Greetings and welcome to Kontoor Brands' Q3 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn this conference over to your host Mr. Eric Tracy, Vice President, Corporate Finance and Investor Relations. Thank you, sir. You may begin your presentation.

Thank you, operator and welcome to Kontoor Brands' third quarter earnings conference call. Participants on today's call will make forward-looking statements. These statements are based on current expectations and are subject to uncertainties that could cause actual results to materially differ. These uncertainties are detailed in documents filed with the SEC. We urge you to read our risk factors, cautionary language, and other disclosures contained in those reports. Amounts referred to on today's call will often be on an adjusted dollar basis, which we clearly defined in the news release that was issued earlier this morning. Adjusted amounts exclude the impact of restructuring and separation costs, non-cash impairment related to our Rock & Republic trademark, and other adjustments. Reconciliations of GAAP measures to adjusted amounts can be found in the supplemental financial tables included in today's news release, which is available on our website at kontoorbrands.com. These tables identify and quantify excluded items and provide management's view of why this information is useful to investors. Unless otherwise noted, amounts referred to on this call will be in constant currency, which exclude the translation impact of changes in foreign currency exchange rates. Constant currency amounts are intended to help investors better understand the underlying operational performance of our business, excluding the impacts of shifts in currency exchange rates over the period. Also given the impacts COVID-19 had on prior year results, we will provide select references to the same quarter in 2019 for additional context where appropriate. Joining me on today's call are Kontoor Brands' Chair, President, and Chief Executive Officer, Scott Baxter and Chief Financial Officer, Rustin Welton. Following our prepared remarks, we will open the call for your questions. We anticipate the call will last about an hour. Scott?

Thanks Eric and hello to everyone joining us today. If you take one thing away from today's call let it be this, Kontoor and our Wrangler and Lee brands are in a meaningfully different and advantageous place compared to our past. We are now uniquely positioned to win in the marketplace and to create future value for all our stakeholders. This was evident in our third quarter results and it's even more evident in the confidence we have in raising our guidance for fiscal 2021 and the momentum we see in the holiday and fiscal 2022. More on this in a bit but simply put our strategies are working. Our investments are yielding superior returns through the elevation of our brands, increasing permission to price, and accelerating growth. No doubt the current macro environment is placing significant challenges on companies and people and as we stated, Kontoor is not immune but we are keenly focused on controlling the controllables and on the execution of our strategic playbook that has consistently proven itself in setting our foundation during Horizon 1 and now in the Horizon 2, where we will look to catalyze growth. When we started the Kontoor journey almost three years ago, our top priority in establishing our organizational culture was to take care of each other. And while we could not have predicted the obstacles we would face in the ensuing years, we believe that this core tenant and the great experience of our team could help us not only navigate difficult times but thrive through them and I believe we have done just that. So I want to thank our colleagues around the world for the ongoing collaboration, teamwork, and resiliency, and continuing to take care and support one another. So how are our strategies driving near term…

Thank you, Scott and thank you all for joining us on today's call. As Scott outlined, we are very pleased with our third quarter results and the momentum of the business as we head into holiday in 2022. Simply put, our brands are as healthy as they have ever been with the investments made and solid foundation that has been established since the spin. Before turning to the quarterly review, I want to address a couple of topics that I know are top of mind, macroeconomic inflation and supply chain challenges, as well as the status of the ERP implementation. With respect to the widely discussed industry supply chain disruptions, cotton pricing, and inflationary pressures, I want to emphasize the following points that we have repeatedly stressed. First, while we are not immune to these issues we continue to leverage the agility of our best in class supply chain to navigate the environment. And second, we remain focused on what we can control and are steadfastly executing our strategic playbook. In terms of the supply chain, we believe we are relatively advantaged in our position. Our diversified global supply chain operations are differentiated with over one third of our global production coming from our internal manufacturing facilities in the Western hemisphere, with the balance being sourced from over 20 countries and approximately 225 facilities around the world. No single supplier makes up more than 10% of our cost of goods sold. Internal manufacturing combined with contracting in the Western hemisphere gives us greater flexibility, shorter lead times, and allows for enhanced inventory management in the North American market. Our significant footprint in the Western hemisphere has provided several advantages over the past few years, including being able to rapidly alter production to align with changing demand signals, minimizing excess and…

[Operator Instructions]. Our first question comes to line of Adrienne Yih with Barclays. You may proceed with your question.

Great, good morning. And boy, that's a whole lot of good news in 30 minutes. So congrats, really well done. Scott…

Thanks, Adrienne.

