Lululemon Athletica Inc (LULU) — Q1 2017 Earnings Call Transcript

Thank you, and good afternoon. Welcome to Lululemon's first quarter earnings conference call. Joining me today to discuss our results are Laurent Potdevin, CEO, and Stuart Haselden, COO. Sun Choe, SVP of Global Merchandising, will also join us during the Q&A portion. Before we begin, I want to remind you that our remarks today will include forward-looking statements that reflect management's current forecasts for certain aspects of the company's future. These statements are based on current information that we have evaluated, but they are inherently dynamic and may change rapidly. Actual results may differ significantly from those presented in or implied by these forward-looking statements due to risks and uncertainties related to the company's business. Factors that could lead to different results are outlined in the company's filings with the SEC, including our Annual Report on Form 10-K and quarterly reports on Form 10-Q. Any forward-looking statements made during this call are based on assumptions as of today, and we have no obligation to update these statements with new information or future events. We will present both GAAP and non-GAAP financial measures during this call. A reconciliation of GAAP to non-GAAP measures is included in our Annual Report on Form 10-K and in today's earnings press release. The press release and accompanying Annual Report are available in the Investors Section of our website at www.lululemon.com. Today's call is scheduled to last one hour. Now I would like to turn the call over to Laurent.

Thank you, Howard, and good afternoon, everyone. On our year-end call, we reviewed our longer-term vision and 2020 plan to double our revenue to $4 billion and more than double earnings. Today, I will focus specifically on our first quarter business trends, which were positively impacted by the actions we took to build momentum early in the quarter. I will then touch on Q2 milestones that inspired our guests, from our first global brand amplification to our most innovative and integrated product launch to date. Stuart will review our financials and provide Q2 and full year guidance. We'll then take your questions. Let me kick off the call by sharing our first ever global brand campaign, This Is Yoga. Through recontextualizing how the world sees yoga culture, we articulate the core of our brand and what defines and differentiates Lululemon. The internal launch created an unprecedented energy and excitement across our employees, our educators, and our ambassadors. And on May 15, we took yoga off the mat and into real life, sharing the power of practice with the world, reconnecting loyal guests with who we are and authentically reaching millions of new guests. We are proud of how powerfully this campaign has resonated with influential audiences around the world, creating 240 million global impressions and over 26 million views of the anthem video in its first 2 weeks. The launch of This Is Yoga is just the beginning of our global brand amplification as we connect with millions of new guests in key markets around the globe. Before sharing our first quarter highlights, I'll update you on our decision to evolve ivivva to an e-commerce focused strategy. This new streamlined model, with 8 stores in key ivivva communities across North America, will enable us to continue serving our young ivivva guests who have come to know and love the brand so much. This decision will also be accretive to productivity, comps, and earnings. By August 20 of this year, we will close all but 8 of our ivivva locations, and Stuart will walk you through the financial impact for the year. While I know this is the best path forward for the future of our business, it's a very difficult decision due to its impact on our people, who we are deeply committed to supporting with integrity and compassion throughout this transition. I am so grateful for the passion and dedication of our people, the brand they've created, and the impact ivivva will continue to have on so many communities of active girls. I'll now shift to our Q1 results. We delivered revenue of $520 million, a normalized gross margin increase of 210 basis points, and an adjusted EPS of $0.32. Our adjusted EPS was better than our guidance and increased 7% over last year. Comps declined 1% in total, with stores down 1% and e-commerce flat. Our normalized EPS exceeded our expectations, driven predominantly by stronger revenue and product margins as we continue to benefit from the evolution of our supply chain. Our inventory remains well controlled, up 6% at the end of Q1 and in line with our sales growth. The actions we've taken to build momentum have had an immediate impact on our performance. This positive trend has continued and accelerated as we enter Q2. And as we look to the second quarter, we are seeing robust performance across all channels and categories with combined comps up in the low to mid-single digits and digital back to a double-digit comp trend. Turning now to some specific first quarter highlights. Let me share how the strategies we outlined on our last call have powerfully and positively driven our performance. Starting with women's. Our stronger assortment, combined with newness and functional innovation delivered a significant comp improvement. Towards the end of the first quarter, the cadence of new product launches and fabric innovation created excitement with guests and deepened our connection with the runners in our collective. Created in our new top performing Nulux fabric, Fast And Free brought our Naked Sensation across an extended range, including a tight, a crop, and a bra. Guest response to Nulux overall continues to surpass our expectations and contributes significantly to our overall women's bottoms comp in Q1. And I am thrilled to share that together with new elite ambassador, Kerri Walsh Jennings, the 3-time Olympic Gold beach volleyball player and a truly inspirational role model both on and off the court, we launched our Mind Over Miles capsule. Featured in white, this collection was designed for guests who prefer a hugged-in sensation, and was one of the top 5 selling style colors of this quarter. This collection is catered to our guests' growing demand for our Engineered Sensations across all product categories. Shifting to digital. Since April 1, we've doubled down on our digital strategies and our teams have been laser-focused on delivering a significantly enhanced digital experience. As I'm sure you've all noticed, the infusion of energy, movement, and fun in how we've brought product to life has exceptionally enhanced our guest experience and delivered an increased engagement and performance. Having just passed 2 million subscribers, the new creative approach has created our highest ever engagement across men's and women's and delivered increased conversion. The clear and decisive actions we've made to inspire our guests and drive our digital performance is a compelling validation of the global runway ahead of us. Looking at men's. We delivered a high single-digit comp this quarter against an exceptional 21% comparison last year. Bottoms, often our male guest's entry to brand, remains a pillar of this business, comping up 20% in Q1. Our performance in men's tops accelerated as the quarter progressed, driven by the successful launch of the Somatic series training tops in our Intersec Fabric. This acceleration has contributed to an overall improvement in the men's comp, trending in the low double-digits. In Q2, key innovation launches, including light Metal Vent Tech Surge and pack-and-dash run tops will extend 2 of our top-performing franchises as we