Welcome to Carter's First Quarter Fiscal 2023 Earnings Conference Call. On the call today are Michael Casey, Chairman and Chief Executive Officer; Richard Westenberger, Executive Vice President and Chief Financial Officer; Brian Lynch, President and Chief Operating Officer; and Sean McHugh, Vice President and Treasurer. After today's prepared remarks, we will take questions as time allows. Carter's issued its first quarter fiscal 2023 earnings press release earlier this morning. A copy of the release and presentation materials for today's call have been posted on the Investor Relations section of the company's website at ir.carters.com. Before we begin, let me remind you that statements made on this conference call and in the company's presentation materials about the company's outlook, plans and future performance are forward-looking statements. Actual results may differ materially from those projected. For a discussion of factors that could cause actual results to vary from those contained in the forward-looking statements, please refer to the company's most recent annual and quarterly reports filed with the Securities and Exchange Commission and the presentation materials posted on the company's website. On this call, the company will reference various non-GAAP financial measurements. A reconciliation of those non-GAAP financial measurements to the GAAP financial measurements is provided in the company's earnings release and presentation materials. Also today's call is being recorded. And now I'd like to turn the call over to Mr. Casey.

Thanks very much. Good morning, everyone. Thank you for joining us on the call. Before we walk you through the presentation on our website, I'd like to share some thoughts on our business with you. Carter's is off to a much better start this year than we planned. We exceeded our sales and earnings objectives in the first quarter. We saw earlier-than-expected demand in our Wholesale segment, and we were able to support that earlier demand with the best on-time deliveries from Asia we've seen since the pandemic began. Our Retail and International sales in the first quarter were in line with our expectations. Inventories are now lower than last year, which drove a significant increase in cash flow in the quarter. Thankfully, the impact of historic inflation is moderating. Product costs and ocean freight rates are trending lower. We expect to see the benefit of those lower costs beginning later this year and the full benefit next year. SG&A in the first quarter was lower and better than planned. We've reduced discretionary spending and staffing levels to mitigate the slowdown in consumer demand that began last year. Birth trends in the United States are stable, and the outlook for births is improving. Our Baby apparel continued to be our best performing product offering and contributed over 60% of our first quarter apparel sales. Given the better-than-expected performance in the first quarter and our latest forecasts, we are reaffirming our outlook for sales and earnings this year. Our Retail segment was the largest contributor to our sales in the first quarter. Comparable sales were down 13% and in line with our expectations. Our store sales were better than expected. Our e-commerce sales were a few points lower than planned and in line with market trends. Our Baby apparel outperformed our…

Thank you, Mike. Good morning, everyone. Beginning on Page 2 of our presentation materials, we've included our GAAP P&L for the first quarter. Page 3 highlights a net adjustment to our GAAP results in the first quarter related to organizational restructuring. This information is included for your reference. This morning, I will speak to our results on an adjusted basis, which excludes this $1 million net charge. On Page 4, we have some overall metrics for our performance in the first quarter. Net sales were $696 million, a decline of 11% versus last year. Sales exceeded our previous guidance due to stronger-than-planned demand in our U.S. Wholesale business. First quarter sales in our U.S. Retail and International segments were largely on plan. We believe demand throughout the marketplace remains muted as inflation, high interest rates, increasing consumer debt loads and overall weak consumer confidence continued to weigh on consumer spending. The decline in profitability versus last year tracks to the decrease in sales with adjusted operating income of $58 million in the first quarter and adjusted EPS of $0.98. Operating income and adjusted EPS were better than we had planned for the first quarter, the result of the earlier-than-planned sales in our U.S. Wholesale segment. Page 5 recaps our first quarter performance relative to our previous guidance. Sales were a little more than $40 million above the high end of our guidance range. Retail comps were down 13%, right in the middle of the range we had forecasted. And Wholesale sales declined 9%, which was far less than we had planned, given the shift of demand into Q1 from Q2, and International sales were on plan. Our upside in sales was driven by earlier-than-planned demand in our U.S. Wholesale segment specifically for our exclusive brands product. Our supply chain has…

[Operator Instructions] Our first question comes from Warren Cheng with Evercore ISI.

I had a question on the second half gross margin. So I'm getting to a pretty significant implied second half gross margin expansion, just given the guidance you've given around EBIT and SG&A in the ballpark of 300 basis points. Can you just give a little more detail on the assumptions you have embedded there and which components really accelerate from the first half to the second half?