You are welcome. My first question is on the low double-digit first half guides, there are few companies that are willing to go out and start giving us, 2022 guides. So then clearly what you've talked about is things that you're seeing up. And so my question is, are you seeing that in the order book, and how much confidence do you have there and then the drivers of that, Scott, I always like to get your opinion on the denim cycles of how strong is that, how long is that? And then, Rustin you mentioned something on average unit retails. Are you planning on taking initial retails up in spring of next year like many others are? And I do have a follow-up. Thank you.

Great. Alright, well thanks Adrienne. I'll go ahead and start. So really proud of the results that we've shown year-to-date. And I think that's a real catalyst as we grow this company, and I'm really proud of how we've pivoted from Horizon 1, standing the company up to Horizon 2, turning ourselves into a growth company. And as you look at all that we've done, I think the thing that's really beneficial for us as we head into 2022 is that that opportunity for us to go to low double digits is a blanket approach. So all, I mean by that is it's happening everywhere. So it's not just in one specific area, it's in our channels, it's in our geographies, China and Europe, it's in our categories. And, we introduced all train gear and work and t-shirts, and they're all working really well. So it gives us really good confidence as we head into 2022. And yes it is because we have a really good understanding of our business and we know where it's going to be. So from an order book standpoint, that does give us confidence. And as we think about the denim cycle, very, very early stages. And I've said before, it's much more than the denim cycle, this is a casualization of what's happening around the world. And we are seeing that take hold. I mean, from one part of the globe to the other part of the globe, and it's really exciting to see and denim is a big, big part of that. But I'll tell you what, what we've done with t-shirts and altering gear and the outdoor category and people coming back to work, I think the one thing that as I look at the team, how we've pivoted ourselves to go ahead and play in the categories that are really meaningful going forward as an organization, I think has been very strategic. So thank you.

Great.

Yeah, good morning. To your second question about AUR retails, certainly we're in active negotiations now. So I'm not going to go into specific assumptions as I indicated in the prepared remarks around 2022 cost inflation or pricing assumptions, but I will make a couple of comments. Certainly as we think about 2022, we're not immune, as we've said, from inflationary pressures that are out there. The second half of 2022, we'll see stronger inflationary pressures than the first half as you would expect. And then, we're confident given existing conditions that we can offset the COGS inflation through the combination as we talked about of the ongoing KTB specific actions around structural mix shifts, higher AURs and cost efficiencies you've heard us talk about for several quarters as well as strategic pricing. So we'll get into more details on the fourth quarter and specifically around assumptions.

Great. And then Rustin a really quick housekeeping one, if you will. What percent of sales is cotton, as raw material?

Yeah, we said cotton in the prepared remarks, Adrienne was approximately mid-teens percent of our cost of goods sold.

Okay. Thank you so much. Sorry about that. Great job. Good luck.

Thanks, Adrian.

Our next question comes from the line of Bob Drbul with Guggenheim Securities. You may proceed with your question.

Hey guys. Good morning. And Scott, congratulations on the Chairman title.

Oh, thank you, Bob. Appreciate that.

I guess couple of questions, when you look at the digital acceleration, it was just quite impressive. So when you look at your capabilities in terms of your ability to continue to meet that high demand, do you think that the 10% number appears too low when you look at it over a longer period of time, cause it just seems like it's really taken off? And then the second question is, when you look at the returns you're getting on the demand creation and just, how do you think about that longer term, I guess when you think about 2021 into 2022 as well, just more thoughts around the levels and sort of how you're spending that, seems like you're getting great returns? Thanks.

Yeah. Thanks Bob. I'll take the first one and Rustin and I'll take the second. From a digital standpoint, when we spun, we had a huge opportunity here and I think it's really a real tribute to the leadership that we've developed within that category for our company, with really great folks that we've hired, the investment that we're making within that category relative to the fact that it's very accretive, and the fact that a couple of things have all come together for us. So we have rolled out a new ERP system. So we have new platforms across the globe. We're creating much better products which is driving higher AUR’s in that category with much better demand creation. So people are driving to our sites and as you can see 118% up for the quarter in our own.com is all there. But I think your question's great because it's a challenge that I have out to the team that we can do better than 10%. That's our goal, but we have to do better for our shareholders and we are going to work really hard to do that. And I have a lot of faith in our group that we can do that. But I'll tell you, Bob, we're going to continue to make investments there too, because we see it as really, really important. From a demand creation standpoint, it's part of our virtuous cycle of growth, right. When we spun, we knew these brands needed big time investment, and we also had to have smart investment so we hired two exceptional leaders from a marketing standpoint and they've really helped us and you have heard me talk about these two new, big global campaigns. But we've never done anything like that before and the reception has been from the community amazing. So as we continue to do that, and as we continue to grow our gross margin, we're creating that oxygen, and that fuels to invest back in these brands in a really smart way, which I'm most encouraged about with the team. So really focused on that. And Rustin, maybe a few comments about second half.

