Bath & Body Works Inc (BBWI) 2014 Q2 法說會逐字稿

Good morning. My name is Stephanie, and I will be your conference operator today. At this time, I would like to welcome everyone to the L Brands second quarter 2014 earnings call.

(Operator Instructions)

I will now turn the call over to Ms. Amie Preston, Chief Investor Relation Officer for L Brands. Go ahead.

Thanks, Stephanie. Good morning, everyone. Welcome to L Brands second quarter earnings conference call for the period ending Saturday, August 2, 2014.

As a matter of formality, I need to remind you that any forward-looking statements we may make today are subject to our Safe Harbor statements found in our SEC filings. Our second quarter earnings release and related financial information are available on our website, LB.com. Also available on the website is an investor presentation which we will be referring to during this call.

This call is being taped and can be replayed by dialing 1-866-NEWS-LTD. You can also listen to an audio replay from our website.

Stuart Burgdoerfer, EVP and CFO; Sharen Turney, CEO, Victoria's Secret, who is joining us remotely this morning; Nick Coe, CEO, Bath & Body Works; and Martin Waters, President of International are all joining us today. After our prepared comments, we'll be available to take your questions for as long as time permits. Please limit yourself to one question so we can get to as many of you as possible. Thanks, and now I'll turn the call over to Stuart.

Thanks, Amie, and good morning, everyone. Our second quarter results were at the high end of our guidance. Total sales increased 6%. Comps increased 3% on top of a 2% increase last year, and operating income dollars increased 5%. Earnings per share were $0.63 versus $0.61 last June.

We continued to reduce inventories, ending the quarter at down 9% per square foot after beginning the quarter at up 6%. The gross margin rate declined by 30 basis points to 39%, driven by a decline in the merchandise margin rate, primarily at La Senza and Victoria's Secret Direct. Strong assortments and the effective management of pricing and promotions resulted in healthy merchandise margin rates in our two biggest businesses, Victoria's Secret stores and Bath & Body Works.

The SG&A rate improved by 10 basis points to 25%. As we reported in our July sales release, SG&A expense included severance charges of about $0.02 per share. These charges, which were not part of our original guidance, resulted from home office head count reductions in the quarter related to our ongoing commitment to increase efficiency and simplify the business in non-customer facing functions.

Operating income dollars increased by 5% driven by growth in all three of our major business segments, and our operating income rate declined by 10 basis points to 14.1%. Earnings per share increased 3% to $0.63.

Turning to the balance sheet on page 8, retail inventories per square foot at cost ended the quarter down 9% versus last year, and we're very comfortable with our inventory position. They are clean and in good shape.

Turning to page 11 of the presentation, we feel very good about our assortments and the momentum in our business going into fall. Our forecast includes a negative impact of about $0.10 to $0.12 from the previously announced exit of certain apparel merchandise and make-up, and about $0.05 of incremental non-operating expense, primarily interest, for a total of $0.15 to $0.17 of pressure, about $0.06 in the third quarter.

For the third quarter, we expect earnings per share between $0.26 and $0.31 against last year's $0.31 result. Our third quarter earnings forecast reflects a low single-digit comp increase.

We expect the third quarter gross margin and SG&A rates to be about flat to last year. We expect to end the third quarter with inventory per square foot down in the mid to high single-digit range to last year.

For the full year, we are projecting positive, low single-digit comps. Total sales growth will be about 2 points higher than comps due to growth in square footage in our international business.

We expect our full-year gross margin rate and the SG&A rate to be about flat to last year. Non-operating expenses for the year are projected to be about $315 million, consisting principally of interest expense. Before any discrete items, our tax rate will be approximately 38%.

We are forecasting weighted average shares of about 298 million in the third quarter and 297 million for the full year. Assuming all of these inputs, we expect earnings per share for the full year 2014 to be between $3.03 and $3.18 per share.

We are projecting 2014 capital spending of $750 million. 2014 CapEx is $750 million. As you know, about 70% of our CapEx budget is for real estate and stores. The remainder relates to investments in technology, logistics, and facilities.

As detailed on page 12 of the presentation, Victoria's Secret square footage in North America will increase by just over 5% this year, driven by expansions of existing VS stores and the opening of 33 new Pink stores and 20 new VS stores. Total Company square footage will increase by about 3.5%.

Turning to liquidity, we expect 2014 operating cash flow of $1.35 billion to $1.45 billion, and free cash flow of about $600 million to $700 million. We remain committed to returning excess cash to shareholders through a combination of share repurchases and dividends.

Our free cash flow and cash position, along with the additional availability under our revolving credit facility results in very strong liquidity, which is more than sufficient to fund our working capital, capital expenditures, dividends, and any other foreseeable needs. Thanks, and now I'll turn the discussion over to Sharen.

