Urban Outfitters, Inc. (URBN) Q1 2019 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Urban Outfitters, Inc. First Quarter Fiscal 2019 Earnings Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce Oona McCullough, Director of Investor Relations. Ms. McCullough, you may begin.

Good afternoon, and welcome to the URBN first quarter fiscal 2019 conference call. Earlier this afternoon, the company issued a press release outlining the financial and operating results for the three months periods ending April 30, 2018. The following discussions may include forward-looking statements. Please note that actual results may differ materially from those statements. Additional information concerning factors that could cause actual results to differ materially from projected results is contained in the company’s filings with the Securities and Exchange Commission. We will begin today’s call with Frank Conforti, our Chief Financial Officer, who will provide financial highlights for the quarter. Andrew Carnie and Hillary Super, Co-Brand Presidents of the Anthropologie Group, will provide an update on the Anthropologie brand; Richard Hayne, our Chief Executive Officer will then comment on a broader strategic initiative. Following that we will be pleased to address your questions. As usual, the text of today's conference call will be posted to our corporate website at www.urbn.com. I will now turn the call over to Frank.

Thank you, Oona, and good afternoon everyone. I will start my prepared commentary discussing our recently completed fiscal 2019 first quarter results versus the prior comparable quarter. Then, I will share some of our thoughts concerning the remainder of fiscal year 2019. Total Company or URBN sales for the first quarter increased 12% versus the prior year. The increase in sales resulted from a strong 10% URBN Retail segment comp, 13% growth in URBN wholesale sales, and a $17 million increase in non-comp sales. Foreign currency translation accounted for approximately 160 basis points of total sales growth for the quarter. Within our URBN Retail segment comp, both the digital and store channels delivered positive comps during the quarter. Digital continued to outperform stores posting a double-digit sales increase, driven by increases in average order value, sessions, and conversion rate. For the store channel, this marks the first quarter in four years our store comps have been positive at URBN and each of our brands. Positive comp store sales resulted from increased average unit selling price, which was partially offset by decreased transactions and units per transaction. Store traffic for the quarter was up slightly versus the prior comparable quarter. By brand, our Retail segment comp was positive at all three brands for the third straight quarter with increases of 15% at Free People, 10% at Anthropologie Group, and 8% at Urban Outfitters. Our URBN Retail segment comp was the strongest in March, which benefitted from the Easter holiday calendar shift, followed by February and then April. If you combine the months of March and April in order to remove the Easter holiday shift and looked at the average of the two, each month in the quarter performed very consistently. During the quarter, we opened four new locations, including: two new Free People stores in North America, two new Urban Outfitters stores in Europe, and exited one Urban Outfitters store in Europe. Our URBN Wholesale segment delivered 13% sales growth versus the prior year. This growth was largely due to a 10% sales increase at Free People. Free People’s growth was driven by domestic and international growth in department stores, specialty stores, and digital businesses. These increases resulted from growth in several categories, including women’s apparel, intimates, and FP Movement. The remainder of the sales growth was due to the recently launched Anthropologie home wholesale segment. The majority of Anthropologie’s growth was driven by domestic sales followed by international sales. While Anthropologie home wholesale is still in the very early days, we are pleased with the results and excited about the meaningful opportunity going forward. Now, moving on to URBN gross profit for the quarter. Gross profit increased 17% versus the prior comparable quarter to $281 million. Gross profit rate improved by 130 basis points to 32.8%. The improvement in gross profit rate was driven by lower markdowns at all three brands and leverage in-store occupancy cost due to the strong retail segment comp. These gains were partially offset by lower initial margins due in part to lower penetration of private label merchandise and deleverage in delivery expense due in part to the increased penetration of the digital channel. Total SG&A expenses for the quarter were up 4% to $227 million versus the prior comparable quarter. Total SG&A as a percentage of sales, leveraged by 224 basis points to 26.5%. The growth in SG&A expenses was primarily due to increased marketing expenses helping to fuel the healthy sales increase. The leverage in SG&A as a rate to sales was driven by the strong topline growth, continued savings associated with the fiscal 2018 store reorganization project, and the current year benefit associated with the non-recurring store reorganization expenses incurred in the prior year. Operating income for the quarter increased by 156% to $54 million with operating profit margin leveraging by 354 basis points to 6.3%. Our effective tax rate for the quarter came in at 23.6% versus 44.1% in the first quarter last year. The significant favorability in the tax rate versus the prior year is primarily due to the lower federal statutory rate resulting from tax reform enacted late last year. Additionally, please note that the first quarter effective tax rate was favorably impacted by approximately 120 basis points due to equity activity. Net income for the quarter was $41 million or $0.38 per diluted share. Turning to the balance sheet. Inventory was $405 million, which was up 13% versus the prior year. Retail segment comp inventory increased by 8% at cost. The remainder of the increase primarily related to increased wholesale inventory. We ended the quarter with $515 million in cash and marketable securities and had zero drawn down on our asset backed line of credit facility. Capital expenditures came in at $25 million for the quarter, and we are planning for approximately $110 million in total capital expenditures for fiscal year 2019. The capital spend for fiscal 2019 is primarily driven by new, relocated, and expanded stores followed by investments in home office space and technology. As we enter the second quarter of fiscal 2019, it may be helpful for you to consider the following: I will start with sales. Given our current sales trend and prior year comparisons, at this point in time, we believe we could deliver sales comps fairly consistent with our recently completed first quarter rate. Now moving on to gross profit. We believe URBN’s gross margin rate for the second quarter, could improve at a rate similar to the improvement delivered in the first quarter. This improvement could be driven by lower merchandise markdowns and leverage in-store occupancy expense. Based on our current plan and sales performance, we believe SG&A could grow at approximately 6% for the second quarter and 5% for the fiscal year 2019. The increase in spend could primarily relate to increased digital marketing investments as well as incentive-based compensation. At this point in time, we believe we could deliver SG&A leverage in each quarter versus the prior year. Our annual effective tax rate is planned to be approximately 25% for the second quarter and 24% for the full fiscal year 2019. We are planning to open 18 new stores for the year while closing 10 stores. For further detail on store changes by brand, please see our investor metrics sheet posted to www.URBN.com. As a reminder, the forgoing does not constitute a forecast, but is simply a reflection of our current views. The Company disclaims any obligation to update forward looking statements. Now, it is my pleasure to pass the call over to Dick Hayne, our URBN Chief Executive Officer.

