uncertainties that could cause our results to differ materially from our current expectations are detailed in our SEC filings. Now I'll turn the call over to Roger.

Speaker 5

Thank you, Tim, and good morning, everyone. We're pleased to be reporting fourth quarter and fiscal 2011 results that were much better than the expectations we articulated for you during the last year. We responded to a rapidly changing environment by pursuing additional market share opportunities and working to protect margins in the face of unprecedented inflationary pressures for our industry. At the same time, we made excellent progress on each of our strategic growth objectives and delivered the best operating results in our history, continuing the five and ten-year trends of double-digit sales and earnings growth, and generating for the first time over $1 billion in EBITDA. Tracey will provide more complete commentary on our financial performance later on, but I did want to highlight some of our key achievements.

The 14% increase in annual revenues was double our original outlook, fueled by the excellent momentum of our core apparel offerings, particularly in the U.S. and in Europe, where revenues rose at a double-digit rate. The diluted EPS growth of 22% was achieved after substantial reinvestment back in the businesses, including the startup of Southeast Asia and Greater China, the transition of South Korea, and the development of international e-commerce. We also managed the initial onslaught of cost of goods inflation in the second half of the year and the negative impact of several calendar and holiday shifts, including a 53rd week last year that had more than a distorted impact on our fourth quarter results. There were extraordinary items such as restructuring and store impairment charges and the disruption in Japan.

The quality and consistency of our results reflect the clarity of our strategic focus and our ability to execute with excellence as we now have more direct control of our operations and key merchandising categories around the world. The strong results enabled us to enhance shareholder returns by repurchasing nearly $600 million of stock and doubling our quarterly dividend during the year. I'd like to take this opportunity to acknowledge the incredible spirit and resilience of the Japanese people following the devastation caused by the recent earthquake and tsunami there. I'm pleased to report that all 1,500 of our Japanese employees were safe and accounted for within hours of the disasters, and we continue to support them in their time of great need with various fundraising efforts.

The long process of rebuilding is just beginning and will obviously have an impact on our fiscal 2012 outlook for the region, but we are happy to see the nation on a path to recovery. Moving back to the year, our operating results were achieved in a manner that was totally consistent with the key strategic initiatives that we've been executing against for the last several years, namely the elevating of our brand as we expand our international presence, the innovation of new merchandising categories, and extending our direct-to-consumer reach. These objectives are supported by world-class advertising and marketing, the continued development of our leadership teams, investments in operational infrastructure, and prudent financial management. Over the next three years, we intend to invest over $1 billion in total capital to continue advancing our strategic objectives.

About half of that will be allocated to new stores, concession shops, and additional e-commerce development, all with an emphasis on international markets. We made major strides in our international growth objectives during fiscal 2011, assuming control of our distribution in South Korea during the fourth quarter and completing the last phase of our multi-year mission to bring our Asian operations in-house that began with Japan in 2007. The South Korea transition process, which includes the onboarding of 200 employees, multiple systems integration, was very smooth. After operating South Korea for five months now, we are encouraged by the early business trends, sales, gross profit margins, and operating expenses, all of which have been favorable to plan. We look forward to executing our growth strategies in this vibrant luxury market over the next several years.

We also completed our first full year with additional control of our distribution in Southeast Asia and Greater China. We've learned a lot in the last year. First and foremost, we are pleased with the local customer acceptance of our luxury products, particularly our accessories. The new shops we've opened are performing well ahead of our expectations, primarily due to our more elevated merchandise mix, but also to more appropriate locations and adjacencies. Our experience in the last 12 months has provided us with excellent clarity on our future brand positioning and real estate strategies in this important market. As we consider the modest size of our existing distribution network and assess our long-term outlook for the Greater China region, we believe we have a once-in-a-lifetime opportunity to reposition and upgrade our market presence.

We intend to do this in a manner that is in sync with our existing global brand elevation strategies. The multi-year process will include more concentrated expansion of our elevated apparel and accessory products. Our real estate strategy will include flagship stores in key cities and more appropriate formats for additional points of distribution and secondary markets, similar to the hub-and-spoke approach we've used in New York and London. Over the next 12 months, we intend to exit approximately 65 points of distribution that do not support our global real estate and merchandising strategies in this market. We believe these accelerated actions will allow us to deliver a clearer brand message to this critical customer, one that is better aligned with our presence in the rest of the world.

The Chinese are poised to become the world's largest consumers of luxury goods, and they are already driving a substantial portion of the industry growth outside of China as they travel around the world, which is why the consistency of our global presence is so important. As we've indicated before, the playbook is similar to what we've accomplished in Europe, where our local team has meticulously positioned our brand over the last decade by educating the customer about quality and the value of our products. We've supported this with considerable investment in upgrading our distribution across the continent. Today, we have a well-balanced representation across a range of formats, including our own retail stores, e-commerce in the U.K., monobrand licensing stores, as well as department stores and specialty stores. Europe continues to yield excellent sales and profit growth for us.

We expect sustained double-digit sales growth in this region over the next three years. We believe we can achieve this ongoing growth with our core apparel merchandising that is accentuated by the introduction of new merchandise categories and brands, including Club Monaco into selected wholesale accounts this fall, the rollout of e-commerce to additional countries, and new store growth. Our focus on brand elevation is perhaps most apparent with our direct-to-customer efforts. The investments we've made in our stores and in the growing of our e-commerce platform showcase our commitment to the global luxury customer. Our stores in the world's premier gateway cities typically have a mix of locals and tourists. Similar to our advertising and marketing efforts, they're important vehicles for us to reinforce the clarity and consistency of our brand expression.