Sure, Warren. And I would agree with you. It is a significant expansion in gross margin rate that we have planned. It's definitely hundreds of basis points that we're targeting. And I think the good thing is we have good line of sight to the components of that. Over half of it is going to be driven by lower inbound freight costs. To Mike's earlier point, we saw significant deterioration in earnings last year because of what happened with global freight rates. We're expecting substantial relief there. So that will start to benefit the gross margin rate. We do have a mix benefit because we'll have a greater contribution from our U.S. Retail business as opposed to Wholesale. Our Retail businesses are that gross margin-rich part of the business. We'll have less costs related to inventory. We'll have a better mix of inventory. We're anticipating at this point, less clearance activity, less promotional activity. All of that will yield higher realized pricing. In addition to freight cost being down, we are expecting product costs themselves are down in the second half. But those would be the principal building blocks, but we're bullish on the outlook for our gross margin rate in the second half.

That's really helpful color. And then I just had a broader question on market growth. So if you just look at all the publicly available data on Baby and young children's spend, it still indicates we're pretty depressed versus pre-pandemic levels. And I was just curious -- your thoughts on overall market spend. You talked about inflation and some other things having an impact here. But are we still depressed? Or are there reasons where 2023 is sort of the new -- the correct new lower baseline that we should think about?

I would actually describe the market as fairly stable. And the birth rate, thankfully, is fairly, fairly stable. And we've seen some recent analysis to say that the percentage of women saying that they're expecting a child in the next 6 months is increasing. So we're forecasting the Baby apparel market to be stable going forward, stable, if not improving.

[Operator Instructions] Next question comes from Jim Chartier with Monness, Crespi and Hardt.

So how much of the $50 million of potential ocean freight savings are you expecting to realize this year? And when will that start to flow through the income statement?

It's about a $30 million benefit in the second half, Jim, just from rate favorability that we're anticipating. There's a bit more in terms of total inbound freight costs coming down just because unit volume is declining. And we won't get the entire benefit of those improved rates this year. Some portion gets capitalized into inventory. But on the order of about $30 million rate favorability in the second half is our assumption.

Okay. And then sounds like ocean freight was up in the first quarter. Can you give us a sense of how much that impacted the first quarter? And is it going to be up in second quarter as well?

It's expected to be up in the second quarter. We're continuing to operate under our legacy freight contracts until we get to more of the middle of the year. It was up in the first quarter. I don't recall exactly how much, but it was not as injurious certainly as the $50 million that we saw last year. A fraction of that.

And then how does the size of the kids market in Mexico compared to Canada? And is there anything structurally that prevents you from ultimately getting to a similar market penetration in Mexico as you have in Canada?

The market in Canada is closer to $2 billion. The markets in Brazil and Mexico are closer to $3 billion. And in Mexico, I would just say we're earlier in the stage of development there. It's only in recent years that we've started to roll out the co-branded stores. Canada was a licensee of ours years ago. They actually developed the co-branded store. And then we were so impressed by the good work they did in Canada, we replicated that model here in the United States with success. So I'd say Mexico is in earlier -- in its earlier stages of development. But the market is much larger. And I'd also say the e-commerce market is less developed in Mexico. And that's what we're in -- you have to assume over the next 10 years, the e-commerce market will be more fully developed in Mexico than it is today in the United States and Canada.

Right. And then in terms of the -- you reduced your Retail sales outlook by, I think, 1% for the year. Is that entirely reflected in your 2Q outlook? Or did you reduce your second half?

Partly in the second quarter.

[Operator Instructions] Our next question comes from Jay Sole with UBS.

Great. Mike, can you just talk about within the Retail business, your traffic trends both in stores and online? And maybe just talk about a little bit of the conversion trends that you're seeing in stores.

I would say the traffic has been down, and I would say the units being purchased per transaction is down. The consumers pulled back. What we find interesting is we're studying kind of the traffic trends and the year-over-year behaviors, we find more consistency in consumer behavior versus '21 than 2022. So if you recall, in 2021, you had the benefit of stimulus. You had the benefit of people having access to vaccines, reconnecting with family and friends again. 2021 was kind of a -- we often look for what was the base here? Was it 2019, was it 2021? We see more consistencies in consumer behavior versus 2021. Call that a period of optimism in the post-pandemic period. I would suffice it to say 2023 is not a period of optimism. So consumer confidence is much different today than it was in 2021. But relative to 2021, our comps are trending down in the high teens. And we're assuming that, that trend will continue. So if you were to look at our comp trends 2023 versus 2022, it would suggest a meaningful improvement in trend going into the balance of the year. But relative to 2021, the trends are largely consistent. So that's -- we've been studying that for several months now, and it's logical to us. The consumer was in a much different place in 2021 than they were even in 2022. A year ago around this time, I tell you the consumers were shocked by doubling of gas prices and grocery prices going up and didn't have access to baby formula, and then inflation peaked at 9%. So what we find interesting is a year later, I actually think the consumer is in a better place. I wouldn't say the arrow is pointing way up. But the consumer is recovering from that historic shock to their lives a year ago. And so worse we feel as though we have a handle on what the trends will be in the balance of the year. But our experience to date this year, the consumers pulled back, the Federal Reserve's objectives of slowing the economy by raising those rates, slowing the consumer down is clearly working. The economy even with the news yesterday, the growth in the economy is lower than it had then. So it's working. And recall, Chairman Powell saying there's going to be some pain near term. I think the consumers are feeling that pain right now with the higher prices.

