Qurate Retail's (QRTEA) CEO Mike George on Q1 2020 Results - Earnings Call Transcript

Qurate Retail, Inc. (NASDAQ:QRTEA) Q1 2020 Earnings Conference Call May 7, 2020 8:30 AM ET

Company Participants

Courtnee Chun – Chief Portfolio Officer and Senior Vice President of Investor Relations

Mike George – President and Chief Executive Officer

Jeff Davis – Chief Financial Officer

Greg Maffei – Executive Chairman

Conference Call Participants

Oliver Wintermantel – Evercore

Heather Balsky – Bank of America

Edward Yruma – KeyBanc

Thomas Forte – D.A. Davidson

Jason Bazinet – Citi

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Qurate Retail 2020 Q1 Earnings call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this conference is being recorded, May 7.

I would now like to turn the conference over to Courtnee Chun, Chief Portfolio Officer and Senior Vice President of Investor Relations. Please go ahead.

Courtnee Chun

Thank you. Before we begin, we’d like to remind everyone that this call includes certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual events or results could differ materially due to a number of risks and uncertainties, including those mentioned in the most recent forms 10-K and 10-Q filed by our company and QVC with the SEC.

These forward-looking statements speak only as of the date of this call, and Qurate Retail expressly disclaims any obligation or undertaking to disseminate any updates or revisions to any forward-looking statement contained herein to reflect any change in Qurate Retail’s expectation with regard thereto or any change in events, conditions or circumstances, on which any such statement is based.

On today’s call, we will discuss certain non-GAAP financial measures, including adjusted OIBDA, adjusted OIBDA margin, free cash flow and constant currency. Information regarding the comparable GAAP metrics, along with required definitions and reconciliations, including preliminary notes and schedules 1 through 3 can be found in the earnings press release issued yesterday or our earnings presentation, which are available on our website.

Today speaking on the call, we have Qurate Retail President and CEO, Mike George; Qurate Retail Group CFO, Jeff Davis; Executive Chairman, Greg Maffei. Please note, we published slides to accompany the earnings release. These slides are available on our website.

Now I’ll hand the call over to Mike George.

Mike George

Thank you, Courtnee, and good morning, everyone. I want to thank all of you for joining us today, and I extend our best wishes for everyone’s continued health and safety. I’m going to focus my comments today on how we are responding to the COVID-19 pandemic, the impacts we’re currently seeing in the business, including early trends in the first weeks of Q2 and the challenges and opportunities we anticipate as we move through the year. While we don’t normally discuss end quarter results, we feel it’s appropriate to make an exception today due to the significant change in business outlook driven by COVID.

Our twin goals throughout this crisis have been to protect the safety and well-being of our team members and to be of service to our customers during this extraordinarily challenging time. We are gratified by the customer response to date and for the commitment and the resolve of our team and our partners.

The evolution of the pandemic drove significant changes in our financial results and it’s best to consider our year-to-date performance over three distinct time periods. Through late February, we experienced limited impact due to COVID, except at Zulily. As we previewed on our Q4 call, Zulily sales fell sharply when it couldn’t source product after China’s lockdown in early February. Remember that the Zulily model holds limited inventory and has a significant China direct ship component.

In March, when COVID hit Europe and the U.S., we saw a major disruption across our businesses. In most markets, we experienced a significant decline in sales in the weeks immediately following stepped-up government response. We saw a sharp fall off in the second and third weeks of March across our U.S. businesses, QxH, Zulily and Cornerstone. We experienced similar impacts in our international markets, but the timing varied from late February in Italy to the first half of March in the UK and Germany and mid-April in Japan, following the declaration of a national emergency.

We also experienced significant product margin pressure as our business mix shifted from higher-margin fashion products to lower-margin home categories. Additionally, we incurred incremental costs as we adjusted our practices to ensure team member safety and well-being. Since late March, after the initial disruption, we saw a rebound in sales that consumers adapted to the new stay-at-home mandates and we adjusted our merchandising, programming and marketing to better meet her needs.

However, the product margin pressure due to category mix shifts continued and we incurred further COVID-related costs, including an additional pay for our team, reduced productivity standards in our fulfillment centers, which is also leading to increased fulfillment times and additional bad debt reserves, partly in anticipation of the deteriorating economic situation.

We have been focused since the onset of the COVID crisis on four key priorities: keeping our teams safe, adjusting our consumer-facing actions to be relevant in this environment, managing our costs and balance sheet and supporting our communities. To ensure the safety and financial well-being of our team members, we pursued a three-prong approach. First, we enabled and required all team members who could work from home to do so, shifting over 10,000 office-based team members and customer service representatives worldwide to work from home.

Second, for all essential team members whose work is required to be done on-site, which is primarily our fulfillment center and live studio teams, we created as safe an environment as possible, with significantly scaled back live studio operations, strict social distancing, relaxation of productivity requirements in our fulfillment centers, increased sanitation and many other actions. We also provided additional compensation for all on-site team members as a form of appreciation for their efforts and their dedication. And third, we gave all essential on-site team members the choice to stay home indefinitely with no penalty, and we provided partial pay options to cushion the financial impact.