continue to solve for guests' functional demand. Quarter-after-quarter, our performance gets us closer to realizing the full scale of our $1 billion plus opportunity in men's. While men account for 20% of our total business, they are just under 30% of all new guests. This will only increase as we strategically focus on guest acquisition through colocated stores, curated e-commerce experiences and by leveraging This Is Yoga, where ambassadors like Jian Pablico and his practice of nonviolence, and London grime artist P Money and his practice of breath authentically connect with the broader millennial male audience. Now turning to international, another exciting growth strategy and a $1 billion dollar opportunity. In response to market demand, we are accelerating our expansion with 50 new store openings this year. Near-term, Asia holds the most significant growth potential. Building on the energy of our Harajuku location, we've seen exceptional performance at our new store within the stunning new Ginza Six complex in Tokyo. The guest response to our exclusive Tokyo white-on-white reflective capsule reflects the strong guest affinity of the brand in one of the most influential markets in the world. Building on the brand's performance and resonance in China, we are accelerating our densification strategy in Tier 1 cities, with the newest opening in Xintiandi, Shanghai, a vibrant iconic neighborhood destination for locals and visitors alike. In their first few months of opening, our China stores are outperforming all store metrics, currently tracking to over $1,600 in annual sales per square foot. Chinese millennials are some of the most digitally engaged consumers in the world, a behavior we are experiencing online with our Tmall business having doubled over the last 3 quarters. The collective impact of our physical stores and digital presence is driving our impressive performance in this key market. In its second year and more than doubling in size, our Unroll China event sold out within hours. It kicked off May 6 at the Shanghai concert hall, with over 1,200 yogis experiencing the power of practice. Enhanced by live streaming, it is traveling across 6 cities with over 10,000 participants. Unroll China is a fantastic platform as we continue to build brand awareness across China. And our expansion this year continues across key cities, such as Chengdu and Guangzhou, as well as additional locations in Shanghai and Beijing. Turning to Europe. London remains our key focus, delivering 50% sales growth on a constant currency basis year-over-year. Outside of London, we opened our second shop-in-shop in Dublin's Brown Thomas department store. Fueled by strong guest demand, the opening and performance have been exceptional, tracking at $1,600 per square foot. In North America, we continue to invest to realize the solid growth opportunities ahead of us, maximizing our potential through tailored and agile store formats and leveraging our omnichannel tools that have greatly exceeded expectations with guests. We are driving double-digit square footage growth and on track to open 30 stores in key destination cities, including New York, where we are opening in an iconic space at 597 Fifth Avenue across from Rockefeller Center, as well as Las Vegas, Los Angeles, and Boston. While early into the second quarter, we are off to a great start with many exciting moments to come that will continue to drive our performance. With a clear mandate to accelerate momentum and drive growth, a highly collaborative and creative team is delivering quantifiable impact and is demonstrating what can quickly be achieved when we unite behind a shared vision. And the results speak for themselves. In a short period of time, the team has delivered 2 new releases of our website, an enriched experience for iconic product launches such as our category disrupting Enlite Bra, bold and curated product experiences to align with This Is Yoga campaign, and highly targeted and timely guest engagement such as our summer seasonal focus on women's shorts, which drove a 39% comp in the U.S. Collectively, this work is meaningfully and sustainably impacting our performance. The scale of our potential in digital is crystal clear, and I've never felt more energized by our ability to realize a billion dollar plus opportunity in front of us. Last but not least, I want to focus on innovation. Starting with our newest whitespace launch, our category-defining bra, Enlite. Over 2 years in its creation, our industry disrupting research and development team created an innovative technology, enabling women to experience comfort, performance, and aesthetics when selecting a run bra. Managing harmonious movement across the whole body, Enlite provides a freeing sensation, superior comfort, and no distractions. Made from our proprietary Ultralu fabric in our signature barely-there feeling, it provides optimal stretch, recovery, and breathability. We are now at a leadership position in the bra category as we are in women's bottoms, delivering the most innovative and demanded product in the 2 categories that define the women's athletic market. Initial performance and reaction from our guests and educators has been exceptional, with Enlite receiving over 190 million media impressions, exceeding plans by 300% and instantly becoming our #1 selling bra. In just a few weeks, Enlite has created a significant halo across the category. And by balancing the overall assortment with a high support, molded fit option, our initial findings suggest that a significant number of guests choosing Enlite have not bought a bra from us before, creating the opportunity for the Enlite platform to improve our conversion by reaching a broader range of guests. In Q3, we will bring to market our newest fabric innovation, building on our unique leadership position in yarn development and raw material design. I know this newest addition to our Engineered Sensations range will create an even deeper connection with new and existing guests, who live for high sweat and high-intensity workouts. Our whitespace team will continue to innovate the science of engineered sensation and the future of how people want to feel as they live a life they love. Before passing over to Stuart, I'd like to take a moment to share some great updates to our Board of Directors and executive team. First, a warm welcome to our new Co-Chairman, Glenn Murphy. I look forward to working with Glenn and know that his deep knowledge and experience will have a substantial impact on the future of the business. Next, I'm delighted to recognize Stuart Haselden, who is taking on the newly created role of Chief Operating Officer. Since joining, he has led with clarity and confidence. And thanks to his work, we have the foundation and operational excellence in place to strive as we realize the significant growth opportunities ahead of us. I'm also pleased to share that Sun Choe, our SVP, Merchandising, is now reporting directly to me. This ensures that our Creative Director, Lee Holman, and his team has the space to focus on design, while our merchants can effectively drive the design vision into profitable growth. We're happy to have Sun on the call with us today, so do feel free to direct questions her way also. As I look to our second quarter and the rest of 2017, I continue to see the unprecedented opportunity for Lululemon. From our unique culture, our cadence of product innovation, designing the future of guest experiences, combined with This Is Yoga amplifying who we are globally, we are more powerfully positioned than ever to deliver long-term profitable growth as the leading global brand of an active, mindful lifestyle. Now, over to Stuart.