They also provide a halo for merchandise we sell across all distribution channels and set the stage for our long-term growth potential across lifestyle ranges and product categories. We will continue to grow our retail presence with a focus on the world's most dynamic markets. Of the approximately $500 million in capital, we intend to invest over the next three years for new stores, concession shops, and the continued development of global e-commerce. Nearly 70% of this capital will be allocated to international markets. Shortly, Jackwyn Nemerov will be commenting on the progress we've made with key merchandise categories and some exciting new launches for fiscal 2012. Our company's success obviously begins with the appeal of our product, and that is why we continuously invest in merchandise innovation.

The integrity of Ralph's design process and our high production quality standards is an important part of our heritage, and our customers expect nothing less than the best from us. As we began navigating unprecedented cost of goods inflation in the second half of fiscal 2011, a bedrock principle for us was that we would not compromise the quality of our products or the continuity of our execution. We also determined not to make material pricing adjustments to our spring/summer merchandise. We believe these decisions have supported our strong spring sell-throughs and market share gains across channels. As cost pressures intensified into fiscal 2012, we made a thoughtful pricing adjustment by brand and region to help mitigate inflationary pressures.

In general, these adjustments do not fully offset our higher costs, and this is expected to have a negative impact on our fiscal 2012 gross margin, particularly as we make large fall wholesale shipments in the second quarter. We are confident in the strength of our merchandising assortments, and we believe our unwavering commitment to the integrity of our product and the value proposition will be a competitive advantage for us, but we will not know the full impact of our actions until the customer reacts to the new pricing in the fall. Sitting here today, we enter fiscal 2012 with excellent momentum in our business. We are accelerating growth where our market share is already strongest, and we're investing in emerging opportunities that we believe will offer the most compelling long-term shareholder value creation.

It is a continuation of the strategy that has delivered consistent mid-teens sales growth and even better earnings growth over the last five and ten-year periods. We expect that momentum to be maintained as we assess our outlook over the next three years, when the investments we've made in fiscal 2011 and the ones we plan to make in fiscal 2012 bear fruit in fiscal 2013 and beyond. We believe we'll generate over $3.5 billion of EBITDA over the next three years, which is a testament to the high-quality growth we are pursuing. In recognition of our strong cash flow, yesterday our board increased our share repurchase authorization by another $500 million. With over $1 billion in cash and investments already on our balance sheets, we are confident we have the financial strength to pursue all of our growth aspirations, and we are very excited about the future.

With that, I'd like to turn the call over to Jacky.

Speaker 1

Thank you, Roger, and good morning, everyone. Fiscal 2011 was an exciting year for us with respect to the expansion and development of our products. We gained market share in most merchandise categories around the world. The double-digit growth we experienced in the U.S., Europe, and Asia clearly demonstrates that customers not only responded to the compelling design and quality of our products, but also to our strategic merchandising initiative, which enabled us to generate significant sales growth. Our core business is performing exceedingly well across men's, women's, and children's. The consistent upgrading of our in-store shops and visual presentations has been an important backdrop to support the momentum in our various brands.

Our ability to expand the bandwidth of each of our brands to address new lifestyle sensibilities has deepened our relevance with the customer who knows they can always count on Ralph Lauren for distinctive, high-quality merchandise in all aspects of their life. Emerging categories such as accessories, dresses, activewear, and footwear offer excellent examples of our ability to extend our brand into new classifications with tremendous success in a relatively short period of time. It has also allowed us to secure incremental distribution and floor space. We built the Lauren Dress Division from scratch just three years ago, hiring industry-leading talent to address an emerging category that was a natural extension of our core Lauren sportswear business. Today, we are already among, if not the, better leading dress resource in the department store channel, and we still have considerable growth before us, both in terms of expanded distribution and assortment.

We just added evening and special occasion dresses, as well as special sizes, to our dress assortment. Footwear is a similar story, one that is equally compelling in both men's and women's. The breadth of our footwear assortment has expanded dramatically in the four years since we acquired this business. In that time, we tripled the size of our hotel shipments. Today, we are recognized as an important footwear resource with the ability to sell in both specialty retail and department store environments in a manner that supports our overall brand objectives. We will continue to evolve the assortment into exciting new lifestyle sensibilities in fiscal 2012, including footwear that complements our Black Label and RLX brands. Up until now, our success in the category has been concentrated in the U.S., where we continue to have growth opportunities.

During fiscal 2012, we intend to expand our Ralph Lauren footwear and add Polo and Lauren footwear into Europe, which is an exciting next step in the evolution of our overall accessories strategy. RalphLauren.com and international markets are expected to play a key role in our long-term development of this category. Fiscal 2011 was a pivotal year for our handbag efforts. While we've had Ralph Lauren luxury products for the last few years, led by our iconic Ricky Bag, fiscal 2011 was the first year we really began to address the broader lifestyle opportunities. As a result, in luxury handbags, we now have a compelling assortment of merchandise in the sweet spot that has historically been dominated by leading European brands. This spring, we had broad success in the handbag category and did extremely well with Ralph's iconic Western-inspired designs, including the Navajo blanket bags and the leather lace tote.

Although Ralph Lauren handbags are now primarily available in our own retail stores and on RalphLauren.com, as the assortment grows, we believe we have an important opportunity to develop worldwide distribution for this product in leading specialty and department stores that currently feature our apparel merchandise. Our first Lauren handbag collection was introduced last fall, and we have experienced excellent progress to date. Momentum has accelerated as customers became more aware of the product and as we've expanded our merchandise offering. We are very excited about the long-term global opportunity with Lauren handbags, which should evolve as we expand distribution over the next several years. With both the Ralph Lauren and Lauren brands, we are steadily building a staple of iconic designs to further develop what we believe will be a very strong accessories platform.

