Vera Bradley, Inc. (VRA) Q1 2013 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen, and thank you for standing by. And welcome to today's Vera Bradley First Quarter Fiscal 2013 Conference. [Operator Instructions] As a reminder, today's conference is being recorded. And now I'd like to turn the conference over to Paul Blair, Vera Bradley Investor Relations. Please go ahead.

Thank you. Good afternoon, and welcome. We'd like to thank you for joining us this afternoon for Vera Bradley's Fiscal 2013 First Quarter Results Conference Call. Some of the statements made on the conference call during our prepared remarks and in response to your questions may constitute forward-looking statements made pursuant to and within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995, as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from those that we expect. Please refer to today's press release and the company's Form 10-K for the fiscal year ended January 28, 2012, filed with the SEC for a discussion of known risks and uncertainties. Investors should not assume that the statements made during the call will remain operative at a later time. The company undertakes no obligation to update any information disclosed on the call. We understand that this is a busy period for reporting and intend to keep today's call to an hour in length. [Operator Instructions] I will now turn the call over to Vera Bradley's CEO, Mike Ray.

Thank you, Paul. Good afternoon, everyone, and thank you for joining us today. With me are Jeff Blade, our Chief Financial and Administrative Officer; and Roddy Mann, our Executive Vice President of Strategy and Business Development. Today, we will focus on 3 main topics: The highlights of our fiscal '13 first quarter performance, an update on the company's long-term growth plans and our outlook for fiscal 2013 second quarter and full year. I'd like to begin by discussing some highlights from the first quarter. We continue to make significant progress in the execution of our long-term strategic plan, and despite some revenue challenges within our indirect specialty store channel, we met our overall expectations for the quarter. Among our accomplishments in the first quarter: We delivered earnings per share of $0.31, grew consolidated net revenues by 16%, achieved 34% revenue growth in our Direct segment, successfully opened 5 new full-price stores and 1 outlet store, grew e-commerce net revenues by 26%, expanded our department store presence by adding 41 Dillard's locations and maintained our disciplined inventory management. Before I review the performance of the business segments, I'd like to comment on the performance of our current product portfolio. During our Q4 conference call, we stated that despite the positive response to spring, the performance of the overall product portfolio did not meet our expectations. This was primarily the result of the performance of certain carryover patterns from the previous fall and winter seasons. Since that time, we've introduced our summer collection, which features a strong product lineup that has been well received by our customers. While we believe that we'll continue to experience some near-term revenue challenges, primarily in our Indirect specialty store channel, the overall product portfolio continues to improve on the strength of our spring and summer releases and as we retire some of the underperforming carryover patterns from prior releases. In addition to the positive trends we're currently seeing in the product portfolio, we are very optimistic about our upcoming collections. We have 2 fall releases, one in early July with a Back to Campus theme and one in late August. Each features 3 patterns in a compelling assortment of new styles, including an expanded line of backpacks, tech items and baby bags, as well as unique products like throw blankets and comforters. We introduced the fall collections to our specialty retail partners and Dillard's at the April premiere, and we were pleased with the favorable response. We will launch a single pattern, ribbons for breast cancer awareness in late September, and our winter collection with 2 patterns will launch in late October, closer to the holiday season than we have historically done. Not only do we feel strongly about the evolving product portfolio, but we believe the shift in merchandise cadence is more in line with how and when consumers are shopping. With the solid performance of our spring/summer collections, the anticipated strength of fall and winter and the retirement of underperforming products, we are very optimistic about the balance of the year. In our Indirect segment, net revenues grew 1.3% during the first quarter, in line with our expectations. We believe that some of our specialty retailers are being impacted by the underperformance of certain carryover patterns that I spoke of earlier, which in instances is affecting reorder activity. We expect this to improve as the overall product portfolio continues to strengthen. Our sales team continues to work closely with our specialty retailers to ensure that they are buying appropriately into the fall collections, have the right product assortment for their stores and are focused on replenishing top sellers and have the tools to market and promote sales of Vera Bradley within their stores. We are committed to providing the support necessary to ensure the continued success of our specialty retail partners. In the department store channel, we continue to be pleased by our performance at Dillard's. As such, we opened an additional 41 Dillard's stores during the quarter, bringing the current total to 106 locations. In addition, we worked with the Dillard's team to optimize our product assortment, enhance the visual presentation of our brand and improve store productivity. In the Direct segment, net revenues increased 34% during the quarter, reflecting significant growth across all channels, including full-price stores, outlet stores and our e-commerce business. Our Direct segment accounted for 51% of revenue in the quarter, up from 44% in the first quarter of last year. In our stores, net revenues grew 63% in the quarter, driven by the opening of 15 full-price and 4 outlet stores during the past year, as well as an increase in comparable store sales of 4.3%. The comparable store sales growth is incremental to an increase of 22.1% in the same quarter last year. In the first quarter, we opened 5 full-price stores, including locations in Freehold, New Jersey; Huntington Station, New York; Pittsburgh; Orlando and Louisville as well as an outlet store in Nashville. These stores have demonstrated some of the strongest