Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Jonathan E. Ramsden - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Brian P. Logan - Vice President of Finance and Controller

Analysts

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Abercrombie & Fitch (ANF) 2013 Consumer & Retail Conference March 13, 2013 9:40 AM ET

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

All right, we're going to get started. Next up is Abercrombie. We're happy to have Jonathan Ramsden and Brian Logan here to present. We're going to kick it off with a quick overview from Jonathan, and then open it up to questions.

Jonathan E. Ramsden

Good morning, everyone. Thanks, Lorraine, for having us today. So before I start, I have to remind you the usual caveats that any forward-looking statements we may make today are subject to the Safe Harbor statement found in our SEC filings. Also, in general, our comments in the presentation and going forward are going to reflect the newly adopted cost method of accounting for inventory. And finally, we will be referencing some adjusted non-GAAP measures, and you can refer to Exhibit 99.3 of our 8-K filed on February 27, 2013, for reconciliation of the non-GAAP measures to the applicable GAAP measures.

So we're going to keep our prepared comments fairly brief this morning, primarily just focus on the key themes from the last earnings call. So we'd like to start by reminding you that our overall corporate strategic objective is to leverage our iconic brands to build a highly profitable, sustainable global business and to create significant shareholder value by doing that. And this objective remains constant as we continue to operate our business with a long-range perspective.

Recapping our results for 2012, the year was one of 2 halves. The first half was tough as we went through a significant comp decline in Europe, driven primarily by the macro situation there. We were also working through excess inventory coming into the year and still going through the high cotton cost phase. As we went into the back half of the year, we saw a sequential improvement in Europe, cotton cost became a tailwind, and we saw improvement in the top line. As a result, we ended the year with sales up 8.5% and net income per diluted share up 16.9%. And that, of course, included the 53rd week.

So after going through a period of significant negative comp store sales in the U.S. between 2008 and 2009, we've now achieved our third successive year of healthy year-over-year growth in sales and adjusted EPS. Likewise, our operating income has steadily increased over the past few years, although our margins are still well below peak levels and historic levels, despite the benefit of our highly profitable international business.

So as Mike said on the recent earnings call, this clearly represents a challenge, but also a major opportunity for the company. And we think this opportunity lies in 2 specific areas. The first we're calling process efficiency and ROI and involves revisiting our operating model to identify opportunities, to simplify processes, increase efficiencies and eliminate spend that provides a low or negative return. And with regard to these initiatives, we have engaged an outside consulting firm to support us, and we expect to complete the diagnostic phase of this project by the end of the first quarter and be in a better position to quantify the opportunity at that point.

The second initiative involves identifying ways to optimize our AUR, particularly in our U.S. stores and U.S. DTC, where AUR has come down over time as we have become more promotional. Making progress in AUR will help our gross margins and also contribute to expense leverage. These initiatives are a major corporate priority, and we have established cross-functional teams, consisting of full-time leaders that are supported by other senior associates.

Overall, if we can make meaningful progress on these initiatives, we believe it is a realistic goal to drive our operating margin back to at least the low teens over the next few years.

Beyond these initiatives, our focus remains on the strategic initiatives we outlined back in August of last year with regard to merchandising, inventory optimization, insight and intelligence, customer engagement, optimizing expense and AUC and U.S. store closures. Through a continued focus on our key strategic initiatives, including the 2 cross-functional initiatives I discussed a moment ago, we are confident that we can drive significant and sustainable improvements in our performance.

Turning to international. As of year-end, we operated 139 stores in 18 countries. In 2012, international stores generated about $1.176 billion of sales, while overall international sales, including direct-to-consumer, represented nearly 1/3 of our business, and that was up from $264 million or less than 8% of our business 4 years ago. This growth has been and remains highly profitable, particularly in Europe, and has resulted in strong cash flow and a strong return on invested capital. We continue to believe that the underlying performance and value creation from our international business is not fully appreciated in light of the negative comps, which, in part, reflect exceptionally strong initial performance in markets like the U.K. and Germany.