With as much as we've accomplished in fiscal 2011, we have several new merchandise opportunities in 2012. The first is inspired by Ralph's long-time love of denim, one of the most iconic staples of the American wardrobe. At the luxury level, we are launching Black Label denim for men, which will complement and extend our modern Black Label sensibility, and women's collection denim, which is a new luxury denim lifestyle offering that we feel is unique to the marketplace. At the premium level, we are launching Denim & Supply Ralph Lauren, an exciting new brand that captures the heritage of denim with an edgy, bohemian attitude that is distinctly Ralph Lauren and perfect for the young customer. The launch of Denim & Supply Ralph Lauren offers incremental distribution for us in North America, where the merchandise will be sold through approximately 250 better department stores and on RalphLauren.com.

Denim & Supply Ralph Lauren will replace the Polo Jeans Company brand in Europe and Asia and will essentially maintain the existing distribution network for those products. The introduction of Denim & Supply Ralph Lauren is an important step in expanding our world of denim merchandising strategy. Fiscal 2012 will also showcase a renewed focus on our Ralph Lauren and Lauren home product merchandise categories. Over the last year, we've selectively taken more direct control of certain product categories, including textiles, which had been one of our largest licenses, while finding best-in-class partners for others. We opened a new distribution center in May for Lauren textiles to include bedding and bath products. Today, we have categories of furniture, bedding and bath, tablecloth, tops, lighting, rugs, fabrics, wall coverings, gifts, and accessories.

All the key classifications in home are in place to deliver an impactful and integrated lifestyle presentation for our customers, which we believe will support new growth opportunities. For home, in fiscal 2012, we intend to enhance distribution by partnering with our wholesale customers to showcase the products and implement strategic merchandising initiatives that appropriately tell the story of our collection. We already have a handful of flagship locations for each of our home products: 888 Madison Avenue in New York, our store in Greenwich, Connecticut, and London for Ralph Lauren homes, and Lord & Taylor in New York City for Lauren homes. We are also gaining traction with department stores and specialty stores in Europe. Clearly, a lot was accomplished in fiscal 2011 with more opportunity in the future. With that, I'll turn the call over to Tracey.

Speaker 2

Thank you, Jackwyn, and good morning, everyone. As Roger highlighted earlier, we reported excellent full-year operating results, and the fourth quarter, which despite the impact of meaningful calendar shifts that we described to you on our third quarter earnings call, exceeded our expectations given the continued momentum in our business. Incremental sales and profit within our retail segment were the primary drivers of the upside, with all regions of the world contributing to the outperformance, although the heaviest concentration was achieved in the U.S. Before I provide you with further insight into the fourth quarter's operational drivers, I do need to remind you of the nature of the calendar shifts we told you about in February that negatively affect comparisons with our prior year period, impacts that were reflected in the guidance we previously provided you for the fourth quarter.

Roger mentioned them as well, and they do include an extra 53rd week that was in our results last year in the fourth quarter and a later Easter week this year that shifted that holiday sales growth into the first quarter of our fiscal 2012 versus the fourth quarter that we're reporting now. Lastly, we also mentioned the timing of the high-volume sales week post-Christmas that fell within our third quarter of fiscal 2011 compared to the fourth quarter of fiscal 2010. On a normalized calendar basis, we estimate that the shifts alone negatively affected our reported sales growth in the quarter by approximately 10 full percentage points. Unless otherwise noted, my discussion of our fourth quarter business performance is based on our reported GAAP financial results, which reflect a 13-week period for fiscal 2011 and a 14-week period for the fourth quarter of fiscal 2010.

On a reported basis, consolidated net revenues were $1.4 billion in the fourth quarter, 7% above the prior year period and led by a double-digit gain in retail segment sales. Our retail performance was better than we expected in several areas, including same-store sales, the contribution from new stores, and our performance in Asia, excluding Japan. We did not incur any meaningful impact from foreign currency translation on our consolidated fourth quarter sales, as the strengthening of the Japanese yen was mostly offset by a modest weakening of the euro relative to last year. The gross profit margin of 56.8% was essentially in line with our expectations. As we have communicated all year, we have incurred cost of goods inflation for this year's spring/summer season, and we determined that we would not make any material changes to our pricing until the upcoming fall season.

Some of the inflationary cost of goods pressure we experienced in the fourth quarter was offset by a higher level of full-price selling at most of our retail concepts and the seasonal variation in our overall channel mix. Operating expenses of $693 million were 12% above the prior year period, and the operating expense margin rose 240 basis points to 48.6% in the fourth quarter, reflecting incremental expenses associated with our newly transitioned South Korean operations, the continued investment in our growth initiatives, and higher incentive compensation costs. Fourth quarter operating income of $117 million was 32% below the prior year period, primarily due to the calendar shifts affecting the comparability with the prior year period and the lower gross profit margin and higher expense rate I just discussed. Net income was $73 million, and net income per diluted share was $0.74 for the fourth quarter of fiscal 2011.

Our effective tax rate in the fourth quarter at 34.4% was approximately 250 basis points higher than the prior year period, as a greater proportion of our earnings were generated in higher tax jurisdictions. Due to the timing of the natural disasters in Japan, which occurred in the latter part of our fiscal fourth quarter, the financial impact on our reported results was relatively modest at approximately $0.02 per diluted share. Moving on to segment highlights, wholesale segment sales rose 2% to $752 million in the fourth quarter, as strong growth in U.S. wholesale shipments, continued growth in department stores in Europe, as well as expanded distribution in Greater China, were mostly offset by a planned decline in Japanese wholesale shipments and softness in some European specialty stores, most notably in Italy.

