ANN's (ANN) CEO Kay Krill On Q2 2014 Results - Earnings Call Transcript

Aug.22.14 | About: Ann, Inc. (ANN)

ANN INC. (NYSE:ANN)

Q2 2014 Earnings Conference Call

August 22, 2014 8:30 am ET

Executives

Judy Lord - VP, IR

Kay Krill - President, CEO

Mike Nicholson - CFO, COO, EVP

Analysts

Lorraine Hutchinson - Bank of America

Tracy Kogan - Wells Fargo

Neely Tamminga - Piper Jaffray

Susan Anderson - FBR Capital Markets

Simeon Siegel - Nomura Securities

Jennifer Black - Jennifer Black & Associates

Liz Dunn - Macquarie

Brian Tunick - JPMC

Adrienne Tennant - Janney Capital Markets

Richard Jaffe - Stifel

Betty Chen - Mizuho Securities

Dana Telsey - Telsey Advisory Group

Operator

Good morning, ladies and gentlemen, welcome to ANN INC.'s Second Quarter 2014 Earnings Conference Call. At the request of the company, today's conference is being recorded. If you have any objections, you may disconnect at this time. Following the prepared remarks by the company, you will have the opportunity to ask questions.

I would now like to turn the call over to Judy Lord, Vice President, Investor Relations. Please go ahead.

Judy Lord

Thank you, Shirley, and good morning, everyone. Thank you for joining us. I'm here with Kay Krill, ANN INC.'s President and CEO; and Mike Nicholson, our Chief Operating Officer and CFO.

Kay will lead off with an overview of the second quarter performance and provide a brief update on our 2014 strategic growth initiatives. Mike will then review our financial results in more detail and provide our outlook for the fiscal third quarter and full year of 2014. After that, we'll open it up for your questions.

Before turning it over to Kay, we'd like to remind you that our discussion this morning includes forward-looking statements, which are subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements reflect the company's current expectations as of August 22, 2014, concerning future events and are subject to a number of factors and uncertainties that could cause actual results to differ materially.

And with that, I'd like to hand it over to Kay.

Kay Krill

Good morning everyone. Thank you for joining us to review our results for the second quarter of 2014 as well as our outlook and strategic growth initiatives for the year.

As we reported this morning, our results for the quarter were slightly better than the outlook we provided earlier this month. As we said at that time, while the quarter started out on a positive note with solid momentum through mid-June, the second half of the quarter proved more challenging.

Softer traffic levels pressured the top line and as we took action to clear summer product in a highly promotional environment, our gross margin rate was more negatively impacted than anticipated.

Specifically, sales for the quarter were $649 million up from $638 million in the second quarter last year. Comparable sales for the company were down 2% from the second quarter of last year reflecting an increase of 1% for the Ann Taylor brand and a decrease of 4% for the LOFT brand.

Gross margin rate for the quarter was 52.4%. SG&A for the quarter totaled $285 million reflecting continued disciplined expense management and savings associated with our first quarter restructuring. On the bottom line, EPS was $0.70 per diluted share. Let's now turn to the brands.

First, Ann Taylor, comps at Ann Taylor were up 2% and partially offset by a decline of 2% at factory. At Ann Taylor, the positive comp reflected a strong client response to the offering, which drove higher full-price sellthrough and higher DPT and AUR despite lower mall traffic. We also benefited from the mixed shift at Ann Taylor as we have increased our offering of refined separates.

From a product standpoint, Ann Taylor's fashion and novelty offering was well received. In fact, we increased the penetration of fashion across the offering and this strategy was successful. We saw strength across the offering with suits, jackets, skirts, pants, outerwear, sweaters, woven tops, jewelry, handbags and shoes all up on a comp basis.

In addition, the weddings collection performed extremely well online. Ann Taylor's color, print, pattern offering resonated well with our clients. Novelty fabrics were standout, including Lace, Jacquard, Seersucker and Eyelet. And she responded to the color palette of summer white, navy, ivory, khaki and black accented by pinks, blues and red. In prints, polka dots, stripes and nautical inspired patterns were among the highlights.

From a marketing perspective, Ann Taylor continues to be very strategic in its investment focusing its resources on those areas where we are seeing the greatest return. We have been particularly pleased with the success of our digital campaigns, which are engaging our clients in new ways and providing opportunities to reach the next generation of Ann Taylor clients. We look forward to continuing our progress this fall with targeted outreach that continues to highlight the fashion, versatility, and modern sophistication of the Ann Taylor brand.

Now turning to factory, overall performance strengthened sequentially from first quarter including a 5-point improvement in the sales comp. Total sales for factory for the second quarter increased 3% compared to the second quarter of 2013 despite soft traffic in a highly promotional environment. Importantly, we have entered third quarter with very clean inventories that are conservatively positioned for the fall season. Our focus is on continuing to maximize the bottom line contribution from this profitable channel.