Moving on to the balance sheet, we ended the year with approximately $646 million in cash and cash equivalents. Including our undrawn credit and term loan facilities, this equated to total pro forma liquidity of $1.146 billion as of February 2, 2013. So to turn to the year-end, we have drawn down the full $150 million from the term loan, and this cash will be available to supplement our operating cash flow in funding our 2013 capital allocation priorities.

For 2012, as a whole, we generated approximately $345 million of free cash flow, which is net of capital expenditures of $340 million and benefited from lower end-of-year inventory levels. Our objective for 2013 will be to generate around $300 million of free cash flow, net of expected capital expenditures around $200 million, with inventory expected to be a use of cash for the year given where we ended in 2012.

Going back to our capital allocation philosophy, it remains to be highly disciplined in allocating capital to where it will derive the greatest return on a risk adjusted basis. After allocating capital to new stores and other internal projects that provide superior returns, we continue to expect to return excess cash to shareholders.

In 2012, that meant, using rounded numbers, investing $340 million in new store openings and CapEx investments in DTC systems, IT projects and DC investments, including a new order management, warehouse management and merchandise planning systems, $322 million in share repurchases and $58 million in dividend payments. Over the past 3 years, we've repurchased 12.7 million shares with an average cost of under $47 per share. As of our last earnings call, we still had available 18.7 million shares all authorized for future repurchase. And as we've stated in the past, we will execute share buybacks when we think the stock is attractively priced on a long-term basis and where we have available liquidity while protecting our $350 million cash cushion.

So that brings us to the end of our brief prepared remark this morning. As we've stated, we are highly focused on our strategic objective of leveraging our iconic brands to build a highly profitable, sustainable global business. In the U.S., we certainly believe we can increase productivity, but also believe there is a significant margin improvement opportunity beyond that. Internationally, we expect to maintain a healthy pipeline of profitable new store openings, building on our already very strong base. And both in the U.S. and internationally, we continue to see direct as a major opportunity. So combining all of that, we expect to maintain healthy sales and earnings growth over the next several years.

Question-and-Answer Session

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Thanks, Jonathan. Could we kick off by talking a little bit about the U.S. consumer, how your consumer has been reacting to some of the various macro trends that we've seen and what you expect for 2013?

Jonathan E. Ramsden

Sure. I mean, I think that question is a little more complicated for us than maybe for some others because we always knew that February was going to be a tough month from a top line standpoint because of what we were lapping from a year ago. So as we look at February, particularly given the weather effect, which for us, again, was exacerbated, because a year ago, when it was milder, we had a ton of carryover in winter wear. This year, we have almost no outerwear, other than the new spring outerwear we're bringing in. So I think for us, it's harder to read February than maybe for others. We had always anticipated February and the first half of March would be tough from a comp store standpoint. So I think for us, it's hard to say at this point whether there are other factors impacting the business. I mean, clearly, we've read and heard what others have said, but I think we'll have better visibility on that as we get past this period, where we're lapping that heavy fall clearance selling from a year ago.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And what about the consumer environment in Europe?

Jonathan E. Ramsden

Yes. I think in Europe, generally, it's hard to generalize, first of all. I mean, we see, from a macro economic standpoint but also in terms of our own business trajectory, significant divergence within Europe, within countries sometimes in terms of how the business is evolving. I think, overall, we would probably look at Europe today and say it's -- that the environment is relatively stable or at least not getting worse, although the U.K. is clearly going through a difficult time, but we have seen some sequential improvement in the U.K. business in the back end of 2012.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And I wanted to just focus on your 2 major initiatives. First, on the cost cutting or containment initiative, what's the structure of that? Any early findings? And you -- how do you expect that to pace out?

Jonathan E. Ramsden

Well, we've said that by the end of this quarter, we will have got through what we're calling the diagnostic phase. So we have engaged outside an consultant. The project is being led internally, but we are leveraging the expertise of that consultant to help -- and their prior experience is with similar projects. So our expectation is that by the time of the first quarter earnings call we'll be in a better position to frame the opportunity, either in dollar terms or in perhaps some kind of margin rate terms. And then after that, we will be in the position to start implementing some of the changes that will come out of the process. Some of them we may need to test if they are significant changes in our operating model. I think we would want to test them for a period of time in a smaller number of stores before we would implement them across the chain. But we're hopeful that by the end of this quarter we'll be able to give more detail on and put out some broad objective as to where we think we're going to go with that initiative.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Is the primary focus stores or head office costs?