Wholesale operating income was $136 million in the fourth quarter, and the operating profit margin was 18.2% compared to 24.9% in the prior year period. The decline in margin rate is primarily attributable to the cost of goods inflation, lower Japanese wholesale shipments, and continued investment in new merchandise categories. The 14% increase in retail segment sales in the fourth quarter of fiscal 2011 primarily reflects strong momentum at our factory stores worldwide and on RalphLauren.com, as well as the incremental contribution from newly transitioned South Korea operations. Overall, comparable store sales, which I am referencing on a 13-week to 13-week basis, increased 7%, which was achieved on top of a 16% gain in the prior year period, and of course, exclude the sales at the Asian stores and concession shops that we assumed in the fourth quarter of fiscal 2010.

These sales will be included in our comps beginning in the first quarter of fiscal 2012 as they are fully anniversaried. The 3% decline in Ralph Lauren comps during the fourth quarter is entirely due to our retail Japanese operations. Excluding Japan, Ralph Lauren comps were flat on top of a 17% increase in the prior year period. Sales trends at our global flagship locations worldwide, many of which are not in our comp base, have been very strong, which is consistent with the rebound in sales of global luxury products. Factory store comps rose 8% in the fourth quarter. Club Monaco comps were up 10%, with excellent performance in Trend Rite women's fashions, and sales at RalphLauren.com increased 21%. Across all retail formats, customers are responding to our compelling product content, as Jackwyn Nemerov mentioned, and our focused merchandising strategies.

Our strong third-quarter sales provided us with a good start to full-price spring selling in the fourth quarter. In the U.S., high-traffic urban locations and popular tourist destinations for both Ralph Lauren and factory stores continue to post the strongest sales trends for us. We also achieved better conversion rates on higher traffic levels this quarter. In Europe, unseasonably cold weather and civil unrest in the Middle East during the quarter negatively affected customer traffic across the continent, although trends improved meaningfully in the latter part of the period. Performance in our Greater China and South Korea concession shops was also better than anticipated during the quarter. Japan's sales trended down approximately 30% in the weeks following the earthquake and tsunami, compared to relatively flat performance in the quarter-to-date period prior to the disasters.

Retail segment operating income of $26 million was 40% greater than the prior year period, and the operating margin improved 80 basis points to 4.1%. Strong comp growth and higher full-price sell-throughs more than offset the short-term dilutive impact of South Korea, investment in international e-commerce, cost inflation, and extraordinary items such as the business disruption in Japan. Licensing royalties for the quarter were $44 million, 6% below the prior year period. Higher fragrance licensing revenues were more than offset by a decline in international licensing revenues related to the South Korea transition. We also had lower home product licensing revenues as a result of some of the strategic changes that Jackwyn Nemerov spoke to earlier. The 19% decline in licensing operating income in the fourth quarter is attributable to the same international and home effects that impacted sales for licensing.

Consolidated inventory was up 39% at the end of the fourth quarter on a reported basis. Approximately half of the increase in dollars is to support the anticipated sales growth and shipment cadence highlighted in our fiscal 2012 outlook. A quarter of the increase is related to newly transitioned Asian operations within fiscal 2011. As you recall, we had unusually low inventory levels this time last year from the transition of the Southeast Asia and Greater China region, and our South Korean inventory is entirely incremental this year versus last year. The remaining quarter of the increase is attributable to cost of goods inflation and foreign currency dynamics. With a relatively flat inventory turn and our near-term sales expectation in the first quarter, we remain comfortable with the content and currency of our inventory.

We spent approximately $255 million in capital expenditures during fiscal 2011 to support our retail store and wholesale shop development worldwide, in addition to continued infrastructure investments. We also repurchased approximately 6 million shares of stock for an aggregate of $578 million during the year, including 2 million shares for $247 million during the fourth quarter. Yesterday our board authorized an additional $500 million for share repurchases, bringing our total current authorizations to $976 million. We ended the year with $1.1 billion in cash and investments after funding all of our capital and acquisition cost needs and returning a substantial amount of capital to shareholders via our share repurchase activity, as well as a doubling of the dividend. Fiscal 2011 was clearly a year of tremendous progress for advancing our strategic objectives while still growing earnings at a double-digit rate.

We are encouraged by the current momentum of our underlying business trends, even though we are mindful and experiencing intensifying inflationary dynamics that are beginning to broadly affect consumers. While we are currently benefiting from strong demand for our products across most channels and formats worldwide, we are increasingly impacted by the inflationary pressure on cost of goods, as evidenced by our fourth quarter gross margin dynamics. As most of you know, the cost of goods inflation we began to experience in the second half of fiscal 2011 intensifies in fiscal 2012 with fall inventory receipts. Beginning this fall, as Roger indicated, we made what we believe are responsible selective pricing adjustments to mitigate a portion of the impact.

In general, we determined not to pass on the full impact of our higher cost of goods, and the magnitude of inflation is such that we do expect our gross profit margin and therefore our operating margin to be down in fiscal 2012. We believe the consumer will accept some higher prices due to the strength of our brand and the consistent quality of our merchandise, but after a decade of apparel deflation, the actual customer reaction remains unknown until the merchandise is available for sale in stores. We also remain committed to our strategy of investing in growth initiatives and infrastructure during fiscal 2012, including international retail expansion and e-commerce and continued systems enhancements. Sequencing these types of investments as we have in the past helps to drive profit growth in future years.