Thank you, Frank and good afternoon everyone. At this time, it’s my pleasure to introduce the Anthropologie Co-Presidents, Hillary Super and Andrew Carnie. Hillary has been with Anthropologie a little more than a year and during that time has succeeded in improving the product offer in all areas she oversees, which includes apparel, intimates, accessories, beauty, and the BHLDN wedding business. Andrew oversees all home product and has grown that business by 60% since his arrival four years ago. He also launched a successful wholesale business for Anthropologie home products, and, now oversees Anthropologie international and the Terrain outdoor living concept as well. Both he and Hillary are strong merchants with a passion for the Anthropologie customer. I know they’re excited to share their Q1 results and plans for future growth. Hillary, Andrew, welcome to our quarterly conference calls. Hillary let’s begin with you.

Thank you, Dick, and good afternoon everyone. I will start my commentary discussing Anthropologie Groups’ first quarter results and then move to more specific accomplishments in the women’s apparel and accessory categories. As Frank mentioned, I am pleased to report we delivered a 10% retail segment comp in the quarter, with all categories delivering positive comps. Apparel and accessories continued to gain momentum from the positive results experienced in the fourth quarter, while home, beauty, and Terrain continued the sales momentum they have enjoyed over the previous several years. As a brand, we delivered nicely positive store comps with all regions posting positive results driven by increases in traffic, UPT’s and AUR. The digital channel experienced strong double-digit growth for the quarter driven by improvement in sessions, AUR and conversion. From a channel perspective, we continue to see our customer shift to digital, however it is exciting to see that we were able to drive positive comps in stores as well, driven by better regular price sales and stronger merchandising messages. Our strong retail segment comp was coupled with healthy merchandise margin and operating profit improvement. Improvement in merchandise margin was due to a reduction in markdowns driven by improved product execution and well controlled inventory. Partially offsetting the improvement in markdowns was deleverage in our initial merchandise margins due to a higher penetration of market brands versus the prior year. As we move forward, we believe we have a significant opportunity to expand merchandise margins driven by both lower markdown rates and higher initial margins. Although we drove healthy improvement in our markdown rate versus the prior year we still have opportunity to get back to our historical low rates. Additionally, as we increase our own brand penetration in the apparel category to a more normalized level, we should see nice improvement in initial margins. Turning to apparel and accessories specifically; our product execution continues to improve, and we are pleasing our customer more. Notably the brand drove increases in retained, reactivated and new customer counts across both channels. We experienced broad success in apparel with particularly strong performance in bottoms and separates. As Dick has mentioned on previous calls, we believe there is a shift in fashion that is creating demand for newness and variety. We saw strong demand for fashion throughout the quarter despite an unseasonably cold spring and have seen our demand accelerate in May. Additionally, the accessories category delivered exceptional performance, driven by almost all classes. Turning to our customer and our brand. When I joined Anthropologie 14 months ago, it was clear that the apparel and accessory assortments were no longer resonating with our customer. Since then, we have leveraged our various listening posts to deepen our connection with our customer. Two key themes have emerged from this work: First, she wants fashion, but on her terms. Her terms are: it must be flattering, versatile, effortless, unique, and have a strong price/value relationship. She will pay for quality and differentiation. Second, she is emotionally invested in our brand, and we are part of the story of her life. Although we have disappointed her somewhat in recent seasons, she has been patiently and passionately waiting for us to capture her heart again. With this in mind, we have evolved the way we work to meet her needs. We have cultivated a more collaborative team culture with earlier and more frequent alignment points between the product, sourcing and creative teams. We implemented a speed calendar with close to 50% of our product on a 12 week or less lead time. We moved to a 360-degree messaging strategy, aligning our creative content across all channels with our inventory investments. Our February pants campaign and March occasion dressing campaign are examples of this and were both quite successful. We raised our fit and quality standards and implemented a new process to support this. As own brand performance improved over the last several quarters, we have committed as a team to increasing our offering, and I am happy to report that we have made significant progress on this beginning in the second quarter. Additionally, we are doing a better job of serving all of the occasions of her life. Our customer has come to know us as a destination for special occasion and more recently, weekend casual wear. We have extended our offer to include more desk to dinner options as well as loungewear, which we believe has significant growth potential as we move forward. Anthropologie is a brand built on creativity, uniqueness and emotional connection. As a team, we have re-committed to putting this mindset, along with our customer, at the forefront of all that we do. Before I hand the call over to Andrew, I would like to personally thank everyone who contributed to the positive performance of the women’s business. Your commitment, passion and sheer talent are an inspiration to me every day.

