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Specialty Stores Laud Online Sales but Feel the Logistics Pain

Specialty teen retailers are reporting strong growth in the digital sales channel, but they’ve also noted it doesn’t come without some growing pains.

Chains reporting their fourth quarter and full year sales and earnings this week, including jeans specialists American Eagle Outfitters, Abercrombie & Fitch and Urban Outfitters, cited increased logistics costs related to e-commerce business, while still applauding the power of direct-to-consumer marketing.

There’s also a sentiment that the lower corporate tax rate created by the 2017 Tax Cuts and Jobs Act will allow for greater investment in logistics to improve systems and efficiencies.

Jay Schottenstein, American Eagle’s CEO, said in reporting that net revenue for the fourth quarter had increased 12 percent to $1.23 billion, said that the digital business in particular continued its “exceptional growth,” climbing more than 20 percent in the quarter.

American Eagle’s gross profit increased to $425 million from $389 million, but its gross margin rate decreased 80 basis points to 34.6% of revenue compared to 35.4% last year. The company said the reduction in margin rate reflected in higher promotional activity, as well as increased shipping costs and higher compensation, and that it was offset by rent leverage.

For the year, gross profit was up slightly to $1.37 billion, or 36.1% as a rate to revenue. Excluding $2 million of restructuring charges, adjusted gross profit as a rate to revenue was 36.2% and deleveraged 170 basis points from last year. The retailer said the reduction in margin rate was primarily due to higher promotional activity and increased delivery to support a strong digital business.

Urban Outfitters reported net sales for the fourth quarter increased 5.7% over the same period in 2017 to a record $1.09 billion. Comparable retail segment net sales increased 4 percent, driven by strong, double-digit growth in the digital channel partially offset by negative retail store sales.

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Frank Conforti, chief financial officer of Urban Outfitters, which operates the Anthropologie, BHLDN, Free People, Terrain and Urban Outfitters brands, said on a conference call with analysts, “Within our URBN Retail segment ‘comp,’ the digital channel continued to perform nicely with all brands posting double-digit digital growth. Digital growth was driven by increases in sessions and conversion rate, while average order value was flat.”

Conforti added, however, that adjusted gross profit rate for the fourth quarter declined by 113 basis points to 32.3% from 33.5% a year earlier. For the year, the gross profit rate decreased by 259 basis points versus the prior year’s comparable period.

“This decline was primarily driven by deleverage in delivery and logistics expense due to increased penetration of the digital channel, increased expedited shipments around holiday in order to hit guaranteed delivery dates and increased penetration of international and furniture shipments,” he said. “Merchandise markdowns were lower in the quarter, but the improvement was partially offset by lower initial mark-ups.”

Richard A. Hayne, CEO of Urban Oufitters, added, “In the fourth quarter, digital penetration of our total Retail segment sales exceeded 40 percent for the first time.”

At Abercrombie & Fitch, CEO Fran Horowitz said the company achieved record digital sales across all brands.

“We continue to improve the customer experience with ongoing investments in loyalty programs, stores, direct-to-consumer and omnichannel capabilities,” Horowitz said on a conference call discussing financial results. “Direct-to-consumer net sales grew to approximately 34 percent of total company net sales, compared to approximately 31 percent last year.”

Horowitz said A&F is focused on improving its digital engagement experience from marketing and shopping, to check out and fulfillment.

“With that said, the pivotal element and the interplay between physical and digital also remains an important piece of our brand engagement mix and innovations in our use of safe core elements,” she said.

She said in 2017, the company expanded omnichannel capabilities in more markets and saw an increasing number of customers take advantage of online purchases, in-store pick-up, order-in-store and reserve-in store.

“Our goal is to become an industry leader in omnichannel experience,” Horowitz said. “As this is the case with omnichannel, the physical and digital experience is increasingly connected. Digital is often a starting point for product discovery and purchase generally, but not always the endpoint.”

The Tax Act reduces the federal tax rate on U.S. earnings to 21 percent from 35 percent, it also requires U.S. companies to pay a tax on historical earnings generated offshore that have not been repatriated to the U.S.

“As everyone is aware, in December, U.S. Tax Reform was enacted,” Urban Outfitters CFO Conforti, said. “This new legislation required us to take a one-time charge on our foreign earnings and profits, and we are also required to write down certain deferred tax assets. These one-time charges totaled $65 million for the quarter. Excluding these one-time charges our effective tax rate for the quarter would have been 27.5%. Our annual and first quarter effective tax rates are planned to be approximately 25 percent.”

Urban’s Hayne, added, “We believe that if we perform to our FY19 plan, we could experience a reduced tax burden greater than $30 million. Given this reduction, the resurgence of fashion and the state of the economy, we believe larger investments in future growth projects are warranted. During the year, our plan reflects incremental investments to support our fast-growing digital business, including upgrades to our capabilities around mobile, personalization, loyalty, marketing, search, ease of checkout and load speeds. This will require hiring additional engineers and project managers and contracting with more service providers.”

American Eagle said as a result of the tax legislation, the company realized 8 cents per share of tax benefit from the lower corporate tax rate, the re-measurement of deferred tax balances and the one-time transition tax on un-repatriated earnings of foreign subsidiaries.

Urban Outfitters said its effective tax rate for the fourth quarter was 98.6% compared to 34.9% in the prior year period. The effective tax rate for the year was 58.6% compared to 35.5% in the prior year comparable period.

“The increase in the effective tax rate for the three months and year was primarily due to a one-time charge on our foreign earnings and profits, as well as a write down of certain net deferred tax assets in relation to the comprehensive United States tax legislation commonly referred to as the Tax Cuts and Jobs Act of approximately $64.7 million,” the company noted.

A&F said the effective tax rate for fiscal 2017 was 45 percent, reflecting discrete net tax charges of $19.9 million related to the Tax Act, primarily associated with the one-time deemed repatriation tax on accumulated foreign earnings.

The company estimates its core tax rate to be in the mid to high 20s based on the Act. However, for fiscal 2018, the company expects to incur discrete non-cash income tax charges of about $10 million related to share-based compensation accounting standards that went into effect in fiscal 2017. As a result, the company expects the full year effective tax rate to be in the mid-to-high 30s.

For the first quarter, A&F expects the effective tax rate to be in the low-double digits to low teens, reflecting approximately $9 million of the discrete non-cash income tax charges related to share-based compensation.

The company is targeting capital expenditures to be about $130 million for fiscal 2018, including about $45 million for direct-to-consumer and omnichannel investments, information technology and other projects.