Yeah. Good morning, Bob. So to Scott's point, I think, we're seeing those returns Bob, that you mentioned earlier and that's what's causing us to lean in and invest. Again, an additional 15 million or $0.20 into accelerating that digital and demand creation in the fourth quarter. And it's because we're seeing those strong returns from the investments and certainly you called it out in the Q3 results. As you think about sort of getting to the guide of $4.15 to $4.20 Bob, that's partially offset with again in our prepared remarks, we talked a little bit about $0.19 of benefit from below the line items like tax and lower interest and year-to-date share purchases. But, feel really good about that combined raise in revenue and gross margin guide that's really netting us to that $4.15 and $4.20 from an operational perspective. We're just seeing those returns really playing out and so that plays into 2022 as well. So, just one other point, just to call out Bob, as a reminder, with this updated guide if we go back to the Investor Day, we talked about a 15% plus operating margin by 2023 with triple-digit expansion in 2021. And as you can see, we remain well on track with our raised full year guide. So, very confident in the investments we're making. Thanks, Bob.

Our next question comes to the line of Mauricio Tenna [ph] with UBS. You may proceed with your question.

Great. Good morning, everyone and thanks for taking my question. Just a couple of questions. First on inventory, can you tell us a little bit more about where you stand on inventory, I know you mentioned you are up 4% excluding the digital model changes, but I just want to understand if there's an in transit component there, just to make sure do you have enough to support growth and what you're doing in terms of air freight and logistics? And secondly, the capital allocation optionality, you did also repurchase $125 million in shares. So how should we think about that like going forward in terms of, could that be like a quarterly number or like on an annualized basis, could that -- could we see like a triple-digit in terms of maybe some dollars of capital returns to shareholders based on just share repurchases? Thank you.

Thanks Mauricio. This is Rustin. I'll start with the first one around inventory and air freight and Scott can jump in on capital allocation. We will kind of tag team that one. So, in terms of your question around inventory, as we indicated in our prepared remarks, we continue to chase demand based on the momentum of the business and retail inventories remain lean, as everyone knows. We are projecting kind of year-end inventory to increase double-digits year-over-year to support this momentum, not just in the fourth quarter, but obviously heading into the first half of 2022. We do expect as you think rolling forward here that inventory is going to grow slower than revenue due to those lean retail inventory. So as we're getting product in, we're shipping it out. And then certainly we've got some internal initiatives as well around skew activities, as we talked about a little bit at Investor Day. So we're going to lean into inventory where appropriate, given some of the inflationary pressures and again, the strong demand signal that we're seeing. In terms of air freight, I mentioned last quarter and we reflected it in our outlook that we were not immune and expected some transitory air freight costs, which you saw certainly in the third quarter here with 180 basis points headwind from air freight. We believe that will continue. We certainly utilize in the third quarter, we'll continue to utilize air freight where possible and appropriate to meet that strong demand. Believe that elevated air freight is transitory as we talked about, but likely Mauricio to continue into 2022. And maybe just to dimensionalize it a little bit for you in Q3, our gross margins were 44.1 with 180 basis points of headwind from air freight. And at the midpoint of our outlook we provided here, implied margins are around 43 for the fourth quarter. Again, elevated air freight will continue to be a headwind as we chase that strong demand. So certainly aggressively going after the demand signals that we see. Scott, you want to take capital allocation.

Thanks, Mauricio for the question. So Mauricio, I just want to remind everybody, if you go back to how quickly we paid down our debt, it's a really proud moment for us as an organization during a really difficult time. We paid our debt down quickly in Horizon 1, as we said we would, meeting our promises and we talked a lot about and this means a lot. We talked a lot about the optionality. We said dividend increases, we said share buybacks, we said M&A, we said that we had the optionality to do that after we paid down the debt, and I think what you're seeing right now is you're seeing the execution of that. So in a very short period of time, this quarter we've increased the dividend 15% superior dividend, which is important to our TSR. And in addition to that, we've started our stock repurchase program. So we've started doing what we said we would do, and we're generating a billion dollars over this three-year period. So we still have a lot of optionality. Just because we've done those two things we still have a lot more power that we can use going forward, as we see as the best thing to do for our shareholders. Rustin, anything to add.

