Tapestry, Inc. (TPR) Q2 2020 Earnings Report, Transcript and Summary

Good day and welcome to the Tapestry Conference Call. Today’s call is being recorded. [Operator Instructions] At this time, for opening remarks and introductions, I would like to turn the call over to the Global Head of Investor Relations & Corporate Communications at Tapestry, Andrea Shaw Resnick.

Good morning and thank you for joining us. With me today to discuss our quarterly results are Jide Zeitlin, Tapestry’s Chairman and Chief Executive Officer and Joanne Crevoiserat, Tapestry's Chief Financial Officer. Before we begin, we must point out that this conference call will involve certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act, including projections for our business in the current or future quarters or fiscal years. Forward-looking statements are not guarantees and our actual results may differ materially from those expressed or implied in the forward-looking statements. Please refer to our Annual Report on Form 10-K, the press release we issued this morning and our other filings with the Securities and Exchange Commission for a complete list of risks and important factors that could impact our future results and performance. Non-GAAP financial measures are included in our comments today and in our presentation slides. You may find the corresponding GAAP financial information, as well as the related reconciliations on our website www.tapestry.com/investors and then viewing the earnings release and the presentation slides posted today. Now, let me outline the speakers and topics for this conference call. Jide will provide an overall summary of our fiscal second quarter 2020 results for Tapestry, as well as our three brands. Joanne will continue with details on financial and operational results of the quarter, as well as our outlook for FY 2020. Following that, we will hold a question-and-answer session, where we will be joined by Todd Kahn, Tapestry’s President and Chief Administrative Officer and Chief Legal Officer; and Josh Schulman, CEO and Brand President of Coach. Following Q&A, we will conclude with some brief summary remarks. I’d now like to turn it over to Jide Zeitlin, Tapestry’s Chairman and CEO.