performance of new store openings to date, as many new consumers encounter our brand and unique shopping experience. Our store opening strategy this year reflects both the further penetration of existing markets, as well as the entry into new geographies. Our e-commerce net revenues grew 26% and represented 19% of total net revenues during the first quarter. The revenue increase was driven primarily by higher traffic to our site and a modest increase in conversion rates. We experienced this growth despite a continued focus on reducing the size and scope of any markdowns. In early April, we hosted our annual outlet sale. Over the course of 5 days, we experienced near-record attendance of more than 62,000 loyal Vera Bradley fans from all 50 states and several foreign countries traveled to Fort Wayne, Indiana to experience the event. Outlet sale revenues were in line with our expectations at $11 million, and importantly, this annual event continues to demonstrate the passion and loyalty that our growing fan base has for the Vera Bradley brand. I would now like to discuss our longer-term outlook. The Vera Bradley brand is as strong as ever and continues to have significant growth potential as evidenced by the favorable response to our new product offerings, the performance of our new stores and the overall strength of our retail partners. As such, we remain focused on executing our long-term growth strategies of expanding our product offerings and continuing to grow in under-penetrated markets. Our product development team continues to enhance our portfolio with distinctive new designs that resonate with our loyal and diverse consumer following. We recently enhanced our tech category with the introduction of an assortment of colorful smartphone cases designed specifically for the Apple iPhone. The product has launched in all of our channels and is being featured in approximately 1,000 Verizon Wireless stores nationwide through a licensing relationship. We're thrilled with the consumer response, thus far, and believe we will attract new customers to the brand through our relationship with Verizon. While we prepare for the launch of our fall and winter collections, the team is making significant progress in finalizing future product introductions, including Vera Bradley Baby, which is scheduled to launch next year. This category will complement and build upon our extremely successful Baby Bag business and Tote business sold to moms, and will address compelling demand for additional baby products. In addition to ongoing work to enhance our product offerings, we continue to realize significant growth in under-penetrated markets by leveraging our multichannel distribution capabilities. With the opening of more than 50 stores since 2007, we now have 55 full-price and 9 outlet locations across the country. Since our first store opening in 2007, we have opened stores in 40 unique markets, allowing us to reach new customers, to understand the affordability of the brand in various regions of the U.S. and determine which markets represent the greatest near-term growth potential. Despite our growing market presence, there remain significant white space, which represents meaningful long-term growth opportunities for our brand. We believe a near-term opportunity for store expansion is in the central portion of the country. A great example of this opportunity is the success we've experienced in recent years in the state of Texas. Since 2008, we have opened 7 full-price stores and 1 outlet store in various Texas markets. These stores are among our best performers resulting in increased brand awareness, an acceleration of e-commerce sales and the attraction of new highly productive specialty retail partners. In addition, our successful store openings in Denver, Kansas City, Minneapolis and St. Louis confirm a strong consumer following and pent-up demand for Vera Bradley in these markets. We will also continue to grow our more mature Indirect segment by working closely with our specialty retail partners to improve the productivity of their stores and by continuing to expand within the department store channel. In several of our most highly penetrated markets with multiple points of distribution, we are experiencing an increase in overall brand awareness and in total market sales. For instance in Memphis, where we operate a very successful Vera Bradley store, are featured in 2 Dillard's locations and have a strong e-commerce business. We also have approximately 25 specialty retail partners that have collectively experienced double-digit growth over the past several years as brand awareness and the overall market for Vera Bradley continues to grow. Our relationship with Dillard's has been outstanding, and together, we continue to explore opportunities for growth through additional locations and expanded product offerings. As a result, we plan to accelerate the addition of Dillard's locations from our previous guidance of 60 to 110 stores, bringing the total to 175 stores. We are also pleased to announce that Vera Bradley will be featured in the department store, Von Maur, beginning with our fall launch. Von Maur is known for featuring great brands, providing exceptional customer service and delivering an enjoyable and unique shopping experience, which makes them an ideal fit for our brand. Their 27-store footprint is concentrated in the central U.S. and in many markets that represent significant opportunity for our brand. We look forward to a great partnership and to building a meaningful business together. Turning to our efforts to grow in Japan. We continue to be optimistic about our prospects for long-term success in that market. Our objective this year has been to build a lasting foundation for our marketing efforts by establishing permanent relationships with department stores, such as Isetan, Marui and Seibu. During the first quarter, we opened 6 different permanent locations across the Tokyo Metro area and plan to open additional locations during the balance of the year. In addition, we continue to generate excitement through temporary events such as a pop-up shop in Mitsukoshi, Ginza and a consumer event in Roppongi Hills, both in late April. As we progress through the second quarter, we are very focused on achieving our sales targets across all of our channels while continuing to make significant progress in the execution of our long-term growth strategies. I will now turn the call over to Jeff Blade, our Chief Financial & Administrative Officer, who will provide additional details regarding our first quarter financial results, as well as guidance for our fiscal 2013 second quarter and full year.