Thank you, Stuart, and good morning, everyone. Our second quarter results are detailed on page 14 of your presentation materials.

The Victoria's Secret segment grew both sales and operating income on top of a record performance last year. Total sales increased 5%, and comp sales increased 3%, with operating income increasing $17.6 million, or 6%.

Merchandise margin dollars and rate for the segment increased in the second quarter with the strength in the store channel offsetting the impact of non-go-forward apparel merchandise in the direct channel. We also finished the quarter with inventories in great shape, down double-digit to last year.

Now, let me give you a recap of each channel, starting with the stores. In the stores channel, second quarter sales increased 6%, and comps were up 3%. Operating income increased 12%. Sales growth was driven across all businesses, and customers responded well to our assortment.

We were very focused on our core categories, and therefore drove growth in bras and panties, in both lingerie, Pink and Sport, as well as growth in Pink loungewear and fragrance. Merchandise margin rates increased during the quarter, reflecting the strength of our assortment.

We continue to focus on the fundamentals of expense management and well-controlled inventory. As a result, SG&A leverage and inventory is down double digits year-over-year. Operating income dollars and rate increased during the quarter, as higher merchandise margin and leverage in SG&A more than offset growth in buying and occupancy from our investments in real estate.

Now, turning to the direct channel, second quarter sales were flat to last year. Go-forward core category sales increased in the mid single-digit range, driven by the same merchandise categories that drove the strength in the store channel, offset by the exit of non-go-forward apparel merchandise.

The merchandise margin rate and dollars were down to last year, primarily due to the impact of exiting non-go-forward apparel. Operating income dollars and rate decline due to primarily to the decline in the merchandise margin.

As we transition to the third quarter, we will continue to focus on newness and are excited about our upcoming bra launches. We have momentum in our core shared categories of bras, panties, fragrance, and Pink loungewear, and entering the season with lean inventory, positioning us to be agile and respond with speed. We are also continuing to be pleased with results of our real estate and other investments that are improving the customer experience, both in stores and on our website.

In summary, while the results in spring were good, we recognize we can get better, and therefore, we are now focused on what's in front of us and delivering the back half of the year. Thanks. Now, I'll turn the discussion over to Nick.

Thanks, Sharen, and good morning, everyone. At Bath & Body Works, we were able to grow sales and earnings versus our record performance last year. We were pleased with results, and we remain committed and focused on the fundamentals we do well. We recognize that we must keep getting better in order to win.

Comps increased 3% on top of 3% last year. The overall assortments of shop activity was able to drive sales growth in a highly promotional retail environment. Traffic levels were down slightly during the period, but we were able to increase conversion rates above record levels last year, while also growing average transaction size.

We continue to be pleased with the customer acceptance of [products'] newness across our three key businesses, our signature collection product line, our soap and sanitizer business, and our home fragrance assortment. Performance was below our expectations in June, driven by semiannual sales performance. However, we leveraged our read-and-react capabilities and rebounded with our July floor set delivering strong growth.

Total sales for the quarter were $705 million, up 6%, or $37 million to last year. Operating income was $115 million, up 8% from last year.

Operating margin was 16% in the quarter and was up 40 basis points to last year driven by expense leverage. We finished the quarter with inventory levels about flat to last year and in line with our expectations.

We were pleased with the performance of our BBW direct channel during the quarter. Total sales were up 17%, and operating income grew significantly versus last year.

Looking ahead to the third quarter, we continue to flow newness across the three key businesses and will maintain our robust testing agenda. We began July in our first summer theme, and in August transitioned into our Artisanal market theme, featuring new and seasonal fragrances. We're excited about our assortment, but also recognize we are competing in a challenging retail environment.

We remain focused on improving performance by leveraging our read-and-react capabilities and by providing customers with world class in-store experience. Our inventories are well-positioned heading into fall and flexible enough to read and react to customers' preferences. Expenses are well managed, but we will continue to make appropriate investments to drive growth in the business.

With that, I'll turn the discussion over to Martin Waters.

Thanks, Nick, and good morning, everyone. Turning to our international segments, we continue to be very pleased with our results and progress. Sales increased by 71% to $79.3 million, and operating income more than doubled $16.9 million.

The operating income rate increased to 21.3%. You will recall that results in this segment include both our wholly-owned UK business and our franchise models in other geographies.

Sales and operating income growth was achieved across all of our formats. At Victoria's Secret International, we continue to be pleased with performance of our full assortment stores. In the UK, our London flagship store on Bond Street continues its exceptional performance, and we've begun construction to expand the stores.

Our six mall locations are also doing well, and we'll be opening another three stores this calendar year in the UK, with one store having slipped from our prior forecast to spring 2015. Elsewhere in the world, we opened another two stores in the quarter under our partnership with Alshaya, bringing the total to eight. These stores continue to do very well, and we'll be opening another five to seven this year across the Middle East and Turkey.