Jonathan E. Ramsden

It's both. It's oriented towards the U.S. I mean, if you look at our international store margins, they're still very strong. So we think that's less of an area of focus, and direct, obviously, has a very strong margins. So I think what has really motivated this exercise is looking at our U.S. store margins, particularly if you load in the non-four-wall costs and where they are relative to peak. And what that tells us is, if we look at our merchandise margins, they're still comfortably ahead of our peer group, we believe, when you put them on an apples-to-apples basis. But our store margins in the U.S. are below most of our competitors. So that tells us that we are investing in some expenditures which don't have return or maybe even have a negative return. And this initiative is designed to get at those issues and identify what those things are that we're investing in. If you look at the SG&A we're focusing on, occupancy is obviously harder to affect short term, so this is mainly focused on non-occupancy SG&A. The biggest components of that in that kind of variable bucket would be store payroll is the biggest piece. Second, other store variable expenses, packaging supplies, marketing. And then the next biggest component would be our home office infrastructure. So that is -- they're all part of it. And then beyond that, obviously, supply chain, DC, regional management structures and so on are all part of what we're looking at.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

You had always had a very strong and unique head office culture. Is there buy-ins for some of these cost reductions throughout the management team?

Jonathan E. Ramsden

Yes. I mean, I think, first of all, we're not calling this a cost reduction program because this really isn't what it is. It's how we are making sure that what we're investing in is are the right things and that we have -- we're operating in the most efficient way. And if that manifests itself in cost reductions, which it should probably will, but yes, that will be what it'll be. I would say there's complete alignment among the leadership team, this is an initiative that has been communicated across the company internally. And obviously, we spoke about it externally. So I think people understand very clearly internally that this is a major focus. We've taken people out of their day jobs to focus on this internally at the senior level. We've put together a very senior team of people across the business. So I think that extends a very clear signal across the organization that this is something that is very serious. We'll need the engagement of people across the organization. And I think we clearly have that level of engagement and alignment going into this.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And then moving on to the AUR program. Have you or will you test some of these higher prices with the customer? I mean, what does the customer acceptance of higher price points look like?

Jonathan E. Ramsden

Yes. I mean, I think the AUR initiative is not likely to result in ticket increases per se. I mean, our tickets need to be where they need to be based on competitors and other factors. It's more likely to manifest itself in things that we can do that enable us to be less promotional, to have a higher proportion of full price sell-through, so things of that nature rather than putting our tickets up, although it's possible that tickets could be a component of that.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Okay. Moving over to Europe, profitability obviously took a hit last year with the macro issues and the cotton costs. Where are you versus your initial plans? And have you updated your operating margin targets for your international stores?

Jonathan E. Ramsden

Well, despite everything last year, our international stores were still north of 30%, which is our long-term goal, so there was some cotton cost impact in that. We obviously had some deleverage from the negative comps. In Europe, is actually higher than that because Japan brings down the overall margin and Canada to some degree. So we're happy that we were able to end 2012, despite a difficult year in Europe in particular, still exceeding our margin objective. And that would remain our objective going forward, to be above -- at or above that 30% four-wall margin.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And you spurred your growth rate a little bit in Europe with the new store openings. What are your current target for both Abercrombie flagships and Hollisters in Europe?