Good morning. Thank you, Andrea and thank you to all of you for joining our earnings call. This morning we reported our fiscal second quarter results, which exceeded our plan. Our out performance was driven by continued momentum at Coach and a significant sequential improvement at Kate Spade. In addition, we exited the quarter in a good inventory position. We also entered our third fiscal quarter with strong underlying trends, notably at Coach as sales growth accelerated from the holiday period. Therefore, we had originally anticipated maintaining our fiscal year 2020 guidance despite continuing headwinds in Hong Kong and challenges at Stuart Weitzman. However, the escalating coronavirus outbreak in China is now impacting our business, resulting in both significant traffic declines and the closure of the majority of our stores on the Mainland. As a result, we now expect that the second half of our fiscal year could be impacted by approximately $200 million to $250 million in sales and $0.35 to $0.45 in earnings per diluted share given the current trends in China. If the situation further deteriorates or the outbreak further affects demand outside of the country, this impact could be worse. Our primary concern is the health and well-being of our team, their families, and their local communities who are dealing with the daily realities of the situation. We believe in the resilience of the Chinese people and our view that China represents a significant opportunity for our brands is unchanged. We are confident in our ability to effectively operate through this period of uncertainty. It is worth noting that during our 20 years of the public company we've successfully faced myriad macro and geopolitical dislocations from the great recession in 2009 to 9/11 to SARS and to the Fukushima earthquake, and tsunami in 2011. We have consistently emerged from such turbulent periods, a stronger company. Our strong balance sheet, cash position and diversified sourcing base and supply chain afford us a flexibility to operate our company for the long-term and to emerge stronger as we have many times in the past. Let me turn to the second quarter results by brand. We achieved another quarter of solid and consistent performance at Coach. This was our ninth consecutive quarter of positive comps, one that was driven by increases in handbags, average unit retail or AURs, in both outlet and detail. This speaks to how innovation and brand strength drives value as our products resonated with consumers around the world. Coach’s global digital channels led growth this quarter, while originally North America outpaced our international businesses in the aggregate. Turning to Kate Spade, revenue was better than expected. We realized a mid-single-digit decline in comparable store sales versus expectations for high-single-digit decreases as we actively work to address merchandising and product challenges. In addition, we move through excess inventory using higher levels of promotions during this typically marked down heavy holiday period. At Stuart Weitzman, sales declined despite strong growth in Mainland China. Demand was soft and North America and across other regions. That said, the gross margin expanded significantly and resulted in operating income in-line with the prior year. During the quarter, we completed the comprehensive review of our brands and business that I described on our last earnings call. This diagnostic work has provided important insights into where we need to focus to build sustainable brand health and growth. There is no silver bullet, rather there are handful of important changes that when aggregated will prove transformational. We will change key aspects of how we work. There are three major areas we’ve identified that will have the biggest impact on our business; consumer centricity, data driven decision-making, and how we work. To drive this successful development and implementation of changed business practices we are forming a project management office, which will ensure that our objectives are clear, that internal teams have the resources to succeed and the multiple activities are coordinated. While we’re not ready to share the specific plans at this time, we do have increasing clarity as to the opportunities we intend to go after and we look forward to sharing our plans in detail at an Analyst and Investor Day this summer. Before I mentioned additional details about our holiday performance, I wanted to touch on our leadership announcement this morning, which detailed a number of changes to the company's senior management team. First, I’m pleased to announced Liz Fraser as CEO and Brand President of Kate Spade. Liz brings our 30 years of industry experience and leadership to Tapestry having served as President of Lafayette 148, CEO of Anne Klein, and before that President of Marc by Marc Jacobs, where she built that business into a multichannel multi-category global lifestyle brand. As CEO and brand President, Liz will lead all aspects of the brand globally working closely with Creative Director, Nicola Glass and the brand's leadership team. I’m confident that Liz’s leadership style combined with her strong track record of getting things done will translate into great outcomes for our Kate Spade team and business. Eraldo Poletto, CEO and brand President of Stuart Weitzman recently informed us of his decision to leave the company. I’m grateful to Eraldo for the enthusiasm and dedication he brought to Stuart Weitzman and I wish him every success in the future. Eraldo will depart on March 1, and I’m pleased to promote an internal successor. Giorgio Sarné, currently President Tapestry Asia and President and CEO Coach Japan and Asia has been promoted to CEO and brand President of Stuart Weitzman. Partnering closely with Head of Product Design, Edmundo Giorgio will be responsible for all aspects of Stuart Weitzman globally. Giorgio joined Coach in 2013 in New York and since 2016 has done an excellent job in leading Coach in Japan and overseeing operations in Korea and other markets in Southeast Asia. He is a passionate and strategic leader who I have great confidence will lead Stuart Weitzman into a new future. Emmanuel Ruelland, currently Vice President, General Manager, Tapestry Southeast Asia & Oceania, will succeed Giorgio as President of Coach Asia, which includes Japan, Korea, Southeast Asia, Australia, and New Zealand. I’m also pleased to announce that Yann Bozec, currently President, Tapestry China and President and CEO, Coach China will be take on a Tapestry leadership role across Asia Pacific, in addition to his existing responsibilities. Yann joined Coach Japan in 2008 and has been instrumental in the brand's development and growth in the Asia region, notably its success in China. Most recently, he guided the integration of both Kate Spade’s and Stuart Weitzman's China operations onto the Tapestry platform. This organization has the opportunity to capitalize on the significant opportunities that exist for each of our brands and I’m delighted to have Liz, Giorgio, and Yann join our Tapestry Executive Committee. Now, let us discuss results by brand in greater detail, starting with Coach. Global comparable store sales rose 2% in the second quarter led by outperformance in North America and more generally across our e-commerce platforms. In aggregate, our international businesses were even with prior year with strong comp growth at Other Asia, Europe, and Mainland China offsetting continued weakness in Hong Kong. As anticipated, the Japan comp declined slightly reflecting the consumer tax increase, which went into effect on October 1. Excluding Hong Kong, global comps were up roughly 3%. The driver of our global bricks and mortar comparable store sales was ticket or ADT reflecting our AUR increases achieved through new product development successful launches at higher price points and outlet and lower levels of promotional activity. In addition, while our North America wholesale shipments were slightly below prior year, our business at POS remained strong despite fewer promotional event days. We are particularly proud of the brand's performance in North America in light of the weaker mall traffic trends. Importantly, Coach’s momentum in North America was evidenced by our U.S. brand tracking survey fielded in December, which showed strength in positive brand affinities among the broad premium market. We are pleased to see the perception of Coach as a brand on the way up increased significantly and match fiscal year 2013’s all-time high making it a standout within our panel. Now, looking at our second quarter progress against Coach's brand strategies for fiscal year 2020. First, we accelerated product innovation and disruption across our good, better, best price architecture in retail with the introduction of additional colors and seasonal materials of Tabby and the launch of our Horse & Carriage logo platform alongside newness and Signature. In outlet, we successfully drove AUR with a re-launch of our top five bag styles. Each style received fresh design details and increased functionality such that we were able to command a 10% to 15% premium versus their previous counterparts. With these new core styles in place, we layered on new fashion introductions to drive Silhouette Newness and to respond to market trends. The success of this initiative gives us the confidence to further lean into the opportunity to reduce promotional activity, drive higher prices, and protect gross margins in the outlet channel. In addition, during the quarter, we continue to drive disproportionate growth beyond bags in our less developed women's and men's footwear and ready-to-wear categories. Second, we drove fashion authority through cultural relevance and created brand moments around key global events. Specific examples tailored to local markets this quarter included our participation in the Macy's Thanksgiving Day parade. In