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High Freight Costs Hitting URBN’s Product Margins

Urban Outfitters Inc. reported net income in the first quarter fell 41.1 percent to $32 million.

In a Nutshell: As supply chain challenges continue to drive higher freight costs, Urban Outfitters Inc.’s initial product margins will continue to be negatively impacted, chief financial officer Melanie Marein-Efron said Tuesday as the company reported first quarter financial results.

“The combination of higher markdown rates and lower initial product margins could result in an approximate 500 basis point decline in gross profit margins for the second quarter based on today’s current sales performance and plan,” Marein-Efron said.

CEO Richard A. Hayne, also speaking to Wall Street analysts on the conference call, said the Urban Outfitters chain in North America saw a deceleration in comp sales throughout the quarter as it faced progressively more difficult comparisons against sales in the first quarter last year.

“Most Urban North America brand customers received stimulus windfalls in March and April last year, which quickly swelled their disposable income,” he said. “Many spent it just as quickly and helped drive a surge in demand in the first half of last year. As a result, Urban Outfitters North America has very difficult comparisons this year during the first half. Furthermore, this customer is the most sensitive to inflation as they are typically younger and earn less than their Anthro or Free People counterparts. Adding to these powerful headwinds, the brand in North America did not execute to the level we would have liked. Taken together, we believe Urban Outfitters North America will likely underperform in the second quarter.”

Frank Conforti, co-president and chief operating officer, said demand for women’s apparel and accessories were the strongest, with home decelerating from its recent healthy trends. At the Anthropologie group, dresses led the apparel category. During the quarter, the home category was positive driven by strength in furniture and a positive comp in gift and entertaining.

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“The growth in our wholesale segment was due to strong full price channel sales at Free People, which more than offset a slight decline at Urban Outfitters,” Conforti said.

As of April 30, total inventory increased 31.9 percent, or $152.2 million, compared to total inventory as of April 30, 2021, and retail segment comparable inventory at cost increased 35 percent, driven by higher inventory costs due to increased product costs driven largely by higher inbound transportation expenses and raw materials costs; ongoing global supply chain constraints causing the company to extend lead times and holding more inventory, and Urban Outfitters brand’s sales came in lower than planned resulting in increased inventory levels.

In the quarter, selling, general and administrative (SG&A) expenses increased 22 percent, or $49.9 million, compared to year-earlier period, and expressed as a percentage of net sales, deleveraged 184 basis points. The deleverage in SG&A as a rate to sales and growth in SG&A dollars was primarily related to the increased penetration of store sales in the quarter as the company incurred store payroll expenses to support the growth.

During the quarter, the company opened five new retail locations including two Free People Group stores; two Urban Outfitters stores for a total of 262. It also closed one Free People Group store, for a total of 174 units in the United States, Canada and Europe; one Urban Outfitters unit for a total of 174 units in the same locale, and one of now 237 Anthropologie Group stores.

Sales: Net sales for the first quarter ended April 30 increased 13.4 percent over the same period last year to a record $1.05 billion.

Retail segment net sales rose 12 percent with comparable retail net sales up 11 percent. Urban Outfitters said the relative proportion of retail segment sales attributable to store and digital channels changed significantly due in large part to the temporary store closures and occupancy restrictions in the United States, Europe and Canada in the prior year quarter due to the Covid-19 pandemic. With those restrictions not present in the current year quarter, retail comparable sales increased on double-digit growth in store sales thanks to increased store traffic, partially offset by mid-single-digit negative digital channel sales.

By brand, net sales increased 18 to $419.68 million at the Anthropologie Group, 15 percent to $245,76 million at the Free People Group and 1 percent to $357.7 million at Urban Outfitters. Wholesale segment net sales increased 6 percent to $65.66 million, driven by a 9 percent hike in Free People Group wholesale sales. Nuuly segment net sales nearly tripled to $22.85 million, driven by a significant increase in its subscriber base.

Earnings: Net income for the three months fell 41.1 percent to $32 million. Earnings per share (EPS) was 33 cents compared to EPS of 55 cents in the prior-year period.

Gross profit dollars increased 7.5 percent to $323.3 million. The gross profit rate decreased 169 basis points year over year primarily due to lower initial merchandise markups driven largely by higher inbound transportation expenses and raw materials costs, the company said.

Conforti said freight costs are seen “remaining pretty consistent into the second quarter,” and should start to reduce in the third quarter with an opportunity for improvement going into the fourth quarter.

“There’s a lot of uncertainty out there right now,” he said. “You’ve got shutdowns going on in China, you’ve got a potential port strike here in the U.S. and you’ve got a war going on in Ukraine. So, this is our view as we sit here today.”

CEO’s Take: “All three brands are still under their fiscal year 2020 traffic patterns, and Urban has slightly higher penetration of stores in places like New York City, Chicago, San Francisco, where the traffic is most challenged,” Hayne said, noting that Urban Outfitters is the company’s most challenged brand overall. “So, we believe while we’ve made substantial progress in the last year, 1.5 years, we still have a long way to go, particularly with the Urban brand.”

“We are pleased to announce record Q1 sales driven by an 11 percent retail segment comp,” Hayne added. “Unfortunately, the impact of inflation on our costs of doing business more than offset the benefit of record revenues.”