Urban Outfitters - Earnings Call - Q4 2012

Transcript

Speaker 6

Ladies and gentlemen, welcome to the Urban Outfitters, Inc. fourth quarter fiscal year 2012 earnings call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will follow at that time. Please do not queue for the Q&A portion of this call until announced. Anyone doing so prematurely will be deleted from the queue. If anyone should require assistance during the conference, please press star, then zero on your touch-tone telephone. As a reminder, this conference call is being recorded. I would now like to introduce Oona McCullough, Director of Investor Relations. Ms. McCullough, you may begin.

Speaker 7

Good afternoon, and welcome to the URBN fourth quarter fiscal 2012 conference call. Earlier this afternoon, the company issued a press release outlining the financial and operating results for the 3 and 12 month periods ending January 31, 2012. The following discussions may include forward-looking statements. Please note that actual results may differ materially from those statements. Additional information concerning factors that could cause actual results to differ materially from projected results is contained in the company's filings with the Securities and Exchange Commission. We will begin today's call with Eric Arts, our Chief Financial Officer, who will provide financial highlights for the fourth quarter. Richard Hayne, our Chief Executive Officer, will then comment on our broader strategic initiatives, followed by our three group leaders: David McCreight, Meg Hayne, and Ted Marlow, each of whom will provide commentary on their businesses.

Following that, we will be pleased to address your questions. As usual, the text of today's conference call, along with detailed management commentary, will be posted to our corporate website at www.urbanoutfittersinc.com. I'll now turn the call over to Eric.

Speaker 6

Thank you, Oona. Let's begin with a summary of our fourth quarter fiscal 2012 performance versus the comparable quarter last year. Net sales for the quarter increased 9% to $731 million. Non-comparable sales drove the increase, contributing $73 million to the consolidated net sales increase, including 21 new stores opened during the quarter. Comparable retail segment sales, which include our direct-to-consumer channel, increased 2%, including increases of 1%, 9%, and 3% at Anthropologie, Free People, and Urban Outfitters, respectively. The total company comparable store net sales decline of 1% was driven by a 5.2% decrease in average unit selling prices, a 1.5% increase in the average number of units per transaction, and a 2.5% increase in total transactions. Direct-to-consumer comparable net sales increased 14% to $167 million, with the penetration of total net sales accelerating 110 basis points to 23%.

These results were largely driven by a 34% increase in website traffic to over 47 million visits. European sales increased 33% due to the addition of six new Urban Outfitters stores and comparable retail segment sales increases of 11% and 28% at Urban Outfitters Europe and Anthropologie Europe, respectively. Gross profit in the quarter decreased 17% to $220 million. This decline was primarily due to increased markdowns to clear slow-moving women's apparel inventory. Total selling, general, and administrative expenses for the quarter, expressed as a percentage of sales, decreased by 37 basis points to 21.3%. This improvement was due to a one-time, non-recurring $6 million net benefit primarily related to equity compensation expense reversals. This benefit was partially offset by deleveraging of direct store controllable expenses driven by negative comparable store net sales. Operating income was $64.5 million, or an operating margin of 8.8%.

Net income was $39 million, or $0.27 per diluted share. Turning to the balance sheet, ending total inventories increased $21 million to $250 million, a 9% increase over the prior year period. The growth in total inventories is primarily due to the acquisition of inventory to stock new stores, our direct-to-consumer channel growth, and the launch of our beholden brand. Total comparable retail segment inventories at cost, which includes our direct-to-consumer channel, increased by 2%, while total comparable store inventories at cost decreased by 3%. Finally, we ended the quarter with $362 million in cash and marketable securities. As we look forward to fiscal 2013, it may be helpful for you to consider the following. First, we plan to open 55 to 60 new stores, with 13 stores planned to open in the first quarter.

By brand, Urban Outfitters is planning 23 new stores globally, Free People 16 stores, Anthropologie 14 stores, and one new store each for Terrain and Beholden. Second, we are focused on managing product cost as effectively in fiscal 2013 as we did this past year. Therefore, our gross margin improvement for the year will depend upon the improvement in our product content and ultimately lower markdown rates. Clearly, our comparisons ease as we progress through the year, so we are planning for higher markdown rates comparatively as we begin the year. Third, we continue to focus on effectively managing our selling, general, and administrative expenses. Additionally, we will continue to invest in long-term growth and are therefore planning for a mid-teens increase in SG&A to start the year, moving to high-teens increases as we progress throughout the year.

Increased spending in fiscal 2013 includes marketing and customer acquisition investments to drive additional direct-to-consumer growth, as well as a new domestic fulfillment center and further investments in technology. Fourth, we are planning for fiscal 2013 capital expenditures of $190 to $210 million, driven primarily by new stores, the expansion of our home office, and our new fulfillment center. Finally, our fiscal 2013 annual effective tax rate is planned to be approximately 36.5%. As a reminder, the foregoing does not constitute a forecast but is simply a reflection of our current views. With that as a financial backdrop, I'd like to introduce our Chairman and CEO, Richard Hayne.