Thank you, Laurent. After a slow start to Q1, we saw business accelerate in the latter part of the quarter and we're pleased to see this trend now extending into Q2, with an even more pronounced improvement in the e-commerce trend that I'll discuss shortly. We also saw strong product margin performance in Q1 that exceeded prior estimates and enabled an earnings outcome well above our guidance. This reflects the ongoing benefits of our supply chain investments. Before reviewing the details of the first quarter, I'd like to offer some commentary on the impact of our decision to close our ivivva stores. I'll then review the details of our first quarter results and provide our updated outlook for the full year 2017 and also the second quarter. As Laurent mentioned, we plan to reposition ivivva as a primarily e-commerce focused business, with a select number of stores continuing to operate in key communities across North America. We plan to close approximately 40 of our 55 ivivva branded stores and expect to convert about half of the remaining locations to Lululemon stores. We'll also close our 16 ivivva branded showrooms and other temporary locations, and will streamline its dedicated support infrastructure. The store closures and restructuring will be substantially complete by the end of the third quarter of fiscal 2017. In connection with this restructuring plan, we expect to recognize pretax costs of between $50 million and $60 million in fiscal 2017, of which $17.7 million was recognized in Q1. The costs are composed primarily of asset impairments, accelerated depreciation, lease termination costs, and a smaller portion for inventory provisions and severance. Now turning to the details of Q1. Total net revenue rose 5% to $520.3 million, with the increase in revenue resulting from the following: an increase in square footage growth of 10% versus last year, driven by the addition of 38 net new company-operated stores since Q1 of 2016, 22 net new stores in the U.S., 3 stores in Canada, 5 in Europe, and 8 in Asia. This was offset by a total constant dollar comparable sales decline of 1%, comprised of a bricks-and-mortar comp store sales decline of 1% and an e-commerce comp that was flat. The impact of foreign exchange decreased revenues by $1.5 million or 0.3%. During the first quarter, we opened 5 net new company-operated stores, 2 in the U.S., 2 in Asia, and 1 in Europe. We ended the quarter with 411 total stores versus 373 a year ago and 352 stores in our comp base: 57 of those in Canada, 258 in the U.S., 26 in Australia and New Zealand, 7 in Europe, and 4 in Asia. At the end of Q1, we also had a total of 48 showrooms in operation, 30 in North America and 18 internationally. Revenues from company-operated stores totaled $379.1 million or 72.9% of total revenue compared to $358.7 million in the first quarter of 2016 or 72.4% of total revenue. Revenues from our digital channel totaled $97.2 million or 18.7% of total revenue compared to 19.7% of total revenue in the first quarter of last year. Other revenue, which includes outlets, showrooms, strategic sales, pop-up stores, and warehouse sales totaled $44 million versus $39.2 million in the first quarter of last year. Gross profit for the first quarter was $256.9 million or 49.4% of net revenue compared to $239.1 million or 48.3% of net revenue in Q1 2016. The gross profit rate in Q1 was adversely impacted by 100 basis points related to ivivva inventory provisions. Excluding these items, adjusted gross margin increased 210 basis points versus last year, which exceeded our expectations for the quarter with the increase comprised of the following: 380 basis points of overall product margin improvement, primarily driven by lower FOB costs, higher average unit retails, and a modest benefit in air freight, an extension of our strategic supply chain efforts that we've seen driving margin improvement over the last several quarters; foreign-exchange contributed to a 30 basis point year-over-year improvement in gross margin. Offsetting these factors was 200 basis points of deleverage, half attributable to occupancy and depreciation and the other half to fixed costs related to our product and supply chain team. SG&A expenses were $199.1 million or 38.3% of net revenue compared to $181.5 million or 36.6% of net revenue for the same period last year. The deleverage in SG&A was generally in line with our expectations and due to increases in store operating costs, digital marketing, investments in brand and community, and IT, partially offset by a benefit in foreign exchange relative to last year. Separately, as a result of our plans for the ivivva business, we incurred $12.3 million in asset impairment and restructuring costs associated with the write-off of capital assets and severance. Operating income for the quarter was $45.4 million or 8.7% of net revenue compared with $57.6 million or 11.6% of net revenue in Q1 2016. Excluding the pretax charges of $17.7 million related to the planned closures of the ivivva stores, adjusted operating income for the quarter increased to $63.2 million, reflecting 50 basis points of operating margin expansion versus last year to 12.1% of sales. Tax expense for the quarter was $15.1 million or 32.6% of pretax earnings compared to an effective tax rate of 20.6% a year ago. Keep in mind, the prior year tax rate includes certain adjustments for the company's transfer pricing arrangement and associated repatriation of foreign earnings. The adjusted tax rate for the quarter was 30.8% compared to the 29.8% in the first quarter of 2016. Net income for the quarter was $31.2 million or $0.23 per diluted share compared to earnings per diluted share of $0.33 for the first quarter of 2016. Net income in Q1 2017 includes $13.1 million or $0.09 per share in ivivva-related charges. Excluding these charges, adjusted net income in the quarter was $44.3 million or $0.32 per share or an increase of 7% to an adjusted EPS of $0.30 last year. Our weighted average diluted shares outstanding for the quarter were $137.2 million versus $137.5 million a year ago, which takes into account the weighted impact of 234,000 shares repurchased during the quarter at an average price of $54.60 per share. By the end of the quarter, we had completed a total of $12.8 million in total share repurchases under the current $100 million authorization, which was the maximum available for repurchase under our existing 10b5-1 program. Capital expenditures were $19.9 million for the quarter compared to $26.6 million in the first quarter of last year. The reduction relates primarily to fewer store openings as our store opening cadence this year is weighted more heavily to the back half. Turning to our balance sheet highlights. We ended the quarter with $698.3 million in cash and cash equivalents. Inventory