Our Victoria's Secret Beauty and Accessories business continues to progress well, and we ended the quarter with 230 stores open. We're on schedule for around 300 stores by the end of the year. We're on track to open nine VFBA stores in China at the end of this year. As a reminder, all of our VFBA stores are franchises.

In Bath & Body Works International, we opened seven stores in the quarter and are now up to 66 stores outside of North America, again, all franchise. We continue to be very pleased with the performance of this business, and we'll open another 10 to 20 stores this year.

That's an update on international. With that, I'll say thank you and turn it back over to Amie.

Thanks, Martin. That concludes our prepared comments, and at this time, we'd be happy to take your questions. Please, as a reminder, please limit yourself to one question so that we can get to as many of you as possible. Thanks, and I'll turn it back over to Stephanie.

(Operator Instructions)

Our first question comes from the line of Neely Tamminga with Piper Jaffray. Your line is open.

Great. Good morning. Stuart, could you give us a sense, a little bit more color on the technology CapEx spend? What specifically you're spending on? If each of the brand leaders could talk maybe specifically around their mobile initiatives that are on the docket, that would be really helpful for us. Thank you.

Thanks, Neely. We'll start with Stuart.

Neely, the technology CapEx, is a relatively in the context of the total CapEx as we talked about before, and about 70% of our CapEx is going into our real estate and our stores. Now with that said, and Sharen and Nick can comment on it more specifically, we're investing in some technology initiatives to support our international business, and we're investing in technology to support our direct businesses as well, and maybe Sharen and Nick want to add to that.

Sharen, do you want to start?

Love to. Our mobile is such a big initiative for us, and we are seeing our mobile continue to grow at a very, very rapid rate. Obviously, I think it's a big part, a big part of our future. We're encouraged to see what percent of our business is going through mobile today. We have robust agendas in terms of how to simplify it, the mobile experience, and really be able to have all the full-fledged experience that you get on mobile, or that you get today on your desktop or iPad, on mobile as well. Very encouraged. Very excited about where we're going.

Thanks, Sharen. Nick?

Hi, Neely. We will continue to invest in mobile. Obviously, it's an important part of us, mostly because it helps us understand open rates and especially in different venues as the customer is not always obviously, the customer is not always at home, and how we leverage that with social media. Yes, it's important, and we'll continue to invest in it.

Great. Thanks, guys. Thanks, Neely. Next question, please?

Our next question comes from the line of Omar Saad with ISI Group. Your line is open.

Thanks. Good morning. I wanted to ask about La Senza. It seems like the store closures are accelerating there a little bit. I'd love to have you paint the mosaic, and how the strategy has been shifting there. What's changed, and what your thought process is on the brand going forward, especially with some of the international franchise closures? Is there room opening up for maybe more of Victoria's Secret model full assortment stores? Thanks.

Thanks, Omar. We'll go to Martin.

Yes, thanks, Omar. Not much has changed in La Senza, to be honest. Our Canadian fleet is the biggest part of the business, and that's pretty steady at about 150, 155 stores. We don't anticipate much change in that portfolio going forward. Internationally, the fleet is also pretty steady, with one exception which you're probably picking up in the numbers, which is the UK business. You might recall that we acquired the brand rights to La Senza in the UK and Western Europe about two years ago. Alshaya stepped in to try and rescue that business that was in a distressed state, and we came to the conclusion earlier this year that it would be better to retire that business.

What you're seeing in the store closures is the impact of that single activity in the UK, which while disappointing for the people involved, we think is the right thing for the business. Pretty much steady as you go in La Senza. We continue to be optimistic about the brand. We enter the fall season with our inventories clean and in good shape, and we think there's significant global potential for this brand going forward.

Is there any correlation in the UK with the rise of Victoria's Secret, the number of stores there now and the change in strategy around La Senza in the UK?

No, not connected at all. What we see in malls around the world, and we have several geographies where we have La Senza and Victoria's in the same mall, is that both brands compete well. The customer enjoys both of the brands at the same time, and we don't see a material impact in La Senza from Victoria.

Thanks, Martin.

Thanks, Omar. Next question, please?

Our next question comes from the line of Paul Lejuez with Wells Fargo. Your line is open.

Thanks, guys. Could you maybe give us some color around what increases you're seeing on the VSBA side, as well as with your franchise partners? I'm just wondering, you don't give a specific international comp, but if you could give some direction in terms of how much of that business is being driven by new store openings versus what the comp would be if you had to give one? Thanks.

