American Eagle Outfitters Inc (AEO) 2016 Q1 法說會逐字稿

Greetings, and welcome to the American Eagle Outfitters first-quarter 2016 earnings conference call.

(Operator instructions)

As a reminder, this conference is being recorded.

I will now turn the conference over to Judy Meehan, Vice President of Investor Relations.

Thank you, Ms. Meehan.

You may begin.

Good afternoon, everyone.

Joining me today for our prepared remarks are Jay Schottenstein, Chief Executive Officer; Chad Kessler, Global Brand President of the AE Brand; Jen Foyle, Global Brand President of aerie; and Scott Hurd, Interim Chief Financial Officer.

Also joining us for Q&A is Michael Rempell, Chief Operations Officer.

Before we begin today's call, I need to remind you that we will make certain forward-looking statements.

These statements are based upon information that represents the Company's current expectations or beliefs.

The results actually realized may differ materially based on risk factors included in our SEC filings.

We also have posted a financial supplement with additional financial details on our website.

And now, I would like to turn the call over to Jay.

Good afternoon.

The first quarter was strong for AEO.

Within the context of a very tough retail environment I am especially pleased with our results.

We demonstrated momentum across our business, gaining market share with leading performance.

In the quarter, comparable sales increased 6% and operating income rose 40%.

EPS grew 47% and $0.22, above our expectations of $0.17 to $0.19.

The quarter also represented a solid two-year performance after a significantly improved operating profit and a 7% comp sales increase last year.

We entered the quarter in solid financial condition with $239 million in cash and no debt.

Our first quarter results would not be possible without great merchandise, strategic investments and strong execution across the organization.

Our teams can be extremely proud of their accomplishments.

We saw good performance across brands with sales and profit growth for both AE and aerie.

aerie had another breakout quarter with comps rising over 30%.

E-commerce was exceptionally strong as entries digital marketing efforts and site investment are delivering returns.

We also posted positive store comps for both brands and outpaced mall traffic.

Our progress over the past two years has made AEO a much stronger operator in a tough macro environment.

While weak mall traffic continues and other brands have struggled, we are taking share.

We remain highly focused on leveraging our competitive advantages and positioning AEO for future success.

Product leadership and customer acquisition remain top priorities in 2016.

We have a world-class creative team who continues to raise the bar.

They know how to consistently deliver compelling and differentiated fashion building around our leading product line such as denim.

This fall, American Eagle is unveiling a new marketing campaign that will elevate and reenergize the brand.

We will build on aerie's strength and momentum, selectively expanding and developing a strong customer following.

Technology in omni-investments have made us better, faster and more efficient.

These investments have also been key to our recent success.

In the first quarter, we drove nearly $30 million of revenue through ship-from-store and expect flexible fulfillment to generate ongoing benefits to our business.

We recently delivered our new MOGO responsive website with very good results.

MOGO sales have grown rapidly contributing to e-commerce growth.

We continue to build our brand strength.

Peter Horvath recently joined as Chief Global Commercial and Administrative Officer, bringing an extensive track record of success in the retail industry.

I had the pleasure of working with Peter when he served as President of DSW.

He is an effective and strategic retail executive.

I am confident that he will have a meaningful impact at AEO.

Today we announced that Kyle Andrew was appointed Chief Marketing Officer.

She brings a wealth of creative and brand building experience to the team.

Kyle has been a highly engaged in creating our fall marketing campaign.

We're thrilled to welcome her to AEO.

I believe our brightest moments are still ahead and we're just beginning to unlock the potential of our business.

We know the AE brand can be broader and successfully compete on the global stage.

aerie has a long runway ahead and I believe it is one of the most exciting emerging brands in retail today.

We are also enthusiastic about the future prospects for Tailgate and Todd Snyder.

I am optimistic about our future, yet fully aware of the many challenges that continue around us.

We have built a strong model for success and we will continue to plan our business to maximize our investments and stay focused on delivering profitable growth.

Now, I will turn the call over to Chad.

Thanks, Jay.

American Eagle has delivered another solid quarter.

In fact, we gained momentum from the fourth quarter of last year in the midst of macro challenges including unseasonable weather and weak mall traffic.

American Eagle brand comps increased 4%.

Digital commerce drove meaningful sales gains.

And although mall traffic was soft, stores held up well and delivered a positive comp.

Higher IMUs and lower product costs partially offset by a modest rise in markdowns drove a strong merchandise margin.

We benefited from reduced costs and great work by our sourcing team to leverage our scale and achieve better pricing and improve efficiency.

We expect cost benefits throughout the year.

We saw higher realized prices across the collection as we delivered compelling assortments and improved quality and contained price driven promotional events.