at the end of the first quarter was $304 million or 6% higher than at the end of the first quarter of 2016, reflecting a 3% decrease in inventory per square foot. We expect our inventory growth at the end of Q2 and for the balance of the year to generally grow in line with our forward sales trend. Turning now to our updated outlook for the second quarter and fiscal year 2017. We are pleased with the results we are now seeing from our efforts to recover the sales trend in our e-commerce business. Quarter-to-date trends online are now comping in the positive low double digits and we see additional opportunity ahead. To deliver this important inflection in our digital business, we have taken aggressive steps to reorganize our digital teams and have leveraged certain external resources not previously contemplated in our financial plans. As a result, we will have certain one-time investments related to this recovery effort, which we will break out momentarily as part of our SG&A guidance. We're also pleased with the performance of our store teams in a difficult macro environment and we continue to see solid ongoing results. Please note that the guidance we are sharing excludes additional costs related to the ivivva restructuring. For Q2, we expect revenues to be in the range of $565 million to $570 million. This is based on a comparable sales percentage increase in the low to mid-single digits on a constant-dollar basis compared to the second quarter of 2016 and reflects a low to mid-teens e-commerce comp estimate. This also assumes the Canadian dollar at 0.76 to the U.S. dollar and 8 new store openings in the quarter. We anticipate gross margin, normalized for ivivva, to increase approximately 100 basis points over Q2 of last year. This reflects strong product margin improvements partially offset by occupancy and depreciation trends similar to Q1. We expect SG&A in the second quarter to deleverage from Q2 2016 by approximately 350 basis points. This deleverage is greater than our original plans contemplated, with approximately half related to critical one-time expenditures to support our e-commerce business as we just discussed. These aggressive actions, encompassing site optimization, visual merchandising, improved social engagement, and digital marketing in a short period of time have already made a significant impact, improving our digital comps from flat to low double digits, and I am excited by the momentum this gives us for the balance of Q2 and the second half of the year. The remainder of the SG&A deleverage is related to brand and community investments associated with our new global brand campaign that we launched in May, along with IT spend related to key technology projects. We expect foreign exchange to have a nominal impact on SG&A in Q2 based on actions taken to mitigate our exposures. Assuming a normalized tax rate of 31% and 137.2 million diluted weighted average shares outstanding, we expect normalized diluted earnings per share in the second quarter to be in the range of $0.33 to $0.35 versus $0.38 a year ago. It's important to note this includes approximately $0.04 to $0.05 of earnings impact from expenses related to our digital acceleration work that I just mentioned. For the full year 2017, we expect revenue to be in the range of $2.53 billion to $2.58 billion. This is based on a comparable sales percentage increase in the low single-digits on a constant dollar basis. The guidance range takes into account the planned closures of our ivivva stores and the associated reduction in revenues, offset partially by the accelerating trends we are seeing take shape in the business and, in particular, digital. We continue to expect to open up to 50 company-operated stores in 2017. This includes 15 or more internationally and represents a square footage increase in the low double-digits. We expect normalized gross margin for the year to increase 50 to 100 basis points from 2016, reflecting the benefits of product margin improvements, primarily in Q1 and Q2 and moderating into the second half. We continue to expect deleverage in products and supply chain SG&A as well as occupancy and depreciation, primarily due to more store openings planned versus last year, including those higher occupancy international locations. We now expect SG&A for the full year to deleverage by approximately 50 to 100 basis points versus 2016. This includes the one-time digital-related investments, which I mentioned earlier, and accounts for approximately 50 basis points of the increase. In addition, we will continue to invest in brand and community activities, IT, and our international business, notably to support our expansion efforts in Asia. As we complete our work in digital we expect the SG&A rate to moderate in the second half of the year and provide leverage in Q4. We now expect our normalized fiscal year 2017 diluted earnings per share to be in the range of $2.28 to $2.38. This increase to our full-year guidance reflects our confidence that the positive trends we're now seeing will extend for the full year. Our EPS guidance is based on 137.2 million diluted weighted average shares outstanding, and also assumes a normalized effective tax rate of 31%. We expect capital expenditures to range between $175 million and $180 million for the fiscal year 2017, reflecting new store openings, renovations, relocation capital, and also strategic IT investments. This is an increase versus our prior guidance of $170 million to $175 million due to increased investments to accelerate our digital business, plus additional capital related to new and remodeled stores. Before we take your questions, I wanted to emphasize the importance of the strategic measures we've taken to reorganize and strengthen our digital and technology capabilities. We have leveraged both internal and external resources in this effort to generate results quickly. These actions have carried costs that are impacting SG&A in the near-term, but we expect to realize meaningful SG&A leverage in Q4 as we clear these one-time investments. We are confident that these are the correct investments to make now to build our business for the long-term. We've also balanced these decisive near-term moves with thoughtful structural changes, including the recent announcements within our leadership team. I'm excited for my new role and the opportunity to work more closely with our technology teams. And I am thrilled to have Julie Averill joining us as our new CTO, leading all of our global IT functions. Julie has nearly 20 years of broad-based IT experience and was most recently Chief Information Officer at REI. I look forward to working with her to further build our technology infrastructure to achieve our growth plans. And with that, we'd like to open the call for questions. Operator?