Speaker 0

Thank you, Eric. Good afternoon, everyone. For those of you who don't know me, I co-founded Urban Outfitters 42 years ago and have been actively involved ever since. When I stepped down as CEO in 2006, I remained on as Chairman and helped to set our strategic agenda. I'm now back as CEO and excited by the opportunity to lead and grow this company once again. I have a deep commitment to the company, its brands, the employees, and the stakeholders. I think the new conference call format is worth a brief discussion because I believe it's symbolic of our company-wide culture. As Oona described it, the new format is a team effort. On a quarterly basis, you will hear not just from Eric and me, but also from our brand leaders.

You will hear the merchants describe their businesses, Eric review the financial results, Freeman present progress on our operating initiatives, and I will talk about strategic vision and global initiatives. You will then be able to ask all of us questions. The team you will hear from is the primary reason I feel so optimistic about the company's future. I'm delighted that we now have a full complement of entrepreneurial brand leaders and seasoned executives. Let me describe the many opportunities I envision for our company. At URBN, we see ourselves as customer specialists, a collection of brands, each one specializing in one particular customer group, a particular lifestyle or life stage. We offer her things she wants in environments that inspire her. We talk to her and listen to her ideas and opinions. In short, we have a relationship with our customer, and that relationship translates into sales.

Each brand leader is focused on ensuring that the brand relationship with its customer is strong and differentiated. To accomplish this differentiation, we plan to offer her even more unique product and talk with her in new and exciting ways. All this implies a greater emphasis on and investment in design, marketing, and technology. Our goal is to increase the number of relationships each brand has and mine the existing relationships more effectively. To grow the number of customers, we plan to do the following: grow the number of stores in North America and Europe, launch a retail presence in Asia, increase our online and mobile marketing efforts, expand our wholesale distribution into Europe and Asia, and significantly grow the direct-to-consumer business around the globe.

To make the existing relationships more meaningful, we intend to improve our product execution, use our existing customer analytics to market more effectively, introduce new technologies into the shopping experience, expand our product offerings in existing categories, and add new categories, either through internal development or through acquisition. Each brand has an abundance of opportunities to grow. We've identified and prioritized those opportunities so our strategy is clear. We have the financial resources, and now we have the leadership talent to develop these opportunities. The team is committed to producing results that fit within our historic rate of growth, and I am confident we will do so. This is a great time to introduce the brand leaders, the folks who are going to create this growth. First, I'll call on David McCreight, the CEO of the Anthropologie Group.

Speaker 4

Thank you, Dick. Good afternoon, everyone. I am honored to be with the URBN leadership team today, representing the Anthropologie Group. I have spent my first three months with the team touring stores, speaking with customers and long-tenured team members, learning about our customer culture, assortment, team, processes, resources, and business model. While it has been a trying year for Anthropologie, I am very optimistic about our ability to once again surprise and delight our customer. We have a great brand with a deep relationship with its customer, motivated team members, and a compelling business model, all of which fuel my optimism for the future. There remains a great deal of expansion ahead within our existing customer segment, existing distribution channels, and existing geographies. Our recent issues have been largely self-inflicted.

Amidst a great deal of organizational change, we drifted away from our aesthetic positioning and the merchandising discipline that built our strong and unique relationship with our customer. We will recapture those essential qualities. This year, worldwide, we plan on strengthening our multi-channel customer file, improving the productivity of our four walls, expanding retail square footage in the high single digits, and turbocharging our direct-to-consumer investments. Most importantly, we expect to make progress throughout the year in regaining momentum in the design and merchandising of our product. We will move the ratio of full price and markdown sales closer to historic levels and focus on driving full-price brand comp revenue growth. The home business remains solid, and we have recently seen signs of improvement in some apparel categories, like knits, dresses, and casual bottoms.

However, it will take time for our very new design and merchandising teams to align around the customer and learn our merchandising approach in order to deliver an offering that is both inspiring and financially sound. I look forward to speaking with you in the future to update you on our progress. I will now turn the call over to Meg Hayne, Global Brand President for Free People.

Speaker 7

Thank you, David. Hi, I'm excited to speak to you about Free People. We have been focused on building our brand through talent development, compelling product, and innovative marketing. The culture here in Building 25 is unique. We are proud of the team we've built through specific recruiting efforts and, more importantly, internal promotions. For instance, all of my directors have been with the company between 10 and 25 years. They continue to expand the boundaries of what we can do. At Free People, we love our customer. We understand her and cater to her desire for something special. With our attention to fabrics, embellishments, details, and silhouette, we strive to make her happy. Our marketing efforts have seen a significant increase over the year due to our focus on social media, customer interaction, and loyalty. We are very excited by the possibilities in this area.

You can expect to see new ideas going forward. We had a strong quarter and year across each of our channels. Our wholesale business grew double digits, driven by our strategy to align our product assortments, merchandising techniques, and marketing efforts with our direct-to-consumer model. We finished the year with our strongest operating income margin in five years. Direct-to-consumer continues to be our fastest-growing business, fueled by our expanded online product offering. It is the best way we can communicate our message to our customer and remains the driving force behind both our product and marketing. We successfully opened 20 stores, four of those in new states, and the most ever in a single year. We have an even array of mall, lifestyle, and street stores. For spring and fiscal 2013, our priorities continue to be talent, product, and marketing.