Looking ahead, despite a challenging retail environment, Ann Taylor delivered positive comps in the first half of the year and we are focused on optimizing full price sellthrough driving positive comps and increasing productivity.

Fashion and versatility will continue to be the cornerstones of the offering. Refined separates, suits and dresses that transition from the office to her after work and weekend needs will anchor the assortment complemented by a great selection of shoes, handbags and jewelry.

Our color focus is on grey, black, navy, and ivory accented by tones of deep red, plum and shades of blue. In addition, the offering will include a higher novelty component than last year which has been a success factor all spring. Overall, we were pleased with the performance of the Ann Taylor brand during the second quarter and are focused on delivering positive performance in the fall season.

Turning now to LOFT. Comp sales decreased 5% at LOFT and were slightly positive at LOFT outlet. Despite a positive start to the quarter, LOFT performance was much softer than anticipated. Traffic was certainly an issue particularly in the latter part of the quarter. We also experienced continued weakness in knit tops which represented approximately 20% of the assortment in the second quarter.

Excluding the knit top category, comp sales for the LOFT for the quarter would have been 4 points better. Importantly, based on the early reads during the spring season, we adjusted our inventory in this category for the third and fourth quarters to be down substantially from last year while increasing our investment in woven tops as well as Lou & Grey. Also bear in mind that knits peak as a percentage of the offering in the second quarter and as historically become less important in the fall season.

Also during the quarter, with the high level of promotional activity across the industry, we felt the impact on gross margin as we moved to successfully clear through the summer inventory.

Turning to product, LOFT fashion offering performed best with color and novelty generating a strong response. Lou & Grey skirts, casual pants, shorts, woven tops, maternity, beach and swim all sold well. LOFT coloring offering of blues, chambrays, indigo, pinks, navy, ivory and white all performed well. In print and novelty, Lace and Eyelet stripes in geometric prints were among the standouts.

With respect to marketing, LOFTs campaigns continued to focus on engaging clients across multiple channels to drive broader brand awareness attract new clients and increase our share of wallet, all while delivering a seamless brand experience. We continued to add significantly to LOFTs active client file and have seen good success with our more personalized outreach. We look forward to continuing to strengthen and expand the universe of loyal life clients.

Turning now to LOFT outlet. Total sales for the second quarter were up 16% and comp sales were slightly positive. Higher UPTs and conversion helped contribute to a solid gross margin rate notwithstanding the highly promotional environment. LOFT outlet is positioned for the fall season with conservative inventory levels. We look forward to continuing to maximize its profitability and contribution to the bottom line.

Looking ahead, LOFTs fall offering emphasizes the components that have been successful so far this year including fashion, novelty, print and color all of which will have a higher penetration than last year. As I mentioned, we also invested more in Lou & Grey and woven tops and lowered our investment in the knit top category. These changes should better position LOFT for the fall season. Overall, we are highly focused on delivering stronger comp performance and increased profitability at LOFT during the fall season. Before turning it over to Mike, let me spend a few minutes providing an update on our 2014 growth initiatives.

We are making good progress on all fronts and are excited about the opportunities these initiatives provide to contribute to ANN INC.'s continued long-term growth. First, very briefly, we are pleased with our progress on our realignment. We are now better positioned to optimize brand growth across channels and to service our client in a seamless way. Second, Omni-channel, as you know, a key objective of our team is to enhance the overall eCommerce experience for our client to further strengthen our competitive position in an Omni-channel world.

We are continuously improving our Web platform with a focus on improving site speed, functionality and our clients buying experience. Toward that end, during the quarter we completed a series of upgrades to the client facing portions of both our Ann and LOFT sites as well as some improvements to enhance information capture from both sites.

In addition, we are on track to launch an improved mobile capability for both brands early this fall. Approximately a third of our eCommerce traffic is driven by mobile, though the opportunity to improve conversion should be meaningful to our bottom line.

Longer term, we continued to prepare for Phase II of our Omni-channel strategy, which will give our client access to our online product from the store environment. Overall, we feel good about the progress we are making and are excited about the opportunity ahead to drive top and bottom line growth through these initiatives.

Third, real estate, we continue to be strategic and how we are managing and growing our store fleet in today's environment. At LOFT, we continue to selectively expand the brands footprint with the focus on small to mid-size market. At Ann Taylor, our primary focus remains on optimizing productivity of the fleet.

Fourth, international, we have continued our expansion in Canada opening three new LOFT stores during the quarter bringing us to a total of 13 stores in Canada. Our expansion into Mexico is also proceeding on plan. We expect to open our first three LOFT franchise stores this fall. We are excited about the opportunities to reach a new client base and broaden our geographic reach.

Finally, Lou & Grey. We continue to be very pleased with the response we are seeing. The offering is both resonating with existing clients and attracting new clients. As I noted on our last call, Lou & Grey has been carried in all LOFT stores online and a dedicated micro site and our first Shop-in-Shop in Westport, Connecticut. We are on track with our plans to open additional locations in Boston, Chicago, Atlanta, Dallas, Raleigh and LA in October and November.