Now I'd like to briefly review our initial expectations for the year that we outlined in this morning's press release. For the first quarter of fiscal 2012, we currently expect consolidated net revenues to increase in the mid-20% range, a rate of growth that is an acceleration of the momentum we experienced in the second half of fiscal 2011 and is positively impacted by the benefit of the later Easter sales I highlighted earlier. Wholesale revenues are expected to increase at a low 20% rate based on strong shipment growth in both the U.S. and Europe. Retail segment sales are expected to grow slightly faster than wholesale revenues, a function of low double-digit comparable store sales growth and the contribution from new stores and concession shops, inclusive of our incremental South Korean concession shops and stores.

Our operating margin for the first quarter is expected to be approximately equivalent to the prior year period, with a higher retail niche offsetting the continued margin decline in wholesale duty-free goods. We will also incur higher operating expenses related to the continued investment in our growth initiatives across geographies, distribution channels, and emerging product categories. For the full fiscal 2012 period, we expect revenues to increase at a mid-teens rate, with retail segment sales again growing slightly faster than wholesale revenues. Our full-year operating margin is expected to decline 100 to 150 basis points, primarily due to the gross profit margin pressure I discussed earlier. We also continue to monitor our performance closely in Japan, post the unfortunate incidents of the earthquake, tsunami, and nuclear crisis.

As the entire nation is obviously preoccupied with its safety and relief efforts, we currently expect the initial disruption and subsequent irregular shopping patterns in Japan to negatively impact our fiscal results, which is also reflected in our sales and margin guidance. We will also support our growth initiatives with advertising and marketing spending for our new product introductions to generate more awareness for emerging product categories such as denim and to support our international expansion efforts. We have excluded any potential extraordinary charges that may result from our Greater China repositioning efforts. These charges could range from $10 million to $20 million, depending on the timing of the closure. Our fiscal 2012 tax rate is planned at approximately 33% based on our forecasted income mix and excluding any discrete items.

We intend to spend approximately $325 million in capital expenditures in fiscal 2012 to support our retail and wholesale growth initiatives and the consistent upgrading of our global infrastructure. We currently expect to open 34 new stores and 47 concession shops during the year and close 65 stores and shops in the Greater China region as part of the repositioning that was discussed earlier by Roger. Much of our capital next year is dedicated to our international growth efforts, including continued expansion of Ralph Lauren in the Asia-Pacific region, the introduction of Rugby and Club Monaco brands into Europe, and the launch of Denim & Supply Ralph Lauren with shops in leading department stores around the world. We have communicated a lot to you this morning regarding our results and our plans for this year.

We are clearly balancing multiple factors in our fiscal 2012 outlook with the realities of the margin pressure as we execute our plans. Over the years, our team has demonstrated incredible agility when faced with highly uncertain market environments, and we expect the same to be true in fiscal 2012 as we navigate through the near-term impacts of commodity inflation. Our ability to gain share in our largest markets and expand merchandise categories is enabling us to build additional platforms for future growth, and our financial strength and increasing cash generation prowess allow us the flexibility to invest in opportunities that will yield substantive future returns for our shareholders. With that, let's open the call for your questions. Operator, would you assist us with that?

Speaker 3

Absolutely. The question and answer session will be conducted electronically today. If you would like to ask a question, please signal by pressing star one on your touch-tone telephone. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Just a reminder to please limit yourself to one question. Once again, please press star one at this time if you do have a question. We'll pause for just a moment. We'll take our first question from Kate McShane with Citi.

Thank you. Good morning. I'm curious, with your guidance for next year, how should you think about SG&A dollar growth? Will you be leveraging the spend next year, and has anything changed in terms of your expected level of spending in Southeast Asia and Korea versus when you last talked about the opportunity there?

Speaker 2

We would expect, Kate, slight leverage. Our operating margin guidance does exclude, as I mentioned, any potential restructuring charges that might occur from the Greater China repositioning. We would expect some slight SG&A leverage, excluding any charges. The bulk of the operating margin decline would be related to cost of goods pressure. In terms of extra spending in Asia, we certainly are continuing to invest in infrastructure. We're continuing to invest in advertising as we rebrand our product in the market, and those are investments that will accelerate in fiscal 2012.

Speaker 3

Our next question will come from Adrienne Shapiro with Goldman Sachs. Thank you. Roger, you just talked about the input costs, obviously, mounting, and you're looking to increase prices in the fall. Could you perhaps quantify what you're expecting the input costs in the back half? Talk about what price increases you are planning to flow through. It doesn't sound as if fully. Given how strong the top-line momentum is in light of the calendar shifts, it would seem as if we should be quite encouraged by the ability to pass it through and quite encouraged about the elasticity of demand in light of how strong the momentum is.

Speaker 5

Yeah, Adrienne, let me just cover a couple of the questions you've got in there. One, you know, the fourth quarter results we've reported is a bit of a Haley's Comet. The unusual combination of an extra week, the loss of Easter, the loss of the week after Christmas really is a bit of a false read that I think Tracey tried to capture for you. If you take the run rate of sales through our third quarter, adjusted fourth quarter, and the guidance we've provided for first quarter, you'll see that business really is quite strong. You know, really all merchandise categories and all regions and all channels are contributing to that. We're actually encouraged with the customer's response to our products and strategies. We did not take many price increases in the spring, even though we began to see some costs rising, but we have for fall.