Our retail team is working diligently to distort our store assortments by addressing different climates, as well as regional fashion trends. As of this quarter, we are fully staffed in operations, styling, and visual roles, while training new management in the field. Our momentum has continued into the spring season. Direct and wholesale channels are off to a strong start. I'm happy to turn the call over to Ted. I'm sure you're all looking forward to hearing from him again.

Speaker 4

Thank you, Meg. It is great to be back at Urban Outfitters and have the opportunity to be part of the exciting growth we envision for the Urban Outfitters brand. We believe an opportunity exists in our core businesses to improve top-line performance along with margin improvement. Our sights are set on course-correcting our shortfalls with improved content, inventory quantification, and creative execution. Thus, our mission at the moment is to improve the performance of our core women's business. In general, our men's and home businesses have performed well in North America and Europe, while our women's businesses have underperformed. I view our shortfall in women's as quite fixable. First, we need more balance across product attributes to reach a broader spectrum of our customers. Further, while certain businesses within women's have performed well, other key categories have underperformed in relation to their historical contribution.

Finally, opportunities in underdeveloped categories need to be further leveraged, while trending categories must be distorted. On a more positive note, our brand finished fourth quarter with clean inventories, thereby enabling us to chase into trends that are currently working. Our direct-to-consumer growth continues to be strong in both North America and Europe. Our European business overall performed well despite the macroeconomic headwinds facing the region. This past year, we opened eight stores in the European market and finished the fourth quarter and full year with positive comparable retail segment increases. I just returned from a quick trip to London to meet with our European team. I can assure you that they are focused on building pan-European strength in design, merchandising, and marketing to deliver on the broader market opportunity, be that through physical or digital retail environments.

In closing, I want to reemphasize that the core talent of the Urban Outfitters brand is excited about the opportunity we feel is in front of our brand. We have a demonstrated track record of delivering on the promise of our brand, both qualitatively through customer experience or quantitatively through growth and financial execution. I look forward to once again being part of our story and speaking with you about our progress and the realization of our goals. I will now turn the call back over to Dick for closing comments.

Speaker 0

Thanks, Ted. By the way, it's great to have you back in the business. To reiterate my earlier comments, our goal is to grow revenue at a pace significantly greater than our industry average and more commensurate with our historic average. We have all the key ingredients in place: strong brands that resonate with the existing customer, the strategy to expand the reach of each brand, the capital to support the growth, and the leadership to direct it. I am confident that given the continued hard work and dedication of our talented employee community, we will achieve our growth goals. I thank our employees, and I also thank our shareholders for their continued support. At this time, I invite your questions. Please remember that we limit each caller to one question.

Speaker 6

Thank you. Ladies and gentlemen, if you have a question at this time, please press star, then one on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. As a reminder, please limit yourself to one question at a time. Our first question comes from Adrian Tennant with Jani Capital. Your line is open.

Speaker 3

Good afternoon, and welcome to the entire team together. Actually, my question is for Eric. Can you talk about, it sounds like the square footage growth rate is probably going to be in that high single, perhaps low double-digit range. We obviously don't know what the comp is going to be. You haven't given that guidance. I guess my question is on the SG&A dollar growth on the mid-teens starting off the year and then sort of accelerating into the back half of the year. The thought that I, the question that I have is, oftentimes during transition, we see a little bit more control, perhaps, of the SG&A line items until we can see that momentum coming through on the top line. I'm just wondering how much of that SG&A can you pull back if you weren't to see the progress that you wanted to on the top line.

Thank you.

Speaker 7

Adrian, I think I'll answer your questions from a numbers perspective, but I think I'll tee it to Dick first to talk a bit about our strategy. I'll come back to you.

Speaker 1

Okay.

Speaker 0

Hi, Adrian. It's nice to talk to you again.

Speaker 1

Yes, it is.

Speaker 0

I think our concept here is one of investment. We don't believe that it is going to be as easy to leverage the business as it was, let's say, 10, 15 years ago when all we were doing is adding stores. As you know, there's been a fairly significant shift in consumer demand into the clicks area. We feel that we have underinvested in that area. Some of the investments that we intend to make this year, we're looking at as catch-up to have proper investment in the clicks. We will be emphasizing that we will also be investing more in international growth. Our old model, which was grow the top line by 20% or so and try to leverage the bottom, I think is going to be distorted for our time as we try to get that 20% plus back on the top line.

We may need some additional investments on the bottom.

Speaker 7

Adrian, just to follow on that, if we're sitting here thinking about SG&A growth in the high teens range, the areas of spend that we'll be looking towards this year would be with our direct-to-consumer fulfillment center on the West Coast. We have systems investments, we have talent investments relative to the expansion or potential expansion of products, product lines being offered on the web, and we have additional marketing investments as well. I think you opened your question with a comment about during transitions. I think some of the comments Dick made in his prepared remarks there would confirm that we don't have a change in strategy. We are looking to accelerate our investments in the direct-to-consumer area. We do have control over that spend if we should so choose. We did that this year during a period of declining comp sales.