The locations offer a good representation across various regions store types and size to further test the concepts. Overall, we continue to be excited about the significant potential of Lou & Grey, and we look forward to keeping you apprised of our progress.

In summary, while it was a challenging quarter, we continue to make significant strides in connection with our long-term objective. To be our client's go to destination to meet all of her wardrobe needs from the day-to-day to the special moments that count and through every dimension of her life by offering her a full selection of merchandise with style, quality and value through our brands. To be there for her whenever and wherever she chooses to shop with a seamless brand experience to expand our client base in geographic reach with our growing international presence including entry into Mexico this fall and to deliver consistent growth and increased value for our shareholders. We look forward to continuing our progress and building on the strong foundation we have in place.

Before I turn it over to Mike, I want to acknowledge our 20,000 associates for their commitment to ANN INC. We were recently named a recipient of Gallup's Great Workplace Award for 2014. This award recognizes organizations around the world for having the most highly engaged work environment. I am very proud of our team and the culture we have created here at ANN INC., a big thank you to all of our associates.

And now let me turn it over to Mike.

Mike Nicholson

Thanks Kay and good morning everyone. Today I'll start with a summary of results for the second quarter 2014 and then I'll provide you with some perspective on our outlook for the third quarter and our updated outlook for the full year.

Beginning with net sales, net sales for the second quarter were $648.7 million, an increase of approximately 2% versus the $638.2 million in net sales reported in the second quarter of 2013. By brand, net sales across all channels of the Ann Taylor brand were $250 million a 2% increase over the $245.2 million reported last year. At the LOFT brand, net sales were $398.7 million up 1.4% versus $393 million reported last year.

Moving on to comps, total company comparable sales for the quarter decreased 2.3%. At the Ann Taylor brand, total brand comps increased 0.7% reflecting an increase of 2% at Ann Taylor partially offset by a 1.9% decrease in the factory channel. At the LOFT brand, total brand comps decreased 4.1% reflecting a decrease of 5.2% at LOFT partially offset by an increase of 0.3% at LOFT outlet.

Turning to gross margin, we delivered a second quarter gross margin rate of 52.4% compared with last year's rate of 54.7%. This performance reflected lower merchandise margins resulting from higher than anticipated promotional activity as we made efforts to clear through summer inventory in the soft traffic environment ahead of the important fall selling season.

Turning now to SG&A, despite year-on-year square footage growth of approximately 3% our second quarter 2014 SG&A expenses up $284.7 million reflect a nearly 2% decline from the $289.3 million reported in the second quarter of 2013. SG&A as a percentage of net sales was 43.9% a 140 basis point improvement compared with 45.3% in the second quarter of last year. The improvement in SG&A rates during the quarter primarily reflected reduced marketing and performance based comp expenses as well as savings associated with our March 2014 restructuring partially offset by costs associated with store growth and other expenses supporting the expansion of the business.

Moving down the P&L, operating income during the second quarter was $54.9 million compared with operating income of $60 million in the second quarter of 2013. Net income for the second quarter was $32.7 million compared to net income of $35.6 million achieved during the second quarter of 2013.

Diluted earnings per share in the second quarter was $0.70 compared to the $0.76 earned in the second quarter of 2013. Weighted average diluted shares outstanding for the quarter decreased 0.4% to 45.9 million shares versus 46.1 million shares in the second quarter of 2013 primarily reflecting the weighted average impact of our repurchase of approximately 1.3 million shares in the second quarter of 2014.

Our effective tax rate for the quarter was 40.3% versus 41.1% in the second quarter of 2013. Depreciation and amortization in the second quarter totaled approximately $27 million compared with $26 million reported in the second quarter of 2013. And finally, capital expenditures in the second quarter totaled $30.3 million compared with $31.4 million in the second quarter of 2013.

Moving on now to the details of our quarter end inventory. We ended the second quarter of 2014 with total inventory per square foot for the company up 1% compared with last year which reflected a 10% increase at Ann Taylor and decreases of 2% at LOFT and 2% in the factory outlet channel.

As we mentioned in today's release, the increase in Ann Taylor's inventory per square foot was primarily due to a shift in the timing of fall merchandise receipts as well as a change in merchandise mix. Importantly, both Ann Taylor and LOFT entered the third quarter with approximately 90% of their inventory representing fresh, fall product.

Turning now to store openings and closures. During the second quarter of 2014, we opened a total of 17% stores comprised of 6 LOFT stores, 9 LOFT outlet stores and 2 Ann Taylor factory stores. We closed a total of 9 stores during the quarter comprised of 3 Ann Taylor stores and 6 LOFT stores.