fact, the courts flow was the first for a luxury fashion company and featured singer and actor Billy Porter. In China, we celebrated Double Eleven, previously known as Singles' Day with compelling digital content featuring local talent. Overall, we generated a very positive response for our global digital content, including our holiday campaign featuring Kate Moss, Yara Shahidi and a diverse mix of personalities that garnered nearly 1 billion impressions. As you likely noticed, in mid-November, we announced Jennifer Lopez as a global face of Coach. While her official partnership with the brand begins now, in the spring 2020 season, she began posting during the second quarter driving significant buzz around the brand. Third, we injected excitement into stores bringing both creativity and convenience into the shopping experience. We continue to drive traffic through our store takeover and pop-up strategy involving nearly 80 installations during the quarter, including many dedicated to the launch of the Coach x Michael B. Jordan capsule collection in October and the Horse & Carriage collection in December. In outlet, we kicked off pre-holiday excitement in November with disruptive activations around our Star Wars collaboration. On the digital innovation in e-commerce front, we piloted the love, scan, save, in-store digital tool in over 50 North America outlet stores during the quarter. This tool allowed the customer to use their smart phone to scan product, to instantly see the door price, add favorite items to their bag, and skip the line for a faster checkout. We’re encouraged by early results and customer feedback. In China, we built on the momentum from a was soft launch on Tmall earlier this year with our official grand opening in December where we ranked highest among global brands in the handbag category, while continuing to see growth across other e-commerce platforms, including our own coach.com and on WeChat. We estimate that nearly 90% of team Tmall customers were new to Coach. We’re looking forward to spring with our first campaign featuring Jennifer Lopez, while we continue to partner with Michael B Jordan at the face of Coach Men’s. In retail, we will launch two new handbag families and we will showcase Coach’s heritage with the global rollout of Coach Originals grounded in leather craft, reintroducing our [indiscernible] shapes with a nod to the past through a modern aesthetic. Outside of handbags, we are very excited about the launch of the dual gender City Sole sneaker collection that mergers Coach’s fashion authority with technology to increase comfort and flexibility and to minimize impact and weight. For the first time in over three years we are dedicating significant marketing investment to the footwear category with out of home digital content and pop-ups. In summary, we remain optimistic about our ability to accelerate Coach’s growth over the long-term. Moving to Kate Spade, total sales were even with last year on both a reported and in constant currency. With the mid-single-digit comp decline offset by new store distribution. Comparable store sales were ahead of our expectations and improved sequentially declining 4% in aggregate as we move through excess inventory and began to take key product and merchandising actions to optimize our assortment and to enhance the brand's novelty offering. In our bricks and mortar business, conversion was positive for the quarter helped in part by higher levels of promotion, while traffic comp remained under significant pressure. Our international markets continued to outpace our domestic business with positive comps in Mainland China, Europe and Other Asia, while our global.com channels were also positive. Turning to product and brand strategy at Kate Spade, s mentioned, on our last call, our strategy for holiday was to broaden the product assortment in retail to satisfy more usage occasions and to add back fun, color, and novelty. As a result, we saw strong performance in our expanded satchel offering, as well as in holiday giftables, and jewelry. Collaborations, particularly Mini Mouse in outlet, and Tom and Jerry in both channels resonated strongly with customers. Our cats grew, but novelty tiny elephant bag added a touch of whimsy over the holiday. In marketing, our objective was to establish the brand as a global gifting destination through compelling and impactful content in collaborations with the focus on digital. Post Black Friday, we increased our spend on digital to drive traffic to our .com site and generated significant growth in new and existing customers in December. Our holiday gift guide was also a notable win in North America with significant gains in spend year-over-year. In outlet, as we have discussed, we have been increasingly the overall level of innovation and will have a focus on prints, novelty, and fashion in the second half. Looking ahead to spring, in retail, we will continue to add newness in satchels, while expanding our cross body offering in keeping with the hands-free trend in the market. In both channels, we're excited about the footwear opportunity as it comes in-house with the first designs having arrived with the February floor set. We’ve developed exciting initiatives for both Valentine's Day and Mother's Day adding new brands spokespeople in the marketing mix such as the artist and poet Cleo Wade and the Japanese comedian and icon Naomi Watanabe. In aggregate, we expect these actions to support an improvement in comps in the second half of the year versus the first half, as the brand should be less impacted by the coronavirus outbreak given Kate Spade’s relatively modest exposure to the Chinese consumer globally. As mentioned, we’ve recently completed an intensive review of our business. Our intent to Kate Spade is to reengage our core consumer and attract new customers by building the next generation platform for women’s self-expression empowering individuality. We recognize the multi-dimensional nature of our customer, we will return to being the brand that enables to deliver life to the fullest from celebrating her own individual style to creating a positive and enriching community. To implement this strategy, we need to balance sophistication, emotion, wit, novelty, and color across all aspects at Kate. Our customers still has a wealth of goodwill towards the brand, but we must ensure that we have product that is compelling and relevant to her lifestyle supported by marketing that more effectively connects her emotionally with the brand. With Liz Fraser at the helm, leading the strong team in place, we will crystallize our brand pillars to find clear brand territories and create an action plan to drive growth. Turning to Stuart Weitzman, top line sales remain weak. We continue to experience soft wholesale demand, while our direct business also underperformed our expectations as we were unable to fully offset traffic challenges through increased conversion. China did continue to outperform with positive comps. We also generated a significant improvement in gross margin, which enabled operating income to match prior year levels. In product, we lacked distinctive newness in our heritage boot offering to drive an improvement in sales. However, we were encouraged by the consumer response to our key introductions such as the [Mckenzie boot and the NETZSCH Pump] outside of footwear, we drove handbag sales with the new 50-50 bucket bag and nod to the iconic boot of the same name. In marketing, we continue to build our awareness globally with our first-ever Stuart Weitzman holiday campaign, which featured Misty Copeland. Total impressions reached nearly 1.5 billion globally. As we entered the third quarter, we gained unprecedented exposure from our Times Square Billboard on New Year's Eve with 1.5 million people in Times Square and over 1 billion global life broadcast viewers. Looking forward, we have built on these learning’s and are reinvigorating our footwear icons through extensions and colors, materials and hardware, while injecting innovation into the overall assortment in keeping with market trends. For spring, we have concentrated on sandal innovation beyond the [nudist] family with an expanded assortment of flats, wedges and mules. Stuart Weitzman has always represented a fusion of fashion and fit, a key differentiator for the brand, one that is highly valued by our customers. Our diagnostic review has reaffirmed that Stuart Weitzman has a strong and distinct brand proposition at the gateway to luxury with considerable white space above it. It has a distinctive heritage in DNA melding European luxury aesthetics and craftsmanship with American practicality and comfort. We are now addressing our challenges through investment in talent, operational process improvements, and a focus on the fashion sensibility of the core design aesthetic. I’m confident that under Giorgio's leadership, we can leverage the brand's core equities to drive revenue growth and improve profitability long-term. To recap, we’ve delivered aggregate second quarter results that were ahead of our plan and enter Q3 in a position of strength. We are very confident in our ability to successfully navigate what we expect to be a time limited dislocation resulting from the coronavirus outbreak, underscored by our successful track record in managing through similar challenging periods in years past. Importantly, our teams are focused on creating action plans and strategies based on the insights from our diagnostic review. We have both a sense of urgency and a willingness to objectively face our challenges as we bring data, evidence, and logic to our work. We are stewards of three powerful brands and have the means to effect significant and positive change across our operating model to define the next chapter of sustainable growth at our company. With that, let’s turn to Joanne for the financial review of the quarter and our outlook. Joanne?