And Jay, I would just add the traffic trends are more challenging online than they are in stores. The consumers seem to be rotating more into stores this year. You can see that in some of the market data, and we look out how our customers are doing as well. And so the traffic trends, while down, are more concerning, I would say, online. But it's really the rotation in the stores. Stores are much better than online.

[Operator Instructions] Our next question comes from Tom Nikic with Wedbush.

Just wanted to ask about the retail comps, and obviously, they're still pretty negative, and now we're kind of pumping negative comps with more negative comps. I realize that like inflation has been a headwind, and weather hasn't exactly been favorable. But do you think that there's something from a competitive standpoint that's happening? I know a lot of your competitors have not been as proactive and prudent with inventory management as you've been, which has resulted in a lot of discounting and promotional activity from your competitors. Do you think that, that's weighing on you as well that there's sort of a race to the bottom on pricing among your competitors, and that's maybe siphoning some traffic away from your DTC channel towards those discounts of your competitors?

Yes, I think that's -- it's possible. I would say the better retailers, and I think there are more better retailers than bad retailers, the better retailers including our Wholesale customers. Again the beauty of our business, we're talking to them all the time. So we've had a number of top-to-top meetings since we last updated you in February. The whole focus is run leaner on inventories, drive better sell-throughs. Even those who are known for the lowest prices in the market are focused on running leaner on inventories, have more clarity in the product offering or having better sell-throughs, better margin realization, better price realization, having less on the clearance rack at the end of the season. There are exceptions. There are retailers that as you go in their stores, they're with product because whatever they bought, people weren't buying. But those aren't the people we want to compete with. We want to compete with the better retailers. The better retailers, including Carter's, are running leaner on inventories, seeing better price realization. And so is there a bit of that, but there's always been promotional retailers. We're on promotion. We have good sales going on every day. So we're competitive. We look at our competitive -- our pricing relative to our competition. And it is true we have less clearance inventory than we did a year ago, less clearance inventory perhaps than some underperforming retailers. But we feel good about our strategy, run leaner on inventory, better sell-throughs, better margins, better price realization. That will be our plan going forward.

[Operator Instructions] Our next question comes from Ike Boruchow with Wells Fargo.

Two questions. One on Retail, one on Wholesale. Just on the Retail side, Mike, your comments on the year-to-date down 15, so is that implying that April has been running down close to 20? And I guess where I'm going with that is your comps in the first quarter were in line with plan, but you're lowering your Retail outlook for the year by a couple of points. And so like what's informing that decision based on what you've seen in April in the behavior? Maybe it's just Easter is such an important part of the business for you. But can you just elaborate a little bit more there?

No, you're exactly right. So we're probably running down high-teens in April. April is small potatoes. It's one of the smaller months of the year. So it's just -- it's been a slower start to spring selling. Easter wasn't what we expected it to be. Again, we have insight into how other retailers are doing with Easter. Easter has been -- spring has been slow to turn on. So we're simply reflecting that in our revised outlook for the year. And I think we've lowered it by about 1 point of performance for the year, fairly small adjustment for the year.

Got it. And then maybe Mike or Richard, on the Wholesale, you talked about the seasonal product offerings fully booked 2/3 of the business, and then you have the auto replenishment business for the rest. Is there any way you could kind of help us understand what's embedded in those plans year-over-year? The seasonal offering that's booked, what does that look like year-over-year? And then I guess more importantly, what I'm trying to understand is on the auto or on the replenishment side, what is embedded in that Wholesale outlook for the year year-over-year on the replenishment side? I'm trying to understand kind of year-over-year what the business looks like if you break those two buckets up, if that's possible.