Yeah, I would just sort of say Mauricio that the multifaceted approach that Scott just laid out really speaks to the power of our operating cash flow, that we can pursue a multifaceted optionality concurrently. I think that's really important to take away. Certainly this quarter we talked about the share repo beginning. Just as a reminder as the guide that we gave this morning raising our guide is all organic. So you should think about any future share repurchases as incremental. So just wanted to highlight those points, but thanks Mauricio for the question.

Our next question comes from the line of Erinn Murphy with Piper Sandler. You may proceed with your question.

Great, thanks, good morning. And let me add my congratulations. I am personally very pumped about your Yellowstone collaboration as well, so very good job on sharing that. [Multiple Speakers]. I know, it's on my calendar. A couple of things for me that hasn't been asked yet, first on China, I'd love it if you could share a little bit more about what you're seeing with the Wrangler business on Tmall now that you're starting to fully annualize that relationship and then for both brands, how are you positioned into 11/11? And then secondly, could you just remind us how your consumer was impacted by U.S. stimulus last year and then what have you taken into consideration with that low double-digit first half guide for stimulus? Thanks.

Sure Erinn, I'll go ahead and take those, this is Scott. So from a China standpoint, we are really, and I talked about this a little bit on my prepared remarks. We're really pleased with how we're interacting with the Chinese consumer right now. That dates back to the fact that we've been in the market since 1995 and have a really loyal following there. In addition to fact that we have really strong leadership throughout that region. So I'm really pleased with that. So the Lee brand continues to do well. From the Wrangler brand kickoff standpoint, yes, it has been about a year now, coming up on a year actually. And it continues to meet the targets that we've set for from the standpoint of how we're rolling it out, how the brand is being received. I think the one thing that'll be exciting for us is you're going to see some more demand creation on the Wrangler brand here really soon in China. So that's really exciting. And then from a stimulus standpoint, the consumer for us, we play in all markets. So for us, that's really important. We play at the highest market and we play in the mass market. So we have a wide range in consumer. In addition to the fact that we have picked up multiple different programs, which is really important for us and it's broad based. So it's not just here, it's in Europe, it's in China, and it's not just in our core, but I do want to make mention of that, our core business is really important to us, it's really strong, we're really pleased, but we're continuing to do more and we're not stopping from a sustainability and innovation standpoint, a demand creation. We're pushing the envelope, hiring great people, gearing up for a really good horizon to turning this into a real growth vehicle going forward. So thanks for the question. Really appreciate it.

Our next question comes from the line of Brooke Roach with the Goldman Sachs. You may proceed with your question.

Hi, good morning and thank you so much for taking our question. Scott and Eric I am wondering if you could talk a little bit about the recent success of your new distribution wins that you've achieved over the course of the past year, it's great to see how many wins you have seen across partners and channels and sub segments of the brand but I was wondering if you could talk a little bit about how those programs are performing with each of your partners, are they comping positively as they anniversary the first year, and how important are some of the new realized distribution wins to the strong 1H revenue outlook into 2022? Thank you.

Okay, thanks Brooke. This is Scott, I'll take that. Let’s start with Lee. So a year ago we kicked off a new program with a major customer, one of our win with the winner customers and that has gone really well. The POS has continued to improve. In addition to that it's gone so well on the consumer take out and the acceptance has been good, we're really pleased with the products, we have won some additional programs on the Lee brand with that customer. So really important to us. T-shirt category which we entered and we talked a lot about is $100 billion category, it just accessorizes so well with our bottoms, and we've got a couple of really big wins there to talk about 1700 doors and again we're really pleased with the initial take out and the POS work. There is another example of this year 3300 new doors, a category that's really, really important. And then I think about things like outdoor, so a couple of years ago we introduced this line and it has grown significantly, it's really important to our business, it's given us confidence as a company that we can do things outside of our core, and we've got multiple points of distribution that are working. But specific to your question we're testing right now for instance here in the U.S. and also in Europe with Intersport and we are testing here with Academy. And both of those tests are going very well and the POS is going very well and the consumer take out is really good. They love the product. So I'm feeling really confident from a new business development standpoint, from a new category standpoint for our team. There's going to be more that we're going to come out with in the future which is really exciting but for those specific instances feel really good about first half relative to that we are building going forward in the future. Thanks Brooke.

Thank you. Our next question comes from the line of Sam Poser with Williams Trading. You may proceed with your question.

Hi, thanks for taking my questions guys. One, the guidance for the fourth quarter, the implied guides for the fourth quarter, how should we think about the Lee and Wrangler business and are you constrained by inventory at all in Q4 from a revenue perspective given its implying a fairly good deceleration and just based on what I'm looking at, I mean it's a fairly good deceleration and it looks like your momentum is a little bit stronger than what you have given us?