Sure. We don't report other people's businesses, so remember, this is a franchise model. It's not our retail sales to report on. I would tell you we track it very closely. I regularly look at the data cut by vintage of opening, size of opening, geography, every which way you can cut it. I would tell you that all the indications are positive. That business grows from its core. It's growing both in terms of new stores and growth in existing portfolio as well, so pretty exciting business. We'll get to 300 stores by the end of this year, and we'll keep growing it into next year.

Thank you. Good luck.

Thanks a lot, Paul. Next question, please?

Our next question comes from the line of Marni Shapiro with The Retail Tracker. Your line is open.

Hi, guys. Thanks. Great quarter, and in case I forget, best of luck for the back half of the year. If you could talk a little bit of Victoria's Secret Direct, as you've unwound some of the non-profitable apparel, have you seen the balance of the business pick up, or has there been any kind of impact to the rest of the assortment there? Have you seen some of that business, swim for instance, you have it in a bigger assortment in stores. Have you seen some of the shift into the stores?

Hi, Marni. It's Sharen. Basically our goal is, and we are seeing the fruits of our labor, is that as we focus on more of the shared product, whether it's your core bra business, your PINK bra business, your sport bra business, we're seeing very high growth in those categories. The future of what we believe will happen in direct is that we will offset that volume because we are more focused within these shared categories.

We have not seen a deterioration of swim by expanding it into the store. In fact, it's really been a 1 plus 1 equals 2, or 2.5, being able to use the direct channel as advertising. We don't have a lot of real estate in our stores, so that cannot carry the full assortment, being able to service the customer through our direct channel. I think our strategy is -- I don't think, I know our strategy is going to pay off for us in terms of exiting these non-core apparel categories and really focusing on the shared categories, which I think will benefit the customer, as well as the simplicity as we go forward with our strategies.

Okay.

Thanks, Marni. Thanks, Sharen. Next question?

Our next question comes from the line of Dana Telsey with Telsey Advisory Group. Your line is open.

Good morning, everyone, and congratulations on the results. Given the slight shift in the gross margin guidance to flat this year from slightly down before, what are the key drivers behind that, and relating to each of the divisions? Lastly, as you think about the marketing plans for holiday, how will they be different in type or cost this year versus last year? Thank you.

Great. Thanks, Dana. For the gross margin question and the guidance, we'll go to Stuart first. Then we'll go to Sharen and Nick for holiday.

Good morning, Dana. On the change in gross margin guidance for the year, it's reflecting the actual results in Q2, which was a little better than we expected. That's the shift in full-year view, again, reflecting the beat if you will in Q2. Thanks.

Thanks. Sharen?

Thank you, Dana. Basically as we think about our margins, it's particularly been strong because of our fashion hits, as we've been so much more agile with the inventories being so controlled that we're being able to test and chase even more effectively than we have in the past. As you know, speed is something that we've continued to focused on, and it's really paying off for us as we've honed in on that muscle.

As I think about holiday this year, there's nothing indicating to me that it's going to be any different than any of the years that we've had in the past. I think that what Victoria's Secret and PINK have done is really focused on what are all the different scenarios that could happen so that we can be prepared for anything. I think most important is that if we have to turn on the promotional game, we're really being much more focused and to make big bigger versus peanut butter spreading, in terms of some of the promotional activity that we did last year. I think this year we have been very thoughtful about it, and that we're prepared hopefully to win this holiday.

Great, Sharen. Nick?

Hi, Dana. I would echo Sharen. We'd anticipate it obviously being a promotional marketplace as we go into holiday. I'm not sure why it would be different. We've got terrific learnings last career in terms of some of the things that we put in place that we tested, knowing how difficult it was last year, what might we want to do. We've also run an awful lot of tests earlier this year on some very big ideas that would differentiate us and feel very different to the customer that she hasn't experienced before, so we'll focus on those and really we have them planned. We have backups behind them. Then I think it's a case of really us leveraging our read-and-react capabilities and our speed model to make sure we can adjust our plans into those tough periods.

Great. Thanks, guys. Thanks, Dana. Next question?

Our next question comes from the line of Janet Kloppenburg with JJK Research. Your line is open.

Good morning, everyone, and congratulations on a great quarter. Sharen, I was wondering if you could talk about two categories, both beauty and sport. Beauty, it feels like that business is firming up, and I would love to hear you discuss some of the drivers of that. Also on sport, if you could talk about the penetration across the store base, and what we should look forward to as holiday approaches in terms of wider distribution. For Nick, I was wondering if you could talk about ideas for the semiannual sale in January, and how you might create some newness around that. Thank you.

Great, Janet. Sharen, do you want to start?

Sure. Let me see if I can get all those questions. Okay. First thing for beauty, we've been very encouraged by all of our new fragrance launches. As you know, what I'm really excited about this fall season is we've always had a strategy to really tie our fragrance launches into our bra launches because the power of those two together are very strong. Our next two launches that are going to be coming up, whether it's Fearless and Scandalous, all are tied together. Same names of bras, same names of fragrance, which really puts power on power.