Jonathan E. Ramsden

We brought the overall count down to 20 international Hollisters for 2013 compared to roughly 30 in 2012. We'll have the Shanghai and Seoul flagships will be the only flagships we'll open in 2013. It's possible that the London kids flagship could still be in '13. Beyond that, I think there are some potential additional flagships in Europe, although that's probably going to require some improvement of the overall macro environment before we would potentially do those somewhere like Rome, Barcelona, high-tourist locations that we've looked at in the past could come back onto the list. But our focus, I think, is increasingly now shifting to Asia, Middle East, Southern Hemisphere, as being the -- having additional proportionate number of the openings going forward. And I think the shift is also more to Hollister than A&F, given that what we've seen over time is that A&F flagships can have a very, very high return on investments if they perform as well as somewhere like London or Paris or Milan have. But the range of outcomes is more varied for flagships, whereas for Hollister it's more predictable. So I think that's why we've skewed a little more to Hollister going forward. But that will remain under review. And it's possible we may open some A&F stores in malls internationally that would be probably an elevated from a normal chain store but wouldn't be a full flagship concept.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Okay. How do you view your Asian opportunity?

Jonathan E. Ramsden

It's very early days, but we're very encouraged by what we've seen. We certainly -- when we opened up in China, we didn't have anything like the level of awareness when we open up in Germany or in the U.K., so the stores opened more modestly. But I think what we're excited about is the fact that all of the Chinese stores that are comping are comping positively. Hong Kong is extremely strong. Our 2 Hollister stores in Hong Kong are routinely among our top few stores around the world in terms of their daily volumes. The flagship is doing very well, so we're encouraged by Hong Kong and China. Korea, we're just getting started, but that's looking good too. So it's early days, but we feel encouraged and excited by what we're seeing. We're also very excited about going back into Japan with Hollister this summer, and clearly, if we can get some traction there, that could be a huge opportunity. And then Australia, we open our first store next month, so that, we think, is a significant opportunity.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And what were the learnings from Japan? Is that real estate? Is that brand awareness?

Jonathan E. Ramsden

I think -- I certainly think we probably were in the wrong location, and I think it's important to keep in mind that, that was something that was decided many, many years ago now. And the store does fine, and the volume is pretty good, but the rent is very high, and so it's not a very profitable store. I mean, it hovers close to breakeven. But the absolute volume is pretty good. So I think if we were doing it all over again, we probably would have been in a different part of Tokyo. And when we go on with Hollister, our strategy from a real estate standpoint is going to be somewhat different in terms of the type of location we go into, in part, so that we're not paying as high rent as we have in the Ginza flagship store. But overall, the store does well, so I don't think it's -- it does well from a volume standpoint, but it's more of a profitability issue.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Maybe we'll see if there are any questions in the audience. Microphone is coming.

Unknown Analyst

You talked about the consultants looking at non-occupancy SG&A, primarily payroll. Have you guys brought in like a payroll system in the past? And what type of systems have you used, and have you analyzed that before? Because I guess your in-store selling experience is different from other retailers, so I'm wondering if you were to lower your payroll would that perhaps impact your competitive advantage to some extent?

Jonathan E. Ramsden

Well, I think that's the question. We have a template for how we run the stores, and we run the stores in accordance with that fairly consistently. And that's based on certain tasks or a range of very specific tasks that need to get accomplished in the store. I think the question is, are the -- some of those tasks don't have value or maybe even have negative value, and figuring out which of those are. And they're not just -- a lot of things that happen in the store are a function of things that happen further up the chain in terms of how we choose to allocate, process merchandise and so on. So I think that's exactly the question, is getting into those things and figuring out which of them add value from a customer's perspective and which of them don't. And our premise, excuse me, looking at the data, is there have to be some things we're doing that aren't adding value because when we look at our overall margin in those stores, given our merchandise margins, we're clearly spending more than the competition. And some of that has value because it's enabling us to accomplish those higher merch margins, but some of it, we think the data indicates it doesn't, and that's what we're trying to get at.

Unknown Analyst

Have you guys analyzed payroll in the past few years, or it's like the first time in a while that you guys have?

Jonathan E. Ramsden

Well, we constantly look at it, and we constantly look at what are specific things we could do to bring down our expense. This is a much more -- much broader, sort of more holistic look that we're taking than we've taken in the past. We've always been more sort of small siloed. This is across the whole company.

Unknown Analyst

I had a follow-up question. Can you explain or help us understand a little bit more about the AUR and the opportunity to improve the markdown? Just help us understand what's different now versus what you were doing.

Jonathan E. Ramsden

Sure. Would you like to, Brian?