At the end of the second quarter, we had 1040 stores comprised of 261 Ann Taylor stores, 113 Ann Taylor factory stores, 544 LOFT stores and 122 LOFT outlet stores. Our stores square footage at the end of the second quarter totaled approximately 5.9 million square feet, a net increase of 2.6% compared to the total square footage at the end of the second quarter of 2013.

For the full year of fiscal 2014, we expect to open a total of approximately 50 new stores including store openings in both the U.S. and Canada. By brand, during the year we expect to open a total of approximately 5 Ann Taylor stores, 10 Ann Taylor factory stores, 15 LOFT stores, 15 LOFT outlets and 5 Lou & Grey stores. Year-to-date, we opened 30 new stores and expect to open the remaining 20 stores in the back half of the year.

Regarding store closures, we expect to close approximately 40 stores in total this year. 15 stores have closed thus far in the first half of 2014 and we expect to close the remainder in the back half of the year with the majority of the remaining closures expected to occur at the very end of the fiscal year. And as always, we will continue to manage our real estate portfolio to maximize store profitability and ensure brand presence in key regions and markets.

In terms of our strong balance sheet, we ended the quarter with $150 million in cash and cash equivalents and no bank debt after the repurchase of approximately 1.3 million shares of our common stock at $50 million. Following this activity, we had approximately $200 million remaining under our existing share repurchase authorization. And looking ahead, we fully expect to continue to use our strong balance sheet and free cash flow to further enhance shareholder value as we move through the remainder of 2014 and beyond.

Turning now to our outlook for the third quarter and full year of 2014. For the third quarter of 2014, we expect total net sales to be $670 million reflecting total company comparable sales that are flat to slightly negative. Our gross margin rate performance is expected to be 54% and selling, general and administrative expenses are expected to be $300 million.

Our total weighted average diluted share count for the third quarter is expected to be 46.2 million shares which includes the effect of participating securities.

In terms of the full year, our outlook is as follows. We expect fiscal 2014 total net sales to be $2.560 billion reflecting flat total company comparable sales. Our gross margin rate performance is expected to be 52%.

Total SG&A expenses in fiscal 2014 excluding the first quarter pre-tax restructuring charge of approximately $17 million are expected to be $1.175 billion essentially flat with SG&A expenses of approximately $1.173 million in fiscal 2013. Our 2014 effective tax rate is expected to be 40%.

Capital expenditures are expected to be approximately $120 million and this reflects the following investments. First, $40 million in support of approximately 50 new stores for both brands, second, $20 million to support approximately 20 downsizes and remodels. Third, $30 million for store renovation and refurbishment programs, and finally, $30 million to support continued investment in information technology including investments to support our Omni-channel capabilities.

Our total weighted average square footage for fiscal 2014 is expected to increase by approximately 2% and we expect to end the year with approximately 1035 stores. Regarding our share count, we anticipate that our full year weighted average diluted shares excluding the benefit of any potential future share repurchases will be approximately 46.9 million shares for 2014.

Note that this figure includes the impact of approximately 1 million participating securities that should be incorporated into your models for the purpose of EPS calculation. And finally, we expect to continue to maintain our healthy balance sheet including a disciplined approach to inventory management throughout the fiscal year.

And with that, I will turn it back to Kay.

Kay Krill

In conclusion, our team is focused on the many opportunities ahead to build on our position as the go-to-wardrobing destination for women with style. We continue to make progress on our strategic growth initiatives which offer significant potential to further expand our brand, broaden our client base and drive long-term growth and as always we are highly committed to further enhancing shareholder value.

With that, let's open it up to questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) The first question comes from Lorraine Hutchinson with Bank of America. You may ask your question.

Lorraine Hutchinson - Bank of America

Thank you. Good morning everyone.

Kay Krill

Good morning.

Mike Nicholson

Good morning.

Lorraine Hutchinson - Bank of America

I wanted to ask about your thoughts on the future of the knits business at LOFT, what kind of a role will that play next year? And is there a similar path, I know at Ann Taylor you have really changed the way you think about basics, is there an opportunity to do that at LOFT by adding new fabrications and new embellishments?

Kay Krill

Okay. Well, as acknowledged Lorraine, we did have a disappointing second quarter in LOFT, and knits represent the highest penetration in the second quarter for LOFT at about 20% and this category has been trending down the entire spring season. However, we really noticed at the beginning of the first quarter, so we significantly increased our investment in woven tops and Lou & Grey, which have been successful this entire year. So I think that we are on it. The third and fourth quarters are less meaningful in the knit top category and we think we are definitely in an woven cycle for sure right now.

The thing about the knit tops is fashion knit tops such as mixed media, which is knits mixed with woven are selling well. So it's about – it's truly about the basic component of it. So we are down ticking that and thinking that way as we head into spring and summer as well. Excitingly, we were – we have upticked – the fashion component of both brands for the back part of the year. Fashion represents in the LOFT brand a 30% increase over last year, so we are less reliant on basics in general. And in Ann Taylor, it's up 20% over last year becoming less reliant in basics.