The third piece, the third-legged stool for us in beauty that we are really seeing emerging is the accessory business. We were always underpenetrated compared to our sisters in the VSBA space, and so that is a category that we're also going after as we going into the holiday timeframe. Putting fragrances with the power of the bra launches as well as growing the accessory category I think will position us well for beauty as we go into holiday.

The sport, I'm very excited about sport. I don't know if you all have been able to have a chance to see the new sports book that just came out. Sport is in all stores. The full assortment will go from 118 to I believe about 180 stores this year, so we are very excited. As you know, this week we're launching our incredible zip front bra. It was our number one bra in back closure. We actually put it into front closure. We have come off of another strong introduction of the knock-out bra, which is the zip and click, which is patented.

Then all of the technology that we have going into our sport bras are very, very important. We are performance-based. Everything we do is performance-based, and in all the innovation as we go forward as well, really looking at owning that from a patent perspective, excited about the growth opportunity that we have in sport, both in the store and the direct channel.

Great, Sharen. Nick, the semiannual sale question?

Thanks, Janet. Yes, it's really interesting. We had a tough sale. If I look at the background behind that, as we've flowed more newness and more fashion on a more regular basis, I think the customer has just begun to expect that and is now expecting that in sale as well. As we have that in sale, we didn't have it deep enough. Obviously, we'll fix that as we go forward.

What happened as we transitioned into July was, as we flowed significant newness, we saw our business really jump back. Our opportunity is a big opportunity as we go into next year, and then obviously as we begin to fix this as we look at the holiday sale as well. There's just a real case of meeting her expectations during a sale period. We're not really a markdown brand. We don't have a lot of markdowns on the floor. I think she wants newness as we go into the sale period.

Thank you.

Great. Thanks. Next question, please?

Our next question comes from the line of Simeon Siegel with Nomura. Your line is open.

Thanks. Good morning, guys. Martin, you have the UK and the Australia full assortment stores. Can you talk to any opportunity to bring the full assortment to other regions that are benefiting from VSBA now? Thanks.

Yes, we see a ton of opportunity in the regions that we're already in to be honest. With the Alshaya business across the whole of the Middle East and Turkey, we see potential over the next few years to get to 40 or 50 stores. Rather than look at the geographies, I'd rather build out where we are right now. The same would be true in the UK, where we own the stores.

With that said, we get some incredibly positive responses from the VSBA business around the world that indicate that there will be great business for us in the full assortment. The two areas that I'm thinking about in the years ahead, one would be China obviously, as we open the VSBA business later this year, I think that bodes well for full assortment in 2015 or 2016. Similarly in Western Europe, this year we'll open our first off-airport VSBA stores in Western Europe, and that could well be a lead indicator for the full assortment business of the future.

Great. Thanks.

Great. Thanks, Simeon. Next question?

Your next question comes from the line of Kimberly Greenberger with Morgan Stanley. Your line is open.

Great. Thank you. This is Lauren Cassel on for Kimberly. Sharen, I think some of the reasoning behind the exit of the direct apparel and makeup businesses was making a more seamless customer experience online and in store, which would ultimately allow you guys to roll out e-commerce internationally. If you have any updated thoughts there or timing on that, that would be really helpful. Thanks.

We have really been working, and you're absolutely right, to try to streamline those assortments to make it easier for us to roll out. We are doing some updates right now to our website in terms of taking all the international currencies. As we think about when our priority would be and looking forward, sometime in 2015.

Thanks, Sharen. Next question, please?

Our next question comes from the line of Jeff Stein with Northcoast Research. Your line is open.

Thank you. Question for Stuart. Stuart, I'm wondering if you could just maybe parse out a little bit where the revenue growth is coming from in your international business. I know it's still small and growing rapidly, but it's very challenging to model. I'm wondering if you could possibly break out, how much, roughly what percent is coming from Company-owned stores, what percent royalties, and what percent wholesale? Thanks.

As you can appreciate, Jeff, it is a mixed model. One thing I'd want to register is that when we have our annual update meeting later this year, we'll provide, some additional visibility into the key growth drivers over the next several years in international. The revenue growth is really coming from all of the portions or models of the business that you described. We don't get into the specific guidance, if you will, in those different channels.

If you think about the Company-owned business in the UK, and then the royalties that are coming off of the VSBA business and the full assortment business, again, each of those models are significant and are driving revenue growth. We really haven't gotten into the detail of the composition of each of those three. As we look to provide an update in October we'll try to give more visibility to that on a multi-year basis.

Stuart, can you tell us what, if any, effect royalty income is having on the tax rate, and as we go forward looking to next year, some of these countries I suspect are low tax paying. Will the tax rate begin to come down for Limited?