We clearly don't want to start the year with that mentality. To give you a range in terms of how we think about it, if we're planning for high teens SG&A growth, we have the ability to probably manage the mid-teens should the year not evolve. Again, just as this year occurred, most of that difference would come from variable compensation and other direct store and web variable expenses.

Speaker 6

Thank you. Once again, ladies and gentlemen, if you would like to queue up to ask a question, please press star, then one on your touch-tone keypad. Our next question comes from Michelle Tan with Goldman Sachs. Your line is open.

Speaker 3

Great, thanks. Hey guys.

Speaker 0

Hello.

Speaker 3

Eric, I was wondering if you could just clarify one of your comments, and maybe Dick, you want to chime in as well. You talked about seeing improvement in full-price selling versus fourth quarter, and also mentioned higher comparative markdowns in the first part of the year. How do we think about this? Do you mean that you're still expecting to see merchandise margin pressure through the first part of the year, but less than fourth quarter with improvement in the back part of the year? Or do you see improvement in the merchandise margin potentially coming with the inventory in a cleaner position in the first part of the year?

Speaker 7

We're planning for merchandise margins in the first half of the year to improve sequentially from where we were in the fourth, so from the fourth to the first, from the first to the second quarter. However, when you look at it on a comparative basis, so Q1 last year versus Q2 this year, we're not planning for improvement at this time. I think we feel great about where we ended the fourth quarter with our inventory position. The ultimate outcome of our gross margins through the first half here will depend upon the content and the productivity of our inventory. Clearly, our comparisons are more difficult in the first part of the year, easing as we progress through the second half of the year. To give you one more piece of information relative to our markdown history, I know we've spoken about this in the past as well.

You know, this past year, we're probably running between 2 to 2.50% higher in our markdown rates compared to our historical averages. On an annual basis, we'll be looking to get back more to our historical norms.

Speaker 6

Thank you. Our next question in queue comes from Kimberly Greenberger with Morgan Stanley. Your line is open.

Speaker 8

Great, thank you. It's great to hear everybody back together again.

Speaker 0

Hey, Kimberly. How are you?

Speaker 8

Good, thanks, Dick. I was hoping that you could talk about the level of full-price selling versus markdown selling year over year. I know you commented in the press release that it certainly improved relative to fourth quarter. If the Brand Presidents could perhaps address in their answer on the markdown selling versus the full-price selling, what are the key categories they would like to see improve in terms of composition of selling here over the next three to six months? Thanks.

Speaker 0

Okay, Kimberly. I think I'll just very briefly reiterate what Eric said. The improvement that we've seen in full-price selling is over the fourth quarter. I want to make that clear to everyone that on a year-over-year basis, it's still a difficult environment. The improvement over the fourth quarter is one that we expect will continue as we get into the second quarter and then the third quarter, etc. We are anticipating or planning for, as Eric said, sequential improvement. I think that that's the key. Both Anthropologie and Urban are seeing this improvement. I'll let both Ted and David speak to it specifically, although I'm not sure they're going to give you precise information on what merchandise is selling. I would encourage them not to do that. David or Ted, go ahead.

Speaker 4

Sure thing. Yeah, the specifics on what we are and are not selling, I'm going to have to once again avoid. The only thing I would say is that, per my comments earlier, I'm really looking to get some steam back into our women's categories. There are categories that are performing very well for us, but there are a couple of categories that are key to our overall performance. Right now, it's not so much an issue of content as it is quantity. We're running on very tight weeks of supply, and I feel like we have upside business opportunity with the receipt flow coming in those categories. That's just about as much as I really can share in that regard. Kimberly, David here. For Anthropologie, our focus, the home business has been very solid for us, as I said in my remarks.

Most of our markdown issues have been in the apparel, intimates, and accessories areas, and we're going to see that improve by rebalancing within our price point attributes as well as within our various aesthetics, the women's whom we merchandise. We do expect to see that continue throughout the year. We are going to focus on sort of high-quality revenue, focusing on full price, and rebalancing that relationship with the customer instead of chasing markdown sales.

Speaker 6

Thank you. Our next question in queue comes from Stacy Pack with Barclays Capital. Her line is open.

Speaker 3

Hi. Hi, guys.

Speaker 0

Hi Stacy. How are you?

Speaker 3

Good. Okay. Dick, I would love to hear your thoughts on how far away, especially Anthro is, but also Urban from the core customer, whether you believe the organization has the right talent in place to generate a turn in the second half of the year or whether we could see a turn begin in Q2. Eric, I'd love to know if you would comment on quarter-to-date comp trends for Q1 or what we should think about there. Then Ted and David, I'd love to hear when you think the women's businesses will be back on track. I understand you don't want to go through by category, but how far away are we on getting those women's businesses back? Thank you.

Speaker 0

Hey Stacy, I'll take a crack at the first part of your question. I'm not sure how many parts of that one question we can answer. I have complete confidence in the executive team that's assembled around the table here in Philadelphia. As I said in my prepared remarks, it is the single reason that I have confidence that this is going to be optimistic about not only our long-term prospects, but our medium-term prospects as well. I cannot begin to tell you when the specific businesses will turn. I see momentum in that direction, and I assume that you mean by turn that it gets back to sort of normalized comp increases that we've enjoyed over the last 15, 20 years. I do not know, and I don't think anybody here can predict that. Even if they could, I am quite sure that Mr.