This is Kate on for Brian. Congrats on the quarter-to-date improvement. I guess just we were thinking about what actions, specifically, you took in Q1 that you think most directly impacted the comp trend just from a merchandise perspective. And then, I guess, with Sun in the room, I guess, when you're thinking about what changes you're making here in 2Q from a product perspective and into the back half, what do you see as the most meaningful opportunity in order to help continue the improved comp momentum?

Thanks for your question. So the 2 most important actions we took were, one, getting back with depth in the assortment that we had lacked earlier on in the quarter. And, two, was really, as we had articulated on the last call, focusing on our digital experience. And I'm sure you've seen and experienced it, but what we've been able to create in a very short period of time has actually brought to life the brand in a way that is really, really powerful. And we've seen the highest engagement from our guests ever actually, whether it was a strap happy or the launch of the Enlite Bra or the campaign that we launched at that time. So, I mean, I'll let Sun speak more, specifically to the assortment. But from an assortment and from a digital standpoint, I mean, we were incredibly focused. We articulated what we needed to do. We did it, and actually, the results exceeded our expectations.

And from the merchandising standpoint, I think 2 key things for us that really helped turn some of the trend around. The first thing was, we were quickly able to get back into color and print, so we do see that balance improving. And I think, given that we are a performance and functional brand, the fact that we had really strong launches in our Nulux fabric franchise, as well as the launch of our Enlite Bra, that really helped buoy the trend. And we know that we have many more of those innovation platforms and franchises in the pipeline for the future, so we remain optimistic.

Great. And then, I guess, just a follow-up on the Enlite Bra. Can you just speak to any pricing or branding learnings that came as you implemented that launch? Sounds like it's really bringing in some new customers to the brand.

Yes, we're really excited. It's our most expensive bra in our portfolio. We have seen zero price resistance, so what we're finding is that if we have a technical solve and we're differentiated in the market, she's willing to pay the price.

My question is on the digital growth. First, on the gross margin. How should we think about the gross margin in that channel and the op margin, relative to brick-and-mortar? And then, Stuart, can you also talk about the inventory markdown, the $5.4 million? Was it all ivivva? Was it any go-forward product? And is there any residual markdown in Q2 that we should expect?