It's not significant at this point, Jeff, but over time as you point out, as our business becomes more international over time, there certainly are opportunities for the tax rate to come down. I wouldn't describe it as a significant effect certainly in 2014 or likely in 2015.

Thanks.

Sure.

Thanks, Jeff. Next question, please?

Your next question comes from the line of Brian Tunick with JPMorgan. Your line is open.

Thanks. Good morning. Two questions on Victoria's Secret. One is the square footage growth in North America, just some comments about what you're seeing in the bigger stores versus your expectations? Any learning from the expanded assortments you can roll out to the rest of the chain? Then on PINK, I know it struggled last year in the second half. Can you maybe talk about what the opportunities are relative to intimates, apparel, or licensed and how you're planning it versus your inventory comments I think that Stuart made? Thanks very much.

Thank you. We are very excited and very pleased with our larger square foot format stores. As we have just a couple of things where we have needed real estate, and we have actually pushed PINK into a free-standing space and expanded the Victoria's Secret, one plus one is equaling three. They're highly productive, and we would continue to see this as a great investment for Victoria's Secret. As you know, we still have a large number of stores that still do not have the full assortment, whether it's PINK or it's Victoria's Secret.

The highlights of what's happening in those full real estate stores is that when you have the opportunity to have a dominant bra presentation and add your adjacent categories of sport and swim with PINK as a side by side, it's very, very powerful for every single category of growth. Good strategy, excited about the opportunity, and performing well, and performing well for us. PINK did have some missteps last year in their assortments and were a little too promotional. This year, in the all-important back-to-school timeframe, we did a lot of work in terms of course correcting the fashion and getting out of the NFL and pro sport business and really focusing on the collegiate business, and we've actually added about 100 new schools in that collegiate business which we think will more than offset the pro sport business.

Back-to-school has turned out to be very, very good for us in PINK. We think that we're well positioned as we go forward. We're hoping not to be as promotional as we were last year. I think that every indicator that we have going forward and from our back-to-school tells us that we can actually do more volume, at less promotional as we go into the fall season. Very excited about the PINK business right now.

Thanks, Sharen. Next question, please?

Your next question comes from the line of Barbara Wyckoff with CLSA. Your line is open.

Hi, everybody. Good job. My question's for Sharen. Can you just specify what categories that you are keeping in apparel, and what has been exactly eliminated? I know dresses, boots, things like that.

Hi, Barbara. Yes, what I would call street wear. If it's the denim business, the woven pant business really is going away. The two businesses that we're keeping are the lounge business, which are consistent to what we were doing with Supermodel Essentials. Then when we think about the all-important swim business, which is the beach life-style, those categories that tie back into beach life-style to support the swim business, we will also remain in.

Okay, great. Thank you.

Thanks, guys. Next question?

Your next question comes from the line of Roxanne Meyer with UBS. Your line is open.

Good morning. Thanks for taking my question. The ability to chase is a competitive advantage for you, and you've talked about your increased agility at your businesses. I'm just wondering if you can give us an update on that ability to chase at both Victoria's and BBW, maybe pointing out the key categories that are chased and your average lead times at this point, and what categories potentially you still have the opportunity to chase? Thanks.

Sure, Roxanne. We'll start with Sharen.

When we think about our ability in chase, it does vary by category. We have such strong partnerships with our supply base, and they are truly partners. We worked very hard, whether it's your raw materials partners or your manufacturing partners, to really set up something which I think is a very unique proposition. We probably have cut all of our manufacturing and lead times in half and continue to see opportunity.

Panties is obviously our fastest category of growth. We've been able to get bras anywhere, if it's a basic bra or fashion bra, down anywhere from three to seven weeks. There's always more and more opportunity as we look at supply base because we really try to think about it -- as Charlie McGuigan likes to say, [act as if] they were manufacturing right next door to us. It takes a lot of coordination between all of our merchants, planners, and our supply base to be able to do this, and we really believe it is a competitive advantage for us.

Hi, Roxanne. We're really well structured and really fully leveraging the speed and the rapid replenishment that we've put in place. I think if you look at our business over the course of the last six months, we're seeing our comps steadily improve all the way through into July. I think a lot of that as a result of our ability and our commitment to leading the business and reacting to it and leveraging speed.

I think where it goes to next is really about coming back to the fundamental of making that decision about what and which concepts really do we want to put the emphasis behind so that we've got that read-and-react capability. It really becomes more of a merchant skill set now in terms of, got a high belief in this, we've tested it, we like it, and we're starting to use that to decide where we want to put the emphasis in. We'll just continue to really leverage it and make it really a part of our working model.

Great. Thanks, guys. Thanks, Roxanne. Next question, please?

Your next question comes from the line of Ike Boruchow with Sterne Agee. Your line is open.