Those increases really are very dependent on the price point of the product and the merchandise categories. The actual cost of goods inflation, you know, depending on the products, range from, you know, low to mid-single digits all the way up into the low 20%. When you look at the breadth of product we have from the highest levels of Collection and Purple Label down to products we make for Chaps, for Kohl's, and Penney's, some of the bigger cost movements were in the lower portion of that pyramid. That's where we were more cautious about passing on the products as they came through. I also believe, and this is, you know, one person's opinion, that the cost of goods that we've all seen and read and talked so much about will begin to moderate into spring and fall of next year.

I think that the supply and demand imbalance was real, and some of the other costs, you know, got run up for other reasons. I think the more natural supply and demand will begin to take effect as we look at next year. Our point of view has been we're not going to alter the quality, we're not going to alter the materials, trim, findings, or the cut of the products. We're not going to alter where we make goods because our principles of product and product integrity have been so critical to our success. We think the customers want the same product and are going to pay more for it where appropriate. I think this pig in a python is going to play itself out over the next couple of seasons. We raised our gross margin in the last seven years 900 basis points.

I think we've become very expert at sourcing, logistics, and distribution, merchandising, and really felt that a short-term blip was not something to throw us off our strategic mission. A lot of that's embedded in your question, and I've expanded it in an effort to try to cover some of what I know is on all of your minds.

Speaker 3

Next one here from Kaye Langis with Consumer Edge Research.

Speaker 2

Hey, are you there? Next question?

Speaker 3

Next question will come from Bob Droebel with Barclays Capital.

Speaker 0

Good morning. I was just wondering, on the price increases, when you think about, you know, men's versus women's versus kids, are there more sort of categories that you're leery of raising price, or where you think there will be more resistance?

Speaker 5

I think that our point of view, Bob, was really about the high-end customer, the luxury customer, the higher parts of our distribution. The customer there who has been so voracious in their appetite for our products will pay, you know, higher prices where, you know, fair value is provided. We were more cautious with merchandise categories that were in other channels of distribution where we think the customer is going to be squeezed with a lot of inflationary things coming at them in the fall. We were more cautious with those product categories. It really wasn't split across men's, women's, kids, or, you know, home or accessories.

Speaker 3

Moving on, we'll hear from Robbie Ohms with Bank of America.

Speaker 0

Oh, thanks. Good morning. Maybe a question for Jackwyn or Roger if you want to jump in. I was curious if we could get a little more insight onto the expansion to Club Monaco and Rugby and the launch of Denim & Supply Ralph Lauren in Europe and sort of how that will be, where it'll be distributed, and how it'll be positioned relative to the existing business you guys have over there.

Speaker 5

I'll start with the Club Monaco and Rugby, and I'm going to let Jacky jump in on the Denim & Supply. You know, Club Monaco, as you've been following, Robbie, the comps for years now, has been extraordinarily successful with identifying their customer, the product offering, and then the price value of what they've made. I think you also know that today that production has been integrated into our overall manufacturing cycle. We've had for years a lot of international retailers knocking on the door looking to get Club Monaco distributed in their market. We have partnered in Asia with distribution experts, but in Europe, our European team really felt that they had the ability to distribute it to key retailers as a wholesale business, as well as looking at standalone store distribution. We had a test this February that started with Browns in London that was extraordinarily successful.

We just think that product really appeals to an international customer. We see that in a lot of our New York stores where we get a lot of tourists who are coming in to buy product they can't get in other parts of the world. We think Club Monaco represents an opportunity not only in Asia where we are and we're growing successfully, but in Europe. Rugby will be opening our first store in Europe later this year in London. There again, we've had whether it's on the website or whether it's in the stores here in New York, we've had a tremendous reaction from our international customers. We opened a store in Japan last year that actually is the number two store in volume in our network. We think Europe represents opportunities and are looking for additional locations going forward with Rugby.

Jacky, you want to touch on Denim & Supply as we look at that business?

Speaker 1

Absolutely. The Denim & Supply Ralph Lauren business in Europe will replace the existing Polo Jeans Company business, which, as you know, we decided to close in the U.S. about four years ago when we made that transition. It was a very different product in Europe and a much more elevated product for both Europe and Asia. What we decided to do over time, and we've been working on this for quite a while, is develop a brand new statement in denim with a very exciting bohemian attitude, really driven to this younger customer, and over time replace the Polo Jeans business. That will now take place for fall. That will be the transition for Europe and Asia. The exciting part about the development of this brand is now we're planning a reintroduction in the U.S.

of this vibrant category, and it will be launched in about 250 stores in the U.S. and in Canada. With prime locations in men's and women's with a very fresh, impactful presentation, there'll be strong marketing placed behind it, really speaking to this young customer. Our plan is to take a very unique style of marketing this product, really reaching this audience in a very unique way. Our plans for what exactly will be done will be developed, and you'll see over the next couple of months. It's something we're very excited about, and so are the customers that we are participating with on this launch.

Speaker 5

Next question.

Speaker 3

Next we'll hear from David Glick with Buckingham Research Group.

Speaker 0

Morning. Morning. Roger, I just wanted to get a sense for the relative growth in the U.S. versus Europe versus Asia that's embedded in your guidance. Some of you guys have talked for a long time about your ultimate goal of a third, a third, a third, and just wondering if you could help us calibrate how disproportionately Asia is growing relative to Europe relative to the U.S.