Thanks, Mike, and good afternoon. I will begin my remarks with a review of our fiscal 2013 first quarter and then provide you with our outlook for the second quarter and full year. As Mike mentioned, we are pleased with our financial performance and operational progress during the first quarter, in which we delivered top and bottom line financial results in line with our expectations while continuing to make progress against our long-term growth initiatives. Net revenues for the first quarter increased by 16% to $117.2 million from $101.4 million in the prior year. This performance was on top of revenue growth of 19% in the first quarter of last year. In the Direct segment, net revenues increased 34.2% to $59.2 million, driven by increases across our full price and outlet stores, as well as continued growth in e-commerce. The Direct segment accounted for 51% of total net revenues in the first quarter, versus 44% in the prior year. The revenue increase resulted from the opening of 19 new stores during the first quarter of last year and a comparable store sales increase of 4.3% during the quarter. The comparable store sales growth is incremental to an increase of 22.1% in the first quarter of last year. We ended the quarter with 53 full-price and 9 outlet stores. E-commerce net revenues increased $4.5 million or 26.1% and represented 18.5% of total net revenues during the first quarter. The increase was due primarily to continued growth in website traffic, conversion rates and enhanced customer targeting. In addition, we experienced favorable gross margins with our reduced level of discounting, as we continue to evolve through a more full-price channel. Indirect net revenues increased 1.3% to $58 million, in line with our expectations for the quarter. As previously mentioned, we believe that some of our specialty retailers are being impacted by the underperformance of certain carryover patterns, which in some instances, is affecting reorder activity. Gross profit for the first quarter increased 15.7% to $65.3 million, resulting in a gross margin of 55.7%, in line with the prior year gross margin. First quarter margin reflects higher cotton and labor costs versus prior year, offset by favorable channel mix, driven by growth in full-price stores and e-commerce. Total SG&A expense was $47.2 million for the first quarter compared to $40 million in the prior year. SG&A as a percent of net revenues was unfavorable by 82 basis points compared to the prior year through the annualized fiscal 2012 infrastructure investments made in the second half of last year, partially offset by the shift of certain marketing spending that will take place in the second quarter, as well as disciplined cost management. Operating income for the first quarter increased 9.2% to $20.8 million or 17.8% of net revenues compared to $19.1 million or 18.8% of net revenues in the prior year. Operating income in our Direct segment increased by 24.4% to $15.4 million with operating margin of 26% in the first quarter of this year compared to 28% in last year's first quarter, primarily due to occupancy costs driven by earlier possession dates for incremental new full-price stores and lower outlet sale gross margins. Operating income in our Indirect segment rose by 3.2% to $22.4 million compared to $21.7 million in the same period last year with operating margins of 38.7% compared to 38% in the first quarter of last year. Net income for the first quarter was $12.6 million or $0.31 per diluted share compared to net income of $11.2 million or $0.28 per diluted share in the prior year. The first quarter results included earnings per share investment of $0.02 for our Japan market expansion. Key balance sheet and cash flow highlights as of April 28, 2012, include cash and cash equivalents of $6 million, accounts receivable of $36.1 million compared to $35.5 million in the prior year with days sales outstanding in line with prior year. Inventory at the end of the first quarter of $98.2 million compared to $101.9 million in the prior year resulting in a year-over-year inventory decline of 3.6% despite revenue growth and the opening of 6 new stores in the first quarter. Approximately $7 million of this decrease is due to timing of inventory that was expected to arrive in the first quarter, but arrived early in the second quarter. We continue to be pleased with the progress we have made in evolving our supply chain and inventory management processes. We feel confident that inventory will grow in line with revenue over the long-term. Cash flow from operations during the first quarter totaled $30.7 million compared to a net use of cash of $2 million in the prior year. This increase reflects higher net income, as well as improvement across all working capital metrics. Cash flow for the quarter was used to fund capital projects and pay down our debt facility by $17.8 million. Since the IPO in October 3, 2010, our debt has decreased $69.6 million to $7.4 million, reflecting the strong cash flow generation profile of our business. I would now like to review our outlook for fiscal 2013 second quarter and full year. In the second quarter of fiscal 2013, we expect net revenues to be in a range of $121 million to $123 million compared to $104 million in the prior year. This includes comparable store sales growth of mid-single digits, as well as Indirect net revenue growth in the low single-digit range as we address issues with the carryover patterns and begin to benefit from improvement in the overall strength of the product portfolio, including the launch of the fall product assortment in early July. Gross margin for the second quarter is expected to be in line with the prior year as we work through the remainder of a higher-priced cotton, offset by the benefit of favorable channel mix. SG&A is expected to be in a range of $48 million to $49 million, which includes the shift of certain marketing expenses in the first quarter. In addition, other income is expected to be $1.5 million. Diluted earnings per share are expected to be in a range of $0.34 to $0.36. Our earnings per share estimate assumes an effective tax rate of 39% and fully diluted weighted average shares outstanding of $40.5 million. Before we move to the full year guidance, please keep in mind that in the prior year third quarter, there were events related to the pull forward of indirect sales for our holiday build of approximately $3 million and the opportunistic sales inventory of the off-price channel of approximately $3.5 million, which are expected to result in our reported sales decline in the third quarter compared to the prior year. Adjusting for these events, the growth rate for the Indirect segment in the third quarter as compared to the prior year is expected to be in the low to mid-single-digit range. For full year fiscal 2013, we expect net revenues to be in a range of $535 million to $540 million compared to our previous guidance of $540 million to $545 million. This includes indirect net revenue growth of low single digits for the full year. Including the impact from the opportunistic sale of retired inventory in the third quarter of the prior year, we expect net revenue growth in the back half of the year to be in the range of low to mid-single digits as the product assortment strengthens. Comparable store sales are expected to be in a range of mid- to high single-digit growth for the full year. We expect gross margins to improve by approximately 90 basis points for the full year, up from our previous guidance of 50 basis points. The improving gross margin reflects better visibility to input costs for the back half of the year, driven by lower cotton costs beginning with the fall product launch as well as continued favorable channel mix. We expect diluted earnings per share for the full year to be in a range of $1.68 to $1.71 or approximately 20% growth over the prior year. This estimate includes an effective tax rate of 39% and fully diluted weighted average shares outstanding of 40.5 million. For the fiscal year, we expect to open 19 stores, up from our previous guidance of 16 to 18 stores. Capital spending for the full year remains at approximately $36 million. And with that, I'll turn the call back over to Mike for some closing remarks.