Yes, I will try to share that with you. So for the year, we're planning '23 down high single digits. Obviously, first half down mid-teens, second half better, down mid-single digits. We're going to have a better replenishment business. We're going to have less cancellations in the back half. And you're right, replenishment is a little over 1/3 of our sales. So in the second half, obviously, the seasonal bookings are down at a higher rate than we're planning replenishment. Second half, we're actually planning replenishment up. First half, I think replenishment is down somewhat. In the second half, we're planning it up high single-digits. Obviously, BuyBuy Baby is out of business. If you take out the mix, we'd probably be up low double digits. And we've mentioned before that some of the folks last year when inventory became a challenge had turn replenishment off. So we're optimistic that we're going to have good trends in the second half. Folks did book conservatively on the seasonal businesses. That's why we're calling the year down high single-digits. But if those orders hold, which they have so far, in fact, we've had many accounts call product out early. That's why we exceed our plans in Q1. So if those seasonal orders hold, which we expect that they would at this point, and selling is good, we will look at our replenishment businesses as a potential to continue to do well. And if good things happen, we've got even spring '24 free ships that there's opportunities maybe to pull those in this year. So the trends overall are good. We were asked about sell-through. Obviously, there's 2 different stories. At the exclusive brands, the sell-through is very good. We had a very good first quarter where they pulled orders in early, and they sold well. The business -- the Carter's branded business with the department stores is a little bit more challenging or in line with some of the things we've had in our direct business.

I think another point as it relates to replenishment to the question earlier on second half, gross profit margins, replenishment, by its nature, is higher margin. It's higher margin for the retailer, and it's higher margin for us. So we'll see a higher mix of replenishment sales in the second half of this year relative to last year.

And that's our Baby business, which has been our strongest business this year. Over 60% of our sales are in that core Baby business, which is high margin and very good sell-throughs here to date.

[Operator Instructions] Our next question comes from Paul Lejuez with Citi.

On that comment about sell-throughs, can you maybe talk about what you're seeing at point of sale within your Wholesale channel and maybe specifically with your exclusive partners? And then I'm also curious about the gross margin in the quarter. How did gross margin look channel versus itself versus how much of the decline was mix shift?

Yes, I'll take the first one, Paul. On selling, we had a very good first quarter and year-to-date with exclusive brands. The selling of our products in all 3 of our exclusive brands are up double digit year-to-date. And again, a lot of good things happened. Our supply chain performed an exemplary level. We had good business planned. As their selling accelerated, they pulled Q2 orders into Q1. We had the product here early, and they were able to capitalize on that with the consumer. So selling is excellent in exclusive brands. And it is more challenging in the Carter's brand at some of the department store counts likely due to traffic. And weather has been a challenge around the country this spring as well. So it's kind of 2 different stories.

And Paul, I would say on margin, as I mentioned, we were planning for margin expansion in the first quarter. I would say it was the mix shift to Wholesale that predominantly made that not the case, the fact that we had declines then. Within the individual businesses, perhaps Retail, most specifically, I would say they were slightly below their margin plan in the quarter. And I would attribute that to just not having as much of the margin-rich spring sales as we have forecasted. I think the consumer is gravitating a bit more towards clearance. We don't have a lot of clearance product, but we did see a little bit more of that activity in the quarter than we had planned. And it's just spring has been slower to turn on, and that will be really margin-rich business for us when the weather warms up.

Yes. What was it within clearance was largely cooler weather year. So the consumer was opting for more cooler weather gear in the first quarter.

Got it. But with the Wholesale sell-through being up double digits versus what you're seeing in your own DTC, direct Retail channel, how does that inform how you think about like the price versus gross margin equation? Are you starting to see consumers really gravitate towards the lower-priced product out there in the market? Are you losing share to some of your own wholesale partners? How does that inform how you think about your own pricing architecture within the retail channel?

What we've seen over the years for 20 years as long as we stay within $1 or $2 of private label, we do well. As I shared with you, our best-performing brand, exclusive brand, sits side-by-side with the best-performing private label brand. And so both are doing well. The best retailers have a good mix of the national brands and their own private label brands. So we don't think it's a function of trading down. We think it's just a function that's where people are shopping right now because they're going for the groceries, they're going for one-stop shopping, they're picking up all the essentials. We don't sell diapers. We don't sell formula. They do, and they're benefiting from the consumer opting for one-stop shopping, given the higher gas prices and other challenges on the budget. And I think just one final thought on that. As we look at pricing, the -- most consumers spend about $700 a year for apparel for their child. And our price increases this year through inventory management and actual price increases is probably some portion of 5%. So 5% on $700 a year is about $35 a year, less than $1 a month, less than $3 a month in terms of their monthly budget, and so we don't think kids apparel is putting pressure on families with young children. I think there's other things weighing on them. But we don't think our price increases or pricing is one of those challenges.

But more consumers are gravitating towards some of those exclusive brands which are lower priced. Does it tell you that maybe they are looking for cheaper alternatives versus the core?

Again, if our exclusive brands business was under pressure, it's the best performing part of our business right now. We're benefiting from that traffic to Target, Walmart and Amazon.

Ladies and gentlemen, this does conclude the Q&A portion of today's conference. I'd like to turn the call back over to Mike Casey for any closing remarks.

Well, thank you all very much for joining us this morning. We look forward to updating you again on our progress in July. Goodbye.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect, and have a wonderful day.