Speaker 5

Yeah, it's a good question, David, and I've got a third, a third, a third tattooed on my forehead. We've had extraordinary growth in Europe. As you can see, we're putting together and seeing strong growth in Asia, excluding the issues in Japan for the moment. The only trouble is the U.S. keeps growing, and it's outrunning our estimates. While we keep growing internationally, we're growing equally fast domestically. I think the internet has added to the U.S. distribution pattern, both our own and wholesale, as we keep launching new product categories like footwear, dresses, handbags, denim. The U.S. growth is equal to the extraordinary international growth. I think as Tracey gave you some guidance to the first quarter and the full year, we are actually getting growth around the horn.

I think one of the surprises to us and perhaps to all of you was the strong core domestic wholesale growth in the U.S. I'm not sure how we're going to get to the third, a third, a third when the U.S. keeps growing, but we'll try.

Speaker 3

Next, we'll hear from Jeff Kleinfelder of Piper Jaffray.

Speaker 0

Yes, Roger, it's just a question about the Asian region and the strategy there. Given your experience operating Japan directly over the last couple of years, Korea more recently, and then heading into China with greater emphasis, what have you learned from the Japan experience that impacted your Korean strategy, and what do you expect both of those to do in terms of impacting your China strategy?

Speaker 5

Yeah, it's a good question. You know, each of those markets were run by a separate license group. As we took back Japan, separate from China and Hong Kong, separate from Korea, each one of those were the transition of a long-term license to our ownership and control. The Japanese business and the South Korea business are really heavily driven by department store shop and shops. Those marketplaces are heavily dominated by department store shop and shops. Those businesses over many years had a focus of, you know, men's casual Blue Label sportswear. In Japan, where we've had control of the business longer, we've seen tremendous reaction from the customer as we've begun to elevate product in women's and in kids and in other product categories as we've added visual enhancements and clarity as we've sharpened our message.

Pre the earthquake and tsunami, we were beginning to see nice trends in what overall was a tough market. One of the guidance issues for 2012 isn't that Japan is not beginning to show some recovery from that, but it was against what our run rates would have been prior to that. Korea, where in fact we've now had the business only for five months, we took on a terrific team of people that came with the acquisition who really knew their products. Although the licensee did run down the inventories as we got to the end of the license in December, we started January at a low level. As we've replenished inventory through the last five months, the customer there has responded, and that market has responded to better products, more elevated products, and more fashion. We feel very good about the long-term opportunity in Korea.

Of course, many of you know that a lot of the business is in Seoul, Korea, and a lot of that business is fueled by Chinese tourists. Pricing in South Korea is less than it is in the mainland of China. There is a healthy tourist component coming into Korea for shopping weekends. The year we've had China, Hong Kong, and the rest of the Dixon portfolio has also been one of a slightly different challenge because we had to build an organization from scratch. We had no history on the merchandise. We had no infrastructure, unlike the Japanese and Korea acquisition where we took on an existing team. We really had to build an organization from day one and get to know the stores and the territories. The other issue is that that market will be dominated by standalone retail into the future.

They're not really embedded in a department store-driven distribution channel. Our ability to identify and acquire key locations, both in major cities and more suburban malls, will be a key to that market. We are clearly underdeveloped in women's. We're clearly underdeveloped in accessories and kids. I think our goal would be to elevate and refine the men's business we have over time. The other thing I would just say so it doesn't get lost in the small print of the script, the Chinese are traveling the world. Many of the luxury brands that I talk to talk powerfully about the impact of the Chinese tourists in their other international locations, like Paris, London, Milan, or Switzerland.

We believe as we build up the proper presence and consistent with our global image in China, we will see those customers and the lift in our business in Europe, which we don't really get much of today. It's really a holistic approach to the Chinese customer, slightly different than the Japanese and Korean markets, that we think is absolutely exciting for the medium term and long term for this company. Let's continue to take questions. I know we're a little long because the end-of-the-year report was more robust, but we'll keep fielding questions for another few minutes.

Speaker 3

Marie Driscoll with Standard and Poor's Equity Research has our next question. Good morning. Thank you. My question is about the home category. It's exciting to hear that you're building it out. I was wondering if you could just be more granular on what you're doing both domestically and internationally. Thanks.

Speaker 1

In the home business, we really started with what we feel is the foundation of that business, which is our textile business, so our bedding and bath. That's a sizable business that we believe can really benefit from our ownership and operating methods. We have been working hard on fresh new products. The teams have done a wonderful job of really looking at the balance of what that product should be. We began shipping within May, and our sales for the season have been very strong in home. That becomes the foundation. What we then did is looked carefully at each of our licenses. We determined which really were valuable for our future, which we needed to make changes with and so forth. We have been working hard on this over the last two years with a heavy concentration in this last year.

Every one of our licenses' performance is up over the last year. We've been working very closely on the content of that product. We've most recently added lighting and rugs, and the markets have gone extremely well for those categories of products. All the changes that we've made, we're really starting to see very positive results from. Of course, we see home both in Ralph Lauren and Lauren completely holistically, so that as you enter the world of Ralph Lauren or you enter the world of Lauren, you're completely immersed in the entire experience in every category of product, as we offer the customer wonderful choices for gifts, and we offer them wonderful choices for their bedroom or their living room.

As I said, the size and scope of the categories is extensive, and we're very pleased today with the changes we've made, what we're seeing as a result, and, as I said, the very positive business performance.

Speaker 3

Next question. Michael Binetti with UBS.

Speaker 0

Hey, good morning, guys. I just want to try and make sure I understand how the margins are going to play out through the year here. If I just look at the revenue guidance, it's pretty solid. You said the biggest negative to operating margins is going to be the gross margin pressure. Am I wrong? It sounds like, I know we've touched on this a few times, that the SG&A is going to be increasing. It sounds like almost roughly the same pace as revenues, which would be a pretty big step up, right?