All right. Thank you, Jeff. As I mentioned before, we're very pleased with the progress we've made in the first quarter and look forward with optimism to the balance of this year. We're very encouraged with the long-term prospects for our business and the progress we've made in implementing our strategic plans. For the past 30 years, we've established a history of success. We continue to benefit from a portfolio of distinctive products, a loyal customer following, a multichannel distribution model and a proven track record of performance. In addition to these strong attributes, we are an early-stage growth company with significant opportunity to expand our product offerings and grow in under-penetrated markets in the years to come. In closing, I'd like to thank all of our team members and our Indirect retail partners for their hard work and dedication to Vera Bradley and their long commitment to serving our loyal customers. Our optimism around the long-term prospects for the company is strengthened by our unique culture that attracts passionate and motivated people and provides an environment that cultivates creativity. Operator, we're now ready for questions.

[Operator Instructions] And we'll take our first question from Neely Tamminga with Piper Jaffray.

So I want to just dig in a little bit more to the change in the revenue guidance, if we can. I mean I appreciate I think, kind of the transparency around all those, so thank you very much about that, but just trying to get a sense as to what's behind that. Is it the actual number of average orders goes lower for the Indirect partners or would you be expecting maybe the churn to go up a little bit higher? I think historically, you guys have seen like 5% to 10% churn out of those partners. I'm just trying to get a sense of what's behind the actual change. I have a follow-up too.

Okay. So Neely, the reason for the change in guidance is that it does not have anything to do with any anticipation of higher churn in that channel. So as we've talked over time, typically at any given year, we'll have 5% to 10% churn in retailers that close their doors for various reasons so that we choose to part company with. So we don't see any change in that for this year. The primary reason for the change in guidance is, as we talked about last quarter and just talked about in our prepared remarks, given the weakness in the spring product assortment and the fact that, that has affected some of our independent retailers as they -- independent specialty retailers as they work through some of that inventory. As we work with that, it affects 2Q to some extent and may affect some into Q3, and so we wanted to guide appropriately. We're working with them very diligently, and we believe that the strengthening overall product assortments, the anticipated launch for fall, the retirement of some of the older patterns and the efforts of our sales force will address that, but we wanted to guide accordingly.

Okay, that's helpful. So it's not necessarily the -- there's any less enthusiasm for the new product lineups that you guys have per se. It's much more just kind of the reorder side, not necessarily the initial order side. It would be more of the reorder side. Just want to make sure we're understanding the distinction.

That's correct, Neely. This is Mike. That's correct.

Okay, cool. And then just wondering if you guys could talk a little bit about -- I don't know if Roddy is around and wants to chime in on this, but we know -- we just want to recall that the college strategy last year was tested and incredibly successful for you guys last year. Just wondering how that looks differently this year versus last year, especially now with new categories, new SKUs, more cogency, just wondering kind of what you guys are thinking around that since it's right around the corner.