We continue to evolve our customer base.

Multi-channel shoppers are our fastest growing customer segment and spend two to three times as much as those who shop a single channel.

AE's product leadership has resulted in a higher annual spend across all customer segments with new customer spend up 17% and core customer spend up 6% from last year's averages.

Throughout the quarter, inventories were well-managed and we will maintain strong discipline going forward.

Our move to an omnichannel organization has facilitated tighter inventories and a more cohesive brand experience across selling channels.

Our women's business continued to be strong with first quarter comps up in the high single-digits.

We saw strength in most apparel categories.

Highlights include denim, pants, shorts, dresses and knits and woven tops.

While demand for men's was not as strong and comps declined in the low single-digits, we did see positive comps in men's bottoms.

We also saw strength in men's tees, woven shirts and underwear.

We continue to see opportunity to drive product improvements in our men's collection.

Now, as I look forward I am excited by our upcoming product lines.

This back-to-school, we will introduce the next generation of fabric technologies across AE jeans.

The collection has been tested with a positive customer response.

We will launch a holistic marketing campaign providing a fresh look to our AE denim collection.

And I look forward to unveiling our new brand marketing campaign in September.

Last week, we opened our first new Tailgate store in Madison, Wisconsin.

A few pictures can be found in the presentation on our website.

The store celebrates the school spirit of the University of Wisconsin with the feel of a reinvented college bookstore.

In addition to branded college gear, the store features AE jeans, a coffee shop and a side-by-side boutique of our Don't Ask Why fashion line.

We look forward to growing our college presence with a few more campus stores this year.

I would like to say congratulations to the teams across the Company.

We've made great progress and look forward to building on our success.

In this tough environment, success will be built around our strong brand position, exclusive compelling merchandise, engaging customers in interesting ways and offering the very best shopping experience across all channels seamlessly.

This is what we are focused upon every day.

Thanks, and now, I will turn it over to Jen.

Thanks, Chad, and good afternoon, everyone.

I am pleased to report that aerie's strong momentum has continued and we delivered another fantastic quarter.

Sales and profitability reached record highs.

Comparable sales increased 32% with strength across all channels.

The online business was particularly strong with digital representing over 30% of aerie's business.

Strong collections and well received marketing campaigns are driving more traffic and new customers to aerie.

By category we posted positive double-digit comp growth across major businesses including bras, undies, apparel and swim.

Our expanded swim shop has been extremely well received and we look forward to building on its success and capturing new market share.

We were also especially pleased to see stronger performance across apparel.

Margins expanded as a result of favorable product costs and more targeted promotional events.

We remain focused on fueling our digital business, maximizing store productivity and we will seek additional opportunities for aerie within AE's existing store fleet.

Additionally, we are opening up new stores where we see market opportunity based on our digital sales and using AE's women selling data as a gauge.

Pictures of our newest standalone store in the Mall of Georgia can be found in this presentation.

Lastly, we are really proud of how well the aerie real campaign has resonated with our customers.

The feedback and interest remains high.

Everything and everything we do at aerie is customer-centric including our merchandise assortment, new product lines, strong social media and regular fun events such as our recent love the swim you're in campaign and our customer appreciation event just last weekend.

Thanks to the team for a strong performance.

I'm so thrilled with our execution and I look forward to the many opportunities ahead of us.

And thank you, and now, I will turn it over to Scott.

Thanks, Jen.

Good afternoon, everyone.

In the first quarter, compelling product and improved customer experience drove sales and margin growth across brands.

Favorable product costs resulted in merchandise margin expansion and expense disciplined enabled us to leverage operating expense and occupancy.

Now, looking more closely at the details of the quarter.

Total revenue increased 7% to $749 million, from $700 million last year.

Consolidated comparable sales increased 6% driving an incremental $40 million in revenue with positive comps both in stores and online.

This follows a 7% comparable sales increase in the first quarter of last year.

Additional sales information can be found on page 5 of the presentation.

This quarter by brand.

AE comps were up 4% and aerie comps increased 32%.

Consolidated comps were driven by a mid single-digit increase in the average transaction value due to a mid single-digital increase in the average unit retail price and higher units per transaction.

Total gross profit increased 12% to $293 million from $262 million last year.

The gross margin rose 170 basis points to a rate of 39.2% of revenue.

Buying, occupancy and warehousing leveraged 110 basis points due primarily to occupancy cost leverage.

The remaining 60 basis points of gross margin improvement was a result of favorable product costs offset by modest increase of markdowns.

Our promotional activity was controlled with first quarter markdown rates within our targeted range delivering healthy merchandise margins.