Hi, everyone. Thanks for taking my question, and congratulations on a nice quarter. I guess the question is for Martin. On the VSBA side, you've been opening about 100 a year the last couple years. I'm just curious about your appetite, given what you're seeing to start to accelerate that, maybe 150, 200. Also, any optionality or any thought process on potentially down the road taking some of those VSBA franchises in-house? What's the thinking there? Thanks so much.

Yes, thanks. I think 100 stores is a pretty good clip, 2 a week. That's what we did last year. That's what we'll do this year. I would like to think that we could get that a little faster, so I'm challenging the business to up the pace for 2015. That said, the most important thing is the quality of the real estate. I'd rather go slower and get the right real estate than faster and be in secondary locations. There's a constant healthy tension with our partners who see that this business is very productive. They want to go quicker, too, but I'm only prepared to do it in the right places. It's that constant pull/push. I think if we can keep 100 to 125 stores a year going for the next few years, that will give us pretty good rates of growth.

As far as the option to bring those stores in-house, I don't want to go there. Our model is a capitalized model. It's a very high-control model. We think if we control the IP, we control everything that the customer sees, how the assortment is built, how the stores are created, how our associates sell, and we did leave three things to our partners. They bring capital. They bring real estate, and they bring responsibility for local operations and leading of people. We think that's a good trade-off and a good share, and for as long as that model works, I don't see the need to change it and bring it in-house. I wouldn't expect to see anything from us in that regard going forward.

Thanks.

Thanks, Martin. Thanks, Ike. Next question, please.

Your next question comes from the line of Jennifer Black with Jennifer Black & Associates. Your line is open.

Thank you. Thanks for taking my question, and congratulations. I think my question is for you, Nick. I wondered if you could talk about holiday. When you look at the collection, how much are you bringing back as far as your traditional sense in merchandise? How much will we see in newness versus last year compared to other years? If you could just talk a little about that, that would be great.

Hi, Jennifer. Yes, sure. I would say we got a comparable level of newness that we had last year. I think the difference that we're looking at is really distorting into things that we've either got an early read on, things that we did well last year, and that we really want to get behind from a distorted perspective. In terms of what will we repeat, the two big things that were important to us last year we'll repeat again were fall traditions and holiday traditions. Especially in holiday traditions, we saw a very big growth in that category as we reinvented it last year.

We've done the same again this year and really tried to emphasize in that particular area the notion of the importance of Christmas, the importance of holiday, and making it as festive as possible and really using that as a critical driver as we go into it. I'd say in summary, about the same level of newness, but really distorted towards where we think the big hits are, and then two big ideas that will come back again from a traditions perspective.

Okay. Thank you.

Great. Thank you. Thanks, Jennifer. Next question, please.

Your next question comes from the line of Anna Andreeva with Oppenheimer.

Great. Thanks. Congratulations on a strong quarter. A question to Sharen, maybe talk about some of the technology you're seeing in the bra category right now? I just looks like [your] guys are benefiting from a lot of newness at Victoria's Secret. A question for Stuart, maybe talk about the fourth quarter opportunity you guys have ahead? Your inventories are in very good shape, and guidance really assumes very modest gross margin expansion on top of a deterioration last year. Thanks so much.

Thanks. Sharen, do you want to start?

We have a philosophy for us that innovation and new technologies are really endless. What we always try to start with, is we start with the customer. What can we solve for the customer to have a better-fitting or more comfortable fashion bra? As we think about some of the new technologies that we have, whether it's in the sport bras, or as we have done our T-shirt bra or the Incredible bras, we continue to look at that first and foremost from the customer perspective.

As we go forward for the holiday timeframe, I will tell you we'll be relaunching, a little insight, one of our biggest categories of bra which is Dream Angels. Dream Angels will have a brand-new facelift as we go into holiday, and that's going to be very, very important for us. It's something that we continue to focus on. We want to be the best in the world at bras, but it's not just technology for technology's sake. It's for basically solving issues or enhancing opportunities for our customer.

Thanks, Sharen. Stuart?

Anna, with respect to the fourth quarter, for the reasons you mentioned, we're optimistic about having a good fourth quarter. We've got momentum in the business. Inventories are in good shape, a lot of positive things going on, which Nick and Sharen are describing. I would remind you that the impact of the apparel exit at VSD is significant in the fourth quarter. That will be a drag going the other way. We're optimistic that we're set up to have a good holiday, and we're going to work hard to get to the best result.

Great.

Thank you.

Thanks, Anna. Next question?

Your next question comes from the line of Betty Chen with Mizuho Securities. Your line is open.

Hello, everyone. Congrats on a great quarter. I was wondering if, Sharen and Nick, you can talk a little bit about AUR or transaction or conversion opportunities for your respective businesses, whether for the holiday season, or looking longer term into 2015? Thank you.