Yes. Neely, this is Roddy. I am here. It is -- we are building upon that. It was very successful last year, and we think there's opportunities to grow that this year. And we think that's one of the reasons why we are optimistic about the back half of the year. We think there's a lot of marketing campaigns that we're continuing to build out around Back to Campus, not only the experiential aspects, which were very successful last year, but some traditional elements that we'll be incorporating as well. And then we're working hand-in-hand with each of our retail partners to help them understand all of the marketing activities that are going on and to customize a retail event specifically for their store as it makes sense.

So Roddy, last year, I think it was maybe, all just in Texas. This year you're going all doors, right? Is that kind of the idea that we're checking this out in some more geographies or is it going to just be around Texas again?

It will be -- so there's traditional marketing elements that are going all doors. We do have an experiential, a marketing squad that actually has been doing work in the first quarter. And they're traveling across the country, but it's not limited to just Texas.

We'll take our next question from Oliver Chen with Citi.

Our first question was in relation to the operating margin on the Direct side. The 2 things you said with the occupancy costs and the lower margins from outlet sales, do you mind just sharing with us what happened in the outlet sales to contribute to that? And I had a quick follow up as well, please.

Sure. So the primary driver is the fact that we've got an earlier occupancy for some of the stores that we're going to open in future quarters, and I think overall that's been a positive trend. So far this year, we're -- it would open stores a little bit ahead of our schedule and some of that is being able to get turnover of them. So we're going to open -- our cadence right now is to open 8 stores in Q2 and 5 in Q3. So getting early occupancy enables us to open them on time or earlier. So that impacted us because you have the costs but not the best corresponding revenue during the quarter. The second thing was outlet sales, so we run the annual outlet sales in Fort Wayne, Indiana. We stated in our prepared remarks, it's about an $11 million event. And the primary driver of that sale is to warm welcome our loyal fans, which we had -- as we mentioned more than 62,000, but also to use it as an opportunity to outlet retired inventory. And while we enjoyed good margins, our primary focus is to make sure that we move through any older inventory that we think are appropriate, and from year-to-year margins will vary to some degree. And then a third contributing factor is that we also continue to dial in the right lineup and selling cadence in our outlet stores and we're a relatively new outlet store operator here, and so we continue to dial that in so that we're competitive with the overall center and we strike the right balance.

And we have this follow-up question. Is there a way you could speak to kind of the cadence that you've seen on a month-to-month basis? I know April and March had a lot of easter shifts, but if there are any kind of commentary around that, it would be helpful.

Now for us, there wasn't anything particularly dramatic about those shifts.

We'll hear our next question from Blair Mlnarik with Robert W Baird.

On the Indirect side, you had mentioned some of those issues on the reorder. Is there anyway you could break down or help quantify the magnitude of what your typical proportion of selling is versus reorders and how much of that is summer and spring versus prior seasons?

Yes. We'll try to dimensionalize it for you here. As we've mentioned in the past, it's very difficult for us to get good sell-through information from the channel. When it comes to selling in, you can think of the balance between EOP and reorders to be about 50-50, but it varies from season to season. But on average, you can think of it as being 50-50. But in terms of sell-through and how the fall and winter patterns have impacted the retailers, we can look at our data and we see evidence perhaps that some retailers may have too much inventory. Perhaps some retailers have the wrong assortments in their stores, and we -- the best we can between the data we can see here and the feedback we get from the sales team, it's probably in the neighborhood of something shy of 25% of our retailers who are dealing with some level of maybe too much inventory or the wrong assortment. And I should point out that at any given time, you'll have that element within the channel. We're dealing with about 3,300 independent retailers, small businesses, varying degrees of capabilities. Some are better than -- at managing inventories, in managing their assortments than others. And so this isn't something new that we're dealing with at this point in time. But the underperformance of fall and winter has kind of exacerbated to some degree. So understanding that, we're focused on helping our retailers manage through this, and we feel that we'll be able to do that pretty much in the first half of the year.

Great. I've one quick follow-up on Dillard's. Did you have an update for the $5 million you had anticipated for the year, given the incremental openings?

No, not at this point.

Yes. We're still dialing in the exact timing, exact locations, size of footprint, et cetera.

We'll take our next question from Jennifer Davis with Lazard Capital.

A couple of quick follow-ups. So when are you planning on launching in Von Maur, did you say? Did I miss that? And how many stores will you first launch in? And then also, Japan, it sounds like you opened, I think, you said 6 locations in the first quarter, and you did a couple of pop-up shops. So just wondering how should we still think that it will be around $0.06 impact for the year? And then -- sorry, just wondering if you could talk a little bit about some of the learnings from the new merchant function.