Thanks Jide and good morning everyone. As Jide has just taken you through the highlights and strategies, I will cover some of the important financial details of the quarter. Before I begin, please keep in mind that my comments are based on non-GAAP results, corresponding GAAP results and the related reconciliation can be found in the earnings release posted on our website today. Turning to our second quarter financial results, total sales increased 1% on both a reported and constant currency basis led by continued momentum at Coach with global comp growth of 2%. At Kate Spade, comps declined 4%, representing a sequential improvement on a one and two-year, while total sales were in-line with last year, driven by distribution. Stuart Weitzman sales were pressured, down 7% versus prior year, reflecting generally softer than anticipated demand across channels. Gross margin decreased 30 basis points, compared to prior year with divergent trends by brand. At Kate Spade as projected, gross margin declined 320 basis points versus prior year, due primarily to a higher level of promotional activity as we make progress moving through excess inventory. Conversely, gross margin at Coach expanded 20 basis points over prior year. This expansion was driven by higher handbag AURs at outlet, a lower level of promotions, and product cost benefits, partially offset by FX pressure and geographic mix headwinds resulting in part from the lower penetration of our business in Hong Kong. Stuart Weitzman gross margins rose 370 basis points over prior year, driven by channel mix, due to the relative outperformance of the direct business led by Mainland China and benefits from FX. SG&A for the quarter rose approximately 4%, inclusive of the anticipated shift in timing of expenses from the first quarter into the second quarter, as well as a higher level marketing spend year-over-year at Kate Spade. Therefore, for the first half of the fiscal year, SG&A rose 2% over prior year, driven by new store distribution and regional buybacks, as well as a higher level of depreciation associated with our ERP implementation. Taken together for the second quarter, Tapestry's operating income declined 6%, while earnings per diluted share of $1.10 was 3% above last year, benefiting from a lower tax rate and lower share count year-over-year. During the quarter, as highlighted in our press release, we added a net of 31 locations across Tapestry driven primarily by net openings at Kate Spade and Stuart Weitzman. We ended the quarter with 1,575 directly operated stores globally. Turning to our balance sheet and cash flows. At the end of the quarter, cash and short-term investments were approximately $1.2 billion, while borrowings outstanding were $1.6 billion consisting primarily of senior notes. Inventory ended the quarter at $748 million up only 2% versus last year in part due to receipt timing shifts to Q3. Importantly, we exited the holiday quarter with inventory is in a good position. For the second quarter, net cash from operating activities was an inflow of $556 million versus $618 million a year ago. CapEx spending was $50 million versus $61 million last year. Free cash flow for the quarter was an inflow of $506 million versus $557 million last year. Now, turning to capital allocation. As previously announced, this year, we are dedicating our resources to driving organic growth rather than pursuing strategic acquisitions while returning capital to shareholders. We remain on track to return approximately $700 million to shareholders this fiscal year through our share repurchase program and current annual dividend payout representing the vast majority of our free cash flow. Moving to our 2020 outlook, consistent with our prior practice the following guidance is presented on a non-GAAP basis and replaces all previous guidance. As Jide mentioned, and as noted in our press release, we’ve updated our outlook to incorporate an estimated impact of the coronavirus outbreak in China of approximately $200 million to $250 million in sales and $0.35 to $0.45 in diluted earnings per share. Given the dynamic nature of the situation, the potential financial impact to our business could be materially different. Therefore, we now expect revenues for fiscal 2020 to approximate $5.9 billion. In addition, we’re now projecting earnings per diluted share to be in the area of $2.15 to $2.25. In closing, and to reiterate, we had a strong second quarter and outperformed our plan. We entered our fiscal third quarter with strong underlying business trends notably at Coach with comps accelerating from second quarter levels. If we’re not facing the impact of the coronavirus outbreak to our business, I’m confident that we would be reiterating our fiscal year 2020 guidance. Our teams are focused on identifying actions to mitigate this impact on top and bottom line results and we have successfully navigated similar disruptions to our business many times in the past. Most importantly, our view of the long-term opportunities for our brands in China and globally is unchanged and our strategic intent to drive organic growth and profitability is unwavering. I’d now like to open it up to Q&A.