Brian P. Logan

Sure. I think one of the initiatives we have is our customer relationship management database, and that's something that we instituted earlier in 2012, and we're starting to expand the context that we have in that database. And that's going to be one of the things, levers that we think we can tap into to help with the AUR. That should help us be more personalized with our messages, more streamlined with our promotions, so we're not doing a broad-based promotion that we typically see in today's store environment. The promotions are usually advertised on front of store, they're available to everyone. The CRM can help us be more specific, and those promotions be more personalized with our messages to our consumers. So that's one potential lever that we might be able to pull. And again, we're looking at AUR in terms of optimizing it, probably not focused as much on raising tickets but just figuring out how to be smarter with how we do our promotions.

Unknown Analyst

And then a follow-up on that, are you going to do any changing of planning and allocation in terms of stores getting different assortments? Because right now I'm pretty sure that all stores get the same assortment.

Jonathan E. Ramsden

No, there are different tiers of stores which get different assortments. So they are indeed -- and that's primarily based on volume that the store is achieving. But those types of things will be things that we'll look at as part of this process.

Unknown Analyst

Last year, you guys lost money in the first quarter and you're guiding to a slight loss this here this first quarter, is there anything structurally different about your annual cadence or anything seasonally?

Jonathan E. Ramsden

Well, one of the things that affected this was obviously the move to the cost method which hurts the first quarter relative to the other quarters, because typically, in the first quarter, under the retail method, we would've had -- the markdowns would have been taken on that full carryover inventory at the end of the fourth quarter of the preceding year. So that is clearly the primary reason that the restated Q1 goes down from I think it was a $0.03 profit under the retail method to a $0.25 loss under the cost method. So there's a shifting within the year because of that markdown reserve, under the retail method, essentially pulling forward markdowns at the end of the season and, to some degree, at the end of the first and third quarters. Does that answer the question, Paul [ph]?

Unknown Analyst

Yes.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Maybe just a follow-up on the inventory accounting change, does that help you plan the way you think about the business? Are there any pluses? Obviously, you're moving to the method that most other retailers do, but is there anything we should look for that would actually help you in the way you run your business from this change?

Brian P. Logan

Yes, and I think it's a bit -- it has more to do with the system changes that we've done rather than the conversion to the cost method for external reporting purposes. We did implement a new merchandise planning system. The old system was -- the focus was more on our initial markup. The current system, the focus is more on selling margins, so what you're actually selling it for versus what you bought the merchandise for. And I think the other difference with the new system is we're planning at a more granular level in terms of how we're segmenting our store business, and that should help as well, so I think by shifting the focus to selling margin and planning at a little bit more granular level on a store basis, that should help us be able to analyze what we're doing, be able to plan our inventory assortment, our inventory markdowns and our cadence a little bit better as we go through and actually seeing what those margins are, the selling margins are -- hopefully, that'll be smarter on the merchandise planning side with how we're doing our promotions.

Unknown Analyst

Jonathan, could you speak a little more to the diagnostic work that your consulting team is doing? In particular, are they looking solely at processes and tasks and so forth? Or is there -- are they able to look and diagnose an issue, say, relative to the brand, whether the brand needs to be updated, anything like that? Or is that off-limits from what they're doing?

Jonathan E. Ramsden

It's looking at where we invest our SG&A. So I think it's more the former. If I understand your question correctly, it would be more the former.

Unknown Analyst

Yes, I'm just trying to see whether considering updating the brand is at all something you're thinking about.

Jonathan E. Ramsden

What do you mean by updating the brand?

Unknown Analyst

To make it more relevant to kids nowadays.

Jonathan E. Ramsden

Well, I think that's, obviously, a constant area of focus. In terms of the customer experience, we are clearly forward-looking on things we could or should do differently. An example being the test we've been running with the shutters. So we took the shutters down in 20 to 30 A&F store so that people would see into the store to see what that would do. That first phase actually produced a pretty positive result in those stores. The next phase is now to -- rather than just take the shutters down, to actually now use that space to more proactively merchandise it. So that would be an example of something we have done and are looking at, which would affect the customers' experience of the brand. And I think we're absolutely open to looking at those types of things. From a marketing standpoint, that's something that we are continuing to invest in and will be a focus going forward.