Thank you, Hillary. I would like to congratulate you and your team for driving the turnaround in apparel and accessories. Good afternoon everybody. I am pleased to speak to you about our home business, the recent launch of wholesale, our international growth and the Terrain outdoor living concept. Starting with home, this quarter marks the 15th sequential quarter of positive comps for the home category. In addition to the sustained sales growth, we continue to grow merchandise margins through sourcing strategies and operational efficiencies. Our strong growth in the home category is driven by several initiatives: Continue to broaden our on-line assortment with unique products customers can only find at Anthropologie; an example of this was the recent and successful launch of outdoor furniture. Improving the omni-channel experience; we aim for all customers to have a seamless experience on every device and every channel. We continue to lead in creative imagery, providing customers unparalleled ideas and inspiration. Finally, mini-home showrooms. We recently introduced within ten Anthropologie store locations, providing customers the ability to touch and feel our assortments and have a decorating service, each store has new technology to make buying home a seamless experience for each customer. The initial customer response and results are extremely positive. We will continue to roll this out later in the year. As a result of our efforts, we continue to see nice positive momentum within the home business with particular strength in the digital channel, with sales continuing to grow in high double-digits, driven by improvements in sessions, increased UPT and conversion. The digital channel now accounts for over half of first quarter sales this year compared to less than a quarter three years ago. In addition to Anthropologie, we continue to bring our Terrain outdoor living brand with its unique aesthetic, service and experience to more customers. This summer we plan to open another Terrain concept, which includes a store, café, restaurant and event space in Devon, Pennsylvania. The new opening will take our Terrain concept to three large sites. This year we are actively looking for additional locations to bring this unique experience to more customers. In addition to the concept stores, we have two Terrain shops within the Anthropologie large format stores. Terrain has far exceeded our expectations in these shops producing excellent sales per square foot and an overwhelming, positive customer response. Based on this performance, we are adding five additional shops within larger Anthropologie stores. Moving on to wholesale. We believe the expansion of Anthropologie home into the wholesale channel is a critical component of our growth strategy. Wholesale enables us to build Anthropologie awareness both in North America and internationally, with the added benefit of improving our merchandise margins through increased volumes. In March, we launched Anthropologie home wholesale in North America, in partnership with Nordstrom. The product assortment is primarily gift, table top and textiles. Nordstrom follows the success of Anthropologie U.K. wholesale launch with John Lewis in fiscal 2018. The assortment is available in 15 Nordstrom stores and online. Early reads have been extremely strong leading to reorders within the first week. We anticipate the assortment being offered in many Nordstrom locations by the end of the year, with an expanded assortment choice online. Finally, and continuing the international growth theme, Anthropologie Group has tremendous opportunity outside North America. We believe in the long-term we have the potential for half of brand sales to come from outside the United States. Our current international business is U.K. centric with all stores located in the U.K. and a majority of sales occurring in the greater London region. The brand is now well established in the U.K. and the strategy shifts to becoming more diverse in terms of geography and sales channels. We will be opening our first continental European store this week in Dusseldorf, Germany. We are actively looking to expand further into Germany and other major regions across Europe by opening physical stores, while expanding the digital reach and developing wholesale strategies to establish a brand presence in our target markets. The entrepreneurial culture at Anthropologie and URBN encourages our teams to think outside the box in terms of driving growth and, with this in mind, we are always looking at new ideas and concepts to grow the business. Hillary and I are excited to continue to explore new opportunities for the brand. With that being said, we are very focused this year on delivering the best product and experiences to our customers. We would like to take this moment to thank Meg and all our teams at home office, in addition to the thousands of associates in stores for a great quarter. These are the people that work every day to make the Anthropologie Group an exceptional brand experience and wonderful place to work. I will now hand over to Dick, thank you.