Hey Adrienne, certainly. So on the profit profile of our digital business, we enjoy a stronger operating margin with our e-commerce business. I mean, specifically, we did not have the rent and the payroll cost that we incur as part of our bricks-and-mortar business, and the product margins are slightly higher as well, as we have a more efficient way to manage our inventory pool online. So that is a benefit to the e-commerce business. And as we continue to have goals to drive a higher proportion of our business through our e-commerce channels, that should have an accretive impact on our overall company operating margins. In terms of the inventory cost that we called out, and there is a note in the press release that addresses specifically the cost of the inventory provision we took related to the ivivva restructuring decision. That is entirely related to ivivva, and at this point, we do not expect further inventory provisions in the second quarter. We believe that should all fall within the first quarter disclosure.

So just a breakdown, the low to mid-single digit comps that you're seeing here in May, or that you saw in May. I guess how would you rank the sequential improvement by category, if we were to bridge the 400 basis point comp improvement versus the negative one in the first quarter?

Hey Matt, it's Stuart. Yes, I think that we're seeing strength out of the latter part of the first quarter into the second quarter, certainly in both channels. Versus our original expectations for Q1, we saw a really strong trend in stores in particular, in the latter part of Q1. We see that continuing into the first quarter. That's definitely part of the guidance that we gave. But importantly, and probably strategically, the work that we are in in the digital acceleration effort has produced an important inflection in the trend of that business from the first quarter into the second quarter, which the quarter-to-date trend that we commented on in the prepared remarks reflect the impact that that effort is having. We are very confident that those trends will continue. And as we mentioned, we see opportunity above the quarter-to-date trends, so that business being about 20% of the total, you can sort of back into how the relative impact on that comp guidance is shaking out, but we're really seeing strength across both channels.

Got it. And then just a follow-up on SG&A, Stuart. Excluding the one-time items you laid out near-term, is it still fair to think about low single-digit comps as the multi-year SG&A hurdle rate? And then, I guess, if you could just touch on the strategic expense assessment, and what you found in Phase I and then just potential opportunities as we think about Phase II, which I think would be more next year opportunity?

So certainly, I think we've been pretty consistent that we expect to be able to leverage our cost structure at a low to mid-teens total revenue growth outcome. So the combination of the comp and the square footage growth are the factors that will help us achieve that. That's unchanged. We see that as the underlying fundamentals of how we have constructed the financial plan for this year and into next year. What's different, as we mentioned, is the one-time cost that we'll incur to recover our digital business. So those fundamentals are not different. In terms of the, I think the second question was regarding the SG&A work that we had begun in the later part of last year. And that work we're benefiting from this year. We'll see, as we had mentioned on the prior call, we'll see that the full benefit of that work in the second half of this year, particularly in the fourth quarter, where we expect it will be in a position to begin leveraging the top line estimates that we've offered.

Great quarter. I actually wanted to focus a little bit on 2 questions. The first one is just, not to continue to talk about digital, but the digital change, there's been a lot of changes going on there. And I just want a high level, strategically, what specifically are you doing now that's having such a meaningful, immediate impact that you really didn't do before? And how to think about that in terms of one-time cost, Stuart? It would seem like maybe the one-time costs are consulting fees or something like that. How much of that is one-time? How much should we think about that as an ongoing cost, just to grow the business?

A couple of years ago, Lululemon lacked a digital culture and mindset. To address this, we established a Center of Excellence focused on digital, enabling us to implement the necessary tools and foundation for a scalable global business, including a CRM system that we previously did not have. Over the past two years, we have created a solid foundation, and the final step was to digitally bring the brand to life, matching the strength we have in stores. Our in-store performance relies heavily on human connections, with our educators being the most vital part of the company, and replicating that online is challenging. Recently, our efforts have concentrated on powerfully showcasing the brand now that we have a strong foundation. This is evident in our product visuals, discussions about technology, video presentations, and importantly, how we integrate social media and our presence on mobile and desktop. This has made a significant impact on our business. We have established our Center of Excellence and built a foundation that allows us to transition our technology under our new CTO, Julie Averill, who will report to Stuart. This includes all aspects of Digital Marketing, guest acquisition, and community engagement, perfectly timed with the launch of This Is Yoga. Additionally, visual merchandising is overseen by Sun, and the operational aspects of running various channels are managed by our regional leaders, Celeste, Ken, and Gareth, ensuring a guest-centric approach that is effective across all channels.

And Matt, just to follow on that and offer some details on the costs. A lot of the costs that we're incurring are related to getting results quickly. So there's a few buckets I would group them into. First is the technical, digital work related to our website. We identified a number of opportunities through the work that we started in the first quarter and are now continuing into the second quarter that were hard-core coding issues that we needed to tackle. And in order to do that quickly, we needed to bring in external resources so that we could have the critical mass, in terms of the expertise to do that in a quick manner. So that's a big part of those costs. Otherwise, you heard us speak about the creative content on the website, photography. We've engaged agencies to help us not only with the development of that creative content, but also in the photography itself. So the agency cost related to the photography and creative content are really the other pieces of the cost that we're incurring. The one-time in nature aspects and the way we've characterized it in that manner is that, again, we've asked these external resources to join us during this task force we've organized to help us drive change rapidly. And so, in order to do this under those time tables, that is what's giving rise to the additional costs that we're incurring outside of our normal business model. As we complete this work over the course of this summer and early part of Q3, we'll be able to transition and build on this work and take it forward as a new part of how we do business from a digital standpoint, and be able to better leverage and more normalize the cost profile.