Thank you. [Operator Instructions] Our first question comes from the line of Bob Drbul of Guggenheim Securities.

Hi, good morning. I was wondering, Jide can you provide more details on the learning’s, you know from the in-depth review of the business and sort of where you see opportunities and risks and then just a couple of parts to this actually. What kind of investment do you currently think is necessary to drive the business forward after the review? And I guess the third part of the one part question is that, would you expect FY 2021 to be an investment year? Do you have to shrink to grow? Those are my questions. Thanks.

Good morning, Bob and thank you for that distinct question. But let me maybe take the latter part of your question first. To be clear, as we look at transforming Tapestry, it’s not about shrinking our total revenue or earnings to drive future growth. We’re focused on sustained growth and returns from here. We’ll grow from fiscal year 2020 results, excluding any impact, the impact of the coronavirus situation and so to just be to be doubly clear, we're not going to be satisfied with another flat year. We’re committed to drawing a line under the current results. So, to turn really to the meat of your question, if coming out of the diagnostic work we’ve done in recent months here, we’re focused on five core opportunities. One is, becoming truly consumer centric. The second is to create a culture here at Tapestry and across our three brands that enables faster decisions that are more responsive to consumer desires. The third is to use data to inform forward decisions. The fourth is better aligning our operating model with our product positioning. And then the fifth is to more clearly define the purpose of each of our brands. I know as much as I love to expand on each one of those, now is not the time to do so. I’ll leave that to the Investor and Analyst Day that I mentioned earlier. However, why don't I just maybe take a moment and give you a couple of examples of what it is we have in mind. And perhaps the first one would be around consumer centricity and I know that a lot of companies are focused of becoming consumer centric. So, let me just talk about what that means here for us at Tapestry. And for us it means improving our skills and asking questions of and listening to consumers and adopting a very rapid test and learn set of processes that feed real-time insights back into our business to inform decision-making and to inform results. Our objective is to leverage data and insights and anticipate where consumers are travelling and to be there when they arrive. And this really and one of the things that really came out of our diagnostic work is that this compares to today where in many instances we’ve erected barriers to even meeting consumers where they currently are much less where they are travelling to. Perhaps just to make it – give you an example of when I say that we’ve erected barriers, we historically discourage marketing to consumers in certain of our distribution channels, which has ultimately limited our ability to acquire new consumers. And so, as we look at integrating consumer centricity and to how we work, it will have an impact in very tangible ways weather in the product development process, whether in our marketing as I alluded to just a moment ago, certainly in our pricing and promotion decisions and so across a number of very tangible aspects of our business. The other example I might use in terms of the areas of opportunity coming out of our diagnostic work is using data to inform forward decisions. And so today, we’re very data heavy company, but we largely use data to assess past events rather than to drive predictive fact-based forward-looking decision-making. I would characterize it as we are reactive rather than being proactive and I think we have a tremendous opportunity to leverage technology and data to drive faster more insightful decisions across the enterprise and that will impact everything from supply chain to demand planning to product allocation and to buying decisions. So, without kind of going on at more length, I very much look forward to this summer, one will have an opportunity to much more and have much more in-depth discussion of the opportunities we see across the five areas that I highlighted a moment ago, which we think will truly transform our operating model allowing our operations and our organization to better anticipate and to become more responsive to changing consumer desires and in doing so in ways that will have a material, I believe revenue margin and balance sheet implications of our business.

Great. Thank you.

Ladies and gentlemen, in the interest of time we ask that you please limit yourself to one question only. Your next question comes from the line of Irwin Boruchow of Wells Fargo.

Hi, good morning everyone. Congrats on the good holiday. I just wanted to focus on China. I don't know if this for Jide or Joanne. So, understanding the guidance revision for 2H and assuming the majority of these revenues are located in Coach Brand, can you help us, I understand visibility is very low, but in modeling the Coach comps in the back half should we be thinking about high-single-digit declines in 2H and possibly even down maybe double digits in the third quarter? And then just any color on how this kind of revenue decline in that region should impact the Coach gross margin will be helpful?

Hi. I’ll jump into that and explain, you know take you through how we arrived at our assumption and, you know as you mentioned we’re monitoring the developments very closely, the situation is still unfolding and as you know it’s very dynamic. We are providing transparency based on what we’re seeing today. So, let me take you through the assumptions and how we arrived at these numbers, and then I will address the specific questions around the brands. The assumptions are based on – today, we see a low-to-mid teens percent of our business in Mainland China across all brands, with the predominance on Coach brand, where the outlook is an expectation of a 70% to 80% decrease in those sales through the rest of the year. And we arrived at the EPS estimate with an expectation of over a 50% flow-through given the high margin profile of that region China specifically and certain fixed costs that we now will continue. In terms of breaking it out by brand, we have not provided visibility by brand at this time. As we said, the situation is dynamic and is still playing out, but based on our store counts and our penetration on Mainland China it is predominantly impacting the Coach brand, has an, also has an impact on Stuart Weitzman, but to a lesser, much less extent Kate Spade. I would also add that we have, as it relates to China much lower exposure in our supply chain. So, I wanted to touch on that as well. We’ve already migrated the vast majority of our production outside of the country, less than 10% of our finished goods production is in Mainland China across all brands. More broadly, we’re looking at different scenarios as you can imagine, as well as mitigating actions to drive top line and control or reduce expenses in light of this news.

Josh, anything you would add?

Yes, what I would add Irwin is, to your specific question around the comp guidance, right now it’s hard to estimate the impact of China on comp, given that our store closures are typically removed from the comp calculation, which I believe is common practice. And so that part to estimate. What I would like to emphasize though is that the health of our business in Mainland China prior to this very unfortunate set of circumstances, we have been seeing a strong comp store sales in China in Q2 and importantly in the first few weeks of Q3 leading up to the Chinese New Year period. And we're seeing that both in our – we were seeing that, both in our directly operated store channels, which make up the vast majority of our business, but also in our emerging digital channels. As you know, we launched with Tmall had a series of soft openings and then grand opening in December and immediately we saw that the brand has become the top handbag of brand on Tmall in December in the period meeting up to Chinese New Year. So, we believed in the resilience of the Chinese consumer and what we’ve seen in previous crisis is that whether it’s SARS or different types of geopolitical situations that these have deep impacts for a time limited period and then we bounce back to normal.