Thanks, Andrew. Congratulations to you, to Hillary, and the entire Anthropologie Group for posting very impressive results. I know you both believe, as I do, there’s plenty of room for further improvement and continued growth across all categories, channels and geographies. I look forward to seeing the two of you and your teams build on the Q1 successes. Let me now turn to an analysis of URBN’s first quarter results. When we spoke in early March, I asserted that the economic and fashion winds had shifted 180 degrees and were now at our back. Job and wage growth, tax cuts and strong consumer sentiment, combined with a changing fashion silhouette to create a retail-friendly environment. It seems however, I underestimated the power of that tailwind and how well our teams would execute. Results came in stronger than anticipated. A 10% comp sales increase and a 280% quarter-on-quarter increase in EPS beat my expectations handily. All three brands performed at a high level. In addition to the expected strong digital demand, each brand produced nicely positive store comps - a first in over four years. Store traffic, which has been improving for the past three quarters, turned slightly positive in the first quarter. Better store sales came primarily from an increase in AUR which in turn, was driven largely by fewer markdowns and to a lesser degree more nationally-branded product. The total company markdown rate in Q1 was the lowest of any quarter in the last ten years. Better fashion execution, strong demand for apparel and accessories, plus disciplined inventory control reduced the need to take markdowns and drove strong comps and full-priced selling. Happily, not only have these trends continued in May, they’ve strengthened. Hillary and Andrew just discussed Anthropologie, now let me briefly review Q1 results for the other two brands starting with Free People. The Free People brand produced a nearly flawless performance in Q1; all categories and channels excelled. The Retail segment comp increased by a very impressive 15%. Digital comps outpaced the stores, but both channels delivered double-digit regular price comps. All other performance metrics - traffic, number of transactions and conversion rate were nicely positive in both channels, as well. Meanwhile, wholesale delivered yet another great quarter posting double-digit revenue growth. Wholesale sales were fueled by gains in all product categories – collection, intimates, shoes and Movement and all customer groups – department stores, specialty stores and pure play, digital businesses. The wholesale business also continued to experience good growth in international markets where quarter-on-quarter revenues increased by 24%, paced by sales to European customers. Strong product performance in all channels included outsized growth in Free People’s two expansion categories, FP Movement and denim. These categories were supported by robust marketing campaigns and more exposure in stores. Marketing for Movement included community events with local fitness instructors that were coordinated with social campaigns and landing pages featuring key influencers. As a result, the number of Movement wholesale accounts grew by 24% and Movement wholesale sales jumped by 41%. The Free People merchant and design teams completely reimagined the denim offer for spring/summer, adding more choices, alternative fits, a variety of new silhouettes, and expanded inseam and size offerings. This drove a 200% increase in Free People wholesale denim sales in Q1 over the same period last year. Going forward, the brand will continue to focus on expanding both categories. In sum, Free People’s first quarter was outstanding, and I thank Meg, Sheila and their retail, digital and wholesale teams for planning and executing such a powerful performance. Now I’ll focus on the Urban Outfitters brand, where total Retail segment comps in the first quarter grew by 8%. Like the other brands, Retail segment comps were driven by apparel and accessories; in Urban’s case, this includes both men’s and women’s. Looking at performance by channel, the brand delivered positive comps in both the digital and store channels in North America and in Europe. Within digital, the brand saw nice increases in sessions, AOV and conversion with international markets being particularly strong. In China, Urban won the Most Popular Brand for the Young Generation award from Tmall Global. Store comps for the quarter were driven primarily by higher AUR. All geographic regions and all store types posted positive comps. In Europe, the brand opened its first freestanding store in Paris in February. It immediately became one of the top-grossing stores in Europe and set an opening day sales record. In April, Urban’s first franchise store located on the outskirts of Tel Aviv opened. It has performed well above plan, and we look forward to supporting additional store openings in Israel this year. The Urban marketing and PR teams continued their outstanding work of engaging and inspiring customers through social channels, brand partnerships, music initiatives, and influential press outlets. We were pleased to have the brand recognized by ShareIQ as having the highest social media engagement rate among our peers for the first quarter of 2018. Urban’s eight million Instagram followers are a tribute to the strength of the brand and the skill of the marketing team. Excellent marketing is certainly one of the driving forces behind positive comps. My thanks to Trish and Meg and the entire Urban team on both sides of the Atlantic for creating such positive brand buzz and producing an excellent quarter. I’ll now move on to discuss our company’s current growth initiatives. As outlined and discussed previously, we believe future opportunity for growth will come primarily from three sources, the digital and wholesale channels across all geographies, and international expansion using all channels of distribution. Given the current benign retail environment, we plan to pursue these opportunities aggressively. The digital channel continues to produce our strongest growth. As previously reported, digital penetration of total Company, Retail segment comp sales exceeded 40% for the first time last quarter. Rapid digital growth has been achieved by offering larger and better product assortments, creating compelling visual imagery and effective marketing and building sites that make digital shopping easier and more enjoyable. Our proprietary technology shared by all three brands includes web and mobile platforms that are fast, reliable and scalable. The digital and brand teams working together continue to research and test new ways to enhance the digital experience. For example, this month, both the Urban and Anthro brands launched their new online marketplace. This exciting new feature enables a curated assortment of third party sellers to list and sell merchandise on our brand websites. After a thorough test period, each brand plans to expand its marketplace to include complimentary brands, products and services with a goal of expanding the online assortment offered to the customer and increasing site traffic. Other recent site enhancements include the addition of two alternative payment methods – Apple Pay and Afterpay. The latter has recently entered the U.S. market from Australia with URBN as their American launch partner. Afterpay allows customers to purchase and receive products and then pay for them over time with no interest charges or credit checks. If U.S. customers behave similarly to those in Australia, this service could raise our conversion rates and boost average order values. Moving to the second growth initiative - the wholesale channel. We believe all three brands have an opportunity to grow their reach and their revenues using this channel. For Free People, there’s still significant opportunity to increase the domestic wholesale business through category expansions like FP Movement and denim. Globally, the brand can expand wholesale revenues by entering new markets and increasing penetration in existing ones. For Anthropologie, Andrew has discussed the successful launch of home wholesale and his plan to open additional doors and expand the offer. Besides these initiatives, the Anthropologie and Urban brands have identified other existing categories and product lines with amazing opportunities for wholesale distribution and will be actively pursuing these. The final growth initiative is international expansion. Here we expect to build on the strong momentum created over the past 12 months as the Urban brand has opened highly successful stores in Vienna, Milan and Paris. These stores are already four-wall profitable and the halo effect on the corresponding digital business adds even more value. For instance, since opening the Paris store in February, the Urban brand has seen a 60% quarter-over-quarter increase in digital sales coming from France. This year, the Urban brand plans to open two additional stores in Europe and facilitate the opening of several additional franchised stores in Israel. Anthropologie, as Andrew suggested, is set to open its first store in Continental Europe this month and Free People hopes to open its first two stores in Europe later this year or early next. And finally, we continue to seek additional markets where our brands could have a physical presence. We’re testing some of these by first establishing a digital presence. For example, both the Urban and Free People brands are having considerable digital success in the China market by partnering with Tmall. And while current sales are relatively small by our North American standards, the opportunity is obviously enormous and the rate of growth is currently almost triple-digit. One final observation - this about stores. As I reported earlier, each brand delivered nicely positive comp store sales in the first quarter. As you may recall, last year we enacted a major store restructuring across all brands in North America. That initiative simplified the store organization and permitted us to become more productive and efficient. The restructuring has been largely successful and along with the ‘tail wind’ factors I’ve discussed and better product execution, comp store sales have gone from negative to positive. Each brand is currently in the process of enacting further store initiatives around improving product assortments, product adjacencies and enhanced service levels. One quarter a trend does not make, but comp store sales so far in Q2 are stronger than Q1, and we are currently enjoying positive store traffic and higher AUR. If Q1 signaled a turning point in the direction of store comps, that would be exceptionally good news for URBN stakeholders. Notwithstanding the excellent progress our company has made growing the digital channel, comp store sales remain a meaningful driver of our top and bottom line results. In conclusion, we’re confident and optimistic about our prospects for the second quarter and the entirety of fiscal 2019. URBN brands are powerful and all three are resonating strongly with their chosen customers. We believe all possess significant, untapped opportunities for growth. With fashion trends strong, the economy healthy and consumer sentiment at a 14-year high and our teams executing exceptionally well, we believe the time is perfect to invest for growth. In closing, I thank our brand and shared service leaders, their merchant, creative and operating teams and our 24,000 associates worldwide. Your hard work and amazing dedication and creativity produced a truly excellent quarter. I also recognize and thank our many partners around the world. Finally, I thank our shareholders for their continued support. That concludes my prepared remarks. Before I turn the call over for your questions, I remind you to please keep your questions to one per caller, so we have time to accommodate more parties. Thank you, and now for your questions.