We rapidly adjusted our consumer-facing activities, changing virtually everything we were doing on-air and online to be relevant and meaningful to her. The scope and pace of these changes are a wonderful testament to the agility of our model, to value real-time customer feedback and most especially, the dedication of our team. In a moment, I’ll share more detail on these actions.

We prudently manage – we are prudently managing our cost structure, reducing capital spend and ensuring a healthy balance sheet so that we’re prepared for whenever may come our way. And finally, we’re committed to supporting our communities around the world with the $29 million commitment to COVID relief, including $19 million in emergency pay and benefits for our team members and $10 million for initiatives to support small and micro businesses, a team member relief fund and support for a variety of community programs across our global markets, including a major fundraising initiative in the U.S. for Meals on Wheels and No Kid Hungry. You can review the details of these initiatives in our April 23 release.

Now elaborating further on our efforts to adjust consumer-facing activities. Our focus throughout this crisis has been to engage the consumer in ways that would be meaningful to her. We knew she was looking to stay socially connected to the world around her, even while being physically separated. We sought to speak to her in an authentic way, to put her into our homes and our lives in ways that created more intimate connections and shared experiences and to shift our programming, merchandising and events for the products and the stories she cares most about.

We did not know whether she would be interested in buying, but we knew we could offer her a respite in the gloomy 24-hour news cycle. We want it to be her place, her place for advice, entertainment and community and a source of joy, hope and inspiration. We moved quickly to tail her content across our on-air, online and social channels. Across HSN and our worldwide QVC businesses, we quickly shifted the products we featured on air to reflect the dramatic swings in the customers’ interest and buying behavior.

We [indiscernible] most of our on-air programming calendar and invented new programs that would speak to the moment, such as Love Your Home with Rick and QVC U.S. and afternoon on-air mini-series that leverages insights in the trending categories of new viewing patterns, which is a notable increase in afternoon TV viewing.

We made significant changes in our online merchandising as well. QVC, HSN and Zulily all quickly curated home essentials checklist, for example, focusing on newly trending categories, including home, sanitation, food and storage, business tools, tech resources for distance learning and beautification. And we leaned into our social platform with a variety of creative program. QVC’s #PostAtHome social media campaign, feature our host live streaming from their homes, engaging in real conversations with viewers and guests, offerings tutorials, recipes, and most importantly, moments of connection, moments of inspiration.

We conducted similar social initiatives across our international markets, in the UK #QVCAlwaysWithYou campaign and at Cornerstone, Grandin Road #MakeYourDoorHappy campaign, inspired households to spread joy by sharing their beautifully decorated front doors on social media. We are highly encouraged by the consumer response to these actions, which we believe speaks to the relevancy of our brands, the diversity of our product mix, the efficiency of our platforms for consumers and especially, especially the power of our community.

I’ll share some details on what we’ve been seeing, however, I would caution that these trends should not be viewed as indicative of what we’ll see through the second quarter or remainder of the year. None of us, none of us can predict how consumer behavior will evolve in the coming weeks and months as the economy begins to reopen.

Now these metrics refer to the Qurate’s from late March when we first saw our sales rebound through the end of April. I’ll start with audience engagement because we always start with engagement up across all our platforms and brands, reflecting a stay-at-home consumer who is spending more time viewing TV and more time online. At QxH, we’ve seen impressive growth in the number of homes viewing QVC or HSN TV networks each day, up over 10%.

We’re also seeing significant growth in live stream viewing. In fact, the viewing of our live and original content is up over 100% across social platforms with programs like Coffee Talks with David Venable and Brian’s large audiences. And traffic to our website is especially strong, up over 30% with even higher growth rates from non-customers. And QVC U.S. social reach was up over 75% in April, engagement over – up over 50%.

Zulily is seeing similar increases with web traffic up nearly 30%. And engagement trends across our Cornerstone brands and our international markets are equally encouraging. This higher engagement is in turn translating into healthy growth in our customer base. We’re seeing increases in total active customer count at QxH, at Zulily, at all of our Cornerstone brands and in all of our international markets. Growth in both new and reactivated customers is especially encouraging, with gains across every business unit and every market.

Looking at the surge in new customers at QxH, for example, nearly two-thirds of these new customers are coming to us organically, a reflection of the power of our brands and reach, and the remaining third are the discovering us to be paid marketing. And the percent of these new customers who are making a second purchase within a 14-day or a 28-day window is comparable to classes from prior years, an early but strong indicator that these new classes may have a similar lifetime value.

Given the success we’re seeing adding new customers, coupled with declining marketing costs, we’re increasing our marketing spend to both attract more new customers and to increase the retention of those new customers. We’ve seen improved efficiency across all marketing channels, including paid social, which gives us a powerful platform to highlight our unique shopping experience and are moving quickly to convert new customers into lifetime customers with campaigns that build relationships by focusing on what makes us unique and targeted e-mails, digital nurturing through retargeting and the piloting of additional social channels and ad formats.