Your next question comes from the line of Erinn Murphy of Piper Sandler.

Great. Thanks. Good morning.

Good morning.

My question is around the Coach brand, last quarter AUR grew in outlet for the first time in several years and based on your comments today, it definitely sounds like there is some inflection here that could continue, I guess can you share with us how far below peak AUR is in that outlet? And then based on some of your diagnostic work are there further opportunities in pricing? And then I apologize, but a clarification on the guidance, Joanne, are you including any impact from lackluster Chinese tourism here into the U.S.? Thank you.

I'm sorry. I didn't hear part of your question.

When you said, how far below, and then we didn't hear…

Oh, apologies. So, I guess on the Coach brand how far below is a AUR today in outlet versus when it peaked and then based on your diagnostic work, just curious on if there is any further opportunity in pricing?

Okay. Why don’t I give some context around the AUR growth? I really appreciate the question, because as you know, we’ve been talking about this for several quarters both externally and it’s been a huge focus for us internally and so this was an important milestone quarter for us. We were up in AUR in both channels, significantly in outlet. In outlet, our AUR went up 4% globally, 5% in North America, driven by a 7% increase in the AUR of handbags in North America. And so, I’d like to just take a few minutes to explain how we went about that. We achieved that through a really holistic approach of listening to the customers. In fact, Jide referenced the top five bags in North America outlet, which frankly had been the top five for a long period of time, and we did very deep consumer insights involving [indiscernible] project within the company of bringing together Stuart, the cheap merchant, the head of North America outlet and doing a road show and really listening to what customers love about those bags and what features and functionality that they would be willing to pay more for. And so there was a lot of focus on those top five bags and I’m very proud of what the team did there. And so going into the holiday quarter, this assortment allowed us to be much shallower and more surgical on the types of promotion. So, we coupled the product development work with learning’s from our data labs about where we need to be more promotional and where we need to be less promotional. So, clearly there has been a significant erosion in AURs in North America outlet over sustained period of time, nearly 50% from the peak, but we see the actions of the last few quarters and specifically the holiday quarter as being a milestone that turns us in the other direction and even more importantly gives us a very tangible material example of where we can start looking at increasing prices in the outlet channel.

Erinn, I’ll take the second part of your question regarding our guidance. Our guidance reflects what we’re seeing today, which is an impact to our business in Mainland China, if the – you know as we’ve mentioned the situation is dynamic and unfolding. If it impacts more broadly across the globe than our results maybe different and maybe worse. However, specifically on North America, we do not anticipate or we have not in our guidance anticipated the coronavirus impact on the Chinese tourist in North America. Having said that, over the past few quarters and years we’ve been seeing a down trend in the Chinese tourists, which has been offset by the domestic business particularly in our outlet stores.

Our next question comes from the line of Alex Walvis of Goldman Sachs.

Good morning. Thanks so much for taking the questions. So, I wanted to ask a few questions about Coach as well. Maybe firs of, I wanted to clarify a comment that you made in response to the prior questions, I think you said that AUR at the Coach brand in North America outlets was 50% lower than it had been historically, did I hear that accurately and then perhaps you know any thoughts on how far we could go back to the prior high’s and how much progress I suppose you can make from here already strong progress, but you know the environment in that channel is a little different than it was a few years ago. And then one further question on Coach, you know any comment on how the logo product is performing and what percentage of the assortment that accounts for today?

Yes let me clarify the comments on the hand bag AUR in our North America outlet channel. I was specifically around handbag AUR versus the peak; it is approaching 50% off of peak, so there has been erosion over a long period of time as the channel dynamics have changed.

But to your underlying point Alex, we do believe that represents substantial opportunity to re-gain back much of what it is that we have over an extended period of time given back. And so maybe you want to talk about signature logo.

Yes absolutely. So, to your question about Signature, Signature remains a very important part of forward assortments in our retail assortments, it is approximately 25% of our retail business, we are finding that it continues to generate a higher AUR, actually than leather showing the demand for the brand, the other thing that you will notice in this past quarter we launched a new Horse & Carriage logo platform and this was something again from our archives and I think it gives us a second branded platform to have because we are very careful that we don't want to go back to an over exposed place and we want to keep the branded platforms relevant and current and achieving these higher AURs.

And Josh has may be saying something that may have an implicit Alex in your question, even at current penetration Signature is materially below where it was in the last cycle.

Your next question comes from the line of Oliver Chen of Cowen & Company.

Hi, thank you. Regarding Kate Spade would love your latest thoughts on timing of optimization and your thoughts on how this may involve with conversion relative to traffic, the new CEO Liz and comments around self-expression as you continue to calibrate the brand with novelty and other thoughts? And City Sole seems like a big deal…

City Sole is a big deal, maybe – sorry, go ahead.

You have made strides and attempts in footwear in footwear in the past, so love your context on what’s different and it would also be interesting to get your views on how big that could be and it’s responsive lightweight flexible looks like it’s in touch with the way the customers are really moving?

Right. Maybe let’s look back because there’s a lot there, maybe Josh will talk about City Sole, Joanne as you all know has been the interim leader of Kate, so maybe she can talk about the – some of the Kate brand specific comment, and I’ll close out by talking about Liz Fraser the New President there, the new brand's CEO.