SG&A dollars increased 6% to $196 million due to investments in advertising, variable selling expense and strategic initiatives.

As a rate to revenue, SG&A declined 30 basis points to 26.2% from 26.5% last year.

Depreciation and amortization increased to $39 million and deleveraged 20 basis points to 5.2% as a rate of revenue.

Operating income rose 40% to $59 million from $42 million last year, and operating margin expanded by 180 basis points to 7.8% as a rate for revenue.

Similar to last year, within other income, we had $5 million of income related to currency gains on cash held in Canadian dollars.

This compares to other income of $6 million last year.

As discussed last quarter, tax blending strategies are bringing our expected effective tax rate down to the range of 36% to 37% for the year.

In the first quarter, the tax rate was 36.4%.

Share buybacks led to a lower share count compared to last year.

The benefits of the tax and buybacks were approximately $0.02 to EPS.

EPS of $0.22 increased 47% from $0.15 last year.

Turning to the balance sheet, starting with inventory, which can be found the page 6 of the presentation.

We ended the quarter with inventory at cost of $334 million, up slightly from last year.

Ending units were down in the mid single-digits offset by mid single-digit increase in the average unit cost due to product mix.

Like-to-like, average unit costs were down to last year.

The change from our guidance of down low single-digits was due to the timing of new receipts.

Looking ahead, we expect second quarter ending inventory cost to be approximately flat.

We ended the quarter with $239 million in cash, compared to $327 million last year.

Over the past year, we spent $227 million in share buybacks, returned $95 million in dividends and invested $136 million in CapEx.

Capital expenditures totaled $24 million in the first quarter and we continue to expect CapEx to be in the range of $160 million to $170 million for the year.

During the quarter, we opened three stores and closed four.

Additionally, there were six international licensed store openings and we ended the quarter with 145 licensed stores across 22 countries.

Additional store information can be found on pages 9 through 11 in the presentation.

As discussed on the last call, we're utilizing market data analytics to a much greater degree to identify geographies ripe for a consolidation and where we have a stronger digital consumer.

Data is also helping us identify the best potential new markets and store locations as we selectively expand aerie openings.

Now looking ahead into the second quarter, based on a low single-digit increase in comparable sales, we expect second quarter EPS of $0.20 to $0.21.

This compares to $0.17 last year and excludes potential impairment restructuring charges.

We expect continued gross margin expansion due primarily to favorable product costs and sourcing efficiencies.

We will maintain tight inventory and strive to offer more strategic and targeted promotions.

SG&A dollars are expected to be up in the low single-digits and we are targeting SG&A leverage.

Across the Company, we remain intensely focused on building on our momentum, further improving our operations and delivering stronger profitability as we strengthen our leadership position in the marketplace.

Thanks.

Now, we will take your questions.

(Operator instructions)

The first question is from Brian Tunick, Royal Bank of Canada.

Please go ahead.

Thanks and congratulations.

Obviously, a very tough environment.

I'm curious on -- a lot of conversations about what was going on in the mall during the quarter.

I know you don't probably give us monthly trends, but just curious if you could maybe talk about performance by either mall type, outdoor center, outlets?

What happened as the quarter progressed?

And then the second question really is on your AURs here.

It sounds like there was more discounting this year versus last year.

But can you maybe talk about what is happening, whether it's higher ticket or mix of product.

What is the most opportunity in AUR as you move through the rest of the year?

Thanks very much.

Hello, Brian.

It's Scott.

I'll take your question.

Looking at the mall types, our A stores were up 8%, B's were up 6%, C's were up 5%.

Our outlets, which are primarily outdoor, were up 3%.

Certainly some weather impact there.

Honestly, for the quarter itself, we comped positively on strong results in every month for the quarter.

So we're very -- (technical difficulty).

As it relates to the markdowns, our Q1 markdowns were up, but what I would tell you overall, our margin is up.

So when we look at the markdowns in Q1, what I'd point to is Q1 was our highest hurdle rate up against last year, so we had our best performance.

The Q1 markdowns were actually near a Company record.

So we have opportunity as we continue to have targeted promotions that have been proven to drive our top line will also drive bottom line as well.

So that's very helpful.

Mannie, we'll take the next question.

The next question is from Lorraine Hutchinson, BofA Merrill Lynch.

Please go ahead.

Thank you, good afternoon.

I just wanted to follow up on inventory exiting the quarter.

It looks like your average cost is actually -- if units are flat, it looks like your average cost is actually up.

And I just wanted to understand if that was a mix shift or what you're seeing there?

Hello, Lorraine.

It's Scott.

I'll take that one.

It is mix.

On a like-for-like basis, our average unit costs are actually down due to a favorable sourcing environment.