To add to Stuart's point. We've been very confident about doubling down on the investment because week after week, almost day after day, we see the results in the business of the work that we're doing. So there is this real-time feedback loop about the quality and the impact of the work that we're doing.

We have a question related to capabilities with digital and inventory management. What are your thoughts around how you feel about the bricks and clicks, in terms of the inventory in-store versus online? And Stuart, on the strategic supply chain efforts, could you just update us on what's ahead, in terms of opportunities there as you continue to make progress in both quality and speed? Those were our main questions. Thank you.

Hey Oliver, this is Laurent. Regarding our omnichannel strategy, I believe I touched on that in the prepared remarks. We are truly proud of its outcomes, including the implementation of RFID, which has helped us maximize inventory usage and enhance our margins. Our mid-channel strategies are performing exceptionally well both financially and in terms of guest service. We expect to introduce more initiatives later in the year. I'm forgetting the second part of your question...

Right, on the supply chain and some of the strategic, I guess, goals that we have there. Now that we're — we've been happy with the results that we've seen in recovering our gross margins, and we believe we've established a more stable and reliable sourcing and supply chain organization. I think our next priorities turn to continuing to support our design teams from an innovation standpoint so that we can enable the work they're doing from a sourcing standpoint to bring to life meaningful innovation and designs that will matter to our guests and help us solve problems for athletes. In addition to that, I think importantly, we're continuing to look at ways for us to build flexibility into our supply chain, so that we can position raw materials in a way that we can respond to guest trends more rapidly. We saw some of the first examples of this late in the first quarter, where we were able to actually chase into certain styles where we saw gaps in color and even introduce certain graphic styles that we hadn't done in a while so — and with remarkable sell-through. So we're really pleased to see those initial wins, and that flexibility is something we're looking to expand.

And from an organizational standpoint — with Sun reporting to me from an organizational standpoint, I mean, we're going to create some healthy tension between merchandising and design, which will really allow us to sort of drive the design vision into profitable growth.

Okay, and the last thing is on the product side. You've really made great progress with Enlite and Nulux. Just how would you prioritize what are the bigger product opportunities? Or how would you prioritize for the back half between tops and bottoms, and outerwear and accessories could be an opportunity too. Just curious about how we should think about the catalysts relative to each other?

Well you'll see it when it comes to life. So we're not going to tell you too much, too early. But one thing I can tell you, that we're obviously always focused on function first. And when we do that, it pays off tremendously, whether it's with Nulux or Enlite, we've got 2 incredible data points right there. So you're going to see a focus on functional when it comes to — and that's really what makes us who we are.

Just a follow-up on the SG&A leverage discussion, and sorry to harp on it. The guidance for the year, I guess, really doesn't get you to that low to mid-teens revenue growth rate in the back half. Yet Stuart, I think you mentioned expecting meaningful SG&A leverage by Q4. And so I'm just trying to make sure I understand. I mean, as you get to Q4 would you expect to be at a point where you can leverage SG&A consistently on a go-forward basis? Or is the Q4 leverage on, call it a low double-digit revenue growth, more of an exception versus the rule?

Yes, Mark, it's a good question. I would say the way we built the model over the next 5 years and should enable us to deliver SG&A leverage in that top line growth range we mentioned, that low to mid-teens. I think in the fourth quarter, there's an opportunity to do better than that based on the work that we've done to improve our cost structure, coming out of the project that we had mentioned in the second half of last year. And we'll take those benefits forward. And the fourth quarter is our largest quarter from a sales standpoint, and a little bit more flexibility to, from a quarterly standpoint, to have leverage on our cost structure.

As you think about the ivivva business and the exiting of that business, what long-term margin and return improvements do you think can be expected? And then on another note, the improvement in color, is it where you want it to be yet? Or how should we see the product enhancements, whether it's on the color or whether it's the online conversion that changed in Q1, is there more runway to go?

So Dana, it's Stuart. I'll first respond to your question on ivivva, and then I'll let Sun respond your question on the color and the product strategy. In regards to ivivva, it was a very difficult decision in terms of the restructuring plan that we have announced, that came after much deliberation. As we look at the run rate of this business going forward, under the new structure that we have established, we expect the revenues to be a little less than half of what we saw last year. And it should be positioned to generate positive comps that will be accretive to the overall company comps, and it should also be positioned to generate a modest operating profit, where in all prior years we've operated ivivva, it's had a small operating loss. And as we mentioned, the restructuring and the store action should be largely completed by Q3.