Sure. I'll take the Von Maur question, Jen. We're going to launch into all 27 of those stores in conjunction with the July release.

Great. And do that -- because we don't see those here in New York.

Right. One thing and a good one -- one thing I would wanted to point out relative to the assortment in Von Maur, it's probably going to be roughly half of what we have in Dillard's, at least to start and not unlike the start we had with Dillard's. We started with a pretty tight assortment, and once we understood kind of the optimal assortment, we started to build that out. So with Von Maur, it will be about half of what is in Dillard's at this point until we understand how to build that out. Now with the -- with regards...

We should think about it as under 100 square feet?

Yes, I think that's fair. Yes. Dillard's is roughly 150-ish and Von Maur to start is going to be something under 100.

Okay. And are you going to have bedding in Dillard's and Von Maur? And will they be in the Vera Bradley section, if so? Or will it be in the kind of home section?

Relative to Dillard's, we're working on that with them right now. If they take that merchandise, it's going to be in something other than kind of where our core assortment is. Von Maur is not going to start with the bedding. They're going to start with the core assortment.

And then, Jen, just circle back on your question about Japan, so for now assume $0.06. But as the year progresses, we're continuing to look at a number of different opportunities that could result in some incremental investment if we think it's the right thing to do.

Right. It sounds like you might have had a little more in the first quarter with the 6 openings and the pop-ups, but...

Yes. Slightly more.

That's right.

We'll take our next question from Evren Kopelman with Wells Fargo.

So I wanted to understand the comment about the underperformance of the carryover patterns a little bit more. So first off, which -- to be clear, which patterns are you talking about? Are you talking about the ones you introduced last September and this past January? And also where do you think are the retailers in terms of maybe moving through this product or the pressure from the underperformance of these patterns? And then I have a follow-up.

Yes. The specific seasons were last July, which would have been fall last year and then last September, which would have been the winter season last year. So kind of collectively, those assortments underperformed, and those are the patterns that challenged, to some degree, the Indirect segment. In some cases, the independents have maybe a little too much of that inventory. In some cases, they may have the right quantity, but it's taking them longer to sell through it. And in some cases, it's important to point out there are still patterns in the line that are performing extremely well that were introduced prior to those seasons, and one challenge that we have is making sure that those independents are buying into those top sellers. A good example I think we shared this on the last call a pattern like Boroque, which I think was a 2010 pattern, is right now the #2 selling pattern on our website. And that just tells us that the consumer can't find it in the marketplace. They can certainly find it in our stores and on the web, but they're not finding it out there among the 3,300 independent retailers that we have. And there are a couple of other examples of patterns like that. So that's part of the challenge as well, is just making sure that we continue to work with them to emphasize that they have the right assortment. And that's the focus that we have right now.

Great, that's really helpful. The follow-up is, these patterns that maybe they had some trouble with, how do they perform on your website or in your stores? I'm just trying to figure out if there's a channel difference in the performance of the patterns. And also those patterns that maybe they're trying to move through right now maybe they have too much of, are they on sale on your website? I guess how is that maybe competing with them trying to go through their inventory?

Now they're still in the line, so we're not competing with them on those. And when we look at our comparable store Direct data and the web data, we see kind of same underperformance relative to those seasons. So we know to some degree that that's what they're experiencing as well, and we also hear that from the sales team. And sometimes it's about how they buy, sometimes they spread their open-to-buy too broadly and try to have every item in every color. Many of our independent retailers have marketed themselves that way for years, and we've made a lot of progress helping them narrow down to the optimal assortment. But we still have from time-to-time, independents who spread their open to buy too thin. So those are some of the challenges that we're dealing with right now. But we feel very, very good about the progress the team is making. And we feel we'll be kind of largely through that issue by the end of the first half.

Okay. Lastly, on your Direct stores, can you comment on any update on your new store productivity? How are the new stores opening?

Yes. Evren , this is Jeff. So very consistent with what we talked about now for a year plus, the great strides since we started to open our first stores in 2007 in terms of getting very favorable real estate locations, continuing to dial in, our ability to build out the stores, to hire the right team, to run the stores and to open them successfully. So with the stores that we've opened so far this year, we're very pleased with the performance so far. And it looks like it's going to continue the trend of opening very high productivity stores at the high end or above our target for sure unit economics.

And Evren, I'll add that 2 of those stores -- this is not just occurring in newer markets, 2 of our strongest openings were in Freehold Raceway in New Jersey and in Pittsburgh for mature markets for us, so strong openings across the board.

We'll take our next question from Dana Telsey with Telsey Group.

Inventory levels came down pretty substantially from the last quarter. How do you -- how are you thinking about inventories moving forward? And order trends on the Indirect channel, what are you seeing from them? Is there any change in process that you're implementing of how they should order or working with them to manage the orders?