These high levels of engagement and high levels of customer growth are translating into consistent sales growth at QxH, at every international market, at Zulily and at every Cornerstone brand. The QxH and QVC International are the biggest driver of growth of our off-air sales, reflecting a digitally oriented consumer who is highly engaged with our online properties. This is especially true for new customers.

For example, at QxH, these new customers are twice as likely to buy off their product than our existing customers. And over 80% of the new customers are making their first purchase online. We are highly encouraged by the sales growth we’re seeing, but we are also experiencing a mix shift to lower margin home categories. This is most pronounced at QxH, especially at QVC, which historically had a relatively high fashion mix. As a result, product margins at QxH in April ran down 150 to 250 basis points below prior year.

Now since we serve a broad range of consumers in the U.S. and around the world across multiple businesses, from Frontgate with an average selling price over $120, at Zulily with the selling price under $20, we have a unique approach from which we can observe consumer behaviors through this pandemic. And we wanted to provide some insights on the sales trends we’re seeing in this late March-through-April time frame. The consumer, of course, is doing a lot more cooking at home. And as a result, QVC U.S. had 8% culinary demand sales are up nearly 40% year-over-year. And the UK and Italy are up well over 100%. Zulily Kitchenware is also up strongly. Homemade food is especially strong across all markets, with [indiscernible] up about 90%.

At the same time, she’s trying to stay fit and healthy while stuck at home. In fitness, we saw strong growth across QVC globally and HSN for home fitness equipment, including bikes, treadmills and ellipticals. And wellness vitamins and supplements [indiscernible] also on a global scale. She wants to be productive and secure at home, and we’re seeing strong demand for home office and smart home items, laptops, tablets, printers and monitors are leading demand here with QVC globally, with HSN and Zulily, all seeing strength.

QVC and HSN are also seeing rising demand in video calling devices, such as Amazon’s Echo Show and Facebook Portal, and she explores new ways to stay connected to family and friends. She also wants to find ways to entertain herself and her family. Families are playing more and crafting more. Zulily’s arts and craft is up nearly 200%, with puzzles performing especially well. And at QVC, globally, and HSN gaming and audio are up strongly.

She’s taken on home decorating project and she strives to make the spaces she’s spending more time in more beautiful and comfortable. Bed Bath, dining and kitchen were strong in Ballard Designs, and interior furniture rose at Grandin Road, bedding decor and basic flood gains at Garnet Hill and we’re also seeing at the QVC. Meanwhile home storage and organization were also strong, both QVC and HSN.

For yard or outdoor space, which are refuged right now, we’re seeing live plants and garden tools across QVC U.S. and HSN growing 65% in April. The category was also up over 70% in Germany, more than 100% in the UK. The Frontgate has also seen strong growth in planters and garden accessories. Outdoor furniture, umbrellas and replacement cushions are also performing well at Frontgate.

If she has a pool, she and her family are going to be spending a lot more time in it. Pools toys at Frontgate are up over 100% and pool toys at Zulily are up as well. She’s also focused on keeping her family space and her health as sanitary as possible. Zulily has sold well over 1 million non-metal grade space covering since it began sales in early April.

At QVC, the rate cap is infecting fabric packing antibacterial moisturizing hand soap and UV phone cleaners all sold out quickly and we’re working to restock these items. QVC globally and HSN saw surges in floor care and air purifiers. In the U.S., we’ve seen strong sales for Shark and iRobot and Dyson and Hunter air purifiers. In Germany, demand for Dyson floor care doubled in April versus the prior year.

In Beauty, we’re seeing a shift towards self-care, while she’s less interested in color cosmetics right now, she wants to maintain her skincare regimen and is also seeking at home hair salon product pod. Bath & Body products are also up strongly. On the flip side, she is much more selective in her jewelry, apparel and accessories purchases, and these businesses are generally down trending across our company.

Nonetheless, we did see a few bright spots. Within apparel, where she continued interest in athleisure and sleepwear, across QVC globally, HSN, Zulily and Garnet Hills. We’re launching four new activewear and casual brands at QVC U.S. and HSN in Q2, and we continue to lead in size inclusivity. And the relaunch of [indiscernible] last month was a big success at HSN. Zulily is also taken advantage of its ability to provide a platform for apparel and accessories vendors who have seen their brick-and-mortar business erode. They continue to introduce a number of new brands, including Motherhood Maternity set to launch this Mother’s Day.

I’ll close with some initial thoughts and what we expect to see as we move through the next several months and the economy gradually reopens. While there are many potential risks and challenges on the horizon, we also anticipate that people’s adoption of a more digitally driven stay-at-home lifestyle will continue over many months and to some degree, is likely to become the new normal. Our focus will be on capitalizing on our current momentum and strong new customer acquisition to lead and win in this new normal.