Yes Sam, good morning, it is Rustin. I will go ahead and take that piece. As we think about the fourth quarter certainly Scott laid out all of the things that we're confident about moving into holiday as well as into 2022. We've tried to take into consideration the chasing on the demand and the inventory side and reflecting that guidance, didn’t split out sort of commentary by brand but we did talk a little bit about the fourth quarter for Lee returning to strong growth. And so we wanted to on the Lee piece, what we are seeing there is really strong POS that's really pulling from consumers and that's supported by some increased air freight to meet that demand. Lee tends to be Sam a little bit more of a sourced business than Wrangler and we're seeing strong momentum from a POS perspective. Seeing strong momentum on the digital side as well and then there's some additional business development wins including a holiday program the Lee piece. So, that's driving it. I think the point I would really bring home on the fourth quarter Sam, cause certainly as you recall last year there was a 53rd week is going back to 2019 and if you exclude those actions around VFO and India, the fourth quarter projection on it is scheduled to be up 3% to 4%. If you exclude those actions it's 13%. So again it speaks to the momentum of the business and really the investments. And to Scott’s point earlier, the broad based support we're seeing across channels, categories, and geographies that's giving us that confidence.

Okay, thanks. And then on the SG&A, I mean I'm just sort of backing into numbers but it looks like, I mean it looks like you're going to spend over a lot of money on SG&A. And even before like on the old numbers it would look like it was going to be a large number. So I mean, is SG&A going to be up $35 million to $45 million from Q3? [Multiple Speakers].

Yeah, a couple things to comment on, as you think about comparisons as Sam to prior year, particularly Q3, there were some COVID related sort of expense reductions given the uncertainty around COVID last year. So that distorts the comparison to prior year a little bit. As you think about Q4 and the investments, I draw you back to the prepared remarks with the Wrangler and Lee campaigns just now dropping. So certainly we want to get out and support those campaigns. We are very excited about it as you heard us talk about on the call and the opportunities that are there. And based upon the returns that we've seen, that's what's giving us that confidence that we want to dial up that $15 million of incremental investment into digital and demand creation. And again that's going to be a $0.20 headwind on EPS. But we think that is the right move for the investment on the brands not just in 2021 but in 2022 and beyond. And in my prepared remarks you saw how we're inflecting there Sam. We're going to be up in advertising, projected to be up and expected 40% compared to last year's numbers and it's about 100 basis points and 20% over 2019 numbers as well. So again very pleased with the investments and that's what's giving us the confidence to store and make sure the brands are healthy for the long run.

Our last question comes the line of Jim Duffy with Stifel. You may proceed with your question.

Hi, this is Peter McGoldrick on for Jim, good morning. Hi guys. It seems like you've got a lot of momentum in the marketing messaging for both brands. Can you provide any insight to demand creation priorities between them, what are the biggest dollar opportunities for investment, and then looking into 2022 are there any marketing opportunities that might not have been there at the beginning of 2021?

Yeah, Peter I will take that. This is Scott. We feel really good about both brands and about the opportunities to invest in both brands. And I think that you heard me talk a little bit earlier about these new global ad campaign that we kicked off in both and fairly significant for us Peter because that hasn't been done in these brands before and it's something that's going to set us apart, it's also something that I think it's a springboard for the organization to build upon as we go forward and we think about the power of these brands. We're going to learn a lot from both of those two and I think that's really important. But I think if there's anything I want you to take from it I want you to take from the fact that there's a ton of opportunity left here, demand creation is a huge opportunity for us, we're going to continue to invest in it, and we're starting to invest at a level that our competition has been investing in for a very long time. And it feels good to get to that point that we need to so that we can go ahead and continue to grow these brands globally. Much more to come going forward. Really excited about the Georgia May Jagger, Leon Bridges, all the different things and the collaborations with Pendleton that Lee is doing. There's just so many things that we haven't done before but it's all in the logical sequence that will play out over the next couple of years and our big mobile ad campaigns were exactly where we wanted to put them, when we wanted to put them because we hit our playbook metrics. So thank you Peter.

Ladies and gentlemen, we have reached the end of today's question-and-answer session. I would like to turn this call back over to Mr. Scott Baxter for closing remarks.

Thanks everyone. Really, really appreciate the time that you afforded us today. Thanks for being here with us on the journey and I want to wish all of you a safe happy holiday season and we'll look forward to talking to you again next year. So thanks everybody. Have a great day.

Thank you for joining us today. This concludes today's conference. You may disconnect your lines at this time.