Boss, who sits immediately to my right, would put a muggle on me so that I didn't say something. I can't tell you. I feel confident that there is no, I guess what I would say, long-term damage done to any of the brands. I think they're all operating at a good level, that the customer really, really is excited about us returning to what we were because I think that she really likes us and wants us to succeed. I think that it's not just a matter of product, but it's a matter of marketing as well. Getting back in that groove, I think, is a very important part. I know that both David and Ted are working hard on that end. Do either of you, David or Ted, have anything to add?

Speaker 4

No, that's it.

Speaker 0

No, I think that just about does it. Stacy, if you have any other specifics, be more than happy to talk to you offline.

Speaker 6

Okay, thank you. Our next question comes from Brian Tunick with J.P. Morgan, and your line is now open.

Speaker 9

Thanks. Good afternoon, everyone. I was hoping maybe, Ted, you could talk about your view on either the landscape or positioning of the Urban Outfitters business today, I guess, versus your last turn at the helm, sort of like what's going on out there. Maybe give us your view of either price points or third-party versus private label penetration within the Urban Outfitters business.

Speaker 0

Sure, I'll make a run at it. The top-of-mind thought would be a comment that Richard Hayne said to me about 10 years ago, and that has to do with when we're on our game, when we're doing what we're supposed to do within our brand, we don't necessarily see that we have head-on-head competition. It is a crowded space, and it has gotten very price sensitive in physical retail as well as the notion of price sensitivity and comparison online. When the businesses are executing in an experiential fashion as they are intended to execute, they can rise above that fray. I have seen it play out in that manner, and I'm confident that we can execute in that manner going forward. We have opportunities as it pertains, as I mentioned in my comments, we have opportunities as it pertains to content.

We have opportunities as it pertains to the story that we're telling at point of sale and store, as well as through our direct vehicles, in print and catalog and online. We've had some good conversation here over the last few weeks with the group involved. I feel we will be aligned to execute in that manner as we go forward to the balance of the year. I'm feeling quite positive about it, despite the competitive landscape being a bit more crowded.

Speaker 6

Thank you. The next question comes from Lorraine Hutchinson with Bank of America Merrill Lynch. Your line is open.

Speaker 2

Hi, it's Paul Alexander for Lorraine. Dick, you mentioned faster international growth and establishing a retail presence in Asia. Could you give us a little more color on that? How many of the new stores this year are you thinking about opening abroad, and what's the latest planning for stores in Asia? Thank you.

Speaker 0

We just had a group return from Asia in sort of a tour that is looking into not just retail stores, but the potential to launch direct-to-consumer there and also the potential to enter that market via the wholesale market. We're looking at Asia very closely. I believe that, in some fashion, we should be in the Asian market in the next couple of years. I'm certainly putting some pressure on the folks here to make that shorter rather than longer. I think that will indeed happen. The other part of your question was what?

Speaker 2

Any of the stores this year will be opened abroad?

Speaker 0

Ted, in terms of Urban, how many stores are we planning?

Speaker 4

Eight to ten.

Speaker 0

Eight, eight to ten, mostly in Germany now. We've had some pretty good.

Speaker 4

About half of those in Germany this year.

Speaker 0

We've had some good success in Germany, and we feel good about that market. Anthropologie took a little bit of a hiatus while we realigned the product mix in Europe. I would encourage and fully expect that Anthropologie would be opening more stores in Europe either by the end of this year or the beginning of next.

Speaker 6

Okay, thank you. Our next question comes from John Morris with BMO Capital Markets. Your line is open.

Speaker 4

Thank you. Yeah, your inventories looked, you know, in very good shape. I'm wondering if they were actually a little bit better than your original plan in terms of how you finished up. Then kind of a product question, which is, we're seeing a lot of positive feedback on dresses at Anthropologie. You mentioned knits and dresses. Very, very recently, we've seen good feedback at Urban Outfitters as well. I'm just wondering if you guys are happy with the improvements that you're seeing there at both of those divisions and specifically, you know, what categories do you see the opportunity in going forward?

Speaker 0

I'll try that.

Speaker 6

Thanks, Dick.

Speaker 0

Sure. We're seeing good opportunity in dresses across the board, all of our brands. Of course, not Terrain. Other than that, dresses are performing quite well in all the brands. We think there's lots of opportunity to continue that and even accelerate. We also see opportunity in bottoms, and in certain of the top areas, but not across the board. We had a lot of problems over the fourth quarter in the area of sweaters, and that's an area that still presents some problems to us, I think, in all the brands. As you might expect, sweaters, as we go into the spring and summer, become much less meaningful. We're, you know, that's fine with us. We think, at least in a couple of the brands, that the sweater assortment for the next high summer-fall looks pretty good. We're encouraged in that area as well.

I think it goes more into the details. Ted talked about it. There are certain categories and certain areas that probably, the best way to put it is they just weren't particularly planned well. If we get the assortment better, I think we'll see much better results.