Unknown Analyst

Can you talk a little about the last year inventory [indiscernible] 36% down in inventory? Was that implied in your plan [indiscernible].

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Can you repeat the question?

Unknown Analyst

Yes. Can you talk about your inventory? It was down 36%. Sort of was that in line with plan? And if you can't comp in Q1 because you lack inventory, sort of why did you guys go with that plan? And also, in transit versus the store.

Jonathan E. Ramsden

Yes, I mean, there's 2 components. So firstly, fall inventory was always planned to be significantly down because we obviously had way too much of that at the end of 2011. And we knew that, that would have some impact on sales in Q1. But from a margin standpoint, we'd get a very favorable mix effect out of that, so the gross margin rate, we expect to be up very strongly in Q1 as an offset to the likes being down because of that lower fall carryover. From a spring standpoint, we did have some receipts that were late coming in, which did somewhat artificially depress the end-of-year inventory level, and they are sort of slowly coming in and we're getting back to having the right levels of spring inventory. So that was a little bit of an effect, it was really more of a timing issue than anything, else, but it was a little low than we would have planned.

Brian P. Logan

And I'll make one other point as well. The mid-30 decline in inventory does include a significant AUC benefit year-over-year. So on a unit basis, it would -- the decline wasn't as significant as that.

Unknown Analyst

[indiscernible].

Brian P. Logan

Transit, I think, was lower. It was a contributing factor as well, and I think that has to do with some of the delays in the spring deliveries as well.

Unknown Analyst

And you mentioned on the last call that fashion was starting to sell out, some of the new spring product that you brought in. Is this something that we should expect to see, fast return, leaner inventories, to drive your margin? Or was this just -- did this have to do with the later deliveries?

Jonathan E. Ramsden

No, we would certainly hope that, that would be the case. I mean, I think one of the ways we can get our AUR up is having a higher proportion of full price sell-through. So hopefully that's something that -- with our merchandise initiatives and the AUR initiative that we would continue to see.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Just a follow-up on that. Because on the call, I wanted to understand, it seemed like you wanted to go deeper in certain categories instead of turning faster and selling out of some of like the key fashion items. Is there a strategy change at all, like where you might actually switch to being more like embrace selling out of certain fast-turning items and trying to just replace that frequently?

Jonathan E. Ramsden

Well, I think it's a combination, whether you're buying deep into things that we really believe in and then having some fashion items that turn very fast. So I think it's a combination of both.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

But no change to historically how you looked at inventory in the past?

Jonathan E. Ramsden

I mean, I think not a dramatic one, no.

Brian P. Logan

I think on the call, the question was around -- it surrounded spring inventory levels that we currently had at the time, and the question was whether we thought we were not deep enough or our assortment was too narrow. And I think the response that Mike gave was that he thought that we weren't -- we just weren't deep enough. That we had the right assortment. So there's -- in response, it was a point-in-time question.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Can you give us an update on the Gilly Hicks brand, how it's doing domestically versus overseas, and then any growth plans?

Jonathan E. Ramsden

Yes. I mean, I think when we look at Gilly, what we feel we have accomplished is we've acquired a lot of expertise in the intimates category over the past few years. The challenge is, obviously, we have limited brand awareness, still, because we still only have a very small store footprint. But a couple of things we've been very encouraged by are we've been selling some Gilly product in Hollister stores, and that's been doing well and we believe is largely incremental. And then we've also been selling Gilly through the Hollister and A&F DTC sites, so you can click through to Gilly, and that also has been doing well. So that does suggest to us that awareness is key going forward. So what we're looking at is how can we drive better awareness without necessarily investing a lot of CapEx in opening a lot more stand-alone stores, particularly in the U.S. Structurally, the U.S. stores we have, the other challenge is that they are the wrong size, so they're uneconomic because they're a much bigger footprint than what we would want for our -- in our current assortments, so that's a bit of a challenge from our four-wall profitability standpoint. The international stores are tracking along nicely. They're certainly more productive than the U.S. stores. So we're sort of weighing all that and figuring out how we'd leverage what we've learned and accomplished so far without necessarily spending a huge amount of CapEx in terms of building out more stores.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And do you have the space in the U.S. Abercrombie and Hollister stores to add a small shop in shop?