[Operator Instructions] And our first question will come from the line of Kimberly Greenberger with Morgan Stanley. Ma'am, your line is now open.

Congratulations on a really, just exceptional first quarter. Dick, I wanted to ask about the senior leadership changes and just your long-term thinking around succession planning. Is the Co-Presidency leadership structure at Anthropologie something that you see as sort of a durable form of leadership? And then the succession is just with regard to CEO succession and long-term planning that I'm sure the Board is doing. Thank you so much.

It was a great team effort, and I thank all the folks that are gathered around the table here including the two Co-Presidents. I do think it is a stable situation with them. They both have their strengths, and they have demonstrated the ability to exercise those trends and to produce good results. So, I congratulate both Hillary and Andrew not only on the great results that they produced this quarter, but on their promotion, and I wish them the very best, and I'm quite confident that we will see good things in the future. As to the succession plans for myself, those are issues that we deal with at the Board level and we have been dealing with those issues now for a number of quarters, and I'm not prepared to say anything more about them other than the Board is very aware as am I every morning when I get up that there is a point in time when I will no longer be the CEO.

And our next question will come from the line of Lorraine Hutchinson with Bank of America/Merrill Lynch. Your line is now open.

Frank I wanted to follow up on the gross margin guidance. You're lapping some pretty significant markdowns from last year's second quarter, and it sounds like Anthropologie is moving the mix of product to more owned brands. So, I guess, if you could discuss the puts and takes and why that wouldn't accelerate versus the 1Q increase? Thank you.