So I think we are on the right track to mitigate this issue right now and look forward to the fall season and think our investments are in better shape.

Lorraine Hutchinson - Bank of America

Thank you.

Operator

Thank you. Your next question comes from Paul Lejuez with Wells Fargo. You may ask your question.

Tracy Kogan - Wells Fargo

Thanks. It's Tracy Kogan filling in for Paul. My question is on gross margin, can you talk about the gross margin by division, and was it really only the LOFT stores channel that saw the decrease in gross margin or did other channels experience a decrease as well? Thanks.

Mike Nicholson

Tracy, its Mike, thanks for the question. I think it's fair to say that there was gross margin pressure across the business broadly, but to a greater degree we did experience significant pressure in LOFT in particular in the basic knit top category.

Tracy Kogan - Wells Fargo

Then how about within the outlet channel, what did you see there on the margin side?

Mike Nicholson

Fair question. So as we talked about on the first quarter call, we did say that we expected a pretty significant margin rate pressure in the second quarter as we were clearing through units. Recall going back to the fall season last year, we positioned the business in the back half of 2013 and the first half of 2014 to deliver a positive comp performance that we did acknowledge on the first quarter call that we did expect to realize rate pressure in the second quarter as we cleared through units.

I think our inventory positioned at the end of the second quarter is clear evidence that we did clear through units at the factory channel. We entered the third quarter with cost down 2 and units down even slightly more than that. So we are incredibly comfortable with the unit position going forward. And we expect to realize improvement in rate in that channel as we anniversary the rate compression from last year.

Tracy Kogan - Wells Fargo

Great. Thanks a lot.

Mike Nicholson

Thank you.

Operator

Thank you. Your next question comes from Neely Tamminga with Piper Jaffray. You may ask your question.

Neely Tamminga - Piper Jaffray

Great. Good morning for Kay or for Mike. As we think about kind of more and more business headed towards online, I'm just wondering as you guys as an organization how are you thinking about your overall fleet and fleet size. What sort of additional insights can you provide for us about additional rigor you might be putting into place around how big the overall chain really could or should be? Thank you.

Mike Nicholson

Thanks Neely for the question. I think it's fair to say that we as well as the industry more broadly are really embracing this concept of the Omni-channel customer. And really looking at what is the necessary fleet size required today and moving forward to support our business. We talked about this historically in terms of how we think about fleet size by channel. We actually think that there is a square footage growth opportunity for LOFT moving forward. We ended the quarter with slightly shy at 550 stores and we believe we have a clear pathway to 600 stores over time with a vast majority of those stores coming from small and mid markets where we don't have a presence today.

In fact, we actually see a lift in eCommerce sales when we enter a market where we don't have a physical brick and mortar presence. I think the reality is, as we think about Ann Taylor over time there will likely be square footage that will come out as that core client that professional client is shopping more and more on the Internet and with her smartphones. So I think the reality is moving forward, we're going to see square footage growth moving towards 600 stores at LOFT and likely square footage come out of the Ann Taylor full price chain.

Neely Tamminga - Piper Jaffray

Thank you.

Mike Nicholson

Thank you.

Operator

Thank you. Your next question comes from Susan Anderson with FBR Capital Markets. You may ask your question.

Susan Anderson - FBR Capital Markets

Hi, everyone, good morning and thanks for taking my question. I was wondering if you could give us an update on your supply chain initiatives such as speed to market, improved logistics and nearshoring and when we could potentially start to see benefits from that and the potential pricing? Thanks.

Mike Nicholson

Sure. Thanks Susan. As I mentioned on the first quarter, our focus in supply chain is really focused on speed and flexibility in order to enable us the business the merchants and designers to respond faster to fashion trends and client demand. And while we are committed to continue to focus and focus on cost containment, we believe that the real value unlock is with faster speed to market, enhanced flexibility and we're incredibly focused on providing the business much more efficiency on the logistics and distribution side of the house.

We're really embracing broadly this concept of test and learn, read, react and chase again I think we've demonstrated historically our commitment to not invest ahead of success we want to demonstrate success in value unlock first and with greater speed and flexibility that should enable the business to drive, higher or greater full price product acceptance and higher gross margin rate realization over time. I think it's fair to say that it is a multi-year journey, we’re in the early innings of this game, but we're optimistic encouraged by what we're seeing.

Susan Anderson - FBR Capital Markets

Great, thank you.

Mike Nicholson

Thank you.

Operator

Thank you. Your next question comes from Simeon Siegel with Nomura Securities. You may ask your question.

Simeon Siegel - Nomura Securities

Thanks. Good morning guys.

Mike Nicholson

Good morning, Simeon.

Kay Krill

Good morning.

Simeon Siegel - Nomura Securities

Mike, if my math is right, it looks like the full year guidance implies low to mid single digit Q4 comps. Can you talk about your confidence there, any color on current trends and I guess may be where you'd expect that 4Q comp growth to come from by segment? Thanks.