Good morning, Oliver. Thanks for noticing the emphasis on City Sole, which is particularly prominently this week as we’re launching it. As you know and you follow it for a long time, Coach has a long history in footwear and in fact back in 2005, 2006 in some ways Coach invented the fashion branded sneaker category coming from a leather goods brand with strong branding. Over time, we let that position erode and at that time the brand was producing shoes under license. Since bringing the shoe collection back under direct control a few years ago, we’ve really been focused on getting the prize value fashion style equation right and we know to break through here that we needed to do something very special and unique in terms of both product and marketing. So, we worked on this project for some time, really thinking about where the customer is going in terms of the increasing casualization and how to create a sneaker franchise that will last for more than one season, and that could really be a catalyst for the overall footwear category. As we’ve mentioned on previous call, our shoes around 4% and our ambition is to – is that this should be a business with double digit penetration and we couldn’t be more excited about the reaction to the marketing with J.Lo and Michael B. Jordan and I hope to see you wearing a pair next time I see you.

Hi, Oliver it’s Joanne. I’m going to jump into the Kate Spade question. As Jide mentioned, I did jump into help lead the brand trough December and January and as I entered the brand the team was very engaged and focused on the improvements to the assortment and really managing through the important holiday quarter. We did see sequential improvement as we implemented key product. We took key product actions and merchandizing actions, really to balance our assortment we talked a little bit last quarter about the assortment architecture. The changes we made did gain traction in the second quarter. We did see strong performance in our expanded satchel offering, and we talked a little bit about holiday giftables, but that expression was strong and the customer responded very well to that assortment, as well as jewelry which is not a high penetration category for us, but we see opportunity moving forward. We also enhanced the novelty offering that was a void in our assortment. Coming into the second quarter, we added some fun in novelty back with collaborations like Tom and Jerry and the cats collaboration as well as the novelty elephant bag tiny adding some fun back into the mix. We also focused on moving through excess inventory, so that we could clean up our inventory and these merchandizing changes would be more evident and apparent to the customer. We moved our marketing focus forward; we increased spending digital and did see some traction there. We leveraged new tactics. So, we saw nice growth in the digital channel particularly in December and saw some green shoots with new customer acquisition there as well. So, lots of work going on right now in the brand on the current assortment, but we are also doing foundational work and we’ve made progress on sharpening our brand position that has worked that we began as we spoke to last quarter, we began last quarter and the team has moved that forward. We’re also doing deeper customer segmentation work to truly understand the Kate Spade customer. We are really looking forward to having Liz join us in March to continue to move that forward with the team and Jide; I don’t know if you have other comments?

Absolutely. So, just – Oliver to you question about Liz, she is the right person at the right time for Kate Spade and that this is somebody who has 20 years of relevant industry experience and she has run the gamut from merchant roles to supply chain roles to – for the – better part of the last decade and a half, real leadership roles. She is clearly in her last two incarnations knows the ready to wear and the handbag accessory business well, and then most relevant for 14 years she was a key player in building the mark-by-mark Jacobs business from roughly 20 million in revenues to well over 750 million in revenues. So, this is a person who gets things done, has built businesses and has very good relationships with her internal teams and external teams. I followed her for over a decade and I’m really pleased that she is going to be joining us and joining the Kate Spade team.

Your next question comes from the line of Mark Altschwager of Baird.

Good morning. Thanks for taking my question. As you dig into the uptick and brand perception at Coach I’m curious what you think is having the biggest impact there in terms of driving that inflection and any insight on the trends you are seeing with your more mature customers versus maybe some newer younger customers in terms of driving that improved brand perception? And then, you know, separately for Jide, I was hoping you could quickly touch on Stuart Weitzman, just given the management change announced today, any updated thoughts you could share on the pace and magnitude of margin recovery we should be looking for over the next several years? Thanks.

Yes, thanks for the question. I mean we were very pleased to see the brand tracking report this quarter, and particularly to see the inflection in the number of customers in the broad premium market who consider Coach to be a brand on the way up. And I think it’s a few things. You know, we have been talking about building a fashion relevancy for some time and I think that continues, and so the great work that Stuart has been doing and his team, but also coupled with a lot of the marketing approach that we’ve taken. In fact, the mix of a very high profile celebrities like Jennifer Lopez and Michael B. Jordan clearly have resonance in the North American market, but also coupled with emerging celebrities like Yara Shahidi and really moving the vast majority of marketing into the digital place and becoming significantly more active on the various social channels. And so, we are very encouraged by what we’re seeing and it’s really across the demographic with a focus on the millennial.

And with respect to Stuart Weitzman, a couple of comments, you know, first of all and particularly on the back end here of our diagnostic work, we are quite confident in terms of the strength of that brand, you know, a brand that basically has a unique proposition as a, you know, gateway to luxury and where we think that there is a fair amount of white space above us with a distinctive heritage and, you know, DNA as you’ve heard us talk about before in terms of melding or this fusion of [European Lux] with, you know, aesthetic and craftsmanship merged with or combined with, you know, an American practicality and comfort. So, you know, fundamentally the brand, we think, is in – is a powerful brand. The – you know we’ve talked in the past about some of the challenges we had in earlier days on design and supply chain, which are working their way through the system. and so, our focus now is, you know, very firmly on the product line, and as I mentioned in my opening comments, you know, we’ve lacked innovation to just be very blunt about it, particularly in our core heritage boot offering, as well as just real distinctive newness more broadly across the product architecture to drive top line sales. The team has been very focused on that and that takes some time to just work its way through the pipeline, but we believe that – you know, that we’re making progress on that front and I'm really excited about Giorgio because he is somebody who has had a tremendous impact at every business in our organization that he has been a part of and I'm confident that coming together with the existing team at Stuart Weitzman, he’s going to have a really big impact, particularly as we look to both have a very strong base as well as to periodically have key items that we lean very heavily into. So – you know, we – it’s on the right track. I think Giorgio will help accelerate moving it further forward, and you know, it’s a business that we continue to feel very good about particularly frankly coming out of the diagnostic work.