So it really is driven solely by mix.

What types of products are you mixing into?

I'm not sure I fully understand your question in terms of what were mixing into.

What's driving the mix up are the investments in the product we talked about -- how compelling and well received the new product has been.

There has been investments in the product but the mix that is driving the average unit cost up is really investments in denim and other categories.

Thank you.

Thank you.

The next question is from John Morris, BMO Capital.

Please go ahead.

Thanks.

My congratulations to everybody on a really great performance.

Obviously, pretty tough and you really stood out.

Nice work.

A quick question for Chad.

Maybe talk a little bit more, you pointed to it in the prepared remarks, a little bit more about the opportunity for men's and where you see that unfolding?

And then Jen, within aerie, really impressive swim performance.

You mentioned more opportunity there.

I'm wondering if you started this, a sum of the opportunity from some of, one of your key competitors looking to get out of that business?

And then just finally, the marketing spend with the new campaign in the back half, would we expect that to be up or just shuffled around a little bit?

Thanks.

Hello, John.

Thanks.

It's Chad.

I think we definitely believe we have opportunity in men's, as I mentioned.

In total, I think first and foremost, for both men's and women's, we believe we still have a lot of runway in our bottoms business.

We continue to distance ourselves from the competition both in quality and innovation as well as market share.

So we are excited about that and believe we definitely have opportunity there in both genders.

In terms of the rest of men's apparel, we really focused on driving innovation and fashion in men's tees and wovens.

I'm pretty pleased with the performance through Q1 in those areas.

Unfortunately, it wasn't enough to get the total men's apparel area positive.

With what we have learned in terms of what the customer is responding to and with the innovation and with the product changes we've made in those two categories, we believe we made adjustments -- starting as soon as June but carrying into the rest of Q2 and fall, in the men assortments and believe we definitely have opportunity.

And we are all fighting to get back to positive comps in men's apparel.

And for aerie, we were just thrilled with good performance.

We saw strength across all of our businesses, quite frankly.

I think we were really strategic in the swim business, looking at the spring break shifts and really delivering on those shifts.

For instance, we had a new delivery prior to Easter.

It was a strategic delivery and we felt really good about it.

And we saw a big win pre- and post-Easter with the swim category.

This team is doing great.

We continue to stay in our lane, stay focused, look at product opportunities, swim being one of them, but certainly in our core competency businesses as well.

John, just to your question on the back half investment.

It really is a shuffle.

Our target to leverage SG&A remains in place.

So we will fund it with shuffling of the deck chairs a bit.

Great.

Thanks very much.

Thank you.

The next question is from Adrienne Yih, Wolfe Research.

Please go ahead.

Good afternoon.

Let me add my congratulations.

Stellar.

That's all I can say.

Stellar.

My first question is actually on the AUC.

If 60 BPs of it was from AUC reduction offset obviously, by a little bit more promo, should we expect at least that in Q2?

And then should it not get larger, the opportunity get larger, as we go into the second half because of the yuan devaluation in August of last year?

And then really quickly, Jen, on aerie, congrats.

I want to talk about bralette trends.

How sustainable is it?

Is it additive?

Does it takeaway from bras and do you think it's a sustainable trend?

Thanks.

Hi, Adrienne.

It's Michael Rempell.

I will take the first part of your question on AUC.

So we actually saw a little bit more than 60 basis points of markup improvement in Q1.

We are expecting to see at least that in the balance of the year.

It grows a little bit in Q2.

It is a little too early to talk about the fall yet.

We haven't finalized that assortment, but I am expecting to see at least that in the back half of the year as well.

And regarding bralettes, certainly it is accretive to the bralette business.

It's definitely been a big portion of the business and we went after it.

I would like to say we were first and furious in that business and we really attacked it and we're really proud of what we delivered there.

That said, the customers are always evolving and we are front of it.

We platform fabrics -- we are nimble and we can remain nimble.

We have some great ideas coming up the curb on what we're going to relaunch and I think they're exciting.

So we will continue to evolve the bra business.

It's important and there are some exciting things to come.

Great.

Well, best of luck.

(Operator instructions)

Our next question is from Simeon Siegel, Nomura Securities.

Please go ahead.

Thanks, guys, and congrats.

Obviously, fantastic results at aerie.

Have you stepped back, have you plotted out how large you think that business could become and then what are the margin implications there as this business continues to grow?

Thanks.

We're not going to stop.

We finally have found a platform that we believe in.

The aerieREAL campaign has resonated really with this customer base.

We see nice increases in our new to file, actually really solid increases on the 12-months trailing file there.

The customer is really spearheading this for us, which is what we love.