Sure. Dana, I'll take the first part of that question regarding inventory. So what you're seeing and have seen for the last several quarters is the result of a lot of our internal efforts to make sure that from a supply chain standpoint, we continue to evolve our capabilities and our processes. And we feel really comfortable with our ability to grow inventories in line with sales over the long term and have been able to do that. A good example is all of the organization changes we made in the last year to align our sales planning and deployments, our ability to be more aggressive on how we segment and allocate inventory flow to our customers, our ability to work on with our sourcing partners in China. All those things together just puts us in a much better shape to be able to do that on a consistent basis.

And then you had a question about reorders, Dana...

Exactly. With the Direct channel on the specialty stores, any change in process of how that's working or how you manage them?

Well I would say one thing we've been focused on is really getting better at synchronizing supply and demand, so that we're able to fulfill orders with short lead times to the Indirect segment, and that's kind of an ongoing challenge as we grow. But we've made headway there. I think we see from time to time, we talked about the breakdown between EOP or early order period, rather, and reorders, and right now, it's probably a little heavy in EOP and a little lighter in reorders. What we'd like to see over time is that shift so that their EOP investment is something less than half. We'd like to see perhaps 4 to 6 weeks worth of commitment at the beginning of a season, and then be able to replenish those retailers quickly, and I think we're getting better at doing that. And hopefully, we'll see that shift back to something that's a little more healthy in terms of how they buy.

And do you have the operating margins on the Indirect and Direct channel, the corporate unallocated that you can breakout?

Dana, I'm not sure if I understand your question fully. But we do fully allocate all of our SG&A that is specifically related to the Direct or indirect channels. So what's left in unallocated are the things that essentially cut across the enterprise, so administrative teams, product development teams, et cetera.

Well I just meant, do you have the operating margins by channel, by indirect and Direct?

Yes. They were part of our prepared remarks.

We'll take our next question from Amy Noblin with William Blair.

A couple of questions. First, I was wondering if you'd be willing to comment on the performance of Mother's Day in your Direct stores. I know that's important to you. It also seemed that you had changed up your promotional cadence for your loyal customers to shorten that redemption period. I'm curious how that worked for you before I have a follow-up.

Amy, we were pleased with Mother's Day. It was in line with what we expected, and the marketing that we put around it was, I would say, were generally effective without getting in too much detail.

Okay. And then in terms of shifting up the promotion. Do you feel good about the performance there?

Yes.

Okay. And then I know you specifically called out your focus to expand within the central part of the U.S. But can you talk a little bit on your recent learnings in the West and what you're gleaning from the e-commerce data, as well as your Indirect channel. It seemed like you were potentially adding some accounts out West. I'm just curious if you can add any color there?

Yes. We continue to get lots of data points pointing to opportunities in the West. And when we say that central U.S. really we see that as the gateway to the West, so just moving increasingly in the adjacent markets. We've pointed out in the past one of those key indicators is growth in web traffic. And if you look at the slot of the U.S. between the Mississippi River and the Rockies, that area is growing -- continues to grow the fastest in web traffic. In addition, we are seeing signs further west on the West Coast itself. If you look at a market level on the e-commerce sales, 4 of our top 5 markets in e-commerce growth in fiscal '12 or in fiscal '11 were in the West Coast and Hawaii.

Great. That's encouraging. Okay. And if I could squeeze one more in. I know you weren't willing to update kind of your expectation for the department store channel, given the timing, but I'm curious if you can update your views on productivity of the department store channel and profitability versus your traditional specialty retailers as you continue to build out that business.

I'll start with profitability. You can really think about perhaps the gross margin being a little lower than what we see on the specialty store channel, but because we don't have the cost of the sales force, the operating margin is essentially the same as the specialty store channel. And then you're asking about the productivity of the spaces? Right now I'd characterize the productivity of the spaces in Dillard's as being kind of in line with what we see in our own full-price stores on a sales per foot basis. And we were just down in Little Rock a week before last and met with their team and had some great opportunities that we're pursuing right now. We're going to be rolling out kind of a final merchandising solution as we open new doors and as we kind of retrofit the older doors. And we had it set up in Little Rock. Barb was down there with us to give her blessing on kind of the branding of the space, and so we feel very good about that as something that's going to drive more productivity through the spaces that we're in.

We'll hear next from Edward Yruma with KeyBanc Capital Markets.

You commented, I believe, on a reported sales decline of third quarter. Just for clarification, was that just for Indirect or is that for the total enterprise?

Just for Indirect.

Got you. And how should I think about the Indirect growth rate in the first quarter if I take out all the Dillard's stores that you rolled out for the quarter?

Yes. You should think about it as negative.

Got you. And one final question, in terms of the comp in your Direct stores, obviously, I know you guys opportunistically took some price on some of your new products that you rolled out in the mid part of last year. How do we think about the balance between ticket and transaction for your reported comp?