Great. Sharen?

Betty, thank you. We are always looking at opportunities in terms of driving conversion. One of the things that as we continue to think about our selling organization is how do we make sure that we're giving them the appropriate training? How do we make sure that they have the opportunity to experience the product? We've put a lot of initiatives in place to help with training, and with them being able to experience the product. I think they're going to hopefully pay off for us. We've continued to see conversions go up, and I think that's a great opportunity for us as we go into the holiday season.

Thanks, Sharen. Nick?

Hi, Betty. I think a lot of this will really come down to what will traffic be like and how hard will we have to fight to make sure we get our fair share of it, and obviously that fighting will take, in some cases, a promotional side. I could see the season is starting well, and AUR is pretty healthy. Is there upside potentially? Then that would be offset with any promotional activity, which could also come back in terms of how we manage speed, and are we able to get back into the collections that she's liked?

We took some ticket increases last year. I don't anticipate us doing that again in holiday now. I think we've got ourselves to a healthy place. Then I think it's really just a case of reading, reacting, and really understanding the customer's preference, seeing if we can make sure we get the assortments in that area.

Great. Thanks, guys. Thanks, Betty. Next question, please?

Our next question comes from the line of Thomas Filandro with Susquehanna Financial Advisors. Your line is open.

Hi, thank you, and congrats as well on a great quarter, guys. Sharen, quick question for you, any initial reads on the commission date sales, associate market tests that you're running? Stuart, can you just expand on this severance charge that was taken in the quarter? What does that actually relate to? Might there be an impact from the severance charge on operating expenses go-forward, either in the second half or in 2015? Thank you.

Let's start. Go ahead, Sharen.

I'm sorry. Thomas, this is something we're always [there, you know] experimenting with. It's just really too early for me to comment.

Thanks, Sharen. Stuart?

Tom, on the severance charge, as we've talked about pretty consistently, and I mentioned in the prepared remarks, we are on an ongoing basis looking to minimize the home office overhead, particularly in areas that are non-customer facing. We did take some actions in the quarter to adjust our cost structure again in home office, non-customer facing functions. In terms of the benefit of that, it is included in the guidance ranges for the back half of the year. We'll get a little bit more benefit next year, but it's really part of an ongoing effort, Tom, to make sure that we're putting our money into those areas that are most important to the customer. Thanks.

Thanks, Stuart. Okay. We probably have time for a couple more. Next question?

Your next question comes from the line of Lorraine Hutchinson with Bank of America. Your line is open.

Thank you. I wanted to follow up on Janet's question around athletic. With the success of the sports bra launches, have you seen that drive your athletic apparel business? Are there further opportunities in the back half to drive that further?

The sport bra business, yes, there is some opportunity for us in the back half in terms of what I would call the [bottom] aspect of it, or the, completing the outfit. There will be some opportunity for us in the back half of the year.

Great. Thanks, Sharen. Thanks, Lorraine. One more question.

Your next question comes from the line of Oliver Chen with Citigroup. Your line is open.

Thanks, guys. Congrats on an awesome performance. Sharen, at VS, we've been noticing some really compelling price increases on a year-over-year basis, which have been pretty awesome to achieve. Could you just articulate the opportunity there, and what you might expect for holiday?

Nick, just a quick one on gifting, what should we know about gifting this year versus last year in your pursuit of how you'll think about timing, and what might be important to customers? Thank you.

We haven't taken a lot of price increases. What you might be referring to -- and correct me if I'm wrong, is that what we have done is we've added two layers of fashion. Which we had that layered in the designer collection which is at the top tier of the price point, and then we have another, I'll just say, aspirational layer as well. We continue to carry our good, better, best. We're actually layering on in terms of the reach price points to the designer and aspirational piece of the business.

Thank you.

Hi. Good question. First of all, I'd say one of the ways we're looking at gifting as we go into holiday is that the brand is inherently a very giftable brand. How do we take the most important pieces that we have, whether that's the three-wick candle or whether that's certain fragrances, and find ways to merchandise, market and sell those as for their ultimate purpose, which is in many cases as a giftable item? We put a bigger emphasis against that side of it.

Then secondly, as we think about merchandising the store and trying to make it fundamentally as giftable and Christmas-like and holiday-like as possible, we'll continue to take gifting ideas, spatter them through the store so that it creates that ambiance. Then we've got an awful lot of learnings, both in terms of timing that we don't have to be too early, as well as things we've done in the first half of this year that she's reacted well to. I'm optimistic in terms of how do we leverage the core equity of the brand, which is very, very giftable in any case? How do we merchandise the rest of gifting that makes it compelling for us her as she comes in at holiday?

Great. Thanks, Nick. Thanks, everyone, for your participation and your interest in L Brands.

This concludes today's conference call. You may now disconnect.