And that, I think, has a big part in the aerie play and for the American Eagle portfolio.

Like I said, we're growing this business.

We're opening up new stores.

We're going to take advantage of the AE profile in the women's business and leveraging that everyday.

The direct business continues to be a big win in aerie, delivering almost 30% of the revs in Q1.

So that was huge.

Like I said, we are going to continue to look at opportunities and see how high is high.

Simeon, just to your question on margins.

As aerie continues to improve their margins, we will see improvement in our overall margin range as well as it scales.

Thanks a lot, guys.

Best of luck for the rest of the year.

Thank you.

The next question is from Rick Patel of Stephens.

Please go ahead.

Good afternoon, everyone.

Congratulations as well.

Can you update us on your ability to test and react.

Where exactly are you in terms of the percentage of products or categories that this can be used for?

And second, as you introduce new fabrics for back-to-school, do you expect to see like-for-like increases in average selling price or is this more about gaining market share?

Sure.

In the AE brand, it is our goal to try to test almost everything that we do.

We do it in different ways.

We have online focus groups, we have preseason tests of most of the collection and we also do style tests.

It is really our goal to try to get customer feedback, real customer feedback, in advance of each collection and we definitely use that information to influence the buys.

We also have our Don't Ask Why collection, which for us, has been a great testing vehicle in women's apparel and I think we continue to learn from that and move forward.

In terms of reactability and reaction, my team is partnering very closely with Michael's team, in terms of speed sourcing and the supply chain, and trying to get goods every season faster than we are able to get them the season before.

And even to the point now, of reacting within season from selling to making new commitments and getting new goods within a season.

It has really been beneficial to us, to course correcting the assortments and trying to maximize profitable sell-throughs.

As for the denim innovation for fall, you can look at denim like we look at the whole assortment.

We continue to see improved AURs in the business.

We are driving that AUR really in three ways.

We are driving it through innovation and innovation that provides value for the customer.

I do believe that the new fabrics for back-to-school -- we are going to see an increase.

We're planning an increase in AUR in jeans across back-to-school.

But I think that the customer -- we are confident based on both tests and also experiencing the product ourselves; the customer will pay us for that innovation.

The other ways we're seeing that AUR grow -- it's about innovation, it's sell-through.

As we are reacting faster, as we have better information about the product, as we're getting more right in the business, we're getting better sell-throughs.

And then the third thing, just being the mix and denim will definitely play into that mix driving FAUR in fall.

It's Michael.

I would just add onto that that we're talking about AUC before and the markup improvements that we're expecting through the year.

We are delivering and the sourcing team and our vendor partners are doing a terrific job delivering those markup improvements, while still improving the value we are offering the customer while simultaneously putting more innovation into fabrics, washes, et cetera.

So we're very excited about what we're going to deliver this year.

Thanks very much.

Thank you.

The next question is from Michael Binetti of UBS.

Please go ahead.

Congratulations on a nice quarter and good afternoon.

As we think about your men's business, just a couple housekeeping questions.

Could you give us the size of the men's versus women's business, a sense of the dimensions those two within the American Eagle stores?

How should we think about the cadence of how quickly you think you can touch the product there and when you think we'll see whatever, you would consider, a significant change to the product in the men's category?

So men's represents about 40% of the business.

That fluctuates throughout the year depending on the season.

In total, it is around that number.

As I said, the team has been focused on men's and we did see a good improvement, pretty significant improvements, in the tee and woven shirt business and it was offset by the other categories: fleece, polos, some of the other apparel categories.

Also, even though we had a positive comp in bottoms, with some of the weather headwinds, shorts were not as strong as we would have liked in Q1.

I think, we have really, as I said, I think I said earlier, we are starting to believe that there's some increased improvements in men's that we should start seeing in the back half of Q2 and into Q3.

And then, we're in the process right now of finalizing assortment for holiday.

And the whole team is focused on trying to make sure men's can be as strong as it can be.

We really believe it is going to be through driving innovation and pushing for more trend and some more fashion in the men's business.

That is what we are seeing the customers are (multiple speakers).

And if we look at the numbers, obviously, impressive.

I can tell you're happy.

But how would you speak to concerns out there that we have heard on impactful categories for you lately, like bralettes, which have become very popular very quickly; whether you think those are more of a fashion trend that you're keeping your eye on in the near-term versus a true long-term change in customer preference?

Thanks.

I think overall, I think there is an evolution happening in bras for sure and certainly bralettes are a part of it.

But like I alluded to earlier, there's other categories within bras that we haven't maximized yet and we're going to do that.

I would like to jump in not to talk about bralettes but just to talk about a little bit about how we operate.