As a leader in both TV and digital, with a broad and diverse product range and an agile business model, we feel we’re well positioned. We’re exploring what opportunities the current environment creates to lean into the strategic priorities I shared last year, in a way that positions us well for the future. For example, to further our product duration diversification strategy, we’re engaged with a number of new vendors who are eager to find new platforms for their products, opening up many interesting possibilities for us. And we’re focused on continuing to find new offerings that appeal to this emerging stay-at-home lifestyle. We work hard to be a good partner to our vendors, while others are slashing orders and we believe this will serve us well in the long-term.

To drive video reach and relevance, we’re moving quickly to take advantage of the high levels of TV viewership. For example, by significantly expanding our marketing presence on Amazon Fire and advancing discussions with leading virtual MVPD partners for carriage. We’ve never had as many new visitors to our digital platforms, and so we’re moving quickly on a variety of initiatives to optimize the site experience while continuing with longer term initiatives to encourage daily digital discovery.

To continue expanding our passionate community, we’re focused on upping our investment in marketing as others pull back and learning from the new customers we’re attracting, how we can engage them, and we hope to convert them to the lifetime customers.

It’s clear that COVID will forever change consumer and competitive landscape. We believe we’ll be among the winners. Those retailers who are digitally driven and create immersive and engaging experiences, those retailers who have an intimate relationship with their loyal customers, those retailers who have the product mix and agility to rapidly pivot what she cares about at any given moment, and those retailers who benefit from great financial strength and resources, who can invest to grow while standing emerging challenges.

Let me close where I started with profound gratitude to our Qurate Retail team members and our extended family of vendor partners and guests. They have responded to the worst circumstances in the best way, coming together as a team, supporting each other, inspiring our customers, we adopted every new development with agility and resilience, and we’re living our principles throughout. I am so proud to work alongside them every day.

And with that, I’ll turn it over to Jeff.

Jeff Davis

Thank you, Mike, and good morning, everyone. As Mike mentioned, COVID had a noticeable impact on each of our business segments. Our net revenue for the quarter declined 5% and was impacted by approximately $55 million due to COVID-related changes in sales trends, supply chain disruption, closure of retail stores and constrained fulfillment capacity, which delayed shipments of customer orders until Q2. Adjusted OIBDA declined 17%, in part due to actions we took to protect our team members and suppliers and to respond rapidly to changing customer behaviors.

For the quarter, COVID effective adjusted OBIDA by approximately $40 million, principally from reduced sales trends, lower product margins, higher freight costs due to category shifts into home product, reserve adjustments for bad debt and customer returns and lower productivity standards at our fulfillment centers. I’ll elaborate more within each business unit as I go through my discussion.

So let’s move to our business segment results, starting with QxH. For the quarter, net revenue was down 4% on 3% lower unit volume and 1% lower ASP. The estimated impact of COVID on revenue was approximately $20 million. This was due to the combination of delayed shipment of customers orders into Q2, partially offset by new customer orders late in the quarter.

On Slide 8 of our financial presentation, you’ll see that we have more closely aligned our discussion of adjusted OIBDA and its contributing factors to the P&L. Adjusted OIBDA declined 17% and adjusted for OBIDA margin declined 260 basis points. Let me provide more detail on these contributing factors.

Gross margin. Gross margin declined 100 basis points. First, product margins were relatively flat, with increased margin in January and February, largely offset by deterioration in March, primarily from the product mix shift from higher-margin fashion categories, to lower-margin home categories.

Second, fulfillment, which is comprised of warehouse and freight, unfavorably impacted gross margin by 125 basis points, driven by our investments in network optimization and higher freight rates due to general rate increases and increased drop ship penetration. These factors were partially offset by favorable inventory obsolescence of 30 basis points due to reduced inventory levels.

Moving to operating expenses, which were flat on a dollar basis, that increased 20 basis points as a percent of revenue, primarily from headwinds from higher credit card fees and commissions associated with certain TV distribution contracts signed in Q1 of 2019. These carriage commissions were partially offset by lower variable commissions associated with higher off-payer sales.

And finally, SG&A. SG&A expense increased 140 basis points as a percent of revenue from a combination of administrative costs, bad debt and marketing. Administrative costs increased 65 basis points as a percent of revenue, of which half is associated with the incentive compensation accrual and the remainder reflects sales deleverage and outside services partially offset by reduced drop. Bad debt increased 50 basis points as a percent of revenue, of which 40 basis points is related to increased reserves as we bolstered our reserves this quarter to reflect changes in general economic conditions.

We expect to incur elevated levels of bad debt from the shift in our customer base and product mix that Mike had mentioned. We managed future charge-off exposure, we are closely monitoring customer payment performance and utilizing fraud and credit screening filters. Finally, marketing increased 25 points as a percent of revenue, reflecting performance of marketing, we acquired new customers. However, our current marketing spend is still relatively modest at less than 1.5%, net revenue.