Speaker 2

That's, you're correct. I mean, a part of the increase in SG&A is the fact that we do have a full year of our Korea business in this year versus only, really, two months in our prior fiscal year. That's a portion of the increase in SG&A. We also called out the fact that we are increasing our advertising spend to support some of the new initiatives like home that Jacky spoke about in Denim & Supply and our international growth as well. We're also expanding our e-commerce distribution. We've spoken previously and certainly on this call as well that we're expanding e-commerce into Europe, and we're also exploring expanding into Asia as well. That investment is also in our results for fiscal 2012.

We are continuing to invest for future growth in addition to, obviously, the performance of our current core businesses, which are expected to grow quite nicely, as you mentioned.

Speaker 3

Next question. Christine Chen with Needham. Thank you, and congratulations on a great year.

Speaker 5

Thank you, Christine.

Speaker 3

I wanted to ask, I know it's hard to quantify it, but the uncertainty in Japan, has that also affected some of the tourist business in maybe China or South Korea and anywhere else since they do travel? Do you expect that to maybe resume? You had said that you expect South Korea to be accretive this year, correct? Diluted in the near term, but ultimately at the end of the year, it should be accretive?

Speaker 2

Yes, diluted in the fourth quarter and accretive for the fiscal 2012 year.

Speaker 5

Yeah, in answer to your question about the Japanese tourists, I mean, clearly in the two months right after the earthquake and tsunami, the tourist travel in Japan was dramatically down. Although, quite frankly, the Chinese tourists are today the dominant influence in really the gateway cities. One of the interesting subjects that's not often reported is the difficulty that Chinese tourists have to get visas to visit in the U.S. Today, many of the tourists that are traveling out of China are really going to Europe. While that's a wonderful trip and a wonderful experience, we'd love to get more of them into the U.S. Nevertheless, where you see Hawaii or other Asian destinations for tourism, the Japanese tourist is staying closer to home. Although I think it's going to be a quarter-to-quarter update. We're already seeing some recovery in the mood and the spirit in Japan.

There's definitely an attitude of trying to move on, and then we'll see how that plays out for the tourist business. The headline issue on the tourist business is the Chinese and their impact on the global shopping pattern. You know, as I said earlier, is extraordinary, not just in their home market, but as they move to other countries.

Speaker 3

We do have time for one more question. We'll take our final question from Faye Lands with Consumer Edge Research.

Speaker 0

Hi. Sorry about the snafu earlier. Just a quick follow-up on SG&A. Your points about next year's SG&A spending were explicit. Appreciate it.

Speaker 4

I was just wondering if you could talk, to address two issues there. First of all, how we should think of this in the out years. Obviously, there's lots of ways to spend money to support the business. What kind of SG&A sort of philosophy will you have after next year as the businesses continue to ramp up all over the world? Also, given some degree of uncertainty regarding consumer response to rising prices, which you had outlined earlier, how much flex do you have in the SG&A? How much could you crank it down? How much flexibility do you have to crank it down if sales aren't quite what you expected?

Speaker 2

No, great, great questions, Faye. I'll start, and perhaps Roger will finish up. One of the other impacts that I didn't mention that is impacting, if you just look at our SG&A, is how we are growing. We called out the fact that in Q4, retail grew faster than wholesale. In fiscal 2012, we also called out the fact that retail is growing faster than wholesale. Our strategies to grow Asia are primarily retail growth, whether they're concession shops or freestanding stores. That does have an impact on SG&A. It's a mixed impact. With retail, you have higher gross profits and higher SG&A costs. That too is impacting us.

As it relates to fiscal 2012, I can only point you back to the recession, when we were faced very suddenly with a reduction in sales and made some prudent choices as it relates to discretionary spending and other spending as well. Certainly, if the sales don't materialize, which we're pretty comfortable they will, we have been very thoughtful in terms of how we've planned price increases. There's a lot of other economic noise in the environment with gas prices and food prices rising and everything else that we will certainly make prudent choices, if need be, to manage the year as we have previously. In the future, I think you can expect us to continue to invest in growth strategies. I think that's been working very well for us in the last few years. It's the reason why Jackie spoke about our tremendous footwear growth this year.

It's the reason why Europe has contributed as much as it has over the last few years for us as a company. We have been very smart and thoughtful on the executive leadership team here under Ralph's direction of investing in high-return projects, both in the near term as well as long term. We certainly will continue to do that. Asia represents, again, a very exciting opportunity for us along those lines. Roger?

Speaker 5

Yeah, Tracey's answer is complete. The only thing that I would add is the question to Jackie as we transition from what was a licensed textile business to owned. We're obviously taking on expenses that used to be licensed. Same for Korea, former licensed category, bringing it in-house. The launch of Denim & Supply Ralph Lauren, which is a new business which comes with expenses before we start shipping. We believe, Faye, that those will begin to moderate as we've come full circle on most of the key license activities. As we continue to see the kind of sales increases we've enjoyed, my expectation is we'll be able to leverage the expense line. If I'm right, we'll begin to see over the next 12 months supply and demand get in better alignment, which will help mitigate some of the margin impacts. I know we've run long this morning.

We tried to cover a lot of information on fourth quarter, fiscal 2012, some small highlights of the next three-year outlook, and what our focuses are going to be. We're very excited about the consumer trends and reactions to our strategies. We'll see how the fall pricing impacts. My guess is Polo Ralph Lauren product, you know, will continue to win and take market share. When we get together in August to talk about early reads on fall, I think we'll have a better idea.