There is conversation for example, as our lightly lined bras or bralettes, or in the AE brand, are there flare jeans or jeggings, or are we looking at shorter tops, longer tops?

There is a lot to be said, in terms of the product leadership that the teams are bringing today.

But we also have a very rigorous process to learn what is working; what's coming, to test; to react; to understand where the customer is moving and to respond and get the inventories in that position.

Hopefully, we will continue to see positive momentum in the denim business for me and positive momentum in bras and bralettes for Jen.

The way we operate this business is to find every day to be searching for what's next and to try to get ahead of the customers.

Thank you.

The next question is from Oliver Chen of Cowen and Company.

Please go ahead.

Hello, this is Courtney Wilson on for Oliver today.

Thanks for taking our question.

Congrats on the results.

We were hoping you could just talk a little bit about your online business?

How you feel about your current platform; and what is next from a catalyst perspective online; and how you are using mobile as a strategy?

Thanks.

Sure.

As I think we said in the prepared remarks, we have seen a lot of strength in our online business.

In fact, we are very pleased with the team with the performance for the quarter.

We have seen an acceleration in that business from third quarter into fourth quarter in the comps for that business, from third quarter into fourth quarter and now fourth quarter into first quarter.

When you look at it, it is the investments that we have made, in addition to the great product and brand strength for AE and aerie that has set us apart.

A few of those things would be flexible fulfillment.

We touched on it earlier, making our inventory more available.

We drove $30 million of sales in the quarter.

We continue to expand our capabilities there and continue to learn from those capabilities to make sure that we capture any lost sales.

And we're getting our inventory in the right place at the right time letting customers shop however they want.

International has been a big focus for us in e-commerce.

We are continuing to look for ways to expand the e-commerce business internationally.

In Q1, we added some new shipping options that made it both cheaper and easier for customers to shop with us internationally.

Those results were very promising.

We launched our UK platform last year.

We're expanding that to Europe in the back half of the year, so we'll be servicing Europe from our distribution center in the Netherlands.

And we're live on Tmall and we're going to extend our e-commerce business in China to additional marketplaces in the back half of the year.

I should say also with international, Canada is actually our largest international market.

And throughout the year, we're going to be expanding our omni-capability to the Canadian customer and we are excited to see those results.

Sorry, you asked about Mobile, too?

I would be remiss without talking about mobile.

We feel like we saw the most move to mobile and over the last two years considerably distorted our investments there.

When you think about mobile, it's really those investments are in two places.

One is the app, where we have seen tremendous results.

In fact, our iPhone app had over 100 comps in the quarter.

So a really impressive result there.

It's used by our most loyal customers.

It has our largest average order size, et cetera.

And the second area, we launched our mobile first website, our responsive site that Jay mentioned earlier.

In Q1, we saw a 20% lift in conversion after launching that site.

So tremendous results.

We still think we have tons of opportunity to improve it and we're going to be doing that throughout the course of the year.

Great.

Thank you.

Thank you.

The next question is from Matthew Boss of JPMorgan.

Please go ahead.

Hi, it's Christina Brathwaite on for Matt.

Thanks for taking our question.

Just wanted your picture of a lot of apparel capacity online competition and Amazon.

Can you talk about the secret sauce and how you maintain brand perception and market share?

Are there any changes that have been made or need to be made to better compete going forward?

I think the big thing for us, it really is about having a strong brand and exclusive compelling merchandise.

It is really built around our leading denim.

I think a lot of the brands, if you are a retailer -- my belief is if you're a retailer who's selling product because you can get in multiple channels, then good luck.

Amazon is going to eat you alive.

But, if you have a strong brand and you have exclusive product, then you have an opportunity to sell to your vertical channels, you can engage with your customer in compelling ways and get paid for the value you are delivering her.

And as I said in the prepared remarks, that is really what we're focused on.

I think the key going forward with such a huge competitor out there is to make sure that we have exclusive product and that we have a compelling brand and that we continue to engage the customer.

Great.

Thanks.

Thank you.

The next question is from Lindsay Drucker Mann, Goldman Sachs.

Please go ahead.

Thanks.

Good evening, guys.

I wanted to follow up on just a question about the promo strategy and the markdowns.

I think this is the first quarter in a while where you actually had markdowns higher year over year.

And I think Scott, you talked about how we're able to balance it and actually drive healthy bottom line expansion.

I just wanted to clarify your remark about whether you thought as we think about balance of year, the promo cadence would be up or the markdown activity would be up year over year, or if as we look forward, Q1 was kind of an anomaly?

I guess I'm just trying to understand if there is a shift in strategy because what we've heard pretty consistently was that the focus was to be less promotional and drive lower markdowns.