In summary, we estimate that COVID impacted Q1 adjusted OIBDA by approximately $25 million, primarily from product mix shifts, changes in sales trends, reserve adjustments for bad debt and customer return. On our last call, we indicated a network optimization and other fulfillment center enhancements would continue to increase our synergies and improve our margin profile in the second half of 2020. However, COVID is delaying the installation on the new warehouse management system and the achievement of key milestones associated with our Rocky Mount North, Carolina and Ontario, California facilities.

Moreover, while fully functional, our new Bethlehem facility is currently experiencing reduced staff at tenant levels and operating under social spacing constraints complied with COVID safety protocols. We expect these situations to continue until restrictions are lifted on team member and third-party contractor travel and social space.

Moving to QVC International. On a constant currency basis, revenue for the quarter was down slightly on 4% lower unit volumes and a 3% gain in ASP. This performance reflected continued strength in Japan, which was partially offset by declines in Germany, UK and Italy. The progression of the quarter’s performance resemble that of QxH, with a spread of COVID starting in February. Declines in apparel, accessories and jewelry were partially offset by increases in home.

COVID impacted net revenue by approximately $13 million, primarily from lower demand. Adjusted OIBDA was down 3% and adjusted OIBDA margin declined 40 basis points, primarily from a 70 basis point increase in cost of sales led by lower product margins and unfavorable inventory obsolescence. This inventory obsolescence reflected favorable reserve adjustment in the prior year. And the combination of these factors was partially offset by reduced freight costs.

Conversely, OIBDA margins were supported by 40 basis points in reduced SG&A from lower administrative costs associated with France, which was closed in March of 2019. We estimate COVID impacted Q1 adjusted OIBDA, approximately $8 million, primarily from lower demand, supply side impact, margin and mix shifts and bad debt reserves.

Moving to Zulily. For the full quarter, revenue was down 20% and 21% lower volume and a 1% gain in ASP. Zulily experienced the earliest COVID impact of its China supply chain disruption in early February. While these supply chain challenges are largely resolved – were largely resolved even by the beginning of March, Zulily experienced further sales erosion through March due to declines in consumer demand driven by COVID, in addition to the underlying pressures we’ve discussed in prior calls.

This was exacerbated by the closure of many domestic suppliers that further hampered Zulily’s limited inventory model. We estimated these COVID-related events reduced sales by approximately $9 million. Adjusted OIBDA declined $15 million, and adjusted OIBDA margin declined 370 basis points, primarily due to 160 basis point decline in gross margin. First, from increased warehouse costs, recognition of emergency pay practices and reduced productivity and lower attendance; and second, from lower product margins.

OIBDA was additionally pressured by 210 basis point increase in SG&A from the fixed cost deleverage and additional expenses to sanitize fulfillment centers and office buildings, partially offset by reduced marketing spend. There was a modest – only a modest impact of adjusted OIBDA from the disruption in the China supply chain.

And finally, Cornerstone brands. For the full quarter, net revenue declined 5%. Prior to the onset of COVID, all brands were delivering growth except Garnet Hill, which is reflecting a challenging apparel environment. Ballard Designs and Frontgate stores were required to close in early March and have not reopened yet. The estimated revenues were impacted approximately $13 million due to COVID-related changes in customer demand and store closures.

Adjusted OIBDA for the period was a loss of $2 million, reflecting fixed cost deleverage and greater employee-related costs. Higher marketing expenses from the timing of expense recognition of catalog reduction and increased digital spend. This was partially offset by improved product margins. We estimate COVID impacted OIBDA by approximately $6 million.

Moving into capital expenditures, free cash flow and liquidity. Capital expenditures were $45 million for the quarter. As a precaution to preserve free cash flow, we have taken actions to reduce non-essential 2020 capital spend by $30 million to $50 million.

QRI generated a $75 million of free cash flow in the quarter. We define free cash flow as net cash provided by operating activities, less the sum of the firm’s capital expenditures, expenditures for TV distribution rights, investments in loans and cost and equity investments and dividends paid to non-controlling interest. Free cash flow increased versus Q1 of last year, primarily from the lower TV distribution rates, improved working capital and reduced CapEx.

As of March 31, we have $555 million of cash and cash equivalents and $2.4 billion of total capacity under QVC’s revolving credit facility, of which $1.6 billion is available pursuant to our covenant threshold. This revolving credit facility matures in 2023. In February, QVC accessed the high-yield market and completed a registered debt offering for $575 million to 4.75% senior secured notes due in 2027.

The proceeds were used to partially prepay existing indebtedness under its revolving credit facility. We are in compliance with all debt covenants as defined under QVC’s restated revolving credit agreement and all other senior secured notes. And at March 31 of this year, our leverage ratio was 2.4 times.

Our next scheduled maturity of senior secured notes is for $500 million, and it comes due in 2022. We anticipate repaying these notes with available cash on hand, free cash flow, borrowings under the revolving credit facility or refinancing in the public debt market. Finally, while we generally operate the business with a fixed cost structure of approximately 10%, our annual net revenue for QRG and fixed costs of less than 10% of annual net revenue at QxH, we are maintaining a disciplined approach to managing our costs in an uncertain environment and constructive – conservatively hiring, travel and spending practices.