And then going into color, I'd say we are happy with the improvement of the balance. We feel good in that we have a lot of white in the stores, which is seasonally, really appropriate, emphasizing light neutrals and some pops of color. I'd say that as we get into the back half of June and going into fall, we'll be even in a more ideal state. And as Stuart mentioned, we've just done a much better job partnering with the supply chain and making sure that we do have flexibility in our sourcing models. So always able to chase back into colors that sell out. And then, again, we feel very well-positioned from a portfolio standpoint because we have a lot of key innovations in the pipeline for the back half of the year that's really focused on fabric, function, and fit.

Stuart, can you talk about the promotional cadence in the business during the quarter? How that trended, how it's been in May to date? And also curious about store traffic, just what you saw, how did that progress during the last several months?

Thanks, Paul. The promotional cadence has been healthy. We executed the warehouse sale, the physical warehouse sale in Dallas earlier this month to great success. It was a record for us that — or approached, I should say, the record we had achieved previously with our Edmonton warehouse sale. The sales and AUR results from that event exceeded our plans. And I think it really speaks to not only the resilience of our clearance model but also our full-price business, given the level of interest and demand we saw in that warehouse sale. So otherwise, markdowns in stores and online are well managed, and I think our inventory position reflects that as well. So the markdown picture is very healthy and has been for much of Q1, and certainly now into Q2. Store traffic's an interesting story. It still remains a headwind for us. And that was a big part of the weakness that we saw early in Q1 that we spoke about on the last call. We have seen improvements in store traffic. And what's been interesting is, as we have executed on our Enlite launch, the Nulux Fast And Free launch, and importantly, the This Is Yoga program or campaign rather, we have seen that these events have been able to move the needle in our store traffic as well as our online traffic. But what we've taken away from that is that it's actually possible for us to effect store traffic positively when we have compelling product and brand stories and events. So we're taking those learnings forward. We believe it creates interesting opportunity for us as we look forward. And as we think about KPIs generally, that improvement, sequential improvement in store traffic, still negative, still a headwind but sequentially better in the latter part of Q1 into the early part of Q2, is also being supported by improvements in conversion and UPTs in our stores, that is supplementing or complementing the continued strength in AURs. Ultimately, we need to see a balanced picture across all of our store KPIs to have a sustainable comp picture. So we've relied heavily on AUR up to this point, we still see strong AUR performance, but it's really important to see conversion, UPT and traffic improving.

I wanted to actually focus on the decision to accelerate the international openings, Asia versus Europe, and is it kind of more a fill-in of the existing trade areas? Are you expanding into new trade areas and markets? And what are you seeing in those markets that's giving you the confidence to do — to pull that lever and press on the gas at this point? Is it online demand that you're seeing? Or store level demand or is it the showrooms, what you're learning from those? I think this is probably a pretty important part of the equation for you guys over the next few years.

Thanks, Omar. I believe it encompasses all of those factors. Clearly, we are recognizing the potential and the magnitude of opportunities in Asia, and we are experiencing significant momentum there. For instance, our Tmall business has doubled in less than three quarters, and we've seen impressive store openings averaging $1,600 per square foot in the first month. Additionally, the engagement we are witnessing on social media and through our events is encouraging. This reinforces our confidence in accelerating our store openings in Asia, particularly in China. Furthermore, we are successfully securing prime locations, such as the upcoming store in Tokyo's Ginza Six and our locations in Xintiandi in Shanghai and Beijing. The speed of our openings does not compromise the quality of these locations, which is our belief. We are witnessing remarkable momentum across Asia, including Japan, Hong Kong, mainland China, Singapore, and Korea. In Europe, we've also achieved a 50% year-over-year growth, extending beyond London to include the strong performance of Brown Thomas in Dublin, which validates our efforts in Europe and highlights the positive impact beyond London.

Stuart, my question's on digital marketing investments, and can you just give us a little more color on the second quarter investments and why you would characterize them as one-time? Maybe if we understand a little bit better what those expenses are, we could get our heads around the one-time characterization. And then, secondarily, I would imagine that ivivva operates at a lower gross margin. So is there a permanent improvement in gross margin you expect to your business 1 to 2 years from the elimination of most of the ivivva business?

Okay. Okay, Kimberly. On the first question, the digital marketing investments, I would not include that as part of the one-time cost that we're referring to. What I am referring to are the technical design and development costs for the improvements to our website, that's one bucket. The second bucket is photography cost of outsourcing photography to a photography agency. And the third bucket is the brand creative content support that we have from an agency we've also selected to help us with that. And what I would say is, that what's creating much of the one-time nature of this, is the speed at which we're trying to accomplish these improvements and changes that we've identified we need to the website. There will be elements likely of the second and third buckets that we'll take forward, but not to the same order of magnitude that we're seeing right now, given just again, the time frame in which we're trying to accomplish these improvements. So hopefully, that clarifies it. The second question you had on ivivva, gross margin. Gross margins in ivivva are — have not been as high as in Lululemon. I think that's safe to say. By reducing the mix of the ivivva overall, yes, that creates some benefit to the overall weighted average, if you will, gross margin that we'll have. The ivivva business will be a viable business that we're — we still believe in, albeit on a smaller scale, and we also have specific strategies and plans in place to improve the product margin of the ivivva business as we'll take it forward as primarily an e-commerce business.

All right. Thanks, everybody.