I know it's really tough out there, so I wanted to understand if you were shifting focus and how we should be expecting this for balance of year?

Thanks.

It's too early really to talk a lot about the fall season for sure, but focusing in on the second quarter.

We did have a bit more target promotion and again, driving top line margin is up.

I think that is the strongest message that I would have you walk away with.

There is no meaningful shift in how we are thinking about of markdowns and how we are thinking about our promotions.

Again, we were up against the most difficult compare in the first quarter, and I see as those compares get easier, you will see the results in line with that.

At this time we are not changing our strategy to be more promotional.

Scott talked to the numbers, but it is not a shift in strategy.

Okay.

Thanks.

Thank you.

The next question is from Susan Anderson of FBR.

Please go ahead.

Good evening, congratulations on a great quarter.

I was wondering if you could give a little bit more color on the international business and the performance in the first quarter?

Also, if you are seeing that inflection in profitability as expected and then the expectations for the rest of the year?

And just really quick on the traffic front, too.

Obviously, you guys are outperforming your peers.

How do you expect to continue to drive that as we go throughout the rest of the year?

Thanks.

Hello, it's Scott.

I will take the international question.

Our international business is nicely profitable.

We've built a strong foundation in what has become a fantastic franchise business.

We have a very strong and profitable Mexico business that we continue to invest behind.

When I look at our developing markets, where in the UK and in China, we are proceeding with caution there.

Making great progress, not satisfied but continuing to push, learn, and scale.

Michael spoke to the digital initiatives that we have that really have driven that international business.

We have a lot of opportunity left in international, but we have great profitability expectations both in the second quarter, as well as, for the balance of the year.

And just to tag on there, another nice thing about the international business is that they love our jeans.

As we grow, the denim leadership we have in the United States, we are fully anticipate having that kind of leadership worldwide.

Mall traffic is tough out there.

We were able to, based on our counters, we were able to have better traffic than what the total mall saw in AE brand and aerie even outperformed that.

We believe we are taking share in the mall.

We believe we're doing that through product leadership and engaging our customers with better product and with more compelling marketing.

But knowing this is an ongoing, most likely, ongoing headwind is part of the reason we keep talking about and are so focused on brand marketing campaign we're going to launch for fall.

We really are looking to engage our customers in a more emotional way with broader appeal for the brand to continue to take share and to continue to get at least our share of mall traffic, if not grow our traffic within a tough mall environment.

The other thing we need to remember is that the real goal for us as an omni-organization is to grow the total traffic and total transactions for the brand.

As we're able to shift our traditional store customer to be a multi-channel customer, as we talked about earlier in the call, that is actually a huge win for us.

The customers who are engaged in both channels spend significantly more money than a customer who is a store only customer.

We will do everything we can to get the customers in the mall, but if we can get them engaged in both channels, that's even a better thing.

Great.

Good job and good luck next quarter.

The next question is from Richard Jaffe, Stifel.

Please go ahead.

Thanks very much, guys, and really an exciting quarter.

I'm wondering just about the SG&A, the investment we saw in marketing and advertising and brand building.

Could you address the increase in operating expenses and how we see that carrying forward in the year and how you anticipate spending it or how you spent it and why it worked so well?

Thank you.

This is Scott.

I will take that one.

Again, our target in SG&A is leverage and making the strategic investments that we'll get paid for, not just in the quarter itself, but over the long-term.

What you are seeing in the strategic investments that we are making, we talked a little bit about the marketing campaign and that we will talk more about and you will see in September.

It is about driving the business over the long-term and not about the current quarter.

Again, our target is to consistently look into our operating structure or operating infrastructure to find ways to reduce costs.

But we're going to continue to invest in those things that will drive the business year in and year out.

Broadly speaking, could you give is a sense of what those things might be?

Certainly.

Digital traffic was up over 20%.

Direct result of our increased investments in digital marketing, would be an example.

Any others?

More strategic.

Nothing that we would want to share too much on the call.

Marketing, I think, it's the other biggest piece.

Outside of the strategic, just to give you some examples of some of the things that we're coming up against.

Obviously, a fair amount of discussion around wage rate and so forth.

We're seeing the same thing that the rest of the retailers are seeing with impacting us to the tune about $1 million to $2 million per quarter on minimum wage and cost-of-living adjustments.

Some of that type of stuff.

Okay.

Think you very much.

The next question is from Dorothy Lakner, Topeka Capital Markets.

Please go ahead.

Thanks, and good afternoon, everyone.

Congratulations.

Just a great quarter.

I wanted to go back to aerie for a second.