You're absolutely right that markdowns continue to be an opportunity for us in the second quarter as they were in the first quarter, and we would anticipate all three brands actually delivering markdown improvement in the second quarter. But, and you are also right in that Anthropologie based on what we were currently looking at and based on their comparisons should lead the way, and we're hopeful that they will. The real difference between Q1 and Q2 is really centered around store occupancy. Store occupancy leveraged really nicely for us in the first quarter based on the total comp as well as the mix of the comp. Fortunately, we're seeing that mix continue with positive store comps in Q2 and a nice healthy comp, but the difference is it is more around from a cost perspective. So, in the third quarter, we're opening up nine new stores this year versus we only opened up three new stores in the third quarter of last year. And two of those stores in Europe, which have a longer lead time, I believe two of them are also larger format Anthropologies which have a slightly higher cost versus the total standard format. So we have a little more pre-opening rent in the second quarter than we did last year and than we did on a Q1 versus Q1 comparison, so the store occupancy leverage that we're currently planning, we're currently not planning it to be as meaningful as what we experienced in the first quarter, which is why you see our plan to be comparable in the second quarter to the first quarter for total gross margin rate with the store occupancy not delivering as much, but then some of the other things like markdowns as well as IMU potentially starting to subside, still be slightly, somewhat of a headwind, but certainly not as much as we experienced in the first quarter. Hopefully that answers your question?

And our next question will come from the line of Adrienne Yih with Wolfe Research. Your line is now open.

Let me add my congratulations, well done. Dick, I always ask for your expertise on these silhouette shifts. I'm going to do so again. In your experience, when you see strong uptake in silhouette shifts in the early part of the year in spring, does that tend to translate historically into stronger adoption in the fall season? And then maybe more broadly, if you can just talk about – we are 10 years into the last shift that you guys had identified early, so how do you think this particular shift will play out over a multiyear period? Thank you.

Adrienne, let me give you my thoughts on macro and micro fashion. I only think about macro fashion as being one that deals with sort of larger aspects of fashion and that circles around things like proportion and silhouette. And then there's micro fashion that deals with things like fabrication, color, pattern, texture, et cetera. And those are the things that change pretty regularly. The macro fashion, the silhouette and the proportion changes infrequently. And as a matter of fact, my experience would suggest this probably changes about once a decade. I’ll give a little story. I think you were there and I note Kimberly Greenberger was there, 2006 at the ICR convention out in California, when I talked about the last shift that happened, and I recall both of you being very upset when I said that it was going to go to tight bottoms and leggings, and I remember both of you being upset with me and said you wouldn't wear them ever again. I'm pretty confident that both of you have, and I think that in this shift it will take a while for the folks as the shift starts to happen to adopt it. It always does. It usually goes from early adopter to a mid adopter to a full adoption to an over adoption and then a replacement. And as I said, that usually takes 10 years. I think we're at the early stages. I think in the early stages you continue to see better and better adoption of the change. And so I would suggest that we have a reasonably long period of time to enjoy this change.

And our next question will come from the line of Matthew Boss with JPMorgan. Your line is now open.

I guess that Dick any additional color may be regarding trends you've seen in May versus that 1Q performance by concept? And as move to the back half any key areas of the assortment that they you are particularly excited about top areas of opportunity maybe I should think about back to school and holiday?

Matthew, are you talking about trends in top line sales trends? Or fashion trends?

Same-store sales. What you've seen in May versus the first quarter by concept and then by math.

As I said in my prepared remarks we're really happy to report that May is actually stronger. So that both the digital and store comps are running nicely ahead of our Q1 rate right now. Apparel and Accessories continue to be the main driver of those comps. AUR continues to be nicely positive. I do want to make everybody aware that May is our easiest compare in the quarter, but the June and July are relatively easy as well. I think most of you who make your models are aware that our comparisons do get a little more difficult in the third quarter and then even little more difficult in the fourth quarter. But what we see happening right now with the strength of the Apparel and Accessories sales, I'm pretty confident that we can continue to deliver very nice positive comps throughout the year.

And our next question will come from the line of Janet Kloppenburg with JJK Research. Your line is now open.

I was wondering Dick or Frank how you're thinking about your marketing expenses. Frank you talked about it last quarter that you could calibrate the pedal on the marketing cost. But given the acceleration of business here in May would you think about pulling back a bit? Maybe you don't need it? Or perhaps you're thinking it goes the other way to take full advantage of the brands resurgence. So love to hear how you're thinking on that particularly in the digital channel. Thanks.

Sure, Janet. I'm happy to answer that question. I think what we've seen to be honest with you is the marketing spend for the most part travels with the comp. As it mostly - with the digital comp, as a lot of your click through on a digital basis has some sort of marketing type to it. So as that comp accelerates the marketing accelerates as well as well as when the comp were to decelerate it won't a variable basis we also make sure we're getting the return and you can see the marketing spend decelerate as well. So for the most part we see that kind of traveling lock and step. The current plan for the second quarter which is for SG&A to be approximately 6% growth year-over-year does contemplate an increase in marketing spend on a year-over-year basis. And that based on that current sales trend. If that sales trend were to accelerate versus where we were it could be slightly higher if very to decelerate it could be slightly slower. But I think the point of your question is, it is variable and it does for the most part travel with the sales.