Speaker 6

Thank you. The next question in queue is from Dana Telsey with Telsey Advisory Group. Your line is open.

Speaker 8

Good afternoon, everyone.

Speaker 0

Hey, Dana.

Speaker 8

Hi. As you talk a bit about international and the importance of it, how do you think about the economic model of international compared to the U.S. investment and return? With that, the real estate in the U.S., how do you think about domestic growth and the current store basis potential? Does it change given the investment overseas? Thank you.

Speaker 0

Dana, I think that what we have seen in Europe is that the cost of doing business in bricks and mortar and four wall is somewhat higher in terms of occupancy cost than it is in the States. We also believe that there's more opportunity in terms of direct-to-consumer because of that and higher level of occupancy. Asia, as I said, we are only beginning to explore. We know that the occupancy costs in terms of rent per square foot are high, but we're not confident yet about what we can expect in terms of sales per square foot to be able to figure exactly what we think the return will be. I think we are all of a single mind that our best efforts here in going overseas is to try to leverage all of the stores with direct-to-consumer penetration.

We are in the process of exaggerating our efforts in Europe in terms of direct-to-consumer. We may indeed launch our foray into Asia with direct-to-consumer and then follow it up with bricks and mortar. That's the way we're thinking about it. We expect that the returns, at least at first, may be less than we have here in the States. We believe over the long term, particularly with the direct-to-consumer penetration, that we should be able to have a very respectable return on investment.

Speaker 6

Thank you. Our next question comes from Erica Meschmeyer with Robert W. Baird. Your line is open.

Speaker 8

Hey, thanks. Welcome back to Dick and Ted. Could you talk?

Speaker 0

Nice to be back.

Speaker 8

Could you talk a little bit about how fast you can chase into trends that are working right now at Urban Outfitters and Anthropologie? You also mentioned tight weeks of supply. Is your comping too unlimited by current inventory levels? I guess any color you can give there would be great. Thanks.

Speaker 0

Okay. I'll just, in general, talk about how fast we can get back in. That has to do specifically with what the item is we're getting into. If you're talking about knit tops, it would typically take us anywhere from four weeks if we own fabric to eight to ten weeks if we didn't. If you're talking about something like sweaters where we have to purchase yarn and then knit and then go through that process, it could be as much as 12 to 16 weeks. If it's shoes, it might be as much as 20 weeks. It really is all over the board in terms of how quickly it takes us to get back in. I think that the categories that we're talking about, in terms of bottoms and dresses, it's sort of right in the middle of those outlined time periods that I just discussed.

That'll give you some flavor.

Speaker 6

Thank you. The next question in queue comes from Neely Tamminga with Piper Jaffray. Your line is open.

Speaker 8

Great. Good afternoon. Glad to hear everybody's voice again on this call.

Speaker 0

Hey, Neely. How are you?

Speaker 8

Thank you, Dick. My question is for Ted, Ted Part Two. You're back in, and sometimes executives have the awesome opportunity to not be in the flow in the every day. I'm really more curious about how your time away has created, obviously, some reflection and how that might be flavoring how you come back into this role. I know it's somewhat of a philosophical question for an earnings call, but I would love to hear about that time of reflection and how that's flavoring your call. Thanks.

Speaker 0

Oh, my Lord.

Speaker 8

Thanks.

Speaker 0

Neely, maybe you would, but I don't know if the people I'm at the table with really want to hear about it. I will tell you this. I'm going to have to confess to Sam and Calvin Hollinger, our Head of the IT crew is immediately to my left. I wasn't turned off during my time away from Urban Outfitters in regard to my email account, so I did check it on occasion. I've watched the business over the year and a half that I was away, and in getting back together with the business, I had seen things take place in the business that I obviously had a point of view on. I feel pretty familiar with the business model that we are operating and the customer, more importantly, that we're serving in the market.

I think that we've made a lot of very nice headway in the time I was away in some work that is very important to our overall brand's position in the market. At the same time, I feel that we did turn a couple of people last year in some of our key merchandise roles. In the interim period, with new people in place, I feel that getting up to speed on some areas that were underperforming is the work of the work right now. The brand's in a great place. I've been out in the stores in North America as well as in Europe. I obviously watch it every single day online, and I feel good about what we're putting out there. I think we're really doing a little bit of course-correcting right now, and that's essentially the mission.

The good news is, we're pretty much full staff, got a great group of people to do it.

Speaker 6

Thank you. The next question comes from Pam Pinella with Raymond James. Your line is open.

Speaker 8

Okay, thanks. Good afternoon, everyone. Dick, can you talk about, you know, direct-to-consumer penetration? Where do you see this growing to? In terms of the investment that you discussed earlier, is most of this taking place overseas or also here in the U.S.? Is any one brand, do you see more opportunity with than the others?

Speaker 0

Okay, let me take a shot at that. We believe that this year we hit slightly over 20% penetration. I think it was 22%, and in the fourth quarter, it was almost 24% penetration. 23%?

Speaker 4

Yeah.