In summary, as we navigate through an uncertain environment, we continue to track COVID effects closely and are mindful that an extended slowdown could create long-term effect. If any emerge, we will continue to address the issues with our agile approach, supported by our healthy balance sheet and liquidity position.

And now I’ll turn it over to Greg.

Greg Maffei

Thanks, Jeff. Let me start by also thanking Qurate’s employees and management for their dedication and perseverance. In no small fleets, they were able to adapt quickly to this new environment. It’s been amazing to see the response from our customers and maintaining this connection. I’d like to reiterate a few points made by Mike and Jeff.

First, we feel very comfortable with our liquidity. This is a business that generates free cash flow. We have not drawn on our revolver in this quarter or since the COVID crisis began and, in fact, have paid down revolver. As was noted, we currently have a revolver of $2.4 billion of total capacity, of which $1.6 billion is available subject to our current covenant threshold. That covenant threshold is 3.5 times, and we’re currently about 2.4 times.

We did use cash to repurchase $49 million of MSI exchangeable bonds in the quarter, but we’ve since ceased repurchases of those bonds through the decrease in the share price of MSI and the change in interest deductibility under the CARES Act that will no longer be a use of capital. We plan to reduce CapEx spending from our budgeted amounts by $30 million to $50 million for the balance of this year, despite our confidence in our liquidity, a prudent time to be conservative.

We are encouraged by the trends we’ve seen in the second quarter. As Mike noted, positive growth and engagement in customer counts are translating into sales growth to date and excellent momentum. We appreciate your continued interest in Qurate Retail and we hope you are all safe and sound.

And with that, operator, I’d like to open it up for questions.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] And we will take our question from Oliver Wintermantel from Evercore. Please go ahead.

Oliver Wintermantel

Thanks very much. Regarding the margin pressure that you’ve seen in the first quarter, could you maybe talk a little bit about what you expect in the second quarter from COVID-related margin pressures, how much of that will linger into the second quarter in regards to the margins or safety or precautions that you have taken? And the follow-up question was I heard you just mentioned the sales growth of quarter to date. Is that – does that mean sales are currently trading positive in the second quarter? Thank you.

Mike George

Thanks all for the question. I’ll make a couple of comments on margins and sales growth, and then turn it over to Jeff. On the margin side, let me just comment on the product margin piece of it, and Jeff can cover the rest. I mentioned – we mentioned the downturn in product margins late in Q1, but a reminder that product margins were flat for the full quarter.

And then in April, I mentioned about 150 to 250 basis point product margin erosion at QxH due to mix shift. I would say that range got kind of better from the beginning of April to today. So we were trending towards the higher end of that early in the month and have been trending down since then as we’ve taken actions to try to moderate that margin pressure.

I won’t predict what it will be going forward, other than to say it’s been trending in a better direction towards the lower end of that range. We also have somewhat easier comparisons in May and June because the fashion mix is not as high from a year ago, May, June as it was in April. So a little bit easier comparison, a little bit improving trend. But yes, we still expect aggregate product margin pressure due to this mix shift.

On sales growth, yes, we’re seeing consistent positive sales growth. We’ve seen it every week since late March through to today. We’ve seen it in every business unit, every market, every brand, consistent positive sales growth.

Jeff, do you want to comment on the other aspects of the margin profile?

Jeff Davis

Absolutely. So in addition to the product margin, if you will, one of the headwinds that we had as a result of that shift from some of her fashion categories into the home categories. Her drop ship penetration was much higher on some of those categories. So that was a headwind for us. The other elements, and that will be continued going into Q2 to the extent that we have that same type of mix of our overall categories.

The other component that – contractions we’re experiencing in our warehouses from a fulfillment basis is, as a result of having the social spacing and reduced sort of productivity, as a result of some of our attendance levels, that is also creating some pressures for us with respect to just the efficiency and productivity in the – in those facilities. But the one thing that you’ll notice in the presentation that we do, we show that fulfillment was about 125 basis points a headwind for us.

And about half of that was as a result of fulfillment and about half of that was as a result of – I say, half of that is freight, and then half of it was from warehouse. The challenges that we will have going forward also, as it relates to our execution of our network optimization, we had talked about where in the – we were expecting to continue to hit our milestones to get through some opportunities to help reduce some of the pressure we would have on our product margins, if you will. And it would help us from some freight and pack factor.

As a result of having the delays in that network optimization and then installation of the warehouse management, well, we believe that we’re going to be – from a timing perspective, we’re going to be delayed, and we’re not going to have some of that improvement going into the second quarter that we were anticipating.

Oliver Wintermantel

Got it. So just to summarize, the sales are trending positive, but margins are maybe a little bit better than in the first quarter, but not positive?