And our next question will come from the line of Brian Tunick with Royal Bank of Canada. Your line is now open.

I was curious on the March towards of the 50% digital penetration Dick, I think that you've talked about the last couple of years, can you maybe give us some ideas about what other areas of investment the business still needs to make versus may be some areas of the company that are starting to see leverage from that tremendous growth in digital? Thanks very much.

Well I think we're still investing in technology. And so I will call our tech experts here to give a little bit of an update on where we are in technology what we're working on and what we think we have to work on more. Dave?

This is Dave Hayne. So as you've heard in the prepared commentary two of the interesting things that we've launched in the quarter which is still relatively new, but are out there and have traction are our new marketplace concept. So this is an ability for third party sellers to list their merchandise on our sites. This is not a new concept on the Internet, but it is relatively new concept for specialty retail bricks or something that we're excited about for that reason. I think it's going to be a relatively big win for both our merchant teams as well as our customers. For the merchant that should provide them a fair amount of flexibility in crafting their assortment as well as how they react to the market. And then just for customers, we expect that to be something that will be able to get wider breadth and assortment and hopefully choose to shop with us and choose to come back to us because of that. And then also what just mentioned is some of the improvements we're making to our checkout expense. So we have launched Apple Pay in a moderate way. We've also launched a new payment method that has just come to the U.S. called After Pay. This is something that I'm pretty excited about. It should be something that I think could have a quite significant impact on our conversion rates and average value if we see some similar to what's happening in Australia where they are from. So those are two specific examples. We are also focused pretty heavily from an infrastructure standpoint making our sites faster, making them generally more shoppable, focused pretty specific ways around specialization and making the site something that reacts to the customers and what we know about them. We’ve just recently launched a new iOS apps which are something that have just gone live for the Urban and Anthro brands and we'll be launching for Free People in the next month or so. These are completely built from the ground up and totally new experiences that have a much more fluid navigation and much better customer experience. So that's a positive development task well. We have begun to dabble in some self checkout experiences in a test pilot store in Urban Outfitters at Herald Square, which has been quite exciting. Calvin and John Devine, and their teams have really pioneered this. We're seeing some really instruction with that as well. So I feel like we're really hitting on a lot of areas right now and it's been an exciting thing to see.

I guess in general, Brian, as you've heard, we're in a lot of different areas and you can see why we are spending an increasing amount of money in building this technology. And I think we're reaping a reward from that investment.

[Operator Instructions] And our next question will come from the line of Simeon Siegel with Instinet. Your line is now open.

Frank or Dick just as you're seeing nicely EBIT margin agreements now and you're talking to wholesale international growth, can you just comment on what is your view on where the long term EBIT margin rate could go recognizing those shifts? Thanks.

This is Frank. Thank you. I think for us really understanding where the EBIT margin goes long term will have a lot to do with what the balance of the business looks like from a store to a digital channel. And as that mix continue to change on a pretty drastic rate from one quarter to the next and now those pesky stores coming back into comp positive, it really changes what our outlook and how the profit flow through could look over time. So to be honest, I don't think we know exactly what it would look like over time. I think we know what you can control which is our product execution and then managing our costs appropriately. We know that we certainly have continued opportunity from an EBIT perspective as we look out towards better product execution and then also hopefully continue to gain some leverage from a store occupancy perspective. But exactly what that looks like over the longer time horizon is really going to depend on where the balance lands from a store to a digital to a wholesale mix. And I just don't think that we have that crystal ball right now. And I think where we stay focused on quite frankly just pleasing the customer. And I think that customer will give us that answer and then we'll make sure that we're building the business and investing appropriately around pleasing her.

Yes, Simeon, this is Dick. I think, the most important thing we can do because we aren’t sure of what she's going to choose quarter-to-quarter in terms of channel and we just have to be prepared as much as we possibly can in all channels and give her the choice and let that dictate.

And our next question will come from the line of Mark Altschwager with Baird. Your line is now open.

Maybe just kind of dovetailing on that last comment. In the context of the balance between digital and physical growth, can you update us on how you're thinking about the large store concept at Anthro? And then may be more generally just optimal store sizes by concept as you balance that category expansion opportunities with the shifting shopping patterns? Thank you.

This is Frank. Happy to take that question. Thank you. We are still for the Anthropologie large format concepts still committed to around that 20 store base that we had originally talked about. We had said that we would be opportunistic in the large markets where we thought we could – the largest markets where we thought that could support the larger concept. We weren't going to exit this early and we would do it, like I said, we would do a timely, where it made sense. And we're very happy with some of the extended categories and how well they performed in those larger format stores. I think Dick and Andrew talked a lot about Terrain and how well that's performed BHLDN has performed really well. Obviously you know about our home performance and what that has done over the last several years at those larger format stores. And in addition to how the stores are performing also providing a nice halo on to the digital and bringing the more credibility and bringing more customers to those areas around those expanded categories. So I think for Anthropologie we're still committed to roughly 20 or so of the larger format stores and we'll build those out as we see fit the partner. For the other brands, I think Urban really hasn't changed their approach from a store perspective they're going to stay with us and stick with primarily around their standard format as to where they are. And I think for Anthropologie - excuse me, for Free People right now they have moved to more around somewhere between 2,500 and 3,500 selling square foot store depending on exactly where the market is and based on their category expansion and how well some of those categories have done intimates over the years shoes and now FP Movement really starting to hit stride we feel comfortable that that brand can remain incredibly productive at that size.