Speaker 0

I was just corrected. 23% penetration. We think that has grown every year consistently, and the rate of increase has gone up slightly as well. We expect it to continue to increase, and we expect it to increase a bit faster as well. I would say sometime over the next five to seven years, we all anticipate a majority of our sales coming from the direct-to-consumer channel. That will probably be hastened if we indeed launch the direct-to-consumer in Asia and the growth of direct-to-consumer in Europe, which is growing faster even than it is in the U.S. As to where we're making investments, we're making investments here in the States with a number of teams, and we're making investments through third parties around the world.

If you want to get into the specific areas of technology improvements, I would encourage you to call in and let Eric, Oona, or either Freeman and/or Calvin go over that, review that with you. I think it may be a little boring for everyone.

Speaker 6

Okay, thank you. Our next question in queue comes from David Weiner with Deutsche Bank. Your line is open.

Speaker 7

Great. Good afternoon, everyone. Dick, just a quick follow-up on your original comments about the long-term plan. I just want to make sure I understood. I took kind of two things away from it. One, it sounds like, versus the original plan that you had of growing sales over the long term, revenues over the long term by at least 20%. There's clearly going to be a mix shift more towards DTC versus brick and mortar. On top of that, did you comment about the long-term operating margin potential? Is that still kind of at least 20% or 20%? Is that still kind of the way you all operate from a longer-term perspective?

Speaker 0

Okay. Like I said, I think that long term, I don't see any reason if DTC continues to advance in terms of penetration. I don't see any reason that we may not be able to get back to that kind of operating profitability. Over the short term, I think that there are some significant investments that we have to do in order to continue to be at the forefront. You know, we look at the world and we say, how are we doing versus other legacy brands? When you look at that, our penetration of DTC to bricks and mortar is amongst the best. I think we rank second or third against our legacy competitors. We really take a look more at the pure plays in direct-to-consumer and see what they're doing and say, that's really going to be the competition.

We shouldn't be so sanguine as to think that we're amongst the best. I would rank us more toward the middle of the pack when it comes to these direct-to-consumer initiatives that we have already accomplished. When I look at the initiatives that we have yet to accomplish, I get really excited. I think that we have a lot of opportunity, and that's what's going to grow this direct-to-consumer business. I think that, you know, that's one of the great things and gets me up every morning.

Speaker 6

Okay, thank you. The next question in queue is from Margaret Hayne with Stifel. Your line is open.

Speaker 5

Good afternoon, and it's great to hear everybody's voice again. I was wondering, Dick, with your comments about investments in Asia Pacific, both direct and wholesale, whether or not the high levels of SG&A spending that we're going to see this year might continue into the new year. I think Ted mentioned earlier that the marketplace has been more crowded since he's returned and the consumer is more price sensitive. If there's any thoughts on the mix of price points that you have in both Anthropologie and Urban Outfitters, perhaps the need to add more opening price point items. Thanks.

Speaker 0

Yeah, sure. Let me start with the last part of your question first. The customer, no question, has more opportunity to buy things cheaper. At some points, she is doing that. I would suggest to you that she is also buying stuff that is expensive. You see some of the luxury stores doing quite well right now and probably outperforming some of the price-sensitive stores. I don't think Walmart's doing particularly well right now. I look at it just like Ted said, that if we are on our game and give this customer the experience, and I'm going to say she, even though I know Urban Outfitters has a lot of male shoppers, if we give her the experience that she wants, we see the price component become less important.

We think that we can operate and operate very well in the price structures that we have set over time by giving her the kinds of stuff she wants and the experiences she wants. I don't think that it, I do not feel that we are being unduly affected by some of the lower-priced stores that have cropped up. I never, ever want to try to compete on that level.

Speaker 7

Margaret, your question about SG&A, what I would say there is, we are investing this year, and we talked about a few of the initiatives that we're focused on. Clearly, perhaps we're investing ahead of the actual sales in some cases. I think it's too early for us to comment on fiscal 2014 and how we view SG&A in the long term. I think we're going to see how our investments and the impact of our actions play out this year and then go from there as we move into fiscal 2014 and beyond.

Speaker 0

Margaret, I have to say that if you take a look at direct-to-consumer, you know, in the stores, we have capital expenditures in four wall, and that's usually depreciated over either a five, seven, or ten-year period, and sometimes even a bit longer, depending on the leases. We don't have that same opportunity necessarily in direct-to-consumer. A lot more of the expenditures in direct-to-consumer is in technology, which is depreciated over a much shorter period of time and/or actually expensed because we're hiring more people to fuel that technological improvement. While it may seem that SG&A is skewed a bit, I think our operating profits over a longer period of time should be quite good.

Speaker 6

Thank you. The next question in queue is from Richard Jaffe with Stifel Nicolaus. Your line is open.

Speaker 9

Thanks very much. My congratulations to getting the band back together again. It's an exciting time.

Speaker 0

Hey, hey, hey. What do you think?

Speaker 9

I'm thrilled.

Speaker 0

I'm thrilled.

Speaker 9

The proof will be in the pudding. Just a thought about a marketing initiative. You guys talked about investing heavily in reaching out to the consumer and touching them in a variety of ways. Could you give us some examples of how this marketing initiative or how the dollars will be spent and how they'll be different from what you've done in the past?