Jeff Davis

Yes. The margins would be trending – I think what Mike was indicating is that in the second – in the latter part of the quarter – first quarter, we saw some significant headwind with our product margins as a result of the mix and product mix. That – well, we still have the product mix impact, we were improving that product mix margin as we’re coming through the early part of the April, and we would continue to work towards that as we move through the quarter.

Oliver Wintermantel

Thanks very much.

Operator

Thank you. We will now take our next question from Heather Balsky, Bank of America.

Heather Balsky

Hi, thank you for taking my question. I was just wondering on the sales front. First, could you put some perspective, especially for QxH, I guess, how positive your overall sales are trending for the business through April? And then also, you talked about investing in marketing to help retain some of these new customers you’re attracting. Can you talk a little bit more about what else you’re doing to ensure that the customers and engagement that you’re seeing right now that you can sustain that and/or sustain part of that? Thank you.

Mike George

Hi, Heather, thanks for the question. No, we’re not going to put specific numbers around the sales trends just because it’s a handful of weeks and a long way to go in the quarter. But I would characterize it as very solid positive sales growth. And again, we’re encouraged by the consistency of the growth, meaning we’ve seen it every week since late March. We’ve seen it across new customers, reactivated customers, occasional customers and core customers. We’ve seen it across a range of home categories, electronic categories, beauty categories. The only place we’re not seeing it is in apparel, accessories and jewelry. So I’d characterize it as consistent, broad-based sales growth.

In terms of the customer engagement, I would say we’re highly encouraged to see growth in every tranche of customers with really accelerated growth in the new and reactivated customers. So as I mentioned in my comments, we’re doing a lot to engage all customers, and particularly, those new and reactivated customers, through the e-marketing programs, through retargeting marketing, through continued investment in social marketing, all the places where we know she is, to continue to speak to her, to continue to demonstrate a range of our product offerings, welcome kits that help sort of introduce her to the story, financial incentives for second purchases.

So I would say a very broad approach based on her behavior to target how we would defer to continue that behavior. We are really encouraged, given the increase in new customers we’re seeing, we naturally expect it up that on average, the quality of those new customers would kick down, even if the absolute numbers are strong. But at least our early metrics of quality are suggesting that it’s every bit sort of same predicted lifetime value as earlier classes because we get a pretty good window on – customers’ lifetime quality is – like, her repeat rate in the first 14 days she’s with us, and the first 28 days she’s with us, are pretty good indicators of lifetime quality.

And so for the weeks of new customers where we do measure either a 14-day or a 28-day repeat rate, we’re seeing same or better performance than we’ve historically seen. So we think we’re attracting a good quality customer. We’re actively engaging her to try to secure that and make sure she keeps coming back to us.

And the final point, I guess I would make, what we feel good about is just we know there’s actually a long lag time in a normal environment from kind of experiencing QVC for the first time on TV, let’s say, or through a paid marketing program and then actually making a purchase. So the fact that we are seeing so many new viewers and occasional viewers spending time watching our programming, some of which is obviously translating into immediate sales, just the visibility of all our platforms, the engagement across all those platforms is just at a different level.

And we think that is, in and of itself, a value because we know that when we can get people to engage with us, they become lifetime customers. And so I think this is a special moment where our team has done an amazing job telling our story in a thoughtful way, on air, online. We’re seeing that engagement. I think that will help sustain some of the sales momentum we’re currently seeing.

Heather Balsky

Great. Thank you so much.

Operator

Ladies and gentlemen, we will now take our next question from Edward Yruma from KeyBanc.

Edward Yruma

I guess just a two-parter. First, on the bad debt, are you starting to see behaviors within Easy Pay that underpin your change in bad debt assumption? Are you seeing kind of delinquency or higher charge-offs? And then two, I know apparel has been a mix shift away. Other retailers have taken inventory impairment, I guess, I know you said that I think your inventory obsolescence, which are actually going down. Just kind of walk us through the quality of inventory that you have on the balance sheet? Thank you so much.

Jeff Davis

Mike, do you want me…

Mike George

Jeff, you want to take that?

Jeff Davis

Yes. Absolutely. So let me start off with bad debt. From a bad debt perspective, we have not seen a deterioration in the quality of customer payments as of yet. But we do know that the combination of purchases when they are more concentrated in to some of the home categories, over time, they have a higher level of default rate as well as the longevity of the customer. So if you have a customer who is a new customer versus one that’s reactivated or has been with you longer. That newer customer is one, many times, that has a higher charge-off experience.

With a combination of new customers and these new customers, essentially buying their first purchases in some of those higher categories – some of those categories, in which we had a higher deterioration where we thought it was prudent to start reflecting that and kind of how we think about our reserves going forward.

As it relates to inventory, our inventory levels are actually down year-over-year. And we’ve been working very diligently to try and adjust receipts where – where we could – as we’re really going through this process, we did increase our obsolescence in reserve a little bit as a result of some of the shifting we’re seeing in categories. But for the most part, the 30 basis point improvement in overall obsolescence [indiscernible] reduced inventory net of that adjustment that we made for the category shift that we’re seeing in some of the heavier inventory that we think we might need to ultimately liquidate, essentially move to higher spot pricing later in the quarter.