You next question comes from the line of Lorraine Hutchinson of Bank of America Securities.

Thank you. Good morning. As you think about the evolution of the business in China as it relates to the virus, how are you thinking about managing inventory and making sure that when that demand does return, you’re presenting a full price offering? I guess what happens to that excess inventory from the lost sales in China? And how are you thinking about managing it?

Lorraine, this is Joanne, I’ll take that. The situation is very dynamic and the teams are, you know working on mitigating actions. I’ll first say that we have globally shippable product. So, we are not constrained as to where our product goes. So, as the teams are responding, they are actively managing inventory to make sure it is in the right location to match demand and we may see different trends in the digital side of that business versus brick and mortar particularly as we work our way through this event as well as different demand trends globally. So, the teams are working very hard to make sure that we’ve got the inventor in the right location, we have the flexibility and we’re also evaluating future order flows based on what we’re seeing for demand.

Ladies and gentlemen we do have time for one final question. Your next question comes from Michael Binetti of Credit Suisse.

Hi guys. Good morning. Let me add my congrats on a really nice quarter.

Thank you. Good morning.

Jide, I guess I’m trying to calibrate the model a little bit from your comments on Kate in the second quarter, the comps are quite a bit better than planned, but it looks like you took opportunity to clear some inventory when you had traffic in the stores, so I guess the gross margin was a little below, but on total, Kate much better than we thought. You sound like that you feel like inventory is in better shape in the brand, you gave some guidance on second half comps improving, but you previously did suggest that Kate comps would improve sequentially in each quarter. Since comparison on Kate changes a lot in the third quarter, I just want to see if you still see it accelerating especially if you drill down the inventory quite a bit on the holiday when you had the opportunity. And then I just wanted to ask if, you know, it sounded like if I had to characterize the plan you laid out, Coach and Kate came in a little bit above the plan, and I know you have to deal with corona in Asia, but it sounds like U.S. or North America was a lot better, I’m wondering if, you know, as you look at your internal plan, did you move up in North America Coach assumptions in your internal plan for same store sales in the back half?

Let me start. Particularly with the Kate business, we had an expectation pre-coronavirus outbreak that expected inflection in the second half and that we continue to expect to improve in the second half for Kate. We haven’t called for it to be sequential each quarter, but for the second half we expect to see improvement and we in the second quarter, we did move through some inventory and we still have some excess inventory in the Kate brand that we will be working through as we move the second half, but we are also seeing some traction with the assortment changes we’re making and the marketing actions we are taking as well as adding new brand spokes people to the brand. So, we continue to expect, particularly in North America, improved results in the second half versus the first half in Kate Spade.

Thank you. I’ll now…

I was just going to just say on the question with regard to Coach in the second half, we don’t disaggregate our – we don’t disaggregate the growth.

Thank you, operator. We’re going to conclude the Q&A now with some brief closing remarks from Jide. Jide, whenever you are ready.

Absolutely. So, first, I just want to underscore the comments that we’ve made that I know a lot of our industry peers have made in terms of just our focus on both on our team in China on their families and on their community, but also just much more broadly to the Chinese people. Those of us that live in New York, many of us went through 9/11 and we understand just how deeply unsettling a situation such as this can be. And you know, we’ve got clearly immense confidence in the Chinese people in their character and in their resilience and believe that clearly the fear that is evident in a day-to-day basis there is one that we will abate and look for to doing everything we can as a corporate citizen to be a part of helping China more broadly return to a greater sense of normalcy as we all as global citizens have seen in so many other crisis in the world over time. So, I just want to say that and say that very clearly and heartfelt. The second comment, I would just make in closing which is one where I would like to just call out one of our many colleagues in our organization, who I had the privilege of spending time with last week and this is a gentlemen named [Darien Lewis] who is the store manager for Coach’s Chicago Premium Outlet Store. And [poor Darien] had me show up on his door step a week ago as basically one of the members of his team. I worked as a sales associate on the floor much again to the chagrin of [Darien] and his team and almost certainly to the surprise of most customers who wondered why the usual high standard of both hiring at Coach [indiscernible] dropped, but one of the things that I learned through that day, which was really humbling frankly is, first of all as we talk about consumer centricity, when you got to stand in front of a customer and figure out what she wants and try to anticipate where she is going, you learn something about consumer centricity in that. What I also learned was just how amazing the team work is and whether it’s at Coach, whether it at Kate Spade, whether it is at Stuart Weitzman in terms of how our teams support each other, how they work so well together and how they create a remarkable experience in store for our customers. Parenthetically, we smashed the sales target for that day in that store. So, at least that part of the second half – of the second half of growth that we will disaggregate and [indiscernible] well, but I just want to say thank you to everyone within Tapestry across our fleet, across all of our three brands for everything you do because really it’s the opportunity to work with such a remarkable leadership team that makes me most proud in – to be here at Tapestry. So, thank you all for you confidence and your interest in Tapestry and we look forward to continuing the conversation, particularly as we navigate through these challenging times.

Thanks everyone.

Thank you. That does conclude this Tapestry conference call. You may now disconnect your lines and have a wonderful day.