I think Jen mentioned getting more into more aerie into some American Eagle stores.

I just wondered where you are on that?

How much opportunity there is?

And just if you could provide a little bit more color on the stores performance?

You started opening more stores.

Any thought behind where that expansion might go?

Sure.

First and foremost, we are looking to make every format within aerie as most productive as possible.

You still have to remember, we're a fairly small brand here.

We're seeing opportunity in our current existing state.

As we look forward, we are opening up new side-by-sides this year.

It's reflective, I believe in the release.

And there are still some AE stores that we're not within right now.

There are not a lot left, quite frankly, we're in most formats within the AE store format.

But again, we are looking to maximize that and ensure that we are the most productive as possible.

Regarding the standalones, those stores are between 40% and 60% more productive.

So we love what our productivity results are there.

They are smaller.

And again, we're going to ensure that we're evaluating that.

The Mall of Georgia, which just opened, I mentioned in my script.

It is a little bit larger.

It's about 3,000 square feet and it has some expansion businesses in that.

So again, we are still learning and scaling.

But we're opening up new stores and we will continue to evaluate the markets that we go into.

Scott and team have done an amazing job looking at the brand from sort of a market scope versus just opening up new stores.

I think that is what's really important when you look at our relationship in the direct business to the store business.

The aerie stores performed at -- they had an 8% comp here in the quarter.

To Jen's point on the future rollout, we are really being very selective and using the data analytics to identify, not only where we can service the customer through the cash [in our] app, but where we can continue to fuel what has been an absolutely amazing digital business for the aerie brand.

Great.

Thanks.

That's very helpful.

Thank you.

The next question is from Tiffany Kanaga of Deutsche Bank.

Please go ahead.

Hello, congratulations on a great quarter and thanks for taking my question.

Can you talk about the game plan for beauty at aerie?

How did the category do in the first quarter and how are you thinking about competing and differentiating yourself in a pretty crowded field?

Right now, we are really highly focused on our core competency businesses, as I said.

We have a lot of opportunity within bras, undies, swim, and apparel for sure.

We did assimilate a team to venture into the beauty business, but we're going to walk before we run.

We're going to approach it very strategically and do it with some thought and integrity, to be honest.

Thanks so much.

The next question is from Anna Andreeva, Oppenheimer Capital.

Please go ahead.

Thanks so much and congratulations, guys.

I was hoping you could address what kind of trends are you seeing quarter-to-date here in May?

Are you running inline with that guidance for low single-digit comp on top of a difficult 11% from last year?

Obviously, lots of concerns about the consumer that we are hearing nowadays.

And then secondly, on the margin expectations for the year, should we still expect the markdowns to be down versus last year?

Thanks so much.

Hello, Anna.

This is Scott.

I will take that one.

In terms of trend of the business, we don't really talk about that within the quarters that we're in.

But obviously, the first 2.5 weeks here are in the bank.

We have set our low single-digit guidance and we are confident that we will be able to achieve that.

As it relates to margin and markdowns, our margin will be up and a lot of it coming on the back of favorable sourcing and great IMU expansion.

As it relates to markdowns certainly in the back half, we are still baking our plans and assessing the competitive environment.

But again, I think the cinch point for you is, we expect margins to be up.

Okay, Mannie, we have time for one more question.

Thank you.

Our final question is from Jeff Van Sinderen, B. Riley & Co.

Please go ahead.

Let me add my congratulations.

An amazing quarter.

As far as the e-commerce business at this point, I'm not sure how much you've shared about where that stands as far as penetration.

Any color you could give us there would be helpful.

On then aerie, did you say that it was 30% of the overall women's business in Q1?

And then maybe you could also just touch on apparel at aerie?

For aerie, I will just clarify.

It was 30% of the total aerie business.

And then what did you ask regarding women's?

I was trying to get a better sense of the aerie apparel business, what you are seeing there?

I know you talked a lot about bralettes, but I was just wondering more about the apparel part of that?

The apparel had some record highs in some of those businesses.

We look at the apparel business as a complement to our core competency businesses and that's how we're really approaching it.

For instance, in swim, cover-ups, and we'll continue to approach it that way.

E-commerce business is roughly 20% penetration to total.

Obviously growing nicely, but like Jen said earlier, you really can't look at what we're doing as just one channel versus the other.

Our investments there -- we are investing in digital not only to drive e-commerce sales but ultimately to drive customer loyalty and sales across our brands.

Thanks.

Great.

Thanks, everyone.

That concludes our call today.

We appreciate your participation and continued interest in American Eagle Outfitters.

Ladies and gentlemen, this does conclude today's teleconference.

You may disconnect your lines at this time and thank you for your participation.