And our next question will come from the line of Paul Lejuez with Citigroup. Your line is now open.

Wondering if you could quantify the niche market improvement versus the other pieces of gross margin leverage that you saw this quarter? Also FX, I'm curious what sort of a impact that has from the gross margin? And in fact, how your conversations go on with landlords these days how successful in getting better rates as we change renewals or taking the space? Thanks.

Paul, I'll take the last part of that first. You are breaking up quite a bit. So I hope Frank got the first part of your question. Landlord discussions, I think they have become much better in the sense of that they are more realistic, when we go in and renegotiate renewals we are seeing a very, a lot of willingness on the part of landlords to accommodate us. And so we are seeing a lot of success. And we anticipate continuing to see that success. And we've got a lot more strict with what we're willing to do. You heard we were closing some stores this year. The landlords don't want to cooperate with us then we'll just close. So I think it's much better than it's been.

And Paul this is Frank. As Dick said, you're kind of breaking up at the beginning part there. I think you were asking about merch margins, which was favorable in the first quarter obviously led by improved markdown rates at all three brands. It was partially offset by lower IMU's and that lower IMU was largely driven by lower penetration of own branded product but merch margin was favorable in the first quarter and certainly and we believe right now that should be favorable in the second quarter as well and again led by a lower markdown rates at all three brands.

And our next question will come from the line of Marni Shapiro with Retail Tracker. Your line is now open.

I really hope by the way Dick at that meeting that I was already wearing leggings so I guess I'm think I'm a semi early adapter.

You may have been I can’t recall, 12 years ago.

At least I wasn't saying that I'll never. I guess my question is just on the home space because you guys have had a really great success with Anthropologie Home and Urban has had its ups and downs at times. But I've noticed a lot of newness over the last little while on the Urban site. And I know you guys made some changes there. So could you just give us an update on what's going on in that side of the business at Urban?

Sure. Hi Marni, it’s Trish. So we've been having - you're right, we've got couple of bumps along the way, but they feel so good about how we're positioned for back-to-school. So we're currently seeing success is in a lot of the hardlines, the furniture leading stores have been really amazing. We just completely revamped our home novelty assortment and that’s probably a lot starting to see in stores. But for back-to-school and fall really focus on textiles. So we worked really hard embedding the design, the merchant, the production team, worked really hard and getting great quality products at a really good price for back-to-school. So I hope you see that in the next couple of months. Thanks.

And our next question will come from the line of Ike Boruchow with Wells Fargo. Your line is now open.

I guess Dick for you; you called your expansion shifts about a year ago pretty spot on. There are several other specialty apparel guys out there and some big passion guys that are clearly not performing anywhere near you guys and what your business is doing. So I guess my question is, can you point to our talk to what you guys are just doing better than a lot of your peers out there? I don't know if you bought into these trends, categories that customer knows you and wants to use you guys for that are working. Just any color there would be really helpful.

I don't want to disparage any of our competitors. I wish them nothing but the best. They are all very good retailers. They are very good merchants and they had a little bit of less success than we are sure that that will turnaround at some point. What we see and the reason we were so confident in this turnaround is that we've been watching this macro shift in Europe for probably the better part of two years now. And it's been a little bit of ahead of us and that's not unusual. So we have had the benefit of that foresight. And so we saw that and we then adopted some of it and it's starting here so as I've discussed and we expected to continue and get more fully penetrated as time goes on and as I said, we expect this to continue for a decade.

And our last question will come from the line of an Anna Andreeva of Oppenheimer. Your line is now open.

Happy to have made it, and congrats, really great numbers. I guess a quick question, the speed to customer initiative sounds very exciting. Maybe talk about where your lead times are currently by brand versus a few years ago? You mentioned the speed of Anthro improved really nicely during the quarter. And where you see that opportunity in the longer term? Many thanks.

I'll ask Barb to take that question. She's the Director of Sourcing.

Hi Anna, this is Barbara Rozsas. A while back we worked cross functionally with all the brands and we aligned internally on defining the business needs to be developed closer to NDC. With our cross functional teams, we employed a multilayered sourcing menu to service each brand priorities and these strategies along with the intuitive layered calendar approach resulted in a year-over-year reduction of 10 days and a reduction of one month over the last three years. And as a team, we believe that there's more opportunity for further compression and to deliver more speed to the customer.

All right. Well, that concludes our comments for today. Thank you very much and I look forward to talking to you in three months.

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program and we may all disconnect. Everybody have a wonderful day.