Jonathan E. Ramsden

What we're doing today in a number of Hollister stores, it's a fairly limited assortment. One of the question we're looking at is could we expand that and have a slightly broader Gilly assortment within some Hollister stores, for example, or potentially across the Hollister chain.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And then direct-to-consumer. You mentioned that as being a big growth channel. Are there a lot of investments that you need to make to continue to grow that business at the current pace?

Jonathan E. Ramsden

I mean, I think that there will be ongoing investments. Some of the bigger ones we've made are enabling fulfillment within Europe, was extremely significant to us in terms of driving the direct business. That was switched on October, November 2011. And after that, we saw very rapid growth in the direct business which may, by the way, have been a contributing factor to the negative store likes that we saw in Europe as the direct business was really growing very fast and people who chose to shop in that way, it was easier and quicker and less expensive for them to do that. So at some point, we will have the same in Asia. That will be an investment we need to make. And we would expect to see a similar benefit when we're able to do that. We have a new order management system, which is going into place, and you have a warehouse management system related to the direct-to-consumer business. So there are some big investments we are either through or in the middle of, but we would assume there are likely to be more, going forward, cross-channel-type investments and so on.

Brian P. Logan

Yes. I think that we're seeing in that space that, that's an area where shipping and handling is becoming more challenging. And we're spending a little bit more money on paid search as well, particularly in our international markets. So that's an area where we've seen some increased spend as well.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And we've noted a wide price differential between your product here versus abroad. With the growing penetration at e-commerce, do you think you'll be able to maintain those types of differentials?

Jonathan E. Ramsden

Yes. I mean, I think if you look at Hollister, the differential is smaller than for A&F, and that's -- partly, for A&F, it's skewed because there's more flagship products, obviously, in the flagship stores. From an e-com standpoint, people cannot buy from the U.S. site and ship internationally. And they can't even really get to it pretty easily. So if you're shopping in the U.K. or Japan, you're going to get directed to a site that is local currency and reflects our local store pricing. I think given where the premiums are internationally, particularly for Hollister, we don't see that as being a significant issue. I think people understand that things are typically less expensive in the U.S. than they are in Europe across the range of consumer goods. So we don't really regard that as a specific issue. And then from a logistical issue, because the customer can't go on the U.S. site and order and ship to Europe, we kind of ring sense it that way.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

And then how has your brand awareness been in Asia? Is that growing as you've opened some of the larger A&F flagship stores?

Jonathan E. Ramsden

Yes. I mean, we would certainly believe it is growing. It probably started off higher for A&F than for Hollister. In Hong Kong, I think it was pretty good when we opened, at least on the Hong Kong side. One of the most encouraging stories we've had in Asia has been the Festival Walk mall, which is on the Kowloon side. It started off well, and then it's just build and build and build, which we would attribute to growing awareness among that segment of the population in Hong Kong. And then in China, the stores are all comping positively, which we would attribute to growing awareness and familiarity with the brand.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

We have time for one more.

Unknown Analyst

On the China store side, how do you avoid, I guess, what happened in Japan, where you have a good-volume store, but then the rents are pretty pricey. How do you avoid that situation in these prime Chinese locations? Or is that something that you would have to kind of absorb near-term in order to build your brand there?

Jonathan E. Ramsden

Well, I think it's going to be a mall-based rollout in China. We can get a good read on what the volumes should be. We think we should have the productivity over time to be competitive and profitable in those markets. So we have to make it work and achieve our 30% four-wall objective. We feel good about our ability to do that based on what we've seen so far.

Lorraine Maikis Hutchinson - BofA Merrill Lynch, Research Division

Great. With that, I think we're about out of time. Thank you very much.

Jonathan E. Ramsden

Thanks.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Abercrombie & Fitch's Management Presents at 2013 Consumer & Retail Conference (Transcript)
This Transcript
All Transcripts