Mike Nicholson

Sure. In terms of early third quarter trends at this point as we mentioned for the third quarter what we're seeing really is first few weeks on August is more like July and its tough, but I think its important to say that the vast majority of our quarter 80% of it is ahead of us. And it's really about September and October selling as it relates to our third quarter guide.

In terms of the fourth quarter you're right, our view for the fourth quarter does imply a low single-digit positive. And as we think about last year we did see significant AUR pressure as we cleared through inventory and we think that there is an opportunity to realize some improvement year-on-year in AUR and in particular we're optimist that we'll be able to drive improved comp growth performance in the factory outlet channel.

Kay Krill

Also to, I just want to pipe in and say that, as I said earlier we do have more fashion and novelty for Q3 in both brands compared to last year and both have been positive contributors to the business year-to-date. And I think you asked also about product trends, I think. So I just wanted to highlight real quick about what we're seeing so far in August in LOFT is that Lou & Grey continues to be very strong in all categories woven tops and blouses, skirts, the new sweatshirt and then moto influences and pants and jackets are really sort of taking the place of denim right now.

Our strength is in the moto influence pant and short dresses. And in Ann, pants with leather trims, woven tops and shirts are strong there as well jackets, I think every jacket is selling, jewelry, textured sweaters and novelty pencil skirts. So we do have a lot of really good indicators with the majority of our fall deliveries hitting stores next week. So I think we'll know more post Labor Day.

Mike Nicholson

And Simeon, one more thing I'd layer on since you asked about the implied guide of framework for Q4 comps. I'd say from a gross margin rate perspective that we've been appropriately conservative and what has proven to be an incredibly promotional environment during the first half of the year. So we have protected ourselves appropriately. What we anticipate will be a promotional environment in particular in the fourth quarter and we're hopeful that the outcome that we're able to deliver a better outcome over time.

Simeon Siegel - Nomura Securities

Great, thanks a lot guys. Good luck for the back half.

Mike Nicholson

Thank you.

Kay Krill

Thanks.

Operator

Thank you. Your next question comes from Jennifer Black with Jennifer Black & Associates. You may ask your question.

Jennifer Black - Jennifer Black & Associates

Good morning, and thanks for taking my question and then I love your ad campaign in all those September issues especially for the Ann Taylor brand.

Kay Krill

Great, thanks Jennifer.

Jennifer Black - Jennifer Black & Associates

You're welcome. I wondered what percent of the LOFT is Lou & Grey at this point and are you going to continue to increase the SKUs offered and if so, do you have a certain target in mind? And then at Ann Taylor and I might be wrong about this, it seems like the denim penetration is a little bit more than what we've seen some time and I wondered if we would see that through the balance of the year and I think everything looks really good. Thanks.

Kay Krill

Thank you, Jennifer. Let me address Lou & Grey first, Lou & Grey represents right now about 10% of the assortment, but we are seeing high double-digit comp growth and have been seeing that for the past three quarters. So we do keep increasing the business there. All source have a core assortment of Lou & Grey and then we have ten stores that have an expanded assortment of Lou & Grey because they would be able to sell more they have a square footage to sell more and we're learning a lot with that expanded assortment then of course Westport and online have everything. But exciting is that at the end of September through probably the middle of November we will be opening six free standing Lou & Grey stores so the environment will be very different. So we're excited about that, but it is a category that's definitely in growth mode.

The other thing you asked about is Ann Taylor denim. Yes, Ann Taylor does have a larger denim component this year versus last year and actually we're selling double the units of last year and it has been received well although I will say it's a very small percentage of their offering whereas LOFT typically denim is about 10% and I think right now this denim assortment is probably like 2%. So it is – we are selling it, but it's less meaningful to their assortment.

Jennifer Black - Jennifer Black & Associates

Great, well, mixes with everything else. So anyway looks great and thank you very much.

Kay Krill

Thanks Jennifer.

Operator

Thank you. Your next question comes from Liz Dunn with Macquarie. You may ask your question.

Liz Dunn - Macquarie

Hi, good morning. I am interested in your efforts to broaden the brand, seems like you talked a lot about that on this call and particularly reaching a little bit lower, how you are using sort of bloggers and influencers to accomplish this goal. Just sort of flush that out for us a little bit and where do you see your brand really in terms of center of gravity from an age standpoint?

Kay Krill

Which brand Liz are you referring to?

Liz Dunn - Macquarie

Well, I think you had comments on both brands that you were trying to broaden the brand but it seems like I've seen some blogger activity on the Ann Taylor and then LOFT I do think reaches a bit younger, so I'd be interested in the answer for both.

Kay Krill

Okay. Yes, we have shifted our marketing spend more into the digital arena. We are doing more in social and blogging and influencers definitely. And we are seeing good results in that. We have moved away somewhat from traditional media spend and really positioned it more in the digital world. We are seeing success, our active client file is going up; our total client file is going up. So I think it's about continuing to feed that area of marketing spend and we adjust it like every quarter but we are seeing positives.