Speaker 0

Okay. Marketing initiatives. We have numerous ones, but just to give you some ideas, you know, mobile technology. We think that we will be able to market via mobile much more robustly than we are doing today. Calvin, you want to talk about any of them?

Speaker 4

Oh, go ahead. I'll jump in.

Speaker 0

Okay.

Speaker 4

What did you want to say?

Speaker 0

We think that through social media, Facebook, Pinterest, all those types of places, we have opportunities. We're doing something called social free shipping, where we allow people to get free shipping if they pass along to their friends the fact that we are doing free shipping. There are just, I probably could go down a list of a dozen or so. I don't have them all prepared right now in front of me, but things that we are doing to promote the social part of the shopping experience online.

Speaker 6

Okay, thank you. Our final question for today's call comes from Paul Lejuez with Nomura Securities. Your line is open.

Speaker 2

Hey, thanks, guys. Dick, I'm just wondering if you're happy with how your concepts are positioned internationally and if there are many stores in that international fleet you wish you hadn't opened. Just second, just wondering how you're going to balance the comps versus gross margin trade-off. Are you comfortable planning for negative comps, as you recapture gross margin? Thanks.

Speaker 0

Firstly, our stores overseas are performing quite well. I have not seen all of them because I took a little respite here as CEO, and so I haven't, I didn't go over to all the openings. To my knowledge, they're all doing well. There's none that I can think of offhand that I wish we hadn't opened. There are a couple I can remember opening myself that I guess I wouldn't have minded if it had 1,000 square foot less than it does. For occupancy cost purposes, I think that I tended to be a bit exuberant in the early years of Europe. The stores themselves are doing quite well. I think that we will continue to open stores. They may get slightly smaller overseas, and that's what we've done here, actually, domestically. I don't think it's a different pattern.

One of the things that we have learned with the Anthropologie brand is that we do have to localize our assortments. That may be a little bit different model than some of our competitors who want to try to drive their sales through marketing, almost exclusively. We think that the customers overseas, just like they are here, are pretty savvy and soon tired of that marketing effort and are responding more to the product they want rather than a particular brand. I think we're positioned well. I do think it takes some amount of capital and investment, in terms of bricks and mortar overseas, to start to be meaningful in a market and have the kind of brand recognition that we almost take as an assumption here in the States. We will proceed slowly. We will proceed cautiously, both in Europe, but particularly in Asia.

I have no doubt in my mind that we will indeed proceed and we will have presence in almost all the continents. We will have it not only with bricks and mortar, but we will have it in direct-to-consumer. One more question.

Speaker 6

Okay. Our final question will come from Janet Kloppenburg with JKK Research. Your line is open.

Speaker 5

Hi, everybody.

Speaker 0

Hey, Janet. How are you?

Speaker 5

I'm glad I snuck in. Anyways, welcome back, Ted, and Dick, of course. Just a couple of questions. I'm a little confused on what you're saying about comps. I think you said that comps may have improved sequentially. I'm not sure if you said that, but that they may have improved sequentially from the fourth quarter. I think you had a 2% all channel comp and a -1% retail store comp. I would love it if you could comment on that, Eric, and also what the leverage point on comps might be. What level of comps you would need to leverage your SG&A forecast. Also, for David and for Ted, I was hoping you could tell me whether your management teams were fully in place or whether you needed to make some key additions before you felt that you had a full house. Thanks.

Speaker 0

Janet, I'll take the first question.

Speaker 5

Okay.

Speaker 0

As you know, we don't talk about comps in the quarter. What I said was that full price selling has improved. The penetration of full price selling has improved over the fourth quarter. We're selling more full price items as a % than we did in the fourth quarter. That is one of our goals for this year, to improve the penetration of full price selling. We're happy about that. We don't talk about comps. We do believe that, you know, certainly the comps, when you look at both retail and direct—well, I shouldn't even go that far. I won't say anything about them because I really shouldn't on this call. I hand it over to both David and Ted to talk about your other questions.

Speaker 4

Hi, Janet. David here. With regards to the team at Anthropologie, I've been very impressed with the quality of the team in the field. It's really remarkable, the experience we offer through our hundreds of stores, both in the U.S. and abroad. As it relates to the home office, we have some very talented and experienced senior people that are working very quickly to onboard some very passionate and talented people who are very new to the Anthropologie brand in marketing, merchandising, and design. We'll continue to work through that through the balance of the year and continue to work with the teams to really ramp up the learning curve.

Speaker 0

Janet, Ted, in regard to the Urban senior team, in senior roles, we are at full staff at the moment. We do have a couple of roles below the most senior group that we are looking to fill, and we anticipate having those filled in the near future. That being said, I don't think that those roles at the moment being open are causing us necessarily any undue jeopardy. We have strength in place in the buy team that report into the roles that are open, and I'm confident we can get the work done that we need to get done where we sit right now. Thank you very much. It's a pleasure talking to all of you again. I hope I get a chance to see you all in person in the near future.

Speaker 6

Ladies and gentlemen, thank you for joining today's conference. This does conclude the program, and you may now disconnect.