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Blue Christmas for The Children’s Place?

The back-to-school season that never was hit The Children’s Place hard in the third quarter, just as CEO Jane Elfers anticipated it would, as more schools opened with remote or hybrid learning models and demand for children’s apparel deflated. But even though the retailer of kid’s and infant’s clothing doesn’t expect to fill a need for “dress-up” attire any time soon, it’s heading into the holiday season buoyed by a return to profitability.

In a Nutshell: The children’s specialty apparel retailer has seen digital sales penetration increase to 44 percent in the third quarter. Year-to-date, due to store closures at the onset of the pandemic, digital sales represent 55 percent of total sales. Since March, The Children’s Place has increased the number of new digital customers versus last year by approximately 100 percent, converted over 800,000 store-only customers to omnichannel customers and increased mobile app downloads by over 60 percent versus last year.

Elfers said in a third quarter earnings call that the company’s omnichannel consumers shop with them more often and spend approximately three times more consumers who only shop one channel.

The increased emphasis on digital during the pandemic comes as The Children’s Place is trimming its physical presence, permanently closing 16 stores in the third quarter and bringing the number of stores closed during the first nine months of the fiscal year to 118. The company ended the quarter with 809 stores and square footage of 3.8 million, a decrease of 14.3 percent compared to the prior year.

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The Children’s Place remains on track to close 300 stores by the end of 2021, and is targeting 200 store closures in fiscal 2020, including roughly 80 remaining closures targeted for January. The 100 additional closures are set to occur in fiscal 2021.

Since the company’s fleet optimization initiative was announced in 2013, The Children’s Place has closed 389 stores. The closures will position the retailer to enter fiscal 2022 with 75 percent of total revenues generated outside of traditional malls.

In the call, Elfers also highlighted The Children’s Place’s improving “transfer rate,” which monitors shoppers who continue to shop online at the retailer for a year after their local store closes. She said that year-to-date through the end of September, the transfer rate increased to 31 percent versus a full year 2019 transfer rate of 20 percent, reinforcing the decision to accelerate the store closures.

The pivot to digital has taken a toll on overall gross profit, which was $146.1 million in the third quarter compared to $198.1 million in the year-ago period. Adjusted gross profit was $151.7 million, down from $198.1 million, with adjusted gross margin deleveraging 210 basis points (2.1 percentage points) to 35.7 percent of net sales.

The decrease was primarily a result of the higher fulfillment costs associated with the ramp up in e-commerce, along with the deleverage of fixed costs due to lower net sales, partially offset by higher merchandise margins in both stores and e-commerce channels.

Total inventories increased 9.7 percent to $427.6 million from $389.8 million in the prior third quarter, driven by sales declines in key back-to-school categories, which accounted for the entire increase in inventory. The retailer will continue to carry this inventory to support back-to-school demand whenever schools can safely reopen for in-person learning, chief financial officer Mike Scarpa said on the call. Scarpa noted that the inventory is “basic, salable, go-forward product” available across all channels.

Meanwhile, the company’s seasonal carryover inventories are down approximately 45 percent, leaving it with less outdated merchandise.

In line with the back-to-school slump, The Children’s Place expects occasion-driven spending will continue to be down throughout the holiday season, Elfers said.

“We reduced our dress-up receipts at the time of the holiday buy last April, but we now expect Q4 to represent historically low demand for dress-up product,” Elfers said in the call. “This is due to the pandemic driven cancellation of nearly all school-related social events, including in-person holiday parties, parades and concerts, combined with the holiday season that provides for limited socializing through strict social distancing requirements, limited family gatherings and mandated cancellations of large in-person social events.”

As of Oct. 31, The Children’s Place had approximately $64.5 million of cash and cash equivalents and $179.4 million outstanding on its revolving credit facility. During the third quarter, the company completed an $80 million term loan financing transaction and use the net proceeds to pay down its existing revolving credit facility. The company generated approximately $32.5 million in operating cash flow in the quarter.

Due to the continued uncertainty related to the Covid-19 pandemic, Children’s Place is not providing financial guidance for the holiday season. As of Oct. 31, the retailer had 99 percent of its stores open in the U.S., Canada and Puerto Rico.

Net Sales: Net sales at the children’s wear retailer decreased 19 percent to $425.6 million in the third quarter from $524.8 million in the prior-year period, primarily as a result of the back-to-school sales declines due to schools adopting remote and hybrid learning models, along with the impact of permanent and temporary store closures.

From the beginning of August through Labor Day, when back-to-school sales traditionally peak, total net sales dropped over 40 percent, Scarpa said. Sales improved again once assortments converted to more casual options and the weather turned cooler.

Net Earnings: Net income was $13.3 million, or 91 cents per diluted share, in the three months ended Oct. 31, compared to net income of $43 million, or $2.77 per diluted share, in the prior year period.

Adjusted net income was $21.1 million, or $1.44 per diluted share, compared to adjusted net income of $47.1 million, or $3.03 per diluted share, in the comparable period last year.

The adjusted results exclude net expenses of approximately $10 million, primarily related to the impact of the pandemic, including incremental Covid-19 operating expenses, including incentive pay and PPE for associates and occupancy charges for rent at stores that were temporarily closed. The total impact on income taxes for the above items was approximately $2.2 million.

CEO’s Take: Elfers acknowledged one of the industry’s major concerns going into the holiday season as record e-commerce demand continues to exhaust retailers’ resources, their warehouses and their logistics partners—and as such anticipates pressures on margins.

“With respect to our digital business, to ensure on-time holiday delivery, we have already been advised by our major carriers to move our standard shipping cut-off up by three days from our original date of Dec. 18 to Dec. 15 due to the capacity constraints across the domestic transportation network,” said Elfers. “In addition, the related freight surcharges imposed by our major carriers will put additional pressure on e-commerce margins during the quarter.”