Edward Yruma

Thank you so much.

Mike George

I’d add one other comment on inventory. And so as Jeff said, we’re pleased with the position we’re in, with inventory down over prior year, overall healthy inventory. But we’ve made a strategic calculation to generally reduce the amount of receipt we would have in the fashion categories in the fall given the COVID situation, but not to eliminate them. And so one of the things that also gives us encouragement about sustaining the sales momentum is that most retailers have canceled most fall orders, and we’ll be trying to take a big backlog to bring summer merchandise and move it through their system.

We’ll be having fresh orders, new items, and a new concept, new products in the fall and holiday time period, that I think will be really differentiated from what will be broadly available at retail. So there’s a little bit of a risk in that, either we don’t get all the sales we think we can get. But we feel good to struck the right balance of keep the inventories clean and also half crush receipts, so that we’ll be relevant for the customer in the fall.

Edward Yruma

Great. Thank you so much, guys.

Operator

We will now take our next question from Thomas Forte from D.A. Davidson.

Thomas Forte

Great. Thanks for taking my question. So Mike and team, I’m glad to hear that everyone is well, and it sounds like you’re doing a wonderful job navigating just in a very challenging environment. So the question I had for you, Mike, is I wanted to know if you could tell me the financial mindset of your U.S. and international customer. I know historically, things that have affected it have been home values and stock market levels. Just wondering what your thoughts are today?

Mike George

Tom, appreciate your comments. We’ve been – we’ve certainly been encouraged by the spending pattern we’ve seen. I’m not sure how to exactly link that through her financial mindset. Certainly, in the surveys we do, she is concerned about the economy, as you would expect. You’re right that she’s typically most sensitive to housing values and stock market values, both of which have probably held us better in recent days than maybe we would have expected a month or so ago.

What we’re encouraged by her behavior is that she’s investing in her home right now – and to see really strong performance across every Cornerstone brand and those sort of are highest income customers, along with high-performance across [indiscernible] but I think she’s still okay. She’s willing to make investments to make to make her home life more comfortable for herself and her family. Clearly, she’s not going to be buying apparel right now or buying much less of it.

So that’s not a priority to her. But for those things that are priority for her, for making her home life better at this current moment, is clearly investing in product, investing in quality, and there’s no sort of trade down phenomenon that we’re seeing. So I think for now, while we certainly have concerns about this tough environment we’re in, at least in the way she’s engaging with us. I think she’s doing – she’s surprisingly resilient, I guess it’s how I would characterize it.

Thomas Forte

Thank you, Mike.

Operator

Ladies and gentlemen, we will now take our last question from Jason Bazinet. Please go ahead.

Jason Bazinet

Just had a question for Mr. George. If you had to offer up a hypothesis for the main driver of the top line improvement between the quarter and what you’re seeing quarter-to-date, what would that be?

Greg Maffei

I think – Jason, thanks for the question. To me, it is a combination of we know we have a consumer who is home and is much more engaged in viewing TV, much more engaged in spending time online. And so the power of our platform is to be present for her. And again, we’re seeing a lot of new viewers and new consumers and move traffic to our website. So it’s not just our existing customers. So I just think the fact that we have very powerful platforms with broad reach, both TV platforms and online platforms, say that at this moment in time when she’s engaged in that universe, we are there, and we’re there in a big way, and we’re there in a really differentiated way.

And we’ve always believed that if you get a consumer to spend a little bit of time engaging with us, she’ll start to spend a lot of time engaging with us, and you have a sort of a reinforcing positive effect. And so I think we’re seeing that. That then coupled with for a much higher level of engagement and taking purchases for home. And I would say if there’s a story of Qurate sales pressure, especially at QxH over the last couple of years, it’s been that we benefited from a fairly strong fashion cycle and a tough to home cycle. The fashion cycle then moderated over the last year, but we didn’t see the home side pickup.

And that was really what caused that couple percent point decline over the last year. If you had to oversimplify a historic growth with fashion and beauty got softened, home didn’t rebound. Now we’re in a mode where the customer is thinking much differently about her home and now she wants to invest in that home. And we have a wonderful array of products for her home across all of our business units. And now that she’s much more focused on that aspect, I think we’re benefiting from that.

So you as then try to fast forward, again, none of us can predict the future of this pandemic, but just the fact that so many people have been exposed to our ecosystem that might not have been exposed to it in a normal time, the fact that some aspects of this digital lifestyle will certainly continue. The fact that some aspects of the, stay-at-home lifestyle file and appetite for investment in the home will likely continue. I think we can be strong beneficiaries of both of those trends.

Jason Bazinet

Thank you very much.

Greg Maffei

Thank you. And I believe that’s the last call. So thank you, everyone, for your interest and support at this really tough time. We appreciate it. I hope you all stay safe and well. Thanks very much.

Operator

Ladies and gentlemen, that will conclude today’s conference call. Thank you for your participation. You may now disconnect.