Operator

Thank you. Your next question comes from Brian Tunick with JPMC. You may ask your question.

Brian Tunick - JPMC

Yes. Thanks good morning, Kay and Mike. Question on the Omni-channel and the rebuilding of the gross margin. I guess may be if you could talk about how the recapture from shipping costs have been trending versus your expectations and what is the timing for the Omni-channel sort of inventory supply chain work that I know you had some sell outs and we're missing sales. And then just as a housekeeping, it looks like you took down the footage growth for the year, so just wondering is just timing of projects, or did something change there? Thanks very much.

Mike Nicholson

Sure. Square footage in terms of store closures you're right. We did increase our plan store closes for the year by approximately 10 from the second quarter, sorry from the first – coming out of the first quarter. And that's really a reflection of the outcome of our annual strategic fleet review where at this point in time we – it looks like we'll close at the end of the year approximately 25 Ann Taylor stores and 15 LOFT stores. In terms of margin great recapture on shipping and handling.

We did talk last year about the compression of rate and the effect of eCommerce the ramp in eCommerce sales and we have year-to-date, on a year-to-date basis we captured approximately 30 basis points of that rate erosion. And then finally in terms of overall growth margin rate opportunity from Omni-channel, it's clear Brian that we continue to learn about the appropriate balance of the inventory position in stores and in our dotcom distribution center and we're confident moving forward that the 100 or so 100 to 150 basis points that we did, that did impact the business when we first went live with this initiative that we'll be able to recapture it over time. We're learning every quarter and there is clearly opportunity moving forward.

Brian Tunick - JPMC

All right. Very helpful, good luck in the second half.

Mike Nicholson

Thank you.

Kay Krill

Thank you.

Operator

Thank you. Your question comes from Adrienne Tennant with Janney Capital Markets. You may ask your question.

Adrienne Tennant - Janney Capital Markets

Yes, good morning everybody. Kay, I was wondering if you can talk sort of 20,000 foot level about what's happening in the women's missy space in terms of – is there, do you foresee a replenishment cycle coming, do you foresee or do you see improved fashion and fashion content big trends that are coming down the pipe, if you talk about that just kind of globally.

And then for Mike, the 52% gross margin for the year would basically obviously imply kind of flattish to the 49% gross margin in the fourth quarter. With tightening up inventory I was just wondering and we hope sector-wide tightening up inventory what is the thought behind that, because you were just talking about how you would hope that AUR would go up? So that would be my questions. Thank you.

Mike Nicholson

I am happy to address your last question first Adrienne.

Adrienne Tennant - Janney Capital Markets

Sure.

Mike Nicholson

I think we're being appropriately conservative in what, on a year-to-date basis has proved to me an incredibly promotional environment you're absolutely right as it relates to the things within our control, our inventory position the fact that we'll be laughing significant compression in rate in factory and at lawful price that does give us some optimism as we move through the back half of the year, it moves the things beyond our control that conserves us and as such we've appropriately reflected some protection for what could be a highly promotional environment.

Adrienne Tennant - Janney Capital Markets

Sorry, just to kind of understand so, you’re more confident in the AUR driving comp, but you still expect it to be promotional to take a bite out of the margin. Is that how we should think about it?

Mike Nicholson

I think that's the way to think about it.

Adrienne Tennant - Janney Capital Markets

Okay.

Mike Nicholson

The things within our own control we are confident in our ability to drive improvement. However, the first six months of the year more broadly has been incredibly competitive and so we want to be appropriately conservative as we think about what could be in terms of ultimate pricing and promotional activity in particular during the holiday selling season.

Adrienne Tennant - Janney Capital Markets

Got it. Thank you.

Kay Krill

Also as far as your question regarding what we're seeing in the women's space – my thesis about women's apparel space. I think what we've been seeing all year is that an uptick in fashion and a down tick in basics. I think that's really what everybody kind of has to focus on right now is that, we are not in a replenishment cycle, she is not replenishing her basic knit tops or basic white pants or whatever basic item. She is really going after what’s on her closet and what's new in fashion. Novelty is also a component that I think is really important and we doubled our penetration there in both brands go forward and I think we'll probably continue to uptick that, is novelty influences are extremely important.

We're in a tough environment right now and the fact that there is really not a lot of fashion must haves. I think the last fashion must-have was a year ago with colored bottoms and colored denim bottom. But I think that our teams are really highly focused on just upticking the fashion component of our assortment in every product category and pulling back on those areas that are truly basic. And I think that that's what's going to help us win.

Adrienne Tennant - Janney Capital Markets

Great, thank you.

Operator

Thank you. Your next question comes from Richard Jaffe with Stifel. You may ask your question.