Yes. There wasn't a major change in ticket for comps. So the drivers really were for traffic and conversion.

And we were not, just to clarify, we weren't -- we did not do any promotional pricing around those fall and winter patterns that were in the line. But those are still at suggested retail.

We'll take our next question from Stephen Marotta with CL King. And we'll take our next question from Peter Wahlstrom with Morningstar.

I was wondering if you'd be able to give us a sense of the sort of traction that you're seeing in the Rolling Luggage product category relative to your expectations and also interested to hear if the sales growth in that has been consistent across channels or if there's been one standout channel or perhaps a laggard?

I'd characterize the performance of Rolling Luggage as kind of being in line with our expectations overall. It's still a relatively small piece of the business, because we started out relatively small. That was one of the discussions that we had with Dillard's when we were there a week before last. They've recently brought it in and were tweaking that assortment. It's not quite meeting our expectations or theirs in that channel, but we are tweaking it. We actually have some new styles and some new fabrication coming out in the fall that should impact in a positive way that assortment.

Very good. And as you look to launch Vera Baby next year, are there a couple of takeaways, perhaps from the Luggage launch that you can apply that here and maybe is this an opportunity to either tick up pricing or perhaps at the e-commerce channel specifically start to wean some of your customers from discounting?

Yes. As far as Baby is concerned, one of the challenges we've historically had when thinking about new categories that make sense for the brand is the channel of distribution. We certainly have a number of independent retailers that are right for this broadened Baby category. Certainly the segment of that category that is our Baby Bags right now. We have one in line. I think we're adding 4 or 5 this fall. We're going to add another 2 or 3, I think, in the spring. So we're going to broaden that bag assortment significantly. And certainly, that makes sense in a lot of the independent retail stores. The other part of Baby is going to be traditional giftable baby items. And while there might be some great retail partners in the specialty channel that are appropriate for that, what will really open up that opportunity is a partner like Dillard's and a partner like Von Maur, who has a significant customer base for that category, has that category featured in the right way within their stores. And we did show the Baby category to the folks at Dillard's a week before last, very favorable response. And so we're very excited about that channel opening up opportunities for us for a new category like this. And then I didn't hear you -- I didn't catch your second question.

It was -- it was basically along the lines of as you look to Baby and, maybe this is a bit early, but launching a new product or new extension, is this a channel -- is this an opportunity especially in the e-commerce channel to start weaning the customer from the apparent discounting of the e-commerce channel?

Yes, absolutely, absolutely. This will drive excitement and full price revenue in that channel, certainly.

And our last question will be a follow-up from Neely Tamminga.

Could you talk a little bit about specifically the DCs that you guys have, I think on deck and under construction right now. That's one related question. Just -- does this help kind of the functionality of how you're referring to, Mike, the whole early order period, kind of flowing that a little bit better to your Indirects? Or is there something about that facility that just kind of helps you flex a little bit more going forward, whether it's categories or the types of partners that you plan to be partnering with down the road. Just trying to get a sense a little bit what's behind the new DC?

Yes. So the new DC -- so the DC we have in Fort Wayne, we distribute every -- all of our channels out of that facility today. And as you might imagine with the rapid growth, it was built in 2007, we're now at capacity. With the expansion, not only will give us more room for growing the business, but it also gives us the capability to serve out of the various channels in a more specialized way, especially as we move into the department store channel. They have some other requirements for how you service them and how you ship goods to their DC. It gives us the ability to do that in a sophisticated way, gives us the ability to continue to build out our sophistication around e-commerce fulfillment and will give us the ability to overall serve our customers more efficiently.

And I guess related to that and what Mike was just saying about kind of the multi-category approach of some of these department stores, Jeff and Mike, just wondering if you could give us a little bit of sense of we've successfully here launched Dillard's, and it sounds like that's been a great partner for you guys. Von Maur is just very respected over here in the Midwest for sure, and that's a great partner for you as well. Are there additional partnerships? I know that you have tested with Neiman in the past. Just kind of give us a sense of are there more targets out there on the -- as you upgrade and improve the productivity of the Indirect side of your distribution?

Yes. If you consider kind of Dillard's footprint and then you lay in the Von Maur footprint, there's still a lot of white space in the country. And I think we've made it pretty clear that our objective over time is to partner with appropriate department store partners, and for a long time, we've had dialogue with a number of different partners. Von Maur is the one we can tell you about at this point. But we will continue over time to pursue other partners to layer into the Indirect side.

And there are no further questions. I'd like to turn the conference back over to Mike Ray for any additional or closing remarks.

All right. Thank you for joining us today and for your continued interest in Vera Bradley. We look forward to speaking with you during our second quarter conference call, which will be held on August 29 at 4:30 p.m. Thank you.

Again, this does conclude today's conference. We thank you all for your participation.