Richard Jaffe - Stifel

Thanks very much. And you've really touched on my question Kay regarding the cautious outlook for the second half and the lack of visibility about the key items or fashion trends. I am wondering if you could elaborate a little bit more and how you think that's impacting your business, is there anything you see on a horizon either specifically or generally that gives us hope for a product that can drive the holiday sale?

Kay Krill

Well, I articulated what we're seeing so far in August as far as what's selling. But also we do have a lot more investment coming in. Next week and right after Labor Day on items that had specifically in categories that have specifically done well for us and I think we've expanded such ponte and scuba, scuba fabrics comfortable fabrics stretch, legging bars in both stores. Things that I think are definitely going to drive the business. The good thing that I think whether we look at on a regular basis is the penetration of fashion to the store, the penetration of print pattern and novelty and the penetration of color and all of that is up with the exception of Ann Taylor with color.

And if I were to do it all over again, I would have more color in the third quarter. The good news is fourth quarter is ahead of last year as far as color offering. But it is about that fashion component and it is more and more, it's interesting because there is more and more in LOFT about comfort and casual items and more and more in Ann about refined separate. So we are seeing a little more disparity and a little bit more differentiation in the brands right now with what she is responding to.

Richard Jaffe - Stifel

Interesting. Thank you very much.

Operator

Thank you. Your next question comes from Betty Chen with Mizuho Securities. You may ask your question.

Betty Chen - Mizuho Securities

Well, thank you and good morning everyone. I was wondering if you can remind us what the product costing is in the back half, any change there as you adjusted the LOFT merchandise. And also any reads into early spring.

And also, Mike, given how cautious the team has always been and prudent regarding inventory management. Can you remind us also what were the unit buy plans for the back half?

And then separately, I know there is only one location so far for Lou & Grey in Westport, but any metrics you can share with us regarding that store's productivity would be really helpful. Thank you.

Mike Nicholson

Okay, Betty. I'm going to make my best efforts to answer your questions and I am going to ask Judy to kind of help me – help me step me through. So first, no problem, product cost AUC second half, second half 2014 on a like-for-like basis no pressure, but I do want to remind you consistent with the first half of the year because of a shift in product mix at the Ann Taylor full price business on an all in basis we will see weighted AUC be up versus last year.

In terms of spring there does appear to be some opportunity as it relates to cotton prices, and I would say stay tuned. In terms of inventory unit buys for the back half of the year factory channel unit inventories buys are positioned below last year and for both Ann Taylor and LOFT full price, the unit position going into the back half of the year is positioned up slightly.

And then finally in terms of Lou & Grey store productivity, I think it's too early to talk about Westport specifically. But early indications are very promising as it relates to client acceptance and productivity levels within that box dollars per square foot, we're encouraged by what we're seeing as it relates to that assortment within the core LOFT stores and as you know there is an expanded Lou & Grey assortment test that is ongoing within LOFT and again, early indications are that those Lou & Grey expanded assortment test stores are outperforming the balance of the LOFT chain.

Betty Chen - Mizuho Securities

Wonderful. Thanks so much Mike.

Mike Nicholson

Thank you, Betty.

Operator

Thank you. And our final question comes from Dana Telsey with Telsey Advisory Group. You may ask your question.

Dana Telsey - Telsey Advisory Group

Hi, good morning everyone.

Kay Krill

Good morning.

Dana Telsey - Telsey Advisory Group

As you talk about fashion and the increase penetration or need for fashion, where does the fashion penetration go in both brands and what's the margin implication either for stores are online for that. And just lastly Mike, as you think about the expense management for the second half of the year given the sales environment, would the adjustment to the total SG&A guidance what changed? Thank you.

Mike Nicholson

Sure. I will take the expense question first. So first in terms of four wall variable operating expense, we have updated our outlook in terms of SG&A for the back half of the year and we have taken a more conservative cautious stand as it relates to level of variable four wall clause that we believe we should invest in the business and we have trimmed to a lesser degree – trimmed our marketing investment in the back half of the year.

Kay Krill

And as far as fashion Dana, I would say overall we are about for the third quarter it's representing between 50% and 60% of the assortment versus 40% to 50% last year. So up about 25% and that is where we saw success in the first and second quarter is in the fashion areas and not as much in the basic areas.

Mike Nicholson

And I think it's fair to say with the fashion component of our assortment across all businesses, we have seen much less in terms of pricing come pressure.

Kay Krill

That's right.

Mike Nicholson

Higher full-price sellthrough.

Kay Krill

That's right.

Mike Nicholson

Higher product acceptance and higher gross margin recommendations.

Kay Krill

That's right. That's right.

Dana Telsey - Telsey Advisory Group

Thank you.

Kay Krill

Okay. All right, thank you everyone, we appreciate your interest in ANN INC., as always and look forward to updating you on our progress for the second half. Have a great weekend.

Operator

Thank you. This does conclude today's conference call. We thank you for your participation.

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